Last week, The Economist ran on its front cover a question: What are companies for?
Its leading editorial considered whether companies should pursue social and/or environmental goals. This is in response to the US Business Roundtable issuing a call for companies to look beyond merely advancing shareholder interest. Good news you might think? But not according to The Economist.
In their view, this would lead us back to “collective capitalism” which would simply empower big businesses such as Google, Amazon and Microsoft and would limit innovation. It was also a threat to democracy, with “unelected” business leaders making decisions about social need rather than elected politicians. The solution was a focus on “long-term value” (whatever that is) and follow that up with support for competition.
The Economist concluded: “The Western world needs innovation, widely spread ownership and diverse firms that adapt fast to social needs. That is the really enlightened kind of capitalism.”
The fact that this was the leading article in The Economist shows how rattled defenders of old-fashioned capitalism are. We must take on their arguments head on.
Enough false choices
Full-fat or diet? Meat or vegetarian? Red or blue? Social purpose or financial success?
The Economist et al love to give false binary choices about how the economy works. This helps to condition the public to accept that there is no alternative to the way that things currently are. But is there a choice between social purpose and financial success? The answer is no. There isn’t.
Social enterprises have showed that you can have financial success and social purpose. There is no dichotomy.
A majority (51%) of social enterprises made a profit in the past financial year. 47% were also growing in terms of turnover, compared with just 34% of SMEs.
Social enterprises are also more innovative than their peers. This isn’t surprising because if you want to be financially successful and have a positive social and environmental impact, you have to think differently. New products, new services, new approaches. 50% of social enterprises have introduced a new product or service in the past 12 months, compared with just 33% of SMEs.
The growth of red-in-tooth-and-claw private businesses like Amazon and Google may be spectacular, but it is not true to say that you cannot have grow and innovation if you have a social purpose. Although it might seem counter-intuitive, the evidence suggests that we can still have strong financial performance with social enterprise models.
What is long-term value? And for who decides?
Journals such as The Economist like to encourage businesses to focus on long term value creation. This is usually short hand for investing in new technology, boosting productivity and improving infrastructure rather than just focusing on dividends. There is much to be said for that, but ultimately when they talk about value it is still primarily about financial return.
Traditionalists, like The Economist will tell you that financial value is a good proxy for what is good for society. People pay for what they deem to be valuable. Those businesses which are preforming well financially are, therefore, giving society what it wants.
In reality, we know that this is simply not the case. People may want to buy clothes which are stylish and fashionable. But they also want products which are ethically sourced and environmentally sustainable. They are even prepared to pay more for those products, according to some surveys. However, in practice options are limited and established businesses don’t want to invest in changing their supply chains or reduce their profits by opening a new round of competition. Healthy financial performance may look like a business doing what society wants, but the reality is much more complicated.
We also know that markets find it difficult to cost all the negative externalities created through production. This is why we have regulation and taxation. Embedding social purpose within business is a just another way of combating these externalities which are becoming more threatening to society and the planet. It is a recognition that we need to go further than just acting after the fact, we need to get businesses to stop acting in an anti-social and anti-environmental manner.
Focusing on just financial performance suits those that are already benefiting from the system, particularly the richest in society.
We need a better way of measuring value, and this needs to be value which takes on board social and environmental cost/benefit. Social enterprises have showed leadership through their “triple-bottom line” approach making decisions on the basis of social, environment and financial impact. But we need to go further and we need to push our biggest businesses (and their accountants) to invest in measuring and reporting.
It can be done. Social enterprises are doing this every day – but it isn’t just social enterprise. Kering, the luxury fashion brand, has pioneered “environmental profit/loss” reporting. The Crown Estate has developed a methodology for estimating the value of its natural assets. This is the future.
We have to junk old fashioned concept of “long term value” which no longer fit the times we live in.
We need new solutions to persistent problems
The glorification of shareholders was intended to solve the “principal/agent” problem. According to economists and commenters in the 1960s/1970s, managers (i.e. CEOs & Directors) were making decisions in their own interest (i.e. higher salaries, taking less risk so that they kept their jobs, not tackling waste/inefficiencies etc.). Shareholders which were the owners of the business were being short changed. Shareholders wanted to maximise financial value and this required innovation and dynamism. This was also what the wider economy needed at the time, according to these thinkers.
Steps needed to be taken to empower shareholders to shake up lazy business managers, which would also be in the wider interest of society. This led to a cultural change in business backed with changes to government regulation which made takeovers easier.
That was the theory – but where did the practice lead us? In the UK, we have seen a general reduction in productivity, historic investment lows and increasing short-termism.
Shareholders own their shares for ever shorter periods of time, and this has encouraged companies to maximise dividends to keep shareholders happy. Tomorrow’s Company estimated that profits distributed to shareholders has risen from 14% of UK GVA to 18% in 2014. According to IPPR, just one in four businesses now prioritise investment with internal funds. They would rather distribute it as profits to shareholders, buy shares in other businesses or issue other financial instruments.
Private business can achieve tremendous success and innovation, but they need the right structures. Laissez-faire capitalism met its nemesis in the Great Depression. So-called “collective capitalism” was defeated by the oil crisis in the 1970s. Neo-liberalism has failed to recover from the financial crash of 2009.
Business needs to move forward and evolve, taking into account new circumstances. Growing concern about social and generational inequality. The climate crisis. Historic lows of productivity and innovation. Journals like The Economist are holding business back by falling back on tired old thinking.
Stop avoiding the hard choices
The siren call of The Economist and other like-minded journals is that everything is fine, we just need to tweak things around the edges. This is a policy which has been tested to destruction over recent years. The UK government has cut “red tape”, we have cut corporation taxes, we have given billions in grants and loans to the private sector, we have invested in new infrastructure. All of this has been cheer-leaded by the usual suspects in the media. None of this has led to a turbocharging of the economy or addressed the key challenges facing society.
We are not going to improve our economy without hard choices and proper structural reform.
Businesses are the central actors of our economy. If we want to change things, we have to start with business. Everything else is just window dressing.
The one thing that we can agree with is that social responsibility shouldn’t be left to the whims of the ultra-rich or CEOs of the biggest companies. It should be shaped by elected governments, through legal reform and proportionate reporting of social and environmental impact. This will give citizens the power to hold business and governments to account.
It might not go down well with the status-quo championing readers of The Economist but the time has come to change business for good.