Business, legal and governance journals are replete with articles illustrating how crises reveal the true character of companies and their leaders. The COVID-19 pandemic and social unrest sparked by deadly police brutality against minorities confirm that this adage holds just as true when it comes to a company's commitment to environmental, social and governance (ESG) issues. For example, has the company stood by its commitments to reduce its carbon footprint, or did the lure of cheap oil and gasoline prove irresistible when the economy began to sputter? Have the company's white leaders made the time and a genuine effort to be there for Black employees and other stakeholders of color as this country grapples with the latest series of racist injustices? Has the company candidly disclosed its business continuity challenges to its directors, investors, employees and customers?
A new dawn
Some short-sighted companies are about to learn the hard way that the pandemic was no time to prioritize quarterly results at the expense of their stakeholders. Others are seeing unmistakable signs that this downturn has brought ESG priorities into sharper focus, particularly for enterprises fortunate enough to remain profitable through this recession. Even prior to the pandemic, Morningstar reports that investors poured a record $10.5 billion into more than 300 U.S. ESG funds in the first quarter of 2020.
Environmental. Regulators will be tough on businesses that cut back on environmental safety measures or programs with adverse consequences to their employees or the communities in which they operate. Going forward, regulators, investors and customers undoubtedly will remember that air and water quality improved significantly while millions of people were forgoing commutes and most cars, trains, airplanes and ferries were idled. The uncharacteristically clean air and clear views enjoyed by the world's urban areas during the pandemic are also bound to reinforce the earlier calls to move away from fossil fuels by ESG champions such as BlackRock CEO Larry Fink, who announced in early 2020 that his firm's actively managed funds would divest from any companies that generated 25% or more of their revenue from thermal coal production.
Social. The pandemic has highlighted how important it is for companies to do right by their employees, customers, communities and other stakeholders. Companies that have financially rewarded frontline employees for working in challenging circumstances and responsibly made investments to keep them safe have generated goodwill with their customers as well as workers; companies that have skimped on safety measures and otherwise behaved as if their employees were lucky to still have jobs have drawn sharp criticism. Companies that utilized federal CARES Act payments to preserve jobs and keep plants open are earning praise from lawmakers and within their communities; businesses that drew stimulus checks simply to shore up results faced immediate backlash, and companies that were quick to furlough or lay off employees despite receiving government assistance inevitably will take significant hits to their reputations. Companies that repurposed facilities to manufacture needed medical equipment boosted their standing; businesses that tried to gouge state governments and other customers in the midst of the pandemic did lasting harm to their reputations. These types of developments are not lost on investors. In the end, they want to put their money into companies that have demonstrated the aptitude required to succeed in today's multi-faceted business environment.
Yet an even more profound shift is afoot. Before the pandemic hit, a growing number of employees, customers, community leaders and government officials were seeking action from companies — and their leaders — around social issues important to them. The depth, breadth and urgency of the grief, concern and anger aroused by the killings of George Floyd, Breonna Taylor, Ahmaud Arbery, Tony McDade and Rayshard Brooks have made it inadvisable for businesses to try to stay out of the fray. Having the courage, sensibility and grace to address and interact on uncomfortable topics like racism and inequality in authentic, sympathetic, empathetic and reassuring ways has become a litmus test for today's CEOs.
What is especially discomforting about recent tragedies is their similarity to spates of deaths of African Americans across our country at the hands of police officers and vigilantes over the past decade and how little changed in response to their accumulation despite the outpourings of grief and good intentions. This time around, business leaders can no longer content themselves with platitudes against racism. They must find genuine ways to connect with their black stakeholders to hear, understand and constructively discuss how racism and inequality have affected them and their families. They must make it safe and valued for black employees to raise their concerns about being treated differently and being afforded unequal opportunities without fear of retaliation or retribution. They must weed out conscious and unconscious biases and that result in people of color being treated differently and held back. Leaders of all colors, but especially white leaders, must commit to improve the hiring, training, retention and promotion of people of color by establishing concrete and measurable goals for which leaders will hold themselves and other leaders accountable.
The United States remains a country in which race still matters more than any of us cares to admit and in ways that ought to concern all of us. We can no longer afford for our companies to be places where people are afraid or reluctant to speak about our differences or the consequences of those differences. The decades since the Civil Rights Act was enacted since 1964 have made it painfully clear that government alone cannot deliver on America's promise of equal access for everyone to life, liberty and the pursuit of happiness.
Governance. When it comes to the “G,” directors should view this crisis as an opportunity to conduct a health check of the company's governance processes. Did executives have a good grip on the company's enterprise risks? Have they continued to involve directors and other stakeholders to ensure their decision making remains sound? Were the company's business continuity plans sufficiently robust? Have executives exploited the downturn as license to stray from the company's commitment to integrity? Has management been candid about the company's challenges? Investors count on directors to ensure appropriate transparency in all circumstances. This pandemic will undoubtedly establish new benchmarks for good governance in bad times.
