The end of the American internet
Mechanisation: the introduction of machines or automatic devices into a process, activity, or place (Cambridge dictionary), where the process is controlled by a human operator.
Automation: the use or introduction of automatic equipment in a manufacturing or other process or facility (Cambridge dictionary), where the process is controlled by software.
Employability: the skills and abilities that allow you to be employed (Cambridge dictionary).
Graduate: a person who has a first degree from a university or college (Cambridge dictionary).
In order to investigate the question of whether the trend towards increasing automation of production processes will threaten the employability of graduates I focus on the role of mechanisation and automation in attempting to reduce labour costs and consequently increasing the demand for high-skilled graduate workers. I examine which segments of the workforce will be most affected by automation, whether graduates are more employable than non-graduates, and whether the subject of the degree a graduate studied has any impact on employability. I also consider the increasing progression of automation and whether the threat to graduate employability will change over time.
The trend towards increasing mechanisation and automation
In order to examine the effects of mechanisation and automation on work it’s useful to look at the GDP as a measure of output per person and whether technology increases productivity. Figure 1 shows how for much of history productivity existed in a Malthusian economy (also referred to as the Malthusian Trap) of being linked to population growth (Malthus, 1798). The Malthusian Trap describes how any increase in productivity (measured by GDP) led to an increase in population, which resulted in decreasing the GDP per capita, thus sustaining a constant level of productivity. This idea is widely accepted as explaining the linear economic progress prior to the introduction of technology and social change of the industrial revolution.
Figure 1. Source: “Statistics on world population, GDP, per capita GDP, 1-2008 AD, Angus Maddison: IMF
The introduction of technology into the manufacturing processes in England and the United States of America in the eighteen century is widely accepted as being linked to the industrial revolution which took economic progress from being linear to enabling society to escape from the Malthusian trap and enabling greater output to be achieved with the same number of workers.
Contrary to the technological explanation for the onset of the industrial revolution, there is the idea that it may have been caused by social mobility (Clark, 2007). An analysis of wills showed that the wealthy had more offspring than the poor, and that this increasing upper class population disseminated it’s values across society, including education and saving for investment in capital resources (Baumol, 2002).
Although the causes of the industrial revolution are multiple and complex, and not solely limited to technology, the introduction of technological advances had a huge effect on the workers of the time. New technologies required skilled workers to install, operate and maintain the machines, and this demand for scarce skilled labour increased labour costs between 1800 and 1900 (core-econ.org), which resulted in an increase in capital investment to reduce labour costs.
Machines then, became labour-saving devices and mechanisation threatened jobs, disrupted entire sectors, and caused shifts in the production processes of every industry. But the effects were not the same or equal across all industries, sectors, and roles. Frey and Osborne (2013) illustrated in the shifting of certain production processes in the nineteenth century from artisan shop to steam powered factory increased the number of workers required but deskilled those workers through breaking the work into small, specialised sequences. Where the electrification of factories was introduced, more machinery could be utilised to automate production processes, resulting in a demand high skills in the production workers and an increase in the share non-production workers also employed (Goldin and Katz, 1998). In 1913, when Henry Ford introduced continuous-flow production the assembly lines were designed to around unskilled workers (Frey and Osbourne, 2013).
Demand for educated workers
Education and technology had to keep pace. The introduction of new technologies into the workplace resulted in demand for technologically-proficient workers to operate the new technologies. Without sufficiently educated and skilled workers the technology would fail to produce the expected productivity gains. These educated workers demand higher wages, increasing the labour costs and so driving further investment in capital and adoption of mechanisation and automation technologies. (Goldin and Katz 1995).
These examples show that the effects of mechanisation of the workplace was not as simple as machines replacing people. One interesting effect, for the purposes of this essay, is that industrial revolution technology had a profound and complex impact on productivity and employability (Baumol, 2002) through the increase in labour-saving machinery that created a demand for educated and skilled workers, and so increased labour costs fueling the introduction of further labour cost-reducing technologies.
New Growth theory, with its emphasis on knowledge creation and entrepreneurship, argues that physical assets such as capital (machinery) can only produce limited growth but that knowledge is an intellectual asset that enables increased productivity (Mankiw, Phelps & Romer. 1995) as knowledge is non-rival and non-excludable, meaning the value extracted is not restricted by the value of the asset. The endogenous model better explains how productivity can increase than the exogenous model informing Solow’s argument that productivity can increase purely through capital accumulation and technical progress (Solow. 1956), which seems to fall foul of the trap of introducing labour-saving machinery to reduce labour cost, but creating a demand for educated and skilled workers, and so increasing labour costs driving the introduction of further labour cost-reducing technologies.
Does automation affect all jobs equally?
If we equate the knowledge that Mankiw, Phelps and Romer refer to with skills and abilities of being employable (as per our definition above) we can consider how the automation of work affects workers of different skill levels. Frey and Osbourne found 47% of US employment are “at risk should these technologies materialise”.
- Routine manual work (e.g. assembly line worker), and routine non-manual work (e.g. book-keeper) required low and middle education levels respectively, and both would suffer a decrease in demand as automation substitutes these workers.
- Non-routine manual work (e.g. janitor) is likely to see no change in demand as automation does not perform non-routine tasks.
- Non-routine non-manual work (e.g. lawyer) is likely to experience an increase in demand with automation being a strong complementary (Frey and Osbourne, 2013).
