3 Radical Thoughts on Sustainable Profitability

What is profit?

It’s the money paid to you by your customers that is greater than your fixed and variable costs. It reflects the incremental value of the benefits that you provide, including overall functional and psychological performance, product and service consistency, uninterrupted availability, technical support, and post-sales support.

Many of us who went to business school in the 70s were taught that our careers and future success would revolve around maximizing profits. And profits were always required to be measured and reported in monetary terms.

The world’s entire business system is measured in this way. Money is tangible, fungible, and easily transferable. It is also comprehensible, in that it becomes the lowest common denominator by which all shareholders can measure, comprehend, and predict corporate success and failure.

Companies are not chartered or allowed to incorporate for any reason other than to legally exist in the pursuit of profits. This is because it has long been the assumption that companies that are profitable will grow and benefit the communities and societies in which they operate. (Note: Certain states require that incorporated businesses agree to act in the best interests of society, but these clauses are rarely, if ever, discussed or wielded.)

Up until the mid-20th Century, harm created by companies was generally localized. Compensation and similar insurance were put in place to handle employee on-the-job accidents and the effects of product defects on customers. The price of insurance and expected payouts could be added to income statements under indirect costs and listed on balance sheets as liabilities. Done!

When it came to environmental issues caused by business operations, it was generally felt that the benefits relating to job creation outweighed environmental impacts such as air and water pollution, the effects of land use, and such. Discussions related to these types of events were avoided when possible and downplayed when not.

Thus, any indirect harm created by business activities was never put on balance sheets in the form of liabilities until those liabilities actually occurred and were monetized by taxes, fines, attorney fees, and lawsuit payouts. This may have been reasonable when business activities were localized and looked at individually, but the sheer size of individual business efforts today creates global problems that are hard for local, regional, or even national governments to control and regulate.

Now, let’s add another, broader layer to localized environmental concerns: Today’s growing interest in developing state-by-state Extended Producer Responsibility (EPR) programs. These activities will add large and ongoing direct costs and liabilities, along with indirect costs associated with reporting and participating in state-backed regulatory efforts and industry-backed lobbying and promotion programs.

Of course, we are also looking at new national legislation related to single-use plastics reduction and bottle return mandates. This will add an additional layer of costs and complexity.

Finally, there are the potential liabilities arising from global effects including climate change, deforestation, and social disruption. These manifest themselves as increased energy, material, and transportation costs; and increased insurance and similar costs associated with weather-related grid outages, flooding, heating, and cooling. These problems are the result of adding up the impact of all the local issues that were never addressed, either because there was no desire, or no mechanism, to do so.

Thus, we’ve never before accounted for the collective environmental results of each of the millions of businesses operating around the globe. There has not been a way to politically aggregate and regulate them across large geographical boundaries.

Galeanu Mihai / iStock via Getty Images Plus

As Galileo so aptly put it, “God is a mathematician.” Nature doesn’t care where pollution comes from. It only cares how much there is and acts accordingly. In this respect, it truly matters both what each of us does and what all of us do.

Is there a solution? We need to start treating these costs as related and relevant business expenses that must be attacked across functions, rather than simply within them. Right now, these costs and liabilities are numbers at the bottom of the balance sheet, with no direct relationship to sales.

Instead, they must be shared by operating units, business managers, marketing departments (especially at consumer packaged goods companies/CPGs), and even finance and accounting units if they are to be truly contained. Otherwise, we simply carry on the traditional “tragedy of the commons” scenario in which all concerned are embarrassed, but no one is responsible for the mess.

From order to entropy to synergy.

How do we make sustainability a strategic aspect of everyday business operations? Here are three radical thoughts for you to consider:

1. Make sustainability a strategic initiative by adding company profit responsibility to the role of Chief Sustainability Officer (CSO).

At least initially, much of this role will involve removing costs and potential liabilities rather than by looking to add revenues. It will also require a more matrixed organization whereby operating units report up through normal chains of command, but also through a sustainability function responsible for generating and executing waste reducing and social improvement activities.

Both financial and accounting specialists would be part of this group, given the need for forensic and liability-related activities. There would need to be a marketing component as well.

I’ll leave the details to those who have expertise in organizational structure and change. My point though is rather simple: To be successful, you can’t sprinkle sustainability on the cake. You must bake it in.

2. Change your thinking from profit maximation to profit optimization.

Maximization requires putting profitability ahead of all other concerns. Optimization assumes that profits are a large part of the puzzle, but are related to current and future spending, activities, and outside events that require investments in people, time, and finances.
The interesting thing is that by thinking about profits in this way, they will be viewed more organically, as being dependent on other variables for their generation and growth. Thus, optimized profits can actually be greater than maximized profits, as each and all systems are fine-tuned to deliver overall maximum results.

3. Forget about circular thinking. Instead, focus on entropy reduction.

Let’s be honest. Circularity is basically a different way of saying recycling. That’s what consumers think. That’s what the media thinks. It’s what the Ellen MacArthur Foundation and other non-government organizations (NGOs) think. And it’s probably what YOU think.

But circularity is a strategy, not an objective. The real objective is to reduce material and energy waste generated throughout the supply chain. This includes extraction, manufacturing, warehousing, shipping, customer/consumer use, and post-use collection, reuse, or disposal.

Whether it’s the greenhouse gases generated by your corporate activities; the non-recyclable plastics in your consumer packaging; or the paperboard in your egg cartons that ends up in landfills, all represent entropy, the unstoppable universal shift from order to disorder. You see it every day when you enter a neat, orderly office in the morning and create a messy, cluttered facility by the end of the day.

Reversing this disorder might make you feel better, but the use of polishes, vacuum cleaners, and even good old elbow grease all create even more entropy. This is basically the 2nd Law of Thermodynamics and is among the few universal laws that are unavoidable.

Thinking about entropy rather than circularity has three important advantages.

First, it recognizes that “zero waste” is impossible. Consumers will ultimately learn this, so you might as well start thinking and operating from a perspective that, long term, will buy you their respect and credibility.

Second, it releases the mental shackles associated with “everything must be recycled” so that you can focus on what’s truly important: reducing the unnecessary use of virgin resources as well as the unwanted generation of atmospheric carbon dioxide and other pollutants.

The final advantage is that entropy can be monetized, allowing for analysis and comparison. Thus, entropic costs can be assigned to specific products, departments, factories, offices, and distribution centers. These can be monitored and hopefully reduced by the sustainability function and the specific operating units that create the costs.

Doing any of these three rather novel approaches to do business will open new ways of thinking, drive innovation, and motivate employees. Doing all three adds the concept of synergy, by which the whole is greater than the sum of the parts.

Write me at [email protected] if you’d like to discuss.