Sustainable Businesses Need to Encourage Long-Term Environmental Policies

While a sustainable entrepreneur may have great ideas for products and services, it may not be enough to be successful unless the business is operated in a supportive environment.  While many companies are launched in small spaces and often change locations multiple times, sustainability demands that a business eventually find a place where it can settle into the community and develop ensuring relationships with community members and a strong story to tell to prospective employees and customers that draws them to the place that the company calls home.  Great communities for sustainable entrepreneurship do not develop on their own, they are the product of strategic and courageous decisions by community leaders from the public and private sector to make important, sometimes risky, long-term investments, and the discussion below addresses how businesses can contribute to building sustainable communities and the reasons why they should.

An Op-Ed piece appearing in The New York Times in November 2018 highlighted one of the reasons why sustainable entrepreneurs and their companies need to engage in debates among lawmakers, regulators, community groups and neighboring businesses regarding the focus and direction of land use policies in the areas in which the company operates and their employees and customers live and go about their daily routines.  The author sought to make the point that “environmentalism is a long-term investment” that should not be ignored or rejected and argued that if Chicago had not been forced by the public sector to clean up the Chicago River in the 1970s and 1980s and create and maintain open around it, large swathes of the downtown area would have remained an eyesore and the city and businesses operating there would have been deprived of billions of dollars of economic value.  His view was that explicit policy decisions and related regulations to preserve and clean public lands can and often do unlock private-sector wealth and, as such, should be supported by businesses seeking to act in a sustainable manner:

“Closing a national monument to allow oil drilling—or terminating the Land and Water Conservation Fund—might help a company make more profit in the short run.  But a vast array of benefits will also be destroyed. … Accessible public lands and vibrant wildlife bring people to small towns and rural areas.  They attract tourists and give residents a reason to stay, and give an enormous boost to the private sector . . .”.

Assuming there is some truth to this proposition, acting in an environmentally and socially responsible manner requires that companies engage in the political and regulatory process to design and support appropriate initiatives to address market failures that end up giving too much weight to short-term profitability at the expense of long-term sustainability.  It is certainly true that compliance with the clean-up regulations in the early years involved additional expense for companies operating near the Chicago River, including higher taxes to pay for public sector investments, and that many of those companies had to implement material changes to the way in which they operated; however, the health and safety risks to employees, visitors to the facilities and community members were clear.  As time went by, the companies began to see the economic value from the early investments as the risks subsided and the area began to attract new businesses that brought in more customers.  In addition, the development efforts generally include improvements to public transportation and housing that make it easier for potential employees to access the area, usually resulting in a significant improvement in the size and quality of the talent pool for local companies.

While the Chicago story played out in a large urban area in a major city, the same lessons and opportunities apply in small towns and rural areas, literally anywhere that a sustainable entrepreneur might choose to launch his or her business.  As noted in the quote above, rural towns that make a concerted effort, with the support of local businesses, to protect and maintain their public lands can continue to thrive through tourism and by becoming a “great place to live and work” that attracts new companies that want to be able to offer something special to their employees.  By encouraging policymakers in their local communities to invest in maintaining and improving environmental conditions, sustainable entrepreneurs can participation in the creation of a network that improves access to the services needed for their businesses to be successful.

Businesses can also contribute through their support of specific initiatives and events that can help transform conditions in their communities and the day-to-day lives of community members.  For example, companies should develop relationships with local community development organizations, perhaps assuming leadership roles, in order to keep abreast of ideas and identify and seize on opportunities associated with future community investments.  Companies should monitor plans for creating more public lands for development and making under-utilized public lands available for private sector development.  Companies, large and small, can also contribute cash and human capital to support events that showcase local merchants.  Finally, companies can work with local governments, other businesses in the area and nonprofit community development organizations to make the area more attractive for prospective employees, shoppers and other visitors by supporting new playgrounds and recreational areas, development of an entertainment district and establishment of satellite campuses of local universities so that people who live and work in the community can have access to courses that will improve their skills and capacity to contribute to community businesses.  To learn more, see J. Karras, 12 Strategies That Will Transform Your City’s Downtown (February 5, 2014).

Some Sustainability Myths

New Zealand Trade and Enterprise identified and explained some of the more myths about integrating sustainability with business:

Sustainability is about being an environmental activist or about philanthropy and I can’t afford to give away all the profit of my business.  While philanthropy can be an important and effective component of the sustainability puzzle, it is just one piece and focusing too much on philanthropy can lead to ineffective business programs that fail to achieve very dramatic benefits for the community or the company.

The sustainable option is going to be more expensive than the alternatives.  It is true that certain environmental policies, such as investing in renewable energy, can be expensive, many responsible business decisions and activities actually cost little or nothing and even larger investments will ultimately pay for themselves through substantial and ongoing cost savings.  Focusing on employee engagement and satisfaction, customer service and community involvement are all examples of sustainability programs that usually require surprisingly small amounts of cash and other resources.  In addition, simple programs aimed at reducing overall consumption of energy and other natural resources (e.g., green commuting options and recycling) can generate savings without impairing productivity.

Sustainability is about re-cycling materials, therefore other than installing recycling bins into our offices, sustainability doesn’t affect my business.  Recycling is part of the sustainability puzzle; however, all companies, including those not engaged in manufacturing of products which can be recycled or which do not use recyclable materials in their operations, can find other areas to implement sustainability: employee engagement; suppliers and supply chain management; operational efficiency; resource consumption and waste; packaging and facility design; volunteerism; governance; ethics and customer service.

If we use green-colored packaging and the words ‘eco’ or ‘organic’ in our product, then we can sell our product as being ‘green’.  Many companies have appeared to underestimate their customers’ critical thinking skills and ability to smell “Greenwash”.  They understand that just because products come in recycled packaging or are marketed with the latest buzzwords does not make those products, or the company itself, any more environmentally or socially responsible. 

We are already doing as much as we can in our company, but it is not making a difference to sales.  Customers have a limited amount of time and resources to research and understand sustainability initiatives can companies need to proactively market and thoughtfully explain their legitimate initiatives so that customers and other stakeholders understand how the business and products of the company are adding value. 

Sustainability seems so complex and hard to measure, how can we hope to manage it?  In order to manage anything, including sustainability, you need to measure it; however, many managers have complained that it is just too difficult and costly to measure environmental and social impact.  Fortunately, a number of tools have been developed to help even the smallest businesses measure sustainability, often by applying relatively simple processes and habits.  It will remain difficult to compare the value of one type of sustainability impact, such as reducing pollution, with another, such as providing educational opportunities to members of the local community; however, improvements in specifically identified dimensions can be tracked.

This post is part of the Sustainable Entrepreneurship Project’s extensive materials on Sustainability and Entrepreneurship.

Source: Sustainable Business: A Handbook for Starting a Business (New Zealand Trade and Enterprise).

