Organizational purpose is increasingly being discussed in the boardroom as corporations face internal and external pressures to better define the role they play in society, beyond the sole pursuit of short-term financial results. This is driven by increased scrutiny of the balance between the interests of shareholders and other stakeholders, including customers, employees, suppliers, the community and the environment. In this article, we discuss what we heard directly from 170 nonexecutive directors who shared their perspectives on organizational purpose and profitability, the debate on shareholder primacy versus stakeholder capitalism and the board’s role in overseeing purpose.
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Directors generally perceive corporate purpose to be more than generating profits for shareholders. Those from purpose-driven companies (in which decisions are measured against a clear company purpose beyond just maximizing shareholder profits) spoke of the importance of having a well-defined purpose that resonates right through the organization, backed by business actions and decisions. They emphasized that a well-articulated purpose has the power to enhance a company’s reputation, competitive advantage and long-term success by rallying customers and the community behind the company. Internally, purpose helps to attract, motivate and retain top talent and gives employees a reason to show up every day and go the extra mile.
“Measuring company decisions against purpose provides a social license to operate and leads to better returns for shareholders because the company is seen as a force for good.”
Directors from companies that went through transformational change commented that a clear purpose can provide direction and guide employees toward a common goal. However, directors also pointed out that purpose should be positioned as contributing to long-term profitability when communicating with investors to secure their buy-in on a company’s purpose-driven strategy. Having a corporate purpose can help govern decision making to mitigate risk and generate long-term sustainable value.
“Purpose needs to be ‘lived’ by the CEO and executives, and reinforced by their decisions: ‘This is who we are’.”
Of the directors who addressed this topic, nearly all agreed that the CEO and management must drive purpose if it is to resonate throughout the organization and externally. They generally see it as the board’s responsibility to ensure alignment with management on purpose and strategy, and to ensure that purpose is manifested in how the company conducts its business day-to-day. A number of directors mentioned that the board’s most important role is to appoint the right CEO and, in particular, one who will drive and communicate purpose. One director from North America mentioned that where the board does not agree with how management is articulating the company’s purpose — or finds it lacking — it is the board’s responsibility to speak up and challenge it.
Many directors, especially in developing economies, shared that there is not much discussion of organizational purpose in the boardroom. Some found it challenging to articulate purpose, taking the view that corporations exist primarily or exclusively to generate profit for shareholders. A false dichotomy between purpose and profitability often arises when directors discussed purpose interchangeably with an organization’s investments in environmental, social and governance (ESG) factors and the need to consider other stakeholder interests. The conflation of purpose, stakeholder capitalism and ESG suggests that purpose is not clearly defined, articulated or communicated.
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A corporation is a profit-maximizing entity, and the directors we spoke with recognized their fiduciary responsibility to act in the best interests of the corporation, which generally means acting in the interests of shareholders. As part of this, directors need to ensure that management has similar objectives. However, most directors we interviewed also agreed that other stakeholders cannot be ignored in the pursuit of maximizing long-term shareholder value. These directors acknowledged that optimizing the balance between short- and long-term value creation is a constant challenge and that ignoring other stakeholders can increase risk, threaten business sustainability and be detrimental to shareholders. Almost unanimously, directors recognized that without sustainable profits, a business will not be able to grow and invest in itself or stakeholder initiatives, and its purpose cannot be served.
“It’s great to be worthy, but not at the expense of shareholders. In a sense, shareholders want us to focus on doing the right thing but not as a trade-off on results. They want ‘and’ instead of ‘or’.”
