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Law and Economics

According to Milton Friedman, corporations are responsible for using their shareholders funds in profitable ways. According to this view, the provision of public services is a matter for elected representatives. Explain what is meant by “Corporate Social Responsibility”, and, referring to material in the case study, outline the main arguments for and against it. 40 marks Society’s preoccupation with the social responsibility of organizations has existed since at least the early 1930s and probably even before this period.

Because it has been rooted from the legal c...

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...ommunity, the CSR debate has been a point of debate in several academic disciplines, with little discussion occurring between and among them (Radin, 1999). The CSR concept is not simple to grasp or to carry out. It is hard to define, and when done so, the resultant definition is frequently contentious. In addition, perspectives on CSR are undoubtedly tinged with the normative beliefs that one has about the apt role and purpose of an organization.

For instance, classical economists will most probably have differing understandings of what CSR should entail, compared to social activists. The classical economists, for example, do not expect that organizations should be anything other than productive and efficient organizations. Certain social activists, on the other hand, expect corporations to be leaders in responding to social issues, or at a minimum, to prevent, minimize or compensate for harm that corporations may inflict to society (Kahn, 1997).

There is no globally accepted definition of CSR, and the currently existing definitions are frequently ambivalent. For instance, the definition of CSR in The New Balance Sheet states that “while there is no fixed definition, in our view, the term ‘corporate social responsibility’ is most effectively used to describe instances in which companies respond to interests in addition to those of their shareholders (The Canadian Democracy and Accountability Commission, 1999). Critics and proponents alike often cite the lack of agreement on the meaning of CSR as a major problem in advocating the CSR agenda.

The power and influence of corporations, actual or perceived, and the impact of their economic, social, and political actions on society in general, have resulted in a broad societal expansion that corporations be accountable for their actions. Put in simpler terms, there is a growing public sentiment that organizations have a responsibility to weigh the impact that their decisions have on the parties involved – and eliminate, minimize or compensate for the harm they may inflict on society (Kahn, 1997).

The justification for this expectation is partly derived from a moral position that corporations are and should behave like any other citizen in society, upholding ethical and moral responsibilities. The expectation that organizations should be responsible for their impact on society is also justified on the basis that power has corresponding responsibilities. As Dodd (1932) asserts, “power over the lives of others tends to create on the part of those most worthy to exercise it a sense of responsibility. ”

In the current case, Thames Water should live corporate social responsibility for all its stakeholders – the public which serves (which are also its customers, its employees, and the regulatory bodies which it deals with. The current facts show that it has very conspicuous inefficiencies, to the point that regulatory agencies already sanction it. Neither does it enjoy a good reputation from its consumers, who have perennial complaints about its services. Such circumstances may make Thames unsustainable; while it has a good financial record which the numbers support, this does not ensure that it will thrive in the long term.

Today, investors are interested in companies that promise growth because it has placed ample focus on all the important facets of customer, business development, best business practice, and learning and growth – apart from financials. b. Are there likely to be any contradictions or tensions between the commitments Thames Water has made to its shareholders and those which it has made to its customers and local communities in its Corporate Responsibility Policy? How might these be resolved? 20 marks There are clear contradictions between the commitments that Thames has made to its shareholders and to its customers.

For instance, on the part of efficiencies, it has failed to meet its targets for reducing the volume of water lost through leaks, along with an outcry from its customers who for inefficiency. Thames does have other options to control leakage activity, but this is not possible given the fact that their reputation has already been long tarnished by poor customer service and inefficiency. The case study states that Thames Water does allot ? 500,000 a day is spent on reducing leaks but the firm must stay profitable to secure future funding – this last goal mainly intended mainly for its shareholders.

However, while it wants to secure enough financial funding and profits for its shareholders, it must also take into consideration other stakeholders in the equation – namely, its customers, the environment, and society at large. One ideal means of resolving this problem on leaks and inefficiencies is to effectively solicit community cooperation and support. To carry this out, Thames Water has to improve its reputation as a responsible corporate citizen, particularly in the area of environmental friendliness. It has to check its best practices to make these conform to a strong “green” thrust.

Although it recorded a profit of ? 666 million last year, Thames Water has been put up for sale by its owner, the German company RWE. Bidding for the company currently stands at ? 10billion. Perhaps, the company has recognized the difficulty of sustaining the business, given its poor reputation. Good and stringent exercise of corporate governance will lead to an improved public and may gradually provide them the public support that they need to address the big leakage problem that confronts them. To ensure long-term sustainability, Thames Water must correct its practices towards manifesting good corporate governance.

Corporate governance is investigated in literature from varying perspectives. While producing precious insights into several facets of the manager-shareholder conflict, agency theory has failed to put ample attention to interdependencies among other stakeholders of the firm (Aguilera & Jackson, 2003). Thus, this predominant perspective has prevented a deeper analysis of new peculiar relationships of today’s organizations. Why should Thames even bother to change its practices, and its reputation among public consumers? Stakeholder theory asserts that the capacity of an organization to yield sustainable wealth over time (i.

e. its long-term value) is dependent on its relationships with crucial stakeholders (Post et al. , 2002). Under this framework, the corporation is depicted as a socio-economic organization whose rationale for existence is to create wealth for multiple constituencies. The stakeholders of any organization are usually diverse, but the relationships between the firm and each of its shareholders have many underlying, common features. Moreover, the stakeholders have common interests (as well as prospective conflicts) among themselves (Mitchell, et al. , 1997).

