Enhancing shareholder value with social responsibility

The shareholder representatives would also control the external auditor as proposed by the National Association of Pensions Funds to the UK Government in December 2004 and subsequent meeting with UK Minister on December 13, 2004. To provide creditable basis for both shareholders and directors to evaluate management separate advisory councils are required for representing the various stakeholder constituencies nominated by the UK Government for furthering “Enlightened Shareholder Value”.

The ability of non-executive directors (NEDs) to obtain feedback and feed forward information from representatives of customers, employees, suppliers and the host community would provide a rich alternative source of information about the business and its management independent of management. Without such sources of information, NEDs are forced to rely on information provided by management to jeopardise and or frustrate the basic reason for directors being appointed to direct and control management.

Without an inclusive and systematic process for obtaining intelligence independently of management to evaluate the scope and integrity of management activities and their reports, NEDs do not have a believable basis to convince shareholders and stakeholders that they are carrying out their role as required by the law with “due care and diligence”.

The formation of separate advisor stakeholder councils to provide independent but expert and informed intelligence for directors creates a basis for directors to:

1. creditably perform their duties with due diligence and vigilance;
2. enhance shareholder value; and
3. take into account the interest of customers, suppliers, employees and the community.

Separate councils are required to focus on the specific concerns of each class of stakeholder and to allow information to be kept confidential from other stakeholders. Stakeholders commonly donate resources to obtain representation when organising action against corporations so no payments would be needed to involve them when they have the incentive of protecting and furthering their commercial relationships.

Customers, employees and suppliers are strategic stakeholders because no company can exist or operate without them. They must therefore be considered an essential component of the “company as a whole” to whom directors owe their common law duty. On this reasoning there is no need to change the law to increase the duties of directors to achieve “enlightened shareholder value” as the statutory law already allows directors to use their powers for “a proper purpose”.

Because the survival and success of corporations is dependent upon strategic stakeholders it is very much in the interest of shareholders to have them recognised and bonded to the corporation independently of the directors. The protect and promote the interest of stakeholders, and the independence of their advise for the directors, the processes of establishing stakeholder councils would best be established through enabling provisions in the corporate constitution. Likewise the processes for establishing a shareholder committee established to mediate director conflicts of interest and the extent of discretionary public disclosure would also need to be set out in the corporate constitution or its by-laws.

In these ways corporations could enhance their ability to protect and further shareholder value as well as their social responsibilities while reducing the extent of their discretionary disclosure. The government and its regulators could then in turn relax a number of mandatory disclosure and auditing requirements for corporations who adopted constitutions that introduced shareholders and stakeholders as co-regulators. Provided directors resolved any problems raised in private discussions with representatives of shareholders and stakeholders the need for public disclosure on many matters could be avoided. After all the purpose of having corporate law, regulators, standards and codes are to protect shareholders and stakeholders. The objective should be to protect and nurture their interests so disclosure is not required.

As shown by a number of experiments and case studies such as “Why Good Accountants Do Bad Audits”, the most effective and compelling way to change the behavior of people is to change the institutional context in which they operate be they Nazis in Germany, US interrogators in Baghdad, or directors and auditors in any location. So instead of changing directors’ duties, the government should change the institutional architecture of corporate disclosure so this is managed by the users of the information and those that can act upon it rather than by those responsible for any unsatisfactory performance.

It is not rocket science as they say. The establishment of stakeholder councils and shareholder committees provide a way to change the institutional context of corporate reporting. They do so in way that richly increases the information available to NEDs while substantially reducing their need for public disclosure while greatly increasing the scope of public reporting to enhance the social accountability of corporations.