India@75: A nation in the making

The Real Benefits Of Capitalism

By creating shared value, companies can deliver profits while also serving society

Published: Apr 17, 2012 06:24:37 AM IST
Updated: Apr 24, 2012 02:00:23 PM IST
The Real Benefits Of Capitalism
Image: Getty Images
Andrew Witty changed GlaxoSmithKline’s strategy towards greater focus on delivering products of value. This type of support has had the effect of empowering business units to consider new opportunities in developing markets that would not have been considered before

Can the Indian private sector, especially its largest corporations, meaningfully contribute to inclusive growth? Our view is a resounding YES: We believe it is both possible and necessary for companies to fill this role… BUT, only if we move away from the prevailing paradigm of charity and corporate social responsibility (CSR).

Redistributing 1 percent or 2 percent of net profits through philanthropy will never fully meet India’s needs. Only leveraging the true potential of capitalism can solve our society’s most critical problems—that is, through business initiatives that create shared value by delivering profits while also serving society.

This has two important implications: First, society must accept the idea that companies can make money from addressing the needs of the poor.

Second, business must strive for a higher form of capitalism, one that sees beyond short-term financial returns to create economic value in a way that also creates value for society.

In January 2011, I, along with FSG’s co-founder Michael Porter, captured this thinking in a Harvard Business Review article entitled ‘Creating Shared Value’. We argue that by viewing value creation narrowly as the optimisation of short-term financial performance, companies are missing the most important customer needs and the broader influences that determine their long-term success. Business acting as business, and not as charitable donors, is the most powerful force for addressing the pressing issues we face. This is the next major transformation in business thinking that will drive future innovation and productivity growth in the global economy.

India’s private sector is uniquely positioned to catalyse this transformation. Every day we come face-to-face with the myriad of society’s issues—poverty, lack of access to healthcare, poor quality education, and so on. Companies exist in a veritable laboratory that can be used to experiment, innovate and develop solutions for these problems.

Companies in India who are exploiting this unique positioning to create shared value include Britannia, Nestle and Novartis.

Britannia is re-conceiving its Milk-Bikis and Tiger biscuits, by fortifying them with iron to fight a key driver of malnutrition in children. In Moga (Punjab), Nestle has reconfigured its value chain for milk, a critical input to its products, by providing refrigerated collection points, new plant stock, technical assistance, financing and other supports that enable smallholder farmers to increase the quantity and quality of milk. Through regular payments and higher prices for better quality, Nestle has dramatically raised the standard of living for tens of thousands of farmers while creating a sustainable supply chain for its products.

Novartis is deploying hundreds of health educators in villages to increase awareness and education around common ailments such as diarrhoea and diabetes—and to create a market for its drugs to treat those maladies.

Unfortunately, Britannia, Nestle and Novartis are the exception rather than the rule. FSG’s decade-long work in Corporate Responsibility points to four major misconceptions that hold Indian companies back from adopting a shared value approach.

Myth 1: “My products and services already benefit low-income customers.”
Many companies may meet social needs as a by-product of their normal course of business. However, realising the full potential of shared value and the new business opportunities that lay hidden in social problems requires companies to develop an intentional strategy and execution plan.

For example, any company that sells drip irrigation systems inherently creates some degree of shared value by reducing water use in resource constrained areas. The business opportunity is limited however, as smallholder farmers that constitute 75 percent of India’s agricultural landscape lack the technical skills and the upfront capital to install drip irrigation, even though the increase in crop yields would easily repay their investment.

Only by addressing these issues head-on can a company turn what is an incidental social benefit into an opportunity that maximises the impact on society and business.

This is exactly what Jain Irrigation, the country’s largest provider of drip irrigation, did.

Jain devised a novel strategy that couples their product with technical assistance and innovative financing options. The results have been phenomenal: Jain’s solutions have resulted in annual increase to farmer incomes of up to $1,000, while enabling Jain to build a $400 million micro-irrigation business that commands an impressive 50 percent market share.

The most successful instances of creating shared value, like Jain, require intention and focus. Companies that rise to this challenge will find that they are creating a lasting competitive advantage for themselves, while contributing toward more inclusive growth for the country.

How can these opportunities be discovered? They typically lie in the spaces society has labelled “market failures”, where the consumer’s ability to pay does not sufficiently cover the usual costs of profitably developing, producing and delivering products or services.

The Real Benefits Of Capitalism
Image: Getty Images
By creating a culture that embeds social impact into the company’s core strategy, and then setting specific goals around it, Unilever’s Paul Polman has spurred innovation in the company in everything from packaging to advertising to distribution

Shared value companies look beyond these constraints by reinventing their products, delivery mechanisms and business models.

