Ecological Economics 69 (2009) 244–249

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Ecological Economics
j o u r n a l h o m e p a g e : w w w. e l s ev i e r. c o m / l o c a t e / e c o l e c o n

Commentary

Not measuring sustainable value at all: A response to Kuosmanen and Kuosmanen

Frank Figge a,⁎, Tobias Hahn b,1
a
Queen's University Management School, 25 University Square, Belfast BT7 1NN, Northern Ireland, UK
b
Euromed Management School, Marseille, Domaine de Luminy – BP 921, 13288 Marseille Cedex 9, France

a r t i c l e i n f o a b s t r a c t

Article history: In their article in this issue of Ecological Economics, Kuosmanen and Kuosmanen [Kuosmanen, T. and
Received 6 June 2009 Kuosmanen, N., this issue. How Not to Measure Sustainable Value (and How One Might). Ecological
Accepted 5 August 2009 Economics.] aim to criticise the measurement of Sustainable Value as proposed in our previous research. By
Available online 28 August 2009
adopting a production perspective and based on a productive efficiency analysis, they claim that the proposed
way of measuring Sustainable Value represents an invalid simplification that rests on restrictive and unrealistic
Keywords:
Sustainable Value
assumptions. Our response is to show that their argument rests on a fundamental misspecification of the
Opportunity costs Sustainable Value approach. We identify three conceptual misfits: a mismatch in the perspective of the
Resource allocation analysis, a misspecification of opportunity costs and the irrelevance of production functions. Ultimately,
Sustainability assessment Kuosmanen and Kuosmanen's train of thought rests entirely within the realm of productive efficiency analysis,
whereas Sustainable Value builds on the foundations of financial economics and consequently adopts a macro
rather than a firm perspective. It is thus not surprising that the findings of Kuosmanen and Kuosmanen appear
to contradict the Sustainable Value approach. However, this is due to their fundamental misspecification of the
Sustainable Value approach. As a result, rather than providing novel insights into how Sustainable Value might
be measured in a better way, they do not measure Sustainable Value at all.
© 2009 Elsevier B.V. All rights reserved.

1. Introduction individual firm by adopting a production perspective. KK conduct a

Despite being developed and proposed only recently, the Sustain-
able Value approach (Figge, 2001; Figge and Hahn, 2004a, 2004b,
2005, 2008; Hahn et al., 2007) has attracted considerable attention
and sparked at times lively debate (Klevas et al., 2009; Korhonen,
2008; Schmidt and Schwegler, 2008; Van Passel et al., 2007). Most
recently, in an article in this issue of Ecological Economics Kuosmanen
and Kuosmanen (2009-this issue) (henceforth KK) aim to criticise the
Sustainable Value (SV) approach. More specifically, in their article KK
examine the way we proposed to measure SV when we initially
developed the approach (Figge and Hahn, 2004a, 2005) and
fundamentally question the validity of the approach. By conducting
a productive efficiency analysis they claim to propose novel insights
into how Sustainable Value might be measured in a better way. In this
response to KK we address the main points of their criticism. By doing
so we find that KK fundamentally misspecify the underlying SV model
that they claim to test. We identify three fundamental misfits that are
at the source of this misspecification of the SV model. As a result, this
undermines the relevance of the argument of KK.
We believe that the reason for the fundamental misspecification of
KK's critique is due to the fact that it fully remains in the logic of the
⁎ Corresponding author. Tel.: +44 28 9097 1363; fax: +44 28 9097 5156.
E-mail addresses: f.figge@qub.ac.uk (F. Figge),
tobias.hahn@euromed-management.com (T. Hahn).
