December 5, 2020

Weve misdrawn the battle lines of capitalism: The cofounder of Bains social impact fund shares what really needs to be done to make stakeholder capitalism work

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  • Stakeholder capitalism, the idea that a company’s purpose is to benefit all its stakeholders, became the reigning economic theory in 2019 after 181 CEOs extolled the idea in an open letter titled a “Statement on the Purpose of a Corporation”.
  • But the pandemic put stakeholder capitalism to the test, and a report funded by the Ford Foundation found that companies that had signed on to the “Statement on the Purpose of a Corporation” fared no better than other top companies in prioritizing worker rights. 
  • Business Insider recently spoke with Michael O’Leary, co-author of “Accountable: The Rise of Citizen Capitalism” to find out what it will take to turn corporate pledges into meaningful action. 
  • O’Leary and co-author Warren Valdmanis, partner of a social impact fund Two Sigma, helped launch Bain Capital’s social impact investing fund. 
  • They argue that standardizing environmental, social, and corporate governance investing (ESG) practices is the best way to hold CEOs accountable to their promises to uphold stakeholder capitalism.
  • Visit Business Insider’s homepage for more stories.

Last year saw the rise of stakeholder capitalism, the idea that all companies should be held responsible for how their actions impact their employees, customers, and the environment, not just shareholders. 

In August 2019, CEOs of 181 top companies came together, under the organization the Business Roundtable, and declared the ideology the reigning economic principle in a public letter titled a “Statement on the Purpose of a Corporation.” This marked a departure from the nearly 50 years of economist Milton Friedman’s shareholder primacy, the belief that a company’s sole responsibility is profit for its shareholders. The idea was a hot topic at The World Economic Forum in January, just weeks before the coronavirus would collapse national economies. 

The pandemic put stakeholder capitalism to the test. Business leaders were faced with difficult questions. Chiefly: Do I furlough or lay off employees to cut costs? Do I double down on investing in employees to get through these difficult times? 

But an analysis funded by the Ford Foundation and conducted by consultancies KKS Advisors called “A Test of Corporate Purpose” discovered that stakeholder capitalism may not be making that much of a difference. It found companies that signed the Business Roundtable’s letter championing stakeholder capitalism did no better than those who didn’t when it came to upholding worker rights and workplace safety.  

It raised an important question: Is stakeholder capitalism all talk?

Despite this news, many in the business sector still argue that stakeholder capitalism would help to create a more equitable society. We just need to hold executives more accountable. 

Business Insider recently spoke with Michael O’Leary, co-author of “Accountable: The Rise of Citizen Capitalism” to find out what it will take to turn corporate pledges into meaningful action. 

O’Leary and co-author Warren Valdmanis (current partner at social impact fund Two Sigma) helped launch Bain Capital’s social impact investing fund after spending most of their careers in private equity. They argue that standardizing environmental, social, and corporate governance rules in investing (ESG) is the main way to hold CEOs accountable to their promises. 

This interview has been lightly edited for length and clarity. 

The average investor wants long-term (not short-term) growth.

When it comes to stakeholder capitalism vs. shareholder primacy, people put economic interests and moral interests on opposite sides of the spectrum. You have to pick one or the other. But is doing the “right” thing and doing the “financially smartest” really that at odds? 

We’ve misdrawn the battle lines of capitalism, where we talk about it as if we’ve benefited shareholders and profit over the last 50 years at the expense of stakeholders. But when you dig down into who the actual shareholders are — in America the median shareholder is 50 years old with $50,000 in a 401(k) account. They’re invested in index funds or target retirement accounts to give them exposure to the entire global economy.

The best interest of the average American investor is not served by maximizing quarterly profits, it’s served by the long-term, sustainable development of the global economy. Doing what’s in the best interest of shareholders and stakeholders are not as in tension as I think some folks would suggest. 

The best interest of the average American investor is not served by maximizing quarterly profits, it’s served by the long-term, sustainable development of the global economy.

Exactly how to advance stakeholder capitalism   

What will it take to advance stakeholder capitalism? 

