I remember kindergarten quite well. My teacher was Mrs. Mullins and there was a poster to this effect:
Everything I needed to know, I learned in kindergarten.
Basically, when you first go to school you learn to treat others with respect and dignity. You learn the Golden Rule:
Treat others like you want to be treated.
Recently, (and in some regards, probably spurred by the recent actions and allegations of a high flying startup involved in the transportation and logistics industry) Paul Graham wrote Mean People Fail.
Startups don’t win by attacking. They win by transcending. There are exceptions of course, but usually the way to win is to race ahead, not to stop and fight.
I also remember Finance 101 quite well. My teacher was Mr. Nelson and I also learned the Golden Rule:
Whoever has the gold, makes the rules.
So between the two Golden Rules:
- are they related?
- what is the cross-section of success?
- how do they impact performance and returns?
In the financial world, then Conscious Capitalism is a great place to learn if ethics impacts performance. Does how you act impact how much money you can make?
In Future Perfect by Steven Johnson, conscious capitalism is defined by companies base decisions on maximizing stakeholder value over shareholder value, where stakeholders include:
Johnson includes returns of “stakeholder” firms against the S&P 500 for the 10-year period ended in 2006. The results would seem to align with Mean People Fail.
Stakeholders Return: 1,026%
S&P 500 Return: 122%
It should be noted that Johnson does not include the list of “stakeholder” firms used to calculate the returns, but notes much of the information about conscious capitalism is based on the work of Raj Sisodia (Conscious Capitalism and Firms of Endearment).
The iShares MSCI USA ESG Select ETF (KLD), which is an index fund that seeks to track the performance of companies with positive environmental, social and governance characteristics may be a good proxy for the “stakeholder” market as a whole. It may not be exact because an oil firm that values the local community would likely be excluded from KLD, while it could theoretically be included in the Stakeholder Returns.
The returns are not as dramatic between KLD and the iShares Core S&P 500 ETF (IVV), which represents the S&P 500. The returns are roughly the same, which are since inception of KLD in 2005. And skew towards IVV when the expense ratio is included (KLD charges 50 basis points and IVV charges 7 basis points).
KLD Return: 74%
IVV Return: 78%
It should be noted that the returns (Stakeholder v S&P 500 and KLD v IVV) cover two separate time periods (1996 – 2006) and (2005 – 2014), but both periods included multiple market cycles.
John Mackey, the Whole Foods CEO and founder, discusses the difference between conscious capitalism and social responsibility:
It’s important to note that conscious capitalism is not to be confused with corporate social responsibility (CSR). Conscious capitalism puts higher purpose and creating value for the community stakeholder at the core of every business decision rather than being added on later as a program to thwart criticism or help manage a business’ reputation.
In Future Perfect, Mackey, discusses and refines conscious capitalism:
business is part of interdependent and evolving system of constituencies. Profit is one of the most important, but not the most important purpose of business.
So from the macro viewpoint, investments in generally “good” companies provide at least market returns and at best above-market returns.
But are there other examples to demonstrate “good v evil” actions?
There is news of eBay and Craigslist, published by PandoDaily, which basically outlines the history of eBay representatives aiming to gain strategic plans from Craigslist in order to launch a competitive product. (This example isolates one specific incident, and does not necessarily portray all of eBay’s actions with the manner.)
Has anyone heard of Kijiji?
As the Delaware court documents allege, Pierre Omiydar, the eBay, Inc. founder, conspired to obtain Craigslist proprietary information in order to launch a “Craigslist killer” named Kijiji.
Upon reading the article and court documents, then there is a fairly clear case of one company operating under Conscious Capitalism and one company operating under Traditional Capitalism.
However, take a look at eBay’s returns since it’s IPO in 1998. It has returned shareholders a staggering 2,500% while the S&P 500 (as represented by IVV) has returned roughly 50%. And that does not take into account the VC investors that reaped profits from the initial IPO.
Although, since the market is a fickle beast, the returns over the last 10 years tell another story.
EBay has been flat over the last ten years, while IVV has returned about 75% to investors. Now, is this the result of managerial decision making and looking to maximize shareholder return? That is something that only an insider would know.
But if so, then it is clear that recent investors have been disappointed by the decision making.
A recent Inc. magazine outlines Omidyar’s idealistic notions around eBay, but the management team of Omidyar (who remains eBay chairman) and Meg Whitman has been in place since 1998. (Whitman stepped down from the President and CEO role in 2008 to concentrate on politics, while John Donohue took over as President and CEO.)
If there was a strategic shakeout, it is possible that becoming a public company would have put pressure on management to meet “the Street” expectations and make decisions to maximize shareholders over stakeholders.
But are there more examples?
The Conscious Capitalism research team also points to Southwest Airlines (LUV) as a company that maximizes for stakeholder values.
The airline industry is notoriously difficult to generate sustainable profitability. There is an old investor jokes that asks: how do you make $100 million?
Take $200 million and invest in an airline.
So how does LUV stake up against the competition and the market?
LUV currently has about 6% profit margin, 27% quarterly earnings growth and is cash flow positive. Although every investor views different metrics as positive indicators, these are certainly respected performance. But how does LUV compare to its competitors?
The 10-Year returns of many prominent airlines, along with the S&P 500:
Southwest Airlines (LUV): 157%
JetBlue Airlines (JBLU): -4%
United Airlines (UAL): 71%
American Airlines (AAMRQ): 27%
S&P 500 (IVV): 75%
All in all, not bad performance for a company in the airline industry.
Is any of the above conclusive?
Although, limited in the sample size with the above examples, the underlying research presented by academia certainly gives credit to stakeholder companies generating respectable returns. There is clearly not enough evidence to claim that all stakeholder companies will outperform the market (and in fact, the 5 year returns of the airline industry show LUV trailing some competitors), but over the long-term, the concept of rewarding multiple constituencies equally makes sense.
Obviously, there are many more examples of shareholder maximizing companies generating sustainable long-term success (see the financial industry), and eBay provided incredible returns for the initial shareholders. But, is there a downside to stakeholder maximizing companies? Not necessarily.
Clearly, Uber will provide sizeable returns to its current investor base, but how will Lyft fair when the next chapters are written? I would bet, better than the experts think.
Disclaimer: Raj Sisodia and his team are or were professors at Bentley University. I attended Bentley University at the same time, but do not recall having any classes with the professors included in the research.