Equating education level with skill level, as the Department of Education does (Graduate Labour Market Statistics 2017), we can take from Frey and Osbourne’s work that high-skilled workers performing non-routine, non-manual work are least susceptible to being replaced by automation (Michaels, 2010), and those jobs involving any kind of routine work are likely to be substituted with automation technologies. These low and middle skilled workers that are substituted by automation or had their wages reduced through computerisation will move to low-skilled service occupations (Autor and Dorm 2013).
Frey and Osborne’s (2013) and Autor and Dorm’s (2013) suggestion that this changing demand is ‘squeezing the middle’ of the employment market with jobs that require “cognitive and manual tasks that can be accomplished by following explicit rules” (Autor, Levy and Murnane. 2013) being substituted by automation leaves what Goos and Mannings (2003) call ‘lousy jobs’ and ‘lovely jobs’. ‘Lovely jobs’ are those that require creative thinking and the ability to confront novel situations successfully. Automation will complement these workers in “performing non-routine problem solving and complex communications tasks” but is unlikely to replace them (Goos and Mannings. 2003).
Employability of graduates
The Graduate Labour Market Statistics 2017 report by the Department of Education showed that in 2017 for the UK graduates and postgraduates shared a similar employment rate of 87% whilst non-graduates had an employment rate of 71%. The report showed that of the 87% of graduates in employment, 66% were in high skilled jobs whilst only 22% of non-graduates were in high skilled jobs. For the purposes of this report, high skilled can be defined as “a role where the tasks typically require knowledge and skills gained through higher education”, and Autor, Levy and Murnane’s (2003) definition of non-routine work.
Looking more closely at the young population (21 to 30 year olds) which are more likely to be impacted by the automation of their role in the coming decades, the report shows that 58% of graduates were in skilled roles compared to 18% of non-graduates. Comparing the overall to young we see that non-graduates have an 18% decrease in skilled roles and whilst graduates have a 12% decrease. There could be a number of reasons for the difference between the overall working age population percentage in skilled roles compared to the young population, but one possible impact for the future. is that the percentages in the young population will move towards the overall percentages over time as they learn more creative skills relevant to non-routine work whilst in their roles, which would suggest that graduates are less threatened by the automation of work than non-graduates. Another possibility is that the percentage of the young population in skilled roles (both graduates and non-graduates) will become the trend into the future. Although there is less of a difference for graduates than non-graduates, both may experience a decline in the percentage in skilled roles in the future, possible due to the effects of automation on routine work.
Automation effects on employability depends on timeline
We can accept that being a graduate makes a person more employable, and more likely to be employed in a high-skill job, and that the subject of study has less impact on these than having a degree. However, the question of whether this is sufficient to protect graduates from the threat of automation depends very much on the timeline one considers. The list of things computers ‘can’t do’ is rapidly becoming shorter and shorter (Bakhshi, Frey & Osbourne, 2015) as “developments in Machine Learning and Mobile Robotics, associated with the rise of big data, which allows computers to substitute for labour across a wide range of non–routine tasks – both manual and cognitive. As McCormack and d’Inverno (2014) put it, “We now know how to build machines that can ‘learn’ and change their behaviour through search, optimisation, analysis or interaction, allowing them to discover new knowledge or create artefacts which exceed that of their human designers in specific contexts”” (Bakhshi, Frey & Osbourne, 2015). This view of the future of the effects of automation on work does not need to distinguish between types of work (routine or non-routine) or skill level of the workers (graduates or not), it simply implies that automation will replace all jobs eventually.
As far back as 1933 Keynes predicted technological unemployment “due to our discovery of means of economising the use of labour outrunning the pace at which we can find new uses for labour” (Keynes, 1933, p. 3, in Frey & Osbourne, 2013) so as automation technologies improve they will undoubtedly squeeze not just the middle of the labour market but the high and low too.
Bakhshi, Frey & Osbourne’s statement that “there is nothing inevitable about the impact of automation on jobs and skills” may be historically true as they state their examples of looking back over the past few centuries, and their conclusion that the creative industries are likely to be the least disrupted by automation in the future also rings true in light of all of the thinking we have looked at, but as they say, only 24% of jobs in the UK have a high probability of being creative, which suggests a large percentage of jobs can and will be replaced by automation technologies.
In answering whether the trend towards increasing automation of production processes will threaten the employability of graduates we looked at the possible historic causes of the mechanisation of the industrial revolution era, and how mechanisation and automation had profound and complex impacts on jobs, workforce distribution, and employability since the industrial revolution and continues to today, including creating the trap of introducing technology to reduce labour costs whilst increasing the need for high-skilled workers and so increasing labour costs. We saw that the automation of work will have the greatest impact on middle and low skilled workers with high-skilled knowledge workers suffer least threat to employment. This is partly due to the need for high-skilled workers to operate new technologies and partly due to high-skilled workers being more likely to work in creative industries that are difficult to automate. We found that more graduates are in high-skilled jobs either through education and/or opportunity to learn at work, and can therefore conclude that over the next few decades graduates are least likely to suffer threats to their employability from automation.
However, over a longer time span, as computers improve their learning capabilities and become more able to tackle novel situations successfully, it’s my opinion that automation will threaten the employability of graduates. How far automation goes in changing the employability and nature of work for graduates and in fact all employees is a factor of how far we choose to look into the future. Autor, Levy and Murnane’s study looked back at a less than forty year time span but the history of mechanisation and automation goes back hundreds of years, and the future of automation has an unknown time span, making it impossible to predict how automation will affect work, jobs and employability in the future.