1
Tel.: +33 491 827 313; fax: +33 491 827 983.
standard productive efficiency analysis on the firm level, which has
been carried out for decades. As SV builds on a completely different
conceptual foundation than productive efficiency analyses, we argue
that such an analysis is not suitable for testing the validity of the SV
approach or the way it can be measured. The SV approach does not
inscribe itself in the tradition of the theory of the firm. SV follows the
tradition of financial economics. Financial economics differ from
theories of the firm in three ways. “First, it is concerned with investors
rather than manufacturing firms or consumers. Second, it is concerned
with economic agents who act under uncertainty. Third, it […] can be
used to direct practice […]” (Markowitz, 1990, p. 279).2 The major
contribution of SV as we have developed it consists in applying
opportunity cost thinking from financial economics to the use of
economic, environmental and social resources and the assessment of
corporate sustainability. Up to this point the use of environmental and
social resources has been discussed using models, theories and
techniques that have their origins in the theory of the firm. With
our SV approach we take a different view by adopting the perspec-
tives, tools and techniques of financial economics.
In the light of this fundamental divergence and even if KK seek to
build their argument on purely statistical and mathematical grounds,
we need to focus on the conceptual foundations of SV. By doing so, we
identify three fundamental conceptual misfits of their criticism. In the
2
Please note that this quote from Markowitz's Nobel Lecture relates to portfolio
theory. We feel that it can also be attributed to financial economics in a wider sense.

0921-8009/$ – see front matter © 2009 Elsevier B.V. All rights reserved.
doi:10.1016/j.ecolecon.2009.08.003
 F. Figge, T. Hahn / Ecological Economics 69 (2009) 244–249
following, we will develop on these three misfits by addressing the
key aspects of Kuosmanen and Kuosmanen's (2009-this issue) article.
Regarding the first mismatch, we show the fundamental difference in
perspective between SV and productive efficiency analysis. The
second mismatch refers to the notion and role of opportunity costs.
For identifying the third mismatch we discuss the relevance of
production functions in the context of the SV approach. Finally, we
briefly discuss some implications of our argument and KK's criticism
for sustainability assessment and from the perspective of welfare
economics before concluding our response.
2. Misspecification of perspective
In their article, KK claim to draw a sharp distinction between the
conceptual idea of SV and the operational estimator to measure SV. As
we will show in this section, such a distinction is futile if the estimator
that is proposed by KK is based on a completely different perspective
that has little in common with the logic of the SV approach. For this
purpose we need to address the fundamental perspective the SV
approach itself is based on and contrast it with the perspective that KK
adopt for their analysis of the validity of the SV measurement.
As noted by KK, in our original article in Ecological Economics we
introduced the If- and Where-matrix (Figge and Hahn, 2004a, p. 176–
177) to distinguish between two different rationales in the context of
sustainability assessments. A sustainability measure that answers the If-
question looks at whether the resource should be used at all. A
sustainability measure that addresses the Where-question looks at
where, i.e. by which economic entities the resource should be used. As
explained in our article answering the If-question is desirable but not
possible in practice as we need to know the absolute societal cost of
resource use to answer the If-question. Unfortunately, reliable informa-
tion on the external costs of environmental and social burdens is not
available most of the time (Tol, 2005). Our SV approach follows the
Where-logic of this matrix. We argue that this question can be answered
based on opportunity costs. SV “[…] indicates how much more sustainable
(in monetary terms) the use of the resource is in comparison to other
entities” (Figge and Hahn, 2004a, p. 177). As explained in our article we
follow the logic of investment decision making in this context (Figge and
Hahn, 2004a, p. 176). SV is, similar to capital-oriented concepts like the
shareholder value approach (Copeland et al., 2000; Rappaport, 1986),
based on efficiency. Companies that increase their efficiency will, ceteris
paribus, also increase their SV. Answering the Where-question can help
us to allocate resources even if we do not know if we should use the
resource at all.
There is a logical follow on question once resources have been
allocated, namely the How-question. The How-question looks at how
resources are used once they have been allocated to an economic entity
(e.g. a company). Companies can for example choose between different
production technologies. Different production technologies will use
different resources to a different degree to produce their outputs. It is
useful to describe these production technologies using production
functions. The efficiency of the resource use — including environmental
and social aspects — on the individual firm level has been analysed for
decades using productive efficiency analyses (Callens and Tyteca, 1999;
Kuosmanen and Kortelainen, 2005; Reinhard et al., 1999). In this
context, scholars analyse alternatives of a given production technology
(and thus production function) in order to determine the best
alternative technology option for every individual firm.