Directors we spoke with shared a wide range of views regarding the appropriate balance between the interests of shareholders and other stakeholders. They made it clear that, depending on location and industry, companies may find themselves dealing with very different stakeholder groups and perspectives: customers, employees, environmental agencies and suppliers to name a few. Another common theme from the interviews was that the cultural, legal and regulatory frameworks within each geography or jurisdiction also have a significant impact on the context in which companies seek to strike an appropriate balance among the interests of their various stakeholders. The perspectives we heard in Japan, Germany and the U.K. are good examples of how these factors collectively shape directors’ perspectives:
That said, the interviews revealed that even within the same industry and country, there are different views on what the right balance should be between shareholders and other stakeholders; in practice, the CEO and management often determine the approach. At the same time, it is important to note that there were a handful of voices in the U.K. and the U.S. that stood by maximizing shareholder value and were skeptical that shareholders are willing to compromise higher profits in the interest of other stakeholders. A couple of directors in North America shared insights on activist shareholders only focusing on profits.
“It is interesting the way COVID-19 has unfolded and that we have been forced to consider stakeholders.”
The COVID-19 global pandemic has brought new perspectives to the debate on shareholder primacy and stakeholder capitalism. More important, a general sense of increased social responsibility and “sharing the pain” came through the interviews. A laser-sharp focus on customers is perhaps not surprising given the business challenges. Companies in a better economic position may feel the pressure to extend more favorable terms than usual to their suppliers and vendors to maintain their financial position. Many directors are particularly interested in enhancing workplace safety, improving flexible work policies and capabilities, and improving wellbeing benefits. Looking after employees (e.g., by avoiding layoffs, minimizing pay cuts, and expanding health and welfare benefits) is a top priority. Some directors in North America and Western Europe even advocated extending consideration for employees to their families and the environments they live in.
Particularly in the U.S., social discussions on racial injustice have accentuated the dialogue on inclusion and diversity and company culture in the boardroom. Many directors expect their companies to step up their commitment to build an inclusive and diverse workforce and community while guaranteeing employee safety. They recognize that social unrest hurts business. Regardless of whether the company has been affected, most shared the need to more clearly define what the company stands for.
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One can draw similarities from the juxtaposition between purpose and profitability and the debate between shareholder primacy and stakeholder capitalism. In the voice of a director based in North America, perhaps the trade-off is really about short-term versus long-term profits. Several other directors in North America explained that resources are limited and that management is constantly facing a dilemma of allocating resources between different investment options.
“The conflict is not shareholders versus stakeholders but short- versus long-term profits.”
Some investments drive short-term financial results, which are often rewarded by the market. On the other hand, other investments focused on ESG or other stakeholders that contribute to the long-term wellbeing of the company may conflict with the short-term interests of shareholders. On this view, directors perceived it as the board’s responsibility to find a balance between delivering on a company’s near-term performance objectives and creating long-term sustainable value for shareholders.
"We set a cap on the profit margins expected from management. We wanted to encourage management to not just focus on short-term results, but to invest in sustainable sourcing, community engagement, clean energy, etc. – because that was the right thing to do for the long run.”
An interesting observation from several directors of privately held and family owned companies is that such companies often see less friction in articulating and implementing their purpose. The explanation these directors provided was that due to the more concentrated ownership, shareholders of these companies are more likely to align on these fundamental philosophies of how the business should be run. They are also more likely to align on an ESG strategy that aligns with what they personally believe in and what their companies stand for. In fact, one director of a family-owned company described spending on ESG as a necessary cost of doing business. The director made the point that the incremental cost in initial years of investing in sustainable manufacturing and procurement has proven to yield significant returns in the medium and long term, because they have been able to build a strong and distinct brand loved by their customers, suppliers, distributors, employees and the community.
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In summary, our interviews showed that purpose and profits are not at odds. Directors recognize that companies must be profitable to survive; however, directors also understand that generating long-term sustainable value for shareholders requires a careful balancing of the interests of both shareholders and other stakeholders. In addition, measuring decisions against company purpose can assist with striking the necessary balance. The rise of ESG is not challenging the fundamentals of corporate governance. Rather, it’s providing a more modernized view in a far more complicated world. In the next article, we seek to explore what directors think the board’s role should be in ESG matters.
