The Business of Sustainability
“Environmental sustainability is a business imperative at Wal-Mart.” -Lee Scott, Wal-Mart Stores Inc. president and CEO
The above is a bold statement from the leader of a company that knows more than a little about how to conduct business and make money. Had Lee Scott uttered these words 10, maybe even five years ago, some shareholders probably would have scratched their heads. Of course, the irony is that Sam Walton, founder of the world’s largest retailer, understood, perhaps better than any president or CEO of a Fortune 500 company, the “business imperative” of sustainability. He may not have used the word, but he understood.
So, without overanalyzing the message, what did Lee Scott mean by connecting these seemingly disparate concepts? More to the point, what does environmental sustainability have to do with selling tires, televisions and laundry detergent? Quite a bit, says Terry Tremwel, research director of the Supply Chain Management Research Center in the Sam M. Walton College of Business.
In fact, laundry detergent is the perfect example. Over the past several years, chemists not only have reduced its toxicity — and therefore made it less harmful to the environment as water from washing machines is released into sewer systems that must treat it — but also smaller, as in more condensed or concentrated, which translates into smaller containers with less water.
“We don’t need to transport all that water,” Tremwel says. “It may seem insignificant — just one container. But think about a whole trailer full of them. That’s significantly less weight, which means lower fuel costs or the ability to deliver more product. This is just one small example of the marriage of sustainability and business.”
Tremwel studies companies that have become more sustainable organizations and explains why it is in their interest to do so. Many companies, especially those that either perform or rely heavily on logistics and transportation — Wal-Mart and FedEx, for example — focus on those aspects of business, but, Tremwel says, businesses and organizations can become more sustainable in virtually all facets of operation.
To explain this, Tremwel examines the many and diverse definitions of sustainability. Some definitions are specific, tailored to the physical environment or growth and development; others are more philosophical and add a moral or social component. But even simple, yet classic definitions, such as the meet their own needs” — apply to sound business processes.
Savvy business people know that not “compromising the ability of future generations to meet their own needs” relates to concepts such as conservation, waste reduction and efficiency, and these ideals, especially the latter, have direct and profound effects on every com-pany’s balance sheet. Stated differently and in a purely business sense, sustainability is virtually synonymous with efficiency, which is all about cutting costs.
“The basic equation of business is that profits equal revenues minus costs,” Tremwel says. “So if you can reduce your costs, that has direct implications on your profit. That’s why sustainability works and why businesses are interested now — as a cost-limiting measure.
Cost reduction increases efficiencies and profit. It’s
that simple. And that’s what has motivated the current interest.
“The fact that sustainability happens to be a revenue-producing method is a bonus, and things like social justice, care for environment and just being a good corporate citizen are ancillary benefits. But what we’re seeing today is that more and more companies, including Wal-Mart, recognize these as priorities too, even though the companies openly admit that the initial motivation had to do with cost savings.”
While efficiency and cost savings are neither new nor foreign concepts to successful companies, sustainability is — or, rather, was. Because of its association with environmentalism or green initiatives, both real and perceived, Tremwel found the concept of sustainability initially suffered in the global businesses community. Many business leaders assumed that it would only mean more environmental regulation or greater costs for products, services and the supply-chain network. But as information spread about the financial benefits of sustainability, the movement slowly gathered steam, especially among multinational corporations trying to expand into the huge consumer markets of Asia and India.
It is this phenomenon that Tremwel finds particularly interesting. Economists and business analysts predict that as these markets — and others in South America and Africa — continue to open, producers will prosper. But these companies cannot expect to succeed by continuing to make and deliver products as they always have, because consumers in these markets are very different than consumers in the United States and other developed nations.
The new markets include the roughly 4 billion people worldwide who have per capita annual incomes of about $730. This huge population has great needs and demand for products and services. They also are highly motivated to improve their lives, but they cannot afford expensive products. To serve this population, Tremwel says, companies must adapt and develop innovative strategies to provide affordable and easy-to-use products that have low environmental impact. By wasting less, using more renewable resources and reducing costs wherever and whenever possible, companies create and develop new markets for their products. The process is not unlike Sam Walton’s philosophy of keeping costs of production to an absolute minimum so as to pass savings along to the customer.
“There is tremendous pent-up demand within this population,” Tremwel says, “but by using old methods, there are not enough materials in the world to create products to serve everyone. This demand will be captured by companies that create innovative and
efficient products and services needed by poor people at prices within their reach. In other words, if you’re wasting resources, you’re not going to come up with products people can afford when they only make $2 a day or less.”
Economists and business analysts call it “B24B,” which stands for “business to 4 billion.” B24B is a global business strategy that combines growth with sustainability. The strategy includes attention to product and package development, material sourcing, product formulation or reformulation, material reuse and efficient transportation networks and logistics. Many business leaders argue that these practices are simply good for business in general and should be applied in all contexts.
