Since the 2008 financial crisis, a growing chorus of advocates and scholars have argued that corporations have a responsibility toward a number of different stakeholders, including their employees. The opposing camp has held that shareholders come first: They are the owners of the firm, and they should ultimately decide how it acts.
However, there is a schism forming among those who claim to adhere to the idea of shareholder primacy–the notion that a company should serve only its investors. And it widened again last month when oil giant ExxonMobil sued two of its shareholders, Arjuna Capital and Follow This, to block them from submitting climate-related resolutions at its shareholder meeting.
But what do shareholders really want, and are companies ever allowed to ignore them? Arjuna and Follow This own Exxon stock and are trying to dictate how the energy giant behaves. However, they are demanding more than dividends: They want Exxon to commit to more ambitious emissions reductions, and to some, that’s just as bad as companies admitting an obligation to workers or the community.
It’s not unusual for a company to take issue with a shareholder proposal, but it is unusual for them to sue over it. Exxon’s decision to do so for the first time highlights a new and fascinating disagreement over when, if ever, a company gets to overrule its investors.
“The social responsibility of the firm is to increase profits,” Milton Friedman argued in his famous 1970 essay, a canonical account of shareholder primacy. This view is usually contrasted with the stakeholder model in which firms have wider obligations–but there is a third perspective that is growing in influence. It says that shareholders are in charge, but that they naturally have a mix of goals, of which profit is only one. Investors are, after all, people, too. This view has been put forth by economists Oliver Hart and Luigi Zingales in a series of articles. (Disclosure, I have done work for Zingales’ center at the University of Chicago and edited his and Hart’s article for Harvard Business Review.)
The theory is not mere speculation. Shareholders, as a matter of fact, do care about multiple objectives; their preference for profits vs. other social values is a matter of degree, not a binary.
Shouldn’t advocates of shareholder primacy allow companies to pursue social objectives when investors ask them to?
Friedman, who was concerned more with crusading executives than crusading investors, thought shareholders would mostly desire profit. But he acknowledged that they might set up companies with other objectives in mind and that they would want the companies they invested in to abide by the law and “ethical custom.” His view of this was somewhat muddled. On the one hand, his essay was critical of activist shareholders trying to encourage fellow stockholders to vote for social objectives. On the other, he was adamant that the shareholders have the last word: “The key point is that, in his capacity as a corporate executive, the manager is the agent of the individuals who own the corporation… and his primary responsibility is to them.”
This tension in Friedman’s thinking has now erupted into disagreement within the anti-stakeholder-capitalism crowd. Hart and Zingales argue that shareholders come first, but that it’s their overall welfare that companies must maximize, not just profits. Meanwhile, Exxon’s suit–as well as the backlash against environmental, social, and governance (ESG) investing more broadly–shows that some of the support for shareholder primacy is highly contingent–it is better described as profit primacy. In this view, shareholders only come first when they shut up and cash the dividends.
Arjuna and Follow This are, quite sensibly, proposing that like all the other Western oil majors, Exxon’s emissions goals include not just their own operations but also what is emitted when a customer burns the oil (also known as Scope 3 emissions).
Exxon contends that this “does not serve the interests of investors.” Why not let shareholders decide for themselves what their interests are and aren’t? Exxon argues that the proposals are a form of micromanagement–one of several criteria that would allow a company to ignore such a proposal. The normal process for doing so is for a company to file a letter with the SEC explaining why the proposal violates its rules. The SEC can then respond with its own “no-action” letter saying it will not punish the company for ignoring the proposal.
What’s at stake goes beyond Exxon
The problem for Exxon is that in 2021, the SEC clarified how it would respond when such requests concerned the definitions of “micromanagement” and “ordinary business.” It said shareholders had a right to submit a proposal that “raises issues with a broad societal impact, such that they transcend the ordinary business of the company.” Further, it said it would not consider proposals related to climate “targets or timelines” to be micromanagement, “so long as the proposals afford discretion to management as to how to achieve such goals.” The Arjuna and Follow This proposal is likely not micromanagement in the eyes of the SEC; Exxon is hoping a judge will feel differently.
The stakes here go beyond any one company. Even if a judge rules against Exxon, its shareholders will probably vote against the proposal, as they have before. But in what world is it micromanagement to ask that Exxon concern itself with the impact of burning oil? Whatever one thinks Exxon should do, surely it’s not a mere detail.
The champions of profit primacy want to limit the range of shareholder input so that raising anything beyond the bottom line is deemed illegitimate. And Friedman’s 1970 essay provides a clue for what this camp fears most. Friedman was concerned about the tangible outcomes of corporate social activism–characterizing the social whims of executives as a form of taxing and spending without a proper political process. But he also worried that any allowance for social conscience in business would be followed by regulation to accomplish the same: “Once this view is adopted, the external forces that curb the market will not be the social consciences, however highly developed, of the pontificating executives; it will be the iron fist of Government bureaucrats.”
That’s what Exxon and its anti-ESG allies likely fear most. If activist investors demonstrate that even many shareholders are uncomfortable with its vision of the energy future, then action from government won’t be far behind.
Walter Frick is a contributing editor at Harvard Business Review and a reporter in residence at the Omidyar Network. He was previously executive editor of Quartz.
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