Companies with positive social effects make a real ‘impact’ for investors
The growth of impact investing – in which investments aim to not only generate a financial return but also positive environmental or social results – demonstrates a thriving interest in such returns
The United Nations’ 17 Global Goals For Sustainable Development are powerful – and necessary – for our planet and its population over the next 15 years. But if we hope to achieve them, we need to fundamentally change how we account for value.
Across the world, inequality is increasing and social mobility within countries isdecreasing. These trends – long noted by economists like Thomas Picketty and Joseph Stiglitz – are now being investigated by institutions like the Organisation for Economic Co-operation and Development (OECD) and the International Monetary fund (IMF). And progressive businesses are starting to recognize that inequality affects employee morale, productivity and economic stability, and are taking steps to reduce it.
A big part of the problem lies in value and how we account for it. Traditional economics suggest that self-interest is the basis of social value. As Adam Smith wrote in Wealth of Nations: “By pursuing his own interest he frequently promotes that of the society more effectually than when he really intends to promote it.”
That idea – self-interest is the best way to help society and create value – is a founding principle of our world economic system. Whether this argument was originally deployed because policymakers actually believed in it or just because it was a convenient approach for justifying inequality, its unintended consequences can’t be ignored.
One problem: rather than resources being allocated based on individual self-interest, they’re distributed based on financial self-interest. This ignores externalities like the impact that a business has or the benefits that businesses get from other stakeholders. In other words, this way of doing things omits significant sources of value will – and contributes to inequality.
In the past it has been difficult to argue that a business should account for its impact. After all, companies are required to provide relevant information to a company’s investors, not to everyone else.
But even if we stick to what is of interest to investors, we still miss out on what’s significantly valuable because of a very limited view of investors’ motivation – that is, the assumption that making money is their sole concern. Many investors, for example, would not be willing to buy shares in a company that took part in child labor practices or had unethical environmental policies.
Indeed, the growth of impact investing – in which investments aim to not only generate a financial return but also positive social or environmental results – demonstrates a thriving interest in such returns. According to a 2010 report by JPMorgan Chase & Co. and the Rockefeller Foundation, the impact investing industry may reach $1tn by 2020.
Even AdamSmith hinted at the notion that value is more than dollars. In the Theory of Moral Sentiments, he expanded upon his explanation of self-interest: “How selfish soever man may be supposed, there are evidently some principles in his nature, which interest him in the fortune of others, and render their happiness necessary to him, though he derives nothing from it except the pleasure of seeing it.”
This expansion of investors’ motivation – as financial self-interest while ensuring there are no adverse effects on the wellbeing of others – points the way toward values-based accounting. If accounting addressed the wider impact that organizations have on others, in line with Smith’s argument, then it would address the changes in people’s wellbeing that are caused by business activities.
It’s easy to envision a situation in which businesses would make provisions on their balance sheet for negative impacts and set up deferred assets for positive ones. The net effect could reduce the money that can be paid to shareholders as dividends, but not the cash available to the business.
This practice would also enable easier impact investing by providing price signals to the market that would help shift capital from organizations with more negative social and environmental impact to those that create fewer negative – or even generate positive – effects. And investors could be confident that those results have been accounted for in their returns.
Businesses like Kering, Holcim and others are demonstrating that it is possible to account for and value these effects. We need businesses like these to drive the development of new accounting standards. We also need investors to demand and consider such information.
Finally, we need a call to action for those who make public policy – which requires companies to produce annual accounts and dictates what information is relevant to investors.
Over the years it has become practice to assume that only financial return is relevant. The growth of impact investing and alternative types of accounting suggests that is not the case. Public policy should be changed to reflect this, and to incorporate investors’ motivation – helping to create value for all of us.
By Jeremy Nicholls is the CEO of Social Value International, a global membership network for individuals and organizations interested in changing the way the world accounts for value through the Seven Principles of Social Value. He tweets at @JeremyANicholls, or follow @SocialValueInt.