There are hundreds of examples. As mentioned above, a critical part of this effort has to do with product reformulation, which simply means changing or improving products to reduce costs, increase safety or limit any pernicious effect on the environment. In 2005, S.C. Johnson, manufacturer of popular household cleaning products such as Windex and Fantastik, reformulated Windex by removing more than 1.8 million pounds of volatile organic compounds from the glass-cleaning product. The change gave the product 30 percent more cleaning power, improved its safety and lowered its environmental impact. The company also cut material and handling costs because the formula was less toxic.
Tremwel and other theorists often refer to what is known as the “Triple Play,” yet another stab at defining sustainability. Developed within the Rio Declaration on Environment and Development at a United Nations conference in Rio de Janeiro, Brazil in 1992, the Triple Play definition refers to the financial and environmental components discussed above but also lays down the basic principles of a third leg — a social component. Depending on who you ask, some refer to it as cultural. Whatever the name, this component is subtle, sometimes difficult to understand, primarily because of language and cultural barriers, and often overlooked by companies trying to expand into new markets.
Part of the social component has to do with offering products that are too expensive, but there’s more to it than this. Many times, employees at companies from developed Western nations do not understand the customs of people living in the developing nations of Asia, South America and Africa. Stuck within their own cultural conventions, many Westerners do not understand how people in developing nations wash clothes, for example, or commute between work and home. From a business point of view, Tremwel says, ignorance of these customs leads to failure. In fact, he found several cases in which technologically superior products were rejected by consumers because the products were not packaged in a manner that was culturally sensitive.
Continuing with the laundry-detergent and clothes-washing theme, consider the example of Hindustan Lever Ltd., the Indian subsidiary of Unilever, a multinational corporation. Rather than offering detergent in bulk via the customary large boxes used in U.S. homes, the company developed “Wheel,” an affordable detergent packaged in individual units, or sachets, which were easier to use based on how Indian villagers wash clothes. Villagers in India responded by buying a huge number of sachets, resulting in a dramatic increase in revenues and profits for a small investment. In five years, from 1995 to 2000, the subsidiary’s profits grew 25 percent per year, primarily due to Wheel.
“Villagers found value in the new packages and product, which improved their lives,” Tremwel said. “In response, they rewarded Hin-dustan Lever by buying the new product.”
Sustainability and Accounting
It’s good to be green — good for the environment and good for one’s image, especially when image determines one’s value on the stock market. Consider, for instance, that corporations that do not have environmental sanctions generally fare better on stock markets than those that do. It seems logical. The only problem with this dynamic, says Andrea Romi, is that many corporations do not report environmental sanctions, even when the U.S. Securities and Exchange Commission requires them to do so. And most people, save some accountants and attorneys, don’t know how or where to look for information to discover whether or not a corporation has been cited.
“That’s what I love about accounting,” says Romi, a certified public accountant and graduate student in the Sam M. Walton College of Business. “I know where to look, and I can find out if these companies are telling the truth or not.”
Romi has always been interested in corporate social responsibility, but recently, as sustainability has crept into and gathered momentum in the business world, she has focused on something called corporate sustainability reporting, an area of accounting in which accountants measure and analyze the voluntary reporting of information about an organization’s non-financial performance — environmental or social performance, for example — over a specified period. In general, these accountants — and there are very few of them nationwide — develop metrics for measuring environmental performance and examine financial reports to determine if companies meet their goals.
But, as Romi and other accountants emphasize, “voluntary” is the key word in the definition. Unless corporations are penalized severely, they do not have to disclose their environmental record. And most of the companies that do receive sanctions do not admit it because they know that reporting it will have a negative effect on their market value.
“These companies are violating SEC regulations,” Romi says, “but they don’t suffer any consequences because this is an area that the SEC historically has not focused on enforcement.”
Regardless of the regulating entity, SEC regulations require corporations to disclose environmental sanctions of $100,000 or more. As part of her dissertation, Romi looked at all $100,000-or-greater sanctions handed down by the U.S. Environmental Protection Agency over the past 10 years, and found that only 26 percent of all sanctions were disclosed. Nearly three out four sanctions at or greater than $100,000 were not reported by the penalized corporations.
To a limited extent — because they only analyze financial disclosures and are not qualified to test emissions or toxicity levels — corporate sustainability accountants also can combat “greenwashing,” the term used to describe the act of misleading consumers regarding the environmental practices of a company or the environmental benefits of a product or service. As the sustainability movement continues to grow in the business community, Romi says, there may be even more greenwashing, because executives and managers understand that consumers generally favor products that have low impact on the environment.
“Some companies have played up all the wonderful things they’re doing, which may be true,” she says, “but they fail to mention EPA sanctions or other things they’ve fallen short on.”