Insights | Article | A new framework for understanding the sustainability of business models – Part 1

A new framework for understanding the sustainability of business models – Part 1

6 April 2023

Business as usual is unsustainable. Whether you are providing advice or evaluating companies to invest in, clients are increasingly interested in how their money is invested. In this context, it is time to consider the role of business and the assumptions about what business traits make a company an attractive investment. Part 1 of a two part series outlines the five unsustainable characteristics that need to be addressed if a business is to thrive in a sustainable economy.

Scientists warn that we are in the midst of the sixth mass extinction, and the IPCC has delivered a final warning about the need for immediate action to avoid irreversible climate change. Despite technological progress, poverty has increased for the first time in 25 years. Business as usual is unsustainable. Whether you are providing advice or evaluating companies to invest in, clients are increasingly interested in how their money is invested. In this context, it is time to consider the role of business and the assumptions about what business traits make a company an attractive investment. 

In its simplest form, a business model is how a company plans to make money. Current business models are designed to prioritise growth and short-term profit maximisation at the expense of social and environmental sustainability. Profit-maximising business models tend to exploit social and natural capital and drive inequality throughout the value chain while introducing unintended risks and issues for the company. As we face the climate crisis, biodiversity loss and growing inequality, we urgently need to rethink how we do business. 

The good news is that sustainable business models can thrive while contributing to achieving and maintaining a sustainable economy. Altiorem’s new research, ‘How can businesses thrive in a sustainable economy?’ explains why business models need to change and how businesses can change. It presents a new framework for what business success will look like in a sustainable economy.  

This research applies Kate Raworth’s Doughnut Economics model, a framework for a sustainable, regenerative, and distributive economy where society and nature thrive. It is based on a social foundation in which society needs to provide a life of dignity and opportunity for all and an ecological ceiling representing the earth’s planetary boundaries. 

What are the sustainability issues with current business models?

1. Linearity and the take-make-waste structure

This is about product design, specifically the single-use resource extraction process to create products designed to be discarded, creating waste. Failure to design out the linear lifespan of products is predicted to result in a 70% increase in global waste, from 2.01 billion tons in 2016 to 3.4 billion tons in 2050, as projected by the World Bank.  

Fast fashion, a linear business model, has caused a doubling in global clothing production from 2000 to 2015. While fast fashion has made fashionable clothing cheaper and more accessible, the linear business model encourages rapid turnover, lower-quality products, and operational inefficiency through high rates of unsold inventory.  In 2019, H&M had $4.1 billion worth of unsold clothes, which poses not only a financial risk but also a reputational risk due to growing consumer concerns about environmental impact. In addition to the ecological impacts, the fast fashion industry’s drive for speed and low cost has also led to labour rights issues, as seen in the 2021 Boohoo scandal. 

2. Short-termism and its effect on sustainability in business operations 

 

Businesses face pressure to focus on short-term financial results. However, sustainability strategies require long-term investment. Research shows that short-term approaches underperform compared with long-term business strategies.  

During the COVID-19 pandemic, Fisher & Paykel Healthcare, a globally leading New Zealand-based maker of respirators and dehumidifiers, had exploding demand for its products as they became essential for treating COVID patients in intensive care. The high demand meant the company could increase its prices to compensate for increased input and transportation costs; however, it chose to maintain prices, resulting in lower margins in the short term. This decision-built trust with its customer while further embedding its systems in hospitals and other healthcare settings. As the company operates a ‘razor blade model’ where consumables are required to use their machines, the decision not to take advantage of the global crisis will have long-term reputational benefits and lead to more predictable sales of consumables in the future. 

3. Growth and profit maximisation

In a linear and growth-driven business model, the primary objective is to increase profits by boosting sales volume through the promotion of higher consumption of products. This has led to product design that shortens product lifetime and increases sales while escalating resource use and waste creation. 

The Margiris super trawler, the world’s second-largest fishing vessel, catches up to 250 tons of fish daily. Margiris is an example of how the aim for continuous economic growth and profit maximisation drives unsustainable practices and neglects long-term consequences. Seafish Tasmania brought it to Australian waters in 2012 to fish for jack mackerel and red bait, leading to protests from environmental activists and local fisheries and a ban on super trawlers in Australian waters. Research showed that the Margiris would have caused the local depletion of threatened species such as seals, seabirds, and cetaceans. 

4. Exploitative and unequal distribution of value within the supply chain

Globalisation and outsourcing have made cheap labour a vital component of many businesses, leading to the exploitation of workers. Developing countries rely on foreign investment and lower regulations to attract global corporations, resulting in a “race to the bottom” in working conditions. However, these conditions are not only found in developing countries and can be driven by unsustainable business models.  

A Fairfax Media investigation revealed Domino’s underpaid and exploited migrant workers, instructing franchisees to keep labour costs under 27% of sales. This pressure resulted in widespread and systematic underpayments, with workers earning as little as $10/hour. CEO Don Meij earned $37 million in 2017, while franchisees struggled to profit due to the company’s model prioritising cheap pizza sales over sustainable profitability for franchisees. 

5. Operational efficiency as a sustainability strategy

Businesses often implement technological solutions like renewable energy, recycling, and energy efficiency to address sustainability concerns. However, while these measures are essential, cannot more is needed to address the underlying problems within the current business model fully. 
 
H&M’s 2020 Sustainability Performance Report sets a target to become a circular business by 2040. However, the company still relies on volume growth and fast fashion. Greenwashing accusations challenge its sustainability ambitions due to large-scale production and opaque supply chains. A circular business model requires reducing production and consumption, but this cannot be achieved without moderating consumer demand. 

Sustainable business traits

Addressing the unsustainable traits of current business models, Altiorem’s report devises five elements businesses can implement to become more sustainable. Through best practice case studies and assessment questions, five sustainability areas are mapped in a simple framework that companies and investors can use to assess a company’s alignment with a sustainable economy.  

Part 2 in this series will highlight these characteristics, or in the interim, you can access the full report and sustainable business model canvas here

 

Originally published in April 2023 issue of SIAA Monthly, Stockbrokers and Investment Association.

Report: How can businesses thrive in a sustainable economy?

This paper highlights the limitations and misalignment of current business models with the objectives of a sustainable economy as defined by the Doughnut Economics model. Drawing from case studies, the report investigates how business models need to change to fit into a sustainable economy, and presents a new framework for companies and investors to assess an organisation's alignment with a sustainable economy.
Article
22 February 2023

Measuring the economic impact of short-termism

McKinsey Global Institute
Measures corporate long- and short-termism systematically. Assesses and quantifies the effects of each approach on corporate financial performance and microeconomic growth. Findings show that long-term approaches outperform short-term companies on key economic and financial metrics.
Research
16 November 2020

Growth without economic growth

European Environment Agency (EEA)
Economic growth is closely correlated to environmental depletion and resource use. This report explores the need to decouple economic growth and resource consumption to achieve the sustainability goals and the European Green Deal. It introduces alternative views to economic growth including circular economics, green growth and doughnut economics.
Research
8 January 2023