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This book aims to advance the discussion on concepts such as value, wealth and rich-ness, both from a country and a corporate perspective. At a country level, continuous rigorous studies have been conducted in order to definealternative indicators of gross domestic product (GDP), which is not able anymore toidentify appropriately “how much value” a country is able to generate. Buying junkfood, the consumption of legalised drugs such as tobacco, or even the compulsive pur-chasing of new models of smart phones, the second or third car bought by a city dwelleror any other tangible property characterised by a short transient joy, compute posi-tively in the GDP calculation. However, all of these have no, or almost non-existent,marginal utility, for the person who obtains them, but they have negative repercussionsat social and environmental levels. The GDP approach does not consider the harmfuleffects on physical and mental health, on the environment, and the legacy to future gen-erations that these consumptions bring about. At a corporate level, “sustainable value”, as opposed to the generation of profits andcash flows in the short-run only, according to a short-sighted corporate perspective, isassuming more and more importance in the decision making process of companies. Tosecure a long-lasting achievement, companies must pay attention to the wide sphere ofstakeholders relating to them - employees, customers, suppliers, financial partners,State, local authorities and public administration, natural environment and local com-munities - in addition to shareholders only. The validity of the corporate sustainableapproach, that is increasingly heartened by the literature, is empirically analysed inthis book through an exhaustive analysis of a sample of European listed companies.

Sustainable Value Creation: From a Country

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www.egeaonline.it

Emanuele Teti, Ph.D., is adjunct professor of CLEACC and CLEAM cours-es at Bocconi University, Senior Professor at SDA Bocconi and of Bachelorand Master of Science programs at IULM, Milan.

Francesco Perrini is Full Professor of Strategic Management & CSR, SIFChair of Social Entrepreneurship & Philanthropy Management at BocconiUniversity, and Senior Professor of Corporate Finance & Real Estate atSDA Bocconi. He is Director of CLEAM - Bachelor of “BusinessAdministration and Management” and CReSV – “Center for Research onSustainability and Value”.

Emanuele TetiFrancesco Perrini

Teti •

Perrini

Preface by Anna Illy

Centro Ricerche Sostenibilità e Valoredell’Università Bocconi

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Estratto della pubblicazione

biblioteca dell’economia d’azienda

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Sustainable Value Creation:From a Country

to a Corporate Perspective

Emanuele TetiFrancesco Perrini

Preface by Anna Illy

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Progetto grafico di copertina: mStudio, Milano Copyright © 2012 EGEA S.p.A. Via Salasco, 5 - 20136 MILANO Tel. 02/5836.5751 - Fax 02/5836.5753 www.egeaonline.it e-mail: [email protected] Tutti i diritti sono riservati, compresi la traduzione, l’adattamento totale o parziale, la riproduzione, la comunicazione al pubblico e la messa a disposizione con qualsiasi mezzo e/o su qualunque supporto (ivi compresi i microfilm, i film, le fotocopie, i supporti elettronici o digitali), nonché la memorizzazione elettronica e qualsiasi sistema di immagazzinamento e recupero di informazioni. Per altre informazioni o richieste di riproduzione si veda il sito www.egeaonline.it/fotocopie.htm Date le caratteristiche di Internet, l’Editore non è responsabile per eventuali variazioni di indirizzi e contenuti dei siti Internet menzionati. Prima edizione: maggio 2012 ISBN 978-88-238-4313-4 Stampa: GECA, Cesano Boscone (MI)

.

Questo volume è stampato su carta FSC proveniente da foreste gestite in conformità ai rigorosi standard ambientali, economici e sociali

definiti dal Forest Stewardship Council.


Table of contents

Preface by Anna Illy 9 Introduction 11

PART I – THE COUNTRY/SYSTEM PERSPECTIVE

1. Towards a new definition of wealth: from the corporate context to the macroeconomic one 17 1.1 The new concept of value. The corporate perspective 17 1.2 Gross Domestic Product (GDP). Definitions and

limits 23 1.3 From an economic to a sustainable approach 26 1.4 Beyond GDP toward a broader concept of “value” 27 1.5 The Alternative Indexes 30

I Index of Sustainable Economic Welfare (ISEW) 30 II The Genuine Progress Indicator (GPI) 33 III Human Development Index (HDI) 35 IV Gross National Happiness (GNH) 37 V Wealth Estimates 38 VI The Gini Coefficient 40 VII Other alternative indicators 41

