To endure and build long-term value for shareholders, companies must also do well by society, according to speakers at a recent symposium titled, “Building and Valuing a Firm’s Sustainability Strategies,” sponsored by the Wharton Social Impact Management Initiative.

Poverty, globalization and the environment all have an impact on business, yet are often perceived as issues that fall beyond the responsibility of corporate management. In a purely market-based view, companies are created simply to provide maximum return for shareholders.

Moving Beyond Milton Friedman: The Evolving Perspective on Corporate Social Responsibility

But this approach, advocated by economist Milton Friedman and others, has been made obsolete by new business/geopolitical complexities and government policies that encourage companies to take a role in social action, according to Wharton legal studies professor Thomas Dunfee. “The Milton Friedman argument is a nice academic argument, but it’s over,” he noted. “Companies have been [contributing to society] for decades. Public policy supports philanthropic activity with tax policy. So that is an old debate.”

Defining What Modern Corporate Social Responsibility Should Look Like

Howard Kunreuther, co-director of the Wharton Risk Management and Decision Processes Center, offered symposium participants a definition of sustainability. “The first question everyone asks is, what does sustainability mean?” For a firm, he said, it means long-term economic survival. For society, it could mean preserving the environment or building institutions to improve human health or provide economic opportunity. More broadly, sustainability lies in “synergies with the community and how the firm integrates with the community in a global context.”

Measuring Intangibles

According to Wharton accounting professor Christopher Ittner, companies are not necessarily opposed to playing a larger role in society. Companies believe that social responsibility and community relations are important, he said. The problem is “we just don’t know how to measure this.”

International Trends in Moving Corporate Social Responsibility Forward

European governments require companies to issue social responsibility statements, he added, while in the United States, the Financial Accounting Standards Board and Securities and Exchange Commission are beginning to look at how they, too, can incorporate more intangible assets into corporate reporting. One way to begin to place a value on a firm’s long-term sustainability is to look at the gap between its market value and the strict, financial calculation of its assets. “There’s something in between hard assets and market value that gives you sustainability.”

Evaluating the Impact of Corporate Social Responsibility Activities

Several attempts to begin to quantify the value of a company’s social characteristics are already underway. Research by Wharton and Ernst & Young, for example, shows that corporate executives believe “soft” assets – such as the quality of a company’s workforce or the reputation of its management – are more important than more easily measured characteristics, such as short-term financial performance, in accounting for the gap that lies between market and book value.

Ittner also described an index developed by Watson Wyatt Worldwide in which firms were evaluated on 30 standard human resources practices, such as recruiting excellence, a clear rewards system and a collegial, flexible work environment. Companies that scored low on the index registered cumulative stock returns of 53% from 1994 to 1999, while companies that scored high registered returns of 103%.

Innovest Strategic Value Investors in New York examines environmental data for energy companies to help determine how they will perform in the market. Innovest argues that companies in environmentally sensitive industries that manage environmental issues – including waste sites, discharges and emissions and recycling – better than their peers are likely to manage all aspects of their business better.

For example, Innovest research indicates that between March 1998 and February 1999, the difference in stock price appreciation between firms that managed their environmental strategies well and those that didn’t grew from zero to more than 15%, Ittner said.

If companies are made to disclose similar kinds of information in addition to their financial results, he added, “analysts will figure out you can make money on this.” The standards for disclosure should vary widely by industry and are likely to be developed by industry associations working with government.

A number of companies, according to Ittner, are resisting more disclosure because they fear it may cost them some competitive advantage. For example, Microsoft, which has very little in hard assets, is highly dependent on social intangibles, such as employee recruitment, to generate returns. As a result, the company is less willing to share information about how it uses these strategies in its business, he said.

Still others, he added, object to putting out information because they say it is hard to analyze accurately. These companies fear investors may interpret the data incorrectly, resulting in a lower share price.

How Does a Corporation Being Socially Responsible Help Increase Shareholder Value?

Public Perceptions Matter

Marketing professor David Reibstein pointed to Ben & Jerry’s, Newman’s Own, and sports apparel marketer And 1 as companies that promote their commitment to social progress. “My guess is there are a few customers that buy in,” said Reibstein. “The question is whether it attracts a large enough set of customers to make it sustainable.”

He also cited two companies that stress their social mission above all else but that have had little impact on customers: Green Mountain Energy, a Texas electricity supplier, and ECO-wash, an environmentally friendly laundry chain that has done well in Europe, but failed in the United States. “Just having some social impact, without also having something desired by customers, is questionably sustainable at best,” said Reibstein. Many companies prefer not to trumpet their good works, rather than risk having their efforts dismissed as a “marketing ploy,” he added.