This kind of innovation requires getting close to the problem. At first, GE was unsuccessful in developing a low-cost neonatal incubator for rural India. Such a device had the potential to eliminate the leading cause of infant mortality, but GE’s existing incubator sold in the US for $20,000 and conventional R&D efforts could only bring the cost down to $2,000—still much too expensive for the Indian rural healthcare market.

Ultimately, GE partnered with a social enterprise called Embrace, who unencumbered by the legacy of an existing product line, had developed a novel solution: A sleeping bag with a wax pouch that could be heated without a continuous supply of electricity. It costs just $200 or a mere 1 percent of the original incubator price.

While developing such solutions is not easy to do, companies who are successful create lasting competitive advantage by being first in the market and creating formidable barriers to entry for competitors.

Myth 2: “India has so many immediately profitable opportunities, there’s no reason to invest in the higher risk and longer time horizon of shared value initiatives. Let’s pick the ‘low-hanging fruit’ first.”

It cannot be denied that developing shared value solutions is hard work, and that India’s rapidly expanding economy offers many opportunities to serve more immediately profitable customer segments such as the growing middle-class and the affluent. These obvious opportunities, however, are being pursued by many competing companies. The most successful companies recognise that they must also devote some portion of their resources to longer-term investments that can create a more lasting competitive advantage.

It requires companies to not only invest in developing new products and services but simultaneously develop new delivery channels, reinvent business models, develop innovative marketing strategies to create demand in new markets and perhaps most challengingly, partner with government and NGOs in ways that corporations are not used to doing in their normal course of business.

As with any long-term strategy, shared value investments require strong support from the highest level of company leadership. It also requires top leadership to re-evaluate the culture in which companies do business, particularly around being patient, allowing room for failure, and adjusting incentives to encourage creative thinking.

For example, Andrew Witty, CEO of GlaxoSmithKline, changed the company’s strategy away from high margins towards sales volume, market share and a greater focus on delivering products of value. As a result, the company has created the Developing Countries and Market Access unit to directly build business in the world’s least developed countries where the sales volume is greatest. This type of support has had the effect of empowering business units to consider new opportunities in developing markets that would not have been considered before. Similarly, Paul Polman, the CEO of Unilever, has publicly committed to doubling sales while increasing its social impact.

Polman has committed to three ways in which the company will achieve this: By improving health and well-being (better sanitation, increased nutrition), decoupling growth from environmental impact (absolute reduction in footprint even while the company grows), and enhancing livelihoods of people in the value chain (smallholder agriculture productivity improvements, employing the poor in distribution).

A key element of successful championing is the setting of goals without which such commitments could remain aspirational statements. Polman’s commitments are backed with specific goals. For example, the CEO has committed to cutting 50 percent of water use in its manufacturing process and in the amount its customers use in consuming its product. That is, the company is committing to cut in half the water customers use to wash clothes with its detergent Persil, or wash their hair with its Dove shampoo.

By creating a culture that embeds social impact into the company’s core strategy, and then setting specific goals around it, Polman has spurred innovation in the company in everything from packaging to advertising (e.g. for public education on sanitation) to distribution (e.g. rural distribution using impoverished village women in India).

Myth 3: “It would be wrong for our business to make a profit from meeting the needs of the poor.”

India’s mixed history with microfinance certainly supports the concern that when business profits from providing services to the poor, things can go very wrong. The debacle gave us at FSG who had been so strongly advocating for the shared value approach reason to pause and reflect. As we debated the issue, it became painfully clear that not all shared value ideas actually end up creating shared value.

Shared value is created only when business value is created by solving the social problem. When business value is created at the expense of solving the social problem, we end up with what we saw in microfinance.

The Real Benefits Of Capitalism
Image: Rebecca Cook/ Reuters
This kind of innovation requires getting close to the problem. At first, GE was unsuccessful in developing a low-cost neonatal incubator for rural India. Ultimately, GE partnered with a social enterprise called Embrace, who unencumbered by the legacy of an existing product line, had developed a novel solution that cost just $200

What happened in microfinance was that the twin pillars on which the industry was built—income generation (which would enable borrowers to repay loans of 30 percent interest) and social capital (encouraging repayment through self-help groups)—were undermined as microfinance institutions (MFIs) chased growth. MFIs began to define their role as credit delivery institutions and focussed on standardising products and delivery processes to achieve scale more rapidly. They were no longer focussed on social value creation.

Successful shared value companies understand that lasting competitive advantage is only maximised when the activity meaningfully and continually addresses the social problem. As such, best-in-class shared value companies are zealous about measuring and holding themselves accountable for both the financial and social impact of their shared value activity.

