Sustainability: a business phenomenon

Sustainability: a business phenomenon

Article Type: Editorial From: American Journal of Business, Volume 28, Issue 2

At the American Journal of Business, a key goal is to provide an effective medium for scholars and managers to share and discuss research findings on business and business phenomena. One such phenomenon that has emerged over the past few years is the increasing amount of sustainability reporting that is being done by firms. Over the period 2001-2011, the number of reports filed by “large” firms worldwide, and recorded under the Global Reporting Initiative, increased from 84 to 1,656[1]. Companies such as Bayer, Cliffs Natural Resources, Coca Cola, Du Pont, Eaton, Ford, GE, Hoffman La-Roche, Philips, Rio Tinto, Sherwin Williams, Unilever, and Wal-Mart are actively invested in the concept of sustainability. In fact, such is the preponderance of firms subscribing to sustainability that Dow Jones has created a separate sustainability index. Dow Jones explains that:

[…] the concept of corporate sustainability is attractive to investors because it aims to increase long-term shareholder value […] [and given that] […] sustainability performance can now be financially quantified, they now have an investable corporate sustainability concept (Dow Jones Indexes, 2012).

Given all of this, it appears that a transformation has begun to take place since Hart and Milstein (2003) argued that “most managers frame sustainability […] as a one-dimensional nuisance.” Because the job of the firm is and will continue to be to make a profit, and to survive to make more profit in the future, the question emerges how can sustainability be managed to generate a competitive advantage? Extant research argues for a relationship between aspects of sustainability and superior firm performance, but there is no integrative framework to show how the different parts come together.

The roots of what is now known as sustainability can be traced back to 1968 when the Swedish Government suggested to the United Nations Economic and Social Council that there was a need for discussion on human rights and the natural environment. That initiative eventually led to the “Earth Summit” – the UN Conference in Rio de Janeiro, Brazil, on Environment and Development – which resulted in a list of environmental problems that needed addressing. They included scrutiny and control of the production of toxic materials, the need to identify alternative non-fossil-based sources of energy, the need for improvement in air quality, and the need to address water-scarcity problems. Public concern over the environment had fueled government concern, and 172 governments were represented at the conference. Since then, environmental regulation has been increasing at an unprecedented rate (Lubin and Esty, 2010). Berns et al. (2009, p. 21) noted that sustainability “ranks high on legislative agendas […] media coverage of the topic has proliferated; and sustainability issues are of increasing concern to humankind.” The results of their survey of 1,500 companies confirms the importance of sustainability to firms insofar as 92 percent of respondents claimed to be addressing sustainability and less than one-fourth said that the recent worldwide recession had prompted them to reduce sustainability efforts.

The World Commission on Environment and Development (WCED), otherwise known as the Brundtland Commission, which was a spin-off from the United Nations, is generally acknowledged as being the originator of what has become sustainability. The commission defined sustainable development as “meeting the needs of the present generation without compromising the ability of future generations to meet their needs” (WCED, 1987). Etzion (2007, p. 638) stated that:

[…] environmental issues are intertwined with the broader concept of sustainable development, which – in the context of business – is commonly understood as integration of social and environmental concerns into a company’s goals and mission, without foregoing financial vitality.

In their survey of businesses, Berns et al. (2009) found that sustainability has an even broader definition that can include not only environment but also economic, societal, and personal factors. They state that “our survey revealed a pervasive lack of understanding among business leaders of what sustainability really means to a company” (p. 24). For the purposes of the discussion here, we will assume that, at a minimum, firms rely on the starting definition for sustainability that is concerned with the preservation of resources.

