Introduction
As the COVID-19 pandemic waged on, financial market participants saw an opportunity. Specifically, issuers began developing bonds that would generate funds for companies and governments with the specific aim of easing the effects of the pandemic.
For example, the pharmaceutical company Pfizer issued a COVID-19 bond that promised investors that the assets generated would be used to support access to vaccines for people in need.
These COVID-19 bonds are representative of a broader trend in the development of prosocial financial instruments that have exploded in the past five years. These instruments seek to meet the needs of investors who hope to make the world a better place in addition to securing a financial return. This Essay considers how this concept could, if expanded, promote dramatic changes in corporate decisionmaking in the service of social welfare. Specifically, it introduces the “corporate social responsibility bond,” (or “CSR bond”), an instrument that has its roots in these new financial instruments, but with a twist. Unlike COVID-19 bonds, the CSR bond investor would eschew any financial gain if the project is successful; instead, the expected return is the social benefit.
As a result, CSR bonds
would have the potential to dramatically impact corporate behavior by providing corporations with a financial incentive to take on public-interested but profit-sacrificing projects.
And such a tool is likely necessary to induce corporations to make genuine moves in the interest of society. Indeed, decades of legal scholarship emphasizing that fiduciaries have the discretion to sacrifice profits for social good,
as well as urging from politicians, consumers, and even shareholders themselves, has not resulted in genuine change. As just one example of the progression of such advocacy, recall that in August 2019, the Business Roundtable announced that companies should be managed for the benefit of all stakeholders—including customers, employees, suppliers, communities, and shareholders.
CEOs from 181 companies signed the statement.
Just days after signing, Amazon CEO Jeff Bezos announced that Whole Foods, a subsidiary of Amazon, would end medical and health benefits for part-time workers.
Should we be surprised? Of course not: It is naïve to expect corporations to do something other than maximize profits when corporate law’s incentive structure rewards corporate fiduciaries who prioritize shareholder wealth.
Put somewhat differently, this wave of stakeholder advocacy does little to change the practical operation of corporate decisionmaking. Corporate fiduciaries already have incentives to engage in prosocial activities when they also maximize profit—and a large and growing literature documents the many ways that corporate social responsibility is wealth maximizing.
Fiduciaries, however, lack incentives to make public-interested choices that are bad for business or that might not pay off for many years. And no amount of legal discretion will change this reality.
CSR bonds could therefore induce corporations to take profit-sacrificing actions that have large welfare benefits. Unlike COVID-19 bonds and other prosocial financial instruments, which make money available for profit-maximizing projects that align with investors’ prosocial goals, CSR bonds would encourage corporations to make profit-sacrificing prosocial decisions.
Essentially, the bond would support a Coasian bargain between companies and the individuals who desire public-interested corporate action.
Any individual who values the decision more than its cost could contribute to the bond. To provide an incentive to depart from wealth maximization, the individuals would stipulate that their contribution would be forgiven if the decision was implemented, therefore allowing the company to internalize the Coasian bargain. If the company fails to act, however, the investor would get their money back plus penalty interest, which serves as a commitment mechanism for the issuer.
Consider the following stylized example of how a CSR bond could be used, which illustrates some of the benefits (as well as the drawbacks, which will be discussed in a moment). Suppose a coal-fired power company is facing pressure from environmental advocacy groups to install scrubbers that would reduce air pollution and increase the life expectancy of employees, as well as people who live near the company’s factories.
But installing scrubbers would cause the company to incur $150 million in costs, and that amount would only be partially offset (let’s say by $70 million) by increased revenue as a result of reputational benefits and employee productivity.
As a result, the company is unlikely to install the scrubbers without regulation, which, as a result of industry lobbying, is not expected to arise. Of course, pressure from environmental advocates, consumers, employees, or even shareholders might lead to negative repercussions for the company that fails to install scrubbers, but unless those harms exceed the costs from implementation, the choice will not be made. And this reality holds regardless of the company’s legal objective and regardless of the extent of fiduciary discretion: Even if management is permitted to consider the environment or other groups, that leeway will not result in a voluntary decision to sacrifice $80 million, which will subject them to negative reputational and financial repercussions, as well as a threat of ouster.
The calculus for the company changes, however, if it has the opportunity to work with a CSR bond issuer
and receive funds to offset the costs from implementation. Potential contributors include individuals for whom the choice would be welfare-maximizing;
the most likely source of assets, however, would be a foundation, family office, or endowment seeking an opportunity to make a tangible and measurable impact on social welfare.