We decided not to discuss the How-question in our original article
(Figge and Hahn, 2004a) because SV inscribes itself in the method-
ological tradition of financial economics and not of productive
efficiency analysis. Financial economics deals with the Where-
question. In contrast, the How-question is related to theories that
follow the methodological tradition of the theory of the firm such as
productive efficiency analysis. Even if both questions refer to the
question of efficiency of resource use they are fundamentally different
245
with respect to their underlying rationale for optimising resource use
and for assessing efficiency of resource use.
The perspective of the Where-question is based on the logic of
financial economics. Financial economics are concerned with the ques-
tions how to allocate economic capital among different companies in
order to maximise the overall risk-adjusted return on economic capital
(Modigliani and Miller, 1958). Note that the rationale for optimising
resource use does not reside on the individual firm level but on the
overarching perspective of investors who can diversify by investing in
different companies at the same time. As a consequence, financial
economics are not concerned with optimising capital efficiency or even
assuring survival of an individual firm. SV adopts this perspective of
financial economics and extends it to environmental and social
resources. The fundamental question SV asks is thus where environ-
mental and social resources should be allocated in order to achieve an
optimal overall return (Where-question).
The perspective of the How-question stems from the firm level. It
asks how resources should be best used by each individual firm once
resources have been allocated to different firms. Productive efficiency
analysis is an important example in this context. It determines for
every individual firm the best possible (=most efficient) technology
for using the resources and assesses by how much each company falls
short of achieving its individual optimal use of resources. Note that
the rationale of optimisation resides entirely on the single company
level and is different for every individual company.
It becomes clear that the Where-question refers to the allocation of
resources between firms whereas the How-question addresses the
technology choice or use of every individual company. This has far
reaching consequences for assessment approaches that are based on
either of the two perspectives. The fundamental difference in the
assessment logic of the two perspectives can be illustrated using a
simple example. In this example we assess the performance of two
companies A and B. Both companies use one resource to produce their
output. We assume that they use the same absolute amount of the
resource to produce different levels of output.3 To answer the Where-
question we use the economy that both companies operate in as a
benchmark. To answer the How-question we compare their produc-
tion technology to the best available production technology as it is for
example done by Kuosmanen and Kuosmanen (2009-this issue).
Table 1 summarises the information that we have regarding both
companies. We will first look at the Where-question and thus at the
SV approach. SV is created if an additional return could be achieved by
giving a resource to the company rather than the benchmark. In our
simple example each unit that is given to company A rather than the
benchmark (Where-column) results in a loss of € 50. Each unit that is
given to company B results in a gain of € 50. B will thus be preferred to
A, i.e. B will have a higher valuation than A.
We will now look at the How-question and thus productive efficiency
analysis as proposed by Kuosmanen and Kuosmanen (2009-this issue).
Note that according to productive efficiency analysis a company is rated
higher the closer it operates to its individual efficiency frontier that
determines the rationale for optimal resource use for the respective
company. Company A could increase its performance from 100 €/t CO2 to
120 €/t CO2, i.e. by 20%. By not operating at the maximum possible level €
20 is lost per unit of resource used. In the case of company B this amounts
to € 100 per unit of resource and thus a 50% increase. In this case
company A is preferred to company B, i.e. A will receive a higher
valuation than B as it operates closer to its efficiency frontier.
The objective of the SV approach is to answer the Where-question.
Recall that the Where-question is concerned with the allocation of
resources between different firms. However, if this allocative question
was answered on the basis of assessment following the logic of
3
We restrict ourselves to one resource as well as to the same absolute amount only
for convenience. The argument holds true analogously for more than one resource and
for different absolute amounts of resource use.
246 F. Figge, T. Hahn / Ecological Economics 69 (2009) 244–249
Table 1
Efficiency assessments based on the where- and the how-questions.
Observed Where-question How-question
efficiency
Efficiency Efficiency of benchmark Best achievable efficiency
Company A 100 €/t CO2 120 €/t CO2
150 €/t CO2
Company B 200 €/t CO2 300 €/t CO2
productive efficiency analysis (How-question) the next available
resource would probably be shifted towards company A and thus to
the less efficient company from the viewpoint of the societal level.
