From hired hands to higher aims?
Over the last several decades, maximizing shareholder value has become widely accepted as the duty and legitimate purpose of business managers. Many scholars propounded this ideology, and probably none more forcefully than Milton Friedman. In a well-known article in the New York Times Magazine in 1970, he argued that “The Social Responsibility of Business is to Increase its Profits“. In his book From Higher Aims to Hired Hands, Harvard Business School professor Rakesh Khurana describes how this view replaced a conception of the business manager as a steward of the public interest responsible for skillfully balancing the interests of corporate stakeholders to sustain the enterprise and create value for society. William Lazonick and Mary O’Sullivan provide a complementary perspective.
Unfortunately, while maximizing shareholder value squares nicely with neoclassical economic theory, it can cause serious problems in practice. In my research project on Public Interest Capitalism, we link shareholder value maximization to inequity, short-termism and underinvestment, and deterioration of social capital. In a nutshell, there are three fundamental problems with relying on shareholder value maximization as the criterion for corporate management. First, market incentives (hence profit) may correlate only slightly or even negatively with social welfare (on this point, see David Grewal’s book Network Power). Second, markets can impede innovation (Mary O’Sullivan provides the details in Contests for Corporate Control). Third, by reducing the purpose of the company to generating as much profit as possible for a diffuse external constituency, shareholder value maximization decrease the identification of employees to organizational goals, thereby hindering learning and efficient operation. For a different but complementary perspective, see Simons, Mintzberg and Basu’s ”Memo to: CEOs“.
Fortunately, it appears that the shareholder value maximization movement may have run its course–albeit after bringing the global economy to the brink of collapse. A group of MBA students at Harvard Business School, concerned about business ethics and inspired by Rakesh’s work, have started MBA Oath, a movement to professionalize management. The New York Times has the story: “A Promise to Be Ethical in an Era of Immorality“. This is a very encouraging development.