The Global Sustainable Competitiveness Index 41 The FEEM Sustainability Index 44 The Global Peace Index 47 The National Knowledge Index and the Gross

Domestic Knowledge Product 49

5Estratto della pubblicazione

Sustainable Value Creation

1.6 The Italian case: BES. “Fair and Sustainable Well-being” 49

2. Short-lived competitiveness or long-lasting wealth? A survey at a macroeconomic level 57 2.1 Introduction 57 2.2 GDP vs. ISEW in the developed countries 58 2.3 Conclusion on developed countries 63 2.4 GDP vs. ISEW in the developing countries 64 2.5 Other Countries: Australia and New Zealand 67 2.6 Conclusions 67

PART II – THE CORPORATE PERSPECTIVE

3. Toward a new concept of value at the corporate level. Corporate Social Responsibility and Sustainable Value 71 3.1 Introduction 71 3.2 The Sustainability Rating: the ethical evaluation

of firms 74 3.2.1 How we can ascertain the socially responsible

behaviour of a company? 74 3.2.2 How sustainable/ethical rating works 75

3.3 Socially responsible behaviours and financial performances of firms 80

3.4 From CSR to the Stakeholder Theory 81 3.4.1 CSR and Socially responsible behaviours 81 3.4.2 The Stakeholder Theory and the Sustainable

Value 82 3.5 The linkage between Sustainable Value and

the different corporate management areas 85 3.5.1 The Sustainable Value and the Organizational

area 87 3.5.2 The Sustainable Value and the Customer

management 87 3.5.3 The Sustainable Value and the Supply Chain 87 3.5.4 The Sustainable Value and the Society area 88 3.5.5 The Sustainable Value and the Natural

Environment 88 3.5.6 The Sustainable Value and the Governance 88

3.6 Conclusions 89

6

Tabel of contents

4. Sustainable behaviour and performance. An analysis of the long-term value at a corporate level 91 4.1 Introduction 91 4.2 Data and Sample Selection 92 4.3 Methodology 96 4.4 Results of the “Regression Analysis” 100

4.4.1 Environmental sustainability and economic performances 100

a) The Environmental “High Score Portfolio” 100 b) The Environmental “Low Score Portfolio” 101

4.4.2 Social and governance sustainability and economic performances 103

a) The social and governance “High Score Portfolio” 103

b) The social and governance “Low Score Portfolio” 104

4.5 Discussion and Conclusions 105 Conclusions 109 References 113

7

Preface Anna Illy

I have analysed with interest, on the occasion of an awaited meeting, the results of this research carried out by Bocconi University, on its third edition, by those that care about sustainability within companies and more in general, in civil society: the annual Conference organised by the Fondazione Ernesto Illy, in collaboration with Bocconi University and Centromarca. I have read with great pleasure the hotline with the previous editions and I have noticed the clear evolution that the concept of sustainability has assumed and is further assuming: both at theoretical and practical levels. After having studied, the first year, the importance of quality as a driver for sustainable growth, in 2011 we focused our attention on the value creation, over time, for all stakeholders throughout the so-called “Value chain”. A thesis that was particularly dear to my husband, Ernesto Illy, that had been supporting it since the 70s against a concept of competition merely based on price and cost restraint. This year, the topic is particularly ambitious: sustainable growth is analysed according to a double perspective. On the one hand, the role of companies, on the other hand that of countries, both trying to create real and durable value at every level: social and environmental, not only economic. By this time, it is clear to everybody that GDP is a restrictive indicator to assess the wealth of nations. The research outlines that also when we assess companies it is unavoidable to go over the mere analysis of market and financial indicators, that do not take the creation of sustainable value into account. In a phase of structural crisis and turmoil like the one we are enduring, I believe that the substantial efforts made by many important economic organisations in the direction of sustainable value creation should be recognised and appreciated, as this research illustrates. Thus, the attention



that these companies pay to all their stakeholders should, attentively, be regarded once their actions and behaviour are assessed. A holistic approach to sustainability and wellness creation over time are a prerequisite condition for the future of the planet and imply an indissoluble link between countries and companies.