Here again, Jain Irrigation serves as an excellent example. Jain is rigorous about measuring the social impact of its activities by monitoring yield increase and farmer income. Jain then uses this information, together with its understanding of smallholder agriculture issues, to develop new products and services which further boost farmer income and expand business opportunities. For example, Jain discovered that smallholder farmers had difficulty obtaining loans to invest in yield-increasing solutions. Thus, Jain decided to contract purchase the crops upfront. It enabled farmers to use the purchase obligation contracts to obtain loans and created a whole new market for Jain—food processing.

Myth 4: “Creating shared value means there is no longer any role for CSR and corporate philanthropy.”
Shared Value does not replace the need for companies to fulfil their basic social responsibilities and obligation to be good citizens in their communities. Companies still need to ensure that they have good governance, reduce the harm caused to the environment and society as a result of their business operations (e.g. conserving water tables, resettling affected communities, minimising carbon footprint), treat their employees well, ensure product safety, and so on. Companies will also need to continue to be responsive to the needs of their immediate communities, for example during times of disaster.

Shared value does not relieve companies from these types of basic responsibilities.

However, the above mentioned efforts are limited in their ability to achieve large-scale social impact. India’s very best examples of highly strategic corporate philanthropy efforts—take the programmes that operate free primary and secondary schools at scale—reach hundreds of thousands of beneficiaries when the need is often in the millions. Corporate philanthropy typically accounts for only a small fraction of net profits (typically 1 percent) and as such will always be limited in its scale, sustainability and ultimate impact.

Ultimately, sustained social change is most likely to occur through a seamless integration into the business strategy itself.

It stems from the fundamental belief that when society thrives, the business also thrives.

In our experience, best-in-class companies take a portfolio approach whereby resources are allocated across three categories, each of which fulfils a different objective: (1) exercising good corporate citizenship by meeting community obligations (2) fulfilling basic business responsibility by mitigating harm from business operations and (3) proactively creating large-scale social impact through shared value activities.

Companies that have CSR or philanthropic resources over and beyond that expended for meeting community obligations could leverage these resources for incubating shared value opportunities.

For example, the medical device manufacturer, Medtronic, provides grants to increase patient awareness and provider education, ultimately contributing to a stronger health system in a market where their products may be used.

By using philanthropic capital for shared value, those investments can have a longer time horizon that isn’t subject to the strict return on investments, nor the profit and loss constraints of the business unit. Sometimes by coming from the corporate foundation rather than the company itself, companies have found it easier to gain trust and develop partnerships.

Philanthropic initiatives provide opportunities for companies to learn how to partner and work in new environments.

As Indian companies increasingly go global, the innovations discovered through their shared value initiatives can arm them with the competitive advantage and leadership position necessary to succeed on the world stage.

(Kramer co-founded FSG with Professor Michael Porter and is a managing director with the firm. Vaidyanathan is managing director and head of FSG’s office in India. Russell is a director with FSG and Kim is an associate.)

Editor's Note:

We recommend you also read these stories 

1) Fabindia's Tightrope Walk

2) Will the For-Profit Model be Accepted in the Social Sector? 

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(This story appears in the 27 April, 2012 issue of Forbes India. To visit our Archives, click here.)

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  • Srikant Sastri

    Outstanding article. I have a question reg myth#3: how do you prevent a PE fund from coming in and distorting the agenda whereby financial impact takes complete precedence over social impact? The reality is that scale-up requires access to funding, and there are very few social sector PEs/VCs who have very deep pockets

    on Apr 17, 2012
    • Lalitha Vaidyanathan

      Thank you Srikant, we are glad you enjoyed the article. Thank you also for your comment. The truth is, if the PE fund is only concerned with the financial impact (and most are), then it will be hard to create shared value. In fact, because the poor are often more vulnerable than the rest of us, it would be downright dangerous to leave a shared value effort in the hands of parties only concerned with financial impact. Part of the solution (difficult as it will be) might be to find an investor partner who sees the long-term value creation benefits of this approach. FabIndia might hold some lessons for us here - they have recently raised a substantial round of growth funding and are still 100% committed to their impact on artisans lives. On a separate note, as part of our "field building" efforts, we at FSG have begun to dialog with the investor community (banks, institutionals, etc.) to make the case for shared value. That is, to make the case that companies who take a shared value approach create greater long-term financial value and. It is our hope that the investor community can go beyond the negative screening approach of socially responsible investing to a more proactive shared value approach. Let us see.

      on Apr 24, 2012