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How Do Businesses Create Value for Stakeholders?

• 26 Apr 2022

Why do customers purchase goods or services? Why do venture capitalists invest in certain startups? Why do employees choose to work at one company over another? The answer to these questions boils down to an essential business objective: Value creation. Customers make purchases based on perceived value. Investors hope for long-term profit from their investments. Employees exchange their services for financial or personal value by working at a company.

Business leaders who want to increase their company’s profits must understand how to create value for their stakeholders. Here's an overview of the different types of stakeholders and how businesses create value for them.

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Key Stakeholders in Business

Stakeholders are individuals or organizations with a vested interest in a company's success. It's important to avoid confusing them with shareholders, who own stock in a company. Stakeholders represent a much broader audience.

There are two categories of stakeholders: Internal and external.

Internal stakeholders operate within an organization or have a direct relationship with a company. They're directly impacted by a business's activities while their own actions affect its operations.

Key internal stakeholders include:

• Employees : The collection of individuals employed by a company in exchange for compensation.
• Business owners : The individuals responsible for a business’s financial and operational components.
• Investors : The individuals or groups who invest capital in a company in exchange for long-term financial gain.

External stakeholders operate outside the company but are still impacted by the organization’s actions.

Key external stakeholders include:

• Customers : The consumers of a business's goods or services.
• Suppliers : The companies selling raw materials needed to produce a business’s goods or services.

Both internal and external stakeholders are necessary for success, so companies shouldn't focus on one while neglecting the other. Instead, focus on maximizing value for each to ensure long-term profitability.

What Is Value in Business?

Finance, at its core, involves value-based decision-making. Business leaders decide which investments to make, how to finance their endeavors, and maximize their return by focusing on creating value.

The term “value” is often used subjectively to reflect an individual’s priorities. Maximizing it, however, is a central objective of business, so leaders need to understand how to define and create value for their firms.

There are two categories of value in business:

• Financial value is monetary value typically reported on a company's financial statements . This type of value is particularly important to investors seeking financial gain in return for their capital and for-profit businesses trying to generate revenue. Companies that create financial value can invest it back into their business to promote sustainable growth for their investors long-term.
• Perceived value is a form of value that’s subjective and includes factors like a customer’s willingness to pay (WTP) for a good or service and an employee's satisfaction with their work environment. It's difficult to assign numbers to perceived value, as it varies from person to person, but it can directly impact a company’s financial value.

Successful business leaders strive to create both financial and perceived value for stakeholders to ensure a well-rounded value portfolio.

Creating Value for Stakeholders

Creating value in business is exceeding stakeholders' minimum expectations. The amount expectations are exceeded—financial or perceived—is the amount of value created.

In the online course Leading with Finance , Harvard Business School Professor Mihir Desai explains that there are three sources of financial value creation:

• Beating the cost of capital : Businesses must overcome the discount rate , which is the interest rate used to discount future cash flow back to its present value. It's often the minimum acceptable rate of return , also known as the hurdle rate, investors expect, so the greater it's exceeded, the more value is created.
• Continuing to beat the cost of capital : Exceeding expectations for only one year won’t produce long-term value. To be financially successful, business initiatives must continue to overcome the discount rate.
• Growing : The more financial success your company achieves, the more value you create. Growth allows you to reinvest profits back into your business, multiplying your value creation.

Creating perceived value is more difficult, but possible. For example, effective branding can motivate consumers to choose one company over another. To increase a customer's perceived value of goods or services, business leaders must ensure they deliver on their promises and create a sustainable business strategy .

Equally important to defining value is determining whether it's been created. The market-to-book ratio and value stick are visualizations of value creation for a business’s key stakeholders.

Creating Value with the Market-to-Book Ratio

Investors are concerned with risk management—minimizing risk and maximizing returns. For your company to attract viable investors, it must create financial value. This requires an evaluation of discount rates, return on equity, and costs of capital, which is represented by a market-to-book ratio.