Based on this view, the crucial challenge is for modern management to acknowledge the mutual interests among the firm and its stakeholders. In other words, its customers are one of its stakeholders – not only those who share its profit. Thames Water should thus strive to become a socially responsible corporate citizen, as investors are striving to find SRIs in their investment decisions. Socially responsible investments (SRI) are a combination of investors’ financial goals and their concerns about the social, environmental, and ethical (SEE) issues (UK Social Investment Forum, 2005).

SRI is considered a tedious investment process that takes into consideration the social, environmental, and ethical outcomes that may be borne out for the selection, retention and implementation of investments, both positive and negative, within the setting of stringent financial analysis (Mansley, 2000). As socially responsible investors conventionally invest in these socially responsible companies, the performance of socially responsible companies is a critical element in their performance.

Majority of the studies have presented an out-performance for SRI portfolios compares with more traditional investment approaches, even if such differences do not always present as statistically significant. When particular dimensions of sustainability are investigated, more significant and positive results are brought forth, suggesting that some facets of corporate social responsibility may also contribute shareholder value. It is thus worthwhile for Thames to undertake efforts for exercising strong corporate governance.

Eventually, this may spell out sustained competitive advantage for the Thames enterprise. c. The water industry is regulated by the government agency, OFWAT, which, as can be seen in the Case Study, is demanding that more of Thames’ profits should be spent in repairing leaks.. Should private companies be subjected to regulation in this way? 40 marks Yes, I personally believe that there should be government agencies that OFWAT that will compel privately operated organizations to spend more for worthwhile causes.

Apparently, not all organizations are bent on complying with government-mandated policies, and have to be ‘threatened’ with heavy fines as in the case of Thames Water. In the long term, this mandate of fixing the leakage problem will be good for Thames Water. Good financial planning is the key – they just need to plan how much of their resources will actually go to this cause. They still have a very comfortable profit margin and may be able to allot this to addressing their leakage problems.

Better yet, they could work on image building efforts that would effectively help solicit public support for water conservation programs. In all these efforts, the Board of Directors of Thames has to take the decisive lead. Currently, there has been a burgeoning interest in corporate governance, acknowledging it as a crucial component of the CSR concept. Corporate controversies and the need to protect minority shareholders’ interests, for instance, are reasons behind the development of corporate governance codes in several countries and corporations.

Majority of corporate governance codes provide recommendations to promote good corporate governance and increase transparency and disclosure (Mallin, 2002). Apart from this, the concepts of sustainable development”, “corporate responsibility and “corporate citizenship” have taken root in the corporate world. Although comprehensive research treats the fields of corporate governance and sustainable development individually, less attention has been paid to the interaction between these fields.

If I were a Thames Board member, I would ask myself if going into the CSR and corporate governance equation would be worthwhile in the long term? Empirical data suggest that it will be worthwhile in securing long term competitive advantage. As proof of this, Ricart, Rodriguez and Sanchez (2005) tried to close the gap by studying how corporate governance systems are transforming in order to integrate sustainable development thinking into them. The researchers did so by analysing the governance systems of the 18 corporations that are market sector leaders considered by the Dow Jones Sustainability World Index (DJSI World).

In general, the objectives of the paper are twofold: to analyse in depth how and to what extent DJSI World leaders are incorporating sustainability into their corporate governance systems; and to develop a model for sustainable corporate governance based upon corporate governance and sustainable development theories, and built upon empirical research of the DJSI leading companies’ corporate governance systems (Ricart et al, 2005). In the end, Thames Water must realize that it may even be a change in reputation that would determine whether or not they would stay and survive in the industry.

It must also be noted that Thames Water’s nature of business is indeed customer intensive and the credibility established among consumers is very crucial. There seems to be no saving grace for the company looking along all the perspectives of the Balanced Scorecard, except on Financials. On this perspective, the figures are in Thames’ favor. The next perspective, the Customer perspective definitely needs improvement, with the rising rate of customer complaints. Best Business Practices also need to be looked into, as there seems to be no long-term direction in crafting best business practice.

Business Development is also at risk; the company is being up for sale without having a clear evaluation of how its value may be improved for long-term sustainability. There has been no mention about how it puts premium on the development of its leaders and its people; but if it is derelict with its responsibilities towards customer, the environment, and society at large, it is easy to assume that it does not put emphasis on this important aspect as well. The answer to all of Thames’ problems is good will beginning from the top. How important is the Board of Directors of Thames Water in spearheading these change efforts?

