"What kind of capitalism do we want? That may be the defining question of our era. If we want to sustain our economic system for future generations, we must answer it correctly.”
-Klaus Schwab, Founder and Executive Chairman, World Economic Forum
We are entering the era of stakeholder capitalism. What do we mean by that? Lutfey Siddiqi, Managing Director at the CFA Institute and a visiting professor in practice at the London School of Economics describes the shift in corporate leadership “from an allegiance to a single stakeholder—shareholders—to a multi-stakeholder approach,” which requires corporations “to be mindful of their impact, positive and negative, on the environment, on employees, on the societies that they operate in."
“All of those things need to be considered,” Siddiqi says. “That is the ethos of stakeholder capitalism.”
The concept of corporations taking their responsibilities beyond financial measures such as quarterly returns and profitable growth may be a bit of a pendulum swing. According to The New York Times “Deal Book” columnist Andrew Ross Sorkin, through the mid-20th century “corporations, for the most part, were run for all stakeholders. It was a time defined by organized labor, corporate pension programs, gold-watch retirements and charitable gifts from companies that invested heavily in their communities and the kind of research that promised future growth.” (Andrew Ross Sorkin, “How Shareholder Democracy Failed the People,” The New York Times. August 21, 2019)
That period was followed by the rising influence of economist Milton Friedman in the 1970s, and the transition to decades of shareholder primacy, where the purpose of a corporation was to maximize shareholder value. Sorkin wrote, “Layoffs increased, research and development budgets were cut, and pension programs were traded for 401(k s. There was a rush of mergers driven by ‘cost savings’ that grabbed headlines while profits soared and dividends increased.” (Sorkin, Aug. 2019)
Then in August 2019 the Business Roundtable (BRT), representing the CEOs of major U.S. companies, published a statement that redefined the purpose of a corporation to include a broader swath of stakeholders including employees, communities, and the environment. The reactions were swift. The Wall Street Journal’s Editorial Board called it ostentatious and referred to the effort as high-toned rhetoric and platitudes to placate liberal-leaning politicians. “Politics aside, the moral and practical superiority of the stakeholder model is hardly clear. CEOs are themselves employees hired by directors who are supposed to be stewards of the capital that shareholders have invested.” (“The Stakeholder CEOs: Executives who abandon shareholders won’t appease the socialists.” Wall Street Journal Editorial Board, Aug. 19, 2019)
The Financial Times Editorial Board had a different reaction, calling the BRT’s approach welcome, and meeting it with cautious optimism. “Over-reliance on share price performance, long an integral part of management incentives, and often with a time horizon of just a year or two, must change.” (“Business must act on a new corporate purpose.” The Editorial Board, Financial Times August 19, 2019)
Two months later, the World Economic Forum (WEF) announced that “Stakeholders for a Cohesive and Sustainable World” would be its theme for the 2020 annual meeting.
“Until then it was a slow march in the right direction, but there was still some debate at the level of rhetoric,” Siddiqi says. “The old Friedmanite view was that the business of business should be business. There’s simplicity and elegance in that statement, and that was the dominant view. By the time the World Economic Forum convened in January of 2020 it felt as though the battle of rhetoric was almost won by those who accepted that, yes, we do need to consider externalities: emissions and impact on the environment on the negative side of the ledger, but also recognize that corporations can have positive impact, for example, in helping to achieve the sustainable development goals that the United Nations laid out five years ago."
THE STATE OF STAKEHOLDER CAPITALISM TODAY
Bill McNabb, retired chairman and CEO of Vanguard Group, describes the Vanguard stakeholders as the three Cs. “I use the framework that Vanguard serves three constituencies: our clients, our crew (that’s our employees), and our communities. Without vibrant communities you don’t have vibrant employees and without vibrant employees, you don’t serve your customers or clients. So those three Cs to me are inextricably linked and are not an either/or. And I’d humbly submit to you that if you looked at our track record over the last 10 years in terms of delivering value to the end investor, we did okay.” (“ESG: Feel Good or Good For Business?” Executive Talent, May 2020)
Long-term investors like Vanguard are focused on sustainability, meaning the sustained, long-term health and productivity of a company. Louise Chaplin is Head of Board Practice at Eton Bridge Partners. “The language that we’re hearing is around purpose. Within that purpose are the challenges around ESG, sustainability, employee voice, and making an impact in society.” She adds, “What is the purpose of the business and what is the impact it has on the wider society? Is this purpose sustainable going forward?”
