MARTIJN REEK

Corporate Social Responsibility

The Corporate Social Responsibility of Business is to Maximise Shareholder Wealth
Martijn Reek 28-11-2011

I declare that all work submitted for assessment in this subject will be my own work and does not involve plagiarism.

Corporate Social Responsibility

Corporate social responsibility is a form of corporate self-regulation. It is what the company does to do business responsibly according to the law, ethical social standards, and respect for other peoples lives. In recent years it is becoming more and more popular for corporations and businesses to be involved in corporate social responsibility. This trend expanded a lot over the last decade and corporations drifted away from their traditional purpose of only maximizing shareholder value. The view of economists on this issue differs a lot. In this essay I lay out different views on this issue and compare them with each other. At the end I will conclude on my findings and give my own opinion about business involvement in social responsibility.

The famous economist Milton Friedman argues that corporate social responsibility should not be the purpose of business and business should only focus on maximizing shareholder value, Friedman takes the right-wing approach to business. At the same time there are other economists who support and encourage business to do more socially responsible projects. Most of the time these are the more left-wing economists who want to see the power and assets of corporations being used in favour of society and the public. There are many examples of corporations who are involved in corporate social responsibility, Shell for example. Shell is an oil company and that sector is not known because of its sustainable and environmentally sound way of doing business. Shell has been blamed for oil leakages in the Niger-delta in Nigeria that seriously harmed the local environment and the local population, who used that land to survive.1 The explosion of the oil platform Deepwater Horizon last year was another accident that does not only harm the image of British Petroleum, but also for the whole industry. People also tend to think that the oil companies are responsible for the high gasoline prices they have to pay at the pump. All these situations are bad for the image of any company. Therefore companies get involved in corporate social responsibility. To show the public they do care about the people on this planet and that they are happy to give something of their profits back to society. Shell started Shell LiveWIRE in 1982 in Scotland and a couple years later it spread to other parts of the United Kingdom.
1

The Independent. (2011). Shell blamed over Niger Delta. Available: http://www.independent.co.uk/news/world/africa/shell-blamed-over-niger-delta-2332335.html. Last accessed 24th Nov 2011.

LiveWIRE was founded to help young entrepreneurs, aged between 16 and 30, setting up a business. They offer monthly and annual business rewards to these entrepreneurs, which helps them getting the required funds for their new found companies. Another very good example of corporate social responsibility is Microsoft. On their website there is a whole sector called Corporate Citizenship. It gives a nice and clear overview of what projects Microsoft is running to encourage responsible working and how these projects serve communities.2 Microsoft is very transparent in their goals. They want to reduce their energy use and carbon emission. To reduce their carbon emission they want to reduce their corporate travel. At the same time they are improving the efficiency of their building and data centres. The fact that Microsoft is so open in their social responsible projects benefits their business as a result of the increase in image. Therefore I also believe that social responsible projects are conducted out of self-interest. Adam Smith wrote his book The Wealth of Nations in the late 18th century, in which he describes his observations of how the economy really works (Smith, Adam 1776). He noticed that trade is not a zero-sum game. He saw that when two people do business both people benefit, and that wealth gets created in the process, a positive-game. And that the reason for people getting involved in trade is self-interest. He concluded that when individuals pursue their own personal goals in liberty, without objecting other peoples freedoms, it will benefit society as a whole. Later on this became the foundation of the capitalistic system. Capitalism is all about freedom of choice, not about money and materialism. Nowadays capitalism is often seen as a selfish system in which people only care about themselves and not about the well-being of others. But it is still capitalism when an individual or corporation decides to give money to charity or to get involved in corporate social responsibility. And it is still called capitalism because these decisions are made in freedom. Microsoft decided in complete freedom to set up projects to reduce carbon emission, the reason is irrelevant. The fact that it was a free choice makes it a positive-game according to Adam Smiths principles. Economist Milton Friedman argues is his famous article: The Social Responsibility of Business is to Increase its Profits (1970)3 that it is irresponsible for corporations to get involved in corporate social responsibility, because it does not focus on maximizing