The classical view of sustainability has been that firms can use resources more efficiently, thereby reducing waste, emissions, and costs. That not only reduces environmental problems and increases the quality of life for the local community but, in turn, it improves the firm’s reputation and reduces the risk of loss of license to operate. Hart (1995), who explored the firm’s relationship with the natural environment, concluded that pollution prevention, product stewardship, and sustainable development can be combined to generate a competitive advantage. However, all three of these actions require external inputs. Pollution prevention, he argued, requires the transparency necessary for public scrutiny, whereas the latter two require interaction with stakeholders in the form of integration into the process of product stewardship and collaboration for sustainable development. Hillman and Keim (2001) argued that building better relationships with primary stakeholders – shareholders, employees, customers, suppliers, local community, the environment – could create valuable intangible assets and thus lead to improved performance. They separated corporate social performance into two parts, stakeholder management and social-issue participation. Stakeholder management reflects Clarkson’s (1995, p. 107) argument that firm survival and continued profitability depend upon its ability to “create sufficient wealth, value, or satisfaction” among primary stakeholders so that they continue to provide support. Social-issue participation reflects the use of corporate resources to support issues that are important to society but not necessarily important for primary stakeholders; for example contributions after natural disasters, not doing business in countries with human-rights issues, and so forth. Hillman and Keim (2001) found that stakeholder management led to improved value creation for shareholders while social-issue participation reduced it. Thus, they concluded:

[…] investing in stakeholder management may be complementary to shareholder value creation and may indeed provide a basis for competitive advantage as important resources and capabilities may be created that differentiate a firm from its competitors (p. 135).

We would add that because of their tacit, relational nature, those resources and capabilities are likely to be difficult to imitate and could thus create sustainability of advantage. In line with that thinking, Choi and Wang (2009) found that for firms with above average financial performance, good stakeholder relations helped sustain that performance, and for firms with poor financial performance, good stakeholder relations helped return the firm to industry-average performance more quickly.

Implicit within these findings are four issues that emerge as being important for sustainability. First is the existence of benefits to both the firm and to stakeholders. Second, the benefits to the firm arise from stakeholder management. Third, those benefits to the stakeholders can provide an advantage for the firm that can be sustainable. Fourth, and driving the third point, the benefits may be may be tacit and socially complex. Reflecting that, one of the sustainability-management tools used at Cliffs Natural Resources is the “Value Creation Summary Table,” which identifies tangible and intangible value for both Cliffs and others (Cliffs, 2010)[2]. For example, under the “economic value” part of their sustainability program, tangible benefits for Cliffs included tax optimization, and intangible benefits included the social license to operate plus goodwill. The tangible benefits for others – in this case, the local community – included direct financial support (pro-bono assistance plus money for things like equipment for fire departments and sewer-system improvements). Intangible benefits to the local community included better services and infrastructure that would attract more job-creating industry.

The link between benefits to stakeholders and competitive advantage is mediated by bounded self interest. Harrison et al. (2010) argued that firms and stakeholders develop trusting relationships via distributional, procedural, and interactive justice;, i.e. the fairness of outcomes of decisions, fairness of the decision-making process, and fairness in the way that stakeholders are treated in transactions with the firm. This thinking builds on their earlier work (Bosse et al., 2009) where they argued that the traditional assumptions of individuals seeking to maximize their utility that permeate the economics, transaction-cost, and management literatures are inappropriate because, instead, stakeholders and managers alike respond to fairness and reciprocity. Drawing on the economic and legal literature (Fehr and Gacher, 2000; Jolls et al., 1998) they go on to explain that instead of being self-interested utility-maximizers, people have “bounded self-interest” and reciprocity is a more realistic model of how people actually behave. In other words, when someone is fair and supportive of you, you will be fair and supportive in return. People will still seek to maximize their utility, but it will be within the bounds of reciprocity. Under such conditions, a need for the firm to change or adapt is more likely to be met with stakeholder support rather than resistance, which provides the firm with a socially-embedded, causally ambiguous and thus difficult-to-imitate advantage that ultimately should be reflected in financial performance. Bosse and colleagues go on to note that if there is unfairness then the response will be equally or more unfair (Offerman, 2002). Figure 1 draws together these relationships into an integrative framework.

Figure 1 Sustainability, stakeholder management, bounded self interest, and competitive advantage

Research and practice together have moved sustainability from being “the right thing to do” to the assessment of the financial value of sustainability in terms of direct value creation from such things as access to resources, or in terms of risk mitigation from fewer strikes, less disruption and delays, and less crisis management, litigation, and conflict resolution. Additionally, both scholars and managers have identified the benefits for stakeholders as having the potential to create what can be described as a multiplier effect that comes back to firms in the form of a source of sustainable advantage. In this editorial we have drawn both on research and what is happening in practice to construct a framework that explains the links between sustainability programs and competitive advantage. At the heart of the framework are the ideas that sustainability means managing stakeholders, that there are both tangible and intangible benefits for both the firm and for stakeholders, and that feedback from the latter to the firm is dependent upon the existence of bounded self-interest (i.e. stakeholders behave in a reciprocal manner to fairness exhibited by the firm). But, underpinning this whole discussion on sustainability is the point that as societal expectations for what businesses should (or should not) be doing continues to change there is an effect on firms’ strategy and performance. Such issues are at the core of what we seek to publish in the American Journal of Business. As explained at the beginning of this editorial, one of our main goals is to produce a journal that allows scholars and managers to share research on business and business phenomena.