This would have a negative impact on the degree of sustainability on
the societal level. The How-question is of interest whenever we want
to identify the potential that a decision maker within a specific
company has when it comes to optimising resource use within that
company. It does not allow us to answer any question regarding the
efficiency of resource use on a societal level.
Assessments that are based on the How-question will only be
consistent with (but not necessarily the same as) the SV approach
whenever less efficient entities on a societal level will also have a
larger improvement potential than more efficient entities on a firm
level. Put simply, a resource hungry company that operates close to its
maximum attainable efficiency will receive a high ranking according
to the assessment of KK despite the fact that its resource efficiency
trails the efficiency that is attained on a societal level as reflected in
the SV approach. If the Where-question was to be answered on the
basis of this approach the efficiency of resource use would be reduced
rather than increased on the societal level.
More generally, it becomes evident that there is a considerable
potential for misspecification if the two assessment perspectives are
mixed or confused. Kuosmanen and Kuosmanen (2009-this issue) do
not appear to be aware that they claim to address the Where-question
but only provide an answer to the How-question. Rather it seems as if
they claim to assess the validity of measuring SV according to our
initial proposition — a measure that exclusively addresses the
efficiency of resource use based on the Where-question — by using
the rationale of productive efficiency analysis that is entirely and
exclusively concerned with the How-question. This misspecification
and confusion of perspectives represents the first and most serious
misfit of KK's critique of SV. We think that one can hardly expect that
an allocative problem on the societal level can be validated by using a
technological efficiency analysis from the individual firm level.
However, it seems that KK are exactly trying to do that. This
misspecification of their analysis translates into two further concep-
tual misfits that we address in the two following sections.
3. The definition of opportunity costs
KK further criticise the definition of opportunity costs that forms
the conceptual basis of SV. In fact, the core contribution of the SV
approach is to apply the notion of opportunity costs (Bastiat, 1870;
Green, 1894; Haney, 1912; Huang, 1933) from financial economics to
sustainability assessment. To create SV companies must at least cover
the opportunity costs of their economic, environmental and social
resources. We agree with KK that opportunity costs can be defined as
the return that would have been created had the resources been used
in the best available alternative. However, and this follows directly
from the misspecification of perspective of KK shown above, we
disagree that the best available alternative and thus opportunity costs
should be determined on the individual firm level. Rather, by
following the methodological tradition of financial economics we
argue that the best available alternative is defined by an average
return on resources of many different companies. In this section, we
will show that the definition of opportunity costs in the financial
markets actually represents the appropriate definition of opportunity
costs if the allocative Where-question is addressed under the
presence of risk. For the development of the SV approach in our
original article in Ecological Economics (Figge and Hahn, 2004a), we
trusted that the foundations of financial economics are known to the
reader. In the following, we briefly address the rationale behind the
definition of opportunity costs in financial markets in order to show
the logic of the definition of opportunity costs for SV assessments.
In the financial markets a typical distinction is made between
decisions under certainty and decisions under risk and uncertainty.4
Investors are exposed to risk whenever we do not know the future
return of an economic entity, i.e. the return on capital or the return on
another resource, for sure. Almost all decisions on resource use are
made in a condition of risk. In the financial markets it is assumed that
people are risk averse, i.e. they prefer certain outcomes to uncertain
outcomes.
In the context of certainty the best alternative to one investment is
one other investment that has the highest return possible. As we can
see this is similar to the definition that is used by Kuosmanen and
Kuosmanen (2009-this issue) and in productive efficiency analysis in
general. Even if KK have not stated their assumptions regarding risk
and certainty it appears that based on their definition of opportunity
costs they assume certainty. This might be a fair assumption if one
seeks to optimise the resource use within an individual firm (How-
question). When answering the Where-question the opportunity
costs of the resource use of one economic entity are only defined by
the resource use of the one other economic entity that yields the
highest return if there is certainty.
To assume certainty is considered to be unrealistic in the overwhelm-
ing majority of decision making situations in the financial markets. In most
cases, we do not know the expected return on capital of companies for
sure. Consequently, the impact of risk on decision making has been
discussed already more than 100 years ago (Hawley, 1893; Haynes, 1895).
