What the World Can Teach America

• Author: Tatiana Sullivan
• Position: Second-year JD candidate at American University, Washington College of Law
• Pages: 08

Tatiana O. Sullivan is a second-year JD candidate at American University, Washington College of Law. In 2007 she graduated with honors from the College of the Holy Cross with a major in Economics and a minor in French. She is currently pursuing a career in international business law and economic development.

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Capitalism has made possible material progress never seen before. Despite its current malaise, capitalism continues to grow the world’s economy through global trade and the spread of multinational corporations into the developing world.¹ While the dichotomies between wealthy and poor countries, industrialized and developing countries, and emerged and emerging countries narrow, it is clear that not everyone is reaping the benefits of this extraordinary growth as the income divide grows more unequal.²

Americans classify themselves as wealthy, industrialized, and emerged largely because of their sophisticated capitalist system. As a result, emerging market solutions are often overlooked due to the belief that because of America’s complex economy, treating American ailments, such as the growing income gap, with solutions used in poor, developing, and emerging countries would be like trying to cure the flu with aspirin.

Recently, President Barack Obama stated “I’m calling on all Americans—Democrats and Republicans and independents— … to put good ideas ahead of old ideological battles, a sense of common purpose above the same narrow partisanship, and insist that the first question each of us asks isn’t ‘What’s good for me?’ but ‘What’s good for the country my children will inherit?’”³ In response to the President’s call, this article seeks to formulate a plan for developing the appropriate regulatory and legal environment to enable the emergence of American social businesses as a long-term solution for sustainable economic growth.

Traditional Model

In a pure free-market society, Adam Smith’s invisible hand works to allocate resources to the highest valued user. Under this model, individuals work to create wealth to buy the things they cannot make. When each individual pursues their own happiness, the collective happiness of all is achieved. In America, capitalism has worked to develop one of the most productive work forces, spurred some of the greatest technological innovations, created some of the most sophisticated educational facilities, and developed one of the most mature financial systems in the world.⁴

While capitalism continues to operate in a manner that benefits some, it is clear that there are segments of the population being left out.⁵ This result is due, in part, to the inability of capitalism to account for human multidimensionality.⁶ By reducing individual motives to the pursuit of financial gain only, victory is measured only in terms of maximizing individual wealth.⁷

The court’s ruling in Dodge became the raison d’être of for-profit businesses for the next century.

Ignoring other measures of victory has been indoctrinated into corporate legal mantra⁸ in cases like Dodge v. Ford Motor Company. In 1916, Henry Ford, who controlled the board of directors of the Ford Company, attempted to prevent layoffs within the company by ending the company’s practice of paying special dividends so that profits could be reinvested in new plants.⁹ His aim, he stated, was “‘to employ still more men; to spread the benefits of this industrial system to the greatest possible number, to help them build up their lives and their homes.’”¹⁰ Ford believed that this strategy could benefit the company long-term but only at the expense of current shareholder value. Minority shareholders brought suit claiming that a failure to pay special dividends wasPage 44 a breach of his duty to shareholders.¹¹ The Michigan Supreme Court found in favor of the minority shareholders, holding that “[a] business corporation is organized and carried on primarily for the profit of the stockholders,” as opposed to the community of its employees.¹² Therefore, “‘a manufacturing corporation cannot engage in humanitarian works as its principle business.’”¹³

Established companies operating in upper levels of the economic pyramid often find disruptive innovation unreasonable because profits are not large enough to sustain corporate growth rates or increase overall profit margins.

