The Australian Securities Exchange (ASX) has recently considered imposing a "social license to operate" on corporations. It has met with significant backlash from directors and from peak governance bodies, such as the Australian Institute of Company Directors.
This has given the ASX pause over whether to introduce such concepts, though it is still unclear how the ASX will frame the latest edition of its governance guidelines.
The concerns with imposing a social license to operate are several-fold. The core concerns are that the notion is ill-defined and nebulous, which increases compliance costs and deters investment.
It also sits poorly with directors' duties to their corporations. This, in turn, renders the ASX uncompetitive as a stock exchange, which is problematic for economic growth.
The concept of a "social license" is ill-defined. The words are vague and open to interpretation. This is a problem. In a commercial context, companies need certainty about the rules that apply.
Certainty allows companies to estimate future revenues and costs and gives companies, shareholders and directors confidence about their investments. Uncertainty makes investments harder to evaluate.
Where that uncertainty is due to regulatory concerns, it also increases compliance costs as firms must brace for the risk of an unknown regulatory intervention for a purported violation of an unclear rule.
Uncertainty about rules will chill value-creating investment and deter interactions with the ASX. Recent evidence finds "a strong negative relationship between firm-level capital investment and the aggregate level of uncertainty associated with future policy and regulatory outcomes".
Firms must brace for the risk of an unknown regulatory intervention for a purported violation of an unclear rule
This appears especially the case for firms that make large irreversible investments, such as investments in factory and machinery. Therefore, imposing a social license to operate could deter job-creating large-scale investments.
Directors are under legal obligations with respect to their companies. These are enshrined in the Corporations Act and dominate other outside guidelines.
Directors and officers have a legal obligation to act "in good faith in the best interests of the corporation". The ASX cannot absolve directors and officers of this legal obligation.
Directors can consider outside social interests when running the company. For example, they can consider environmental concerns. But, they cannot do so to the detriment of their companies.
Indeed, when the Australian Prudential Regulation Authority (APRA) castigated the Commonwealth Bank of Australia for its cultural issues and for failing to consider social norms and community expectations, this was because such failures put shareholders' capital at risk, not because there is a general requirement to adhere to community expectations per se.
The notion of a social license sits poorly with directors' duties, as the Australian Institute of Company Directors has highlighted. It conjures notions of corporations being obliged to kowtow to other interest groups.
But, these "other" distract from maximising corporate value. And, if considering extraneous factors reduces value, then it sits poorly with directors' duties towards the company.
A vibrant stock exchange is important to a country's economic well-being. It enables companies to seek capital in order to expand, which, in turn, grows the economy. Stock exchanges gain if more companies, and big-ticket companies, choose to list on them.
However, stock exchanges compete with one another for these listings. Companies will choose the exchange that has the rules it wants. This partially explains why the Singapore Stock Exchange and Hong Kong Stock Exchange have amended their rules to enable different share structures.
Thus, the ASX competes with myriad exchanges that do not impose a social license to operate. Given that complying with additional rules is costly, and that the social license notion could hamstring companies, this would render the ASX uncompetitive.
Put together, these factors highlight the concerns with imposing a social license to operate on corporations. They suggest that the most prudent approach is to encourage directors to think of ways to help corporations, which, after all, is precisely what directors are legally obliged to do.
Mark Humphery-Jenner is an associate professor in the school of banking and finance at UNSW Business School.