The fact that diversification plays an important role in this context has also
been known for quite some time (Hardy, 1923). Already on the basis of
what was known more than 80 years ago we can conclude that for risk-
averse investors a better alternative to investing in a single economic
entity is to invest in many different economic entities at the same time.
This leads to risk reduction through diversification and thus to a higher
utility for the risk-averse investor. In terms of opportunity costs we can
conclude already at this stage that in the presence of risk the best avail-
able alternative to investing in one economic entity will be to spread the
investment across many economic entities.
Based on the work of Markowitz (1952, 1959) on the one hand and
Sharpe (1964), Lintner (1965a, 1965b) and Mossin (1966) on the
other hand we can come up with a more precise definition of oppo-
rtunity costs under risk. Markowitz (1952, 1959) developed Modern
Portfolio Theory (MPT). MPT shows the link between the return and
risk of individual securities and the return and risk of a portfolio of
securities and shows the way an optimizing investor would behave.
The work of Sharpe, Lintner and Mossin that is known today as the
Capital Asset Pricing Model (CAPM) describes an economic equilib-
rium that is attained when all investors behave in the way described
by Markowitz (1990). Both MPT as well as the CAPM are described in
all main textbooks on finance (see e.g. Brealey and Myers, 2003) and
this is not the place to discuss these theories in any detail. However, it
is worthwhile pointing out the main consequences of these theories
for investment behaviour and thus opportunity costs.
One of the most important implications of MPT and CAPM is that
risk-averse investors will not only diversify but they will also, inde-
pendent of their degree of risk-aversion, invest in the same portfolio of
4
In the following we will not distinguish between risk and uncertainty.
 F. Figge, T. Hahn / Ecological Economics 69 (2009) 244–249
risky securities (see e.g. Lintner, 1965a).5 This portfolio can be referred to
as the market portfolio. Investing in fewer or even only a single risky
security would be considered irrational. Put differently, as financial
economics has shown it is rational for investors to allocate resources to the
same degree to the same (risky) firms to arrive at an optimal allocation of
resources from a societal level (Lintner, 1965a, 1965b; Mossin, 1966;
Sharpe, 1964).6
As a consequence, on financial markets the best alternative use of
capital and thus the opportunity costs of capital are not determined by
the single best capital efficiency that is achieved by an individual firm.
Rather, the best available alternative is represented by the market
return on capital and thus not by the return on the level of the
individual firm. As a consequence, optimal allocation of capital from a
societal perspective (and not from a single firm's point of view) will be
achieved.
The SV approach extends this logic of the financial markets from the
use of capital to other resources. If we assume that there is certainty then
the economic entity with the highest return reflects the appropriate
opportunity cost. We believe that this assumption is unrealistic more
often than not. The return of economic entities cannot be predicted with
certainty most of the time. Consequently, the appropriate opportunity
cost will always consist of a portfolio of economic entities. The SV
approach as it was presented in Ecological Economics assumes that the
return of all economic entities that are assessed is risky and that they all
covary to the same degree with the market and are thus subject to the
same non-diversifiable risk. In this case the appropriate opportunity
cost is reflected by the market average of all risky economic entities. This
assumption was for example also at the heart of the ADVANCE survey
(ADVANCE Project, 2006) that KK criticise in their article.
We appreciate that the assumption that all companies have the same
degree of risk is unrealistic. It is however less restrictive than KK's
implicit assumption that all companies are risk free. It becomes evident
that for answering the Where-question, i.e. the question where re-
sources should best be allocated to achieve overall optimality,
opportunity costs are only defined by the resource efficiency of the
single economic entity that yields the highest return when there is
certainty. KK seem to ignore that the definition of opportunity costs for
answering the Where-question needs to take into account risk. Either KK
try to address the Where-question and make the restrictive assumption
that all companies are risk free. Or they are bluntly applying the rationale
of productive efficiency analysis that addresses the How-question on the
individual firm level to SV that addresses the Where-question from a
societal point of view. We rather believe that the latter is the case. We
wonder whether KK notice this fundamental conceptual misfit and are
aware that they apply an inappropriate notion of opportunity costs to
test the validity of SV. This misspecification of opportunity costs
represents the second mismatch of KK's criticism of SV.
