Profit vs. Impact – The Evolution of Corporate Social Responsibility

An Apple shareholder recently asked the company’s CEO Tim Cook why he has embraced supply chain sustainability, third party worker safety audits and several other initiatives that are expensive and unprofitable. With a bluntness rarely articulated by a public company CEO, Cook responded, “[Apple does] a lot of things for reasons besides the profit motive. We want to leave the world better than we found it… If you want me to do things only for ROI reasons, you should get out of this stock.”

Cook has joined a chorus of other CEOs in challenging some of the inherent core operating principles of corporate America. Namely, they have questioned the absoluteness of a company’s fiduciary obligation to maximize shareholder returns above all else. This weekend I was curious where this responsibility came from – whether it be constitutional, case law or evolving business norms. My search led me to a pivotal 1918 Michigan Supreme Court Case, Ford v. Dodge, that defined the shareholder wealth maximization principle (SWM). Today I am going to explore the details of the case, argue that it established an unethical precedent and relate its relevance to recent trends in corporate social responsibility (CSR).

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In 1917 the Dodge brothers, minority shareholders in Ford Motor, sued Ford Motor for stopping dividend payments to its shareholders. Ford Motor had decided to use its financial resources to expand business operations, lower prices, improve product quality and raise its wages as opposed to funding the annual dividends.[i] Henry Ford, the company’s CEO, believed his company made sufficient profits and had an obligation to benefit the public it served – customers and employees included.[ii] The Dodge brothers, however, argued that ending dividend payments was not in the best financial interest of shareholders. Ultimately, the Court sided with the Dodge brothers and argued, “A business corporation is organized and carried on primarily for the profit of the stockholders.”[iii] Through Ford Motor’s defeat the SWM was first outlined in case law.

While on balance the court’s decision was unethical, it did indeed have the primarily positive effect of establishing a guiding framework for corporate behaviors (the SWM principle). In lieu of this framework, corporate management could pursue nearly any objective under the guise of “stakeholder” or “nonshareholder” interests.[iv] The SWM principle benefits both corporate management and investors by making the primacy of shareholder interests clear. Furthermore, without this standard to provide guidance executives would be left to follow unclear and varying ethics and operations norms.

In this alternative scenario, directors would have difficulty in deciding both to whom and in what proportions their loyalty runs.[v] With such an unclear mandate, poorer decisions could be expected. For example, executives who are confronted with a labor strike at one of their factories would have to weigh many conflicting considerations: To what extent are the laborers’ grievances justified? Would it be more profitable to shut down the factory altogether? Should the firm hire new workers? The decision-making process would be stymied without a clear understanding of each involved party’s importance and priority. All told, the Court’s decision resulted in more transparent and streamlined business decision-making and operations.

While operations may have been made more efficient, the decision unethically forbade businesses from pursuing multi-fiduciary objectives. Ford was altruistically motivated to return more of his company’s profits to its stakeholders, including its employees and customers.[vi] While this objective may have been in conflict with the firm’s fiduciary obligation to its shareholders, it would have resulted in a far greater net social impact than that of narrow financial returns. The true value of considering stakeholder interests is evident when one considers the secondary effect of higher incomes for workers, higher quality vehicles for consumers and cheaper options of transportation. Yet, if all of these positive effects were discounted and the focus remained solely on financial performance, the Court’s decision would still be ethically and economically dubious. Recent studies have shown that short-term investments in stakeholder interests (such as higher wages, benefits, sustainability) result in increased long-term financial returns for shareholders.[vii]

Moreover, by placing the priorities of one interest group (shareholders) above another (stakeholders) the court may have unintentionally sanctioned hazardous corporate behaviors. The SWM principle ascribes corporate executives a special moral mission to pursue financial returns above all other objectives.[viii] Assigning a primacy to shareholder returns can mean that leaders are permitted to inflict harm on third party stakeholders while pursuing their financial priorities for shareholders.[ix] For example, if Ford had information that one of his factories narrowly passed a safety inspection, but was still cleared for operation, he may have had an obligation to keep it open to please shareholder interests despite the elevated risk that it posed to his company’s workers. Ethical judgments cannot be made in a relative fashion. A decision cannot be deemed ethical when it deals with shareholder interests, and unethical when it deals with stakeholder interests. There are ethical absolutes in business operations that supersede the pursuit of profits. The Court’s decision sets a dangerous precedent that suggests this is not true. Taken to the extreme, the judgment demands maximum profits no matter the cost. It is unethical to put the livelihood and safety of one group above another’s.

The Court’s disapproval of socially responsible business objectives and sanctioning of harmful corporate behaviors are both ethically untenable. Long-term shareholder interests and returns are in fact maximized when stakeholder interests are included in business considerations.[x] This fundamental understanding requires a rethinking of the triangle relationship between executives, shareholders and stakeholders. Ford Motor could have reached both socially and economically preferred outcomes by being empowered to manage this relationship without judicial intervention.

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Companies like Apple, Google, Facebook, Whole Foods etc. consistently decide to pursue multi-fiduciary objectives. However, these attempts have been met with market criticism. Is it ethical that Apple does “a lot of things for reasons besides the profit motive” as Ford Motor had decided to do nearly a century earlier? The ethicality leans towards the side of Apple (and Ford); however, the feasibility of such decisions will always rest with shareholders. Success will ultimately only be found if investors follow and support such actions. Moreover, investors will only support these actions if they begin to redefine their conception of “wealth” from pure financial enrichment to net financial and social impact. Such a paradigm shift has the potential to supercharge the impact of corporations worldwide.

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Selected Bibliography

Bainbridge, Stephen. “In Defense Of The Shareholder Wealth Maximization Norm: A Reply To Professor Green.” Washington and Lee Law Review (1993): n. pag. Web. 13 Sept. 2015.

Friedman, Milton. “The Social Responsibility of Business Is to Increase Its Profits.” New York Times [New York] 1970: n. pag. Print.

Green, Ronald. “Shareholders as Stakeholders: Changing Metaphors of Corporate Governance.” Washington and Lee Law Review (1993): n. pag. Web. 13 Sept. 2015.

Jones, Thomas M., and Will Felps. “Shareholder Wealth Maximization and Social Welfare.” Business Ethics Quarterly 23.2 (2013): 207-38. Web.

Macey, Jonathan. “A Close Read of An Excellent Commentary on Dodge v. Ford.” Virginia Law and Business Review (2008): n. pag. Web. 13 Sept. 2015.

Pearlstein, Stephen. “Businesses’ Focus on Maximizing Shareholder Value Has Numerous Costs.” Washington Post. The Washington Post, 6 Sept. 2013. Web. 13 Sept. 2015.

Stout, Lynn A. “Why We Should Stop Teaching Dodge v. Ford.” Virginia Law and Business Review (2008): n. pag. Web. 13 Sept. 2015.

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[i] Bainbridge (2012) [ii] Bainbridge (2012) [iii] Stout p. 165 (2008) [iv] Green p. 1417 (1993) [v] Green p. 1417 (1993) [vi] Bainbridge (2012) [vii] Pearlstein (2013) [viii] Green p. 1417 (1993) [ix] Green p. 1417 (1993) [x] Pearlstein (2013)

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I grew up in a small town called Orinda, about 20 minutes to the East of San Francisco. Naturally curious, eager to learn, intuitively organized and empathically geared – I strive to make conscious decisions to drive impact. My mind never stops working. Whether in the classroom, professional environments, volunteering capacities or personal hobbies, I enjoy thinking critically about my surroundings and problem solving to find solutions.

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