QUESTION
Creating Shared Value
Creating Shared Value
by Michael E. Porter and Mark R. Kramer
The Idea in Brief
The concept of shared value—which focuses on the connections between societal and economic progress—has the power to unleash the next wave of global growth.
An increasing number of companies known for their hard-nosed approach to business—such as Google, IBM, Intel, Johnson & Johnson, Nestlé, Unilever, and Wal-Mart—have begun to embark on important shared value initiatives. But our understanding of the potential of shared value is just beginning.
There are three key ways that companies can create shared value opportunities:
By reconceiving products and markets
By redefining productivity in the value chain
By enabling local cluster development
Every firm should look at decisions and opportunities through the lens of shared value. This will lead to new approaches that generate greater innovation and growth for companies—and also greater benefits for society.
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The capitalist system is under siege. In recent years business increasingly has been viewed as a major cause of social, environmental, and economic problems. Companies are widely perceived to be prospering at the expense of the broader community.
Even worse, the more business has begun to embrace corporate responsibility, the more it has been blamed for society’s failures. The legitimacy of business has fallen to levels not seen in recent history. This diminished trust in business leads political leaders to set policies that undermine competitiveness and sap economic growth. Business is caught in a vicious circle.
A big part of the problem lies with companies themselves, which remain trapped in an outdated approach to value creation that has emerged over the past few decades. They continue to view value creation narrowly, optimizing short-term financial performance in a bubble while missing the most important customer needs and ignoring the broader influences that determine their longer-term success. How else could companies overlook the well-being of their customers, the depletion of natural resources vital to their businesses, the viability of key suppliers, or the economic distress of the communities in which they produce and sell? How else could companies think that simply shifting activities to locations with ever lower wages was a sustainable “solution” to competitive challenges? Government and civil society have often exacerbated the problem by attempting to address social weaknesses at the expense of business. The presumed trade-offs between economic efficiency and social progress have been institutionalized in decades of policy choices.
Companies must take the lead in bringing business and society back together. The recognition is there among sophisticated business and thought leaders, and promising elements of a new model are emerging. Yet we still lack an overall framework for guiding these efforts, and most companies remain stuck in a “social responsibility” mind-set in which societal issues are at the periphery, not the core.
The solution lies in the principle of shared value, which involves creating economic value in a way that also creates value for society by addressing its needs and challenges. Businesses must reconnect company success with social progress. Shared value is not social responsibility, philanthropy, or even sustainability, but a new way to achieve economic success. It is not on the margin of what companies do but at the center. We believe that it can give rise to the next major transformation of business thinking.
What Is “Shared Value”?
The concept of shared value can be defined as policies and operating practices that enhance the competitiveness of a company while simultaneously advancing the economic and social conditions in the communities in which it operates. Shared value creation focuses on identifying and expanding the connections between societal and economic progress.
The concept rests on the premise that both economic and social progress must be addressed using value principles. Value is defined as benefits relative to costs, not just benefits alone. Value creation is an idea that has long been recognized in business, where profit is revenues earned from customers minus the costs incurred. However, businesses have rarely approached societal issues from a value perspective but have treated them as peripheral matters. This has obscured the connections between economic and social concerns.
In the social sector, thinking in value terms is even less common. Social organizations and government entities often see success solely in terms of the benefits achieved or the money expended. As governments and NGOs begin to think more in value terms, their interest in collaborating with business will inevitably grow.
A growing number of companies known for their hard-nosed approach to business—such as GE, Google, IBM, Intel, Johnson & Johnson, Nestlé, Unilever, and Wal-Mart—have already embarked on important efforts to create shared value by reconceiving the intersection between society and corporate performance. Yet our recognition of the transformative power of shared value is still in its genesis. Realizing it will require leaders and managers to develop new skills and knowledge—such as a far deeper appreciation of societal needs, a greater understanding of the true bases of company productivity, and the ability to collaborate across profit/nonprofit boundaries. And government must learn how to regulate in ways that enable shared value rather than work against it.
Capitalism is an unparalleled vehicle for meeting human needs, improving efficiency, creating jobs, and building wealth. But a narrow conception of capitalism has prevented business from harnessing its full potential to meet society’s broader challenges. The opportunities have been there all along but have been overlooked. Businesses acting as businesses, not as charitable donors, are the most powerful force for addressing the pressing issues we face. The moment for a new conception of capitalism is now; society’s needs are large and growing, while customers, employees, and a new generation of young people are asking business to step up.
The purpose of the corporation must be redefined as creating shared value, not just profit per se. This will drive the next wave of innovation and productivity growth in the global economy. It will also reshape capitalism and its relationship to society. Perhaps most important of all, learning how to create shared value is our best chance to legitimize business again.
Moving Beyond Trade-Offs
Business and society have been pitted against each other for too long. That is in part because economists have legitimized the idea that to provide societal benefits, companies must temper their economic success. In neoclassical thinking, a requirement for social improvement—such as safety or hiring the disabled—imposes a constraint on the corporation. Adding a constraint to a firm that is already maximizing profits, says the theory, will inevitably raise costs and reduce those profits.
A related concept, with the same conclusion, is the notion of externalities. Externalities arise when firms create social costs that they do not have to bear, such as pollution. Thus, society must impose taxes, regulations, and penalties so that firms “internalize” these externalities—a belief influencing many government policy decisions.
