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Report n°2: An integrated approach to economic and social contestability in business

Introduction

The observation of economic reality highlights a paradox. Private enterprises, unlike not-for-profit associations, are usually profit-driven but sometimes, in the general interest, undertake costly initiatives such as environmental protection when such efforts are not required of them by the law. The direct benefits derived from those efforts are not always obvious. Not all companies make such efforts, in fact many do not, but a sufficient number of large industrial corporations fall into this category for the phenomenon to be of interest (Holliday et al., 2002; Delaporte & Follenfant, 2002). Not content with merely reacting to the public authority's initiatives (regulations, taxes, tradeable permits), these companies are proactive, for instance developing - either individually or in conjunction with other firms from the same sector - charters and codes of good practice, setting themselves targets to improve their environmental performance and professing a broader responsibility towards society, attesting to their aims in annual reports on sustainable development.

For a standard economic analysis, companies should view environmental impacts as external costs to be borne by society as a whole. To ensure consideration of these impacts, public authorities should intervene by bringing in regulations, providing incentives or attributing new rights of use and ownership. Indeed, even if company directors have a civic conscience, the logic of the competitive market poses a dilemma: to assume those external costs would mean weakening the economic situation of their company compared to less beneficent competitors, who would then be in a position to seize a larger market share and possibly even chase the socially responsible producer from the market. In other words, in a market economy, competition acts like a regulating mechanism, dissuading companies from shouldering their external costs. Should a willing spirit or ethics drive a socially responsible management to economic deadlock? Or does today's economy obey a more subtle logic than the conventional wisdom of the economic theory of external effects might suggest?

Economic analysis of environmental problems has followed various lines of exploration to account for this disconcerting empirical reality (David, 2003). The first path consisted of verifying the genuineness of voluntary efforts: weren't they intended essentially to cloak developments that would take place anyway? Couldn't they be fully justified by reasons of savings on internal costs? There has, in fact, been no lack of opportunistic cases and many so-called "voluntary" commitments are unworthy of the term "commitment".

Another path highlighted consumers' changing expectations and, in response, the emergence of brand and product differentiation strategies based on their image in terms of quality and safety. The initiatives reviewed would then come under the heading of marketing strategies and would understandably meet the commercial interest of the companies concerned. Consumers still, nevertheless, have to be willing to pay significantly more for products and services marketed by companies with a good reputation for being "ecologically responsible". Willingness to pay differs greatly from country to country: people in Northern Europe and Germany for instance are more sensitive in this regard than in France and Southern Europe. Meanwhile, the quality dimension is viewed as significantly more important for health-related products, especially during health crises, but far less so when the environmental stakes have no direct links to health.

A third path of inquiry looks at the plays companies use with public authorities around changes in regulations or public policy. Several aspects are of interest here: by taking the initiative well ahead of time, companies are better able to influence the content and stringency of impending regulations; they will probably be better prepared to adapt to the rules if they helped shape them; lastly, in some cases, obtaining stiffer regulations can also be a means to eliminate or weaken competitors less capable of meeting them or who incur higher costs to achieve conformity.

These different analyses are borne out by empirical data, yet in each case the information does not fully support one all-covering explanation: it is specific to a particular sector or a company. Without rejecting them as a whole, we propose exploring another line of analysis, taking as our starting point the concept of contestability (Baumol et al., 1982; Godard, 1993).

This concept studies what happens when a producer is exposed to a threat: the contestation of his business, his products, the techniques he uses, his management style or perhaps what the firm represents in terms of, say, the field of activity (for instance, weapons manufacturing) or size (for instance a large multinational corporation). Effective contestation routinely results from the competitive commercial process, as in cases when a competitor brings out an innovative product offering better characteristics or at a lower price. This form of threat bears directly on the products. Contestation may also result from relations during contract negotiations with suppliers or consumers if the other party considers that the transaction is inequitable or contains hidden vices. Realisation of this kind of threat can take various forms: legal (i.e. court action) or economic (defection of a supplier for instance, by performing poorly, or of consumers by shifting from one seller to another). Worse, a collective action may take the form of prompting social protest (Mann, 1991) using modern means of communication to besmirch the company's legitimity, lobbying public authorities so that they implement a moratorium or other prohibitive measures, or perhaps even requesting a total boycott on the part of consumers.

This concept of contestability ties together phenomena that are traditionally analysed by different disciplines, some (market competition and entry deterrence) by economics and others (collective action, social movements or opinion movements) by sociology, social psychology or political science. It broadens our understanding of industrial dynamics by taking into account the impact of the relations developed on important issues for the community such as environmental protection or health and safety issues by specific activities or business firms with various organised groups from the civil society (NGOs) and the public, through the media, public inquiry procedures and the political mechanisms of representation. Phenomena of effective or threatened contestation are an integral part of the reality of economic development; at stake is the social legitimacy of the activities, products and techniques in the eyes of society.

Some voluntary initiatives by firms in an effort to be socially and environmentally responsible in our opinion result from what is the usually an intuitive understanding of the contestability aspect, whereas what is at stake is the "social license to operate"(1), an aspect that largely exceeds the problem of conformity to the regulations. This intuitive understanding must be backed by accurate analyses so that contestability effects are taken into account in a more systematic and organised manner. The various threats of contestation could usefully be caught by businesses as part of an integrated strategy, since measures taken to guard against a particular type of threat willy nilly spill over to all other aspects of the firm's contestability.

The main thrust of the study herein is the development of an integrated approach to a company's contestability. This idea of integration must be understood in two ways. On the one hand, the aim is to show the relations that exist between the different forms of threats of contestation, particularly between those weighing on the company's usual economic relations, whose aim is the exchange of goods and services, and those resulting from relations with the various stakeholders(2) in its activity, even those with whom no contract has been agreed. On the other hand, the aim is to show how contestability management is closely interwoven with other economic characteristics of business management, particularly ways of overcoming market failures resulting from uncertainty regarding the quality of the goods exchanged and situations characterized by asymmetric information and unequal expertise among the economic agents.

What is at stake is to understand how contestability fits into the management of a firm facing the dual demands of economic performance and managing if not to satisfy at least not to arouse the ire of the various stakeholders in its activity. This requires integrating in one same analysis both the "private" economic stakes and the concerns of the community in terms of environmental protection and safety. To do this, we decided to study the process in a specific context yet one that has generic value. Our choice finally alighted on an activity that has been at the core of such problems for many years. It has the distinguishing feature that, because it is pursued by small and medium sized industrial firms, it does not spontaneously come to mind as the media figurehead of voluntary efforts towards social and environmental responsibility. The aim here is to gain an understanding of how contestability works in the daily rub of economic relations in an activity where the environment is an important factor for its growth, yet where the analysis can remain unaffected by extensive media attention and the firm's own efforts on communications strategy.

The activity under consideration is that of a scrap metal recycling company. It purchases scrap metal from collectors, and exercises the profession of wholesaler and processor of batches of materials for re-use downstream by one main customer, a steel manufacturer. The stylised facts on which the analysis is constructed were collated following a lengthy period of empirical observation of all practical steps involved in this industrial activity.

(1) Gunningham et al, 2002a and b.

(2) There are various ways of defining the stakeholders in a business. The broadest definition includes all the people and all the organisations that may affect business performance, or that are affected by it (Freeman, 1984). Here, we are using stakeholders in a more restricted sense to mean people and organisations that because they are affected or concerned by the business activities, are in a position to influence how far it achieves its objectives.