4. The role of production functions
The third major criticism of KK regarding our initial conception and
measurement of SV refers to the understanding and role of production
functions. KK claim to show that our initial notion of measuring SV is
5
This is not the place to develop the underlying argument in great detail. We refer
the interested reader to the Capital Asset Pricing Model (CAPM) in this context, which
is discussed in most good text books on finance. We are aware that CAPM is based on
some strong assumptions (e.g. homogeneous expectations of all investors). It is
worthwhile noting in this context here that even if these assumptions are not given it
would still be irrational not to diversify.
6
Investor will of course have different degrees of risk-aversion. They choose the
portfolio that fits their risk preferences best by putting a part of their investments in a
risk free security and the remaining part in the market portfolio. It is important to note
once again that they will all invest in the same portfolio of risky securities. The
opportunity cost of an investment in a risky economic entity will therefore always be
an investment that covers many different risky securities. Depending on the degree to
which the economic entity covaries with the other economic entities the opportunity
cost might also contain some investment in a risk-free alternative.
247
based on very strong and restrictive assumptions regarding the
underlying production function. It is worthwhile noting that our initial
article (Figge and Hahn, 2004a) did not discuss any production
functions. As we will show in this section we do not have to consider
production functions on the firm level for SV assessments. This is due to
the financial economics perspective that SV takes and the nature of the
Where-question.
As argued above, when it comes to the assessment of resource use
there is a difference between the Where-question on the one hand and
the How-question on the other hand. Put in less colloquial terms there is
a difference between financial economics and approaches that follow
the tradition of the theory of the firm such as productive efficiency
analysis. Financial economics is mainly concerned with the allocation of
resources across many different economic entities and often across time
in an uncertain environment (Merton, 1997). For doing so, financial
economics takes the perspective of the investor. Economic theories that
follow the theory of the firm take the perspective of the firm. Productive
efficiency analysis falls into the latter category of theories as it seeks to
optimise the use of resources on the firm level and from a managerial
perspective. Production functions are one of the tools that are typically
used by such approaches on the firm level. As shown above, the SV
approach takes the perspective of investors that allocate their resources
across firms.
The two perspectives are of course interrelated. Investors give
resources to firms and firms create a return for investors. As has been
known in economics for quite some time the two views are however not
the same. Investors assess resource use from a different perspective than
firms. This is manifested among others in the principal–agent problems
that have been vividly discussed in economics for quite some time
(Fama, 1980; Fama and Jensen, 1983; Jensen and Meckling, 1976). As a
consequence, the valuation of the use of the same resource will differ
between both perspectives, which leads to these agency problems.
Investors are for example not interested in a reduction of diversifiable
risk while firms have an interest to reduce this risk as this risk, if it
materializes, can endanger the survival of the company. Investors can
and firms cannot diversify this risk. In economics this has led to the
debate whether firms and their managers use economic resources for
their own sake or for the benefit of their shareholders. Applied to the
context of the SV approach we need to ask whether companies use
resources for the firms' own sake or for the benefit of society.
In financial economics the cost of capital is defined from the per-
spective of investors. In a market economy the cost of capital as
defined from the perspective of investors sets the price of capital from
the perspective of the firm. As Modigliani and Miller have shown in
their seminal article: “[…] the marginal cost of capital to a firm is equal
to the average cost of capital […]“ (Modigliani and Miller, 1958, p.
288; emphasis added). Note that the average cost of capital is defined
from the perspective of the investors. As Modigliani and Miller also
developed, a firm that is acting in the best interests of its stockholders
will exploit any investment opportunity as long as its marginal return
on investment is equal or greater than the average cost of capital from
the perspective of the investors, i.e. market return on capital
(Modigliani and Miller, 1958). Which production technology and
thus production function is used in this context is not relevant from
the perspective of the investors and is thus usually not discussed in
financial economics.
