Maximising Shareholder Wealth together with Alternative Approaches - Assignment Example

Critically evaluate the concept of maximising shareholder wealth together with alternative approaches Table of Contents Shareholder Wealth Maximisation According to the concept of the Shareholder Wealth Maximisation, the main objective of the management of a firm, a company or any business enterprise is to maximise wealth for its shareholders. This concept has been the basis of the ancient and original theory of business functioning. However, in the recent times, this concept has precariously affected the economies and raised doubts on the appropriate Corporate Governance practices and Corporate Social Responsibility (CSR) (Smith L.M., n.d). Corporate Governance is the system of governing a business corporation, its functions and functionaries, creating sustainable shareholder value and safeguarding the stakeholder's interest. While on the other hand CSR refers to the obligation that a business has towards the society for using it as resource. In this era of global business, maximisation of shareholder's wealth has frequently exposed violations to the responsibility that a business has towards the society. (Roe M.J., 2001) The dawn of Globalization was characterised by reformative measures in economies, mobilization of funds and growth at unusual pace. After the initial precipitation it appeared that much had to be evaluated in terms of gains and losses as a whole. Accordingly, the concept of Shareholder's Wealth Maximisation has been critically evaluated by many and subsequently other theories have been developed. However, moving on to the other approaches a better understanding of the market conditionals is needed. Contextual Market Conditions In business economies the markets are divided according to the structural variations. There are perfectly competitive markets which is the majority and there others such as the Monopoly, Monopolistic competitive markets and the Oligopoly markets. The shareholder maximising theory has created much stir in the perfectly competitive markets such as the U.S. The points are discussed in the later part of the study. However in a monopoly market the maximisation theory can be alarming. The shareholders in a monopoly market will try to maximise the profit by producing less and hiking price. The additional premium will be increasing the shareholder's wealth if primacy norms are higher. If, however, the primacy norms are weaker the above condition will enhance the Nation's wealth. As the world is now a global village the differences in the different market no longer exists. Therefore everybody is more worried on the system and approaches to functioning rather than on the place. The instances of the bankruptcies, fraudulent practices, concentration of wealth has given rise to other schools of thought in the objective of a business. Alternative Approaches An overlook at different economies will point out broad groups in the style of functioning. There are traditional and radical players, there are modern and flexible counterparts and there are nations who have mixed approaches to structural formation. For example countries like U.S. or U.K. are known for their shareholder wealth maximisation culture, on the other hand countries like Japan and Germany are known for their Stakeholder Maximisation concept. The shareholder maximisation theory rules that the managers of a firm will conduct fiduciary duties towards the maximising the investors in the firm. The Stakeholder Concept states that the managers' goal should not only be to maximize the shareholders' wealth but also take into consideration the stakeholders. The stakeholders of a firm are the employees, suppliers, customers and the local communities. (Allen F. & Zhao M., 2007) The Stakeholder concept, popularized by R. Edward Freeman, gave the world an important aspect to think. The theory was powerful enough to change the structural framework of economics and law. The importance of capital always existed in the world of business but it undermined the contribution of other factors that were equally indispensible. The totality of the stakeholders' theory in creating a universal approach towards business made it popular in various economies. (Hasnas J., 1994) There is criticism too of the Stakeholder's theory. Many, term this theory as the escapist's theory also. According to the criticism the managers who follow Stakeholder's theory neglect their duty towards producing healthy return on investments. According to Elaine Sternberg 'Using business resources for non-business purposes is tantamount totheft: an unjustified appropriation of the owners' property.' (Lutz D., n.d.) If businesses around the world would have followed the above notion then by the end of the next decade world would not be a suitable place to live in. Repeated instances have occurred where the workers of a company have been exploited, environment has suffered toxic blows and money has concentrated in the hands of few bringing imbalance in the economy, society and environment. Also the above statement undermines the other concept of the agency or the Shareholder Theory itself. The shareholder theory also states that while maximising the wealth for the shareholder the managers will also act towards their benefit. Therefore the expenses of an enterprise on society and environment will be same as the excessive bonuses that the managers cost a company. The point is that excess benefit can be put to better use. "The key principles of business ethics are identified as those enjoining the values without which maximizing long-term owner value would be impossible: distributive justice