Principles of a Responsible Business

4264677_20768244_FianlAssessment (3)

Essay 1

Stakeholder versus Shareholder Theory

Introduction

There has been an ongoing debate on the purpose that modern corporations should pursue. Many scholars have recently drawn an impressive lot of theories and research in arguing that the only purpose of business is supposed to be maximizing the shareholders’ wealth (Zhang, 2011). There is also growing advocacy by diverse groups, including the customers, shareholders of institutions, academics, social and environmental activists, regulators, non-governmental organizations (NGOs), businesses, and many other groups for corporations to have responsible programs for the environment and the people affected by the activities of the organizations. There are, therefore, two conflicting theories of the purpose of corporations. The shareholder value theory maintains that the sole purpose of any corporation is maximizing the shareholders’ financial returns. The stakeholder value theory dominates corporate social responsibility (McGrath & Whitty, 2017). This paper brings a scenario of The Bank in the 2001 Australian film, which is in a dilemma between the two contrasting theories. It argues how stakeholder and shareholder theories apply in a dilemma and gives the perspectives of solutions from the different conflicting schools of thought.

The argument in support of the bank CEO’s Position

The Bank CEO’s position on the shared situation presents an idea supporting the shareholder value theory. This theory suggests that the sole focus of businesses should be maximizing profits and optimizing wealth for the shareholders (Castelo, 2013). This theory has been the dominant economic theory in business. According to the shareholder value theorist and other capitalists, the only social responsibility of any business is that they should work to benefit the shareholders. The performance of a business is measured by the value it adds to the investments of the shareholders, and therefore every business should focus on the shareholder interests solely (Pfarrer, 2010).

Three vital assumptions lead to the support of the shareholder value theory (Rzepka, 2018). The first assumption is that the social and environmental costs of doing business should only be borne up to the extent required by the law. The business should not bear any other costs. The firm is, therefore, not tied to spending on environmental and social programs that are not included in the law of doing business. The second assumption is that self-interest is the biggest motivator to do business. Therefore businesses should utilize rationality for their interests for the efficiency of the business and maximize value for society. The third assumption is that business forms the focal point of many contracts. They should, therefore, give more attention to such contracts, which bring more profitability to the firm.

The Bank CEO argues that the board should keep the advice on the massive stock market crash to themselves so that the business maximizes the returns for its shareholders. His argument makes sense since the sole focus of the business should be achieving optimal returns on their investment and benefiting the shareholders. Secondly, business performance is measured on the returns they bring to the shareholders. Therefore, if The Bank advises the public on the anticipated stock market crash, they will not be able to experience optimal performance. Lastly, it is not a requirement by the law for the business to release the information to the public; rather it is just a duty that the business can avoid and still be within the law.

The argument against the bank CEO’s position

The stakeholder value theory gaining momentum in the modern business world offers an alternative purpose for businesses. It suggests that businesses’ purpose is serving society’s broad interests beyond the firms’ economic value creation (Rönnegard & Smith, 2013). Stakeholder value theorists argue that businesses have to balance the interests of all the stakeholders and not just the shareholders (Tapaninaho & Kujala, 2019). The theory capitalizes on the idea that a business depends on the different stakeholders for its success; therefore, all stakeholders have some stake in the business (Vidal & Berman, 2015). This theory gives the idea that the ownership of a business is beyond the traditional owners awarded by the law, rather any stakeholder who contributes capital and any other contribution should also enjoy the equity (Harrison & Wicks, 2013).

Despite the purpose that companies choose to focus on, most businesses try to balance between the stakeholder and the shareholder theories. They try to maximize shareholder value and also provide service to society. They are finding ways to maximize shareholder value and their contribution to society.

However, there have been controversies on who is a stakeholder. It brings up the question of whether a stakeholder is whoever is affected or affects the business in any way or is the person who contributes to the business’s economic activities. Stakeholder value theorists take the first answer because if they take the second, the theory becomes an extension of the shareholder value theory and not an alternative one (OUBIHI & ELOUIDANI, 2016).

