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‘Stakeholder capitalism’ is not a new concept: far from it. The extent to which a company should balance the interests of shareholders with those of its other ‘stakeholders’ has been under debate for decades. Throughout this time, the pendulum has swung back and forth between the two alternative approaches – the ‘shareholder primacy’ model and the stakeholder-focused model – as the prevailing political wind has shifted.
In recent years, momentum has been gradually building behind the stakeholder-focused approach.
In August 2019, CEOs from 181 of the world’s largest companies signed up to Business Roundtable’s ‘Statement on the Purpose of A Corporation’, stating that “while each of our individual companies serves its own corporate purpose, we share a fundamental commitment to all of our stakeholders”. This replaced a previous statement of 1997 which held that “principal objective of a business enterprise is to generate economic returns to its owners”, reflecting the strength of the shareholder primacy model in the late 1990s.
More recently, in January 2020, the World Economic Forum’s ‘Davos Manifesto 2020’ put customers, suppliers, employees and communities at the heart of its call for a “better kind of capitalism”.
Then along came Covid-19
The impact of the global coronavirus pandemic has been dramatic and disheartening. Coupled with the public health ramifications of the virus are the profound economic consequences of the response to it. What is not yet clear is how the crisis will reshape society in the longer term and, in particular, whether the pandemic will accelerate the existing shift towards a more stakeholder-driven corporate governance culture.
What do we really mean by ‘stakeholder capitalism’?
At its essence, ‘stakeholder capitalism’ is a corporate governance theory concerned with the interests of a wider group of ‘stakeholders’ than just a company’s shareholders. There is no widely accepted definition of ‘stakeholders’, but it is usually taken to encompass employees, customers, suppliers, creditors, the community and the environment.
The purest form of the stakeholder model requires companies to focus equally on the interests of these stakeholders as it does on those of its shareholders. At the opposite end of the spectrum is the ‘shareholder primacy’ model, which holds that a company is required to focus only on the creation of value for shareholders.
In between these two poles lies a middle ground, often known as ‘enlightened shareholder value’. This maintains that, whilst the overarching aim of a business is the long-term (as opposed to short-term) maximisation of shareholder returns, companies must ‘have regard to’ other stakeholders. It is by no means settled what this means in practice.
‘Enlightened shareholder value’ is, in fact, already explicitly recognised in English law; company directors are required to “have regard (amongst other matters) to…the interests of the company’s employees…the need to foster the company’s business relationships with suppliers, customers and others…the impact of the company’s operations on the community and the environment”.
The GC100 (the voice of general counsel and company secretaries working in FTSE 100 companies) issued guidance on this in 2018, holding that the job of directors is “not to balance the interests of the company and those of other stakeholders. Instead, after weighing up all the relevant factors, ask yourself which course of action you consider best leads to the success of the company, having regard to the long term. This can sometimes mean that certain stakeholders are adversely affected.”
This illustrates the key difference between the middle ground of ‘enlightened shareholder value’ and the pure, unadulterated form of ‘stakeholder capitalism’: the former views stakeholder interests merely as a means to an end whereas the latter sees stakeholder interests as ends in themselves.
Stakeholder interests have therefore been a key tenet in corporate governance for many years, with companies asked to ‘tread softly’ in their march towards shareholder value.
However, pro-stakeholder commentators have criticised this soft approach for its lack of practical impact. Covid-19 could well turn out to be the catalyst for turning words into actions.
Impact of the Covid-19 pandemic
Supporters of this viewpoint to the global financial crisis of 2008/2009, and the slew of bank bailouts that were synonymous with it, as an instance of real change being forced on reluctant executives. It is possible to imagine the Covid-19 pandemic having a similar effect.
The response to the pandemic from governments across the world has been unprecedented. In the UK, the government support on offer involves state spending as a proportion of GDP rising to wartime levels. With its furlough scheme, the UK government has effectively stepped in as employer of last resort.
Arguably, there has never been greater focus on the interests of society’s stakeholders and there will be arguments made that this state support must come with strings attached. A more muscular form of stakeholder capitalism may be the quid pro quo for government intervention.
Theory versus practice
Yet, the question of how it can have a practical impact on corporate governance remains unanswered. Stakeholder capitalism has a bearing on corporate decision making: it encourages those executives making decisions to have regard (in varying degrees, depending on the interpretation of the theory) to stakeholders in making those decisions. However, it cannot reliably incentivise or compel those executives to look to stakeholder interests.
The inherent fragility of stakeholder capitalism as an incentive to change behaviour lies in the difficulty of measuring outcomes. It is straightforward to test how well a management team has looked after the interests of its shareholders: is the company is worth more? Determining the impact of corporate decisions on employees or the community is more elusive. Executive compensation schemes are necessarily focused on share prices as the only clear metric. Moreover, the interests of stakeholders will often conflict with those of shareholders. Any decision to pay suppliers more for their goods will increase costs, decrease profits and therefore reduce returns to shareholders. Faced with this conflict, executives are incentivised to look to shareholders.
Stakeholder capitalism is also not able to compel compliance, and, in any case, it is not clear how that would work in practice, given the complexity of much of corporate decision making and the need to balance (often competing) interests. Should managers be censured for not sufficiently considering its suppliers as part of a decision to close down a factory to which they supplied raw materials? Enforcing a breach of duty would be fraught with difficulty.
The interests of stakeholders are arguably better served by specific regulatory interventions in the field of employment, consumer protection and environmental law. Abolishing ‘zero hour’ contracts and shoring up the rights of contingent workers would go further in protecting employees than a softer duty on directors to consider their interests at board meetings.
Away from the field of corporate governance, it is the rise of social media that has arguably had the greatest impact on stakeholder influence. Customers, employees and suppliers are able to log on and tweet their displeasure. Companies have been forced into changing their behaviour after criticism has gone viral. Companies with healthy cash balances have come under criticism for furloughing staff and those availing themselves of government support have been pilloried for paying out dividends.
Corporate governance, at its root, is about how to best hold corporate decision makers to account. Stakeholder capitalism is helpful in signalling culture and values, and may lead to change amongst more enlightened businesses, but it does not by itself have the capacity to change corporate behaviour wholesale.
Many have long hoped for stakeholder capitalism to evolve beyond mission statements, for principles to become practice. It is likely that the Covid-19 pandemic will lead to an acceleration in the existing trend towards focusing more explicitly on stakeholder interests, particularly given the increased ability to ‘name and shame’ businesses behaving badly. Companies may feel more pressure, from both external and internal sources, to treat stakeholders equitably.
However, if there is to be a real, practical and legally enforceable impact on stakeholder rights, then specific regulatory interventions in the fields of employment law, environmental law and other relevant areas will be required on the part of policymakers.
Edward is a lawyer in the Corporate & Commercial team at Harbottle & Lewis where his focus is on assisting entrepreneurs, businesses, private equity houses and venture capital investors active in the technology, media, entertainment and financial services sectors.