The court’s ruling in Dodge became the raison d’être of for-profit businesses for the next century.¹⁴ Consecrated as “the shareholder value movement,” which focused on short-term profits over long-term benefits, businesses looked to cost-cutting strategies to increase short-term profit margins and sustain corporate growth rates without regard to other social considerations.¹⁵

Further, corporate law has cemented the court’s ruling in Dodge by imposing a duty on directors and officers to pursue profit maximization over any other goal.¹⁶ Since well-managed companies are under pressure to pursue innovations in markets that can sustain corporate growth rates and enhance overall profit margins, they are not equipped to solve social problems.¹⁷

Emerging Solutions

Recently, this draconian profit-maximizing business model has been somewhat relaxed as companies realize that, in order to operate successfully, they need a strong, productive work force and sound infrastructure.¹⁸ The incorporation of social goals into the traditional model has manifested itself in two distinct approaches taken by corporations operating in emerging countries. The first approach can be generalized under the umbrella of “corporate social responsibility” projects. For example, when faced with inadequately-funded government programs, poor healthcare facilities, and poor educational facilities, companies initiate and fund projects such as building local infrastructure, creating water treatment plants, extending water distribution systems to rural communities, erecting local housing, funding health care projects, and partnering with NGOs and community foundations to meet these needs.¹⁹

“Corporate social responsibility” projects, however, are based on good intentions and not indoctrinated into the ultimate goals of corporations.²⁰ Therefore, companies that take on these projects must juggle between satisfying shareholders or a parent firm and the risk of local community backlash if they retrench their investments.²¹ Given that companies must battle between these two juxtaposed interests,²² relying on corporations to be socially responsible is not a sustainable long-term solution for delivering social benefits because when “the pursuit of profits and social responsibility conflict, profit maximization always wins out.”²³

“Disruptive innovation” is a second approach taken by businesses operating in emerging markets.²⁴ Disruptive innovation involves targeting the base of the economic pyramid largely ignored by mainstream market actors.²⁵ This is not simply a question of socially responsible projects aimed at lifting people out of poverty but a matter of finding the most exciting growth markets of the future by disrupting traditional approaches to business problems.²⁶ Established companies operating in upper levels of the economic pyramid often find disruptive innovation unreasonable because profits are not large enough to sustain corporate growth rates or increase overall profit margins.²⁷ Potential disrupters, therefore, can focus their businesses on the markets that the larger companies choose to ignore.²⁸

Disruptive innovation enables individuals to operate without relying on the assistance of affluent intermediaries.²⁹ It also creates jobs, generates revenues at the bottom of the economic pyramid, and makes affordable, high-quality products avail-Page 45able.³⁰ Fostering disruptive innovation by itself, unfortunately, is not a viable long-term solution for sustainable economic growth because disruptive innovation focuses on expanding upward in the market, rather than delivering social benefits.³¹ As firms seek to compete with more established firms, they are forced to increase prices. Goods and services once affordable to the base of the economic pyramid become expensive.³²

Solution

One of the leading innovators at promoting long-term solutions for delivering social benefits through the free market has been the Grameen family of businesses pioneered by Muhammed Yunus. Instead of focusing on traditional approaches to business creation and profit maximization, businesses are tailored to deliver social benefits. In his most recent book, Creating a World Without Poverty, Yunus proposes the idea of the social business.³³

“Social Business” is defined as a “ non-loss, non-dividend business.”³⁴ In a social business, profits are reinvested in the business instead of being distributed to shareholders.³⁵ The community benefits through lower prices, better service, and greater accessibility.³⁶ Similar to socially responsible businesses and disruptive innovation, social businesses must be profitable in order to pay back investors and support long-term social goals.³⁷ A social business is distinguished from traditional for-profit businesses by the fact that profitability is a secondary goal to its social objectives.³⁸ In essence, social businesses would compete in markets the way disruptive enterprises have done in the past, while operating like Ford Motor Company according to Henry Ford’s 1914 proposal.³⁹

This limiting provision is necessary to protect social businesses from pressure exerted by investors in traditional for-profit companies to maximize profits at the expense of social objectives.

Yunus proposes two models for social businesses. One form involves businesses that are almost entirely owned by the poor⁴⁰ (“community corporations”).⁴¹ Community corporations aim to provide social benefits...