Founders’ Dilemmas

Even when armed with the most promising business idea, founders inevitably face a number of challenges from the moment they begin to consider whether or not to form a new company. Wasserman argued that founders must confront a number of “founders’ dilemmas” (see table below) that require difficult decisions with respect to relationships, roles and rewards and must also honestly assess their own goals and motivations for launching the company and make sure that the choices they make along the way remain aligned with those goals.[1]  Based on extensive research into decisions made by founders at the earliest stages of their new ventures Wasserman came up with the following observations and recommendations to guide founders through the process of deciding whether to launch a startup, forming a founding group, allocating duties and responsibilities, establishing reward systems and bringing on the human resources and investors necessary to stabilize and grow the business:

  • The first question for a prospective founder is whether or not it’s the right time in his or her career to launch a startup. The founder needs to be sure that he or she has the necessary passion and experience and that the market is ready to be receptive to the proposed product or service.
  • In addition to passion the founder needs to critically evaluate whether he or she has the requisite human, social and financial capital to successfully launch the business without the help of others. In order to “go it alone” a founder must be confident that he or she has expertise in multiple business and technical areas, sufficient capital to get through the start-up stage and strong connections in the relevant marketplace.  If any of these elements are lacking it may be necessary to seek out co-founders who can fill in the gaps.
  • When looking for additional founders make a conscious effort to achieve diversity in terms of background, age, experience and network connections. This not only broadens the collective skills set of the founding group it reduces the risk that the founders will run into conflicts when setting their roles and responsibilities.  Wasserman cautioned against turning to family and close friends, even if they have the right skills and share the same passion for the ideas and business model, and noted that research confirmed that mixing business with family and friendship too often led to conflict, tension and bad outcomes for both the company and the relationships.
  • Make sure that each of the members of the founding team are clear about expectations with regard to their roles, responsibilities and contributions and make sure there is an “exit plan” in place that clearly lays out the process for the departure of any of the founders before a problems arises. It is difficult to talk about “breaking up” before a relationship has really begun; however, the founders need to do it, preferably with input from experienced and independent outside advisors who can raise all the questions that the founders may be reluctant to ask.
  • Once the founding team has been formed the next step is to assign roles and responsibilities. While the founders may have roughly equivalent equity stakes in the new company and share similar passions about the projected products and services one of them will need to take on the role of chief executive officer, or “CEO”.  Wasserman recommended that the best candidate is the founder who is most invested in the start-up and notes that this may not necessarily be the founder who came up with the original idea upon which the start-up is based.
  • An effort should be made to create a clear division of labor among the members of the founding group so that all required activities are managed and overlap is reduced. Proper and clear differentiation of tasks facilitates accountability; however, Wasserman warned about inflexibility in assigning and changing roles and counseled that the founders need to strike the proper balance between division of labor on the one hand and tapping into the creativity that comes from collective work and collaboration.  Wasserman also cautioned about handing out titles among members of the founding group and it is important for all titles to be accompanied by a clear statement of duties and authority and expectations about how the holder of that title will interact and collaborate with the holders of other titles.
  • Selecting a CEO and assigning each of the founders one or more primary areas of responsibility are part of a larger process of developing a decision-making process among the founding team and the founders need to decide which issues will require debate among all of the founders and how those debates will ultimately be resolved. Wasserman noted that founding teams take a variety of approaches: some choose egalitarian systems in which each of the founders has an equal say and a unanimous vote is required and others prefer a more hierarchical approach.  Regardless of which method is used it is important for everyone to understand it in advance and to make sure that managers and employees outside of the founding group are aware of how the founders make their decisions.  Even if egalitarianism is not the rule the founders are well advised to communicate closely about decisions, seek inputs from all of the founders and make sure that all of the founders are aware of the substance of important decisions.
  • Even though a decision-making process is in place the founders need to anticipate the possibility of conflicts which if not addressed may ultimately threaten the viability of the entire venture. For example, even though the founders have agreed that all of them will be heard on every key issue one of the founders may begin to feel frustrated and alienated if decisions continue to go against him or her.  Similarly, a founder given a title that implies primacy in a particular functional area, such as marketing, may feel that the other founders are encroaching into his or her domain.  The founders need to have a plan for settling these fundamental disputes, often seeking support and guidance on substance and process from trusted outside advisors who are independent of the founders, and should also continuously assess responsibilities in key areas such as product development, sales, marketing and finance.
  • Wasserman recommended that the founders should address the touchy subject of rewards, including the allocation of equity, after they have thoroughly discussed the various issues described above with regard to relationships and roles and everyone has a better idea of how committed each founder will be to the venture and the relative value of each founder’s projected contribution to the new business. Wasserman noted that one of the most common problems among founder teams is an initial allocation of equal equity shares among all the members only to find out later that one or more of the founders is unable or unwilling to carry his or her weight or that his or her contribution is simply not as valuable as what is being provided by the other founders.
  • Founders have different appetites and expectations regarding the rewards associated with their involvement with a start-up and those need to be considered. Some founders are more interested in money and seeing the value of their equity stake increased as quickly as possible while others are more concerned about retaining control over the direction of the business and making sure that their voices are heard when decisions are being made.  All of this should be taken into account when allocating equity and assigning rights to the equity interests.
  • Founders were encouraged to include vesting provisions in the agreements covering the allocation of equity interests and Wasserman noted that vesting should not be construed as an indication of mistrust but simply as a convenient and realistic tool for making sure that expectations are met and that the founders have an objective means for dealing with unanticipated events such as an egregious failure to perform, a good faith dispute among the founders, the unexpected departure of one of the founders due to illness or death or the demands of outside investors for changes in the leadership group.
  • When establishing the reward systems and equity allocations among the founders consideration also needs to be given to what may be needed in the future to fill in gaps in skills of the members of the founding team and build out the business. If the founders know that large blocks of stock will be needed to bring in a more experienced CEO and/or build out a product development team this should be taken into account from the very beginning.  In addition, the founders should anticipate dilution by equity that will be sold to outside investors.

The observations and recommendations above pertain mostly to the pre-founding stage and the process of building and organizing a founding team; however, Wasserman noted that founders need to consider the steps that will have to be taken to find and attract skills and resources that the founding group does not have and which will be needed to grow the business.  The first set of dilemmas beyond the founding group were referred to as “hiring dilemmas” and included questions about what types of people should be recruited and hired to assist the founders and how those persons should be managed during the challenging and turbulent immediately following the launch of a new business.  Specific issues include establishing the duties and responsibilities of new hires and selecting the most effective way to compensate them in light of the risks involved.  A second set of dilemmas will become relevant when the founders need to approach investors to provide capital beyond the financial resources that the founders are themselves able and willing to contribute to the new venture.  Different types of investors will be available at various stages of the development of the company and each of them will have their own demands regarding their equity stake in the company and their ability to exert control over the actions of the founders.

Wasserman argued that it is extremely important for each founder to come to grips with what motivates him or her in taking on the rigors of starting up a new business and investing all the time and effort that will be needed in order to make it successful.  According to Wasserman, the two main types of motivation for founders are “control” and “wealth”.  Founders who are primarily motivated by control can be expected to proceed more slowly and cautiously in allowing outsiders to become involved with the company as co-founders, investors or employees and will seek to guard their ability to maintain control at each stage of the process of developing new products and services, expanding human resources and tapping into outside capital.  On the other hand, wealth-motivated founders are more open to any reasonable strategy for increasing the value of their ownership stake in the company and thus are more likely to aggressively pursue venture capital even at the risk of losing control of the board of directors and support bringing on experienced talent from outside of the original founder group who can accelerate the growth of the company even if that means that the founder’s own equity stake will be diluted.

Wasserman’s Founder’s Dilemmas

·         At what point in my career should I consider launching a startup?

·         Do I have requisite passion for my idea and the necessary career experience to effectively launch and guide a new business?

·         Are there any issues with my personal situation that may prevent me from fearlessly pursuing the new opportunity such as a lack of support from family or insufficient personal financing resources?

·         Is the market ready for and receptive to my business idea?

·         Should I launch the new business on my own or should I recruit co-founders?

·         If co-founders are needed how can I go about identifying appropriate candidates (e.g., friends, family, acquaintances, current or former co-workers, former classmates or strangers)?

·         What positions and responsibilities should each of the co-founders assumes with the start-up?

·         How should decisions be made among the members of the founding group (i.e., what decisions can be made along by one of the founders and which require consultation and how should the consultation and voting be conducted)?

