Diminishing trust in capitalist corporations
4 min read . Updated: 30 Apr 2018, 12:12 PM IST
PremiumIndependent directors will remain caught between a rock and a hard place if the principal purpose of corporations remains the production of shareholder value
Mark Zuckerberg, chief executive officer (CEO) of Facebook, the iconic builder of a mammoth social media platform, and one of the youngest multi-billionaires in the world, contritely said to the US Congress recently: “We didn’t take a broad enough view of our responsibility, and that was a big mistake." He went on to say, “In the past, many of my colleagues have been willing to defer to tech companies’ efforts to regulate themselves, this may be changing".
The banking sector in India is under scrutiny. First, a large fraud in a public sector bank (PSB) led to demands to privatize PSBs, with the expectation that it will improve governance. Then, an embarrassing slip appeared in the governance of India’s second largest private sector bank involving its CEO. Earlier there were concerns about governance at an iconic software company, as well as an ongoing imbroglio of poor governance with alleged fraud in a large private sector healthcare conglomerate.
Converting government-owned companies into privately-owned ones may improve their financial performance, but it will not solve the problem of declining trust in the private sector itself. The Edelman Trust Barometer, a global survey of citizens’ confidence in institutions and leaders, has reported declining public trust in corporate leaders over the past decade. The corporate sector does not seem to have taken public concerns seriously. Demands for more regulation are resisted. Regulation will dampen innovation and growth, corporate leaders say. They say it is best to leave it to the private sector to regulate itself. Zuckerberg’s call for corporations to accept their broader responsibilities to society, and admission that self-regulation has been inadequate, opens up the debate about how corporations can regulate themselves.
Whenever there is a corporate scandal, people ask, “What were the independent directors doing?" There is an excessive reliance on independent directors to ensure good governance. There is also confusion about their role. Promoters and shareholders want independent directors who have useful domain knowledge, and/or functional skills, which will improve the performance of the company by supplementing the capabilities of the internal management. They are also expected to protect the interests of small and minority shareholders. Thus, while they may be “independent" of the promoters, they must be an integral part of the company’s drive to create more shareholder value.
What society wants is corporations should ensure that the broader interests of society are protected. Did Facebook have independent directors on its board who were expected to point out that Facebook had a responsibility to make sure it protected the privacy of its users? And if there were such independent directors, what were they doing? For independent directors to be watchdogs of citizens’ interests, they must be individuals with more than skills to help companies to improve shareholder value. They must be sensitive to societal needs. Also, they must be courageous to prevent the company from earning profits if its actions will harm society.
Independent directors will remain caught between a rock and a hard place if the principal purpose of corporations remains the production of shareholder value. Laurence D. Fink, founder and chief executive of the world’s largest investment firm, BlackRock, which manages more than $6 trillion in investments, has written to the leaders of all the firms BlackRock is invested in. He says their companies need to do more than make profits—they need to contribute to society as well if they want to receive the support of BlackRock.
Societal pressures caused by awareness of increasing inequalities of incomes and wealth and effects of environmental degradation are changing paradigms of corporate governance.
Go-go shareholder capitalism, supported by the ideology that the business of business must be only business (and that greed is good) reached a peak in the noughties. The global financial crisis exposed social and political cracks beneath the glitter. The wealthy urged each other to give away to philanthropy. New concepts of impact-investing and social enterprises have emerged. Shareholder capitalism is shifting towards stakeholder capitalism.
The shift in expectations of the role corporations must play in societies requires re-engineering of corporate governance structures. Changing structures of the board alone, with more independent directors and separation of the roles of chairman and CEO, will not be enough. Accounts of corporate performance must also change. At present the performance of CEOs (and boards) is measured and celebrated by the shareholder wealth they produce. Whereas societally responsible corporations should be measured and ranked by the social benefits they create. And annual meetings of shareholders to discuss corporate financial performance should be supplemented with annual meetings of stakeholders to review corporate societal performance.
Robust scorecards are required to judge how corporations perform with respect to their broad social responsibilities that Zuckerberg and Fink have alluded to. Spending a small portion of their profits on corporate social responsibility, which has become the legal concept of fulfilling business responsibility in India, is too weak. Hypothetically, would it be acceptable if Facebook were to donate to a thousand orphanages with profits made by selling the personal information of billions of its users to advertisers?
Several frameworks have been developed for corporations to voluntarily report their business responsibility: The Global Reporting Initiative, principles for responsible investment and the National Voluntary Guidelines in India, etc. Competition amongst them is causing confusion. And they are not mandatory. Business associations are unable to ensure compliance by their members. Governments will have to get into the act to enforce a common framework, which should be developed with participation of business associations and civil society organizations.
Citizens want responsible corporations that serve societal needs, regardless of who their owners are—the state or private investors. Politicians and governments must earn the people’s trust. And business corporations must too. They have work to do to earn it.
Arun Maira was a member of the erstwhile Planning Commission.
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