Ethics, Social Responsibility & Financial Performance

Michael Park, ACIS

Contents1. Introduction

• Two Opposing Views• Goals of Presentation

2. A Brief History*3. What is C.S.R.?4. Ethics*5. Financial Performance6. Comparisons7. Organizing for C.S.P.8. Conclusion* and Readings

Goals1. To describe those criteria by which corporations may

evaluate ethical practice, social responsibility and financial performance.

2. To examine the relative impacts of C.S.P. on C.F.P.3. To recommend additional readings on the topic.

One of the reasons for the current financial crisis.

“We conclude that there had been a systemic breakdown in accountability and ethics”

~ Financial Crisis Inquiry Report 2011

ORMilton Friedman

A corporation’s social responsibility is to make a profit.

Consider this…1. The world population will double itself to 11b in the

next 40 years.2. To accommodate both economy AND population

growths, production and energy consultation will increase 5 to 30x’s the current levels.

3. Corporations are – and will remain – the main engines of development.

4. For sustainable development to succeed, corporations must become ecologically sustainable.

Human Disasters have encouraged a more intense interest in C.S.R.

• Minamata Mercury poisoning in Japan• Love Canal Toxic Waste Crisis• Union Carbide pesticide plant accident in Bhopal• Chernobyl nuclear power plant accident• Exxon Valdez oil spill

A Brief HistoryUS – Menniger Foundation (Harry Levinson) 1950’s

UK – Ackerman 1960’s

US – Milton Friedman 1962

SA – 1960’s; 1970’s

Treadway Commission – 1987’s – Management’s responsibility for financial responsibility and internal controls

US – 1990’s President Clinton - Summit on America’s future

US – 1991 – US Federal Sentencing Guidelines to corporations re: formal ethics program

UK – 1990’s PM Tony Blair’s emphasis on C.S.R.

Specifically the concern of these initiatives revolved around the impact of business on:

its employeesthe environmentevidence of fair dealing with suppliersthe reputation of those who manage and govern the business

By:• Politicians (local, national)• Community (Activists)• Investors• Media• Regulators

3. What is C.S.R.

The overall relationship of the corporation to all its stakeholders.

Elements of C.S.R.1. Fair dealing / Transparency2. Appropriate Compensation3. Respect for the environment4. Respect for Human Rights5. Respect for local laws6. Respect for O.H. & S7. Anti-corruption8. Supports to local community

• local investment in S.S.• local investment in business• local investment in education

C.S.R. has evolved:• Economic responsibilities• Legal responsibilities• Ethical responsibilities• Philanthropic responsibilities

Reasons C.S.R. is linked to Corporate Performance

Consumer demand for C.S.R.Consumer aversion to corporate irresponsibilityReputation effectEffect on employeesGovernment demand for C.S.R.

What reactions we might expect from Corporations to C.S.R.

• Reactive• Defensive• Accommodative• Proactive

Rating Strategy / Posture Performance

Reactive Deny responsibility Doing less than required

Defensive Admit responsibility but fight it

Doing the least required

Accommodative Accept responsibility Doing all required

Proactive Anticipate Do more than required

Consider a range of 5 approaches to C.S.R.

Fundamentalism:• Rejects corporate personhood• Corporations cannot have responsibility• Corporations exist only to provide profits to shareholders• C.S.R. is another form of taxation

Self Interest:• A variant on fundamentalist philosophy• May be a “self-interest” motive where a corporation may benefit from being socially responsible

Social Contract:• Corporation has an implicit agreement with society which evolves as social values change• A “contract” with society places certain constraints on business or it would tend to excess

Stakeholder Management:• A variant on social contract• Identifies specific constituencies with which a corporation interacts and to which it owes a responsibility

Stewardship:• Corporation has a duty to serve social needs and to interact with society in a morally virtuous way

Approaches to Social ResponsibilityCorporation a social actor?

What is Social Responsibility?

Motivation to accommodate Social

ResponsibilityFundamentalism No Doesn’t exist None. The business of

business is profits.

Self-interest No Legal / contractual responsibility

It may contribute to profit.

Social Contract Theory

Yes Corp. response to social values & rules of behaviour.

Corp. needs to accommodate societal demands.

Stakeholder Management

Yes Management of relationships with stakeholders.

Corporation needs to accommodate stakeholder demands.

Stewardship Yes Corporation’s contribution to a better world.

It’s the right thing to do.

