A CEO asked for my help to define the organisation’s purpose. The board, executive and staff, it seems, were confused about why the organisation existed. The answer was obvious: to make lots of money for shareholders. But nobody wanted to admit that.
The CEO, understandably, argued that profits and shareholder dividends was too narrow a purpose. He feared that publicly aligning the purpose to a profit imperative was a corporate relations risk and would not inspire the troops.
The company, when privately owned, had an unwavering focus on exceeding customer expectations and making money. Its exceptional service stood out in a highly-contested market and underpinned years of growth before listing.
That focus continued and growth was maintained when the company transitioned to public ownership and an ASX listing. But something changed. Using “Other People’s Money” (shareholders’ capital) encouraged a bout of corporate navel-gazing about purpose.
Was the purpose still based on serving customers? Or, as a listed company, was it about shareholder returns? And what of other stakeholders across the company’s supply chain, staff and the community? What was the obligation to them?
This company is not alone in confusing its purpose. Over the years, I have seen many mix up the needs of shareholders and stakeholders and treat organisation purpose like a public relations slogan when it should guide corporate strategy.
I have also seen inappropriate “missionary zeal” become entrenched in organisations with ill-defined purpose. Companies spear off in the wrong direction because they try to please too many stakeholders and overlook the main beneficiaries and their needs.
Don’t get me wrong: great companies must have a higher purpose that extends beyond profit. The concept of organisations requiring a “social licence” is real. As is the desire of Millenials (born between 1982 to 2004) to work for organisations that have true purpose.
Consider the big-four banks. Right or wrong, the Commonwealth’s surprise $6.2 billion levy on banks in the 2017 Federal Budget was a reminder of what can happen when organisations are perceived to focus too much on shareholders at the expense of stakeholders.
Being on the right side of the Environmental, Social and Governance (ESG) divide – that is, being a good corporate citizen – has never been more important. The market is rewarding ESG exemplars and punishing laggards through lower share prices.
Witness the growth in younger investors, and older ones too, who are aligning their personal values with their investment values. Just as they favour free-trade coffee and free-range eggs at the supermarket, so too are they putting their capital into companies that do no harm.
Almost half of financial assets under professional management in Australia now incorporate ESG principles, according to the latest Responsible Investment Association Australasia benchmarket report. More fund managers are investing capital in listed companies with good ESG practices and avoiding those without.
There is growing evidence that companies with strong ESG practices tend to outperform the sharemarket over time. Consistently doing the right thing potentially means making more money and reducing risks (ESG laggards are easy prey for shareholder activists).
Profits and purpose
ESG trends intersect with corporate purpose. Doing the right thing by shareholders and stakeholders is not mutually exclusive. Shareholders are the ultimate beneficiaries of listed companies, but their returns are influenced by the organisation’s dealings with stakeholders.
Professor Emeritus Joseph Bower and Professor Lynn Paine made a similar point in the May-June 2016 Harvard Business Review. They argue for a company-centred model of governance that recognises the diversity of shareholder goals and the varied roles corporations play.
Their model says corporations are independent entities endowed by law; that management’s authority comes from the governing body and ultimately the law; and that managers are fiduciaries (rather than agents) and obliged to act in the best interests of the corporation and shareholders – a different approach to carrying out the wishes of shareholders.
I too belive that serving stakeholders first is the key to rewarding shareholders later.
Think of the reward hierarchy like a totem pole. Employees sit at the top, being the first to make a claim on the company’s cash. Then creditors, lenders, the Australian Tax Office and so on. After their claims are paid, a percentage of profits are ploughed back to the company and shareholders receive a dividend. On the totem pole of returns, shareholders are last.
But the end goal is always to deliver sustainable, rising returns to shareholders (as measured, for example, by Return on Capital, the subject of a later blog) and meet stakeholder needs along the way.
Using Argenti to define purpose
The Argenti System of Strategic Planning asks three fundamental questions with organisation purpose:
- Who is the organisation ultimately set up to serve (Intended beneficiaries)?
- What benefit do these people want (Benefits)?
- How do these people measure the benefits (Beneficiary Performance Indicator)?
My corporate client mentioned earlier might have answered:
- The company is set up to serve its shareholders.
- Our shareholders want a sustainable, competitive total return (capital growth and dividends).
- Our overall performance is measured by total shareholder returns.
Understanding shareholders, how their needs differ and how best to communicate with them is critical. Not all beneficiaries want the same thing.
A US activist hedge fund, for example, on a share register wants different benefits (for example, a high short-term return) compared to an industry superannuation fund that wants sustainable returns over a long period with lower risk.
Also, understand how different shareholder segments measure organisation performance. The hedge fund, for example, might focus only on earnings. In contrast, super funds often look at a range of ESG factors in addition to profit when measuring overall performance and choosing where to invest.
Having analysed the needs of shareholders, the next step is to define the organisation’s main stakeholders across its supply chain and in the broader community. What do employees, suppliers, distributors, customers and the community expect of the organisation?
Rather than write vague organisation purpose statements that are dictated internally, focus on what shareholders want and how that can best be achieved while meeting the needs of stakeholders. It’s a question of balance.
In the earlier example, the CEO of the listed company could have said his organisation’s purpose is to deliver consistent, sustainable shareholder returns while improving the industry, environment and community in which the organisation operates.
The purpose is unashamedly about making money for shareholders, underpinned by a genuine goal to help stakeholders. Shareholders are still the focus, but the ultimate winner is long-term organisation strategy which has been illuminated by clearer purpose.
- John Barrington is founder of Barrington Consulting Group, a leading Perth-based strategy consultancy, and Chairman of the Perth International Arts Festival.