What is the purpose of a corporation?
Today’s businesses thrive, not by making money out their customers but by serving their goals and interests. Our role as investment managers is to encourage companies to act for the widest possible social benefit.
All investment strategies have the potential for profit and loss, capital is at risk. Past performance is not a guide to future returns.
The fact that companies exist in the form we recognise today has led us to overlook an important question: how and why did they come to be? What is the purpose of a company?
Companies, or corporations, began as collective entities intended to attract resources or people to realise a desired social objective beyond the resources of an individual. Thus the concept of corporation is wrapped up in the idea of community, where people are drawn together in the pursuit of a common purpose. The strength of any company lies in the sense of community formed by the people who have been drawn to work for it, and the position it occupies in its ecosystem.
The passing of time has seen the purpose of a company evolve. It is the University of Chicago economist Milton Friedman, who is considered the founding father of shareholder primacy or shareholder capitalism. This has generally been interpreted to mean corporate executives’ only responsibility is to increase profits for the owners. But focusing solely on profit maximisation has resulted in short termism and limited regard for the externalities of existence and operation. Over a long time horizon the idea of shareholder capitalism is not necessarily at odds with the broader stakeholder group, if you believe that the needs of all stakeholders line up. Friedman ultimately believed companies should answer to their owners. But if the average time horizon of your owners is less than a year, it is obvious why shareholder capitalism has become synonymous with short term profit maximisation at the expense of anything else.
So how did we get to shareholder capitalism? Well ironically, through various failures regarding stakeholder capitalism. While stakeholder capitalism is a term which has been on the rise most recently, it is not a new concept. It was first launched in the 1932 management book The Modern Corporation, and Private Property by Adolf A. Berle and Gardiner C. Means. The idea was that public firms should be run to balance the needs of all stakeholders. But as more and more firms implemented the concept, the need to keep balancing the often conflicting claims of stakeholders led to mass confusion. What emerged were ‘garbage can organisations’ that did not have a common purpose and simply could not make up their minds. The company’s stakeholder priorities were not clear to anybody, not even themselves. In this context, the appeal of shareholder capitalism was its simplicity, and common purpose.
In recent years stakeholder capitalism has begun to emerge once more. Some believe it to be the only lens through which to consider climate change, improved management pay, or better treatment of employees. However, the challenge remains that defining the purpose of a company as 'balancing the needs of all stakeholders' provides limited guidance on what should be prioritised when making a given decision. It is certainly true that you cannot place the needs of one stakeholder ahead of another for any length of time, but trade-offs are necessary in the short run for anything to be achieved.
What if there was an alternative idea, maybe even a better idea? Customer capitalism. Again this is not a new idea. As Peter Drucker stated in his 1954 book The Practice of Management, "there is only one valid purpose of a corporation, to create a customer". The most successful companies of today are those that understand that the true purpose of a corporation is to create value for customers. People creating more value for other people. Making money is the result of delivering on the company's purpose of delivering value to customers rather than the starting goal. Generating value for customers is the foundation for generating benefits for all stakeholders, not the other way round. Customer capitalism is not a quick fix solution which means management teams don’t need to consider profitability, sustainability, diversity etc. What makes it powerful is that it entails a mindset shift. It is not just an alternative way to 'measure' success. Power has shifted from the corporation to the customer – they expect value, ease of use, personalisation, flexibility and increasingly from brands who care. Firms can no longer create value. Value is in the mind of the customer.
Perhaps attempting to define 'capitalism' is unhelpful. Most powerful would be a mindset shift from both shareholders and companies from short-term to long-term thinking. However, at least focusing on the customer pushes companies to think for the longer term as customer needs, expectations and demands are constantly evolving, and many will take their custom elsewhere if they do not like what they see or receive. Ultimately, this is not about focusing on a single mantra and holding it too tightly. It is about defining purpose in a more holistic manner, looking beyond the boundaries of any individual company, where profit is the consequence of success rather than the only objective.
Identified then integrated
Stakeholder capitalism is strongly connected to the idea that what gets measured gets managed: carbon footprints, board composition, management pay. Done correctly, measurement can be beneficial, but specifically on topics such as sustainability or climate change, the parameters are often set externally and are not necessarily applicable to all companies. External oversight is positive, but this approach encourages bounded rationality with both companies and investors making judgements and decisions based on the information they have, which may be sub optimal or incomplete, rather than the information that is most relevant.