She adds, “ESG (Environmental, Social, Governance) is an integral part of any discussion with Board Chairs and CEOs,” she says. “The “Social” of ESG then naturally feeds into Diversity, Inclusion and now increasingly Belonging. Stakeholder capitalism is in the discussion phase certainly in the UK and Europe at the moment, ESG is very much present in every boardroom discussion.
"Diversity and inclusion is not just the right thing to do from a social justice point of view, but actually it’s the prudent thing to do for businesses from the perspectives of both opportunity scanning and risk mitigation.”
Moving the stakeholder agenda forward requires both a bottom up and top down approach. Siddiqi explains, “There are lots of unsung heroes inside of large organizations, employees who are basically intrapreneurs when it comes to pushing through this agenda. Many of the employees in banks and investment firms have basically said they would prefer to work in organizations that have a more holistic and comprehensive view of their organization’s purpose. So this maps to that sense of organizational purpose and employee engagement. And then of course, once you allow these employees to put forward their ideas, you basically crowdsource and you get a very rich source of ideas on how stakeholder capitalism could be implemented in their respective firms, respective divisions and regions.”
From a top-down perspective, Siddiqi says, “Both independent directors and executive board members clearly have a duty to make sure that if they have announced to the world that they are furthering stakeholder capitalism (and this is a big If), that they have mechanisms and processes in place to make sure that it’s happening, and to report back to the wider stakeholders that it is actually happening. In many cases, the intentions are there, but there is a skills gap. Board members might need training on ESG issues for example, to be able to provide oversight.”
Morten Nielsen, Global Managing Partner, Life Sciences at WittKieffer and Board Chair, AESC highlights the challenge of such measuring and reporting. “Most Boards and CEOs are looking for best in class examples of the establishment of metrics, and it’s pretty much an industry-agnostic exercise. It’s different from shareholder capitalism, where one financial institution will look to another financial institution’s metric, or one pharmaceutical company will look to another pharmaceutical company’s metric in terms of number of new products launched, et cetera. This is very different because it affects your entire stakeholder base, not just your shareholders. So that means a pharmaceutical company can look to Walmart or an energy company to try to understand the best and most meaningful metrics they have established.”
He says, “In shareholder capitalism we are so used to well-established, easy to understand try it, test it metrics that are related to financial performance. Going from that to a set of metrics that measures your stakeholder capitalism is a really daunting task. My concern, and I think many of those with whom I work share that concern, is that if you don’t establish a reliable, measurable set of metrics, this can easily become an opportunity to spin the data to meet your objectives.”
And external audiences are paying attention. “The whole catalyst for thinking about multi-stakeholder models is quite often external,” Damian Johnson, Senior Principal at Fisher Leadership says. “It’s not always necessarily a naturally occurring, ‘Maybe we should adopt a multi-stakeholder model?’ For example, we’re seeing capital providers applying ESG frameworks in deciding where to invest, which compels those seeking to attract capital to have a wider stakeholder view.”
"You don’t have to abandon maximizing shareholder value just because you’re adopting a multi-stakeholder model, & perhaps the model is a more successful means to maximize stakeholder value.”
"We’ve seen it show up in supply chains. Buyers are requesting their suppliers establish their ESG credentials or the compliance work they do in their own supply chains around issues such as modern slavery and others of that nature. In some instances, in order to participate in tenders you actually need to establish those ESG or sustainability credentials which, again, entail multistakeholder views."
A multi-stakeholder view might inspire collaborative approaches to business. Siddiqi describes one such approach. “Apparently, Colgate came up with sustainable packaging for their toothpaste which they shared with Unilever because they want the industry to be more sustainable, not just their own company.”
The COVID-19 pandemic provided another example of the possibilities afforded by a multi-stakeholder view driving collaboration. “It became very clear to many leaders in the healthcare industry, in public offices and in academia that there was nobody in the world who could realistically put together programs and initiatives that would put an end to the COVID-19 pandemic. We had to work together, otherwise this was going to harm more people, cause more damage, and for a longer period of time than absolutely necessary.”
“We’ve seen a level of collaboration across industry sectors and between academia, the federal government and private enterprises that we have never seen before,” he says.
Stakeholder capitalism is not a choice between shareholders and everyone else. Johnson says, “Perhaps the better way to think about how to reconcile this issue of shareholder primacy and shareholder value is to think the path to maximizing shareholder value is through a multi-stakeholder model. You don’t have to abandon maximizing shareholder value just because you’re adopting a multi-stakeholder model, and perhaps the multi-stakeholder model is a more successful means to maximize shareholder value, rather than acting solely in the interests of that shareholder.”
