What is Stakeholder Capitalism? How it Relates to ESG

Presently, there is an ongoing shift from shareholder primacy to stakeholder capitalism in the business space. Increasingly, there’s a sense among business leaders that the former – which entails the maximization of shareholder value and has been the prevailing ideology for the past five decades — needs a serious update. Hence, the introduction of stakeholder capitalism. Stakeholder capitalism isn’t a new model but a revived one: it was a popular management theory in the 1950s and ‘60s that focused on the needs of all constituents, not just shareholders. The alarming climate crisis and increasing social challenges such as rising inequality, triggered by prioritizing shareholder interests are giving this movement additional momentum. In this post, we will explore the revived model and how it relates to ESG.  

What is Stakeholder Capitalism? 

Stakeholder capitalism is a management system in which corporations are oriented to serve the interests of all their stakeholders including customers, suppliers, employees, shareholders, local communities, and society as a whole. This approach which was first launched in 1932 is making a comeback mainly because many large corporations are under attack from all sides: they have been caught single-mindedly shoveling money to shareholders and executives at the expense of customers, employees, and the environment. The core flaw of the shareholder primacy model. This theory of corporate governance posits that shareholder interests should be assigned first priority relative to all other corporate stakeholders. In other words, it is the idea that the sole purpose of a firm is to make money for itself and its shareholders.

Maximizing shareholder profits became the dominant approach for businesses for more than 40 years after the first attempt at stakeholders capitalism was unsuccessful and led to mass confusion among crucial parties. 

This new wave of the stakeholder capitalism movement is heralded by two influential organizations, the Business Roundtable and the World Economic Forum. Stakeholder capital is now the new mantra of the Business Round Table as announced in August 2019 and endorsed by almost 200 CEOs of the largest corporations including Apple, Amazon, and JPMorgan. “In the Roundtable’s new formulation of corporate purpose, delivering value to customers, investing in employees, dealing fairly and honestly with suppliers, supporting communities and protecting the environment all have equal billing with generating long-term value for shareholders. The statement rejects the whole idea of “maximizing” one value to the exclusion of all the others. Instead, it acknowledges the need for balance and compromise in serving all of a company’s stakeholders.” notes Steve Pearlstein in the Washington Post. 

In December 2019, The World Economic Forum updated its Davos Manifesto for the first time since 1973 to more clearly state that businesses must be stewards of the environment, uphold human rights throughout their global supply chains, and pursue sustainable shareholder returns that don’t sacrifice the future for the present.

Supporters of the stakeholder capitalism model have identified several benefits of its adoption. By leveraging market-oriented principles like those found in this management model, economies have a better chance of solving deep, systemic problems like inequality, the future of work, and climate change. 

Stakeholder Capitalism and ESG

The reintroduction of the stakeholder capitalism theory is born out of tremendous pressure from the world’s largest institutional investors. They can now see that their passive investments are permanent capital and that divesting from certain environmental, social and governance risks is no longer possible in standard index vehicles. For them, ESG has become a proxy for good risk management and long-termism, two chief concerns today, particularly evident during the Covid19 pandemic. 

Moreover, companies are beginning to understand that considering such ESG risks and opportunities is good business. Unilever is the classic example of an issuer that’s adopted this approach for over a decade. The company revealed that its purpose, supported by a Sustainable Living Plan, was developed after gathering the views and priorities of approximately 300 stakeholders, including external experts and employees. 

Today, investors are asking management and directors to expand their scope of duties and this expectation goes beyond the Milton Friedman philosophy of simply maximizing shareholder value. Companies are now focused on enhancing the ways they capture (and measure) risks and opportunities related to a larger group of stakeholders. In fact, many institutional investors suggest that ESG risks and opportunities are part of the board’s fiduciary duty that directors are expected to oversee. 

Conclusion

While stakeholders capital exploits business resources to maximize shareholder returns, the businesses of tomorrow must embrace the stakeholder-driven approach to add value for employees, communities, and another vital constituent- planet Earth. As the Founder and Executive Chairman of the World Economic Forum Klaus Schwab succinctly puts it “this model (stakeholder capitalism) is the best response to today’s social and environmental challenges.