As the SV approach builds on the analogy of financial economics it
adopts the perspective of investors. SV is concerned with the question
where resources should best be allocated to achieve an optimal return
from the societal perspective. It is not about how different individual
firms can optimise their resource use on an operational level. SV thus
measures the contribution of a single entity to an improvement of the
overarching efficiency. Most importantly, SV extends the logic of
financial economics that is restricted to economic capital to cover also
environmental and social resources. The rationale behind the
allocation and the assessment according to the SV approach thus
248 F. Figge, T. Hahn / Ecological Economics 69 (2009) 244–249
remains the same as in financial economics: From the perspective of
investors — who now allocate economic, environmental and social
resources — based on opportunity costs it is not relevant which
production technologies are used on the single firm level. SV never
intended to discuss production technologies and production functions
and as we have shown: it does not have to.
In this respect SV differs fundamentally from existing research that
takes a firm perspective which is the view that is also adopted by
Kuosmanen and Kuosmanen (2009-this issue). We agree with KK that
there is little new in adopting such a firm perspective in a sustainability
context. Most importantly, SV was never proposed as a measure based
on the firm perspective. Once one accepts that SV is based on a market
logic rather than a firm logic it follows that production functions are
simply not relevant for SV assessments. Despite this fundamental
conceptual difference KK act as if SV was a concept to assess operative
efficiency on the firm level and thus constantly refer to production
functions in order to examine the validity of SV. This represents the
third mismatch of their critique of SV.
5. Discussion of implications
Before concluding our response we briefly sketch out some of the
most important implications of the argument developed above. In this
context, we refer to implications from the perspective of welfare
economics and for sustainability assessment.
5.1. Implications from the perspective of welfare economics
As both the argument of Kuosmanen and Kuosmanen (2009-this
issue) and SV follow an efficiency logic one might now be led to
believe that both approaches will arrive at the same result. Using
some basic insights of welfare economics it becomes evident that
there is further optimisation potential from the societal level even
after KK's optimization. We have developed the argument and its
underlying logic in another article (Figge and Hahn, 2004b) and we
refer to this article for a more elaborate explanation.
In their article KK define the opportunity cost of a firm as the
individual best practice technology of each firm. The opportunity costs
will thus differ from firm to firm. Consequently, the ratios of marginal
products of any two resources are likely to differ. As we can learn from
welfare economics (Allais, 1943; Hotelling, 1938; Lange, 1942; Lerner,
1934, 1944) and as we have shown earlier (Figge and Hahn, 2004b)
there is further optimisation potential whenever the ratio of marginal
products of any two resources of any two firms differ. Optimality on a
societal level has only been reached and thus the Where-question
only been answered when the ratio of marginal products is identical.
Whenever the ratio of marginal products differs, production can be
increased at constant resource use by reallocating resources between
firms. Note that such reallocation does guarantee a constant overall
level of resource use which is why SV is conceptually in line with the
notion of strong sustainability.
Conceptually, there follows a fundamental rule for the optimal allo-
cation of resources if one aims to answer the Where-question: The ratio of
opportunity costs of different resources must be identical for all economic
entities. As soon as the ratio of opportunity costs differs there is room for
improvement through a further reallocation of resources. It is easy to see
that this is the case of the SV approach as developed in our article in
Ecological Economics (Figge and Hahn, 2004a) and that it is not the case
with the argument of Kuosmanen and Kuosmanen (2009-this issue).
5.2. Implications for sustainability assessment
We believe that there are at least three reasons to look at sus-
tainable development from a higher level perspective rather than
purely from a firm perspective. First, sustainable development is a
societal concept (Hanley, 2000). It is therefore useful to optimise the
use of resources from a societal perspective rather than from the
perspective of individual firms. This corresponds to the view taken by
financial economics where capital is allocated according to market
efficiency and not single firm efficiency. Obviously, the SV approach
establishes a micro–macro link as it assesses the use of economic,
environmental and social resources in companies from an overarching
societal perspective. In contrast, productive efficiency analyses as for
example used by KK entirely remain on an individual firm level. As a
consequence, they can only establish an indirect link to the societal
goal of sustainable development at best.