To provide a sense of this pool of funds, consider that U.S. donors give away an amount roughly equivalent to 2% of GDP—or approximately $300 billion—each year.
Investors in socially responsible mutual funds might also contribute—indeed, a Socially Responsible Investing (SRI) index fund might promise that, instead of buying and selling shares of companies based on investor ideology (which is unlikely to change corporate behavior and possibly sacrifices investor returns),
the fund would identify worthy CSR bonds and suggest that investors contribute a portion of their returns each year.
Returning to the scrubber example, let’s again assume that the total cost to the company of installing scrubbers is estimated to be $80 million. If a bond was issued and funded in that amount, the company would have a difficult time resisting. And if the company installed the scrubbers, it could keep the money; if not, investors would get their money back plus interest.
In this example, the CSR bond would likely be the only way to encourage the corporation to install the scrubbers. Externality regulation that would push the company to implement scrubbers or otherwise reduce emissions is unlikely; even if regulation did arise, it would likely be the product of compromise or distorted by interest group dynamics.
Moreover, most consumers, many of whom live far away from the company’s factories, might not mind that the coal plant is polluting if it leads to cheaper energy prices. Even socially motivated consumers might not feel compelled to boycott the company if most competing coal companies have not installed scrubbers.
What about shareholders? Although some prosocial shareholders may be willing to bear a hit to the stock price in service of the public good, it is unlikely that the majority will encourage profit-sacrificing decisions even when the welfare benefits are very great.
A CSR bond, therefore, would be the only way for stakeholders to bring about the desired change. Not only that, by converting corporate outsiders into creditors, the bond could alter other facets of corporate decisionmaking. Perhaps, for example, the bondholders could secure information rights or the right to monitor operations until the scrubbers are installed.
By giving prosocial investors (or their nonprofit representative) a voice in the room, the bond could ensure that these views are taken into consideration for many months or years.
The bond could also have beneficial secondary effects on the market. Indeed, by advertising that it has installed scrubbers, the power company’s choice could cause consumers to focus on rival companies that have not followed suit, increasing the costs of noncompliance with the developing norm. The social responsibility bond could also alter industry-wide standards in another way: By forcing a company to reduce pollution, the bond removes an incentive for the company to lobby against regulation that would impose the same requirement on rivals. Indeed, the power company might now lobby in favor of regulation.
In sum, the CSR bond resembles a private Pigouvian subsidy that could be used to alter corporate decisionmaking by changing the set of decisions that are wealth maximizing.
At its best use, a CSR bond could transform industries, ease the prospect of regulation, help prosocial individuals overcome coordination costs, and reverse harmful corporate practices. It would do this without any change in the law or corporate governance. Indeed, one of the advantages of the bond is that it works within the wealth-maximization framework and, therefore, does not risk eroding managerial accountability or incurring other inefficiencies associated with a stakeholder model.
In addition, by targeting problematic corporate decisions and offering incentives for corporations to improve them, CSR bonds avoid the collateral consequences that flow from consumer boycotts and employee strikes.
But the devil is in the details. Indeed, CSR bonds are fraught with complications that could render them not useful or even harmful under certain circumstances. For example, CSR bonds could be impossible to price because of information asymmetries, could lead to moral hazard for companies, and could result in harmful distributive consequences. In addition, companies might not be receptive to accepting funds when doing so will focus attention on their harmful practices.
Therefore, CSR bonds should not be seen as a cure for every instance of corporate irresponsibility, but as a promising tool that can offer substantial social welfare benefits under the right conditions. And the market for these bonds does not need to be large to make a substantial difference—even just one successful bond could offer huge welfare benefits, as section II.A explores. But ultimately, because of the many limitations in their use, these bonds should be viewed as a complement, rather than a substitute, to action taken on other grounds: by shareholders, consumers, employees, and regulators.
This Essay proceeds as follows: Part I explains why corporations are unlikely to make public-interested decisions, even if they have the legal discretion to do so (as many contend they do). Part II introduces the concept of CSR bonds and describes several examples of where these instruments could be used to alter corporate decisionmaking for the better. It also discusses analogous concepts in law and finance, including green bonds, carbon offsets, impact bonds, and tax breaks for companies that act in the public interest. Finally, it describes limitations, as well as broader implications for corporate law and corporate governance that stem from this analysis.