This ratio considers the relationship between two factors:

• Book value : The historic accounting value of a company's assets and equity.
• Market value : The value of a company's assets and equity today.

Dividing the market value of a company's equity by its book value results in its market-to-book ratio. If an investment produces a result equal to 1.0, no value was created. If the result is lower than 1.0, value was destroyed. A market-to-book value that exceeds 1.0, indicates created value.

Creating Value with The Value Stick

Financial investors aren't the only important stakeholders. It's also vital to create value for customers, employees, suppliers, and the firm itself. The value stick is a representation of value-based strategy and is comprised of four components:

• Willingness to pay (WTP) : The highest amount customers are willing to pay for a product or service.
• Price : The amount customers must pay for a product or service.
• Cost : The cost of producing a good or service.
• Willingness to sell (WTS) : The minimum suppliers are willing to accept for the raw materials needed to produce goods or services.

The gap between these categories is the value created for each stakeholder.

• Customer delight is the gap between a customer’s WTP and a good or service’s price. The larger the gap, the happier the customers will be with the price. Business leaders who want to improve this metric can either increase a good or service's perceived value (increasing the customer's WTP) or increase its financial value (reducing its cost).
• A firm’s margin is the profit generated for the business. It reflects the gap between price and cost. This value is purely financial but is directly impacted by perceived value. For example, if a customer's WTP increases, the firm can raise its prices. Or, if an employee is willing to work for a lower salary, the company can reduce its overall costs.
• Employee satisfaction and supplier surplus are represented by the gap between the cost of producing goods and services and the employees’ and suppliers’ WTS. In the employees’ case, their WTS is the minimum compensation they’re willing to receive. For the suppliers, it’s the lowest they’re willing to accept for raw materials.

Business leaders tasked with creating value must focus on improving customer delight, employee satisfaction, and supplier surplus without sacrificing the firm's margins.

Creating Value For Your Organization

Value creation seems easy when viewed on paper, but the reality is that it’s a difficult process. Beating your cost of capital, sustaining your success, and growing your business are incredibly challenging tasks and can only be accomplished with a comprehensive understanding of financial principles.

The first step to creating value for your business is acquiring the skills to inform your decision-making. Financial skills are a must for business leaders, as you can’t create value without profit. Taking an online course, such as HBS Online's course Leading with Finance , can equip you with the tools to effectively create and measure value.

Eager to learn the financial skills needed to create value? Explore Leading with Finance , one of our online finance and accounting courses . Download our free course flowchart to determine which best aligns with your goals.

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The Social Responsibility of Business Is to Create Value for Stakeholders

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On Sept. 13, 1970, economist Milton Friedman suggested that, as the headline to his essay in The New York Times Magazine put it, “The Social Responsibility of Business Is to Increase Its Profits.” While we hear from many executives about additional social responsibilities, all too often those executives will revert back to arguing, “…but our first social responsibility is to maximize shareholder profits.”

Businesses that want to be successful in the 21st century need to be saying and doing something else.

Here’s what we argue: The social responsibility of business is to create value for stakeholders . That means its customers, suppliers, employees, and communities, as well as its shareholders.

The stakeholder approach aims to create a new narrative about business — a new story — that enables great companies to make our communities and our lives better through the creation of stakeholder value, rather than simply profit to shareholders. The story includes a recognition that if we want the outcome of business to be a more responsible capitalism, it requires stakeholders to value business responsibility.

Why We Need a New Story

The Great Recession of the late 2000s should have made one thing abundantly clear: The way we have been encouraged to think about business is no longer appropriate — if it ever was. In the 21st century, there is too much complexity and too much uncertainty for a focus on “maximizing profits this quarter” to work very well. The landscape is littered with companies that tried this, and they simply did not understand — either because they could not understand or refused to understand — the complex consequences of their actions. This led to the demise of investment banking company Lehman Brothers, the bankruptcy of automotive company General Motors Corp., and the crash of countless smaller businesses. It cost U.S. citizens trillions of dollars.