I can imagine a shift in how organisations invest in automation in the coming decades as they realise that digital transformation cannot be achieved by capital investment in technology alone and move to investing more in knowledge creation and turning those intellectual assets into a competitive advantage in line with the New Growth theory that will allow automation to escape the current trap of increasing automation to reduce labour costs increasing the demand for skilled workers which increases the labour costs. This change of approach in investment, along the rapidly advancing progress of Artificial Intelligence will allow automation to eventually replace all workers and completely reshape society.
Malthus, T. (1798). An Essay on the Principle of Population.
Maddison, A (). Statistics on world population, GDP, per capita GDP, 1-2008. International Monetary Fund.
Clark, G. (2007). A Farewell to Alms: A Brief Economic History of the World. STU – Student edition ed., Princeton University Press, 2007.
Baumol, W. J. (2002). The Free-market Innovation Machine: Analyzing the Growth Miracle of Capitalism. Princeton University Press
Frey, C.B. and Osborne, M.A. (2013). The future of employment: How susceptible are jobs to computerisation? Oxford Martin School. University of Oxford.
Goldin, C. & Katz, L. (1995) The Decline of Non-Competing Groups: Changes in the Premium to Education, 1890 to 1940. NBER, Cambridge, Massachusetts.
Mankiw, N. G., Phelps, E. S. and Romer, P. M. (1995). The Growth of Nations. Brookings Papers on Economic Activity, Vol. 1995, No. 1, 25th Anniversary Issue (1995), pp. 275-326. Published by: Brookings Institution Press.
Solow, R.M. (1956). A Contribution to the Theory of Economic Growth, The Quarterly Journal of Economics, Volume 70, Issue 1, February 1956, Pages 65–94.
Autor, D. H., & Dorn, D. (2013). The Growth of Low-Skill Service Jobs and the Polarization of the US Labor Market. American Economic Review 2013, 103(5): 1553–1597.
Goos M., Manning A. (2003) McJobs and MacJobs: The Growing Polarisation of Jobs in the UK. In: Dickens R., Gregg P., Wadsworth J. (eds) The Labour Market Under New Labour. Palgrave Macmillan, London.
Autor, D. H., Levy, F., & Murname, R. J. (2013). The skill content of recent technological change: An empirical exploration.
Graduate Labour Market Statistics 2017. Department for Education.
Michaels, G. (2010). The shrinking middle: how new technologies are polarising the labour market. Centerpiece.
Abel, J. R. & Deitz R. (2014). Agglomeration and Job Matching among College Graduates. Federal Reserve Bank of New York.
Bakhshi, H., Frey, C.B., & Osborne, M., (2015). Creativity Vs. Robots: The Creative Economy And The Future Of Employment. Nesta.
Business Ethics – ‘the study of business situations, activities, and decisions where issues of right and wrong are addressed’ (Crane and Matten, 2016).
Corporate Governance – ‘the direction, management and control of an organisation’ (Cadbury, 1992).
Corporate Social Responsibility (CSR) – ‘a concept whereby companies integrate social and environmental concerns in their business operations and in the interaction with their stakeholders on a voluntary basis’ (European Commission, 2011).
Legitimacy Theory – ‘a generalized perception or assumption that the actions of an entity are desirable, proper, or appropriate within some socially constructed system of norms, values, beliefs, and definitions’ (Suchman, 1995).
Shareholder – ‘a person who owns shares in a company and therefore gets part of the company’s profits and the right to vote on how the company is controlled’ (Cambridge dictionary).
Social Contract – a ‘moral and civil’ (Boucher & Kelly, 1994), formal and informal, tacit and explicit agreement, ‘grounded to mutual consent’ (Boucher & Kelly, 1994), by individuals, organisations and the state, under which ‘people can be expected to keep their promises and cooperate with one another (Hobbes)’, and accept authority, to constrain their behaviour, with the expectation that others will be equally compliant, at risk of sanction, ostracization, and other consequences.
The position taken in this essay is that organisations do implement CSR practices and make ethical decisions primarily to increase shareholder profit.
An understanding of the social contract between society and business helps us frame the question of whether organisations implement corporate social responsibility practices and make ethical decisions due to wider social considerations or primarily to increase shareholder profit. We consider liberal market economies and the sociological perspective on how society creates the environment for business to operate, and how business contributes to society, starting with the purpose being solely to generate profit and then through how notions of corporate social responsibility have changed over time and how the distinct boundaries between business and society were challenged to form the permeable boundaries we see today. We look at some examples of business not adhering to the social contract and society’s response through regulation, and how the internal control mechanism of corporate governance changed over time and is becoming a less reliable means of driving ethical business decisions in the twenty first century. Consideration is given to the false dichotomy of CSR or profit and how both can be aspects of a strategy that leverages CSR for competitive advantage to increase profits for shareholders.
Society’s role in providing the right environment for business
Society sets the environment for businesses to operate in through establishing laws and regulations and by forming the social contract between society (which for the purposes of this essay includes the Public Sector and Welfare State) and business (a catchall term to describe all types of commercial organisations owned by individuals).