and ordinary decency" (Alford H., n.d.). The need then would be of a legal system which not only is the custodian of the business community but also a guardian to the community as a whole. The recent ban on smoking in bars and the legal policy framework for companies proves this. Since many countries following the shareholder concept are increasingly becoming tensed over the occurrence of fraud and misappropriation they are making structural changes there where the companies have to abide by, the law (Alford H., n.d.). Talking of business ethics it is important now to bring in Freeman's views. The stakeholder theory owes much to Edward Freeman. Freeman's thought contributed much to business ethics in relation to what is right or wrong in the action itself of the concerned person. The idea had given more importance on the intrinsic value of a resource. Resource here refers to the stakeholders. The concern for freedom of work, personal goal achievement and that the organization should be concerned about the realization of the same by its members are strong features of his book, Corporate Strategy and the Search for Ethics (1988), with co author D.Gilbert. However the book does not specify how the managers will identify the personal goals or the difficulty attached to it. Stakeholder Theory has support from other theories as well. (Norton A., 2008) The Social Contract Theory is an encouragement to the Stakeholder approach. The Social Contract Theory states that the business to operate needs some binding with the society which comprises the infrastructure, environment and the legal framework etc. and enjoy the right to perform. That the business should appropriately pay the society back with a premium for the binding and the right to perform and not be self centred. The organization should update itself with time and related changes. The question here is that can a business do something more than what is stipulated in the law regarding pollution or can the business do anything good for the community it is functioning in, is very unexpected. The answer has been varied in many cases. Case Studies Considering the case of Merck & Mectizan the socialistic view will be of weight and also the transition that can take place from the shareholder concept to the stakeholder concept cannot be ruled out. Merck and Mectizan, in the late 1970s developed a drug on the basis of the discovery of a drug, 'ivermectin', which was helpful in a disease of eye, onchocerciasis, transmitted through the bite of black flies. This disease, which was popular among poorer African countries, affected millions. The development of the drug cost highly and also ten years. The problem was the people affected from the disease were too poor to provide Merck a profit generating price. The result was that Merck gave away the drug without charge and also incurred costs in distribution of the drug. (Dunfee T. W., n.d) Merck took a socialistic stakeholder approach towards the case. The development of the drug may have not catered to the monotonic shareholder maximisation approach but in the long run it may prove to be more sustainable than the ones which only develop drugs to generate profit through research and development. Hence the action can provide for a maximised wealth in the long run. On the other hand if we consider cases of Barings PLC of U.K. and the Enron Corporations of U.S. we will see gross negligence, suppression of facts and concentration of wealth. Barings PLC, Britain's oldest Merchant Bank, in 1995 went technically bankrupt when Nick Leeson lost over $1.4 billion in derivatives trading amounting to the bank's equity capital. In the attempt of covering for his initial losses, Mr. Leeson tried to order more and elevate the prices artificially which added to the losses. The absence of proper monitoring and wealth maximisation strategies were questioned. (The 1995 Failure of Barings PLC.,) In the case of Enron the management was particularly at fault. The management while gaining from short term profits put the long term view at bay which amounted to cheating and fraud in legal terms. In fact the CFO particularly spoke of benefitting at the cost of the shareholders expense. The broader view of stakeholders was not focussed. There is a similar yet contradicting theory in Enron case. The contradiction is that the shareholders were a part of the deceived stakeholders. (Sundaram A.K. & Inkpen, 2004) In both the cases the power of a single person or a group is very alarming and dangerous. Equally dangerous is the suppression of facts and experimenting at the cost of the organization's funds. Utilization of funds is any company's one of the long term decision as a function of multiple short term requirements. The objective of a firm is to produce goods and services and reach out the target consumers and naturally the consumers pay for the goods bought for consumption. The argument here is whether the customers should pay for the unnecessary or extra cost that a company incurs with the view of wealth maximisation for the shareholders. Marketing The critical aspect of Marketing in a firm comes into considerations while judging wealth maximisation theory and corporate governance. The obsession of showing ones company as the supreme is something that the employees of every organization try to do. Countries like Japan where the Stakeholder Concept is widely in use follow the marketing approaches differently. Their supreme advantage in marketing their automobiles or electronics is the factor of Quality. For them the marketing is automatic which does not require them to push sales or work on distribution constantly. They, instead, work on innovation and