A tale of two theories
In a seminal article written for The New York Times Magazine in 1970, Milton Friedman, one of the most influential economists of the 20th century, made the famous pronouncement above. More than any other theory of corporate purpose, the version Friedman espoused — and emphasized by many since — has underscored the last half century of business and investment. Corporate management and investor actions have focused almost exclusively on increasing shareholder returns as the primary goal and determinant of corporate success. The doctrine is referred to commonly as the shareholder wealth maximization theory (SWM or simply “shareholder theory”).
Increasingly, however, this theory is being challenged. Larry Fink, head of the largest asset manager in the world,3 proclaimed in his 2018 letter to CEOs that companies must “serve a social purpose.” Embedded in Fink’s statement is the idea that companies exist to fulfill many obligations. Beyond maximizing shareholder returns, firms need to create value for their employees (frequently proclaimed by many employers to be their most valuable assets), their customers (without whom no company could survive) and society at large (which provides the legal and economic foundations upon which companies are built).4 Fink’s statement was recently echoed by the Business Roundtable (BRT), a group of US CEOs representing companies with over US$7 trillion in collective revenues. The BRT declared in a high-profile statement that shareholder primacy is a thing of the past, emphasizing instead that “each of our stakeholders is essential.”5
These statements can be described as aligning with stakeholder theory, the primary challenger to SWM. Stakeholder theory considers corporations to be compelled to enhance value for all of their stakeholders, rather than just maximize returns for shareholders.
In this paper, we explore the tension between the two theories, with a focus on the challenger, its drivers, its adherents and its potential implications. We then explore methods of potentially reconciling the two theories.
1 Friedman M. “A Friedman Doctrine,” New York Times, September 13, 1970, available at https://www.nytimes.com/1970/09/13/archives/a-friedman-doctrine-the-social-responsibility-of-business-is-to.html.
2 Fink L. “A Sense of Purpose (Letter to CEOs),” 2018, available at https://www.blackrock.com/corporate/investor-relations/2018-larry-fink-ceo-letter.
3 BlackRock’s total assets under management stood at US$7.4 trillion as of January 2020.
4 There is an important distinction to be made here. Value-creation is not always best measured in financial terms or by market prices. For further exposition on this topic, see Ambachtsheer K. “The Ambachtsheer Letter,” January 2019, available at KPA-advisory.com.
5 Business Roundtable. “Business Roundtable Redefines the Purpose of a Corporation to Promote ‘an Economy That Serves All Americans,’” August 2019, available at https://www.businessroundtable.org/business-roundtable-redefines-the-purpose-of-a-corporation-to-promote-an-economy-that-serves-all-americans.
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