A Stakeholder has been defined as any party that is committed financially or otherwise to a company and is therefore affected by its performance. This would normally include shareholders, employees, management, customers and suppliers. Their interests do not always coincide, and in fact they may be in conflict with each other.1 In practice, Companies often have multiple objectives (both financial and nonfinancial) involving various stakeholder groups, which prevent the maximisation of shareholder wealth. The nature of investment and return expected by each stakeholder group may be explicit and specific as is the case of shareholders, or may be less specific in the case of a community, where there is a more diffuse and generalised relationship between the Company and the stakeholder group. Internal stakeholders are groups within a business or people who work directly within the business, such as employees, owners, and investors. External stakeholders are groups outside a business or people who are not directly working within the business but are affected in some way from the decisions of the business, such as customers, suppliers, creditors, community, trade unions, and the government. The different stakeholder groups in a Company were identified by the Corporate Report UK 1975 (published by the Accounting Standards Committee) which dealt with Stakeholder Objectives and specific requirements. The objectives of Companies need to be formulated with an awareness of the identity and expectations of the different stakeholder groups. A very common way of differentiating the different kinds of stakeholders is to consider groups of people who have reciprocal relationships with the Company. Stakeholder groups are classified as follows2:
1. Shareholders and Investors
Shareholders are an important stakeholder group, being the owners of the business. To meet the needs of shareholders, Management must
- Maximise shareholder wealth (shown by growth in share price and payment of dividends)
- Achieve a specific level of earnings, earnings per share and dividends per share. Whilst some shareholders prefer high dividends, some others prefer capital gains. However, the needs of the majority should be met as far as possible.
- Stick to a pre-set target for operating profitability represented either by a set return on capital or a profit/sales ratio
- Expand the business to be a worthwhile investment in terms of growth, level of risk, return on investment and profitability in relation to competitor businesses.
- Maintain the security of the shareholders’ investment. Management will consider that shareholders have different risk preferences and thus prefer different levels of gearing.
- Satisfy the investors that the Company has sufficient cash flow
A company has to know its major shareholders and their respective objectives and concentrate more on achieving these objectives. Such information will assist the company to defend hostile takeover bids from competitor companies.
Employees are concerned with the remuneration they receive from the Company, their working conditions and security of employment. They will also be concerned with:
- Training and career development prospects within the company
- Benefits in kind (eg. Company cars)
- Pension and redundancy provisions
- Potentials for future expansion of jobs
The stake of employees in a company is the input of human capital particularly of long term employees who have worked to consolidate specialist skills attributable to the company to assist with maintaining a successful business.
3. Financial Analysts and Advisers
Financial Analysts and advisers are interested in the financial business performance of the Company and its potential value as an investment or takeover target. They need the fullest possible information to confirm that the financial statements comply with accounting standards, so that they can make valid comparisons with past performance and with other Companies.
The Government will expect Companies to obey the law, pay taxes and other charges and provide relevant statistics and other information that it needs to develop and implement economic and other policies. Government will also expect Companies to behave as good corporate citizens, for instance in relation with the community as whole and in the effect they have on the environment.
5. Banks and other Lenders
This includes anyone who makes a loan or other financial assistance to a company. Examples are debenture holders, finance companies, venture capitalists, etc. The main interest of this group is the safety of their investment. Lenders expect to receive monies lent to the Company within an agreed period and to make profit. To maintain the safety of their investment, they want to ensure that the level of debt to equity does not become too high, as increase in the level of debt increases the risk of insolvency, with the Company being unable to meet the required interest payments and repayment of the principal sums. Long term lenders may impose a restrictive trust deed or negative pledge on the company to ensure the safety of their investment.
6. Business Contact Group (Customers and Suppliers)
Their objectives include ensuring that the Company deals honestly and adheres to the agreed terms of trade for delivery and payment. Customers will want a reliable supplier who provides a product of consistent quality at a fair price that gives value for the money, timely delivery of goods, safety and quantity of the goods and services supplied. The stake of suppliers is that they derive income from goods supplied to the Company. Organisations in the business contact group will need information about the Company including its financial situation, to satisfy themselves on these issues.
The Management of a Company is the most powerful group, as it is entrusted by the shareholders with the day to day administration of the affairs of the Company. It has complete control over the Company’s business and assets
provided it retains the confidence of the shareholders. Management expect good remuneration and other welfare packages from the Company.
8. The Community
The stake of the community is the need for a clean environment and boost to the economy through the provision of jobs and production of goods. The needs of the community may take many forms e.g. sections of the community may wish to see a restriction on contributions to political parties, charities or social groups, or a restriction on the business activities of the Company.
THE STAKEHOLDER THEORY
The history of the corporate structure reflects that its fundamental purpose has been to maximise corporate profit with a view to increasing shareholder wealth. More recently, it has been realised that the modern companies by its nature creates interdependencies with a variety of other stakeholder groups with whom the company has a legitimate concern. The interests of Management and other stakeholders do not always coincide, though they all have a general interest in the success and profitability of the Company. Stakeholder theory provides a framework for analysing and resolving the conflicts between the interest of Management and the interest of the other stakeholder groups.
As the stakeholder theory serves to broaden the previously narrow and single minded concept of the company i.e. shareholder profit, it naturally has its sceptics. Economic support for the theory arises from the view that long term profitability of the company is dependent on more than just concentration on shareholder wealth. Many suggestions have been made by writers in recent times as to how stakeholder concept can be introduced as an effective and progressive means of achieving good corporate governance.
