15 Jul 2002  Research & Ideas

Going Green Makes Good Business Sense

Green can be good, says HBS professor Forest L. Reinhardt. In a recent reunion session for alumni, he outlined how environmentally-minded company policies can make good strategic sense for business. Here are some strategies you might consider.

 

Business leaders must respond to growing concerns about pollution, but both the environment and corporate coffers can be green, says Harvard Business School professor Forest Reinhardt.

The key to success may depend on how the challenges are approached, said Reinhardt.

A specialist in competition and strategy with an emphasis on environmental management, Reinhardt recently shared his expertise with HBS alumni during reunion weekend. His talk, titled "Down to Earth: Applying Basic Business Principles to Environmental Management," is also the title of one of his books, published by HBS Press in 2000.

Reinhardt evaluated current trends and tensions for managers, and outlined tactics that managers use to try to reconcile what at face value seem competing objectives: how to maximize shareholder value while at the same time deliver an environmental boost to society as a whole.

Twenty-five years ago, the average businessperson did not need to think too much about the environment. Although there was concern over clean air and water, safe food, and an intact ozone layer, people didn't summon the words "the environment" as their filter for scrutinizing everything from the food they consumed to the jobs they took.

...environmental quality does behave like a luxury good.
— Forest L. Reinhardt

All that has changed, partly due to alarming disasters such as the Exxon Valdez oil spill in 1989 and the 1984 Union Carbide gas leak in Bhopal, India, that killed 4,000 people. Also, people are more attuned to the knowledge that geopolitical strife is influenced by environmental issues, such as how American dependence on Persian Gulf oil colors its behavior in that volatile region.

It is only in recent years that more and more people in the wealthiest nations have come around to the belief, now firmly lodged in public consciousness, that high environmental standards are not just desirable but their birthright.

To set the stage, Reinhardt reminded the group that pollution is not a new phenomenon in human existence, nor is fear of overwhelming population growth and depletion of natural resources. He thinks one of the main reasons people in the United States are more concerned about the environment is that incomes are higher.

"Although people who think of themselves as environmentalists tend not to like it hear it characterized in this way, environmental quality does behave like a luxury good," he said. Rich people tend to want more of it than poor, according to Reinhardt, and rich countries demand it whereas poor countries do not.

In addition, thanks to progress in the treatment of infectious diseases over the last fifty years or so, more people are living longer—but eventually dying of diseases that could plausibly have an environmental component. Just as there has been progress in scientifically detecting foreign contaminants in the air and water, the public clamors for protection from involuntarily accepted risks. "Finally, there are emerging global problems with very long timelines and possibly irreversible effects," Reinhardt told the group.

Strategies for a green business

The debate on whether or how business should react has been "polarized and dominated by views from the extremes of the ideological spectrum," he argued. On the one hand it pays to be green; it is in a company's best interests to be environmentally proactive. On the other there's no need to be green; after all, we have governments to provide these essential public services.

The implication that reducing pollution will put a company out of business is simplistic, said Reinhardt. Companies always operate based on imperfect information about their competitive arena. To succeed as a viable concern with an environmental conscience, "you have to look deeper. And look through other lenses," he said.

Superior risk management is a long-run competitive advantage.
— Forest L. Reinhardt

One method managers try is to differentiate their products, environmentally speaking, and transfer the additional costs to customers. Star-Kist Foods, a Heinz company, tried this with mixed success in the late '80s and early '90s, Reinhardt said. Star-Kist was under fire because its fishing practices for tuna in the eastern tropical Pacific involved accidental deaths of many dolphins, since tuna typically swim under schools of dolphins. Preliminary marketing research confirmed that customers were willing to pay a few cents more at the supermarket for "dolphin-safe" tuna, so Star-Kist decided to fish in safer waters and raised prices accordingly.

In reality, even the most well-meaning customers didn't want to shell out more money for a can of tuna even if it was labeled "dolphin-safe." Star-Kist took a hit. In his talk, Reinhardt called this a cautionary tale about the risks of differentiating your product in the marketplace. For differentiation to make business sense, he said, you need a willingness to pay on the part of the customers and a "credible communication method" for letting customers know where you stand. You also need to prevent competitors from imitating your methods.

A second strategy is to up the ante on a competitive level within your industry by raising your own costs in order to provide an environmental good, but also figuring out a way to force your competitors to raise their costs even further, said Reinhardt. While this method is "anecdotally successful," raising your own costs and those of others around you is not easy. The forest products and chemical industries have attempted this strategy by trying to impose standards on themselves, he said, yet without independent oversight it is tough to write credible standards and subject them to internal monitoring and enforcement.

A third competitive method, known as the Porter Hypothesis, after Harvard Business School professor and strategy expert Michael E. Porter, sounds fairly straightforward. Look around your company with a "quality flashlight," said Reinhardt. You may find that revisiting your many systems—design, production, delivery—will yield internal cost reductions that can be better spent on social benefits. For this strategy to work best in the long term, however, your flashlight would need to reveal not only the flaws in your current system but also instigate active, ongoing learning and improvement around the company.

A fourth option, distinguished from the strategies above because they all involve expected value—making money rather than saving money—is to manage your systematic, environmental business risks more effectively. "Superior risk management is a long-run competitive advantage," according to Reinhardt. If you can prevent or reduce the chances of bad events occurring, or gain better information than your competitors or transfer risk outside the firm, you might well reduce the variance or expected value of environmental costs and come out ahead of your competition, he said.

Case study: BP

The case of oil, natural gas, and petrochemicals giant BP illuminates in a fascinating way several of these options at once, according to Reinhardt.

CEO John Browne caused a stir about five years ago when he broke ranks with the rest of the oil companies in a public statement at Stanford University. "He said, 'We actually think global climate change is a very serious problem, and we're going to reduce our own emissions by 10 percent'" using a system of internal checks and balances, Reinhardt told the group. His question: Why did BP decide to do that? What may have been Browne's rationale from a business-strategy point of view?

On one hand, it might have tied into the "product differentiation" idea proposed earlier, speculated Reinhardt. But he was not convinced. "Maybe [Browne] thought customers would reward BP at the gas pump for being environmentalists ... I don't know how you buy gasoline, but I buy gasoline at the station that's on the right side of the road.... It's not clear that BP is ever going to see much in terms of increased business" for its environmental stance.

A second possibility, more plausible according to Reinhardt, is that BP hoped that improved government relations, thanks to its policy, would offset the costs it incurred in reducing emissions. Perhaps BP hoped its experience in capital trade systems would help it adapt more easily to new regulations than its competitors. ("This looked like a better bet maybe five years ago when it made this call than it does today," he allowed.)

One last possibility, and a strong contender in Reinhardt's view: If BP took a stand on climate change, it could build a stronger and better culture for the future within its own organization. "Young people are increasingly worried about these problems" of the environment, concluded Reinhardt. "They want to work at companies whose values are similar to their own. ... [BP] can have people who bring more energy and passion to their jobs if the firm for which they work is consonant with their own values."

The green debate is one that will be continuing for businesses, he added. The strategies he outlined offer potential, "but I think we have some work to do."