This idea that businesses should have purpose beyond delivering profits to shareholders continues to take root and evolve.
STAKEHOLDER FOCUS, RISK AND RESILIENCY
The way many organizations think about risk continues to evolve, from mitigation to compliance to a strategic imperative.
And then came COVID-19. “CFOs, CEOs and Board Chairs are reviewing risk and how the business responds to risk in a very different way in 2021 than they were probably doing in the latter part of 2019,” Chaplin says.
“The pandemic has essentially been a threshold moment,” Siddiqi says. “I believe that it has been an accelerant in this march toward stakeholder capitalism, and that it may have removed some of the last vestiges of resistance. And now there is an even greater acceptance that building back in a post-COVID world has to be from a multi-stakeholder lens.”
For Nielsen, “A big learning out of COVID-19 is that we are as a society much more nimble than we thought we were. So if we really get pushed we can achieve a lot and we can adapt a lot, maybe more than we ever thought.”
Another learning from COVID is that efficiency may not always be good. “Certainly not hyper-efficiency,” Siddiqi says. “Even five years ago we were all pursuing as many cost-efficiency measures as possible, but what the pandemic has shown is that you need more resilience in the system. You have to have redundancies in the system. For example, you might need to have an extra warehouse in a different city in case you can’t access this warehouse in this city, because of a COVID lockdown, or some other reason. We don’t know what that risk factor could be, but we know that there is greater uncertainty and so we need greater resilience. Hyper efficiency needs to give away to optionality. And that is another part of the new world of risk.”
He adds, “It’s just been about a year now of the pandemic, but I think it’s pretty clear that those who had hyper optimized were left with a business model that had very few degrees of freedom."
"Five years ago, Walmart set a goal of reducing a billion metric tons of greenhouse gases that they release by 2030. And they’re actually on target to meet that two years early. So, there’s some very specific, measurable metrics that companies have put out there over the years.”
-Morten Nielsen, Global Managing Partner, Life Sciences at WittKieffer; Board Chair, AESC
How do organizations with a stakeholder focus manage that uncertainty? Siddiqi says, “Radical uncertainty puts a premium on diversity and inclusion. When the world is uncertain the prudent thing to do is to seek out as many diverse views as possible as you are scanning for opportunities on the revenue side, or as you’re looking out for risk on the risk side. Diversity and inclusion is not just the right thing to do from a social justice point of view, but actually it’s the prudent thing to do for businesses from the perspectives of both opportunity scanning and risk mitigation.”
Nielsen reinforces the connection between a stakeholder focus, risk and resilience. “I think improving the understanding of risk and improving our resilience towards risk is a key part of stakeholder capitalism. The more we embrace all of our stakeholders, the more resources we have available to us to understand risk early on, and to guard against the consequences of risk, be it reputational, be it from a supply chain standpoint or be it from an employee standpoint.”
THE ROLE OF THE INFLUENCER
In 1971 economist Klaus Schwab founded the World Economic Forum. According to the organization’s mission statement, “Our activities are shaped by a unique institutional culture founded on the stakeholder theory, which asserts that an organization is accountable to all parts of society.” For five decades the organization has brought thought-leaders, corporate scions, heads of state and a broad range of thinkers and opinion leaders together, and those influencers carry their ideas back to vast and eager audiences.
Are the board chairs and CEOs embracing stakeholder capitalism using their influence to drive change? Chaplin says, “The intent is there. Whether there is follow-through actually comes down to a financial perspective, particularly in 2020 when businesses were challenged financially. Did organizations choose an environmentally friendly route if it was a higher price? I would say probably not. Going forward though, there will be a lot more decisions based on that sustainability and the societal impact of an organization.”
From Johnson’s perspective, “Industry bodies, industry leaders, they love getting up and talking publicly about the need for change. It’s part of that opinion leadership and opinion influencing that is important to drive change. Quite a few companies, even the middle size ones, are using their supply chains to apply different types of pressures on how suppliers manage their workforce and sustainability. I’m definitely seeing that more and more. Excluding organizations from tenders if they don’t have a sustainability credential is also evident in supply chains. That critical mass of words and actions as it builds, will create a cumulative influence.”
Investors can find thought-leadership on sustainable investing through the CFA Institute. Siddiqi says, “They have had a project now for many years called the future of finance, work on how investors could frame their approach to environmental, social, and governance considerations, which may not have been factored into traditional risk-reward calculations. They’re also working on helping create standards for ESG products. And you can see that more and more mainstream investors and asset owners are talking about sustainable investing.”
