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This issue of the Environmental Policy Outlook builds on the discussion of sustainability in the August edition with an examination of how numerous corporations have embraced the concept of the triple bottom line: financial, environmental, and social. On one level the triple bottom line represents the intersection of the traditional efficiency ethic and the environmental ethic. But the subjectivity and politicization of that new line obscure whether it represents a revolutionary business model.

From time to time new management theories take hold in the corporate world; sometimes they fundamentally change the way business is done, and other times they pass out of favor like wide ties and leisure suits. The 1970s saw the rise and decline of the organizational behavior ideas known as Theory Y and Theory Z. In the 1980s the popular concept of management by objectives was followed by the enthusiasm for excellence when the Japanese challenge to American quality and productivity was especially acute. Today the hottest management trend among major multinational corporations is the triple bottom line. The new bottom line couples the traditional accounting measures of profit and loss with measures of environmental and social performance. The triple bottom line has become the leading means by which business firms can aid sustainable development.[1]

Several arguments can be made in favor of the triple bottom line--and several in criticism as well. Because the triple bottom line is conceived of as a balance sheet measurement, perhaps evaluating the idea in the same fashion, starting with its positive aspects, is the best plan. The rise of the triple bottom line has seen cooperation replace confrontation between big business and environmental groups, often to the pleasant surprise of both parties.

In one widely heralded case of business-environmental cooperation, the Natural Resources Defense Council (NRDC) teamed with Dow Chemical in Michigan on a source-reduction initiative aimed at a 35 percent reduction in pollution discharged at Dow plants. At the end of a three-year process Dow had not only exceeded the target with a 43 percent reduction in discharges but had also saved a net $5 million a year in production costs, which flowed to the financial bottom line as additional profit. That a chemical company could increase its profitability through reducing pollution was an unprecedented idea for some environmentalists. NRDC's Linda Greer, who spearheaded the NRDC-Dow project, remarked to an interviewer, "If you told me five years ago that I was going to help Dow increase its profitability by $5 million a year, I would have stood and waited for the punch line!"

The Dow example represents the harmony of the efficiency ethic with the environmental ethic; as such, it does not demonstrate a radical new direction for commerce. The long story of American industry is one of ever increasing resource and energy efficiency. The resource efficiency of the American economy (that is, the amount of raw materials and energy per dollar of GDP) has been improving at a rate of about 1 percent a year for more than a century. Not that a triple bottom line emphasis is irrelevant or has no meaningful impact, but in many cases the emphasis on the triple bottom line merely speeds efficiency gains that would accrue naturally over a longer time horizon. And although the frequently short payback period of such efficiency gains may be a welcome surprise to businesses and environmentalists alike, such investments should be forgone now if they offer a lower internal rate of return on a company's working capital than alternative investments do.[2]

Theory and Practice

A more interesting--and problematic--application of the triple bottom line shows up in attempts to move beyond mere efficiency gains and leapfrog toward the next generation of green technology. Here the record is mixed. Ford's recent decision to abandon its electric car program after spending more than $100 million of shareholders' capital offers an object lesson in green intentions running aground of reality. (At least Ford, which came under much-deserved criticism for its ostentatious professions of environmental correctness, had the sense to pull the plug faster than General Motors. GM spent more than $1 billion on its defunct electric car program.) Many companies make mistakes in trying to develop cutting-edge products; graybeards may recall RCA's disastrous and costly foray into the computer market in the 1960s. The corporation thought that it could compete head to head with IBM in the computer mainframe market and squandered several hundred million dollars before realizing the opposite. But at least RCA thought that it could compete for a market share; Ford and GM toyed with the electric car project primarily for political reasons, not market reasons.

The energy industry provides an even better example of the subjective and increasingly politicized nature of the triple bottom line when it is pushed beyond the confines of eco-efficiency. A few energy companies have jumped on the greener-than-thou bandwagon and have made the battle against global climate change a central priority.

A prominent case in point is BP (British Petroleum), whose newspaper ad campaign suggests that BP now stands for beyond petroleum. The firm proudly tells us that "in 1997 we were the first in our industry to recognize the risks of global climate change and set a target to reduce our own greenhouse gas emissions." BP set out to reduce its greenhouse gas emissions by 10 percent from 1990 levels by the year 2010 but achieved its goal this year. Although BP's output of petroleum products is increasing, the company intends to reduce its CO2 emissions profile through the simple expedient of leaving the petroleum business and becoming a natural gas company.

Royal Dutch Shell has emulated BP's course in reducing its greenhouse gas emissions. The company has pledged $1 billion for the development of alternative energy and envisions the day when it too will no longer be in the oil business.[3] (In its latest corporate report on social responsibility, Shell not only presented fifty-year scenarios for the phaseout of fossil fuels; it also featured reader feedback: "An oil company cannot contribute to sustainable development unless it gets out of oil! When do you plan to take the IPCC's warnings seriously, stop all new oil exploration and become a renewable energy company?")[4] Those corporate good deeds have earned BP and Shell the plaudits of many environmentalists, who--for now--politely overlook that fact that motorists keep using more and more of BP's and Shell's CO2-producing products in the equivalent of the antismoking movement praising tobacco companies for using recycled paper in their cigarette rolling plants.

