“Unnerved by fundamental economic changes and the failure of government to provide lasting solutions, society is increasingly looking to companies, both public and private, to address pressing social and economic issues. These issues range from protecting the environment to retirement to gender and racial inequality, among others. Fueled in part by social media, public pressures on corporations build faster and reach further than ever before. In addition to these pressures, companies must navigate the complexities of a late-cycle financial environment – including increased volatility – which can create incentives to maximize short-term returns at the expense of long-term growth.”

Under the theory of shareholder primacy, “Milton Friedman says businesses should only make money and I just disagree with that….You’ve got to serve customers. You’ve got to make money, because that’s one of the things you get paid to do. But you’ve also got to create jobs and improve our communities….The shareholder thing, I think that’s completely crap, to be honest. The noisiest ones are the ones who are in and out; they’re trading all the time, and you just have to ignore them….You don’t get paid to run a business to take orders, you get paid to run a company.”

“In current corporate law scholarship, there is a tendency among those who believe that corporations should be more socially responsible to avoid the more difficult and important task of advocating for externality regulation of corporations in a globalizing economy and encouraging institutional investors to exercise their power as stockholders responsibly. Instead, these advocates for corporate social responsibility pretend that directors do not have to make stockholder welfare the sole end of corporate governance within the limits of their legal discretion, under the law of the most important American jurisdiction – Delaware.7 I say stockholder welfare for a reason. To the extent that these commentators argue that directors are generally empowered to manage the corporation in a way that is not dictated by what will best maximize the corporation’s current stock price, they are correct.8 But their claim, as I understand it, is a more fundamental one: they contend that directors may subordinate what they believe is best for stockholder welfare to other interests, such as those of the company’s workers or society generally. That is, they do not argue simply that directors may choose to forsake a higher short-term profit if they believe that course of action will best advance the interests of stockholders in the long run. Rather, these commentators argue that directors have no legal obligation to make—within the constraints of other positive law—the promotion of stockholder welfare their end. According to these commentators, if only corporate directors recognized that the stockholders are just one of many ends they can legally pursue, the world would be a better place….

Despite attempts to muddy the doctrinal waters, a clear-eyed look at the law of corporations in Delaware reveals that, within the limits of their discretion, directors must make stockholder welfare their sole end, and that other interests may be taken into consideration only as a means of promoting stockholder welfare.”

In this new paper from the Rock Center for Corporate Governance at Stanford, “Stakeholders and Shareholders: Are Executives Really ‘Penny Wise and Pound Foolish’ About ESG?,” the authors examined survey data from CEOs and CFOs of companies in the S&P 1500 to understand the extent to which the respondents believed that, in business planning and long-term strategy development, they took into account and attributed importance to the needs of non-investor stakeholders, such as employees, unions, customers, suppliers, local communities, government and regulatory agencies and the public at large.

The authors observed that many critics question the shareholder primacy model—the idea championed by Milton Friedman that the primary purpose of corporations is to maximize value for shareholders—on the basis that it leads to short-termism at the expense of investment “for the long-term sustainability of the company and overlooks costs created by the company’s activities that are borne by society (externalities). These critics argue that greater attention should be paid to the interests of non-investor stakeholders and that by investing in initiatives and programs to promote the interests of these groups, the corporation will create long-term value that is larger, more sustainable, and more equitably shared among investors and society.” The pressure to incorporate other stakeholder interests comes from a variety of sources: the substantial increases in ESG-focused investment funds, which totalled over $12 trillion by 2018; increases in the number of ESG-related proxy proposals; the shift of institutional investors from passive positions on ESG issues to open and active advocacy; the increased availability of ESG metrics, often used for investment decisions; and employee activism.

The question raised in the paper is whether this criticism about shareholder primacy might just be based on false assumptions—perhaps executives are already considering the long term and already incorporating the interests of other constituencies in a reasonable manner: “Are executives really as ‘penny wise and pound foolish’ as critics assume?”

The authors surveyed over 200 CEOs and CFOs of companies in the S&P 1500 to get a better handle on the importance of non-shareholder constituencies in corporate planning. The authors concluded that “companies do not adopt a shareholder-centric governance model that is as extreme as current critics suggest[], that many companies pay significant consideration to stakeholder interests, particularly those of their employee base, and that most do not agree with the prevailing assumption that addressing stakeholder concerns requires an economic tradeoff between the short and long terms.”

In particular, the survey found:

  • 89% thought it was important (27%) or very important (62%) to take the interests of other stakeholders into account in business planning—only 3% said that other stakeholder interests were only slightly or not at all important;
  • 77% did not view shareholder interests as significantly more important than those of other stakeholders (40% viewed as in parity);
  • 96% were satisfied (48%) or somewhat satisfied (48%) with how well their companies addressed the interests of their most important stakeholders;
  • Only 12% believed that addressing the interests of other stakeholders “requires a short-term cost in order to generate long-term value,” a finding that the authors characterize as inconsistent with the “standard narrative that companies do not invest in ESG activities because they are unwilling to incur a temporary hit to profitability. Instead, most respondents believe either that investing in ESG activities is costly in the short run and will continue to be costly in the future (37 percent), or that investing in these activities generates immediate benefits that will continue into the future (28 percent)”;
  • 24% responded that ESG activities “have little cost or benefit in either the short or long term”;
  • 82% agreed with BlackRock CEO Laurence Fink that “companies have a responsibility to address broad social and economic issues,” and 69% also agreed that companies face pressure “to maximize short-term returns at the expense of long-term growth”; but, for the most part (87%), his words did not motivate or only slightly motivated respondents to “evaluate or implement new ESG initiatives”;
  • 43% thought that their large institutional investors cared about other constituencies, and 38% thought that they actually did not care;
  • With regard to recognizing the company’s efforts to address non-investor stakeholder needs, only 50% believed that stakeholders understood, 33% believed institutional investors understood and only 10% believed the media understood the efforts they made.

The authors speculated that the lack of responsiveness to the urgings of institutional investors to “do more” with respect to the interests of other stakeholders may reflect the respondents’ high level of satisfaction with their own efforts. For example, one respondent indicated that the company was already implementing extensive ESG undertakings on its own initiative. Alternatively, they suggest, it might reflect their belief that their shareholder bases as a whole are not really concerned about other stakeholder interests. Or the respondents might actually be suspicious of investors’ motivations (i.e., it’s all just marketing or perhaps virtue-signaling). Or they could possibly believe that “ESG investment can only be profitably achieved in a more narrow scope of activities than Mr. Fink recommends.” For example, according to one respondent, while they intend to address “social and economic issues…in the long-term interest of our business,” they are “not going to tilt at windmills that have nothing to do with our business….”

So the question remains: “Is it true that companies are not investing sufficient capital into these activities because they have a myopic view of the relative short- and long-term costs and benefits? Or are executives currently making rational choices about ESG investment?”