Directors, in considering the best interests of a company in discharging their duties, are expected to consider the effect of any action on all stakeholders. The issue then arises as to how to identify stakeholders and evaluate their stake in the company. There are three main models, which set out different ways in which management can resolve conflicts between the interests of other stakeholder groups.
a) The Strong Form
The strong form states that Management is answerable to all stakeholder groups and should take account of the needs of all the stakeholders and try to satisfy their respective needs. This involves balancing the demands and bargaining power of the different groups.
b) The Minimalist Form
This form asserts that Management is answerable only to the shareholders as owners, although it may mean that other stakeholders get little of what they want. According to its proponents, if decisions are to be made by Management about the competing claims of different stakeholder groups, it can play one group off against another. By being answerable to all stakeholders as proposed by the Strong Form, then Management is in effect answerable to none, and problems will only be resolved in ways acceptable to and favoured by Management. The argument is tempting in a situation where a commercial firm has non-commercial objectives, as it provides a justification for disregarding non-commercial claims or the claims of more diffuse stakeholders groups such as the community at large.
c) The Pragmatic View
According to this view, Management is not formally answerable to all stakeholder groups, but should take account of them for reasons of commercial practicality, as at when the need arises.
RESOLUTION OF CONFLICTS AND BALANCING OF INTERESTS BETWEEN STAKEHOLDERS
The task of balancing and satisfying stakeholder expectations is never simple. Even a single stakeholder group may have potentially conflicting objectives. For instance, shareholders who want dividend income also want future growth, which needs investment that may limit the scope for dividends in the short term. Management should recognise the need to understand and cope with these complexities.
Whilst market forces lend great weight to implementation of the stakeholder theory, the theory remains an ethical model that has not attracted legal support. In recent times however, some economists have tended to support the theory as providing a number of potential economic benefits. Most businesses realise that the health of the economy affects all their stakeholders, including owners, suppliers, employees and customers. Regardless of the performance of the individual Managers, in good times profits will increase and in bad times profits will fall. It therefore makes good economic sense to strive for economic stability to support the business for the long run. It is this long term view that is the current focus of economists and explains the support that economic advocates have given to stakeholder theory.
A renowned economist3 agrees that it is in a country’s long term economic interest to run companies with the interest of all stakeholders in mind. The specialised skills that employees acquire specific to that company are an asset and should be viewed as human capital rather than their salary being viewed solely as a cost to the company. The age long notion of ownership and control that the company is an asset of the shareholders should be dismissed and rather it should be viewed as a governance structure whose social role is to administer the resources and investments made by the entire company’s stakeholders.
Companies are advised to adopt the following recommendations4 as to how to adopt the stakeholder concept in the way that companies are run:
a. Board of Directors should understand that they represent all the stakeholders in companies and not just shareholders, and thus seek to maximise the wealth creation of the company as a whole.
b. Accounting rules should be reformed to ensure that returns on investment in the skills of its employees and in organisational capabilities are included as assets of the company.
c. Compensation for executives should be in the form of restricted stock that cannot be sold immediately.
d. Labour laws that tend to discourage employee participation in management should be revised.
e. Reforms should be monitored to ensure they are meeting the goal of total wealth creation and reconsidered if they are not, or are having unintended consequences.
The political philosopher Charles Blattberg has criticized stakeholder theory for assuming that the interests of the various stakeholders can be, at best, compromised or balanced against each other. Blattberg argues that this is a product of his emphasis on negotiation as the chief mode of dialogue for dealing with conflicts between stakeholder interests. He recommends conversation instead and this leads him to defend what he calls a ‘patriotic’ conception of the company as an alternative to that associated with stakeholder theory. 5
Notwithstanding the criticisms, the proponents of stakeholder theory opine that it is an approach to the strategic management of organizations that purports to be more moral than other views by replacing the concept that managers have a duty to shareholders with the concept that managers bear a fiduciary responsibility to stakeholders. 6
Admittedly, the law has not given a voice to non-shareholder stakeholders in companies. For instance, in comparison with shareholders, these stakeholders do not have rights to trigger derivative actions against directors where they have breached their duties. Also, they do not have voting rights in companies. As a result of that, the stakeholders have little influence in companies even when they are affected by the downfalls of companies.
Nonetheless, the main arguments in favour of the stakeholder theory are that the theory is not only a single model to resolve the problem of identifying the proper objective of companies, but it also considers economic and ethic issues that make companies take social responsibilities, and ensure fairness to everyone involved in business, with the result that directors will run companies for the overall benefit of all stakeholders. Thus, the theory can be called a good combination between economy and ethics that enables the companies to grow and promotes social wealth as a whole. It has to be admitted that a company cannot sustain its existence if it only has shareholders’ capital contribution and does not have any input from other stakeholders such as employees, creditors, suppliers and customers, etc. Hence, it is necessary for companies to consider stakeholders’ interests as their contributions affect the company’s overall performance and wealth. 7
By Nneka Ikwueze
2 ICSA UK – Company Stakeholders
3 Blair MM, Ownership and Control: Rethinking Corporation Governance for the Twenty-First Century
4 Blair MM, Ownership and Control: Rethinking Corporation Governance for the Twenty-First Century
5 Blattberg, Charles (2004). “Welfare: Towards the Patriotic Corporation” From Pluralist to Patriotic Politics:
Putting Practice First. New York: Oxford University Press. pp. 172–184. ISBN 0-19-829688-6.
6 R. Edward Freeman in the book Strategic Management: a Stakeholder Approach