If you add to these debacles a whole series of high-profile, far-reaching scandals (Enron, Madoff, Wells Fargo, Volkswagen), where unscrupulous companies and their executives acted for themselves while pretending to do what was in the shareholder’s interest, the old story simply collapses. We can no longer afford to accept that businesspeople will be only self- and shareholder-interested, greedy little bastards divorced from the societal context in which they are embedded.

And to be clear: Cobbling together ideas like “corporate social responsibility” is ineffective. Friedman was wrong nearly 50 years ago when he argued that the only business of business is to make profits for shareholders, but he was right when he urged businesspeople to stick to business. Notable executives like former General Electric CEO Jack Welch have agreed. “On the face of it, shareholder value is the dumbest idea in the world,” Welch told the Financial Times in 2009. “Shareholder value is a result, not a strategy. … Your main constituencies are your employees, your customers, and your products.”

The New Story Spotlights Stakeholders, Not Just Shareholders

In reality, the only way to make profits is to have great products and services that customers want because those offerings make their lives better. Profits follow from having suppliers who are committed to making a company better, and employees who are inspired to work together to create something of value. And if a business is not a good citizen in its community, at least in a free society, people will use the political process to regulate the business closely and even prevent it from operating within community borders. Stakeholders are interdependent, and everyone who runs a great business knows that.

The new story of business is about creating as much value for all these stakeholders as possible, and this of course includes creating profits for shareholders. In the global economy, customers, suppliers, employees, communities, and financiers — shareholders plus bondholders plus banks and other sources of capital — are all intertwined. The winning business models of the 21st century figure out how to get these interests going in the same direction, with as few trade-offs as possible.

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Organizations that compromise the interests of one stakeholder with the interests of another quickly find that, in today’s world, there is simply no place to hide. Someone will figure out how to do the business better without the trade-offs.

Today’s business world yields “continuous creation,” not the old story’s “creative destruction.” Many resources may be limited, but human ingenuity and imagination are not, especially when inspired by a sense of purpose. Think about Amazon (and its recent acquisition, Whole Foods Market), Genentech, Apple, Facebook, and Google — all are high-purpose, stakeholder-oriented companies, based on creating value for multiple stakeholders. No business is perfect, and every business can improve, but it is time to end the myth that Wall Street is disconnected from Main Street. Get executives focused on value creation for real people, and products, services, and jobs will appear.

We know that one immediate reaction of many executives of public companies will be, “Oh, but my fiduciary duty is to shareholders.” Not so. Legal precedent suggests that courts have granted companies a great deal of flexibility in how they balance their stakeholders, including shareholders, in the interests of the business. We see similar flexibility worldwide . Capitalism works because entrepreneurs and managers figure out how to get the interests of many going in the same direction.

The stakeholder approach sets forth a new conceptualization of business, in which business is understood as a set of relationships and management’s job is to help shape these relationships. Business is about how customers, suppliers, employees, financiers, communities, and managers interact to create value, and there is no single formula for balancing or prioritizing stakeholders. Creating that balance is part of what management is all about, and it will be different for different companies at different times.

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The new story and stakeholder responsibility.

Business is designed to meet demand. The danger of both the old story (shareholder profit maximization) and the new story (stakeholder value maximization) is that there are some activities in which business should not engage. If, for instance, consumers value only the cheapest product or service, and it is enabled only by depriving employees of any value (and perhaps much worse), then businesspeople must engage their ingenuity and imagination. They need to be inspired to create competitive products and services that create value across the board — for employees as well as consumers, and other stakeholders as well.

This can be done — business is certainly capable of motivating the interests of consumers, employees, investors, and other stakeholders toward one option over another. Business drives demand for technological innovation: You probably didn’t know that your smartphone would be able to do as much as it does, but now that you do, would you ever go back to a flip phone? In the same way, business can drive demand for responsible capitalism by offering responsible options for all stakeholders.

