Policy Innovations Digital Magazine (2006-2016): Commentary: Forging India's New CSR Mandate

India will soon make history as the first country to enact compulsory spending on corporate social responsibility (CSR). The lower house of the Indian parliament passed a new Companies Bill that requires firms having roughly $800,000 or more in profits over the last three years to spend 2 percent of their average net profit on CSR activities.

The bill also requires companies to appoint an internal CSR committee consisting of three or more directors, of which at least one shall be an independent director. The changes, once in place, would amend the Companies Law that has been in force since 1956. The upper house is likely to pass the bill soon.

If companies are unable to meet the CSR norms, they will have to give explanations. In case a company is not able to do so, it will have to disclose reasons in its books or face action, including penalties. Companies will have the freedom to select the causes they wish to champion: education, healthcare, etc.

While the intention may be good, this new mandate seems half-baked, put together more to feather the cap of the current government than thought through as a helpful policy. Here are some critiques of the existing plan:

1. CSR funds must be calculated on something other than profit.

Profit is the residue, what's left over after taking out all the business-related expenses, and hence cost lines become easy refuge mechanisms to filter the real profit. Such clever manipulation would whittle down the effectiveness of this legislation. Hence it is more practical to choose a parameter like percentage of sales, which is to a large extent less vulnerable to manipulation.

2. Using a three-year average dilutes the effect.

This is a continuation of the first point. A three-year average further whittles down the effect. A bad year or two can reduce the funds available and hence the impact. This is particularly applicable to the FMCG (fast-moving consumer goods) industries that are open to the risk of inflationary trends, vagaries of nature, and social and environmental trends such as depleting soil and water quality, and changes in the number of small-marginal land holdings.

As mentioned above, if sales are used as the decision parameter, then this dilution would be minimized. Also, making CSR part of a company's sustainability strategy means that it is considered a core part of doing business and hence accorded the relevant importance. Treating it in the manner proposed in the current legislation lowers its importance and presents it more as a corporate philanthropic activity rather than as a mechanism of sustainability.

CSR is frequently thought of in terms of the triple bottom line: economic, environmental, and social. Hence CSR outlays could include various elements such as factory discharges, efficiency, renewable energy, carbon footprint, worker compensation, inclusion, innovation, employee health & safety, dividends, supplier issues, corporate governance, etc. CEOs attach immense importance to this subject as shown in the June 2010 survey of more than 800 executives by Accenture and the UN Global Compact:

• 93 percent of the CEOs believe that sustainability is important for their company's future
• 72 percent of the CEOs believe that sustainability strengthens their brand, trust and reputation
• 72 percent of the CEOs believe that education is a major development issue; 66 % believe that climate change is a major issue and are concerned that GHG emissions are increasing
• 81 percent of the CEOs confirm that sustainability has been integrated into the strategy and operations of their company
• 81 percent of the CEOs confirm that sustainability performance is a criterion for executive compensation and design and innovation function
• Complete integration of sustainability in the supply chain will take about 15 to 20 years

It is important to underscore that there are differences between sustainability and corporate philanthropy and CSR. Corporate philanthropy or corporate giving may include a financial donation or the use of company resources. Companies may donate directly or through a vehicle which is generally a foundation that is set up to direct such efforts.

CSR on the other hand is usually the vehicle used by organizations to drive sustainability initiatives. In India, sustainability had traditionally been considered a Western concept, having an environmental bias, and prior to this new piece of legislation was rarely discussed. There are exceptions, however, and ITC is one Indian company that has successfully integrated sustainability practices into its business operations.

The new legislation has helped to promote a discussion about this vital topic. Companies used to engage in halfhearted efforts towards sustainability—such as passing off occasional clothes collection drives, blood donation drives, and computer donations as "sustainability." Planting trees, or even designing "green" products with some nature-themed packaging, was another popular approach.

Spending with a Purpose, or Spending under Pressure

The new requirement will mean that companies end up spending simply because they have to, not because they want to or have a plan for doing so. For spending to be effective, the implementation of a sustainability strategy would be useful. The example of ITC comes to mind with the way it has blended sustainability into its business practice to realize tangible financial benefits.

The need of the hour is to impress upon business leaders as well as legislators the logic behind sustainability as a means to survival, growth, and profits. Pushing a bill through will perhaps accomplish just the opposite reaction, as is seen in the case of income taxes where so much time and effort and money is spent finding loopholes.

Organizations may not criticize this development openly for fear of invoking political wrath, but unless they participate sincerely and effectively little will be accomplished in terms of positive outcomes.