Dr Madhav Mehra
President World Council for Corporate Governance

Courtesy of World Council for Corporate Governance

This is the second part of a two-part article discussing how corporate governance, if it were to achieve its objective, needs to move beyond the board room.

Maximising the shareholder’s returns in a world of such disparities can be most challenging. It is dangerous to focus on piling up profits and build islands of opulence and extravagance in a world where most people live in abject poverty and squalor. People are not going to accept a second class status in the internet world. People can stand poverty but not injustice. It is the corporates who will suffer a backlash if disparities persist and are not made good through market interventions. Widening differentials between the wages of an average worker and the CEO are a recipe for disaster.

While the process of globalisation has been debilitating for the poor, their aspirations have risen exponentially with the onset of knowledge economy. We are today living in an age of the individual. Knowledge economy has empowered individuals and democratised institutions. The internet has made people highly conscious of their rights. If corporates do not improve things on their own, people will take the law into their own hands as they did recently in Nagpur, where groups of women killed two criminals in broad day light. Awesome events of 9/11 have demonstrated the vulnerability of business. Gruelling poverty may not be the breeding ground for fundamentalists and ideologues such as Osama Bin Laden, but it certainly provides them a lush recruiting ground for promoting terror and mayhem. Business, therefore, has a choice: either look after the local communities or be forced to do so and risk losing all you have.

Last few decades have seen a gradual migration of values. There are many factors responsible for it. Dawn of the millennium brought about a convergence between various forces of change that led to a realisation that we are living in a world which is becoming increasingly interdependent. We must therefore act more responsibly to one another and towards the planet. The events of 9/11 further reinforced the new thinking. The other factor influencing the new thinking has been the demographics. A third of world population today consists of teenagers. It is these 2 billion teenagers who are largely driving the world economy today. Their social and economic values are vastly different from the older generation. The new generation looks for greater ethical responsibility, transparency, environmental action and social responsibility from the business. It was this generation which was responsible for the exponential growth of companies like Body Shop when they pitched their marketing on “we do not test our products on animals” back in the early nineties. This generation does not share a fanatical obsession to economic success. They expect the corporation to take care of people and planet along side the pursuit of profit. A significant proportion of young management graduates have opted for NGOs as their first job. Others have accepted lower salaries with corporations known for protection of human rights, environment or social action.

A survey conducted at the dawn of the millennium showed that 60% of those who responded would punish companies which are environmentally or socially irresponsible. On the other hand, 54% felt they would prefer companies with a record of good corporate citizenship as opposed to 40% who preferred quality and 34% who opted for good management. This showed that we have marched into an era where consumers will increasingly make purchases on the basis of firms’ role in society, how it treats employees, local neighbourhoods and other stakeholders. Social good has become a competitive differentiator. CSR is essentially a company’s approach to managing stakeholder issues such as customer - supplier relationship, work force diversity, human rights, work life balance as well as its efficient management of environment issues.

Globalisation has made corporations much stronger. Businesses have become so powerful that they are circumventing democratically elected governments. Mobility of capital has further loosened the hold of national governments on business. With corporations becoming increasingly footloose the government’s tax base is shrinking, forcing them to collect disproportionately higher taxes from salaried classes. No wonder there is a huge public outcry about companies being made responsible for their social and environmental obligations. Such is the pressure of civil society that more often than not market capitalisation is determined not by the profits announced by the company but the public perception of how they discharge their social and environmental obligations.

That there is a strong evidence of positive correlation between the CSR performance and financial performance has been proved by some 95 empirical studies during the last 32 years using 70 different measures. But results cannot be tantalising unless companies give up posturing and start implementing the nitty gritty of CSR. CSR effort can be a win-win situation for the company as well as for the poor and disadvantaged provided it is executed with all sincerity.