Stakeholders need to respond to these options. Consumers need to purchase responsible products and services. Employees need to choose to work for responsible employers. Suppliers need to provide for responsible buyers. Investors need to finance responsible opportunities. And communities need to welcome responsible entrants and help to sustain responsible incumbents. Responsible capitalism depends on responsible behavior from both business and its stakeholders.

The New Story and the Future of Business and Capitalism

Capitalism is simply the greatest system of social cooperation that we have yet invented. It allows free people to cooperate together and create value for each other in a way that no individual can do alone. Business can be a part of solutions to societal problems, rather than a cause — witness Tesla and renewable energy, IBM and smart cities, and recent startups like Milk Stork Inc., based in Palo Alto, California, which provides an option for mothers who travel for business to get breast milk home to their children.

Let us aspire to these kinds of businesses, and others that create value across stakeholders, rather than settling for value only to shareholders. Let us benefit from the implications of a better way to think about business.

About the Authors

R. Edward Freeman is a professor of strategy, ethics, and entrepreneurship at the Darden School of Business at the University of Virginia. He tweets @re_freeman . Heather Elms is an associate professor of international business at the Kogod School of Business at American University in Washington, D.C.

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Creating value by sharing values: managing stakeholder value conflict in the face of pluralism through discursive justification.

Published online by Cambridge University Press:  19 June 2020

The question of how to engage with stakeholders in situations of value conflict to create value that includes a plurality of conflicting stakeholder value perspectives represents one of the crucial current challenges of stakeholder engagement as well as of value creation stakeholder theory. To address this challenge, we conceptualize a discursive sharing process between affected stakeholders that is oriented toward discursive justification involving multiple procedural steps. This sharing process provides procedural guidance for firms and stakeholders to create pluralistic stakeholder value through the discursive accommodation of diverging stakeholder value perspectives. The outcomes of such a discursive value-sharing process range from stakeholder value dissensus to low (agreement to disagree) and increasing levels of stakeholder value congruence (value compromise) to stakeholder value consensus (shared values). Hence, this article contributes to the emerging literature on integrative stakeholder engagement by conceptualizing a procedural framework that is neither overly oriented towards dissensus nor consensus.

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Managing for Stakeholders: Trade-offs or Value Creation

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The ideas in this article have been developed in a number of publications, foremost of which is R. Edward Freeman, Jeffrey Harrison, and Andrew Wicks, Managing for Stakeholders: Survival, Reputation and Success, Yale University Press, 2007, and R. Edward Freeman, “Managing for Stakeholders,” in T. Beauchamp, N. Bowie, and D. Arnold (eds.) Ethical Theory and Business, 8th edition, Pearson, 2008. I am grateful to editors, publishers, and co-authors for their support, and allowing me to further develop these ideas here.

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The value of value creation

Challenges such as globalization, climate change, income inequality, and the growing power of technology titans have shaken public confidence in large corporations. In an annual Gallup poll, more than one in three of those surveyed express little or no confidence in big business—seven percentage points worse than two decades ago. 1 An annual Gallup poll in the United States showed that the percentage of respondents with little or no confidence in big business increased from 27 percent in 1997 to 34 percent in 2019, and those with “a great deal” or “quite a lot” of confidence in big business decreased by five percentage points over that period, from 28 percent to 23 percent. Conversely, those with “a great deal” or “quite a lot” of confidence in small business increased by five percentage points over the same period (from 63 percent in 1997 to 68 percent in 2019). For more, see “Confidence in institutions,” Gallup, gallup.com. Politicians and commentators push for more regulation and fundamental changes in corporate governance. Some have gone so far as to argue that “capitalism is destroying the earth.” 2 George Monbiot, “Capitalism is destroying the earth. We need a new human right for future generations,” Guardian , March 15, 2019, guardian.com.

