When CEOs at Amazon, Apple, UPS, Wal-Mart, and nearly 200 of the world’s largest companies agree on the same long-term strategy for success, it deserves attention. The Business Roundtable is a group of top executives working to promote a thriving economy through public policy. One of the group’s foundational tasks is to question how and why corporations should operate.
For more than 40 years, the Business Roundtable’s answer was simple: corporations should exist to return profits to shareholders.
Responding to a perceived cultural zeitgeist that favors “an economy that serves all Americans,” this summer the Business Roundtable broadened that purpose. According to the CEOs of the Business Roundtable, the purpose of a corporation should no longer fixate on the shareholder, but should encourage a free-market system that generates good jobs, a strong and sustainable economy, innovation, a healthy environment, and economic opportunity for all.
In its 300-word statement, the word “shareholder” doesn’t appear for 250 words.
High-minded ideas, for certain. But when the chief justice of the Delaware Supreme Court concludes that Delaware law requires that a Delaware corporation must operate for its shareholders foremost, perhaps the blue-ribbon CEOs should have given their statement more rigor by addressing the conflict, which engagement we believe could produce better governance.
As Chief Justice Leo E. Strine Jr. explains, the Business Roundtable’s approach is potentially problematic because current laws that define the duties of directors arose from a time when shareholder primacy dominated the boardroom. Over the past 50 years, courts have generally considered directors to be acting in the corporations’ best interest when they maximized shareholder profit. See, for example, eBay Domestic Holdings Inc., v. Newmark, 16 A.3d 1, 34 (Del. Ch. 2010).
Could the Business Roundtable’s shift away from shareholder primacy to stakeholders be reconciled with the legal duties directors owe to shareholders? Probably. State case law and statutes generally impose two duties on directors. The duty of loyalty that requires directors to act in the best interest of the corporation by foregoing personal interests to its detriment, and the duty of care that demands directors to make reasonable and informed business judgements.
If shareholders challenge the legality of environmental, social, or governance initiatives, otherwise known as ESG, the question would be whether the directors reasonably acted in the best interest of the corporation.
Even if the law continues to recognize shareholder primacy as the driving force behind a director’s duty, ESG and other stakeholder-focused initiatives have been proven to intrinsically promote durable earnings and risk management. The key to legally implementing the Business Roundtable’s corporate purpose is therefore tying the stakeholder to profit.
Fulfilling the Duty
Luckily, corporations who have experimented with a stakeholder-oriented purpose have demonstrated ways for directors to get shareholders onboard.
The first step is to publish a tailored statement of purpose that communicates the company’s goals. Companies should zero in on the material issues that have an impact on their specific company’s performance. To help companies identify relevant ESG issues, the Sustainability Accounting Standards Board created a Materiality Map, which can guide companies when creating or renewing their statements of purpose.
The statement should inform shareholders and society of how and when the company intends to fulfill its purpose, as well as engage shareholders, investors, and society by acting as a tool to measure board effectiveness. The statement of purpose also gives boards the opportunity to shape the perception of their own legal duties by clearly articulating the criteria that the board will use to make future decisions.
Next, the board must tie profit to its stakeholder-based approach to ensure that it is fulfilling its legal duty to shareholders. In 2016, the Bank of America communicated the value of ESG by publishing a report that showed companies ranking highest in ESG criteria tended to have consistently lower future stock price volatility and higher average subsequent returns on total equity.
The Bank of America tied profit to the stakeholder approach by demonstrating that 90 percent of millennial investors engaged or wanted to engage in “impact investing” and that millennials could drive $15-20 trillion into ESG investments over the next two to three decades.
The Business Roundtable justifies the short-term cost of ESG by emphasizing long-term value. In its press release announcing the new principles, Jamie Dimon, the chairman and CEO of JPMorgan Chase, stated that, “major employers are investing in their workers and communities because they know it is the only way to be successful over the long term.”
To allay shareholder concerns, however, boards must give this statement teeth. One way to do this is to take advantage of recent developments in ESG data analysis and reporting. Both provide baselines to compare performance and demonstrate the rapid growth in investments.
Approached thoughtfully, the Business Roundtable’s new focus on stakeholders does not require directors to disregard their legal duties owed to shareholders. The end goal of profit remains the same, only the path of achieving it has changed.
Indeed, recent research may suggest that adopting a broadened corporate purpose may benefit shareholders in addition to other stakeholders.
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.
Tod Northman is a partner at Tucker Ellis LLP. He has 25 years of business and corporate law experience in corporate organization and governance, business transactions, artificial intelligence technology, contract negotiation and dispute resolution. Northman heads Tucker Ellis’s Conscious Capitalism working group, regularly counsels businesses considering B Lab certification and has been active in helping draft Ohio’s benefit corporation statute (as yet unadopted).
Savannah Fox is an associate at Tucker Ellis LLP. She maintains a diverse practice which includes corporate, business litigation and employment matters. Fox developed her client-focused approach and positive attitude while working on corporate sponsorship and marketing contracts for a professional sports league.