Shareholder Value vs. Stakeholder Value
The term shareholder value is often used as a way to describe the theory that a company is successful if its shareholders are enriched. In and of itself, that theory seems perfectly sensible to most investors and not inherently controversial. Socially responsible investors, however, take issue with the way today’s corporate executives have distorted shareholder value into shareholder supremacy, which they use to justify the pursuit of short-term earnings at all costs—even if it means sacrificing long-term growth, environmental responsibility, and human rights.
When executive compensation is directly tied to shareholder value, the conflicts become obviously apparent, as was seen in the case of Enron’s spectacular collapse and the subsequent discovery that the company had engaged in years of fraud to boost shareholder value and short-term profits. “Very few people haven’t heard of Enron, but very few people understand what structurally permitted it to take place,” said Dennis Vegas, a former Enron employee who joined labor leaders and progressive activists in lobbying for greater control by workers over their own retirement investments, in a 2002 interview with Mother Jones the year after the company filed for bankruptcy. When asked whether he considered himself an activist, he said, “I don’t know if that label applies. If that’s being socially responsible, I’ll take that one.”
Corporate executives often justify ethically questionable decision-making with the adage that corporations are legally bound to maximize profits to shareholders. Yet the predominant legal precedent supporting the primacy of shareholder value is a single line in the dicta of a 100-year-old court ruling that pertained to a dispute in a privately held company, according to Lynn Stout, professor of corporate and business law at Cornell and author of The Shareholder Value Myth: How Putting Shareholders First Harms Investors, Corporations and the Public. The dispute arose when Henry Ford learned that Horace and John Dodge, who owned Ford Motor Co. stock, wanted to start a new company to rival Ford. Ford responded by drastically reducing dividends being paid out, instead lowering prices on vehicles and increasing employee wages. The Dodge brothers sued, asserting that the dividends should be paid out. The Michigan Supreme Court split the difference, ruling in favor of increased dividends, but they were not nearly as high as the Dodge brothers had hoped. Henry Ford was still able to pay his employees higher wages and decrease the price of vehicles.
The dicta of the court’s decision said, “A business corporation is organized and carried on primarily for the profit of the stockholders.” The judges who wrote the dicta could hardly have known that today’s publicly held, transnational corporations would lean so heavily on one word—“primarily”—to justify so much unethical conduct. These days, a common feature of a company’s incorporation document is the statement that a corporation’s purpose is to do “anything lawful.” The statement leaves the option open for a board to pursue what they see fit at the moment—thereby creating leeway for ethical relativism in perpetuity—instead of being held to stringent policy on what should or should not be allowed in an ever-changing world.
As socially responsible investment advisors, we see an alternative to the primacy of shareholder value: stakeholder value. We interpret this legal precedent to mean that corporations have the right to make a wide variety of choices, including those that negatively affect shareholder value—and that the qualifier of “primarily” leaves open many options. Stakeholder value takes a long-term, holistic view of a company’s success—one that considers stakeholders other than just investors: employees, customers, the state, and the broader community. According to our view, even nature should be considered a stakeholder, since biodiversity, clean water, and healthy soils are all required for business to continue, let alone thrive.
Today we are seeing many positive examples of stakeholder values at work, whether they are B-Corporations (including Natural Investments), or traditionally structured corporations choosing to take a stand. There are companies offering living wages to all employees and demanding that its suppliers end human exploitation in their supply chains. Others are building LEED certified structures, recycling their waste in innovative ways, providing employees with childcare, and working on solutions to other pressing issues. One example that recently crossed my desk is Panasonic, a company that is transitioning to renewable energy through a four-part strategy: Saving (efficiency), Creating (solar and fuel cells), Managing (grid maximization), and Storing (Tesla is using Panasonic batteries in their latest, and most affordable so far, vehicle). Although Panasonic is not a B-Corporation, its pursuit of renewable energy exemplifies the idea of a “company as a public entity.”
As fossil fuels become more resource intensive to extract—and less desirable given their carbon toll—renewable technologies such as those being implemented by Panasonic will, in the long run, provide plenty of shareholder and stakeholder value. To access these long-term and sustainable returns, however, the company must invest resources that could be used to maximize short-term shareholder returns into research and development.
By thinking more broadly, emphasizing long-term benefits for stakeholders instead of short-term profits for shareholders, we can encourage better corporate practices and help create a future where corporate values alignment isn’t just a pipe dream.