Is a Battle Against Responsibility Brewing?

For some investors, "responsibility" has a rotten reputation. Critics have begun to step forward against those who pressure corporate America to do business in more conscientious ways.

Last month, The Wall Street Journal ran a piece by Aneel Karnani that called corporate social responsibility, or CSR, ineffective or even harmful. Karnani essentially repeats the traditional -- and simplistic -- line about the pursuit of profits being corporations' only responsibility, arguing that this relentless focus will magically increase social welfare. (Except, of course, when it absolutely doesn't.)

Capitalism has been a force for social welfare over the long term, allowing individuals to enjoy an enhanced standard of living amid innovative business activity and economic growth. However, the lessons of the financial crisis alone show that many corporate managers need to seriously question their methods for achieving sustainable profitability.

Doing well and doing good
In his article, Karnani asks:

Can companies do well by doing good? Yes -- sometimes. But the idea that companies have a responsibility to act in the public interest and will profit from doing so is fundamentally flawed. ... Very simply, in cases where private profits and public interests are aligned, the idea of corporate social responsibility is irrelevant: Companies that simply do everything they can to boost profits will end up increasing social welfare. In circumstances in which profits and social welfare are in direct opposition, an appeal to corporate social responsibility will almost always be ineffective, because executives are unlikely to act voluntarily in the public interest and against shareholder interests.

One of his supporting examples is the fast-food industry, which he claims started offering healthier menu options because it finally could do so profitably, not because of social activism or the public good. This made me wonder whether Karnani's writing in a vacuum. In the real world, these things are all related.

McDonald's (NYSE: MCD  ) and other big fast-food companies were surely influenced by what the market wanted: healthier menu options. But why did customers demand better food? Because the media and social activists spent years helping to educate the public about the unhealthiness of fast-food diets. Stories about America's obesity epidemic fill the news, and the government has begun criticizing diet-related illnesses for driving up health-care costs.

Without healthier choices on their menus, those fast-food giants would have looked like a huge part of a social health problem. When faced with such a long-term risk, companies must innovate. If they behave in ways that make customers doubt their good intentions, those customers will walk away, endangering the financial well-being of even the most powerful brands.

The good, the bad, and the ugly
Acting in the public interest is ultimately good for shareholder interests.

BP's (NYSE: BP  ) and Massey Energy's recent deadly disasters revealed that both companies may have placed short-term profits ahead of worker safety. Considering the painful roller-coaster ride their shareholders have endured after BP's oil spill and Massey's mine explosion, the companies might have been better off playing it safe.

Meanwhile, in light of the financial crisis, Goldman Sachs (NYSE: GS  ) , Bank of America (NYSE: BAC  ) , and Citigroup (NYSE: C  ) all earned potential spots on the list of sin stocks to avoid. When corporate managers sow the seeds of public distrust with irresponsible or self-serving behavior, they're doing shareholders no favors.

The lawsuits and regulatory changes that spring from reckless companies' high-profile debacles can hamper their long-term profitability. Worse yet, bad public relations breed unhappy customers, prone to defect to rivals and spread the kind of brand-busting ire that can decimate an offending business's market share.

In contrast, conscious capitalism, or stakeholder capitalism, takes into account more than simply short-term profits. Companies like Whole Foods Market (Nasdaq: WFMI  ) and Google (Nasdaq: GOOG  ) have social responsibility built into their missions, and both are profitable, successful companies with solid brands.

Forward thinking
Folks whose arguments match up with Karnani's may have it backward. Companies that build trust and goodwill foster loyal customers and attract less public ire and regulatory scrutiny. These businesses will ultimately enjoy far greater chances of survival and success than their less responsible counterparts. Acting in the interest of various stakeholders, including society at large, isn't antithetical to acting in the interest of shareholders.

Signs of corporate irresponsibility are a major, red-flag risk factor that investors shouldn't ignore. Myopic managers who ignore the possible ramifications of their actions may find themselves at a competitive disadvantage over the long haul.  

