Shareholder Theory
and Stakeholder
Theory
Lecture Notes
Chapter 4
CHAPTER 4
CHAPTER 4 Slide 2
Shareholder Theory and
Stakeholder Theory
What is the purpose of a corporation supposed
to be?
Should the leaders of a company focus solely
on maximizing profits, or do they have broader
obligations?
CHAPTER 4
CHAPTER 4 Slide 3
Objectives
Distinguish between the shareholder and
stakeholder models.
Identify a company’s key stakeholders.
CHAPTER 4
CHAPTER 4 Slide 4
Key Terms and Concepts
shareholders turnover
stock supplier
profit maximization distributor
shareholder model philanthropy
stakeholder model
The Corporation
A corporation is a three-part organization made up of:
(1) Stockholders, who provide the capital, own the
corporation, and enjoy liability limited to the amount of
their investments
(2) Managers, who run the business operations
(3) Employees, who produce the goods and services
The Limited Liability Company
The concept of limited liability: Members of a
corporation are financially responsible for the debts of
the organization only up to the extent of their
investments.
Differences between corporations and other business
partnerships:
(1) A corporation requires a public registration or
acknowledgment by the law.
(2) The shareholder is entitled to a dividend from the
company’s profits only when it has been “declared” by
the corporation’s directors.
The Limited Liability Company
Kinds of corporations: For-profit, nonprofit; privately
owned or owned wholly or in part by the government;
privately or publicly held.
Evolution of the corporation: The modern business
corporation has evolved over several centuries.
The corporate form developed during the Middle
Ages.
The first corporations were towns, universities, and
chartered by government and regulated by public
statute.
The Limited Liability Company
The birth of the corporation: These enterprises began in
1600, when Queen Elizabeth I granted to a group of
merchants the right to be “one body corporate” and
bestowed a trading monopoly to the East Indies.
The pooling of capital: Members of the earliest
corporations financed voyages and absorbed the losses
individually if vessels sank – since ships became larger
and more expensive, buyers had to pool capital and
share the losses.
The Limited Liability Company
The final stage of corporate evolution: The traditional
system of incorporation involved petitioning the Crown
(in England) or the state government (in the U.S.) for
charter
In the 19th century, this was replaced by a system in
which corporate status was granted essentially to any
organization that filled out the forms and paid the fees.
Corporate Moral Agency
Corporations as legal persons: In the eyes of the law,
corporations are legal persons.
This means they enjoy rights and protections that any
ordinary individuals do.
These include the right to free speech, against
unreasonable searches and jury trial.
Corporate Moral Agency
Can corporations make moral decisions? Many argue
that only the individuals within the structure can act
morally or immorally, and can be consequently held
morally responsible for their actions.
Others disagree as to whether the structure as a whole
can be liable for criminal offenses and punishable by the
law.
Not every form of punishment can be applied to
corporations.
Other Views of Corporate
Responsibility
Other views of corporate responsibility: The debate over
corporate responsibility involves several elements:
Whether it should be construed narrowly to cover only
profit maximization
Whether it should be considered more broadly to
include acting morally, refraining from socially
undesirable behavior, and contributing actively and
directly to the public good
Other Views of Corporate
Responsibility
The narrow view: profit maximization: Economist Milton
Friedman (1912–2006) argues that diverting corporations
from the pursuit of profit makes our economic system
less efficient.
Business’s only social responsibility is to make money
within the rules of the game.
Private enterprise should not be forced to undertake
public responsibilities that properly belong to
government.
Other Views of Corporate
Responsibility
Broader view – corporate social responsibility (CSR):
Says that a corporation has obligations not only to its
stockholders, but to all other constituencies that affect, or
are affected by, its behavior
This includes all parties that have a stake in what the
corporation does or doesn’t do – employees, customers,
and the public at large
It is sometimes called the social entity model or the
stakeholder model
Other Views of Corporate
Responsibility
Broader view – corporate social responsibility: The
relationship between business and society is seen as an
implicit social contract that requires business to operate
in socially beneficial ways.
Corporations must take responsibility for the unintended
side effects of their business transactions (externalities)
and weigh the full social costs of their activities.
Other Views of Corporate
Responsibility
Supporters of the narrow view argue that management’s
responsibility to maximize shareholder wealth outweighs
any other obligations.
