Corporate America Rethinks its Purpose
The private sector looks beyond profits to satisfy stakeholders—and shareholders—who want to see progress on environmental and social issues.
When Scott Hirst was researching how large institutional investors vote on so-called social responsibility resolutions at corporations, he noticed something unusual. Opinion polls suggested that a majority of Americans support corporate disclosure of political spending; but institutional investors—especially the two largest, BlackRock and Vanguard, which many Americans invest with—generally voted against shareholder proposals encouraging such disclosure. As a result, only one out of nearly a hundred proposals dealing with political activities passed in 2014, the year Hirst studied.
“At the time, there was a significant disconnect between how the largest investment managers were voting on social responsibility resolutions and how their own investors likely felt about those subjects,” explains Hirst, a BU Law associate professor of law.
Although opinion polls from the time revealed how Americans in general felt about corporate political spending, investment managers did not conduct corresponding polls of their own investors.
“What did their own investors actually think?” Hirst says. “That’s a critical question, but they never actually asked the question.”
“…There was a significant disconnect between how the largest investment managers were voting on social responsibility resolutions and how their own investors likely felt about those subjects.”
The disconnect Hirst discovered is an example of the tension between shareholder capitalism and stakeholder capitalism, or the idea that a company exists solely to maximize profits versus the belief that a company can—and should—do more for society at large. Today, that tension is more apparent than ever in the United States, as activists have increasingly turned to the private sector to take on some of the most pressing issues of our time, including climate change, systemic racism, and widespread income inequality.
Things have changed since Hirst published his social responsibility resolution findings. In recent years, the largest institutional investors—including BlackRock, Vanguard, and State Street Global Advisors—have taken a more active role on such resolutions, also known as environmental, social, and governance (ESG) measures. In 2017, for instance, State Street and Vanguard increased pressure for greater gender diversity on corporate boards. Last year, BlackRock Chair Larry Fink told clients and CEOs “sustainability should be our new standard for investing,” and, after the police killing of George Floyd, Fink announced new metrics for diversity and inclusion in BlackRock’s own ranks. Still, the debate over the role companies should play in social and environmental matters continues, and Hirst and other Boston University faculty and alumni are shining a light on how things are changing and why.
People expect companies to do more than make money. One very public recognition of that reality came in 2019, when Business Roundtable, an organization of chief executive officers from leading US companies, issued a statement redefining the purpose of a corporation. For decades, Business Roundtable had taken the “shareholder primacy” approach to corporate governance. Under that view, corporations exist primarily to serve shareholders who, in theory, care mostly about the value of the stocks they own. But, in 2019, Business Roundtable instead adopted what it called a more “modern standard for corporate responsibility,” one that commits companies to serving not just shareholders but all their “stakeholders,” including customers, employees, suppliers, communities, and the environment.
The former chief executive officer of Vanguard and the president of the progressive Ford Foundation endorsed the statement, but others were skeptical, especially because the statement came just as the interests of shareholders and stakeholders seemed to be converging.
Madison Condon, an associate professor of law at BU Law, points to the example of Royal Dutch Shell, which, in 2018, announced it would reduce its carbon footprint 20 percent by 2035 and 50 percent by 2050. The announcement was an about-face for the company, which had dismissed emission-reduction targets just months before, and came after pressure from Climate Action 100+, a group of more than 500 investors around the world who collectively manage nearly $50 trillion in assets.
Against that backdrop, Condon wrote in the Boston Review over the summer, one interpretation of Business Roundtable’s 2019 statement is that the organization, “historically devoted to the interests of executives, is seeking to disempower and ignore shareholders at a time when the largest investors have been pushing an aggressive climate agenda.”
Business Roundtable’s statement also preceded rule changes from the US Department of Labor under the Trump administration that make it more difficult to invest based on ESG criteria; one rule, finalized in October 2020, bans the use of ESG funds as a default alternative for 401(k) plans and calls on plan sponsors to choose investments solely based on financial factors. The department announced in March 2021 that the rule is inconsistent with Biden administration environmental policies and may be rescinded.