product development more. Marketing and Advertisement Cost has raised eyebrows of many lately. In the past three decades the business community has defined marketing and advertisement in a new light that lured many professional from all fields to try their hands on the same. The amount of salary that the business world has offered to marketing professionals repeatedly was the highest in the industry. That also saw a shift of focus for many students who would have went for research & development or academic profession towards the promotion of mainly technical goods or products from the tertiary sector. The consumer goods companies viz. The Fast Mover Consumer Goods (FMCG) or the White Goods Industry draws in marketing professionals with the highest possible salaries and perks which are triggered by sales. But does the sales factor alone determine whether a marketing professional is generating enough new ideas to match his salary There is no appropriate marketing framework with which a manufacturer will see a sustainable growth over a period of time. The rise in the popularity of household products, in the period between1950 to 1975, in U.K. and elsewhere in the world gave immense power to the marketers primarily because of the innovation and secondarily due to the reputation of a manufacturer to its customer.. The availability of television, radio and other forms of advanced media presented businesses with cheap and effective communications means, which led to the build-up of the famous most famous brands. In the modern world over half of the successful brands in U.K. belong to the above mentioned period. (Baker M.J., 2001) The need for marketing in different industry is characterised by its structure and the type of market it is working on. In a perfectly competitive market where the producer is the price taker it is increasingly important that it reaches the consumer before the competitor does. However, the darker side of the truth tells a different tale. The marketers of large organizations with their access to brand value, advertisements and the distribution system are seeking price of a good ahead of inflation. The process of measuring the performance for an advertisement is very difficult but it is the same industry which is known for unusual remuneration for their services. The management of many companies are now pondering on whether to expend for advertisement or to save cost and pass the benefit to the customers. If the advertisement cost of necessary product such as food and beverages are considerably reduced then the consumers can save a considerable portion of their income. The need is to focus on a totality in approach towards marketing. For a marketer the shareholder maximisation theory is of utmost importance in the short run which needs to be changed. The Marketing Strategies should not only include promotion or distribution but also innovation and product development. (Baker M.J., 2001) Internet Marketing Technology being a major constituent of Globalization has contributed to the prevalent theories of wealth maximisation. Never had the business been so simple in terms of time and efficiency before the invention of computers and the internet. The development of Internet marketingand the increase in demand that it created provided the management of business a comparatively easy means as searching for new markets and hence resulted in the dawn of revolutionised global economic system. Among the many different business sectors the service sector developed and profited the most through the rapid advancements information technology and internet marketing. Internet Marketing is a relatively cheap and a fast medium of marketing and requires less labour in the organization. This is a useful tool in maximising shareholders' wealth. Also the convergence of shareholder and stakeholder theories can be made through this. Most of the large companies have the system of communication through internet or the intranet with all the stakeholders in the organization. This reduces the cost by substantial amount and also creates uniformity in the decision-making of the organization. No more a marketer has to travel long distances to make the distributors understand about product or policies. The customers also can be catered on the basis of product features only. This marketing approach is helping in maximising shareholder's wealth maximisation without hurting the stakeholder approach. (Barker R. & Angelopulo G.C., 2005) Conclusion It is an age old problem on how to run a business efficiently. The prevalent theories of Shareholders' wealth maximisation are challenged by new theories. It is still too early to judge though that whether the new theories can produce other harms. Economies following the stakeholders approach are facing problems with the inflow of capital. Since nobody is self sufficient it is the market dynamics and the social structure which guides the world to adapt to changes. The countries which are following the shareholders theory are known to bring in major changes to their legal frameworks to cope with the repeated corporate issues. The countries following the stakeholders approach are trying to modify their thinking on foreign capital. And there are mixed economies which are fast developing and following a sound strategy. The strategy is to change subsequently as a reaction to changes and keep the long term view intact about the shareholder wealth maximisation. In doing so the monotonic or the pluralistic view will be merged and a business will be of public good. This will show the integrated approach and reflect in growth with responsibility. 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