The 4th Stakeholder Framework

Article 15

Why we can’t use financial ROI as the prioritization metric for social impact

3-4 minute read

CAPSULE SUMMARY – The attempt to use financially positive ROI as a simplifying filter for social impact prioritization (let’s do what’s good for the business AND good for society) is based on a fundamentally flawed principle that should not stand. Such an approach is nothing more than Shareholder optimization in disguise.

15.1 Because of the tension between 4th stakeholder and 1st stakeholder needs (fixing societal impacts invariably requires financial trade-offs) a school of thought has emerged and gained traction that attempts to avoid this tension by ignoring it. It posits that financial ROI provides the best unifying measure for what actions a company should take in trying to balance 4th stakeholder efforts. To refer back to the last article: it attempts to make Financial ROI the common denominator metric for social impact.

15.2 Those who embrace this philosophy will pursue 4th stakeholder priorities only when they can be clearly correlated back to shareholder success, either immediately or in some future state. Although a business that uses this kind of filter will be better than one which has no societal considerations at all, a society that uses this as its first principle will never achieve true impact maximization and harm minimization.

15.3 This approach contends that “all businesses have a right to try to succeed in our society and they all need to try to do right by society, but only if it can further the financial health of the businesses”.  Although it might sound reasonable at first, the corollary in human behavior shines a bright light on the flawed logic. It would be akin to saying: “Anyone can live in our neighborhood and try to make a living, although we frown on abusive neighbors. If you do abuse your neighbors, however, it might be O.K. We’ll ask you to stop but only if it doesn’t hurt you financially. If it’s going to hurt you financially, just keep on abusing.”

15.4 Although clearly an untenable societal position, this type of progress is often celebrated as a win and major step forward in the context of business behavior. How have so many come to embrace such a flawed position? I see two causes.

15.5 The first comes from a simple misinterpretation of causation vs. correlation. People will mistakenly point to either: 1) large, profitable companies that are expending significant cash or energy on social causes or 2) large, purpose-driven companies who are built around a cause and have achieved sustained profitability and health. The flawed, inverted logic looks something like this: “These companies are clearly expending significant cash or energy on their identified social causes, therefore we can infer that focusing on those areas must create a positive financial ROI, therefore we can justify using positive financial ROI as the filter for all of our actions.”

15.6 We must be incredibly wary not to draw causality where no causal arc exists. By definition, the largest most profitable businesses will be able to devote more energy, on a relative basis, to 4th stakeholder issues—they simply have greater resources and greater degrees of freedom within their cost structure. As a simple illustrative example: the richer you are as an individual, the more cars you generally own—but that doesn’t mean buying more cars will make you wealthy, or that the act of buying a car is an ROI positive action financially. The lesson to be drawn from these success examples should be simply that: “it’s absolutely possible to build profitably, socially focused businesses” not “you can use financial ROI as the correct filter for your social impact actions”.

15.7 The second path to this flawed logic comes from the desire to be able to put up a hand and claim that you are focused on doing good. In a world where the pressure to deliver 4th stakeholder progress continues to increase (which it is), companies and executives cannot simply stand on the sideline and do nothing. Wrapping some set of forward action under an ROI-positive umbrella provides the benefit of perceived progress--giving those companies an ability to point to the “great positive steps” they are taking. Unfortunately, those same companies often ignore the much larger first and second-order impacts of their operations.

15.8 Although clearly superior to ignoring the other stakeholders completely, this kind of “be responsible only when affordable” approach cannot be the first principle upon which our society is based. Clearly, we hold our citizenry to a higher reckoning, and corporations and organizations should be treated no differently.

15.9 We must not confuse causation with correlation. All businesses should be held accountable to act in society’s best interest, and the decision to take action needs to be based upon reducing or eliminating the most egregious societal impacts that they are wholly or partially responsible for--not a subset filtered down to only financially ROI positive tactics.

15.10 We must shift away from flawed first-principles and embrace the obvious: businesses who act in the best interests of all stakeholders can earn the right to try to succeed, but a business that can only succeed by abusing one or more of the four core stakeholders does not deserve to exist. If you’re going to blatantly abuse your neighbors, you shouldn’t be able to live in the neighborhood.