·         How should equity and other financial rewards be allocated among the members of the founding group and what provisions should be made for vesting and repurchase of equity upon departure?

·         What types of human resources will be required at different stages of the company’s growth?

·         What special challenges will need to be taken into account for early hires and should they be treated differently than managers and employees hired later in the development of the company?

·         What types of investors should be approached at different stages in the development of the company and what challenges will be created for the founder group by introducing outside investors?

·         If I am to be the CEO of the company how do I feel about the possibility of being replaced as CEO by a “professional CEO” at some point in the future if required by investors or other stakeholders?

Note:  The questions above are adapted from N. Wasserman, The Founder’s Dilemmas: Anticipating and Avoiding the Pitfalls That Can Sink a Startup (Princeton, NJ: Princeton University Press, 2012), 8.

This post is part of the Sustainable Entrepreneurship Project’s extensive materials on  Entrepreneurship.

[1] The discussion of Wasserman’s observations and recommendations in this section is based on material appearing in N. Wasserman, The Founder’s Dilemmas: Anticipating and Avoiding the Pitfalls That Can Sink a Startup (Princeton, NJ: Princeton University Press, 2012).

CSR – An Opportunity for Lawyers to Do Good and Be Well

The legal profession is much maligned in the business community and in society in general, and many lawyers complain of deep dissatisfaction with their choice of career and the day-to-day tasks associated with their roles in the legal system.  Proactively participating in environmental and social responsibility initiatives, either as individual lawyer and as law firm team members or by assisting clients, is a real opportunity for attorneys to change their lives and the communities in which they practice in a positive and impactful manner.  Many attorneys entered law school with the goal of acquiring the tools necessary to help those who needed support from others and, in some small way, to “change the world”.  For those who may have lost their way, for whatever reason, or are looking for ways to do more, corporate social responsibility (CSR) is a welcome and promising platform and this post discusses the various roles that lawyers can play in CSR planning, governance, management and implementation.

While CSR is often described as “going beyond the law”, a good deal of the work relating to social and environmental responsibility involves understanding how to comply with existing laws and regulations and planning for and addressing the risks of misbehaviors in areas generally associated with CSR and sustainability such as human rights and child labor issues in the supply chain, discrimination in the workplace, health and safety issues, environmental practices, and cybersecurity and privacy.  As such, the legal department, particularly the general counsel, has a significant role to play in developing and implementing the CSR and sustainability initiatives of any organization.   The legal department is also a natural contributor to organizational efforts to comply with voluntary standards, some of which will inevitably become hard law, and an experience guide on questions of materiality that arise as organizations expand their disclosure and reporting activities to include social and environmental goals and performance.

Individual attorneys, in-house legal departments and law firms can be affected by CSR in several ways.  First of all, all attorneys, regardless of whether they work on their own or for an organization, are subject to various professional ethics codes with respect to the work that they perform on behalf of their clients and the role that they play in the justice system.  Second, lawyers may be requested by clients as suppliers of services to submit themselves to the client’s CSR policy.  For in-house lawyers this means formally acknowledging and agreeing to the code of conduct and other CSR-related policies of their employers.  Prospective candidates for law firm positions are increasingly asking firms about their own CSR policies (e.g., in areas such as diversity and work-life balance) and activities and those of the clients that have the most substantial economic impact on the firm.  Third, lawyers can receive requests from their clients for advice on development and implementation of CSR and overall compliance plans and, in fact, compliance is an area of CSR in which lawyers are already heavily involved on a day-to-day basis.  Fourth, lawyers are often asked to assist client in performing audits to verify compliance.  Finally, lawyers, either on their own or as part of a group (i.e., other lawyers from their in-house legal department or law firm or legal colleagues from a bar association), may engage in activities intended to have an environmental and/or social impact such as provide pro bono legal services to client otherwise unable to afford a lawyer who have claims based on a violation of their human rights or damage to health and/or property due to environmentally irresponsible actions of others.[1]

Even if a lawyer is not engaged directly in some sort of CSR-related activity, he or she needs to be aware of the role that environmental and social activists are playing in the marketplaces in which their clients are operating and be able to counsel their clients on the litigation and reputational risks associated with failing to adhere to CSR norms and practices.  Lawyers must be familiar with the impact that CSR is having on the type and magnitude of claims based on the negligence of their client, such as the willingness of judges and juries to impose substantial economic sanctions on defendants found to have caused injuries to people and damage to properties due to failure to take their environmental and/or social responsibilities seriously.  Transactional lawyers must be mindful of the impact that development projects and acquisitions may have on local communities and counsel their clients on the social aspects of consolidation of workforces and making changes to workplace practices and benefits.  Lawyers should also expect to be involved in corporate governance and counseling boards about the role that sustainability plays in their oversight responsibilities; monitoring the activities of supply chain partners; and crisis management in the event that a client, either recklessly or accidently, engages in activities that cause harmful environmental and/or social impact.  All of this flows from the growing belief that companies are more than just legal entities and are citizens of the world in which they operate with duties and responsibilities to others and vulnerability to being held financially and criminally accountable for poor citizenship.

Vernon described some of the ways that individual attorneys as well as entire groups within corporate legal departments may become involved in counseling on CSR matters and the manner and consequences of stakeholder engagement.  He noted that attorneys are often called upon to advise their clients on internal policies and procedures, external policies and procedures, supplier contracts, gover­nance, compliance, public relations and contractual obligations with various business partners and each of these are areas in which CSR issues and obligations may be relevant.  Examples may include consulting on the potential impact from a compliance perspective of adoption of a new human rights policy applicable to the company’s own facilities and the facilities of its supply chain partners around the world; advising on the compliance and transparency obligations that would come from the adoption of a corporate-wide wa­ter stewardship policy; and reviewing proposed sustainability reporting to be initiated as part of the company’s efforts to demonstrate more transparency.[2]

A June 2015 publication prepared under the auspices of the UN Global Compact included the following recommendations for general counsels with respect to their role in the corporate sustainability initiatives of their organizations[3]:

  • Embrace the breadth of the role: Reflect on key drivers of change; create “heat” map of drivers against corporate strategy; identify and assess gaps and trends; and develop “legal model” change plan based on corporate priorities
  • Prioritize sustainability: Mirror corporate emphasis on sustainability within strategic priorities for legal; regularize on your agenda; and commit financial and human resources to capacity-build within legal
  • Communicate expectations to third party advisers: Communicate to external advisers about your strategic priorities; reinforce your expectations about the support and engagement needed from them; have an open dialogue about strengths and weaknesses; and discuss specific changes in approach and team
  • Build internal credibility: Create legal SWOT (“strengths, weaknesses, opportunities and threats”) with business and sustainability experts; agree on areas of focus for legal with the business; agree on plan of engagement for legal with relevant constituencies’ operations; and formally reassess progress with business periodically to underscore engagement
  • Redefine career path for legal: Articulate that an increased focus on corporate sustainability is key to career development given underlying trends; and assess progress annually and communicate as part of core role
  • Establish KPIs and rewards: Tie sustainability KPIs to team taking a “broadened” role and engagement; agree objective and subjective elements with business and team; create financial and nonfinancial incentives;
  • Create integrated objectives with business units: Objectives for cross-functional teams should be integrated into annual performance assessment of legal team members
  • Drive change from the top: Proactively engage with C-Suite/Board on sustainability issues; communicate strategic importance of corporate sustainability with legal team
  • Peer-to-peer engagement: Discuss the drivers of change and broadened role with other GCs or “C-Suite” executives; discuss approaches to driving corporate sustainability from legal, including through the use of KPIs; capture and share best practices
  • Embed within legal strategy: Identify aspects of key sustainability issues where legal can engage; embed points of engagement on corporate sustainability within legal department strategy/objectives
  • Engage with third parties: Engage with NGOs to develop expertise and credibility; set the tone within legal that “balanced engagement” is a key corporate strategy; and encourage legal team to be part of stakeholder engagement strategy from earliest stages
  • Communicate initiatives and engagement regularly: Regularize reporting to GC on sustainability/engagement issues; communicate efforts/initiatives of legal team periodically; and use both formal and informal mechanisms to communicate
  • Build familiarity in legal team: Dedicate legal resources to corporate sustainability issues; regularize internal engagement on sustainability issues; focus on practical application of “traditional” legal skills; and engage in skills development and training
  • Build cross-functional teams: Embed legal expertise in key areas; encourage early and regularized engagement by legal team; elevate issues/developments across internal “silos”; and periodic “progress” reports to GC/legal team

For further discussion see Sustainability Governance and Management.

