Can do-good ethos survive public ownership? Etsy is a test.

As a software engineer at Etsy, the online crafts marketplace, Kiron Roy wasn’t in the habit of dialing into management’s quarterly earnings call with analysts. But when the company’s new CEO held his first earnings call on Aug. 3, three months after his predecessor was abruptly fired for not making enough money, Mr. Roy was all ears.

From a financial stance, the news was good: Etsy reported a quarterly profit, only its second since it went public in 2015. Analysts were assured that the company was in better shape after cutting 23 percent of its workforce in May and June and focusing more on marketing and payments. The share price duly rallied and has since hit a yearly high.

But where were the social and environmental values that Etsy was supposed to embody, the idea that people come before profits? Roy didn’t hear them. “We have kind of set aside those values in the interest of pursuing short-term gains in order to appease Wall Street,” he says.

At most listed companies, such criticism might be considered jejune. But Etsy has prided itself on being different, part of a new wave of ethical enterprises that want to rewrite the rules of capitalism. Its apparent retreat in the face of shareholder pressure has raised doubts over both the viability of its model and the broader challenge for socially responsible companies that go public.

Simply put, is Wall Street open to do-gooder companies that don’t put shareholders first?

Perhaps not. Even investors who look for start-ups that promise long-term, sustainable growth say that it’s a tough sell in stock markets that are driven by short-term profits. That caps the growth potential for ethical companies, given that most equity capital goes into public markets.

Solar panels, composting, and parental leave can animate employees and build customer goodwill. But when it comes to corporate finances, what fund managers see are the bottom-line costs, says Matthew Weatherley-White, managing director of the CAPROCK Group, a wealth management company based in Boise, Idaho, that has invested in ethical companies.

“I think the public markets aren’t ready yet,” he says. “There’s no mechanism to discount the future value [of a stock] based on non-financial metrics.”

Rise of the B Corps

Still, even as Etsy stumbles, other companies with similar missions are raising capital from hard-nosed investors, says Rick Alexander, a corporate lawyer in Wilmington, Del., who works at B Lab, a nonprofit that certifies ethical companies, including Etsy. Others include Patagonia, Warby Parker, Ben & Jerry’s, and Kickstarter; most are small and medium-size enterprises.

Known as B Corporations, such companies must undergo audits of their environmental and social practices and, when possible, convert into a public-benefit corporation, an entity recognized in 35 states. By doing so, firms legally mandate managers to consider the interests of all stakeholders, from suppliers to employees, as well as the environment, and not just profit-hungry shareholders.

In February, Laureate Education, a for-profit college company that is registered in Delaware as a public-benefit corporation, raised $490 million in an initial public offering. “They didn’t get a single question on their [pre-IPO] roadshow about being a benefit corporation,” says Mr. Alexander. 

Other privately held “B Corps” have raised money from venture capitalists who like their business plan, even if they don’t fully embrace the idea that other stakeholders matter equally, he says.

“Ultimately stockholders have to understand and believe that there’s a better way for businesses to be run for their long-term interest. And if they don’t believe that, then none of it works because they’ve got the money,” Alexander says.  

When Roy joined Etsy in 2014, the hand-crafted shoe was on the other foot. Funders were lining up to invest in a growing community of small merchants selling cute bags and one-of-a-kind jewelry. By early 2015, when Goldman Sachs was preparing its stock offering, Etsy could point to nearly $2 billion in sales, double what it had two years earlier.

'Etsy can be a model'

The company could also point to its ethical standards – and it did, adding that this mission would continue. “We don’t believe that people and profit are mutually exclusive,” then-CEO Chad Dickerson wrote in 2015. “We believe that Etsy can be a model for other public companies by operating a values-driven and human-centered business while benefiting people.”

Roy says these standards helped to make Etsy a rewarding place to work, along with the perks that it offers. He works at the firm’s headquarters in Brooklyn, an airy expanse of reclaimed wood and recycled water where food waste is composted and yoga spaces abound.

“The public commitment [to ethical values] allows you to bring in people who want to work at Etsy for less than they would get at another place that doesn’t care about the environment and other social goods,” he says.

The firm’s fancy digs and its benefits policy – six months parental leave – have run into criticism. Mr. Dickerson was ousted in May after a hedge fund lobbied the board to cut costs, slash headcount, and consider selling the company to the highest bidder. Some have drawn parallels with Whole Foods, the grocery chain with its own brand of “conscious capitalism” that was sold to Amazon in June after a similar campaign by activist shareholders.

The turmoil at Etsy jolted Roy, who this month launched a public petition urging the board and management to respect the company’s ethical mission and keep employees better informed. It has more than 150 signatures, including from Etsy sellers and other interested parties, he says.

Roy acknowledges that an earnings call with analysts is about numbers, not values; he also says he was cheered to hear the renewed focus on revenue growth and new opportunities, since he wants to Etsy to succeed. Still, what worries him and other petition signers is that the firm may dilute its social responsibilities – its plan to convert into a public-benefit corporation has been put on hold – as it concentrates on raising its stock price.

This is a reasonable fear in a cost-cutting scenario, says Mr. Weatherley-White, whose firm (also a B Corp) manages about $3 billion in assets. “There is a cost associated with social responsibility,” he says. This doesn’t mean that companies shouldn’t stick to their missions, but they face a tension as they grow larger and look for efficiencies.

Better to stay private?

To some mission-driven entrepreneurs, this is an argument for staying private. “If you want to take on the devil, go on and do it. Investors aren’t the only way to get money,” says Thomas Kemper, who runs Blue Dolphin, an eco-friendly office supplies retailer in Dallas.

Mr. Kemper founded his company in 1993 with $60,000 in capital. He has reinvested its profits and not raised money that comes with strings attached. Blue Dolphin is a B Corp, and like most it remains relatively small. “I don’t think we’re self-limiting. We don’t want to exceed what we think is a reasonable path for our company,” he says.

To be sure, selling shares to the public isn’t the only end goal for ethical startups.

Some have sold themselves to public companies that wanted their brand and mission. Ben & Jerry’s, the ice-cream maker, is a subsidiary of Unilever, a Dutch-Anglo food giant. Danone, a French multinational, bought Happy Family, an organic baby-food startup, in 2013, after the company turned down other investors who didn’t share its social mission. 

Warby Parker, an eyewear firm that donates a pair of glasses to the needy for each one sold to the public, has raised over $200 million in venture capital but so far not filed for an IPO.

How Etsy navigates the cross-currents of shareholder pressure and ethical values will be closely watched. As an early B Corp to go public, it remains a touchstone for a broader movement. But it’s also a cautionary tale about the need to keep an eye on fundamentals. 

“I wouldn’t be in business if I didn’t show a profit. If we’re not making a profit, we’re not here,” says Kemper. 

[Editor's note: The article's penultimate paragraph was corrected to reflect that another B Corp went public in the US before Etsy.]