Corporations are becoming increasingly aware of the PR value of CSR. Companies have realised that its reputation is the most valuable intangible asset. No wonder, therefore, most claim to be votaries of CSR. There is a current debate whether this is driven by altruism opportunism. Christian Aid, a UK based charity, in their latest report “CSR - Behind the Mask: The real face of Corporate Social Responsibility” has castigated companies for using CSR as a shield behind which to campaign against environmental and human rights regulations. Citing Shell’s example, the report says that CSR in some cases has been counter productive and harmed relations between the business and local communities. Despite Shell’s claim about and not come clean for years. “honesty, integrity and respect for people” it cheated investors by overstating reserves. The report says that CSR is being used as a public relations tool and it is no coincidence that companies in oil, mining and tobacco are its biggest public champions. That most CSR initiatives of the companies are designed to improve their public profiles, is evidence by the example of Philip Morris, a US tobacco company, which spent $75 million dollars on charitable causes but $100 million dollars to launch a corporate image campaign to publicise the $75 million dollar spend.

No one expects companies to simply donate money for CSR action. In fact, CSR is far removed from simply giving away as charity. Philanthropy is not CSR. CSR has to be an integral part of the business model. The real benefit of CSR emerges only if it flows from the strategic intent; when the board and management both realise that CSR is a way to make the business more sustainable, assuring continual long term growth. CSR is part of continual improvement which says - everyday in every way I am getting better and better. CSR is an inside out job and not for those who simply want to act the part.

The pursuit of business today is limited to a small proportion of the total field of options. There is a lethargy of innovation. There is a whole new market of untapped customers and unarticulated demand waiting to be commercialised.

This market consists of 4 billion poor in the world. In an article published in HBR titled “Serving the World’s Poor Profitably” C K Prahalad and Alan Hammond have given an example of the huge premium being paid by India’s poor for water, food and fuel in a shanty town called Dharavi inhabited by over one million people in Mumbai. Nobody has worked on the inclusion of these poor in the market place. This will have a transformational effect on the whole business landscape. It will not only radically improve the lot of the poor but also make a hell of a lot of money for the business. A conservative estimate of the value of the market offered by the poor in 18 countries including India, China, Brazil, South Africa comes to $1.7 trillion, roughly equivalent to the annual gross domestic product of Germany. Dr Hammond who is the Vice President of the Washington based World Resource Institute says, “Business has all but turned a blind eye to the poor because of the assumption they have no money. Instead, global business continues to make the mistake of going after the “upscale” consumer even though there are fewer of them in developing countries.” This hypothesis has most radical implications. The governments can stop treating the poor as begging bowls. The civil society can stop viewing them as objects of charity. The poor at the bottom of the pyramid represent the largest untapped consumer market on this planet. They can transform the bottom lines of many a fading corporation and save them from bankruptcy while making this world a less dangerous place. No need for the government to dole out billions of dollars of public money each year in the name of poverty alleviation programmes. This money can be well spent on infrastructure - roads, electricity, water and sanitation.

The collateral social and economic benefits of extending the market economy to poor can be huge. The multiplier effect of including 4 billion poor in the world economy will be of galactic proportions. Here we are not simply talking of the $1.7 billion existing economy. This market will multiply manifold once the poor are provided with the infrastructure and communication to integrate them with the rest of the economy. This has the potential of not only lifting the world economy from its current depressed state but raising the world’s gross domestic product several times.

The concept has been given practical dimension by ITC in what they call their Social and Farm Forestry Project. ITC has effectively leveraged its wood fibre need to provide income generation for the economically backward wasteland owners of Andhra Pradesh. They brought equipment to turn the wastelands into productive farms and helped the local poor with planting trees intercropping with seasonal vegetables. In a single year in 2002, ITC’s afforestation programme has resulted in the planting of 20 million saplings. ITC claims, they have planted 66 million saplings generating employment opportunities for 200,000 people. The marriage of ITC’s technical know-how with the local poor has enabled yields of up to Rs. 75,000 (US$ 1666) per acre per year from former wastelands, thus enabling both the company and the farmer make money in a virtuous cycle of sustainable development.

Business can fundamentally alter the rural landscape and stimulate commerce and development by bridging infrastructure gaps in rural areas, linking the informal economy to established markets and providing distribution channels and transaction platform. Use of voice mail and voice recognition software can help bridge the literacy gap. Choupal experiment of ITC provides the farmer direct access to up-to-date market information and help him/her eliminate intermediaries and reduce transaction cost as well as corruption. It improves the decision making ability of the farmers and enables them to secure better quality, productivity and pricing.