Social Auditing• Employee welfare• Working conditions• Job design• Environmental issues• Markets and marketing• Suppliers• Community Activity

Which leads to: C.S.R. & G.R.I.• Environment• Equity of Opportunity• Human Rights – Working Conditions• Community Involvement• Products• Transparency• Legality

Environment• Pollution control• Product improvement• Repair of the environment• Recycling• Disclosures (e.g. I.S.O. involvement)• Expectations of suppliers

Equity of Opportunity• Minority employment (and within hierarchy)• Local employment opportunities• Employment of women (and within hierarchy)• Pay equity• Training• Human Rights legislation

Health & Safety• O.H. & S.• Training• Displacement• Benefits• Regulations

Community Involvement• Support for public health• Support for Education and the Arts• Community Activities

Products• Use of suppliers and expectations for fair dealing• Quality Improvement (I.S.O.)• Contracting out• Safety regulations prior to bringing product to market

Transparency• Boards E.D. vs. N.E.D.• Minorities / Women within the hierarchy• Role of N.E.D.s

• Compensation• Risk Management• Audit Committee• Nominations

• Shareholder activism and Corporate response• Consultation with stakeholders on matters of material

interest• Whistleblower policies

Legal• O.H. & S. Regulations• Shareholder Rights• Environmental• Anti-corruption• Financial disclosure

Issues in Canada• Voluntary disclosure• Inconsistent categories• No index for reporting C.S.R. performance• Reporting through A.G.M. / Annual Report

4. Ethics may be defined as:a) A set of principles of right conductb) A theory or a system of moral

values

Guided by:• Values of individuals• Corporate culture• Codes of Conduct• Whistleblower provisions• Social norms and expectations

Like C.S.R., ethical constraints are determined by:• Shareholder activism• Role of Institutional Shareholders• Stakeholder Involvement in Governance through

Independent Committees• Stakeholder Involvement in such Q.I./Risk

Management provisions such as ISO

Scope of Business Ethics – N.Am. Perspective

U.S.• Glass – Stegall• Sarbanes Oxley (Whistleblower provisions)• Dodd-Frank (Whistleblower provisions)• Schumer’s Shareholder Bill of Rights

Canada• NP 58-201 (3.8) – Code of Conduct• NI 58-101F (5) – Written code and statement of compliance• TSX Guidelines (1) – The integrity of internal control &

management information system• ICSA Whistleblower Guidelines

A tool which has been promoted (based on the Fortune magazine reputational survey) is:

Social and Ethical Accounting, Auditing and Reporting

(SEAAR)

Use of SEAAR has prompted:• A rapid expansion of the social and environmentally

resp. investment movement (resp. invested assets increased from $639b in 1995 to 1.185 trillion in 1997)

5. Financial Performance Considers:

1. Profitability2. Growth3. Risk Management Measures4. Ownership5. Diversification6. Leverage

Profitabilityreturn on equityreturn on salesreturn on assets (net income / sales)

Growthsize liquidity

Risk/Management Measuresshare pricemarket sharedividends / share

Ownership% local% institutional

Executive: employee compensation

Diversificationacquisition expenditures / revenuesR & D Expenditures / sales

LeverageLT debt / equity

debt / net income debt / assets assets / equity

Consider also:

Excess market valuation (E.V.) (the difference between total firm market value and the book value of assets, normalized by sales)

E.V. = Market Value of Equity and Book Value of Debt – Total Assets

____________________________________________________________________________________________________________

Sales

6. Comparisons

Fortune Magazine’s IndicatorsOverall index of Corporate Reputation

• Quality of management• Quality of product/service• Ability to keep and attract talent• Financial soundness• Asset use• Long term investment value• Innovation• Responsibility to the community or environment

KLD measure of CS Performance(Kinder, Lyenberg, Domini)

• Year to year assessments of S & Ps’ 500 firms.• KLD is an independent rating firm that is in the

business of developing social performance ratings for interested businesses and investor communities.

KLD Ratings• Community impact• Diversity• Employee relationships• Product safety• Ecological (environment) performance

Compared to investor decisions to invest in the companies

Conclusion of both rating schemes for 893 firms between 1990 and 1993

1. Direct correlation between quality management and financial performance.(Where quality management demonstrates concern for employees, respect for diversity in the workplace, safe products, respect for environment.)