Four categories of stakeholders include the primary non-social, secondary non-social, primarily social, and secondary social (Benn, Abratt, & O’Leary, 2016). The primary social and non-social stakeholders play an essential role in the business’s success, while the secondary social and non-social have less influence.

In the case of The Bank film, there is a strong sense of responsibility to society by the board member who suggests that the company must release information about the crash of the stock markets to the public. This way, the Bank shares the benefits of the crashing with the society that forms the secondary social stakeholders, and the shareholders who form the primary social stakeholders.

Arguments considered to be stronger

By closely analyzing the two conflicting theories on the purposes of corporations, one can identify that the stakeholder value theory presents itself as optional to businesses. There is no clear explanation of who the stakeholders are, and therefore, businesses that focus on such a purpose may lose their eye on being efficient. The shareholders who invest in business do so, hoping to get maximum returns. Therefore, it would not be efficient for the business to shift its purpose to benefit those who do not have a strong influence on its success. Therefore, the shareholder theory is stronger than the stakeholder theory. However, research has shown a close positive relationship between socially responsible companies and customer loyalty levels  (McAllister, 2016). Companies also enjoy other benefits for being responsible by empowering their communities that form their external social stakeholders.

Conclusion

Corporations often face the dilemma of the theory they should adopt to manage their purpose. The business world continues to measure a firm’s success or performance through its returns to investors. However, businesses have a responsibility towards the communities they coexist with as they form their customer base, and hence, they directly influence the growth of the business. In conclusion, businesses should, therefore, find a way to balance their purposes to avoid losing focus on the core business and also losing focus on their social and environmental responsibility.

References

Benn, S., Abratt, R., & O’Leary, B. (2016). Defining and identifying stakeholders: Views from management and stakeholders. S.Afr.J.Bus.Manage.2016,47(2), 1-11.

Castelo, B. M. (2013). Encyclopedia of Corporate Social Responsibility. Berlin, Heidelberg: Springer.

Harrison, J. S., & Wicks, A. (2013). Stakeholder Theory, Value, and Firm Performance. Business Ethics Quarterly 23:1 (January 2013); ISSN 1052-150X, 97-124.

McGrath, S. K., & Whitty, J. (2017). Stakeholder defined. International Journal of Managing Projects in Business · July 2017, 721-748.

OUBIHI, J., & ELOUIDANI, A. (2016). The Stakeholder Value: Contributions and Limitations. International Journal of Business and Social Science Vol. 7, No. 4; April 2016, 86-90.

Pfarrer, M. D. (2010). What is the Purpose of the Firm?: Shareholder and Stakeholder Theories. In J. O’Toole, & D. Mayer, Good Business: Exercising Effective and Ethical Leadership (pp. 86-93). New York: Routledge.

Rönnegard, D., & Smith, N. C. (2013). Shareholders vs. Stakeholders: How Liberal and Libertarian Political Philosophy Frames the Basic Debate in Business Ethics. Business & Professional Ethics Journal, 32:3–4, 2013, 183–220.

Rzepka, A. (2018). Ethical aspects of shareholder value objective. The Małopolska School of Economics in Tarnów Research Papers Collection, vol. 40, Iss. 4, December 2018, 25-35.

Tapaninaho, R., & Kujala, J. (2019). Reviewing the Stakeholder Value Creation Literature: Towards a Sustainability Approach. Social Responsibility Sustainability 15 January 2019, 3-36.

Vidal, N., & Berman, S. (2015). Stakeholder Theory and Value Creation Models in Brazilian Firms. Rev. bus. manag., São Paulo, Vol. 17, No. 55, 911-931.

Zhang, Y. (2011). Analysis of Shareholder Theory and Stakeholder Theory. Fourth International Conference on Business Intelligence and Financial Engineering, (pp. 90-92). Wuhan.