There is an irony that stakeholder capitalism talks about the concept of balancing the needs of all stakeholders and yet manifests itself in the narrow framing of asking companies to report data like their emissions, without considering emissions saved or consumer behaviour changed. We need to move towards an approach of what gets identified gets integrated. Shifting from a linear mindset to a systems lens, identifying those areas, challenges, opportunities, and metrics that really matter, then integrating them into operations, thinking and decision making. Unless a company can face challenges like climate change in a way that is bespoke and relevant then it will not truly address them. Its role and 'impact' will be limited.
Systems thinking tells us we need to adopt the boundaries most appropriate to the questions we are asking. This is the only way that problems are solved well. Thus, we must spend disproportionately more time considering ways in which a given company can help address sustainability problems and open up conversations on these topics, rather simply asking what its emission are. Disclosures are part of the puzzle. They are not the complete picture.
So how do we move toward what gets identified gets integrated? We start with those who can make it integral and look to mobilise their position of influence.
Leave only fingerprints
The idea of customer capitalism has brought with it a new operating business model: the ecosystem. This is a structure where companies are forced to look beyond their boundaries, where purpose is clear, and everyone pulls together. Shopify must consider not just its employees, but its merchants and their customers, alongside service partners. Twilio must hold not only its own developers in high respect, but also its customers' developers who innovate and develop on the platform, creating new business opportunities for Twilio in future. We are moving to a model which is less about supply chains and more about networks, working together rather than dictating, listening to feedback, and responding; value defined by the customer. Where the companies of the noughties were about 'walled gardens', secretive product development and leading the customer, ecosystem firms are about openness, collaboration and following the needs of the customer. These companies recognise they are a constituent of the ecosystem, a powerful constituent, but a constituent nonetheless. Consequently, the consideration of the broader stakeholder group is necessary to thrive.
Just as we prefer to think of companies as participants in complex and interconnected networks, we as members of the asset management community, must consider ourselves the same way. We are part of the ecosystem. Bad actors in the ecosystem don't cease to exist, at least in the short run, because we don't invest in them. For our industry to have an impact on the world beyond just reallocating ownership, we need to mobilise the influencers who can drive change beyond their own boundaries, alongside the innovators.
We have the power to be a positive influence, but we have to wield that power effectively. We too must consider the ecosystem. Not in the form of diktats or increasing bureaucracy, but through thoughtful conversations. The buzz word of the moment is 'footprint', carbon or otherwise. But unless we view ourselves as part of the ecosystem, we risk simply stamping our footprints all over the place, causing more harm than good. In pursuing this agenda rather than considering the broader ecosystem, we risk crushing the force for good which we believe in the most: innovation.
Humans create artificial boundaries: the role of a company is x, asset managers should do y. We need to redefine those boundaries. This is not about ignoring the challenges but is a call to approach the problem differently. Just because the influence of Shopify or Affirm to fundamentally change the behaviour of merchants is harder to measure than the role of a wind turbine manufacturer in reducing emissions, we should not simply assume their role is smaller. Given the reach of Shopify and Affirm into businesses, their opportunity to influence emission reduction is larger. Such an argument goes far beyond emissions and touches the sustainability of businesses more generally. Whether that be through positively influencing consumer behaviour, raising standards on diversity, or driving long term capital allocation decisions to be the norm. The ecosystem business structure delivers influence simply by its existence. The more powerful lever comes from its deliberate use.
As fund managers, we must be content to leave only fingerprints. Recognising our role as starting a multiplier. We leave fingerprints which enable handprints, which drive footprints. Our greatest potential role is a mobiliser of those companies that can change industries through influence, those whose 'handprints' can drive deeper change: Shopify, Tesla, Pinterest, Affirm, Amazon, to name a few. We must focus our attention on the points of maximum leverage, rather than engaging with all companies equally. We should not limit ourselves to requesting reporting metrics or minimum standards.
Seeing our role as an enabler allows us to engage businesses in constructive conversations about their approach to purpose and sustainability encouraging them to take a bespoke approach. This moves them closer to the fundamental reason why corporations were established in the first place. Reporting and metrics will undoubtedly be a part of the process, but they are not our end goal. They are not success. They may be thought of as waypoints. We should encourage our companies to take a new path, paving it as they see fit. We can provide guidance, support, help and even direction, but not the roadmap.
Under this model it is not easy or possible to measure our role. Our fingerprints may be faint. But our conversations and the subsequent actions show they are there. These influencer businesses can have a huge hand in driving change across industries, supply chains and in changing consumer behaviour and ultimately reducing footprints.
Our role as a provider of capital is to help companies succeed. Success has never happened in a vacuum. Success has always required multiple players. We look to encourage companies to leverage their position in the global ecosystem rather than filling out 'homework'.
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