Shareholders and profitability still matter
The COVID-19 downturn has also brought home the degree to which the ongoing debate between “shareholder primacy” and “stakeholder corporate governance” is largely an academic exercise for governance aficionados. To state the obvious, the businesses that have gone under will not be able to do much for any of their stakeholders. In times like these, survival becomes paramount, and some ESG considerations understandably may diminish in immediate importance. Still, for the companies that manage to come out at the other end, does anyone really believe we will ever hear any executive boast in the real world about having maximized short-term gains for shareholders at the expense of a company's employees, customers, communities and other stakeholders?
Except for mercenaries whose short-term profit objectives should not be driving any company's long-term strategy, investors understand that they are not engaged in a zero-sum competition with a company's other stakeholders. They choose to invest in companies that optimize long-term profitability by investing in their employees, customers, suppliers and communities and thereby aligning the interests of shareholders and other stakeholders. These other stakeholders drive profitability almost by definition. This is why history teaches that the most successful companies over the long run are those that satisfy their customers more than their competitors; attract, retain and motivate the best talent; build sustainable partnerships with suppliers; create value in the communities where they do business; and anticipate and address the legitimate expectations of regulators and governments. Stated differently, the best companies have been able to maximize long-term returns for their shareholders precisely because they have already proved to be masters of the art of stakeholder corporate governance.
It bears emphasis that companies that may appear to be too important to be criticized for ESG shortcomings at times like these are not immune to these principles. Suppliers and deliverers of food, household goods, connectivity and other necessities ultimately will be held to account by internal and external stakeholders for their safety practices and their treatment of customers, employees and suppliers in times of duress. Even seemingly invincible technology giants like Amazon, Apple, Google and Facebook remain susceptible to this type of scrutiny. Witness the internal and well-publicized controversies raging already at Amazon about the working conditions in fulfillment centers and Google about diversity practices. Nor is it any accident that enforcement agencies around the world are conducting wide-ranging antitrust investigations of the technology giants for reasons having little to do with traditional principles of competition law.
China and geopolitics
The pandemic also promises to expand ESG to more of an international proposition that stretches beyond the focus of American companies on human rights considerations in global supply chains. In my view, advocates of ESG investing have been whiffing when it comes to companies that are blithely staying the course in China. The COVID- 19 outbreak raises serious questions about President Xi Jinping and the regime that rules China. Should multinational companies be proceeding full speed ahead with investments in a country whose government has loosely enforced post-SARS prohibitions against unsanitary wildlife markets? A government that failed to be transparent about the origins or rapid contagion of the coronavirus? Silenced experts and punished critics who tried to sound the alarm? Barred health experts from entering the country? Expelled foreign journalists who were trying to get to the truth? Delayed taking actions that might have contained the coronavirus? Persisted in reporting suspect data whose unreliability has impeded the rest of the world's efforts to combat the pandemic? And do major new investments in China when the pandemic is still paralyzing the globe and destroying trillions of dollars of wealth amount to an imprimatur that could encourage the regime to continue behaving in these ways and to fuel propaganda about Xi's “exemplary” leadership during the pandemic?
To be sure, the lure of an enormous market has motivated many companies (including the one where I proudly worked for nearly 13 years) to make huge investments in China for over a century. Through this lens, issues like intellectual property theft, forced technology transfers and favoritism toward domestic companies have mostly been dismissed as costs of doing lucrative business in China. Advocates of investing in China have also maintained that commercial ties facilitate constructive engagement on civil and human rights and help bridge differences between governments and cultures. Companies have also been drawn to China by its remarkable and talented people.
The adverse circumstances of the coronavirus outbreak suggest that multinationals have arguably been short-sighted about the profitability of doing business in China and naïve about their ability to steer a totalitarian regime toward democracy and transparency. Not to forestall the deserved criticism of how the United States and other countries failed to prepare for or respond appropriately to the coronavirus, which are separate issues, but doesn't the unprecedented damage inflicted by the pandemic make this the time for companies to come to grips with the hard but quintessential ESG questions posed above, much as governments in the West are actively reconsidering their policies toward China? History may judge the unprecedented coronavirus pandemic as the greatest collective failure of the world's governments in the modern era, which makes it all the more puzzling and disappointing that leaders of the ESG investment movement have not stepped up to demand the sort of leadership and clarity from the private sector about doing business in China that they have been demanding from CEOs on social issues.
We certainly live in “interesting times,” don't we?
Alex Dimitrief is a partner at Zeughauser Group, where he advises legal departments and law firms on strategic issues. He was the president and CEO of General Electric's Global Growth Organization in 2018 and previously served as GE's general counsel and corporate secretary. Dimitrief also teaches a new class at Harvard Law School on “The Corporation as a Citizen.” The views in this are strictly his own.