Reading: Lesson 4: Shareholder vs. Stakeholder Value

Description:

In a market economy there is no conflict between the incentives for the entrepreneurs to profit and the wellbeing of consumers, employees, and society as a whole. When entrepreneurs produce value, wealth is increased.

In this lesson, students will read a famous essay by Milton Friedman in which he argues that the sole social responsibility of business is to increase profits. Students will then watch a brief interview with John Mackey, CEO of Whole Foods, who discusses the importance of creating value for all of the business’ stakeholders. In another video, Darden School of Business Professor R. Edward Freeman suggests how serving all of the business stakeholders, including the community, is the path to higher profits. Finally, students will explore the relationship between profits and value creation.

 

Time Required:

45 min

 

Required Materials:

Internet connection, writing instrument 

 

Prerequisites:         

Module 1 – What is Entrepreneurship?

Lesson 2.1 – Value is in the Eye of the Beholder

Lesson 2.2 – Value Must Be Produced

 

2.4.A - Watch and discuss the following video using the questions below to guide your discussion [15 min]:

Video:  (Institute for Corporate Ethics, 6:21 min)

“Darden School of Business Professor R. Edward Freeman hosts a conversation with John Mackey, Co-Founder & Co-CEO of Whole Foods Market, on topics such as the purpose of business, the importance of creating value for customers and stakeholders, and the reasons people start businesses.”

Discussion Questions: John Mackey: What is the Purpose of Business?

1.  First, let’s define two of the terms introduced in the video. What is the difference between a shareholder and a stakeholder in a business?

1. Shareholders are a company's owners. Shareholders own shares in a company.
2. Stakeholders are people with an interest, concern, or stake in the business. Stakeholders include employees, customers, suppliers, investors, and the community.

 

2.  Do you think the only purpose of business is to maximize profits for the shareholders?

1. Businesses have many purposes, and those purposes may evolve over time. The initial purpose of a business is defined by the entrepreneur who creates the business.
2. John Mackey explains that people go into business to make money, but there are other factors such as passion to create that are also important purposes for the business creator.
3. John Mackey provides a few examples of other reasons people go into business:  “Doctors want to heal people, teachers want to educate people, and architects want to design buildings.”

 

3.  Who are the stakeholders of a business?

1. Customers
2. Employees
3. Suppliers
4. Investors
5. The larger community

 

4. John Mackey says that many people start businesses because they are passionate about something. What are you passionate about?

 

2.4.B – Read the New York Times article below and be prepared to discuss with the group [15 min]:

Article: The social responsibility of business is to increase its profits by Milton Friedman (New York Times Magazine)

Discussion Questions: The Social Responsibility of Business

1.  What is the relationship between profit and creating value for customers and other stakeholders in the business?

1. Profit is the reward for transforming resources in a way that creates value for customers.
2. The concept of profit is explained more fully in Module 5: What Do Profit and Loss Tell Us?

 

2.  Do you agree that the social responsibility of a business is to increase profits? Why or why not?

 

 

2.4.C – Read the New York Times article below and then watch the video from the Institute for Corporate Ethics. Discuss the questions that follow [15 min]:

Article: http://umich.edu/~thecore/doc/Friedman.pdf

Video:(Institute for Corporate Ethics, 1:17 min)

“Darden School of Business Professor R. Edward Freeman explains how maximizing value for shareholders actually entails also maximizing value for stakeholders.”

Discussion Questions: Shareholders vs. Stakeholders

1.  Milton Friedman argues that businesses best fulfill their social responsibilities to society by focusing on increased profits. John Mackey, founder of Whole Foods Market, believes that a business's social responsibility goes beyond maximizing profits. Can both views be correct? If so, how?

1. Milton Friedman is famous for saying: "There is one and only one social responsibility of business – to use its resources and engage in activities designed to increase its profits so long as it stays within the rules of the game, which is to say, engages in open and free competition without deception or fraud."
2. R. Edward Freeman: “The only way to create value for shareholders in today’s world is to pay attention to customers, suppliers, employees, communities, and shareholders at the same time. Community and civil society is absolutely essential to business.”
3. So, the answer is yes, both views can be correct: by focusing on meeting the wants and need of stakeholders, businesses can maximize value creation and sustain long-term success, thus fulfilling their obligation to shareholders. In doing so, businesses can foster cooperation and harmony.

 

2.  Do you find Professor Freeman’s explanation convincing that maximizing value for shareholders also involves maximizing value for stakeholders?

 

Lesson Recap

• Shareholders are a company's owners. Shareholders own shares in a company.

 

• Stakeholders are people with an interest, concern, or stake in the business. Stakeholders include employees, customers, suppliers, investors, and the community.

 

• There are many purposes of a business. The purpose of a business is originally defined by the entrepreneur who creates the business, but the purpose may change and evolve over time.

 

• Entrepreneurs and business owners can create value for themselves by creating value for customers, suppliers, employees, communities, and shareholders at the same time.

 

• In a market economy there is no conflict between the incentives for the entrepreneurs to profit and the wellbeing of consumers, employees, and society as a whole. When entrepreneurs produce value, wealth is increased.

  

 

Additional Resources

Article: “What is the Purpose of the Firm? Shareholder and Stakeholder Theories” by Michael D. Pfarrer (enterpriseethics.org)

“There are two competing theories about the purpose of the modern business firm. Each provides a framework for evaluating executive compensation policies, corporate governance procedures, and the economic and social performance of business. The first, shareholder theory, emanates from an economic perspective, focusing on the firm’s purpose of creating wealth for its owners while minimizing both the importance of the firm’s interaction with its other constituencies and its role in society. The second, stakeholder theory, broadens the first perspective, recognizing the importance of wealth creation as well as the firm’s relationships with its multiple constituent groups―shareholders, creditors, employees, customers, suppliers, regulators, and local communities―and impact on society at large.”