Notes

[1] Adapted from Corporate Social Responsibility and the Role of the Legal Profession: A Guide for European Lawyers (Council of Bars and Law Societies of Europe, June 2008).

[2] K. Vernon, “Corporate Social Responsibility: Stakeholder Engagement: Opportunity for Business to Thrive?”, Business Law Today (January 2015).

[3] Guide for General Counsel on Corporate Sustainability (UN Global Compact and Linklaters LLP, June 2015).  See also Corporate Social Responsibility and the Role of the Legal Profession: A Guide for European Lawyers (Council of Bars and Law Societies of Europe, June 2008).

Purpose of the Firm: The Shareholder-Stakeholder Debate

One of the most common descriptions of corporate governance has been the way in which corporations are directed, administered and controlled and the actual activities of the directors and senior executives have been referred to as steering, guiding and piloting the corporation through the challenges that arise as it pursues its goals and objectives. Jamali et al. explained that the “control” aspect of corporate governance encompassed the notions of compliance, accountability, and transparency, and how managers exert their functions through compliance with the existing laws and regulations and codes of conduct.[1]  At the board level, the focus is on leadership and strategy and directors are expected to deliberate, establish, monitor and adjust the corporation’s strategy, determine and communicate the rules by which the strategy is to be implemented, and select, monitor and evaluate the members of the senior executive team who will be responsible for the day-to-day activities associated with the strategy.  In addition, directors are expected to define roles and responsibilities, orient management toward a long-term vision of corporate performance, set proper resource allocation plans, contribute know-how, expertise, and external information, perform various watchdog functions, and lead the firm’s executives, managers and employees in the desired direction.[2]

Setting the strategy for the corporation obviously requires consensus on the purpose of the firm, the goals and objectives of the firm’s activities and the parties who are to be the primary beneficiaries of the firm’s performance.  Traditionally, directors were seen as the agents of the persons and parties that provided the capital necessary for the corporation to operate—the shareholders—and corporate governance was depicted as the framework for allocating power between the directors and the shareholders and holding the directors accountable for the stewardship of the capital provided by investors.  While economists and corporate governance scholars from other disciplines recognized that the governance framework involved a variety of tools and mechanisms such as contracts, organizational designs and legislation, the primary question was how to use these tools and mechanisms in the best way to motivate and guarantee that the managers of the corporation would deliver a competitive rate of return.[3]  All of this is consistent with what has been described as the “narrow view” of corporate governance, one that conceptualizes corporate governance as an enforced system of laws and of financial accounting, where socio/environmental considerations are accorded a low priority.[4]

While primacy of shareholder interests was the dominant theme of corporate governance, at least in the US, for decades, there is no doubt that one of the most dynamic and important debates in the corporate governance arena, as well as in other areas of society, is the purpose of the firm.  Williams described this debate as follows[5]:

“Is it “simply” to produce products and services that create economic rents to be distributed to rights’ holders according to pre-existing contractual, statutory and (possibly) normative obligations? (Given that close to 70% of new companies ultimately fail, that task cannot be taken as too simple.)  Or does the firm also have a social obligation to minimize harm to people and the natural environment in its pursuits of profits, or even a positive duty to promote social welfare beyond its creation of economic rents?  In corporate governance and law, this debate tracks the competition between a shareholder versus stakeholder view of directors’ and officers’ fiduciary obligations.”

For a long time, the most influential voice among academics with respect to the role and primary objective of corporations was Milton Friedman, the Nobel Prize winning economist who famously declared that the exclusive goal of corporate activities was to maximize value for the owners of the corporation (i.e., the shareholders).  As history shows, this view was seized upon by investors and CEOs who often used aggressive tactics to drive up share prices and create large, yet often dysfunctional, conglomerates.  Friedman and others who shared his view maintained that companies did make a positive social contribution by running a profitable business, employing people, paying taxes and distributing some part of their net profits to shareholders.[6]  Another argument often made for the shareholder primacy approach to corporate governance was that requiring management to invest time and effort in devising ways to create additional social benefits beyond the honest pursuit of profits within the boundaries of the law would dilute management’s focus, undermine economic performance, and thereby ultimately undermine social welfare.[7]  Other supporters of the shareholder-oriented perspective cautioned that corporate responsibility was too much responsibility to impose on directors and pursuing social policy goals was a task best left to the state and not to businesses, which should not get themselves involved with political matters.  Another stated concern about expanding the directors’ power beyond shareholder interests is that it would undermine director accountability by allowing them to act in their own self-interest while claiming to act in other constituents’ interests.[8]

Eventually, other members of the academic community, as well as regulators, politicians, activists and even some of the investors that had grown wealthy during the stock market turbulence over the three decades starting with the 1980s, began to question the primacy of shareholder value and called for rethinking the role of the corporation in society and its duties to their owners and other parties impacted by their operational activities and strategic decisions.  Among other things, this meant challenging the long-accepted assumption that the principal participants in the corporate governance framework were the shareholders, management and board of directors.  For example, Sir Adrian Cadbury, Chair of the UK Commission on Corporate Governance, famously offered the following description of corporate governance and the governance framework in the Commission’s 1992 Report on the Financial Aspects of Corporate Governance: “Corporate governance is concerned with holding the balance between economic and social goals and between individual and communal goals. The governance framework is there to encourage the efficient use of resources and equally to require accountability for the stewardship of those resources. The aim is to align as nearly as possible the interests of individuals, corporations and society.”

Cadbury’s formulation of corporate governance brought an array of other participants, referred to as “stakeholders”, into the conversation: employees, suppliers, partners, customers, creditors, auditors, government agencies, the press and the general community.  As described by Goergen and Renneboog: “[a] corporate governance system is the combination of mechanisms which ensure that the management (the agent) runs the firm for the benefit of one or several stakeholders (principals). Such stakeholders may cover shareholders, creditors, suppliers, clients, employees and other parties with whom the firm conducts its business.”[9]  The principles of corporate governance of the Organisation for Economic Cooperation and Development clearly state that the corporate governance framework should recognize the rights of stakeholders (i.e., employees, customers, partners and the local community) as established by law and encourage active co-operation between corporations and stakeholders in creating wealth, jobs, and the sustainability of financially sound enterprises.

