This article is based on a talk by Diane de Saint-Affrique delivered at the “Sustainable Finance: Governance and Metrics” conference, held on November 25, 2022, in Paris and organized by SKEMA PUBLIKA and Bpifrance.
Governance and CSR are now inextricably linked
The governance landscape has changed in recent years, due to the influence of new corporate social responsibility (CSR) standards that have emerged. These two concepts, governance and CSR, now appear to be inextricably linked and are part of a new reality in business management.
If we go back in time, the term ‘governance’ appeared in 1937, in an article by Ronald Coase entitled “The Nature of the Firm”. But it was in the 1970s that this concept truly took hold, with economists generally defining it as “devices implemented by the company to conduct internal coordination to reduce transaction costs generated by the market.” The approach here is purely financial. It was not until 60 years later, in 1997 when a major financial crisis spread across Asia, that the term “good corporate governance” caught on. The epithet “good” carries an implied normative reference that will become increasingly important and must be measured objectively and rationally.
Over recent years, the issue of corporate governance has become more relevant than ever. It is now a core focus of public authorities and of researchers in a variety of disciplinary fields, including law, finance, economics, management, and political science. In the aftermath of major scandals such as those involving Enron, Parmalat or Vivendi Universal, Western societies, through national initiatives but also via international organisations such as the OECD or the World Bank, felt it necessary to toughen the rules relating to corporate governance and its application.
As a result, governance can no longer be underpinned solely by a financial approach aimed at maximising shareholder value, as Friedman had described it in 1962. Now, resources, competence, and both internal and external stakeholders must also be considered. Several legal and ethical rules must be added to regulate relations between the company and its stakeholders.
Nowadays, companies are expected to contribute to society by considering the consequences of their business activities both inside and outside the company. This explains the increasing ubiquity of CSR and the major challenge posed to corporate governance, which is of course to continue being financially profitable to meet the expectations of shareholders, while also being able to guarantee in all circumstances that the greater good takes precedence and that, for ethical reasons, the company upholds values which are likely to contribute to the welfare of society as a whole.
This is called responsible governance. The latter must comply with three fundamental principles: rigour, legitimacy, and competence in the rational use of human and material resources. Its effects must be recognisable and thus quantifiable in all domains, from the formal market to the informal economy. When making strategic decisions, company heads must be conscious that any value creation is likely to lose legitimacy if in parallel it generates consequently a significant loss of value, whether for the environment or for those who contributed to its creation. So more than ever before, companies must be socially responsible if they wish to enjoy social legitimacy and survive in a world where reputational risk is a major concern.
This leads us to reconsider the place of CSR in company development. A first definition of corporate social responsibility was put forward by the American economist Howard Bowen in 1953. This was a narrow definition and at the time it only applied to the major corporations looking to align their organisational values with those of the society within which they operated. This definition no longer fits the reality of our modern times.
The major impact of CSR must push governance to evolve
Today, CSR affects all companies, irrespective of their size.
Whether it is on their own initiative because the law compels them to, or because the market, civil society or NGOs encourage them to, these companies must integrate social and environmental concerns sustainably in their business activities and in their interactions with the other players and various stakeholders. Thus, over the last forty years or so, organisations have been obliged to produce and disclose rapidly increasing quantities of financial and non-financial information. The concepts of sustainable development, ethical labour practices and social responsibility have become a central focus in entrepreneurial development.
Company directors are expected to meet more and more social and environmental criteria considered desirable. As a result, socially responsible investing (SRI), ESG (environmental, social, and governance) and SD (sustainable development) criteria are now inherently and inextricably linked to the development and growth of companies. A company’s behaviour will increasingly be systematically examined and measured to determine how aligned it is with the most important social norms and values.
On the finance side, for instance, the focus will be on how money is used, whether it is used responsibly, or in other words according to ethical norms and financial practices considered virtuous.
Regulations imposed by the legislature
To achieve this goal and address the new social and environmental challenges, the legislature has intervened several times to indicate what responsible behaviour means for large corporations.
Several laws have been passed and with each reform more and more non-financial reporting obligations have been imposed on companies to ensure transparency. In France, this movement was initiated by the law passed on 12 July 1977, introducing the “social balance sheet” as part of companies’ annual reporting. In France, the next stage came in 2001 with the passing of the so-called “Loi NRE” on new economic regulations, making it mandatory for publicly-traded companies to disclose social and environmental information.