The tacit premise of those cutbacks of corporate greenhouse gas is that meeting the Kyoto Protocol target of a 7 percent reduction in such emissions from 1990 levels is no big deal for the United States: See--even an oil company can do it. But no one ever mentions that the reductions represent a tiny portion of the greenhouse gas reductions contemplated under the Kyoto framework. With the rise of emissions in the 1990s because of the booming U.S. economy, meeting the Kyoto target will require a 20 percent reduction in emissions from current levels--a degree of cuts that not even BP or Shell believes feasible, let alone profitable. The United States is emitting about 6 billion metric tons of greenhouse gases a year. Industry accounts for roughly 30 percent of total U.S. greenhouse emissions. Even if every industry in America could reduce its greenhouse emissions by 10 percent below 1990 levels, we would be only about one-fifth of the way to the Kyoto target for the United States. Most companies that attempt to meet the threshold of reduction by 2010 (the Kyoto target year) will find its results measured on a double bottom line, as profitability will disappear.

Green Seal of Approval

Any company can decide to transform its business wholesale lest it join the ash heap of obsolescence next to buggy whip makers and milkmen. Given a suitably long time horizon, fossil fuel can be a transitional form of energy, just as wood was.[5] A forward-looking company might well reap the rewards of being ahead of the competition with the next generation of energy technology. Uncertainty increases as the time horizon lengthens and complicates calculations for the reliable present value of today's efforts to anticipate or bring about a wholesale change in our energy profile.

Yet the boosters of the triple bottom line would have us believe that a financial advantage exists today for such companies. One website trumpets the efforts of climate-friendly companies. Since 1999 the Dow Jones sustainability index (DJSI) tracks the stock market performance of more than 300 global companies whose business practices have received the green seal of approval from a Swiss outfit known as Sustainable Asset Management (SAM).[6] "There does seem to be evidence that corporate sustainability can create shareholder value," according to the DJSI Newsletter. "There is also evidence that investors can take advantage of this [sustainability] information to generate superior returns."[7]

PricewaterhouseCoopers, in its recently published sustainability survey of 140 major U.S. corporations, argued that "companies that fail to become sustainable--that ignore the risks associated with ethics, governance and the 'triple bottom line' of economic, environmental and social issues--are courting disaster." (PwC does not, however, offer names of the strong and weak performers.) The triple bottom line, PwC concludes, "will increasingly be regarded as an important measure of value."[8]

Such recognition is doubtful. A closer look at the composition and criteria of the Dow Jones sustainability index supports skepticism about the significance of efforts to shoehorn sustainability into hard-nosed financial analysis. The DJSI contains more than 300 multinational companies. Companies selected for the DJSI not only meet criteria for sustainability but are also leaders within their respective industries. That leadership role itself biases the index's performance relative to a random cross-section of all publicly traded companies.

Environmental performance accounts for only 4.2 percent of the index's weighting in the criteria for selection; regular considerations of corporate governance receive much greater weight and thus skew the DJSI closer to an ordinary index of large-capitalization industry leaders.[9] The DJSI adds and deletes companies more frequently than most indexes (the index recently replaced more than 70 companies--almost a quarter of the DJSI); that turnover skews the index's usefulness as a consistent comparative tool with the broad market. Even with its changes, the DJSI is down 40 percent from its level in January 1999 (when the DJSI was launched), whereas the Dow Jones industrial average is only 13 percent below its level of January 1999.

A more problematic aspect of the DJSI is the deliberate politicization of its financial analysis. Its process of sustainability analysis includes reviewing "media, press releases, articles, and stakeholder commentary written about a company over the past two years. This information is integrated into the assessment system as well as serving as a basis for possible downgrading of a company through the ongoing Media and Stakeholder Analysis process"[10] (emphasis added). The statement is a euphemism for interest groups' browbeating and treating companies regarded as environmentally incorrect as pariahs, the moral equivalent of tobacco companies.

Environmentalists as Market Analysts

The special target these days is ExxonMobil, which has resisted following BP and Royal Dutch Shell in abandoning the oil business. Dale Hanson, the former chairman of the California Public Employees Retirement System (one of the largest pension funds in the world) captured the mood when he wrote in the DJSI Newsletter earlier this year that "environmental disasters such as the Exxon Valdez incident caused many public and Taft-Hartley funds to focus attention on Exxon and its environmental practices." In other words unprogressive companies such as ExxonMobil are not just evil, they are bad investments!

Environmental pressure groups are becoming more sophisticated in intimidating corporations by imitating Wall Street analysts. Campaign ExxonMobil, a self-appointed pressure group, recently sponsored an ostensible shareholder valuation analysis of ExxonMobil by Claros Consulting, which argued that ExxonMobil's market capitalization could fall by as much as 10 percent (or about $20 billion) because of its refusal to take global warming seriously or invest in renewable energy technologies. The study claims that ExxonMobil could face tobacco-style liability lawsuits for its damage to the climate.[11]

The World Resources Institute entered the fray with a more circumspect study, "Emerging Environmental Risks and Shareholder Value in the Oil and Gas Industry." The WRI paper argues more cautiously that ExxonMobil and other oil-oriented companies face an average loss in market value of about 6 percent because of their troglodyte ways.

