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Bringing the Fat Cats to Heel

New Ground 62
Winter 2001

A new company law bill expected in 2002 should be used to make British companies responsible for what they or their subsidiaries do anywhere in the world, says Peter Frankental. It should also force companies to report on their social and environmental performance. Then we can invest our pensions in ethical companies (assuming we find any) and drag the bad ones into court in the UK, instead of letting them get away with appalling behaviour in countries with weaker legal systems.

To most people company law is an obscure and uninspiring subject. Yet it governs the way companies behave in society. For example, it defines standards for information disclosure by companies, – clearly crucial if we are interested in how well companies uphold social and environmental standards world-wide.

So the announcement in March 1998 of the first root-and-branch review of UK company law for several decades was a major opportunity to make business more accountable for its human rights performance. Non-government organisations (NGOs) working in human rights, international development and the environment lobbied the government to introduce mandatory reporting on companies’ social and environmental impacts.

A parliamentary bill is now being drafted and is almost certain to be introduced during 2002. What is less certain is to what extent the bill will reflect society’s concerns and expectations about company behaviour.

These concerns have been manifested in the burgeoning anti-corporate movement, but have not had much influence on policy-makers and legislators. There are few signs of any political consensus developing around corporate accountability. At the best of times this is hardly a vote winner, yet alone when recession is impending. Lack of interest from politicians may partly reflect a democratic deficit, but may also reflect the difficulties under-resourced NGOs have in getting to grips with complex company law. It is much easier to campaign against corporate malpractice than to articulate a regulatory response to it. NGOs are also at a disadvantage when trying to counter corporate lobbyists, who are not only much better resourced, but who also have easier access to policy makers.

Despite these barriers, the revision of company law is a chance to introduce the framework needed to ensure the freedom companies have to generate profits for their shareholders is balanced by obligations to manage and improve their impacts on society. At the very least, companies should be required to report regularly on the social and environmental effects of their business. Company directors should also have a ‘duty of care’ towards all those affected by the company’s operations anywhere in the world.

At present, victims of corporate malpractice find company law is inadequate in many countries, making it hard for them to seek redress. Even where the jurisdiction exists, victims may lack access to justice because they cannot afford legal fees. These conditions are particularly likely to apply in developing countries. This is why it is essential that when malpractice is committed in a developing country by a subsidiary or joint venture partner of a parent company, the victim should be able to sue the parent. Under current law, parent companies can limit their liability to the countries in which their subsidiaries operate. This means the subsidiaries can operate to low standards with impunity.

Much of the debate on corporate social responsibility assumes that all companies operate in a perfect market in which the government has limited ability to regulate or control corporate activity. However, the reality is that trade and investment is heavily regulated by international agreements, especially with regard to competition, restrictive practices, tariffs and intellectual property rights. There is no reason why social and environmental considerations should not be integrated into such agreements, and then into national law, as has happened with other trade issues. Within the UK and the European Union there is a raft of legislation relating to provision of goods and services, health and safety and consumer protection. Moreover, government can exert leverage over companies through its role as a major contractor and buyer of goods and services, as well as through other forms of support for the private sector, such as export credit insurance.

Some issues can be addressed in the proposed Company Law Bill. Companies should be required to state their policy on social responsibility, human rights and environmental performance (even if the company’s decision is not to have a policy). Companies should also be required to report on their actual social and environmental performance. Specific issues should include a company’s performance against international standards defined by UN bodies, the OECD and the EU. Other issues would be any potential liability to the company that could affect its reputation, not just its tangible assets. Directors and managers should be made personally responsible for the social and environmental performance of their organisations. This ‘due diligence’ principle is an established and tested part of UK health and safety legislation. In addition, the many practical barriers to legal action faced by the victims of corporate abuses should be removed.

Apart from lack of political will, one of the obstacles to these changes is the lack of internationally agreed measures for assessing companies. It is not enough to determine general standards; specific benchmarks and performance indicators are required. Business managers, investors, consumers, governments and others are all beginning to ask how they can obtain a clearer picture of the human and ecological impacts of business, so that they can make informed decisions about their investments, purchases and partnerships. Paradoxically, this shared interest in new approaches to measuring business impacts has produced a proliferation of inconsistent reporting by business, government and civil society. This is why a cross-sector initiative, known as the Global Reporting Initiative, was established in 1997 to design and build a a common framework for reporting on the economic, environmental and social aspects of business organisations.

Companies have been at liberty to report what they choose about the economic, environmental and social aspects of their performance. Moreover, national and sectoral initiatives have produced diverse reporting practices so that reports of different companies cannot be easily compared. What we should be seeking with regard to social and environmental reporting in the 21st century is a similar, but more accelerated, evolution to the one that took place during the 20th in financial reporting.

It may seem ironic that much of the momentum for social and environmental reporting is being generated by financial markets. But how can pension funds, investment analysts and fund managers assess the sustainability of their investments if there is no requirement on companies to report on material risk factors, including non-financial risk? How can they make informed decisions if they do not know social and environmental performance of the companies they invest in because there are no benchmarks from which to make comparisons? This is why the FTSE, the UK’s leading stock market index company, is launching a series of ethical indices known as FTSE4Good.

Ethical indices such as the FTSE4Good have been criticised for setting the bar too low, so that even companies operating to standards that would be widely regarded as unacceptable are likely to be included in these indices. However, the FTSE is committed to a process of continuous improvement and has recently set up an expert panel on human rights to advise on indicators that could be applied to companies as part of the selection criteria. There is every likelihood that the FTSE4Good bar will be raised each year, so that companies will be under constant pressure to improve. There is also a likelihood that such index providers will begin to take a long-term view, realising that wherever companies are today in developing ethical policies, they need to have an understanding of the benchmarks that will be expected of them in five years time, so that they can plan ahead. Just having a policy on human rights might be sufficient now, but if companies knew that five years down the line they would be required to integrate human rights into their management information systems, training programmes and appraisal systems, as well as their reporting and external auditing functions, then they would be in a better position to move forward.

This is where government can help provide companies with incentives to improve. Regulation can create a system of rewards and penalties that will help embed acceptable standards into corporate behaviour. Such mechanisms are also fair, as they create a level playing field for companies, ensuring that those that invest in sustainable business practices do not find themselves at a competitive disadvantage to those that do not. A framework of law and external regulation, based on international conventions, would benefit society and provide reassurance that international business is not based on self-serving standards set by itself, but rather on the values that international society has decreed. The existence of such a framework, requiring mandatory reporting on environmental and social impacts, would enable markets to respond to issues beyond financial bottom line and so serve as an effective instrument of corporate change.

Peter Frankental is the Business Group Manager of Amnesty International UK

Their immediate priority is mandatory social reporting by companies.