1

Introduction

This book is the third part of a trilogy including another two previous researches aimed at investigating the rapid development of the concept of “value”, as a corporate value, driven by the tumultuous and incessant change that is characterising the economic environment, both at corporate and a systemic levels. These previous researches were published in two books, that have inspired two well-attended and challenging Conferences in the Aula Magna of Bocconi University in 2010 and 2011. In the first book the processes and the relations that characterise “global production networks” were qualitatively analysed. In particular, the analysis was conducted by examining more closely three relevant economic sectors: coffee, cosmetics and manufacturing. With the second book, we have tried to go beyond qualitative observations concerning “sustainable value” following the stakeholder theory, as opposed to the generation of profits and cash flows in the short-run only, according to a short-sighted corporate perspective. In this regard, the analysis has paid attention to the wide sphere of stakeholders relating to them - employees, customers, suppliers, financial partners, State, local authorities and public administration, natural environment and local communities, in addition to shareholders only – as refereed by the CSR-SC project, begun in 2002 by the Italian Welfare Ministry (Perrini and Tencati, 2008). The results showed that “socially responsible” companies are about as efficient as those that are not “socially responsible” in the short-term, but generate more “value” in the future, that will assure these companies to be more competitive and operate more effectively than the latter.



The present book aims to improve the discussion on “sustainable value” in management in a double perspective. First, we have conducted a thorough empirical analysis, based on a time span of 7 years from 2005 to 2011, to identify if a possible relationship between a “sustainable value” approach and economic and financial perspectives of firms can be identified. Second, the book is presented in two parts. While the second is specifically dedicated to the just mentioned empirical analysis and to a review of the literature related to analytical work conducted at a corporate level, the first part of the manuscript ventures into an ambitious comparison. Have the concepts of “value”, “wealth” and “richness” been changing, not only in firms, but also at a systemic level, that is, from a country standpoint? Over the last years, continuous rigorous studies have been conducted to come to alternative indicators of gross domestic product (GDP), that is not able anymore to identify appropriately “how much value” a country is able to generate. Among these studies, the proposal advanced by the French government in 2009 has been under the spotlight, essentially for the standing and notoriety of the three scholars who have been charged to head the Commission: Joseph Stiglitz, Amartya Sen and Jean-Paul Fitoussi. The first part of our book does not aim to “give answers”, but just to cast light on the more and more evident interactions that are established between the corporate and systemic levels, and the need for a convergence on the reassessment of concepts like “value” and “wealth”, and their role in the long-term survival of these different organisational entities. According to these preliminary remarks, the book is structured in two main parts. Part I reassesses the concept of ”value” from a country/systemic perspective, while Part II aims to reach the same goal, but from a corporate standpoint. Part I includes two chapters; Chapter 1 reviews the main indicators used by national States to account for “the richness” they create. After the definition and limits of the Gross Domestic Product (GDP) are presented, the chapter proposes a move from an economic to a sustainable approach, by examining the most common alternative indexes used to balance the more and more obvious drawbacks included in the GDP formula. Chapter 2 reviews the trend of GDP and alternative indicators such as ISEW over time, both in developed and developing countries, by pointing out some interesting considerations about the trade-off between short-lived competitiveness and long-lasting wealth. Part II comprises also two chapters; Chapter 3 carries out an extremely detailed analysis of the academic contributions available on the new concept of “value” at a corporate level, thus examining the role of Corporate Social

12

Introduction

3

Responsibility and Stakeholder Theory and their supposed relationship with economic and financial performances of firms. The chapter also includes an examination of the criteria used to come to a sustainable/ethical rating of a company, as the resulting scores are an important input that we have used in the analysis presented in the following chapter. Chapter 4 includes the results of a thorough empirical analysis conducted on 111 European companies that have undergone a nonstop sustainable/ethical rating procedure, over the period from 2005 and 2011. The objective of this work is to evaluate whether a connection between socially responsible behaviour of firms and whether their economic and financial performance can be identified or not. The findings are particularly interesting as they are derived from an analysis conducted over the years affected by the heaviest and stricter financial crisis of the last decades, in which the financial function has probably not acted only as the victim, but to a large extent, also as the reason. Many people have contributed to make this book possible. First, many sincere thanks to Laura Taveggia, for her irreplaceable work, without which we could not have carry out this project. We thank the students and interns who have helped in the data collection phases and in the editing of the book, and particularly: Giordano Perico, Mariano Mamertino, Stefano Miola. A special acknowledgment to Francesca Ada Pra who has shown her enthusiastic involvement in the project, and has also co-authored a chapter. Grateful thanks to Sara Alberti, whose experience and carefulness have been precious, Federico Siano for his valuable contribution throughout the work, and Davide Gremmo for his contributions in the sample construction in Chapter 4. We also thank E. Capital Partners (ECPI) for providing us all sustainability-related data used in the empirical analysis.