Colin Mayer of the University of Oxford has written and lectured about the need to reject shareholder value primacy and reconceive corporations as being committed to all of its stakeholders including the general economy and the community.[10]  Hart and Zingales have argued that the appropriate objective of the corporation is shareholder welfare rather than shareholder wealth.  While retaining Friedman’s shareholder-centered model, Hart and Zingales elected to focus on the ability of corporations to accomplish objectives that shareholders could not reasonably pursue on their own and called on corporations to consider activities other than wealth creation that enhance the welfare of shareholders as a whole.[11]  This opened the door to considering issues and initiatives relating to sustainability, employee welfare, social concerns and environmental stewardship and, as Hart and Zingales advocated in their proposed “constituency theory” of governance, expanding the beneficiaries of the directors’ fiduciary duties beyond shareholders to other constituencies, or stakeholders, such as employees, customers, members of the local communities in which the corporation operates and society as a whole.[12]

Approval of the constituency theory can often be seen in the statements of institutional shareholder groups such as the Investor Stewardship Group (www.isgframework.org), which has included the following in Endorsement Statement for its Corporate Governance Principles for U.S. Listed Companies: “[I]t is the fiduciary responsibility of all asset managers to conduct themselves in accordance with the preconditions for responsible engagement in a manner that accrues to the best interests of stakeholders and society in general, and that in so doing they’ll help to build a framework for promoting long-term value creation on behalf of U.S. companies and the broader U.S. economy.”[13]  Calvert Asset Management also pointed out that while the fiduciary duties of directors set out by statute do explicitly run to shareholders, the statutes also include similar duties to the corporation itself and thus allows, if not requires, directors to take into account more than just shareholder value when making decisions and be attentive to promoting the welfare of the corporation and the interests of all of its stakeholders.[14]

The focus on interested parties beyond shareholders is the hallmark of a broader view of corporate governance that emphasizes the responsibilities of business organizations to all of the different stakeholders that provide it with the necessary resources for its survival, competitiveness, and success.[15] In this conception, managers remain primarily accountable to the stockholders who have placed their wealth in the hands of those managers; however, managers, particularly the members of the board of directors, are also responsible to groups of stakeholders that have made equally significant contributions to the corporation and these stakeholder responsibilities impose additional constraints on managerial action and the primacy of shareholder rights.[16]  Rahim, noting that the roles and responsibilities of directors have been described as the “board as manager”, pointed out that the duties of board members have been vastly extended as corporate social responsibility has moved from the margins to the center of corporate governance attention, a trend which is discussed in more detail below.[17]

Commentators such as Bower and Paine have written about the fallacies underlying the economic theories used to support the maximization of shareholder value rule and argued that short-termism and hedge fund activism have not actually created value but rather has simply shifted value among a small group of wealthy parties, encouraged corporations to park idle funds offshore and reduce long-term investments in innovation that would benefit future generations, and triggered crises that have drained public funds and harmed workers, consumers and communities.[18]  Bower and Paine advocated an alternative model for corporations based on the health of the enterprise rather than short-term returns to shareholders and encouraged directors and managers to pay more attention to innovation, strategic renewal and investment in projects that ensure future sustainability.

The stakeholder approach to corporate governance arose out of a growing sense that more consideration had to be given to “the whole set of legal, cultural, and institutional arrangements that determine what public corporations can do, who controls them, how that control is exercised, and how the risks and return from the activities they undertake are allocated.”[19]  The impact and importance of corporate governance was emphasized by Gourvevitch and Shinn in the following quotes from their book on the “new global politics of corporate governance”[20]:

“Corporate governance–the authority structure of a firm–lies at the heart of the most important issues of society”… such as “who has claim to the cash flow of the firm, who has a say in its strategy and its allocation of resources.” The corporate governance framework shapes corporate efficiency, employment stability, retirement security, and the endowments of orphanages, hospitals, and universities. “It creates the temptations for cheating and the rewards for honesty, inside the firm and more generally in the body politic.” It “influences social mobility, stability and fluidity… It is no wonder then, that corporate governance provokes conflict. Anything so important will be fought over… like other decisions about authority, corporate governance structures are fundamentally the result of political decisions.  Shareholder value is partly about efficiency. But there are serious issues of distribution at stake – job security, income inequality, social welfare.”

Jamali et al. noted that corporate governance “is also intimately concerned with honesty and transparency, which are increasingly expected of the public both in corporate dealings and disclosure”.[21]  They pointed out that investor confidence and market efficiency has always depended on the disclosure of accurate information about corporate performance and regulators and corporate activists have insisted that companies prepare and disseminate reports that are clear, consistent and comparable.  The growing interest in CSR and the broader view of corporate governance has slowly transformed the concept of disclosure and transparency to include non-shareholder stakeholders of the corporation.  For example, Jamali et al. pointed out that transparency and disclosure of information between managers and employees is essential to earning employee trust and commitment.  As for external stakeholders, such as the members of the communities in which the company operates and society as a whole, transparency has become a fundamental principle underlying the notion that firms need to be “good citizens”.[22]  An additional byproduct of the aspiration for transparency is the creation of reporting systems that provide directors with the information necessary for them to discharge their leadership and strategic duties and ensure that the corporate governance framework works efficiently.

Williams clearly described the rationale for the stakeholder perspective to corporate governance as follows[23]:

“From a stakeholder perspective, successful companies incorporate and rely upon multiple social and natural inputs, such as an educated work-force, the physical infrastructure for the production, transportation and distribution of goods, an effective legal system, and natural capital inputs of water, air, commodities, and so forth. Since some significant portion of the inputs of corporate success, including financial inputs, have been contributed by parties other than shareholders, those parties also have interests to be considered in determining the responsibilities of managers and directors and in distributing the outputs of corporate action.  Some, perhaps many, of those interests will be protected by contractual or regulatory arrangements, but others cannot be specified ex ante, and so must depend on corporate participants to fairly balance multiple parties’ legitimate claims ex post”.

The Australian Parliamentary Joint Committee on Corporations and Financial Services, in its 2006 report on “corporate responsibility”, announced that it endorsed the “enlightened self-interest interpretation” of directors’ duties, which acknowledges that investments in corporate responsibility and corporate philanthropy can contribute to the long term viability of a company even where they do not generate immediate profit.  The Committee felt that it was necessary and appropriate for directors to consider and act upon the legitimate interests of stakeholders to the extent that these interests are relevant to the corporation and noted that addressing some of the driving factors of corporate responsibility (e.g., community license to operate, reputational factors, avoidance of regulation, attraction and retention of staff and attraction of investment from ethical funds) by undertaking activities that contribute to social wellbeing and environmental protection are clearly in the best interests of the company from a commercial perspective (and thus well within the bounds of directors’ duties).[24]

This article is part of the Sustainable Entrepreneurship Project’s extensive materials on Sustainability and Corporate Governance.

[1] D. Jamali, A. Safieddine and M. Rabbath, “Corporate Governance and Corporate Social Responsibility Synergies and Interrelationship”, Corporate Governance, 16(5) (2008), 443, 444 (citing K. MacMillan, K. Money, S. Downing and C. Hillenbrad, “Giving your organization SPIRIT: An overview and call to action for directors on issues of corporate governance, corporate reputation and corporate responsibility”, Journal of General Management, 30 (2004), 15; and A. Cadbury, “The corporate governance agenda”, Journal of Corporate Governance, Practice-Based Papers, 8 (2000), 7).

[2] K. MacMillan, K. Money, S. Downing and C. Hillenbrad, “Giving your organization SPIRIT: An overview and call to action for directors on issues of corporate governance, corporate reputation and corporate responsibility”, Journal of General Management, 30 (2004), 15; A. Cadbury, “The corporate governance agenda”, Journal of Corporate Governance, Practice-Based Papers, 8 (2000), 7) and J. Page, Corporate Governance and Value Creation (University of Sherbrooke, Research Foundation of CFA Institute, 2005).

[3] H. Mathiesen, Managerial Ownership and Finance Performance (Dissertation presented at Copenhagen Business School, 2002).

[4] K. Saravanamuthu, “What is measured counts: Harmonized corporate reporting and sustainable economic development”, Critical Perspectives on Accounting, 15 (2004), 295.