Dunfee discussed the classic debate over whether companies should take larger social issues into account when running their businesses or focus solely on building shareholder value.

Corporations do not function in isolation and it is very difficult to see where a firm’s duty to its shareholders begins and ends, he said. Investors, employees and consumers all have moral concerns that they bring to their interactions with a company – whether the firm wants them to or not. For example, a company’s social policies may help it in labor markets by attracting top graduates if it has a good public image. On the other hand, social strategies can hurt shareholder value if they lead to protests or boycotts.

Connecting a Company’s Core Business to their Social Responsibility Initiatives Can Improve the Effectiveness of Both

Dunfee suggested companies do best with strategies that are linked to the firm’s core business. Drug manufacturer Merck’s program to eradicate river blindness in Africa is a successful example. However, when AT&T decided to support Planned Parenthood it got into trouble, he noted. After some shareholders objected, AT&T pulled its support for the family-planning organization. That in turn prompted objections from other shareholders. “AT&T had signaled that this was not really connected to what it does. It was just write-a-check philanthropy.”

Dunfee also said increased disclosure about all aspects of corporate activity will smooth out conflicts over corporate responsibility to shareholders and to society. “So long as you fully disclose to your shareholders what your policies are, that removes the legal question.”

To be Effective, Corporate Social Responsibility Initiatives Must be Honest

However, he pointed out that a number of companies have recently withdrawn voluntary statements after the California Supreme Court last year upheld a lawsuit against Nike. The suit claims the firm violated truth-in-advertising laws when it sent letters to newspaper editors in 1996 and 1997 stating that workers who manufacture Nike products are not mistreated in Asian factories.

Nike claims that the California court decision limits its right to speech and says it will not disclose any additional information about its social practices as a result of the ruling. The court did not rule on whether Nike lied, but said issues raised in the case constitute commercial speech and are subject to California consumer-protection laws. Nike appealed and the U.S. Supreme Court has agreed to hear the case.

Market Forces Like Poverty and Climate Change Can be Mitigated by Corporate Social Responsibility Initiatives

Don Reed, a financial analyst with Ecos Corp. in Boston, who leads his firm’s practice advising companies on sustainability strategies, argued that managers who do not take broader strategies into account are failing in their duty to enhance shareholder value.

Environmental and social market forces, including climate change, resource degradation, poverty, urbanization, inequity, and war, bear heavily upon business, he noted. For example, poverty – which leaves five-sixths of the world’s population effectively out of the market for most industrial products – represents an enormous lost opportunity. “People don’t look at the environment and poverty as part of the market. We argue and build a case that they are, in fact, market forces.”

He said companies do not have to endorse any moral position on the issues, just recognize them and develop strategies within their business to manage the effect of these forces on their company.

The impact of societal forces on business has been magnified in recent years, Reed added, by an increase in the power of non-government organizations, globalization and an increasing interconnectedness throughout society. At the same time, the operating environment for companies is changing: There are increasingly more complexity and risk in the business world, but also rising expectations of investors that companies will behave in accord with larger societal goals. And as economies shift from an industrial base to greater reliance on services and information, solid scientific research and good products are no longer enough to compete.

“This is very hard for big industrial companies to get their hands around,” he said.

How to Successfully Implement a Corporate Social Responsibility into Business Strategy

When companies begin to develop sustainability strategies they usually rely first on simple public relations, or “greenwashing,” which Reed argued has little effect. Disclosure is another early step, but is not a replacement for fully integrating sustainability into all of a firm’s business strategies.

Connecting Corporate Social Responsibility Initiatives to Long-Term Success

Companies must look for strategies that both enhance shareholder value and benefit society. One without the other will lead to failure over time, said Reed, whose clients include Ford, DuPont and ANZ Bank.

For example, some insurance companies make it difficult for claimants to be paid. That might be good for short-term shareholder value, but it is not good for society and the firm long-term. He pointed to a class-action lawsuit filed against UNUMProvident, of Chattanooga, whose stock has plummeted since it came under scrutiny by investors and regulators for its business practices.

According to Reed, a more sustainable approach would be that of Insurance Australia Group, a general insurance firm, that pays claims promptly but works with customers to reduce pay-outs through programs to prevent injury or accidents in its personal insurance lines. The company is expanding this strategy to its commercial and industrial business as well.

Analysis by the World Resources Institute indicates that taking into account a company’s broader societal strategies leads to a material shift of 4% to 7% in value when compared to standard financial analysis, Reed said. “If this analysis is unincorporated in shareholder value, then that is an investment opportunity. It means there is money on the table. There is value at stake for companies that understand these issues and can adapt them to their own business.”