Microsoft Corporation. (2011). Microsoft - 2011 Citizen Report. Available: http://www.microsoft.com/about/corporatecitizenship/en-us/reporting/. Last accessed 24th Nov 2011. 3 Friedman, Milton. (1970). The Social Responsibility of Business is to Increase its Profits. The New York Times Magazine. Sept. 13

shareholder value. But that is not his only comment. Corporations do not make decisions, people make decisions. Therefore executives of a corporation, who can make the decision to set up a project that supplies the local hospital with more wheelchairs, actually decide to give shareholders money to charity. Thereby forcing the shareholder to pay for the wheelchairs. Friedman objects to this, because there is force involved. The shareholders can decide individually if they want to give the dividends, earned out of being part-owner of the company, to charity. The company should not make that decision for the shareholder, but should focus only on the core purpose of doing business, maximizing shareholder value through maximizing profits. According to Friedman increasing profits is the social responsibility of business. Friedmans view on corporate social responsibility is very right-wing. He argues that every man or woman should be free to choose as long as this does not limit the amount of freedom for any other man or woman. He objects to corporate social responsibility, because corporate executives spend shareholders capital in projects that are not focused on increasing that shareholders capital. There usually is no return on investment on these projects and are most of the times focused on giving something back to society. Friedman says that is what makes it irresponsible for businesses to participate in this corporate social responsibility trend, because they do this through spending other peoples money. It is quite logical that Friedman also opposes big government and only supports the core needs in society that can only be provided by government. These are a defensive army that only serves for protection against enemies from outside, a police force for protection from the inside and a set of rules that would ensure peoples freedom along with courts to settle disputes and protect the peoples freedom (Friedman, Milton 1980)4. Milton Friedman sees that as the only purposes of government. Economic issues should be handled by the people, the private sector. If we take a look at the pyramid of corporate social responsibility (Carrol, Archie B. 1991)5 and compare it with the issues Milton Friedman raises in his 1970s article, we see that Milton Friedman supports all business responsibilities mentioned in the pyramid segment except for the top one, philanthropic responsibilities. He says in his article that businesses have the duty the maximize shareholder value (economic responsibility), but businesses must do that by
4

Friedman, Milton. (1980). Free To Choose. Available: http://www.youtube.com/watch?v=D3N2sNnGwa4. Last

accessed 20th Nov 2011.

5

Carrol, Archie B. (1991). The Pyramid of Corporate Social Responsibiiity: Toward the Moral Management of Organizational Stakeholders. Albany: Business Horizon. p42.

obeying the law (legal responsibilities) and by respecting the ethical values and culture of the people (ethical responsibilities). Friedman does not argue that firms can do whatever they like in the interest of their shareholders, they must respect the law and ethical standards of the country. But the decisions they make always have to be in the interest of the owners of the business they are working for. Not everyone agrees with Friedman though. There are many people, economists and academics who disagree with him. One of them is Michael E. Porter, who wrote a paper with Mark R. Kramer about the competitive advantage of corporate philanthropy.6 Porter sees corporate social responsibility as a result of the continuing battle between shareholders, who want management to pursue short-term profits and the critics who pursue more corporate social responsibility. (Porter & Kramer 2002) He argues that companies are now getting involved in philanthropy to get in favour with their critics and use it as a part of their public relations and promotional campaigns. He studied corporate spending on social projects and found out that between 1990 and 2002 companies significantly increased their promotional spending that was cause-related, related to a charitable organization. Museums and other institutions that are art-related are getting more money thrown at them by corporations. Another advantage that Porter names in his article is that it could boost employee morale, as the employee gets the feeling that he is helping to support a good cause. Porter and Kramer take a much broader approach to which corporations have responsibilities. They take more stakeholders into account. In the former examples Porter names the advantages of corporate philanthropy for the consumers and the employees as well as the shareholders. While Friedman argues that executives only have responsibilities, while staying within the boundaries of the law and cultural ethics, to shareholders. Because executives are agents, who must act in the benefit of the principal. These corporations are acting on what is demanded or asked from them by society. Through sponsoring non-profit organizations they gain a better reputation among the public, which could lead to higher sales and revenue. A win-win situation, for the public and the corporation. But it would only be so if a higher amount of sales is generated. Friedman would argue that it is irresponsible for a corporation to give away money without seeing a benefit for the principal, the shareholder.