Following the French Grenelle Environment Forum (Grenelle de l’environnement), in 2010 this obligation was extended to certain unlisted companies, depending on their size, and the list of indicators was expanded considerably, particularly where social impact information is concerned. To add to these already burdensome requirements, since the issuing of an order dated 19 July 2017 and its application decree dated 9 August 2017, listed and unlisted companies exceeding the thresholds set out in said decree must now report on their non-financial performance. This order is highly significant in that it brings a sea change to French legislation in this area by introducing for the first time a legally binding requirement of non-financial transparency.
Lastly, the “Loi PACTE”, promulgated on 22 May 2019 and outlining an action plan for business growth and transformation, has modified and enriched the French civil and commercial codes by introducing into law issues concerning corporate social responsibility:
- Paragraph 2 of Article 1833 thus states that “The company shall be managed in its social interest and taking the social and environmental aspects of its activity into consideration.”
- Article 1835 of the Civil Code states that: “The articles of association may specify the purpose, consisting of the principles held by the company and in observance of which it intends to allocate resources for the conduct of its activity.”
- Article L.210-10 of the French Commercial Code, pursuant to the terms set out in Article R.210-21 of said code, outlines the conditions under which the status of mission-driven company may be adopted.
- Registration as a mission-driven company requires the definition of (i) a raison d’être in accordance with Article 1835 of the French Civil Code, (ii) social and environmental objectives to achieve as part of the company’s mission, (iii) procedures for ad hoc organisations to monitor the execution of the mission.
It is clear to see that with each reform the purpose and scope of the obligation of non-financial transparency has been extended and this trend will continue, with an ever-growing number of companies affected. The risk is then that companies will produce extremely dense and complex reports lacking in clarity, containing information that is repeated or, worse, that contradicts itself. This could be counterproductive or even dangerous.
The option of self-regulation for better CSR integration in companies
This finding can lead us to think differently about CSR integration in companies, to choose a different path favouring self-regulation, particularly when it comes to implementing non-financial reporting that is fitting for the specific issues of each company concerned, with the latter able to freely choose the indicators for which they will be accountable and, obviously, implement a rigorous methodology supported by irrefutable metrics. In this regard, the SPI (Sustainable Performance Index, Prof. Dhafer Saïdane, SKEMA Business School) is an essential tool.
Indeed, in practice, each company has its own unique set of characteristics and imposing a single blanket rule for all companies, regardless of their size, industry or specificities, could be counterproductive on an economic level, but also on a labour and a social level. Nuance is essential here, and binding legal requirements do not always appear to be the most appropriate instrument for implementing CSR standards harmoniously.
Soft law could be an avenue to explore, however, since it can be better adapted to the specific characteristics of each company, both in terms of their capacity for action and their impact on the reporting of labour-related, social and environmental information. This type of law is underpinned not by rules laid down externally by lawmakers, but rather by obtaining the buy-in of the different parties concerned and making them aware of their responsibilities, by having those involved set the rules together and by encouraging dialogue between the various stakeholders.
The integrated reporting principle would be to allow those concerned to set their own rules of conduct which seem fair to them and are possible to follow given the internal constraints and market pressures to which they are subject, of course within the confines of the existing legal framework.
They would be able to decide on the significant and pertinent indicators to monitor, as long as these can be supported by objective, measurable criteria. These indicators would have to be precisely defined, objectively quantifiable, and provide indications both internally and externally as to the company’s responsible management and its negative and positive labour-related, social and environmental effects as well as its impact on the fight against corruption.
The objectives set by the governance bodies would be the fruit of a voluntary approach providing a framework that would be more easily accepted by the company’s employees. Having been built with the help of all stakeholders, this flexible standard-setting instrument could then become a truly helpful tool for managing the company responsibly.
The need for reliable impact measurement
In any event, impact measurement is absolutely essential to responsible governance.
The effectiveness of these rules must be quantifiable and justifiable, which is why it is so important to put in place precise and reliable metrics to objectively and concretely measure both the financial and non-financial progress made by companies, by measuring data selected for being pertinent and appropriate to the different business sectors concerned. This can be called “smart law”.
In short, if we want companies to integrate and follow the CSR principles long term, these must be put forward, chosen, and shared by all stakeholders, but carefully monitored using reliable and scientifically irrefutable measuring instruments which are not high-handedly imposed by lawmakers at the risk of being unsuitable and therefore inapplicable.
- governance must imperatively integrate CSR concerns in its objectives;
- CSR criteria must be an essential performance management instrument and a guarantee of legitimacy for stakeholders;
- these criteria must be established by companies or branches according to their specific characteristics, in accordance with the law, but not imposed in detail by the legislature;
- to be credible, the process must be justifiable and quantifiable, hence the recommendation to implement accurate, reliable and verifiable metrics.