He says, “That to me is another hallmark of stakeholder capitalism coming into being. They are two sides of the same coin. If a company says, ‘we believe in stakeholder capitalism’ and the investor in that company says ‘we believe in sustainable investment and responsible investing,’ then the two become symbiotic at the systems level.”
Some critics suggest that moving from shareholder primacy means doing good at the expense of owners. Siddiqi believes that stakeholder capitalism is actually enlightened self-interest, particularly well-illustrated in the aftermath of the pandemic.
Siddiqi says, “The monetary policy response to COVID was to reduce interest rates all over the world, which caused the investment markets to be overcrowded. So that gives rise to two issues: One, if you’re a company with goods to sell, you have a stake in a more equitable growth in the wider economy, because you want people to be able to buy your product. So there is an enlightened self-interest in helping the recovery and making sure that it is inequality-reducing. Two, on the investor side, an excess of capital is going after too few assets and they have an impetus to help develop new asset classes for the money to go into. That’s why we see more and more green bonds, climate bonds, impact investing, longer-term infrastructure bonds. These are coming into the mainstream at least partly because there is just more investment money that needs to find a home."
“So it looks like there is a convergence of interests,” he says. “And if I use the word inclusion very loosely and very broadly, I think there is a strategic imperative for inclusion to be sponsored by the private sector, both companies and investors.”
That self-interest can extend to making business decisions that support the kind of world we want to live in. Nielsen describes a Brazilian cosmetics company, “Natura, the parent company of The Body Shop, Avon and other companies. Back in 2007, Natura said that they were going to be carbon neutral by 2030 and they really have strived to do that through a number of different initiatives inclusive of the availability of refill packaging for cosmetics. To reduce their carbon footprint, they put in place requirements all the way down through the supply chain. So, it wasn’t only ‘our company’ that is in control of whether we actually fulfill these metrics. They demand that down the supply chain their suppliers will help achieve those goals.”
In addition, Nielsen describes Walmart’s Project Gigaton. “Five years ago, Walmart set a goal of reducing a billion metric tons of greenhouse gases that they release by 2030. And they’re actually on target to meet that two years early. So, there’s some very specific, measurable metrics that companies have put out there over the years.”
These are long-term goals, which suggest the commitment to the environment among other stakeholders is a long-term decision.
IS STAKEHOLDER CAPITALISM HERE TO STAY?
For Chaplin, “We’re at the start of the journey with stakeholder capitalism. There will be ebbs and flows in its adoption and the speed of its adoption, depending on other global and economic factors. But it will only increase because the generations coming through will be more and more involved and proactive towards it. Gen Z and the next generation will demand it. It will be the norm. The discussions are now commonplace, execution of the ESG strategy will evolve over the coming decade, and become the norm."
The journey is not likely to be a straight path, according to Nielsen. “I think stakeholder capitalism will evolve over time. And like every other major change in business or in society, as history has shown us, it’s not going to be a straight line. It will zig, it will zag, but it will continue to grow and influence the way that organizations set themselves up for and measure long-term success. The bottom line is that if our employees, our customers, our neighbors, our families, friends, and investors are all stakeholders, then the products or services that we make should not cause them harm, and neither should the way that we make them.”
"The language that we’re hearing is around purpose. What is the purpose of the business and what is the impact it has on the wider society? Is this purpose sustainable going forward?”
The role of business in society is becoming greater than its goods, services, and economic impact. According to the 2021 Edelman Trust Barometer, “This year’s study shows that business is not only the most trusted institution among the four studied, but it is the only trusted institution with a 61 percent trust level globally, and the only institution seen as both ethical and competent.” (Edelman Trust Barometer January 2021. www.edelman.com)
Siddiqi observes, “In this current environment, businesses are seen to be more trustworthy. So, it’s a great privilege and responsibility for the private sector to make sure that they deliver on that trust. And, to the extent that there are still those that don’t believe that they have a role to play, my personal message is that the private sector not only has a role to play, I think it has a leadership role to play, to give a bolder voice to environment, social and other non-market factors that the private sector may have historically stayed away from.”
Johnson is confident that the multistakeholder perspective is here to stay. “But like everything, I think the degree to which organizations will succeed will vary greatly. That’s in part due to the fact that boards and leaders have to be more capable of managing a more complex decision-making environment, managing diverse views, and not yielding to the short-term pressures. And not every management or board team is capable of doing that. But those that can, will thrive.”
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