Hall and Soskice’s concept of ‘liberal market economies’ (Hall & Soskice, 2001), which are prevalent in countries such as the UK, US and Australia, describes how the coordination of the relationship between society and business (or “economic actors and institutions of a country” in their words) relies on market forces. Examples of these market forces include society assuming responsibility for creating a supply of skilled employees by providing vocational training, and business establishing a demand for commitment from workers whilst supplying low levels of trust between the employer and employee (Blyton & Turnbull, 2004).
The sociological perspective asserts that there is “a great deal of agreement that markets are social structures characterized by extensive social relationships between firms, workers, suppliers, customers, and governments” in which “repeated exchanges occur between buyers and sellers under a set of formal and informal rules governing relations” (Fligstein & Dauter, 2006).
It is in this environment of formal and informal rules, with a multitude of supply and demand relationships between a diverse and broad range of actors, that the social contract between society and business is formed. If the environment created by society is too hard on business, through harsh regulation, or too soft on citizens, through overly-lenient social security provision, then the social contract that exists between society and business fails.
Business’ role in contributing to society
The social contract framing allows us to consider how corporate social responsibility changes over time as the view of business as having defined boundaries separate from society shifts to a view of business as having permeable boundaries that interact with society in a variety of ways. This shift did not occur in a linear fashion, and as far back as the 1800’s with Cadbury (Idowu, 2011) there are examples of businesses taking on responsibilities in society, but we can consider the interplay of different ideas about the social contract that exists between society and business as the framing the change of opinion about CSR.
People-focused CSR in the sixties
In 1962 Friedman said “there is one and only one social responsibility of business–to use its resources and engage in activities designed to increase its profits so long as it stays within the rules of the game.” Since then, this quote, and Friedman’s opinions, have been a guiding principle for business that focused on returning the maximum profit for its shareholders at the cost of any wider social considerations.
It underpins the view of shareholders as self-interested individuals who “adopt constraints on their behaviour in order to maximise benefits” (Boucher & Kelly, 1994). As owners of the business the shareholders, accepting of Locke’s premise to permit “individuals to appropriate, and exercise control rights over, things in the world” applying to the assets of the business, including its workforce, exercise the unequal power balance between themselves and the worker (often through managers), to command work to be performed that returns the greatest value to themselves.
The view that business focused purely on maximising their profits expressed and reinforced the clearly defined boundaries between business and society. This is a social contract where business accepts very little responsibility towards society, and regarding workers as assets, might see no value in treating workers in ways that society might regard as fair. As society considers this ill-treatment a breach of the social contract it looks to redress the balance through regulation such as the ‘Contracts of Employment Act 1963’ which required companies to give reasonable notice before dismissal, and through an increase in the expectations society has on business to take into account their human resources as something to be looked after (Frederick, 1960).
Formal CSR in the seventies
Introduced in the seventies, Sethi’s framework for analysing corporate social responsibility formalises a means of comparing CSR within a business in three specific stages: social obligation, or response to market or legal constraints; social responsibility, or congruence with current social norms and values; and social responsiveness, or anticipation of social change and problems, with development of appropriate policies to meet these needs (Sethi, 1975). Sethi splits the social norms aspects of the social contract between business and society from the market and legal constraints allowing business to understand their corporate social responsibility in the context of their industry and place in society, giving them the means to assess whether they are complying with the laws and regulations that apply to them, adhering to the expectations from the areas of society that are meaningful to them.
This formalised approach to matching CSR practices and activities to the norms, values and expectations of society helps us begin to regard CSR as a response to changes in the social environment in which businesses are operating.
Cynical CSR in the eighties
The eighties brings cynicism to CSR. The political economic thinking at the time was that “the state should create and protect private property rights (privatisation), encourage free trade and free markets (deregulation and liberalisation) and ensure that freely negotiated contracts are enforced (rule of law), but should not do much more.” (Pillay, 2015). This rational market approach focuses on generating increased profits for shareholders, and it is against this backdrop that CSR is considered as having more of a public relations purpose than contributing to wider social considerations, which is more effective when a company has a longer history of CSR activities (Vanhamme & Grobben, (2009).
A number of scandals and tragedies occurred throughout the eighties that drove a need for business to have more public CSR programmes. The Piper Alpha disaster in July 1988 in which 167 people lost their lives as a result of inadequate safety procedures (Cullen, 1990) demonstrates how business breaches the social contract to keep workers safe by pursuing profits instead.
Inclusive CSR in the nineties
The nineties sees the Pyramid of CSR (Carroll, 1991) attempting to pull together the different views of the relationship between business and society into a single picture. The pyramid says that business has a responsibility to society to be profitable (removing the duality and adversarial nature of the profit vs. wider social concerns discussion), and then builds on that with legal responsibilities, and then ethical and philanthropic responsibilities on top.
Social contract changes over time
Looking back over four decades we can see a shift in the social contract from one of clearly defined boundaries to one of society having higher expectations and business becoming more involved in social concerns, with CSR and ethical decision making in business becoming a means for business to demonstrate how it attempts to meet the expectations of the social contract.
Business and society succeed together
The change in the nature of the social contract is driven by needs on both sides. CSR, as an expression of business trying to meet the expectations of society, has gone from a focus exclusively on people to also including concerns for the environment, to having a model that includes making profit and philanthropic activities together. As that change has happened, demonstrating how business is adhering to the social contract has become more complex.