These data were obtained from the Sustainability Disclosure Database (http://www.database.globalreporting.org/search), January 12, 2013. The database breaks firms down into “large, SMEs, and MNEs” with large being the equivalent of a Fortune 500 firm or similar. For MNEs the number has increased from 25 in 2001 to 480 in 2011, and for SMEs it has increased from 4 to 293.

Cliffs Natural Resources is an iron-ore and coal mining company. Extractive industries have been subject to environmental scrutiny and regulation for a long time and it is the norm in industries such as these for firms to embrace sustainability practices.

References

Berns, M., Townend, A., Khayat, Z., Balagopal, B., Reeves, M., Hopkins, M.S. and Kruschwitz, N. (2009), “The business of sustainability: what it means to managers now”, MIT Sloan Management Review, Vol. 51 No. 1, pp. 20–26

Bosse, D.A., Phillips, R.A. and Harrison, J.S. (2009), “Stakeholders, reciprocity, and firm performance”, Strategic Management Journal, Vol. 30, pp. 447–456

Choi, J. and Wang, H. (2009), “Stakeholder relations and the persistence of corporate financial performance”, Strategic Management Journal, Vol. 30, pp. 895–907

Clarkson, M. (1995), “A stakeholder framework for analyzing and evaluating corporate social performance”, Academy of Management Review, Vol. 20, pp. 92–117

Cliffs (2010), Common Values: Global Growth – Shared Benefit, available at: http://www.cliffsnaturalresources.com/EN/NewsCenter/MediaResources/Documents/Cliffs-SharedBenefit.pdf (accessed January 9, 2012)

Dow Jones Indexes (2012), available at: http://www.sustainability-index.com/07_htmle/sustainability/sustinvestment.html (accessed January 9, 2012)

Etzion, D. (2007), “Research on organizations and the natural environment, 1992-present: a review”, Journal of Management, Vol. 33, pp. 637–664

Fehr, E. and Gacher, S. (2000), “Fairness and retaliation: the economics of reciprocity”, Journal of Economic Perspectives, Vol. 14, pp. 159–181

Harrison, J.S., Bosse, D.A. and Phillips, R.A. (2010), “Managing for stakeholders, stakeholder utility functions, and competitive advantage”, Strategic Management Journal, Vol. 31, pp. 58–74

Hart, S.L. (1995), “A natural-resource-based view of the firm”, Academy of Management Review, Vol. 20, pp. 986–1014

Hart, S.L. and Milstein, M.B. (2003), “Creating sustainable value”, Academy of Management Executive, Vol. 17 No. 2, pp. 56–69

Hillman, A.J. and Keim, G.D. (2001), “Shareholder value, stakeholder management, and social issues: what’s the bottom line?”, Strategic Management Journal, Vol. 22, pp. 125–139

Jolls, C., Sunstein, C.R. and Thaler, R. (1998), “A behavioral approach to law and economics”, Stanford Law Review, Vol. 50, pp. 1471–1550

Lubin, D.A. and Esty, D.C. (2010), “The sustainability imperative”, Harvard Business Review, Vol. 88 No. 5, pp. 42–50

Offerman, T. (2002), “Hurting hurts more than helping helps”, European Economic Review, Vol. 46, pp. 1423–1437

WCED (1987), Our Common Future, Oxford University Press, Oxford

Further Reading

Griffin, J. and Mahon, J. (1997), “The corporate social performance and corporate financial performance debate: 25 years of incomparable research”, Business and Society, Vol. 36, pp. 5–31

Harrison, J.S. and St John, C.S. (1996), “Managing and partnering with external stakeholders”, Academy of Management Executive, No. 2, pp. 46–60

Richard Reed, Susan F. Storrud-Barnes
Editors-in-Chief