My view on all of this is this: Done halfway, all of these commitments to stakeholder capitalism can do more harm than good. Part of the reason why we need this push toward ESG or stakeholder capitalism is that our economy is racked with distrust. [Only 25% of Americans think capitalism in its current form is good for society.] 

If we do these things halfway, it will just further the distrust. People will say, “Last year we had this great victory where 181 CEOs all committed to stakeholder capitalism and it turns out it was all B.S.” To the extent that that becomes the takeaway, it’ll set back this movement farther than had we never had the statement in the first place. We are winning the battle of ideas, but we’re losing the war of substantive action.  

You’d be hard pressed to find a CEO who hasn’t given lip service to these ideas, but you’d be hard pressed to find any real action. The question is, how do we hold CEOs accountable? That’s why we called the book “Accountable.” In order to turn these commitments into action, we have to have mechanisms to hold corporations accountable.  

It has to start with clear, standardized, audited metrics. Right now the Wild West of ESG metrics that exist today might serve managers who want to tell a good story, but they’re not serving stakeholders who are seeing evidence of stakeholder capitalism everywhere but where it matters, which is in their own lives.

So then how do we hold corporate leaders accountable? 

We live in this age of institutional investors, where something like 90% of all the votes cast in S&P 500 companies are not cast by individual shareholders, but are cast by institutions on behalf of individuals. Institutions like BlackRock, Vanguard, etc. And we need institutional investors like that to do a better job of representing the actual values and interests of the underlying shareholders, who are long-term-focused, sustainability-focused. 

What type of standards are you arguing for? 

Right now, and you know this, any public company must report on their financial performance according to an extremely standardized format that is then audited by a third party, an accounting firm like PwC or EY or KPMG, who certifies that it’s correct. And all of this is regulated by the Securities and Exchange Commission (SEC), all through the format generally accepting accounting principles, or GAAP, that’s set by The Financial Accounting Standards Board (FASB). 

It is this alphabet soup of accountability on the financial side. Compare that to how companies report all the different social and environmental impacts they have. It is entirely optional, entirely up to the company whether they report it at all.

On the ESG side, the struggle right now is that because it’s up to the company to report them, you have all this self-selection bias, where the only companies to report on certain issues are the companies that are doing well in them. 

Who would enforce these standards? 

A great first step would be the companies involved with the World Economic Forum, if they all committed to reporting in line with these standards. It would still be totally optional, totally voluntary. But it would be a huge step forward because at least you would be able to have hundreds of companies across different industries reporting on a common set of metrics.

The next step, which does require the government to get more involved, would be to regulate ESG reporting the same way financial reporting is regulated. And that is through FASB as overseen by the SEC.  

Top investors and business leaders shouldn’t wait for new government policy to usher in change 

What role does the government play in ushering in change? 

I see a massive and critical role for the government to play, including things like pricing externalities like carbon emissions, things like advancing protection for workers, and getting a higher minimum wage. But I think there’s been this millionaire cop-out, which is these extremely powerful economic actors, Jamie Dimon or Ray Dalio, who will write these white papers and letters about all the things the government needs to do to stop failing our citizens. And I kind of look at it and think, “You have so much power yourself to affect change on these issues.”

We need institutional investors like that to do a better job of representing the actual values and interests of the underlying shareholders, who are long-term-focused, sustainability-focused.

The example I always point to is with guns. I believe it was after the Parkland shooting, leaders of Walmart, leaders of Dick’s Sporting Goods, they didn’t just say, “The government needs to act.” They went beyond the letter of the law to say, “We’re going to stop selling assault rifles in our stores.” Dick’s Sporting Goods went farther, they actually melted down the assault rifles they had in stock, so there would be fewer assault rifles in the economy overall. 

This comes back to this idea of citizen capitalism, which is not to say the government doesn’t have a huge role to play, but if you believe in something so strongly that you vote behind, you should see how else you can be affecting that change in your roles as worker, worker, employee, consumer, as a saver, as an investor. 

We’ve created this bifurcation in ourselves as moral actors and as economic actors, where once we enter the economic realm it’s somehow amoral or value neutral and we trust the invisible hand to solve all problems.

Our argument is not that the government has no role to play, but we need to end this bifurcation. We need to reintegrate our moral and our economic lives into one.