Legitimacy theory offers business a means to show society that it is upholding it’s part of the bargain. It “is a mechanism that supports organisations in implementing and developing voluntary social and environmental disclosures in order to fulfil their social contract” (Burlea & Popa, 2013). Those disclosures range from demonstrating compliance with laws, regulations and standards, implementing corporate governance that supports ethical decision making. The forms of CSR have expanded and developed as the boundaries between business and society have become more permeable.
In looking for evidence that the success of business and the success of society are closely linked, we could consider ‘life expectancy’ as an indicator of how society has progressed. In the UK specifically, life expectancy has risen 15% from 70.9 years in 1960 to 81.8 years in 2015 (Riley, 2005, Clio Infra, 2015, & UN Population Division 2019). Over the same period of time GDP increased 187% from £10,436 to £29,985 (Broadberry, et al., 2015 via Bank of England, 2017). Although not robustly causal, the increase in both a measure of how successful society is being in increasing life expectancy and how successful business has been in increasing GDP could be taken as an indicator of the obvious; that the success of both society and business are inextricably linked.
Change in society and business affects the social contract
The twenty first century sees repeated breaches and re-establishment of the social contract and result in both society and business trying to understand the change, and respond to it. In the case of business, how to utilise the new technologies whilst contending with the struggle to respond to the newly raised expectations, and in the case of society, how and when to regulate for these new ways of doing business. Some understanding of the push and pull of social contract negotiations is necessary for framing contemporary CSR as a means for business to demonstrate its attempt to meet the expectations of society.
Dot-com business in the early 2000’s
The dot-com era, from approximately 1994 to 2000’s saw a multitude of early internet-enabled businesses spring up and drive considerable investment causing the Nasdaq index to rise above 5000. Then, the crash saw the Nasdaq fall to just over 1000 in October in 2002. The business models, or lack of, has been suggested as a contributing factor to the dramatic failure of so many internet businesses at that time. Given that “business models play a complex range of roles and that they can even become products in their own right, often creating or transforming markets” (Hawkins, 2004) it’s useful to focus on the business model as the means by which new business has the most effect on society.
In the accepted trend of capitalism, we can accept the dot-com bubble bursting as a bust with a boom to follow in the form of internet businesses with more robust business models that utilise technology platforms to connect crowdsourced supply and demand for services. Businesses such as Uber and AirBnB provide platforms to connect those who have something to offer with those who are looking for those things.
This disruption of the usual supply and demand business model in which the business would be either providing the supply or creating the demand, these new businesses simply act as enablers for others to establish supply and demand relationships. In the case of Uber in London in 2018, Transport for London did not agree that Uber could separate itself from the responsibilities of an employer, finding them “not a fit and proper operator” and refusing to renew their license to operate until TFL had “developed a future regulatory position” (Ram, 2018). So, “..in changing the way that people do business, … they created unique regulatory challenges…” (Harris, 2017) that needed to be responded to by society. These new ‘platform-as-employer’ (Prassl & Risak, 2016) businesses were breaking the social contract and triggering a response from society.
Regulating new business models
Society’s response to the new platform-as-employers business that didn’t fit the norms of how business operates was to introduce regulation. In July 2019 the European Commission introduced legislation to tackle unfair and harmful practices that affect business users of online intermediaries and search engines (European Commission, 2019), and in a blog post post about the future of ways of working the Director General of DG Connect at the European Commission said, “We need to accept that platform work is here to stay and put the right legal framework in place to make sure that workers taking advantage of its flexibility are not in turn taken advantage of by operators exploiting loopholes in labour laws from another era.” (Viola, 2019).
The idea that regulation should be the dominant means of controlling these new business models is perhaps rooted in Keynesian economics that viewed markets as not inherently self-correcting and requiring government to play a role through introducing regulation (Keynes, 1973). However, given that these businesses are technology driven it seems more appropriate to consider them from the perspective of network theories of globalization and how it is the technology that drives the change in business model. Castells’ conclusion that “Networks constitute the new social morphology of our societies, and the diffusion of network logic substantially modifies the operation and outcomes in processes of production, experience, power and culture… the new technology paradigm provides the material basis for its pervasive expansion throughout the entire social structure.” (Castells, 1996) bring into question whether regulation is the right way for society to re-establish the social contract in the twenty-first century.
Corporate governance in platform business models
Corporate governance offers another means for society to exert some influence over business and for business to demonstrate its position on the social contract. Much of the discussion around business ethics is centred on corporate governance (Crane & Matten, 2016) and the ownership versus control power relationships between shareholders and managers of the firm.
Prior to the twentieth century the governance of companies most usually followed the owner-manager pattern (Crane and Matten, 2016) where the founder of the company managed it directly. In the twentieth century corporate governance changed to became one of separation between shareholder as owner and manager as controller. This separation is important in understanding how corporate governance is used as a mechanism for enabling business to uphold its part of the social contract.
Contractual Theory offers an economic theory of the firm based on Coase’s modeling of the firm as, “a nexus of contracts in which each corporate constituency… supplies some asset in return for some gain” (Boatright, 2002). Contracts, whether formal or informal, exist between shareholder and manager, manager and employer, and firm and customer. Given that “contracting is the principal means by which we conduct our economic affairs and structure economic relations” (Boatright, 2002), Coase, through Contracting Theory, tells us that whilst markets are coordinated by exchange, within a hierarchical firm coordination takes place by direct control (Boatright, 2002). It is easy to see how that direct control would operate between manager and employee but the locus of control is shifted between shareholders and managers with shareholders having “at best indirect and impersonal control” (Crane & Matten, 2016).