[5] C. Williams, “Corporate Social Responsibility and Corporate Governance” in J. Gordon and G. Ringe (Eds.), Oxford Handbook of Corporate Law and Governance (Oxford: Oxford University Press, 2016), 34, available at http://digitalcommons.osgoode.yorku.ca/scholarly_works/1784.

[6] Id. at 35.

[7] Id. at 35 (citing H. Hansmann and R. Kraakman, “The End of History for Corporate Law”, Georgetown Law Journal, 89 (2001), 439, 442-443).

[8] Id. at 36-37 (citing D. Engel, “An Approach to Corporate Social Responsibility”, Stanford Law Review, 32 (1979), 1; D. Fischel, “The Corporate Governance Movement”, Vanderbilt Law Review, 35 (1982), 1259; and S. Bainbridge, “Corporate Social Responsibility in the Night-Watchman State”, Colorado Law Review Sidebar, 115 (2015), 39, 49).

[9] M. Goergen and L. Renneboog, “Contractual Corporate Governance”, Journal of Corporate Finance, 14(3) (June 2008), 166.

[10] See C. Mayer, Firm Commitment: Why the Corporation is Failing Us and How to Restore Trust in It (Oxford: Oxford University Press, 2013); and C. Mayer, Prosperity: Better Business Makes the Greater Good (Oxford: Oxford University Press, 2018).

[11] O. Hart and L. Zingales, “Should a Company Pursue Shareholder Value?” (October 2016), available at https://www8.gsb.columbia.edu/leadership/sites/leadership/files/Zingales-Hart–Share_value.pdf

[12] Id.

[13] https://www.isgframework.org/become-an-endorser-internationalorganizations-only/.  The Principles Affirm that boards are accountable to shareholders; however, they also require that boards be responsive to shareholders and be proactive in order to understand their perspectives and that boards develop management incentive structures that are aligned with the long-term strategy of the company.

[14] Board Oversight of Environmental and Social Issues: An Analysis of Current North American Practice (Calvert Asset Capital Management Inc. and The Corporate Library, 2010), 8.

[15] K. MacMillan, K. Money, S. Downing and C. Hillenbrad, “Giving your organization SPIRIT: An overview and call to action for directors on issues of corporate governance, corporate reputation and corporate responsibility”, Journal of General Management, 30 (2004), 15

[16] J. Page, Corporate Governance and Value Creation (University of Sherbrooke, Research Foundation of CFA Institute, 2005); and N. Kendall, “Good corporate governance”, Accountants’ Digest, 40 (1999).

[17] M. Rahim, Legal Regulation of Corporate Social Responsibility: A Meta-Regulation Approach of Law for Raising CSR in a Weak Economy (Berlin: Springer, 2013), 13, 22 (citing M. Eisenberg, “The Modernization of Corporate Law: An Essay for Bill Cary”, University of Miami Law Review, 37 (1982), 187, 209-210).

[18] J. Bower and L. Paine, “The Error at the Heart of Corporate Leadership”, Harvard Business Review, 95(3) (May-June 2017), 50.

[19] M. Blair, Ownership and Control: Rethinking Corporate Governance for the Twenty-First Century (Washington DC: The Brookings Institute, 1995).

[20] P. Gourvevitch and J. Shinn, Political Power and Corporate Control: The New Global Politics of Corporate Governance (Princeton NJ: Princeton University Press, 2007) (as compiled by J. McRichie at https://www.corpgov.net/library/corporate-governance-defined/)

[21] D. Jamali, A. Safieddine and M. Rabbath, “Corporate Governance and Corporate Social Responsibility Synergies and Interrelationship”, Corporate Governance, 16(5) (2008), 443, 444 (citing J. Page, Corporate Governance and Value Creation (University of Sherbrooke, Research Foundation of CFA Institute, 2005)).

[22] Id. at 444.

[23] C. Williams, “Corporate Social Responsibility and Corporate Governance” in J. Gordon and G. Ringe (Eds.), Oxford Handbook of Corporate Law and Governance (Oxford: Oxford University Press, 2016), 38-39, available at http://digitalcommons.osgoode.yorku.ca/scholarly_works/1784 (citing M. Blair and L. Stout, “A Team Production Theory of Corporate Law”, Virginia Law Review, 85 (2003), 248).

[24] Parliamentary Joint Committee on Corporations and Financial Services, Corporate responsibility: Managing risk and creating value (2006), 52-53.  The Committee also found that the then-current version of the Australian Corporations Act, first adopted in 2001, actually permitted directors to have regard for the interests of stakeholders other than shareholders and recommended that no further amendment to clarify directors’ duties in that regard was required. Id. at 63.

Structures and Staffing for Environmental, Health and Safety

In 2012 the National Association for Environmental Management (“NAEM”) issued a report on the results of a survey of the organizational structure, staffing levels and responsibilities of the function that supported a company’s environmental, health and safety (“EHS”) and sustainability goals.[1]  The survey consisted of online questionnaires to full time, “in house” corporate EHS and sustainability professionals and qualitative interviews with senior EHS and sustainability leaders across different industries.  The results reflect the views of 199 senior leaders (i.e., managers, directors and vice presidents) working within combined EHS and sustainability functions at U.S.-based companies with revenues ranging from $250 million to $50 billion.  Among the key findings described in the executive summary to the report were the following:

  • Most of the respondents managed EHS through a single consolidated, centralized function. Two-thirds of respondents reported a governance structure that centralized authority and policies, and one-third also incorporated a centralized budget process.
  • The function generally reported into one of several core areas: legal, operations, human resources or the C-Suite.
  • While there were multiple approaches to organizing the EHS function, the most common department structure tended to be one that integrated EHS at the corporate and facility levels.
  • Staff levels were driven largely by perceived EHS risk, industry and structure. Companies that identified as operating under a high degree of EHS risk (e.g., companies in the utilities, extractives and chemicals industries) tended to have larger staff sizes. Decentralized structures tended to require higher staff levels per total employees, as did small and mid-sized companies; however, companies with higher revenues reported fewer EHS staff per total employees.
  • EHS budgets (normalized by total employees) were largely driven by employee needs such as salaries, benefits, expenses and travel. Because of this interdependence, the same factors that influence staff levels also influenced budgeting.  In other words, high-risk companies, or those with decentralized EHS structures, tended to have more staff and therefore, larger budgets.
  • EHS and sustainability professionals were highly credentialed, seasoned leaders with 79% of the respondents having worked in the field more than 15 years and strong backgrounds in science or engineering.
  • The EHS function generally took the lead in regulatory compliance, auditing and information management and was primarily responsible for setting environmental goals, waste management, pollution prevention, regulatory tracking/compliance/disclosure and due diligence.[2] Data management and EHS management information systems were also key areas of responsibility, likely driven by the growth in external reporting of environmental metrics.
  • EHS professionals also played a key role in sustainability and respondents indicated that the EHS function either led, or shared responsibility for, the majority of activities including establishing sustainability strategy and tracking and reporting the sustainability metrics.
  • Most of respondents reported they were managing sustainability through a cross-functional team with members drawn from corporate communications, operations, legal sales and marketing and EHS. These teams were most often led by the EHS function or a combined EHS and sustainability function. When sustainability was assigned to a stand-alone department, EHS was most often in the lead, followed by stand-alone sustainability department.