2. Direct correlation between sound community relations and financial performance.

The Corporation’s Social Performance / Corporation’s Financial Performance Debate

from Jennifer Griffin & John Mahon, 1997

They compared the performance for 7 major corporations comparing Social Performance and Financial

Performance between 1990 and 1992

Companies were:

• Dow Chemical• Dupont• Monsanto• PPG• Occidental Petroleum• WR Grace• Union Carbide

Consider also:

Reputation• Perception by community, stakeholders

Corporate Philanthropy• Giving

Toxic Release Inventory• Release of materials into the environment:

• Air• Landfills• Chemical release

Consider - 1990 Corporate Financial and Social Performance Matrix

High Low

Social Performance

HighDow ChemicalDupontMonsanto

LowPPGOccidnetal Petroleum

Union CarbideW.R. Grace

Financial Performance

Consider - 1992 Corporate Financial & Social Performance Matrix

Corporate Social

Performance

High Low

HighDow ChemicalMonsanto

Dupont

MidPPG W.R. Grace

LowOccidentalPetroleum

Union Carbide

Corporate Financial Performance

This shift:• suggests corporate leadership has recognized the

importance of C.S.R. and environmentally friendly policies

• And that Corporate leadership is concerned about the opinion of its key (institutional) investors

7. Organizing for Ethics, C.S.R. and Financial Performance

• Use of Independent Directors• Reporting directly to A.G.M.• Meet Independent of Management• Ensure internal controls, risk and quality audits• Clear reporting separate from Annual Report• Use outside consultants as needed, paid by the

Corporation

C.S.P. Report CardEmployee Support• Performance Appraisal• Job Description• Training and development• Retirement and termination

counseling• Redundancies and program

closings• Stress management• Mental health status• Absenteeism and turnover

• Health and safety• Employment equity and

discrimination• Executive compensation• Employee compensation• Gender equity in leadership• Occupational Health and

Safety record

Ethical Practice• Code of conduct• Privacy code• Conflict of Interest Policy• Policy guiding stakeholder

involvement in:• Decision-making• Planning• Policy development

• Shareholder Bill of Rights• Non-compliance disclosure

Transparency/Community Relations• Reporting on quality

benchmarks• Reporting on risk

management• Community relations• Stewardship practices

• Environment• Community engagement• Development of Social

Capital

Environmental Impact• Energy conservation

practices• Supplier certification for 150

14000• Waste management

practices• Re-investment in landscape

Governance• Board evaluation• Board development• Interaction with

shareholders• Recruitment practices• Definition of “independence”• Independence of

management

8. To Conclude

1. Political correctness and feel-good management fads are no substitute for honesty, fairness and respect for the law.

2. Commitment to C.S.P. goes well beyond the shareholder value concept.

As Fürstenberg (a Berlin banker of the 1920’s) said: Shareholders are stupid because

they give money and arrogantbecause they want dividends.

3. Companies do not act independently from the societies in which they operate… Attending to legitimate social concerns should, in the long run, benefit all parties including investors.

Readings

Alexander & Buchholz 1978 “CSR & Stock Market Performance”Academy of Management Journal22(3):501-15

Arlow & Gannon 1982 “Social Responsiveness, Corporate Structure & Economic Performance”Academy of Management Review7(2):235-41

Brown & Perry 1994 “Removing the Financial Performance Halo ` for Fortune’s Most Admired Companies”

Academy Management Journal37(4):1349-59

“Profit Whatever the Cost? The Debate Intensifies on Making Money Against Making Employees”

Boston Globe, April 21, 1996

Clarkson, M.B.E. “A Stakeholder Framework for Analyzing and Evaluating C.S.R.” Academy of Management Review, 1995, 26(1) pp 92-

117

Griffin, J.J. & Mahon, J.F. “The Corporate Social Performance and Corporate Financial Performance Debate” Business &

Society, 36(1), March 1997 pp 5-31

Klonoski, R.J. “Foundational Considerations in the C.S.R. Debate”Business Horizons, Jul/Aug 1991, pp 9-18

Roman, R.M. & Agle, B.R. “The Relationship between Society and Financial Performance” Business & Society, March

1999, 38(1), pp 109-125

Schacter, M. “Altruism, Opportunism and Points in between: Trends and Practices in C.S.R.” Institute on Governance,

May 2000http://www.iog.ca pp 1-45

Shrivastava, P. “Industrial/Environmental Crises and C.S.R.”J. Socio-Economics, 1995, 24(1), 1211