Whole Foods Market is a Motley Fool Stock Advisor selection. The Fool owns shares of Google, which is a Motley Fool Inside Value pick and a Motley Fool Rule Breakers recommendation. Try any of our Foolish newsletter services free for 30 days.

True to its name, The Motley Fool is made up of a motley assortment of writers and analysts, each with a unique perspective; sometimes we agree, sometimes we disagree, but we all believe in the power of learning from each other through our Foolish community.

Alyce Lomax owns shares of Whole Foods Market. The Fool has a disclosure policy.


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Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On September 15, 2010, at 5:33 PM, weiwentg wrote:

    I think the author failed to read Prof. Karnani's piece. Karnani argued that regulation is the only sure way to make businesses accommodate social needs. Without proper regulation they'll only reliably do so when social needs are aligned with profitability. Karnani may be a bit too hard on CSR but his main point is absolutely spot on.

  • Report this Comment On September 16, 2010, at 1:42 PM, ItzonlyMoney wrote:

    One glaring omission in Kanani's piece and your supporting comment; regulation always effects EPS in a negative way. If a company loses growth, the first thing to go is jobs. That effects the employees in a negative social manner. Like Ms Lomax pointed out, there can be a coordination of profit and social responsibility but, regulation is certainly not the answer. How did the regulations applying to BP prevent the Gulf spill. That's right, not one iota. We can have regulations up the yin yang and if there's no enforcement, what good will they do? That's right, none.

  • Report this Comment On September 16, 2010, at 5:31 PM, mpendragon wrote:

    crazyhorse49

    The regulations didn't prevent the gulf spill because the Minerals Management Service was in bed with the industry and didn't do it's job and BP wasn't properly punished for their numerous violations of safety regulations. This is the exact reason why we need effective regulation and leadership in government that believes in actually enforcing rules.

    My take on the general social responsibility issue is that while the idea of a corporation is an abstract legal entity the employees, shareholders, and the consumers of their products and services are (ultimately) actual people. A corporation being a collection of legal documents doesn't have a house, a family, or require clean water or air or soil but people do and the people involved in that corporation have a social responsibility to their fellow employees, shareholders, consumers, and neighbors to take care of the commons and do business in a safe manner.

  • Report this Comment On September 17, 2010, at 10:37 AM, Aeoran wrote:

    A corporation is not soulless or faceless. It has the intellectual capacity and the behavioural patterns of its employees.

    Incentivise immoral or unethical behaviour, and there will be companies with immoral or unethical behaviour. (For example, the Wall Street practice of paying percentage bonuses for gains but no equivalent-sized clawbacks for losses leads to exuberant risk-taking with other people's money - recipe for disaster.)

    On the flip side, incentivise moral or ethical behaviour (either positive feedback mechanisms such as praise/awards/etc. or negative feedback mechanisms like law and regulation), and companies will behave more so accordingly.

    Financial incentives directly reach individual employees and decision makers; they get to try to take the money home. Most other types of incentives I can think of are indirect, with responsibility and accountability hidden behind the face of a corporation. Let's think BP and the Maconda well incident; the real culprits behind the mess will not have their name outed, and may not even leave the company; certainly they will not be picking part of the $20B tab that the corporation is bearing for their mistakes.

    We measure responsibility in dollars. It's most certainly not the best way - we pay lawyers and accountants far too much to them to solve the wrong problems, like answering questions such as "this life is worth this many dollars". But this system of law is what we have. So, until we discover a system of governance where incentives for personal and corporate gains can be equally powerful, perhaps we need to figure out how to put a price on everything, and make sure people's skins are in the game. That means that social responsibility needs to be a market that is made, by ensuring that for every gain that can be made for a risk taken successfully, there is a loss that can be made when one fails. And that loss needs to hit the decision makers as well as the corporation.

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