Corporate governance systems present four main approaches, namely agency theory (Fama and Jensen, 1983), the legalistic perspective (Cieri et al. , 1994), resource dependence (Pfeffer, 1973), and class hegemony (Domhoff 1969); their theoretical origins are, respectively, economics and finance, corporate law, organizational theory and sociology, and Marxist sociology. The agency theory views the modern corporation as a nexus of contracts between principals and agents and has made valuable insights into many aspects of the manager-shareholder conflict (Daily et al. , 2003) and, as so, into the role of boards (Aguilera and Jackson, 2003).

This suggests that Thames water ought to live up to its contract with all its stakeholders, namely its direct consumers, the environment, and society. The legalistic view discusses that boards contribute to the performance of their firms by accomplishing their legally mandated responsibilities, that is to say, corporate leadership without actual interference in day-to-day operations (e. g. Williamson, 1964). The resource dependence perspective views boards as important boundary spanners that provide information to executives and are able to achieve resources for company operations (e. g. Pfeffer, 1973).

Finally, the class hegemony perspective views boards as a means to perpetuating the powers of the ruling capitalist elite and its control of social and economic institutions (e. g. Mills, 1956). There may be legal implications for Thames in not complying with government mandated service standards. As such, it must stop using firefighting measures in addressing its current problems; instead, it must strive to look at things from the long term. It must start acting on a clear conscience and consider clearly if they walk their talk. Being values-driven in all their strategies and decisions may be worth looking into.

The Thames Water Board has to set out directives on strengthening its corporate social responsibility thrusts. Improvement of its ‘green’ image, being customer centric, which shall eventually help them solicit customer support for water conservation programs. However, while this is still not in place, OFWAT and other external groups have to exert a reasonable degree of ‘pressure’ on Thames for it to comply and behave in consonance with public expectations. In cases when organizations seem to forget its responsibilities apart from earning money for co-owners, it is imperative that external bodies regulate their actions.

This would compel enterprises – remind them stringently – about their responsibilities as a corporate citizen. For Thames, operating as a responsible corporate citizen means building a good corporate reputation especially among its consumers. Initially, this means shelling out more finances for fixing its leakage problems. But certainly, a balance between profitability and social responsibility may be arrived at with consensus. This also means exercising good corporate governance and complying with the standards put forth by external regulating bodies.

It must also give attention to its employees, as stakeholder theory asserts that they are among Thames Water’s stakeholders with whom they have a psychological contract. In the end, these efforts shall change how everyone perceives the company. Yes, the process is long, tedious, and costly – but in the long term, it shall surely be worth Thames Water’s while. References Aguilera, R. V. and Jackson, G. (2003), “The cross-national diversity of corporate governance: dimensions and determinants”, Academy of Management Review, Vol. 28 No. 5, pp. 6-10. Cieri, R. M.

, Sullivan, P. F. and Lennox, H. (1994). The fiduciary duties of directors of financially troubled companies. Journal of Bankruptcy Law and Practice, Vol. 3 No. 4, pp. 405-22. Daily, C. M. , Dalton, D. R. and Cannella, A. A. (2003). Corporate governance: decades of dialogue and data. Academy of Management Review, Vol. 28 No. 3, pp. 371-82. Dodd, E. M. (1932). For whom are corporate managers trustees? Harvard, 1145-1154. Domhoff, W. G. (1969). Who Rules America? Englewood Cliffs, NJ: Prentice-Hall. Fama, E. F. and Jensen, M. (1983). Separation of ownership and control.

Journal of Law and Economics, 26 (2), 301-25. Kahn, F. (1997). Pandora’s box: Managerial discretion and the problem of corporate philosophy. UCLA, 579-629. Mallin, C. (2002). Editorial discussion. Corporate Governance, 10 (4), 253-5. Mansley, M. (2000). Socially responsible investment: a guide for pension funds and institutional investors. Sudbury: Monitor Press. Mills, C. W. (1956). The Power Elite. London: Oxford University Press. Mitchell, R. K. , Agle, B. R. and Wood, D. J. (1997). Toward a theory of stakeholder identification and salience: defining the principle of who and what really counts.

Academy of Management Review, 22 (4), 853-86. Pfeffer, J. (1973). Size, composition, and function of hospital boards of directors: a study of organization-environment linkage. Administrative Science Quarterly, 18 (3), 349-64. Post, J. E. , Preston, L. E. and Sachs, S. (2002). Managing the extended enterprise: the new stakeholder view. California Management Review, 45 (1), 6-28. Radin, T. (1999). Stakeholder theory and the law. Unpublished dissertation, Darden Graduate School of Business Administration, 1-4. Rodriguez, M. A. , Ricart, J. E. and Sanchez, P. (2002).

Sustainable development and the sustainability of competitive advantage: a dynamic and sustainable view of the firm. Creativity and Innovation Management, 11 (3), 135-46. The Canadian Democracy and Accountability Commission (2002). The new balance sheet: corporate profits and responsibility in the 21st century. Toronto: Thistle Printing. UK Social Investment Forum (2005). Retrieved on October 15, 2005 from www. socialinvest. org Williamson, O. E. (1964). The Economics of Discretionary Behavior: Managerial Objectives in a Theory of the Firm, Prentice-Hall, Englewood Cliffs, NJ.

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