In the summer of 2014 NAEM conducted an online survey to identify the skills, knowledge areas and attributes for members of the EHS and sustainability profession.[3]  NAEM collected information from 345 respondents at 197 different companies.  Most of the companies were operating globally and the three most represented industry sectors were manufacturing, pharmaceutical/medical products and chemical.  A majority of the respondents had at least 15 years of professional and EHS experience and respondents tended to be at the leadership level (7% were executive leaders at the vice president level, 22% were at the senior director/director level and 13% were senior managers).  EHS professionals generally were placed in the corporate function as opposed to acting from a site/facility or business unit and most of the respondents worked in a combined EHS or EHS/Sustainability function as opposed to working in an organizational structure in which environmental, safety and/or sustainability issues and activities were treated as stand-alone functions.  Use of a combined function was notable in that illustrated that companies were concerned that stand-alone groups might compete with one another for resources and/or promote conflicting policies.

NAEM found that compliance was a core focus for EHS leaders at all levels, regardless of the size of the company.  The list of the top responsibilities of the respondents, including areas where they took the lead and areas in which they played a role as a strong collaborator, including the following:

Reporting to meet internal and external requirements 91%
Environmental compliance 88%
EHS management information systems 86%
Regulatory tracking 86%
Auditing 84%
Setting EHS goals 84%
Waste disposal 81%
Chemical management 81%
Hazardous materials 80%
Waste recycling 79%
Information management 79%

The survey asked EHS leaders to identify the activities in which they generally acted as leaders and assumed direct and/or shared responsibility and other activities in which they were involved without having responsibility.  The results indicated that while EHS leaders were accountable for a set of core compliance and pollution prevention programs (e.g., reporting to meet internal and external requirements; EHS management information systems; environmental compliance; regulatory tracking and setting EHS goals), they were also involved with, collaborated on, or influenced the management of a broad range of activities within their organizations including employee engagement, emergency management preparedness, corporate annual reports, risk management, supply chain engagement and building energy efficiency.

One of the interesting outputs of the survey was a set of descriptions of the roles and responsibilities of EHS professionals at various levels of their career progression.  In general, the information confirmed that as EHS professional advanced their roles became more strategic:

Level Top Responsibilities

 

Specialist Environmental compliance, Reporting, EHS management information systems, Information management, Regulatory tracking
Technical Expert Reporting, Environmental compliance, Regulatory tracking, EHS management information systems, Auditing
Manager Reporting, Environmental compliance, EHS management information systems, Auditing, Setting goals, Identifying KPIs, Regulatory tracking
Sr. Technical Expert Reporting, Regulatory tracking, Auditing, Environmental Compliance, EHS management information systems, Permitting
Sr. Manager Setting goals, EHS management information systems, Reporting, Regulatory tracking, Identifying KPIs, EHS audit training, Auditing
Director Setting goals, Identifying KPIs, EHS management information systems, Regulatory tracking, Auditing Reporting
Executive Leader Identifying KPIs, EHS management information systems, Setting goals, Due diligence

The survey was also an opportunity to explore the skills, knowledge and other competencies that EHS professionals should expect to have to develop in order to be successful and advance.  EHS professionals must not only be knowledgeable about business operations but must also have the interpersonal skills necessary for managing people and processes and being successful as an integrator and influencer including the ability to team build, motivate others and manage without authority. Other important business skills included written communications, interpreting regulatory requirements, oral communications, decision making, program and project management and training.  The most important areas of general and technical knowledge for EHS professional included EHS risks, regulatory compliance systems, waste management, training, environmental science, communications, management systems and budgeting.  As for business acumen, EHS professionals needed to demonstrate knowledge across a number of areas including training, communications, budgeting and business operations and the presenters of the survey results noted that these skills were consistent with the core EHS responsibilities associated with creating a strong EHS culture, communicating its value across silos and collaborating across functions to embed EHS principles into business operations.

Another important issue with respect to the competencies and roles of EHS responsibilities is how they were integrated into the organization’s overall strategies and processes with respect to risk management.[4]  Traditionally organizations have created and maintained separate departments for EHS and risk management and while professionals in each of the departments share many of the same goals there have often been breakdowns in their ability to work together.  For example, risk managers typically see EHS professionals as being a subdivision of the risk management department whose job is limited to compliance (i.e., doing inspections/audits, accident investigations and focused on employee safety) while EHS professionals downplay the role of risk managers as simply being the purchasers and administrators of insurance.  The problem with this situation is that the organization needs to maintain two different budgets and personnel groups, which is inefficient and expensive, and management is confused about the value and purpose of each of the departments.

The solution to the dilemma posited above lies in the transition from the traditional roles of EHS and risk management to a more comprehensive solution referred to as enterprise risk management (“ERM”).  The scope of ERM is enabling all strategic, management and operational tasks of an organization throughout projects, functions, and processes to be aligned to a common set of risk management objectives.  EHS professionals can contribute to this process through their skills with respect to the recognition, evaluation and control of environmental factors or stresses, arising in and from the workplace, which may cause sickness, impaired health and wellbeing or significant discomfort and inefficiency among workers and/or citizens of the community.[5]  At the same time, risk managers can provide their expertise in making and implementing decisions that will minimize the adverse effects of accidental and business losses on an organization.[6]  However, in order for the collaboration to be effective, EHS professionals need to have a new job description that not only includes providing professional knowledge and expertise in the administration, integration, and support of environmental health and safety programs at all levels of the organization, but also working in coordination with risk managers to develop environmental health and safety programs that reduce hazard, financial, operational, strategic, reputational, and compliance risks in support of the strategic objectives and mission of the organization.

For further discussion see the Sustainable Entrepreneurship Project’s materials on Sustainability Governance and Management.

[1] National Association for Environmental Management, EHS & Sustainability Staffing and Structure: Benchmark Report (November 2012).

[2] Specific environmental management areas mentioned in the survey included EPA compliance, hazardous materials, waste disposal, spill prevention/control, permitting, air pollution, storm water, waste recycling, chemical management, carbon foot printing, site remediation and industrial emissions reductions.

[3] The discussion of the results of the survey included herein is adapted from Key Competencies for the EHS & Sustainability Profession: Benchmark Report (NAEM, February 12, 2015).

[4] The discussion in this paragraph and the paragraph immediately below is adapted from Risk Managers are from Mars, EHS Professionals are from Venus: The EHS Professionals’ Role in ERM (California State University Risk Management Authority).

[5] Id. (citing NSC, Fundamentals of Industrial Hygiene, 3rd Edition)

[6] Id. (citing Fundamentals of Risk Management, 3rd Edition, Volume 1)

Fundamental Questions Regarding Founders’ Relations

One of issues that the founders need to consider is the form of legal entity for operation of their new business venture (e.g., corporation, partnership or limited liability company); however, regardless of the form of entity selected the founders need to sit down and carefully discuss the relationship that will exist among the founders with respect to ownership and management of the business before outside investors are brought into the picture.  When properly done, the ownership structure will protect the rights of each founder while creating incentives to make the business grow well into the future.  The structure should always be flexible enough to adapt to future changes, including new employees and capital-raising from outside investors.  Among the questions that need to be asked are the following:

  • What percentage of the company will be owned by each founder?
  • What rights will each of the founders have with respect to the management and control of the company?
  • What tangible contributions (e.g., money, property, contract rights, etc.) will each founder make to the company and how will they be valued?
  • How much time will each founder be expected to devote to the business?
  • What incentives will be used to motivate each of the founders to remain actively involved with the business of the company?
  • What procedures should be followed when a founder dies, becomes disabled, reaches retirement age, or voluntarily leaves the company prior to retirement age?
  • What procedures should be followed to expel a founder from the company?
  • Are there other persons outside the founding group who are likely to become actively involved in the business of the company?

The founders may be more interested in spending time on developing their new products and services than on dealing with what can often be very difficult and divisive issues.  However, if these questions are not addressed at the beginning of the venture, it is likely that trouble will erupt down the road.