Second, environmental and social resources are, similar to economic
capital, resources without a price tag. Financial economics thus had to
solve a similar pricing problem as one can find with research into sus-
tainability assessment. Financial economics price economic capital from a
macro perspective using opportunity costs. Even if the fundamental idea
of applying opportunity cost thinking to the assessment of environmental
resources has been proposed in the late 19th century (Green, 1894), it is —
to the best of our knowledge — only until the proposition of the SV
approach that this idea was taken up conceptually. Most importantly,
pricing environmental and social resources with opportunity costs as
proposed in our initial paper in Ecological Economics (Figge and Hahn,
2004a) circumvents the notorious difficulties researchers face with the
pricing of environmental and social externalities. Assessing corporate
sustainability from the firm level perspective adopted by KK does not take
into account the pricing problem from the societal perspective.
Third, financial economics deal with decisions under risk and lay
down rules for rational decisions under risk. Most decisions regarding
our use of environmental and social resources are also decisions under
risk (Figge, 2005). SV as proposed initially deals with risk by assuming
that the use of environmental and social resources is subject to the
same risk in all firms. This is a restrictive assumption. However, it is
less restrictive and less unrealistic than the implicit assumption of KK
that the use of environmental and social resources is risk free, i.e. that
the return that can be achieved with these resources can be predicted
with certainty. However, it seems to us that KK are not aware of the
relevance and the role of risk in the context of the Where-question.
6. Conclusion
Overall, we think that the article of KK is both interesting and
disappointing. It is interesting as their research takes a statistically
sound and elaborate look at the efficient use of resources on the level
of individual firms. Their research inscribes itself in the tradition of
productive efficiency analysis which ultimately recurs to the theory of
the firm. They contribute to extend such theories and techniques to
the use of resources other than economic capital. However, as the
authors note themselves this is not new.
At the same time, the article is disappointing as it commits a cardinal
sin in theory testing: The authors misspecify the underlying model that
they claim to test. Thus, the fact that the result of their research appears
to contradict the SV approach is not a reason for concern but reassuring.
As we have shown in this response, the argument of KK suffers from
confusing the fundamental perspective of SV that is based on financial
economics with a productive efficiency perspective. Put simply, KK
confuse the Where- with the How-question. Consequently, KK treat and
test SV as if it was an approach to analyse resource efficiency from a
single firm production perspective. This fundamental misspecification
leads them to an inappropriate notion of opportunity costs and a
misleading focus on production functions. Ultimately, KK fail to ap-
preciate that SV never intended to analyse or answer the question
whether resources are being used using the most efficient production
technology on the individual firm level. Rather — and in strong analogy
with financial economics and established capital assessment techniques
on financial markets — SV is concerned with the question how resources
should be allocated among different companies to achieve an overall
optimal use of economic, environmental and social resources. The
 F. Figge, T. Hahn / Ecological Economics 69 (2009) 244–249
rationale for optimisation with SV thus resides on the societal level. This
is why a productive efficiency analysis that entirely rests within a single
firm perspective as deployed by KK is simply inappropriate to test the
validity of measuring SV. There is no use in “drawing a sharp distinction
between the conceptual idea and the operational estimator” of SV as
Kuosmanen and Kuosmanen (2009-this issue) claim to do if the
conceptual idea is fundamentally misinterpreted. As a result, rather than
providing novel insights into how Sustainable Value might be measured
in a better way, KK do not measure Sustainable Value at all. Ultimately,
this provides an important reminder to all of us: We must make sure to
understand a conceptual idea before testing it empirically.
Acknowledgments
We would gratefully like to acknowledge financial support from the
6th Framework Programme of the EU for the SVAPPAS project (www.
svappas.ugent.be) under project code SSPE-CT-2006-44215 as well as
funding from the MISTRA foundation. Furthermore, we would like to
thank the participants of the SVAPPAS project for challenging discus-
sions. We are most grateful for the tremendous contribution of our
colleagues Andrea Liesen and Lydia Illge (both IZT Berlin) and Ralf
Barkemeyer (Queen's University Belfast). Finally, we would like to thank
the editorial team of Ecological Economics for providing us the
opportunity to publish this response. The usual disclaimers apply.
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