Condon says the statement and the Labor Department rule are part of a broader “pushback against shareholder power.”
“It really does question who is in a better position to say what’s best for stakeholders, if giving stakeholders themselves a voice is off the table,” Condon explains. “Shareholders? Or management?”
Shareholders as Stewards
But even if Business Roundtable were trying to limit investors’ ability to make meaningful changes at the companies they own, there is a growing consensus that the ship of shareholder engagement on ESG issues has sailed.
Angela Gomes (CAS’01, LAW’05), a partner at Sullivan & Worcester in Boston, says her corporate clients have been making ESG disclosures in their proxy statements for the past several years, even though doing so hasn’t—in most cases—been required by the US Securities and Exchange Commission. Some clients even go a step further by preparing separate “sustainability reports” or emphasizing board members’ diversity by adding characteristics such as race, gender identity, or sexual orientation into their bios.
“I think this has moved from being just another investor demand to something companies—at least, the ones who signed on to the [Business Roundtable statement]—appear to be actually owning in the name of good business practice,” Gomes says.
“I think this has moved from being just another investor demand to something companies…appear to be actually owning in the name of good business practice.”
Nevertheless, investors aren’t waiting on corporations to make ESG changes voluntarily.
The steps taken by Climate Action 100+, Condon argues in a Washington Law Review article, go against decades of corporate governance theory that assumes shareholders are motivated purely by profits and that diversified investors are not well suited to closely monitor companies’ behavior. But under another theory—the “universal owner” theory—ESG activism on climate change makes sense, she argues.
“Theoretically, if you have a fund that owns the whole economy, it will behave as a steward of the economy because it cares about the growth of its portfolio as a whole,” Condon explains.
Large, institutional investors like those that comprise Climate Action 100+ are universal owners. They “have massive portfolios broadly diversified across the entire economy,” she writes in her piece “Externalities and the Common Owner.” “It is in their financial self-interest to take action to reduce global emissions, including those generated by the publicly traded fossil-fuel companies in which they invest.”
David H. Webber, associate dean for intellectual life and professor of law at BU Law, has another way of explaining institutional investors’ more aggressive stance on ESG matters and the about-face performed by Business Roundtable: young people.
Webber started his career at a law firm defending companies that faced shareholder litigation before realizing “I’d rather be suing my clients than representing them.” He did that for a while, too—an experience that helped form the basis of his 2018 book about how workers can use their shareholder power to advance worker interests, The Rise of the Working-Class Shareholder: Labor’s Last Best Weapon.
In his latest work, “Shareholder Value(s): Index Fund ESG Activism and the New Millennial Corporate Governance,” published in the Southern California Law Review, Webber and two coauthors at the University of Virginia School of Law argue that millennials—who stand to inherit what BlackRock’s Fink has called “the largest transfer of wealth in history” from baby boomers—are responsible for the recent ESG activism of index funds.
The funds are “locked in a fierce contest to win the soon-to-accumulate assets of the millennial generation, who place a significant premium on social issues in their economic lives,” the authors write.
“…What’s going on is this massive millennial generation is on the threshold of inheriting as much as $30 trillion and they have very different attitudes compared to baby boomers and Gen X. The fight is on now to win their money for investment.”
In other words, as Webber explains: “I don’t think suddenly Business Roundtable cares about things they didn’t care about the day before. What’s going on is this massive millennial generation is on the threshold of inheriting as much as $30 trillion and they have very different attitudes compared to baby boomers and Gen X. The fight is on now to win their money for investment.”
Pursuing Public Good through the Private Sector
Like it or not, there’s a long history of capital’s capacity to bring about social change, and that seems likely to continue.