This perspective has also shaped the strategies of firms themselves, which have largely excluded social and environmental considerations from their economic thinking. Firms have taken the broader context in which they do business as a given and resisted regulatory standards as invariably contrary to their interests. Solving social problems has been ceded to governments and to NGOs. Corporate responsibility programs—a reaction to external pressure—have emerged largely to improve firms’ reputations and are treated as a necessary expense. Anything more is seen by many as an irresponsible use of shareholders’ money. Governments, for their part, have often regulated in a way that makes shared value more difficult to achieve. Implicitly, each side has assumed that the other is an obstacle to pursuing its goals and acted accordingly.
Blurring the Profit/Nonprofit Boundary
The concept of shared value blurs the line between for-profit and nonprofit organizations. New kinds of hybrid enterprises are rapidly appearing. For example, WaterHealth International, a fast-growing for-profit, uses innovative water purification techniques to distribute clean water at minimal cost to more than one million people in rural India, Ghana, and the Philippines. Its investors include not only the socially focused Acumen Fund and the International Finance Corporation of the World Bank but also Dow Chemical’s venture fund. Revolution Foods, a four-year-old venture-capital-backed U.S. start-up, provides 60,000 fresh, healthful, and nutritious meals to students daily—and does so at a higher gross margin than traditional competitors. Waste Concern, a hybrid profit/nonprofit enterprise started in Bangladesh 15 years ago, has built the capacity to convert 700 tons of trash, collected daily from neighborhood slums, into organic fertilizer, thereby increasing crop yields and reducing CO2 emissions. Seeded with capital from the Lions Club and the United Nations Development Programme, the company improves health conditions while earning a substantial gross margin through fertilizer sales and carbon credits.
The blurring of the boundary between successful for-profits and nonprofits is one of the strong signs that creating shared value is possible.
The concept of shared value, in contrast, recognizes that societal needs, not just conventional economic needs, define markets. It also recognizes that social harms or weaknesses frequently create internal costs for firms—such as wasted energy or raw materials, costly accidents, and the need for remedial training to compensate for inadequacies in education. And addressing societal harms and constraints does not necessarily raise costs for firms, because they can innovate through using new technologies, operating methods, and management approaches—and as a result, increase their productivity and expand their markets.
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Michael E. Porter is the Bishop William Lawrence University Professor at Harvard University. He is a frequent contributor to Harvard Business Review and a six-time McKinsey Award winner.
Mark R. Kramer cofounded FSG, a global social impact consulting firm, with Professor Porter and is its managing director. He is also a senior fellow of the CSR initiative at Harvard’s Kennedy School of Government.
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SOLUTION
Building Enterprise Alignment: A Case Study
Large organizations with multiple business units usually have a federated IT structure with 2 types of alignments – local alignment that focuses on serving the technology needs of individual units and enterprise alignment that creates value by coordinating economies and efficiencies across the units. Local alignment enables business units to complete projects profitably, on time and on budget but fails to garner enterprise-wide synergies. The case study on the new Information Technology structure of IFS – a global insurance and financial services company has been used to identify the key factors required for successful implementation of enterprise alignment and the immense value generated for the firm through such a structure.
IFS
IFS was a global giant in insurance and financial services in 2007 and operated through 3 business units. Its IT structure was federated with corporate level IT infrastructure needs of all units being managed by Global Technology Services and the CIOs being responsible for application development, deployment and support at the business unit level. When business unit teams worked on developing new applications, GTS would provide the necessary development environment for them. However, this system was driven by speed at the cost of efficiency, was ridden with the problem of redundancy in several applications and was extremely costly. Moreover, the costs of GTS were set to escalate by $12 million in the next year. These problems led the CIO of Large BU to team up with the CTO and build enterprise alignment in their IT system. 3 factors contributed to the successful implementation of an enterprise-wide system – strengthening of IT capabilities to build credibility, introducing opportunities for working with key stakeholders and creating tools for managing interdependencies.
IT infrastructure
Internal IT infrastructure was strengthened by – adoption of IT Infrastructure Library, simplification of the services catalog and quicker development of applications. Secondly, greater interaction between GTS and the IT and business managers at the units was cultivated through participation at platforms such as the IT Operating Council. The 2 parties cooperated in the short-term on eliminating the IT infrastructure cost of $12 million while long-term engagement was promoted by establishing Governance bodies like the Client Delivery Organization. This not only reduced costs but also enhanced the efficiency of operations. The third action undertaken was to create tools to identify interdependencies and manage trade-offs between local and enterprise-wide needs. One such tool was the Total Cost of Ownership reports which showed the key business products and processes that an application supported. These reports identified the business application owners and ascertained the costs associated with the applications. This helped create ownership and accountability and aided in cost reduction. Another tool was to provide the business owners with choices of features their application should include. Identifying service criticality by classifying them by service class and disposition was another innovative measure. All these efforts enabled IFS to achieve spectacular results in a year – a $14 million reduction in IT costs, meeting of $20 million worth of demand and managing within a budget of $3.8 million. These results highlight the benefits of Enterprise Alignment for all to see.
References:
Fonstad and Subramani
Fonstad, N & Subramani, M., 2009. Building Enterprise Alignment: A Case Study. MIS Quarterly Executive, 8(1), p.31-41.
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