Allocation of ownership interests

In general, ownership determines how profits from the business will be shared and management rights will be exercised. Each form of business entity can be adapted so that certain founders enjoy greater economic rights as opposed to voting rights and vice-versa.  In dividing ownership, consideration should be given to all of the actual and potential contributions of the founders to the business.  For example, the founders may ascribe value to any or all of the following: cash and property contributed by the founders at the time that the new business is launched, including the costs to the founders of acquiring or developing the property; the value of anticipated future contributions by the founders, including cash, property, services, business development assistance, and introductions to business partners; and the opportunity costs to the founders of launching the new business.  Obviously, it is difficult to value several of these factors, particularly those which are speculative and depend on performance in the future.  However, it is important for each founder to believe that his or her contributions have been fairly recognized.  Professional advisors working with the founders of an emerging company will likely recommend that weight or credit should be given to discovery or conception of the ideas underlying the business; the time and effort expended in leading and managing efforts to promote those ideas; the level of financial and personal risk assumed in forming and launching the business; the amount of income foregone by forming the company and accepting a nominal or modest salary during the initial development period; the amount of effort spent in writing a formal business plan for the company; the specialized expertise contributed toward the development of new technology and/or products; and the background, training and experience that the founder expects to bring to crucial post-formation activities associated with the actual commercialization of the company’s technology or products.

In some cases, one of the founders of a new business may contribute intangible property and services while the other founders are providing the cash necessary to fund the development and marketing of the products based on the intangibles.  Since the founders may reasonably differ as to the value to be placed on the contributions of the non-cash participant, counsel must proceed carefully to make sure that the assets are fairly valued.  In that situation, counsel is faced with reconciling the following issues:

  • What method(s) should be used to value the intangible property and services be valued for purposes of determining the relative equity ownership of the business?
  • What obligations, if any, will be imposed on the parties to make additional capital contributions?
  • Who will own the rights to trade secrets, patentable, or copyrightable information? Will the founder retain ownership and license them to the entity, or will the entity own all the rights?
  • What obligations will be imposed on the “inventor” with respect to continued development of the intangible property?
  • Who will own the rights to the intangible property in the event the company merges or dissolves?

Another issue to keep in mind is the possibility that the relative ownership interests of the founders will be diluted by future events, such as the need to grant an ownership interest to new managers, key employees, and one or more groups of outside investors.  For example, a founding group looking for venture capital funding may discover that they will need to set aside 5%-10% of the equity for filling out the management team, 10%-20% of the equity for a pool of incentives for new employees, and 40%-60% of the equity for sale to the venture capitalists.

Transfer restrictions

It is typical for the founders to enter into various agreements that impose restrictions on their ability to free transfer ownership interests in the business.  First of all, vesting restrictions may be used to ensure that the founders remain with the company long enough to provide the anticipated value that was implicit in their ownership interest.  If an owner should leave the company before an interest has vested, the company and/or the other owners would have the right to acquire the ownership interest on favorable terms (e.g., at cost payable in installments over a period of time).  Once a founder’s rights in his or her ownership interest have vested, other restrictions would apply that limit the disbursement of control outside the original founder group while at the same time providing the founders with some opportunity to gain liquidity for their interests in the event they become dissociated with the company.

  • A right of first refusal provides the company and/or the owners with the first opportunity to purchase ownership interests that the founder wishes to sell to a third party. Such a provision can prevent the sale of ownership interests to outsiders and generally will substantially limit the transferability of the interests.
  • A buy-sell agreement restricts transfers of ownership interests by granting the company and/or the other owners the right to purchase the interest of an owner upon the occurrence of certain events, such as a proposed sale of the ownership interest to a third party, death or disability of the owner, termination of employment, bankruptcy, or divorce. Buy-sell agreements may also provide liquidity by requiring that the company and/or the other owners purchase the interest of the deceased or disabled owner.  Procedures for determining the value of an interest upon any required purchase and sale will be included in the agreement.
  • Co-sale agreements, which are often used when venture capitalists invest in the company, allow outside investors to sell their ownership interests at the same time that the founders sell their interests. A co-sale right often is coupled with a right of first refusal and thus allows the investors to choose between purchasing the founders’ interests or selling out on the same terms and conditions.

Management of the new business

Regardless of the consideration they provide for their ownership interests, the founders must consider potentially contentious matters relating to control of the business.  For example, decisions must be made regarding the voting rights of each of the founders and their power to control membership of the board of directors or other management body.  The key issues to be considered include the following:

  • What voice will each founder have in the election of the members of the managing body, such as the board of directors?
  • Who will be responsible for the day-to-day operations of the business (e.g., officers of the corporation)?
  • What level of consensus among the founding group will be required for major transaction, such as sale or merger of the company, major debt financings, and issuances of securities?
  • What are to be the terms of any employment agreements between the company and the founders, including the amount of salary and other benefits to be paid to owners who are to be active in the business?
  • What procedures should be used to resolve any disputes among the members of the founding group?
  • How are the members of the founding group going to participate in the profits generated by the business?
  • What restrictions should be placed on the outside activities of the founder, as well as their ability to transfer their ownership interests in the company?

The founders will often turn to an attorney to assist them in considering these issues and documenting their decisions.  Counsel needs to be aware that the negotiation and drafting of an owners’ agreement will often lead to conflicts of interest such that the attorney cannot represent the founders concurrently.  Even if all sides are properly informed of potential conflicts and grant the appropriate waivers, counsel still walks a fine line since it may be impossible to anticipate all the conflicts that might ultimately arise in the future.  Accordingly, the attorney should be ready to prepare some form of disclosure letter and obtain a waiver of potential conflicts from each of the founders.  If the founders are unwilling to waive the conflicts, separate counsel should be retained.

The members of the founding group should enter into an agreement among themselves as to how the company will be operated.  In the corporate context, such an agreement is generally referred to as a pre-incorporation or shareholders’ agreement.  In the case of a partnership or an LLC, the matters are typically covered in a separate part of the partnership agreement or operating agreement, respectively.  In some cases, the founders will address these issues before the entity is formed in some type of pre-formation agreement.  This can be a useful exercise since it can give the founders a good idea of whether they will be able to live and work with each other before they incur the additional expense of actually forming the entity. Voting agreements are often used to establish procedures for making decisions regarding important matters relating to the business.  In the case of a corporation, voting procedures may be laid out in a separate shareholders’ or voting agreement.  Voting provisions for partnership and limited liability companies are set out in the partnership or operating agreement, respectively.  The founders may elect to cover a variety of matters in the voting agreement, including the vote required to elect the managers of the company and approve fundamental changes in the business, including a sale of the company or its assets, significant borrowings, and admission of new owners.  Transactions between the company and one of the owners may also be subject to special approval procedures.  Whenever an owners’ agreement is implemented, an evidence of an ownership interest (e.g., a share certificate) should include a legend that notifies third parties of the existence of a restriction on the rights of the owners with respect to transfers or exercise of economic or control rights.

Employment agreements

Some or all of the members of the founding group may also enter into employment agreements with the company that describe their duties and responsibilities with the company, the terms of compensation for their services and, perhaps most importantly, the rights and obligations of the company and the founder upon termination of the founder’s employment relationship with the company.  Employment agreements are often valuable to founders who hold a minority ownership interest in the equity of the company who seek protection against the possibility that they will be discharged by some concerted action of the majority owners.  In addition, however, employment agreements can serve a number of purposes beyond merely providing protection to minority owners and setting forth the terms of compensation.  Employment agreements that contain noncompetition provisions serve to protect the other founder in the event that the employee-founder leaves the enterprise and attempts to start a competing business.  The employment agreement also settles issues regarding the ownership and use of intellectual property rights acquired by the entity.

This post is part of the Sustainable Entrepreneurship Project’s extensive materials on  Entrepreneurship.