The ‘Corporate Purpose’ Debate: Whose Interests Should A Company Serve?

For whose benefit must a company be incorporated and managed? This question, which strikes at the heart of the ‘corporate purpose’, has generated a raging discourse that continues to be inconclusive.At one end of the spectrum, shareholder advocates argue that companies must be managed to maximise profits and enhance shareholder value: after all, shareholders are owners of the company.At the other end lies the stakeholder theory that adopts a broader perspective and requires companies to be managed on a sustainable and inclusive basis that accounts for the interest of non-shareholder constituencies as well, such as employees, creditors, consumers, environment and the community as a whole.Yet others hold middle ground by arguing against a binary position, in that long-term sustainable value for the company conflates the interests of shareholders and other stakeholders..A few weeks ago, the Business Roundtable, an influential body populated by the CEOs of leading U.S. companies, reignited the smouldering debate when it issued a statement sharing its fundamental commitment to serve the corporate purpose towards all stakeholders, including customers, employees, suppliers, communities, and shareholders..It is hard to ignore the rather conspicuous placement of shareholders as the lowest in the pecking order among the various constituencies..This move has attracted exaltation and denigration in equal measure..Celebrants view this to be a momentous shift given that the Business Roundtable had hitherto remained steadfastly adherent to the shareholder-primacy approach for decades, and the recent statement rides the swelling waves that encompass broader corporate responsibility.Critics, however, point to the overly rhetorical nature of the promise, and its likely failure in action.Investor pressure groups moan against the emasculation of shareholder ownership rights as a result.Legal pundits caution that aspirational statements by business leaders are hollow in the light of legal duties of corporate boards to preserve shareholder value..These developments provide an opportune moment to introspect on the state of play relating to corporate purpose in India..Demoting Shareholders Won’t Strengthen Capitalism.A Familiar Orientation For Indian Companies.If the Anglo-American approach to corporate purpose is largely shareholder-centric, thereby motivating the likes of the Business Roundtable to articulate the broader public purpose surrounding corporations, the legal and governance systems in India strongly support the stakeholder approach..To that extent, the Indian corporate establishment is already well underway in the pursuit of stakeholder goals that the U.S. business leaders are only now pronouncing. .Stakeholder-orientation is not novel in India. While several age-old business groups have long inculcated broader corporate responsibility as part of their business motto, companies have also faced the nudge of legal regulation in that direction. In the years following India’s independence, and consistent with the socialist economic policies of the time, company law underwent amendments that incorporated the requirements for companies to act not only in the interest of their shareholders, but also in “public interest”. In the 1980s, the Supreme Court enunciated that “a company is now looked upon as a socio-economic institution wielding economic power and influence the life of the people”. No longer was the company a private contractual construct between the entity and its shareholders, but one that took on a wider form given its larger societal impact..If there was even any doubt regarding the purpose focus for Indian companies, that has been put to rest with the enactment of the revamped Companies Act in 2013..Section 166(2) of the Companies Act imposes duties on directors of a company to act “in the best interests of the company, its employees, the shareholders, the community and for the protection of the environment”. .As evident, shareholders are only one among several constituencies that deserve the attention of directors. This embodies the pluralist approach which places the interests of all stakeholders (whether shareholders or others) on par without creating any hierarchy among them. It is the ultimate manifestation of the stakeholder approach, and bears considerable resemblance to the Business Roundtable statement..Furthermore, independent directors too are specifically tasked with catering to the interests of stakeholders. In defining the role of independent directors, Schedule IV of the Companies Act, 2013 sets out a code of conduct for such directors, which stipulates that they are to “safeguard the interests of all stakeholders, particularly the minority shareholders” and to “balance the conflicting interest of the stakeholders”. In that sense, minority shareholders are treated as one among several stakeholders without receiving any preferential treatment whatsoever..Therefore, the legislative duties and responsibilities of directors, including independent directors, clearly define the corporate purpose for Indian companies that are altogether stakeholder-oriented. At the same time, it is worth noting that the corporate purpose debate in the Indian context tends to be enmeshed with the statutorily-mandated corporate social responsibility requirements under company law. However, this is arguably unsatisfactory, given that the CSR provisions in India veer towards corporate philanthropy through mandatory spending rather than the all-inclusive view that company managements must adopt on how their business operations impact society..In that sense, while CSR supports the corporate purpose stance in India, it ought not to drive the discourse..New CSR Rules: The Risks Of Greater Rigidity.Inherent Imbalances.Despite the perceived clarity in the Indian legislative diktat on corporate purpose, problems abound in operationalising the idea. This burden ultimately rests on the shoulders of corporate boards..First, there is considerable ambiguity on the scope of the stakeholders whose interests are to be considered. Is the list of stakeholders enumerated in the Companies Act exhaustive, or does it include others such as creditors, consumers, and suppliers who fail to gain specific statutory mention?.Second, directors will likely confront conflicts between the interests of various stakeholders. In such cases, there is scant guidance, if at all, on how they might resolve those conflicts. Moreover, such ambiguity can be available as a shield to directors, as any obligation to act in the interests of too many constituencies may tantamount to acting for no one at all!.Third, only shareholders can exercise control rights in a company. Shareholders enjoy exclusivity among the various stakeholders, as only they have a seat at the table due to their ability to hire and fire board members, and thereby exercise indirect control over the management of a company..Other jurisdictions address this issue through codetermination, by which employees have the right to be represented on corporate boards in certain circumstances..Such a method has formed the mainstay of corporate governance in several continental European jurisdictions, and this has even been an integral part of the Accountable Capitalism Act, a legislative proposal initiated by Senator Elizabeth Warren in the United States. However, the Indian corporate legal system is devoid of representative capabilities for non-shareholder constituencies..Finally, stakeholders other than shareholders do not enjoy any remedies if the rights available to them are breached. Unlike shareholders, other constituencies cannot bring legal actions such as class actions, derivative actions or oppression claims. Hence, the veracity of the intention on display in Indian company law is in doubt when it comes to implementation in practice. Unless the Indian legislature, the judiciary, and corporate boards make conscious efforts to shape the corporate purpose in the Indian context by taking advantage of the headway already made in this regard, there is a risk that its formulation in India may face the same challenges that the Business Roundtable statement has recently encountered on account of its rhetorical nature..Stakeholder Capitalism Will Fail If It’s Just Talk.Umakanth Varottil is an Associate Professor of Law at the National University of Singapore. He specialises in company law, corporate governance and mergers and acquisitions..The views expressed here are those of the author and do not necessarily represent the views of BloombergQuint or its editorial team.

The ‘Corporate Purpose’ Debate: Whose Interests Should A Company Serve?

For whose benefit must a company be incorporated and managed, asks Umakanth Varottil.

NDTV Profit

NDTV Profit

Follow Us

DOWNLOAD THE APP