Silvio Tavares (’97) knows the power of capital personally. Tavares is president and CEO of the CardLinx Association and a board director at NASDAQ-listed CSG, a public company that provides payment services. When he was an undergraduate student at Tufts University in the late 1980s, officials gave in to his and other students’ demands that the school divest its holdings in businesses operating in apartheid South Africa.
“Guess what? It worked,” Tavares recalls, noting that Nelson Mandela, anti-apartheid activist and president of South Africa from 1994 to 1999, later acknowledged the role divestment played in bringing about the end of apartheid. “My point is that shareholders have the right to buy or sell shares and will make decisions about where they want to place their capital that reflect their values. That’s the way it’s supposed to work. Companies are hardwired to listen to the requests of their shareholders.”
Tavares, who has discussed the ESG goals of racial and gender diversity on a podcast created by CardLinx, says pitting profits against social and environmental goals often sets up a “false choice.”
“Every major study shows that, over the long term, ESG goals and shareholder profits align very well,” he says, pointing to research that ESG-focused investments lead to more favorable returns (an S&P Global Market Intelligence report last year found that 12 out of 17 ESG-focused funds outperformed the S&P 500 in the first quarter of 2020).
Nevertheless, in the short term, Tavares acknowledges, there can be trade-offs.
“We have this quarterly reporting system for public companies to share results every three months, and that can force short-term thinking rather than long-term value creation,” he says.
If some trade-offs are inevitable, how much income are investors willing to forgo for greater social responsibility? That’s the question Hirst and two coauthors at Tel Aviv University set out to answer in a new experiment regarding socially responsible investment. In the study, approximately 300 participants are given hypothetical investment accounts and asked to choose between investing in a portfolio of “socially responsible” corporations that earns lower returns or investing in a “general portfolio” that earns higher returns. Hirst and his coauthors simulate higher returns to investors with cash bonuses and social responsibility with donations to charities.
“We’re trying to understand how much investors really care about these issues,” Hirst says. “Where social responsibility involves sacrificing potential income, how would investors like corporations to respond to that trade-off?”
Engaging the Government
Even if every investor were willing to risk their retirement savings to make the world a better place (and every company willing to play along), most experts agree the private sector is not the ideal forum for bringing about social change.
“Even Climate Action 100+, which I think is really admirable, is troubling,” Condon says. “The concentration of power is very strange. They’re behaving like political entities with no political accountability.”
“There is a danger in thinking about corporations as more than economic animals,” he says. “We have other mechanisms in society for addressing social objectives and social causes.”
The only problem? Those mechanisms don’t always work either. So far, government officials in the US and around the world have failed to tackle existential and systemic problems like climate change, racism, and inequality at the scale necessary to achieve meaningful results. Too often, social and environmental goals go in and out of favor depending on which political party is in power: former President Trump reversed most of former President Obama’s efforts on such issues; President Biden has promised to reverse Trump.
Webber is trying to put an end to what he calls the “political football” in this context. In the runup to the 2020 presidential election, he met with congressional representatives to talk about potential new laws or regulations that would—perhaps permanently—enhance investors’ ability to pursue ESG investing. That way, no matter who’s running the government, shareholders can have a say in shaping the future.
“Existing laws were written and interpreted to govern a world of maximizing shareholder returns to the exclusion of everything else,” says Webber. “But companies have changed. Investors have changed. The law is going to have to keep up.”
Until then, it’s clear that environmental and social justice advocates will continue using the markets as a lever for change. Case in point: this spring, Condon, whose work focuses on the “E” in ESG, taught a new seminar that examines, among other trends, municipalities’ failure to adopt climate-adaptation strategies (such as flood-control measures) until that failure, in the form of downgraded bond ratings, affects their ability to raise money. Condon says the divide between the public and private sectors in the United States is “porous,” a reality traditional environmental law scholarship has downplayed or ignored for too long.
“We live in a capitalist country,” she says. “If the private sector isn’t prepared for climate change, then we aren’t prepared for climate change.”