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Why we should measure value, not profit

A relentless focus on short-term gain misses the point: long-term success and social impact go hand in hand.

What gets measured gets done. As true now as ever. But what if we’re measuring the wrong things? What if our choice of metrics is clouding our vision and actually harming our chances of long-term success?

‘Look at internal rate of return,’ suggested Harvard Business School professor Clay Christensen, when Management Today met him recently.

‘The numerator is profit, the denominator is how long it takes to get money out after I put it in. I can improve the numerator (profit), or if that’s too hard I can reduce the denominator by only investing in things that pay off in the short term. Either way, the internal rate of return goes up. It’s managing by balance sheet, which means you’re not able to innovate.’

Skewed incentives lead to skewed outcomes, whether that’s manifested in the company’s long-term performance or in reputation-shredding ‘bad business’ – from accounting scandals and supply chains that inadvertently poison impoverished children all the way down to time-eating customer service operations that seem to do anything but serve the customer.

Giving up on measurement altogether is clearly not an option, but we could start to improve things by not looking only at metrics like profit or earnings per share. These incentivise executives to prioritise short-term over long-term results, and shareholder value over actual value.

It may sound fluffy, but value is an important term. It comes down to a simple question: what role does your business play in the lives of its consumers and more widely in society? When the corporate compass is so easily confused by different metrics and objectives, the true north remains this: does your company add something that makes people’s lives better in some way? The moment the answer becomes no and the firm becomes extractive is the moment its days are numbered.

This is not to say we shouldn’t measure profit at all, but rather that we shouldn’t be a slave to it. It cannot be the only thing we measure, because then we’ll behave like it’s the only thing worth measuring.

In a recent article in the Harvard Business Review – Inclusive Growth: Profitable Strategies for Tackling Poverty and Inequality - Robert Kaplan, George Serafeim and Eduardo Tugendhat argued that healthy earnings and social impact are not mutually exclusive, but instead that having a meaningful impact depends on being profitable, and that it can also lead to being profitable.

‘The traditional corporate sustainability approach ultimately has a limited impact because it is positioned as a social or an environmental program, not a profit-generating one,’ they write. ‘Corporations should search for projects that generate economic benefits for themselves while creating socioeconomic gains for all other actors in the new ecosystem... the aim is not to incrementally upgrade an existing system but, rather, to unleash market-based forces to create a new ecosystem that is economically self-sustaining and organically growing.’

Kaplan et al point to three main ways in which companies can profitably achieve social impact: accessing hard to reach markets, upskilling the workforce and building sustainable supply chains. Each of these could contribute to win-win scenarios in developing and indeed some sections of developed markets.

Valuable, yes. Potentially profitable, yes. Easy? Well, no – finding and exploiting such opportunities hardly constitutes low-hanging fruit. This of course raises the fundamental challenge for a business wanting to achieve both profit and an impact beyond profit: what do you do when the two goals clash?

I put this very question to Sky CEO Jeremy Darroch recently. ‘Once we’ve decided to do something, the discipline about how we go about it is no different,’ he replied. ‘Your work will be underpinned by KPIs and targets, because that’s what turns an aspiration into a reality.’

If it matters to you, you’ll set a target and you’ll measure it. Exactly how ambitious you make your social impact targets will depend on your business, and the vision of your leaders and investors. But if profit and wider value are aligned in what you do, then the opportunities to achieve both are there to be taken.

This article was written by Adam Gale for Management Today. Click here for the article.