The shareholder responsibility for governance and control of the business, which they exercise through the managers of the company is not without its ethical and financial issues (Jensen & Meckling, 1976). Agency theory explains the nature of the issues as arising from the idea that all individuals (agents) act in their own best interest but when part of a firm agree to act on behalf of another person, referred to as the principal (Ross, 1973). This principal-agent relationship between shareholders and managers explains why in some cases managers may choose to advance their own self-interest over acting in the best interests of the company, such as making ethical business decisions that don’t increase profits or avoid social contract damaging scandals.
Corporate governance for platform businesses in the twenty-first century sees a return to founder as owner (and major shareholder) and manager. This drastically changes the traditional power balance and leads to the conflicted perception of modern day tech CEO’s such as Mark Zuckerberg of Facebook and Elon Musk of Tesla and SpaceX being both admired and despised (Bloom & Rhodes, 2018). Bloom and Rhodes describe how these CEO’s are “characterised at one and the same time as visionaries and realists; ethical innovators and moral hazards; generous benefactors and selfish hoarders”. Zuckerberg has 53% voting rights in Facebook and Musk has a 54% stake in SpaceX, which means that the usual balances of corporate power are becoming less relevant.
This weakening of corporate governance as a mechanism to drive ethical business decisions along with society’s acceptance of the modern tech CEO indicate a further shift in the social contract, one that at first glance seems to put the power in the hands of business to lead the redefinition.
Corporate social responsibility as response to changes in society
Shifting power shifts the social contract
The success of society and success of business are tightly interwoven. They succeed together. But, in the fast-paced and rapidly changing twenty-first century world, society is unable to regulate new business models quickly and effectively enough, and corporate governance cannot be relied upon to provide sufficient control mechanism for platform businesses. In this environment of a lack of clear boundaries between society and business, both look for ways for business to demonstrate legitimacy and maintain acceptance within society to continue to operate.
With the social contract re-negotiations taking place, the question of whether corporate social responsibility activities are undertaken by the twenty-first century business to turn into a competitive advantage. Rupp, Williams & Aguilera are worth quoting at length on the matter. They said, “In the organisational behaviour literature, a great deal of research has focused on the seemingly incongruent goals of wealth maximization and social responsibility. This research has suggested that these goals are not necessarily incompatible and that CSR may actually be leveraged to serve a strategic advantage. That is, empirical research has sought to determine if there is a significant link between corporate social performance and corporate financial performance. The first of these studies was conducted by Bragdon and Marlin (1972) who found a positive relationship between these two variables.” (Rupp, Williams & Aguilera, 2010). An important point to reiterate is that making profit and doing good for society don’t have to be incongruent goals. CSR can have a positive impact on society whilst also increasing profits. This leads us to questioning the motivations of business; do they undertake CSR activities primarily for the wider social considerations or to be leveraged as a competitive advantage to increase profits?
Corporate social responsibility and ethical business as a competitive advantage
CSR as a response to social pressures
The adoption of CSR practices and ethical decisions by business is a response to changes in society (Aguilera, et al 2007). Aguilera goes on to say that “corporations are being pressured by internal and external actors to engage in CSR actions to meet rapidly changing expectations about business and its social responsibilities.” Society’s expectations around social and environmental issues have changed over the decades, reforming the social contract between business and society, and Corporate Social Responsibility activities are business’ demonstration of legitimacy and adherence to the social contract.
CSR affects financial performance
In 2016 Volkswagen’s profits fell by 20% after they admitted installing software in cars to cheat emissions tests (Kollewe, 2016). This demonstration of not being a socially responsible business breached the social contract in a number of ways; environmental impact from vehicle emissions, cheating regulatory tests, and customer trust in the product, all of which contributed to the reduced profits. This, and many other examples, suggest that scandals of this nature lead to reduced profits.
After studying thirty years of data, Orlitzky, Schmidt and Rynes concluded that Corporate Social Performance is positively correlated with Corporate Financial Performance and that the reputational benefits appear to be an important part of explaining the correlation (Orlitzky, et al. 2003).
Given the statistically validity of that study and the anecdotal information from the Volkswagen scandal we can conclude that businesses that adopt Corporate Social Responsibility practices recognise commercial benefits from doing so (Bonini, 2009).
CSR can become a competitive advantage
Corporate Social Responsibility activities can be a differentiator for businesses, providing “hard-to-duplicate competitive advantage” (Melo & Garrido‐Morgado, 2011), and having an ethical stance can become a competitive advantage (Seifert, Morris, & Bartkus, 2003). Linking Corporate Social Responsibility practices to business objectives creates a competitive advantage (Porter & Kramer, 2006). Porter and Kramer call out the fragmented and disconnected approaches many businesses take towards CSR initiatives and how the notion of business and society as separate rather than interconnected entities fuels the opinion of CSR activities as a cost to the business rather than contributing to profits. They go on to make the point that if CSR activities were aligned with a business’ strategy they would be leveraged as a competitive advantage. As with any competitive advantage, the aim for business is to use it to increase profits for shareholders.
Organisations implement CSR practices and make ethical decisions primarily to increase shareholder profit as opposed to wider social considerations. Changes in society and business are causing a redefinition of the social contract, which causes business to look for other means of demonstrating its adherence to the social contract. CSR is rarely implemented by a business because of wider social considerations, but instead as a means of demonstrating its attempts at meeting the expectations within the social contract. A business that is able to make corporate social responsibility part of its strategy and so leverage the reputational and other benefits to create a competitive advantage can improve its financial performance and increase profit for shareholders.
