Maximizing Owners or Optimizing Stakeholders?

Boston Globe carried an interesting article  by Leon Neyfakh exploring the idea whether enterprises exist solely to maximize wealth of their owners (shareholders), or should they look at the interest of other “stakeholders” as well.

This debate was once again triggered by the events at Market Basket after the board fired their CEO, who was well loved by the employees and customers.

The notion that enterprises are standalone entities where management works to further the interest of the owners only, gained ground when Milton Friedman advanced the argument that the businesses should not get into the realm of “social responsibility.”  To that extent Friedman has an undisputable argument.  However, the assumption that a business operates with just one single objective is pushing some businesses in an absurd direction.

The following two recent examples show the distortions being created for customers and employees, the two main pillars that keep a business enterprise going.

Credit Card frauds: High cost to customers

Take for example the credit cards frauds that have broken out like an epidemic in the last few years.  Credit card companies and issuing banks have been resisting the upgrade to the new Chip-‘n-Pin technology since the last decade. They cite high cost of transition (translated to mean reduced profits) as the main impediment. Meanwhile customers pay the price, not only as victims of such scams but also in shelling out higher interest rates (as explained by Experian) as issuing banks resort to costly insurance to contain their risk. Clearly no entity in the chain – stores, banks and credit card companies are quite sensitive to the customer’s interest, apart from the obligatory (and mostly empty) words- we take your security seriously! Seriously?

 In fact in several cases companies did not reveal the scam and theft of customer information in time! Probably they were scared of their stock prices taking a beating on the Wall Street.

A rep from a major credit card company went to a ridiculous length to justify this resistance to change “It is comparable to declaring that US drivers will now drive on the left-hand side of the road and changing all the road signs and highway entrance and exit ramps and reprogramming all the GPS systems.” 

Is this a subtext message that the businesses would be OK if some “accidents” continue to create havoc? US is the only developed country that has yet to embrace this technology (hopefully now in late 2015)!

Another disturbing (for customers) fallout of this inertia is that the field continues to be unprotected for fraudsters to keep on pillaging the merchants and customers.

Ironically the conversion cost has been estimated to be in the range of $8B. For  comparison, eMarketers has reported that the total retail sale in US was $4.5 TRILLION in 2013! 

 Collecting Subsidy from Taxpayers

The next example is about employees of some giant companies earning billions in profits. Yet some of their workers have to depend on food stamps and public assistance at taxpayer’s dime. Forbes reported that Walmart workers took  $6B in public assistance last year while the company garnered a profit of $17B during the same period. A similar story goes for Fast Food Industry whose 3.65 million employees were supported by $7B from public assisted programs. 

American Banks are the most powerful and wealthy.  Washington Post reported that the while banks reaped a profit of $141B in 2013, tax payers had to support half a million of the bank tellers with $900M in subsidies like Food Stamp, EIC, Medicaid and Children’s health insurance. 

Is a business entity justified in maximizing their profits at the expense of its own workers, and depend on taxpayers to ensure the survival of their employees in order to keep the business humming? Are American taxpayers subsidizing these businesses indirectly in exchange for lower prices they pay at the counter?

Optimized we stand?

Back in 2004, after the Enron Scandal, we briefly looked at the competing and often conflicting forces a business enterprise has to balance everyday (unpublished manuscript Sarbanes Oxley Act: Defining the New Rules of Corporate Engagement).  We likened a business entity to an engine producing wealth for the society and for its shareholders.  The environmental forces constantly pull the engine’s speed lever in different directions. Investors would generally like to rev up the engine to extract the maximum gain in the shortest time. The management’s job is to keep the engine running in good shape and to leave its competition behind.  Employees seek security and gains over their working lifespan. Customers want to get their demand filled in the most efficient manner. Regulators have a mandate to ensure that there is no conflict with everyone else (public policy).   

Clearly Milton Freidman did not account for these distortions causing reverse flow of subsidy to shareholders when he made the case that maximizing profit is the only goal of a business enterprise in a truly free market economy.

It is difficult to assume that businesses would be able to operate sustainably by serving the interest of its owners only. As developments show, companies can ignore everyone else at their own peril.