Sustainable Capitalism

cropped-EnvironmentxEconomySigns.jpg“Sustainable capitalism” is not an oxymoron; however, short-term thinking is a major barrier for businesses attempting to implement sustainable practices. Short-termism is the myopic focus on quarterly earnings to the detriment of long-term value creation. This level of decision-making can be exacerbated by financial markets constructed to encourage wealth creation based on short-term returns fail to reward longer-term investments. This fosters economic inequality, increases volatility in the global financial market, and creates a lack of will to address environmental instability.

The most prevalent accounting-driven metric for publicly traded companies is earnings per share (EPS). Research by John Graham, Campbell Harvey, and Shivaram Rajgopal has shown that managers are making decisions such as decreasing R&D to hit quarterly earnings targets they have provided as part of their own guidance. In a 2004 white paper titled “Sustainable Capitalism,” Al Gore and David Blood praised capitalism as superior to other systems for organizing economic activity but he called for an end to quarterly reporting, which is mandatory for U.S. public companies and is being adopted elsewhere around the world. Gore said the short-term focus hinders companies from making important longer-term investments, such as those in energy efficiency. Gore and Blood suggest five strategies to get capitalism back on track:

 

    1. Identify and incorporate risks from stranded assets. These could be high-carbon assets such as coal-fired power plants that become prohibitively expensive to use because of incentives to cut carbon dioxide emissions. An accurate price – one that addresses the use of coal’s true cost to society – would dramatically change the costs of such resources.

 

    1. Mandate integrated reporting. This method of accounting requires companies to include environmental, social, and labor performance alongside financial results. The practice is currently voluntary.

 

    1. End the practice of issuing quarterly earnings guidance, which gives executives and investors incentives to make decisions based on short-term profits rather than longer-term objectives.

 

    1. Align compensation structures with long-term sustainable performance. Senior managers should not receive bonuses automatically, or for turning in quarterly profits. Rather, their compensation should be tied to longer-term objectives, including environmental and social goals.

 

  1. Encourage long-term investing with loyalty-driven securities. Such securities would only pay off when investors hold them for several years, giving them a longer-term investment in a company’s success.