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Innovative 21st century business models contain many aspects that differentiate them from business models that are more closely associated with the pre-internet era.
Innovative organisations are able to utilise disruptive technologies and approach business strategy from a different perspective to traditional companies and use this to digitise their business and develop a business model that enables them better respond to the increasing pace of change in industries, and so create competitive advantage.
The ability to develop and utilise intangible assets such as knowledge, organisational routines, and intellectual property to achieve competitive advantage separates innovative businesses from physical asset focused organisations but is not without its risk, and so absorbing change and dealing with uncertainty become essential in maintaining competitive advantage.
Organisations with innovative business models are able to leverage the advantages of network externalities to achieve cost efficiency, customer lock-in, complementary value and first-mover advantage to hold a competitive advantage over companies that fail to utilise network effects in their business.
Purpose and societal impact can be sources of competitive advantage for organisations that contribute positively to environmental, societal, or human issues,
All of these elements impact modern business models and contribute to an organisation’s ability to achieve and maintain competitive advantage in the 21st century.
Digitisation, technology and strategy
The 21st century has seen a huge increase in disruptive technologies such as the internet, social media, artificial intelligence, blockchain, robots, and IoT entering almost every market including the music industry, banking and finance, engineering and manufacturing, and recruitment and HR. Organisations that make use of these disruptive technologies can gain a competitive advantage over competitors who are slower to appreciate the benefits and undertake the digitisation of their business. Whilst slower-to-adapt, traditional companies rely on functionality to beat competitors, modern companies beat competitors with speed and customization (Christensen, 2001).
The increasing speed of change in the digitisation (Kurzweil, 2004) of business places pressure on innovative organisations to be continually evolving in order to keep pace with the change and remain competitive. As Porter noted when describing how a competitive advantage is achieved through cost leadership and differentiation, “The ability to be both low cost and differentiated is a function of being the only firm with the new innovation” (Porter, 1980: 3). This suggests that competitive advantage viewed in this way is easily lost to companies that use the next newly available disruptive technology to differentiate themselves. However, those companies that approach innovation as a continual creative destruction (Schumpeter, 1934) of their own practices, products and services, and even business model can successfully utilise digital technologies in strategies that ensure they maintain a competitive advantage.
This pressure to continually reinvent any and all aspect of a business has driven a shift in how organisations approach innovation from closed innovation in which businesses generated their own ideas and develop them internally, to open innovation 1.0 in which companies combine internal and external ideas to accelerate their innovation process (Chesbrough 2003) and onto open innovation 2.0 in which ideas are developed within an ecosystem of industry, universities, government and communities (Curley and Salmelin 2013).
“BMW Group faces many innovation challenges for which it doesn’t always have immediate in-house solutions, so we choose to search globally for the technology that we need, particularly among the innovators who are running startup companies. That is why the BMW Group has, in conjunction with StartupFest Europe 2017, challenged startups from across Europe, working in all fields related to mobility products or services, to submit their pioneering technology, product or service ideas for a competition that offers a chance to become part of a pool that buy billions of dollars’ worth of products and services every year.” (Gimmy, 2017). Companies, such as BMW, adopt an innovation 2.0 approach in order to develop a broader range of ideas more quickly and without the resource constraints of needing to employee experts in all areas of development, and the company that does this better than their competitors can achieve competitive advantage.
Intangible assets and absorbing change
Whilst Porter asserted that competitive advantage comes from providing value to customers at a higher value than it costs to provide, Barney’s view was that competitive advantage is achieved by “implementing a value creating strategy different from the strategies of its competitors.” (Talaja, 2012). This advantage can be achieved when a company possesses and exploits valuable, rare, inimitable, and non-substitutable resources and capabilities (Barney, 1991).
For modern innovative organisations using business models that rely on intangible assets such as software, organisational routines and specialist knowledge, using this resources-based view allows for an understanding that excelling at creating and managing intangible assets is essential for establishing and maintaining competitive advantage. As new models of open innovation emerge that rely on developing eco-systems from partnerships across industry boundaries rather than exclusively within a business (Curley and Salmelin 2013), knowledge becomes more important and the challenge of retaining that knowledge needs to become an essential part of an innovative organisation’s strategy. Nonanka’s Dynamic Theory Of Organisational Knowledge Creation describes how in learning organisations knowledge moves from tacit to explicit in a continual dialogue where new knowledge is developed by individuals and transferred to organizations (Nonaka, 1994). This knowledge transfer is an essential part of companies ensuring they maintain the competitive advantage gained from creating and retaining intellectual property.
Teece and Pisano argue that “the competitive advantage of firms stems from dynamic capabilities rooted in high performance routines operating inside the firm, embedded in the firm’s processes, and conditioned by its history” (Teece & Pisano, 2003). However, there are risks to businesses in relying solely on their organisational routines and unique intellectual property to achieve competitive advantage. Over time, organisational routines can become settled and need to be refreshed in order to ensure they are indeed high performing given the constant change in today’s markets, and specialist knowledge and intellectual property can become locked in the minds of founders and employees which creates a risk to the business if those people leave the company.
