Business and Markets

Why Profits Aren’t Enough

February 22, 2018  • Judith F. Samuelson

When Larry Fink, CEO of BlackRock and the largest holder of virtually every listed stock, wrote to CEOs last month, he gave fuel to a forty-year-old debate about the corporation. Fink anchors his message in language about corporate purpose: Why do we grant companies the license to operate – or investors the protection of limited liability?

Here’s Fink:

Without a sense of purpose, no company, either public or private, can achieve its full potential. It will ultimately lose the license to operate from key stakeholders. It will succumb to short-term pressures to distribute earnings, and, in the process, sacrifice investments in employee development, innovation, and capital expenditures that are necessary for long-term growth.

BlackRock’s CEO also posed a question on how companies will invest cash from the tax cuts: “What will you do with increased after-tax cash flow, and how will you use it to create long-term value?”

Sally C. Pipes, the president and CEO of the Pacific Research Institute and a champion of free-markets, raises a fair question in response. Her blog, “How Can Companies Best Help Society? Make More Money”—offers a number of reasons for keeping profits at the center of business decisions. She advises CEOs to ignore Fink.

Two of the reasons for keeping the focus on profits stand out. One, she reminds us that profits can be an excellent measure of meeting customer needs and desires – thus, a measure of real value. Second, she cautions that if BlackRock takes the eye off profits it could undermine returns to pensions that entrust their assets to the company.  “California’s public employees are surely not enthused by the prospect of losing their retirement savings so that their pension fund can make political statements,” Pipes says.

She ends her argument by quoting our old friend, economist Milton Friedman: “There is one and only one social responsibility of business—to use its resources and engage in activities designed to increase its profits so long as it stays within the rules of the game, which is to say, engages in open and free competition without deception of fraud.”

Yet in this moment, companies that “engage in free and open competition” are more likely to boost the stock price today than to invest for the tomorrows, even with the tax savings in hand. Rick Wartzman and William Lazonick counted up how companies are spending their new found cash for this report in the Washington Post. Share buybacks are beating out employees, 30 to 1.

Board rooms, it appears, need more proof that Blackrock and other universal investors have their back in a showdown with an activist. And there are other factors in the mix, like how we pay executives.

On the one hand, I am sympathetic to Pipes’ argument about focus on profits. In fact, maybe Fink and she are not that far apart – if we assume she means profits over time, not just this quarter or next year. To sustain profits requires the kind of investments Fink calls for: employee development, innovation, and capital expenditures.

Here’s the bottom line. Under current “rules of the game” profits fail as a useful organizing principle for business decision-making. Even Milton Friedman might acknowledge these three business realities if he were sitting in a board room today:

A steady stream of profits requires understanding customers in all their complexity, not just their desire for the latest consumer product.

Walmart learned this the hard way when communities began to push back on the assumption that cheap goods are more important than worker well-being. Ditto Nike. And Apple. Just Capital’s survey of 72,000 people found “the need to rebalance how we measure success…specifically, the need to shift away from focusing purely on meeting shareholder needs toward meeting the needs of all stakeholders, particularly workers.”

Pipes is dead wrong to think companies can ignore this reality. She says Fink’s letter “falsely implies that there is some inherent tension between social benefit and profit.” These tensions are real and growing in complexity. The consumers on whom profits depend want it all – product choice and water quality. Affordable consumer products and respect for human rights. Consumers live in a world of divided thinking. This is a conundrum for board members and executives – who ignore the true cost of products, and the long tail of the supply chain, at their peril. Think #ReputationRisk.

Employees are now a competitive advantage, not just a cost of operation.

Some say the Millennial proclivity towards a healthy planet and work life balance is just so much noise. Here’s a fact from Fortune’s latest list of 100 Best Companies to Work For: “Employees who say they have a great place to work were four times more likely to say they are willing to give extra to get the job done.”

Unilever reports more than two million job applicants a year, including a remarkably strong pool of US college grads eager to work for a company that sells soap and mayonnaise. CEO Paul Polman attributes Unilever’s success to a clear, measurable and compelling strategy that integrates consumer preference and environmental sustainability.

Business is complicated. Think #WhoDoYouWantOnYourSide?

Finally, as Alan Murray states in his recent blog, we can’t depend on government to address the big issues, from inequality to climate change.

Richard Edelman, in last year’s Trust survey, memorably called on business to play the role of “the solid retaining wall that stops the uncontrollable storm surge.”

The big issues don’t break into firm-sized pieces for boards to manage away. A company that measures success in terms of profits only, and fails to look outside the gate will inevitably miss this moment – when the health of democracy and the health of business are closely intertwined. Yes, savings are too low and pensions are under pressure, but wages, the structure of work, profit sharing and, yes, how we reward executives, also need to be part of the fix.

How can companies best help society? It starts with a longer-term view in the executive suite — and utilizing the full range of decisions within the company’s control. As one of my favorite business advisers reminds me, profits are like oxygen. Critical to survival — but not the reason your employees get up in the morning.

Judith F. Samuelson is a vice president at the Aspen Institute and the founder and executive director of the Business and Society Program which works to align business with the long-term health of society—and the planet.

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