COVID-19 Crisis Calls for an Increased Focus on Corporate Sustainability
An appropriate balance between shareholders’ and stakeholders’ interests should guide corporate purpose in a post-COVID era
The unprecedented and far-reaching nature of the implications of the COVID-19 crisis has compelled companies to focus on continuity and survivability, which inevitably involves examining their existing sustainability strategies. At its core, sustainability is about remaining viable in the long-term and therefore, such examination includes companies assessing their long-term goals in the interest of short-term priorities.
Recent data demonstrates the benefits associated with focusing on the long-term, even in times of crises, and indicates that companies that invest in sustainability are better able to weather crises and recover from them relatively faster. This focus on corporate sustainability as a result of the disparate impact of the pandemic on various sectors of society has inevitably resulted in accelerating the on-going debate on corporate purpose, i.e., whether a company should focus on only maximising shareholder value or should balance the interests of both shareholders and stakeholders.
The COVID-19 pandemic presents an opportunity to revisit the doctrine of corporate purpose and think of enhancing corporate governance practices by integrating sustainability considerations into corporate decision-making processes. This blog looks at the current framework governing corporate sustainability and stresses on the need to strike an appropriate balance between shareholders’ interests and stakeholders’ interests.
Different views on corporate purpose
There are two contrasting positions on what the on the question regarding what is the objective of a corporation is:
(i) the shareholder wealth position, according to which earning profits for shareholders is the sole responsibility of businesses;
(ii) a more pluralistic approach, according to which businesses have a multiple-objective duty which should balance the interests of various stakeholders, including shareholders.
Corporate sustainability is rooted in the pluralistic or the stakeholder-oriented/stakeholder governance approach given that it reflects a fundamental commitment of corporations to all their stakeholders by taking into account environment, social and governance related concerns in order to drive long-term value creation. In other words, the stakeholder governance approach is reflective of a more meaningful and holistic corporate purpose when compared to the narrow understanding that focuses solely on maximising shareholder value.
While historically, corporate purpose in India has had a shareholder-oriented approach, the Companies Act, 2013 (Companies Act) and the Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations, 2015 (SEBI LODR Regulations) contain provisions which acknowledge the importance of striking a balance between the interests of shareholders and stakeholders, including the duty of directors to act in good faith to promote the objects of the company for the benefit of the company and in the best interests of its stakeholders.
Current framework and its limitations
The extant regulatory framework governing corporate sustainability in India recognises the role of stakeholders in corporate governance. Briefly, this is reflected in various provisions of the Companies Act and LODR Regulations, namely:
- Directors’ duties, including independent directors, to safeguard the interests of all stakeholders, particularly minority shareholders, and balance the interests of stakeholders;
- Obligations on companies with a net worth of Rs 500 crore or more or turnover of Rs 1000 crore or more or net profit of Rs 500 crore or more during any financial year to constitute a corporate social responsibility (CSR) committee;
- Obligations on listed companies to constitute a stakeholder relationship committee; and
- Significant additional reporting obligations for top 500 listed entities based on market capitalisation to describe initiatives taken by them from an environmental, social and governance perspective in their annual reports.
However, this framework has certain shortcomings in terms of both implementation and enforcement.
1. As regards the duty of directors to balance the interests of stakeholders, there is lack of clarity with respect to not only the universe of stakeholders but also on how directors should identify the interests of stakeholders and balance them;
2. Despite there being a positive obligation on directors to act in good faith to promote the objects of the company for the benefit of its members as a whole and in the best interests of the company, its employees, shareholders, the community and for the protection of the environment, there is no mechanism or evaluation criteria for monitoring compliance with this obligation;
3. Provisions related to CSR obligations of companies are in the nature of enabling provisions encouraging companies to act in a socially responsible manner and are not designed to monitor and regulate compliance by them;
4. Opportunities for non-shareholder stakeholders to bring enforcement actions against directors for breach of their duties to protect their interests are very limited;
5. The adequacy of extensive disclosure requirements needs to be examined given that creating an enabling environment for socially responsible behaviour depends only partly on the reporting done by companies and disclosure requirements are designed such that failure to report or disclose can be waived by reasons provided for doing so, as a result of which companies get away with non-disclosures if they state reasons for non-compliance.
A broader concern in the Indian context is in relation to the extent to which balancing the interests of all stakeholders is possible in a system where companies are primarily dominated by controlling shareholders. In other words, even if directors want to take into consideration the interests of non-shareholders, the system of nomination and election of directors in India (including independent directors) may preclude this as it is subject to the voting power of controlling shareholders.
Corporate sustainability should be pursued as a management practice. If employed strategically, it can go a long way in enhancing business value, building companies’ resilience and assuring business continuity.
Improving India’s corporate sustainability architecture
In light of the above discussion and given that it is the board of directors that is situated at the core of a company’s governance policies, it is submitted that corporate sustainability should be pursued as a management practice. If employed strategically, it can go a long way in enhancing business value, building companies’ resilience and assuring business continuity. This can be done by ensuring the following broad parameters:
- Laying down of indicative criteria for effective discharge of certain directors’ duties, specifically in relation to balancing the interests of stakeholders;
- Integrating environment, social, governance related factors in investment decision-making, creating incentives for directors and management to base their decisions on such considerations and adapting boards’ organisation, composition and engagement to these imperatives;
- Re-examining disclosure and reporting standards and preparing companies’ reporting in an integrated manner.
Evidently, the underlying objective of these parameters is to re-formulate the current framework and base it on a model that envisages a more meaningful corporate purpose based on an inclusive notion of profitability whereby investment decisions are guided by sustainability considerations through better corporate governance practices.
Views are personal.