How ironic--even comical--that environmentalists pretend to be stock market analysts at the moment stock market analysts have fallen into disrepute with the public and when market volatility has exceeded the possible range of valuation changes under either study.

Compare the stock market profile of pariah ExxonMobil with the supposedly greener BP and Royal Dutch Shell. If those green stock market valuation studies were correct, investors should already be giving the greener companies higher valuations in the stock market. Although both BP and Shell boast of higher total shareholder return than ExxonMobil over the past ten years (17 percent annualized for BP and Shell compared with 13.6 percent for ExxonMobil), current market indicators suggest that the prospects of ExxonMobil impress investors more than those of BP and Shell. Even with the horrendous market shakeout of recent months, ExxonMobil's price-earnings (P/E) ratio is a third higher than either BP or Royal Dutch Shell and suggests that investors believe that the earnings growth prospects for ExxonMobil are much better than for their greener competitors. ExxonMobil's higher profit margin and higher return on shareholder's equity than BP or Royal Dutch Shell perhaps reflect the firm's more productive capital investment. (ExxonMobil has the highest return on equity in the entire petroleum sector, according to the latest Value Line Investment Survey.)

Beyond the example of ExxonMobil and the energy sector, no compelling statistical evidence proves that socially responsible corporations are more profitable or are better investments than companies not on the green bandwagon.[12] Despite some use as a lens to eco-efficiency, the concept of the triple bottom line is mostly PR fluff susceptible to politicization. The example of Enron demonstrates the weakness of the triple bottom line: Enron's dedication to the other two bottom lines along with profit and loss was not enough to save it from collapse. The thousands of people who lost their jobs and their retirement savings in the Enron debacle remind us that a corporation's first duty to its shareholders and employees is to make a profit.

Therefore the best commentary on the triple bottom line comes from Milton Friedman's observation made forty years ago:

Few trends could so thoroughly undermine the very foundations of our free society as the acceptance by corporate officials of a social responsibility other than to make as much money for their shareholders as possible. This is a fundamentally subversive doctrine. If businessmen do have a social responsibility other than making maximum profits for stockholders, how are they to know what it is? Can self-selected private individuals decide what the social interest is?[13]

Notes

1. Monsanto CEO Robert Shapiro wrote in a 1995 corporate environmental report: "We have to broaden our definition of environmental and ecological responsibility to include working toward 'sustainable development.'" Cited in John Elkington, Cannibals with Forks: The Triple Bottom Line in Twenty-first Century Business (London, Capstone Publishing, 1997), p. 89.

2. The action is especially true for certain industries, such as oil refining, that spend as much as 50 percent of capital expenditures in the 1990s for pollution abatement, much of it mandated by regulation.

3. Among Shell's many social commitments is avoiding any animal testing that involves cats, dogs, and monkeys.

4. People, Planets, and Profits: The Shell Report 2001, p. 31. Accessed September 4, 2002.

5. In 1900 the United States generated a third of its energy from burning wood.

6. The DJSI can be viewed at www.sustainability-indexes.com. An FTSE4Good Index of socially responsible European stocks also exists.

7. DJSI Newsletter, 2/2002, p. 2, available at www.sustainability-indexes.com. Accessed September 9, 2002.

8. 2002 Sustainability Survey Report, available at www.pwcglobal.com.eas. Accessed September 23, 2002. PwC has started an Environmental Advisory Service as a part of its consulting practice.

9. Several companies in the DJSI would raise eyebrows among many environmentalists. Entergy, which operates five nuclear power plants, is a DJSI component, as is Pulte Homes (a purveyor of suburban sprawl tract housing) and Home Depot. And several seeming anomalies, such as Orthodontic Centers of America and Harrah's Entertainment, somehow escaped the DJSI's proscription of tobacco, gambling, and defense-related stocks. DJSI recently dropped L'Oreal (celebrated on coolcompanies.com for its climate-friendliness), Tyco, Fannie Mae, and Halliburton.

10. Dow Jones STOXX Sustainability Indexes Guide, version 2.0, September 2002, p. 13, available at www.sustainability-indexes.com. Accessed September 3, 2002.

11. Mark Mansley, Risking Shareholder Value? ExxonMobil and Climate Change: An Investigation of Unnecessary Risks and Missed Opportunities, Claros Consulting, May 2002, available at www.campaignexxonmobil.org. Accessed June 15, 2002.

12. Some advocates of the triple bottom line recognize that fact. A list of the statistical studies on both sides of the question can be found in Sustainability Pays, a July 2002 report from the Centre for Sustainable Investment, available at www.forumforthefuture.org.uk. Accessed September 13, 2002.

13. Milton Friedman, Capitalism and Freedom (Chicago: University of Chicago Press, 1962), p. 133.

Steven F. Hayward is the F. K. Weyerhaeuser Fellow at AEI and the author of the annual Index of Leading Environmental Indicators, released each year on Earth Day.

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