Supporters of the broader view argue that management
has responsibilities to other stakeholders as well (to
employees, bondholders, and consumers).
CHAPTER 4
Slide 17
Case: Dodge v. Ford Motor Co
In a noteworthy 1919 lawsuit, Henry Ford was sued by
the Dodge brothers and other major shareholders of
Ford Motor Company.
The shareholders were upset because, despite fabulous
profits, Ford paid them essentially no dividends.
The shareholders especially complained about Ford’s
use of corporate profits to support humanitarian and
charitable works.
CHAPTER 4
Slide 18
Case: Dodge v. Ford Motor Co
The Michigan Supreme Court ruled in favor of the
shareholders because corporation laws at the time
required corporate boards to put shareholders first.
The Dodge brothers won enough money to start their
own car company, which still exists as part of
Chrysler.
CHAPTER 4
Slide 19
Shareholder Ethics
Shareholders own corporations.
Profitable companies are good for the
economy and good for workers.
Are corporate leaders responsible only for
profit maximization, or do they have
obligations to people who are not
shareholders?
CHAPTER 4
Shareholder Model: Slide 20
Justification
The noted economist Milton Friedman
believed that corporations have two
primary responsibilities.
First,they must comply with the law.
Second, once they have complied with the
law, they must make as much money as
possible for shareholders.
CHAPTER 4
Purpose of a Corporation: Slide 21
History
Before World War II
Corporation laws required corporate boards to
put shareholders first.
After World War II
Became legally acceptable for companies to
“do good deeds.”
Doing good is not required, but it is allowed.
In the late 1940s and early 1950s, the attitude of politicians toward corporations changed.
There existed a powerful conviction that American companies had contributed mightily to
stopping the Nazis.
CHAPTER 4
Slide 22
Stakeholder Ethics
The basic notion of stakeholder ethics is
that even if a company will make less
profit for shareholders, it must care for a
range of stakeholders if it is to behave
ethically.
CHAPTER 4
Slide 23
Key Stakeholders
Direct Stakeholders Indirect Stakeholders
Employees The environment
Customers Society
Business partners
Communities
Stockholders
Interactions between a Company and Its
Primary and Secondary Stakeholders
24
CHAPTER 4
Slide 25
Direct Stakeholders
Firms that follow the stakeholder model
frequently take all of the direct
stakeholders into account when making
difficult decisions.
CHAPTER 4
Slide 26
Employees
How a business treats its employees tells
much about the values and character of
those who run the company.
Issues related to treatment of employees
Morale
Pride in the company
Fulfillment in work
Turnover
CHAPTER 4
Slide 27
Customers
Customers provide the income necessary
for companies to pay expenses and make
a profit.
Pleasing customers and keeping them
satisfied are top priorities.
CHAPTER 4
Business Partners: Slide 28
Suppliers and Distributors
A supplier is a business that provides a
particular service or commodity that other
businesses require.
A distributor is a company that sells
products manufactured by others to
retailers.
Does the company have any ethical
obligation to remain loyal to its long-
standing suppliers and distributors?
CHAPTER 4
Slide 29
Communities
Organizations impact the communities in
which they build their factories and office
buildings.
Businesses can be good neighbors by:
Showing consideration for the needs and interests
of the community
Taking leadership roles in helping to resolve
community problems
Sharing some of their wealth with community
members who need help
CHAPTER 4
Slide 30
Stockholders
A company’s stakeholders include the
stockholders who own the company.
Companies have a legal and ethical
obligation to try to produce a profit for their
investors.
The stakeholder model calls for the needs
of shareholders to be balanced with the
needs of other stakeholders.
CHAPTER 4
Slide 31
Indirect Stakeholders
Some followers of the stakeholder model
want corporate leaders to consider
stakeholders beyond those with whom
they interact directly.
Two of these indirect stakeholders are the
environment and society.
CHAPTER 4
Slide 32
The Environment
Environmental laws are frequently minimalist:
they ban some kinds of bad behavior, but do
not require much good behavior.
Companies can often go far beyond legal
requirements when it comes to protecting the
environment.
The environment becomes another stakeholder
and is protected for its own sake.
E.g., Bitcoin mining
CHAPTER 4
Slide 33
Society / “All Mankind”
What about others who have no direct
relationship with a firm but could be
benefitted or harmed by its decisions and
actions?
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