The primary reason for both our corporate and social ills lies in our accounting system. Capitalism has admittedly won the battle against communism. But we need to understand the true nature of capitalism based as it is on the market’s ability to determine correct price levels. Knowledge economy has upset our equations and changed the definition and scope of capitalism. Firstly, it has focused on the value of non-financial measures. Secondly, this has established new rules of exchange. Exchange of knowledge has no losers. Both sides sharing knowledge win. We do not realise that corporates can create value by various non-financial measures. Enormous value can be created by enhancing human capital, environmental, capital and social capital. We are captives of a strange economy. I can walk out of this room, take a flight to any destination I want, hire a room in the best hotel, stay for weeks, may be even months - all this without a rupee in my pocket. But if all the air is sucked out of this room I cannot survive for more than a few minutes. Yet, while we have a price tag for all the goodies that I can live without, the things that are most crucial for my survival are free. Market economy is meaningless if it can not count the non-financial goodies that are far more important to our happiness such as our emotions, love, trust, inspiration, joyfulness.

We think that socio economic inequalities provide imperatives that provide compelling reasons to make poverty alleviation a business issue. Business has been the greatest beneficiary of globalisation. The rapid expansion of trade and cross border capital flows made possible through the globalisation have created unparalleled opportunities for growth and financing of business. Globalisation cannot work properly if the poor are not made part of it. They need to be reassured that globalisation can benefit them equally. The biggest business challenge of today is to bring the poor into the market economy. It should be in the self-interest of corporations to do that as a matter of top priority. Business has to realise that sharpening of the inequalities as a consequence of globalisation is the greatest threat to the security and sustainability of their businesses.

Secondly, for the first time in human history business has the power and technology to make a difference in human lives. It has a social cause to make profits instead of the invisible hand of Adam Smith.

Thirdly and more importantly, businesses have to realise that throughout history businesses have expanded and multiplied only by reaching what C K Prahalad, the noted management guru calls, ‘the bottom of the pyramid’. Both Microsoft and mobile telephony that spawned some of the 21st Century’s most successful businesses have proved the point. Microsoft succeeded because it aimed to reach every home. IBM failed because the vision of its founder Thomas Watson was “there was to be a world market of just five computers”. Reliance Infocomm, a mobile phone operator in India received one million applications in the first days when it offered a mobile phone for $10. India today has more mobile phones than landlines.

Transform Businesses The success stories of Gramin Bank in Bangladesh, Casas Bahia in Brazil, Cemax in Mexico and ICICI Bank and Nirma in India show how accessing the poor markets have transformed both these businesses and the poor constituencies they served. No amount of handouts could have improved the lot of the poor served by these businesses. ICICI Bank has developed a new model of relationship with its customers. It has no direct contact with its half a million rural clients. It monitors their loans which are as little as 6 dollars with instalments of 20 cents each month through self help groups formed by rural women. Cardiac care and cataract operations are reaching new heights of process innovation in India. A cataract operation in Aravind Eye Hospital costs barely $50 including stay. 40% of the patients are treated free. Yet, the hospital is debt free and has a return on capital of 120% to 130%.

Another revolution has been brought by Unilever subsidiary in India, Hindustan Lever. They have created a distribution network of some 30,000 women called Shakti Ammas to distribute their products in remote villages as direct-to-consumer initiative targeted at individuals at the bottom of the pyramid. Training these women in entrepreneurial skills will have a cascading effect on the rural economy. Scaling up this model worldwide can have phenomenal results in alleviating poverty and bringing the poor into the market economy.

All the examples show that if corporate governance has to achieve its objective of enhancing corporate value it must go beyond the boardroom. It must extend to all stakeholders. Above all it must engage with poor not simply from an altruistic point of view but to improve the bottom line of business. In the words of Charles Handy, “the principal purpose of a company is not to make profit. Full stop. It is to make profit to do things better and more abundantly.” Profit is like breathing. You can not live without breathing but it is not the purpose of living. As Andrew Carnegie, the great American industrialist philanthropist said, “it is great to make money but it is a disgrace to die rich”. Changing our motivation from greed to taking pride in making a difference will make businesses sustainable and help us to give up posturing and get real with corporate governance. Americans have long been proud of the decade when slavery was abolished. Let future generations be proud that it was our decade that abolished poverty and removed inequalities. The urgency is not because social good is the ultimate human creed but that the alternative is anarchy where business would have no chance to succeed.