More recently, Teece, Peteraf and Heaton have explored ideas around “fostering the organizational agility necessary to address deep uncertainty, such as that generated by innovation”. They point out the differences between managing risk in a traditional way and dealing with the deep uncertainty that is a characteristic of “interdependent economies experiencing rapid technological change and financial disruption” (Teece, Peteraf & Heaton, 2016). In order to maintain its competitive advantage an organisation needs to ensure it’s dynamic capabilities provide it with the means to absorb and respond to change quickly and use its response to change to improve its dynamic capabilities.
Network externalities and cost efficiency
For organisations following Porter’s Cost Leadership strategy (Porter, 1985) and so concerned with reducing transaction costs in order to lead on price within the market, digitisation enables cost savings (Lucking-Reiley & Spulber, 2001). For internet-era ‘digital-first’ organisations with digital-only products and services, transaction costs can be shrunk to near zero. Innovative organisations can utilise network effects to increase their customer base and so achieve scale faster and more cost-effectively than businesses with lesser digital business models.
Network effects can be expressed as the value that a product provides the customer, and so the business, increases as the number of users grows (Katz and Shapiro, 1985). Two examples of utilising network effects are interaction, where a product is only useful if a number of other people are also using the product, and compatibility, where customers purchase and use software that is compatible with other software that they are those they interact with are using (Katz and Shapiro, 1985). A study by NFX of digital companies that went on to become worth more than a $1 billion, estimated that network effects have accounted for approximately 70% of the value creation in tech.
These elements creates a lock-in effect where the cost (financial, but mostly in loss of value from interacting with and being compatible with others) of stopping use of the product is greater than the cost of continuing to use it (Farrell & Klemperer, 2007). Organisations that successfully leverage lock-in and so increase the switching costs for customers have the potential to dominate a market and make it very difficult for new entrants to gain market share, which becomes a key strategic advantage in maintaining competitiveness.
Utilising Internet technologies and network effects allows companies to increase the value offered to their customers by providing bundles of complementary products and services (Amit and Zott, 2001). These complementarities “are present whenever having a bundle of goods together provides more value than the total value of having each of the goods separately”, and those bundles may be made up from products and services owned by the business or by businesses offering services from other organisations that complement their own product (Amit and Zott, 2001). Whereas businesses that don’t leverage network effects may offer bundles in the form of ‘two for one’ or other such offers, companies with innovative business models are able to offer complementariness in a way that becomes a distinct competitive advantage. When customers recognise increased benefits they are likely to get from purchasing from a business that offers products or services with bundled complementariness in contrast to purchasing from business that don’t, the increased adoption can contribute to the innovative business increasing market share and maintaining competitive advantage.
Having already looked at three elements of Amit and Zott’s sources of value creation in e-business, Novelty is the fourth aspect that drives value. The “introduction of new products or services, new methods of production, distribution, or marketing” and ways of doing business enables innovative businesses to gain first-mover advantage (Amit and Zott, 2001). Where newness and first-mover advantage drives value for a business it can be leveraged to be a competitive advantage in conjunction with the other sources of value creation.
Purpose and societal impact
Although the role of business in society changes over time, society is expected to provide an environment that business can operate in whilst businesses provide products and services for the members of society in exchange for economic returns (Cannon, 1994). 21st century innovative businesses can build upon this relationship by providing an environment and work that is purposeful (Sgori, 2014) in order to help creative knowledge workers feel that they are contributing to a positive impact on the world.
Etsy, the ecommerce marketplace company selling handmade and vintage items, is an example of how a business can balance profit and purpose. Etsy holds a B-Corp certification, showing it meets the highest standards of social and environmental performance. It also runs a free entrepreneurship courses to underemployed and unemployed residents in collaboration with the US government (Hakimi, 2015).
Having purpose also has a positive effect on employee morale. A report by the Society for Human Resource Management revealed that companies with strong sustainability programs had 55% better morale, 43% more efficient businesses processes, 43% stronger public image, and 38% better employee loyalty (SHRM, 2018). These reports all contribute to the idea that a business that has a positive societal impact can achieve attract and retain employees that have greater commitment and contribution to the company.
An article on the Moving Worlds blog lists nine innovative companies with a social purpose and includes lessons from them such as “customers seek out brands that align with their morals” from Patagonia, Salesforce’s donating of “1% of revenue, products, and employee time towards charitable work”, and Social Capital’s use of “data techniques to evaluate investments that contribute to social good by covering sectors including education and healthcare” (Barbu, 2018) as purpose-driven business models that demonstrate commercially success. These and a multitude of other examples show how having a purpose is more than just good public relations, it can be a source of differentiated competitive advantage for any kind of business.
Many varied things are involved in making the business models of
innovators in the 21st century competitive. There are many theories that
contribute a partial understanding to these various aspects of innovation and
business but clearly there is no single dominant model or intellectual
framework that provides an accurate lens for understanding what it takes to be
a successful, innovative businesses in the 21st century. Disruptive
technologies and the digitisation of every kind of business and industry have
widened the gap between those innovative organisations that are able to respond
to the increasing pace of change and those that are being left behind.
Organisations that are able to utilise technology also need to be able to
successfully manage their capabilities, intellectual property and other
intangible assets such as employee knowledge in ways that create advantages
over competitors. Having a clear approach to value creation through efficiency,
complementarities, lock‐in, and novelty offers companies yet another aspect of
successful innovation, and having a positive impact on society, offer yet more
things for a business to consider as it invents its innovative business for
competitive success in the 21st century.
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