PART I

THE COUNTRY/SYSTEM PERSPECTIVE


1

1. Towards a new definition of wealth: from corporate to macroeconomic context

Emanuele Teti and Francesco Perrini

1.1 The new concept of value. The corporate perspective

The concepts of "value" and "wealth" have suffered a rapid and inexorable evolution and re-discussion in the last decade in business. If the value, in the traditional theory of "value", is understood in the corporate context as synonymous with generation of incomes and cash flows to the holders of capital, according to the "shareholder value" approach (Rapport, 1986), this theory has been questioned with particular emphasis from the beginning of the new millennium. According to shareholder value theory, the main purpose of a business should be to create additional value for its holders of risk capital, the shareholders. In general terms, the ability of a company to generate "wealth" during a business-year is measured by the ability of the revenues, after covering operating costs, financial expenses and other non-operating costs, to generate the highest level of net incomes to be used to satisfy shareholders claims: in the short-term through a remuneration (the payment of dividends), and in the long-term through an implicit remuneration (profit reinvestments in the company which, finally, potentially increase income in the future).



+ revenues

- monetary operating costs = Earnings before interest, tax, depreciation and amortisation (EBITDA)

- depreciation and amortisation = Earnings before interest and taxes (EBIT)

+/- financial income and charges = gross income

- taxes = net income

In a financial perspective, always taking as the business year as a time-reference, the "shareholder value" approach implies the maximisation of cash flows instead of earnings. This makes it possible to measure the actual ability of companies to generate liquidity. From this perspective, the goal of a company is reached when the cash flows available to shareholders are maximised. As seen before, the company's ability to generate value should be measured, in this case, by its capability to generate higher cash flows to shareholders, that are freed after the company has paid the outflows arising from the core activity and those due to the financial creditors, such as banks and other third parties.

= EBIT taxes

+ amortisation - ∆ net working capital

= cash flow from core business -/+ cash flow from investment/disinvestment = free cash flow from operation (FCFO)

+/- debt and debt-related cash flows = free cash flow to equity (FCFE)

By extending the time horizon, the value generation must be assessed on the overall expected life of a company, not only the business year in progress. Accordingly, shareholder value is maximised when equity value is maximised. Equity value is obtained as the difference between value of assets of a business (enterprise value) at time zero (expressed by the operating and non-operating cash flows that the company is expected to generate in the future, appropriately discounted) and the present value of net debt. Equity value can be interpreted as the value of cash flows generated to shareholders in the future, as expressed at the current time, using appropriate discount rates.


Towards a new definition of wealth

3

Debt

Enterprise

Value

EquityValue

The “purely monetary” goal of shareholder value theory has been subject to ample debate at the beginning of the millennium. Different factors have contributed to put under discussion the validity of shareholder value as an exhaustive approach to evaluate the ability of wealth generation of business organisations: among others, the recurrent financial crises and speculative bubbles of the beginning of the millennium, that drove rethinking of the full validity of purely financial logic provided by traditional approaches. These theses have been supported in the light on the great financial crisis which began in 2007, where “rich" companies with strong "equity value" expressed in market values, found themselves "poor" after a few weeks, since the criteria that led to the identification of "wealth" were partially misleading and weak. Value, as understood by stakeholder value theory, seems far more solid than previous attempts used to measure wealth generated by a company. The major evolutionary step consists in the fact that managers should not take decisions only finalised at maximising shareholder value - as provided in shareholder value theory - but decisions that maximise the "wealth" of all stakeholders who relate to the company (stakeholders). Financial creditors, who "claim financial rights” (financial claimants) are only one type of stakeholder to which the company must focus its attention in the implementation of business decisions. Besides them, the ability to generate value is measured by the degree of satisfaction of other stakeholders, such as employees, customers, suppliers, local community, environment, state and government. Beyond purely ethical or moral contents which might tend towards this second approach, more tangible evidence supports the "sustainable growth" approach based on studies


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