Porter, Michael E. & Kramer, Mark R. (2002). The Competitive Advantage of Corporate Philanthropy. Boston: Harvard Business School Publication Corporation. p5-16.

According to Porter, Friedman makes two assumptions that dont hold up when you further examine them. The first assumption is that economic goals and social goals are two separate things. So when a corporation donates money to a charity organization it means that it cant be spend that money to achieve economic goals. Which as a result has that certain investments cannot be made. This will hurt the profitability of the business. According to Porter this assumption does not hold up for the following reason: When pursuing social goals businesses can ask for free promotion in return. This can be as simple as a poster in the organisations hallway, but can even extend itself to a partnership. In that case, companies use philanthropy in a strategic way to align their economic goals with their social goals. In this example the win-win situation, described earlier, is created. The second assumption Friedman makes according to Porter and Kramer is that individual philanthropy has the same benefits as corporate philanthropy. Porter argues that this is not true, because companies can leverage their capabilities by using relationships along with giving money. Therefore corporations have a far better impact on philanthropy than individuals do. This makes philanthropy more effective when done through corporations then when individually done by the shareholders of the corporation. Porter does not really explain what he means by leveraging the corporations capabilities. Relationships can turn out to be very beneficial, but maintaining a relationship also costs a lot of time. And time is money, especially for the companies who need to pay the personnel to maintain these relationships and monitor the progress being made in that specific charity organisation. Philanthropy in this way is more than a one-time transaction. Maintaining a successful relationship with a charity organisation could achieve the companys social and economic goals at the same time, but Porter does not take time into account and the money that does not directly flow into charity. The result is that business not only needs to allocate financial resources, but also human resources. The money and the people cannot be used in investment projects. For a big corporation the percentage of resources allocated to philanthropy might be very small, it is still shareholders money. There cannot be any objections against philanthropy when the shareholders approve of it, unanimously would be ideal. Democracy cannot be an option when voting for philanthropy, when following Milton Friedmans principles. As every shareholder has the right to decide what to do with his own money. This is pure theoretic though, as practically it is very unlikely to happen in a big corporation. On the other hand shareholders can vote on the companys strategy by buying or selling the shares.

Consumers probably hold the most power in deciding if a firm should start getting involved in corporate social responsibility. Consumers can decide overnight not to buy a certain product anymore when they home this product has been produced through unlawful or unethical means of production. If it turns out that coffee producer Illy7 sells coffee beans that are produced by slaves or children it will harm the companys reputation and consumers (at least a large part) will switch to another coffee brand, because they do not support Illys policy. Other companies can gain a competitive advantage out of this situation. Other companies can decide to set up an education program for their workers in foreign countries or give them better working and living conditions (better wages, shorter working days). This is in fact corporate social responsibility out of self-interest and external pressures. The company acts out of interest of its owners and out of interest of the consumer and the employees. Porter was right that economic objectives and social objectives are not necessarily distinct from each other, but can serve their core responsibility of increasing profits. You can say that Friedman and Porter are both right in this. Porter was right because social and economic objects can go hand in hand. While Friedman is right that the only responsibility for a business is to increase its profits. The way profits are increased is irrelevant according to Friedmans paper, as long as executives act in the interest of the owners. By creating a competitive advantage through the fulfilment of social goals it can help the company strengthen their market share and help increase their corporate image. Both elements are very important in building a sustainable business. In this example the company is not giving money away, but just responding to consumer demand. Thereby acting out of selfinterest. Companies need to make their increased involvement in social responsibility public to let their customers now. And they want to show it to the media. They need to turn it into PRstunt to make sure everyone knows about the measures they took to overcome the negative publicity and their negative image. This is also right according to the observations of Adam Smith.8 If everyone pursues their own objectives it can serve society as a whole (Smith, Adam 1776). Consumers are pursuing their self-interest as they dont want to drink coffee produced by children or slaves. Corporations and businesses respond to the change in demand by improving the work and

