Is the company a public or private entity? This intellectually interesting debate may serve as a deflection device, keeping bright academic minds occupied with discussing the nature of the company. In my forthcoming chapter in Understanding the Modern Company (Choudhury and Petrin, eds., Cambridge University Press), I argue that the debate risks exacerbating unnecessarily entrenched positions on the nature, purpose and responsibility of the company. It risks enforcing an incorrect impression of a hard-lined dichotomy between public and private, shareholders and other stakeholders, social responsibility and corporate governance. It may therefore make more difficult the discussion of the more important question: how do we regulate for corporate sustainability?
Corporate sustainability is achieved when businesses in aggregate create value in a manner that is environmentally sustainable: ensuring the long-term stability and resilience of the ecosystems that support human life; socially sustainable: facilitating the respect and promotion of human rights; and economically sustainable: satisfying the economic needs necessary for stable and resilient societies.
The social norm of shareholder primacy is a fundamental barrier for businesses shifting voluntarily away from business as usual and onto a path of corporate sustainability (see, further, Company Law and Sustainability). Mainstream corporate governance tends to regard maximization of shareholder profit as the sole purpose of companies. As a matter of law this is incorrect, especially when it is understood as society’s purpose with companies in aggregate. While company law in some jurisdictions adheres to shareholder value (the legal concept, which we distinguish from the social norm of shareholder primacy), the underlying rationale for facilitating the corporate form through legislation is always that it is thought to be beneficial for society through its contribution to economic development. No company law system insists on boards focusing only on returns for shareholders. We see shareholder value jurisdictions, like the UK, expressly stipulating that broader societal concerns, including environmental protection, should be taken into account. Generally, company law across jurisdictions allows boards to integrate environmental and social externalities beyond legal compliance, at least as far as the business case argument goes.
However, boards generally do not opt for corporate sustainability within the realm of the business case, let alone challenge the outer boundaries of the scope to pursue profit in a sustainable manner by going beyond the business case. Shareholder primacy, supported by management remuneration incentives and other drivers, dictates that boards and senior managers are the ‘agents’ of the shareholders, and should maximize returns to shareholders as measured by the current share price. This leads to an extremely narrow, short-term, profit maximization focus.
The resulting general practice of companies is detrimental to those affected by climate change, environmental degradation and human rights violations today, and to the possibility for future generations to fulfil their own needs. It is also damaging to the interests of shareholders with more than a very short-term perspective on their investment, including institutional investors such as pension funds or sovereign wealth funds, as well as companies themselves.
The compromise fix today is reporting. However, in spite of good intentions and much hard work in this area, reporting requirements are strikingly insufficient. Much reporting remains left to voluntary and discretionary measures, leading to risks of corporate capture, lack of comparability, lack of consistency and uncertainty in benchmarking. The new EU non-financial reporting requirements, while a step in the right direction, lack the scope and the necessary verification requirements to be a real game-changer.
Legal reform is necessary to mitigate shareholder primacy. Reforming company law as a first step towards achieving corporate sustainability should address two main points: a redefinition of the purpose of the company as a matter of law, and of the role and duties of the board. Combatting shareholder primacy requires more than permitting a sustainability approach. We need firmer rules that set out the direction towards which boards must seek to shift companies. This will provide a redefined space for the creation of value, with ample room for creativity and innovation, and enable businesses to reach their full potential.
One of the most important business law debates is how we can achieve corporate sustainability. Future generations will judge us harshly if we fail to use the window of opportunity that we still have to achieve a peaceful transformation towards sustainability. Conversely, whether we call companies private or public entities will, at the end of the day, not really matter all that much.
Beate Sjåfjell is Professor Dr. Juris at the University of Oslo, Faculty of Law.