7 8

Illy. Illy: Espresso Coffee. Available: http://www2.illy.com/wps/wcm/connect/US/illy/. Last accessed 28th Smith, Adam (2008). An Inquiry into the Nature and Causes of the Wealth of Nations. London: Management Laboratory Press. p145.

living conditions of their workers, because they want to want to make a profit. And they can only maintain their customer base by listening to their demands. Everyone is pursuing their own objectives which results in an improved society for everyone. The workers have better working conditions; the consumer has slavery and / or child labour free coffee. And the business successfully responded to consumer demand, which keep their business sustainable. In my opinion businesses get involved in corporate social responsibility both out of selfinterest and external pressures. In todays environment large corporations suffer from bad reputation. Corporations are seen as institutions that chase short-term profits at the expense of the public. Most recent example is the banking crisis in which banks had to be bailed out by governments all over the world, because the bonus culture supported short-term risk taking. At first this risk taking led to staggering profits, so the bankers could reward themselves every year with a nice bonus. In 2007 housing prices started to collapse and it took the banking sector down with them. Needless to say that the taxpayer was not happy with the situation and the banking sector suffered a lot of reputation damage. Corporate social responsibility can help corporations overcome the reputation damage and put the company in a brighter light. I think this is the main reason corporations participate in social projects. And I support Porters opinion in this. This is what Porter described as a business creating a win-win situation in which economic goals and social goals are achieved at the same time. Corporate social responsibility is not a direct way of increasing profits, but one that can help the company gain the sympathy of the public.

Conclusion
After making this comparison between the views of Milton Friedman and Michael E. Porter & Kramer, the conclusion can be drawn that both are right. Although I think that Friedman is a bit too narrow in his conclusion that businesses should only focus on increasing profits. There is a lot of sense in Porters view that social and economic goals can be achieved simultaneously. Porters view does not undermine Friedmans view, because economic goals can be reached through social measures. In that case the public, as well as the shareholders, profit from corporate social responsibility. I dont agree with Friedman that corporate social responsibility is irresponsible. Porters example clearly showed that social objectives can be a very responsible business objective; it strengthens the position of the company, which helps to make the business more sustainable.

This is very advantageous in the long run for the owners. Corporate social responsibility can lead to higher profits in the future. That makes corporate social responsibility a responsible business objective when acted out of interest of the shareholders. But yes, it is indirectly focused on increasing profits, which is the purpose of business and maximising profits is the driver of maximising shareholder value, the owners of the business.

References
The Independent. (2011). Shell blamed over Niger Delta. Available: http://www.independent.co.uk/news/world/africa/shell-blamed-over-niger-delta2332335.html. Last accessed 24th Nov 2011. Carrol, Archie B. (1991). The Pyramid of Corporate Social Responsibiiity: Toward the Moral Management of Organizational Stakeholders. Albany: Business Horizon. p42. Friedman, Milton. (1970). The Social Responsibility of Business is to Increase its Profits. The New York Times Magazine. Sept. 13 Friedman, Milton. (1980). Free To Choose. Available: http://www.youtube.com/watch?v=D3N2sNnGwa4. Last accessed 20th Nov 2011. Illy. Illy: Espresso Coffee. Available: http://www2.illy.com/wps/wcm/connect/US/illy/. Last accessed 28th Microsoft Corporation. (2011). Microsoft - 2011 Citizen Report. Available: http://www.microsoft.com/about/corporatecitizenship/en-us/reporting/. Last accessed 24th Nov 2011. Porter, Michael E. & Kramer, Mark R. (2002). The Competitive Advantage of Corporate Philanthropy. Boston: Harvard Business School Publication Corporation. p5-16. Smith, Adam (2008). An Inquiry into the Nature and Causes of the Wealth of Nations. London: Management Laboratory Press. p145.