This is hardly the first time that the system in which value creation takes place has come under fire . At the turn of the 20th century in the United States, fears about the growing power of business combinations raised questions that led to more rigorous enforcement of antitrust laws. The Great Depression of the 1930s was another such moment, when prolonged unemployment undermined confidence in the ability of the capitalist system to mobilize resources, leading to a range of new policies in democracies around the world.

Today’s critique includes a call on companies to include a broader set of stakeholders in their decision making, beyond just their shareholders. It’s a view that has long been influential in continental Europe, where it is frequently embedded in corporate-governance structures. The approach is gaining traction in the United States, as well, with the emergence of public-benefit corporations, which explicitly empower directors to take into account the interests of constituencies other than shareholders.

Particularly at this time of reflection on the virtues and vices of capitalism, we believe it’s critical that managers and board directors have a clear understanding of what value creation means. For today’s value-minded executives, creating value cannot be limited to simply maximizing today’s share price. Rather, the evidence points to a better objective: maximizing a company’s value to its shareholders, now and in the future.

Answering society’s call

Recently, the US Business Roundtable released its 2019 “Statement on the purpose of a corporation.” Dozens of business leaders (the managing director of McKinsey among them) declared “a fundamental commitment to all of our stakeholders [emphasis in the original].” Signatories affirmed that their companies have a responsibility to customers, employees, suppliers, communities (including the physical environment), and shareholders. “We commit to deliver value to all of them,” the statement concludes, “for the future success of our companies, our communities and our country.”

A focus on the future

The Business Roundtable’s focus on the future is no accident: issues such as climate change and income inequality have raised concerns that today’s global economic system is shortchanging the future. We agree. The chief culprit, however, is not long-term value creation but its antithesis: short-termism. Managers and investors alike too often fixate on short-term performance metrics, particularly earnings per share, rather than on the creation of value over the long term. By prioritizing (or, perhaps more correctly, mischaracterizing) shareholders’ best interests in terms of beating analyst estimates on near-term quarterly earnings, the financial system can seem to institutionalize a model that cares only for today and all but ignores tomorrow. There also is evidence, including the median scores of companies tracked by McKinsey’s Corporate Horizon Index from 1999 to 2017, that the tendency toward short-termism has been on the rise. Certainly, the roots of short-termism are deep and intertwined. A collective commitment of business leaders to clear the weeds and cultivate future value is therefore highly encouraging.

Companies that conflate short-termism with value creation often put both shareholder value and stakeholder interests at risk. Banks that confused the two in the first decade of this century precipitated a financial crisis that ultimately destroyed billions of dollars of shareholder value. Companies whose short-term focus leads to environmental disasters also destroy shareholder value, not just directly through cleanup costs and fines but via lingering reputational damage. The best managers don’t skimp on safety, don’t make value-destroying decisions just because their peers are doing so, and don’t use accounting or financial gimmicks to boost short-term profits. Such actions undermine the interests of shareholders and all stakeholders and are the antithesis of value creation.

Managers and investors too often fixate on short-term performance metrics, particularly earnings per share, rather than on the creation of value over the long term.

Value creation is inclusive

For companies anywhere in the world, creating long-term shareholder value requires satisfying other stakeholders as well. You can’t create long-term value by ignoring the needs of your customers, suppliers, and employees. Investing for sustainable growth should and often does result in stronger economies, higher living standards, and more opportunities for individuals. It should not be surprising, then, that value-creating capitalism has served to catalyze progress, whether by lifting millions of people out of poverty, contributing to higher literacy rates, or fostering innovations that improve quality of life and lengthen life expectancy.

A strong environmental, social, and governance (ESG) proposition also creates shareholder value. 3 See also Sheila Bonini, Timothy M. Koller, and Philip H. Mirvis, “ Valuing social responsibility programs ,” McKinsey Quarterly , July 2009. For example, Alphabet’s free suite of tools for education, including Google Classroom, not only seeks to help equip teachers with resources to make their work easier and more productive, but it can also familiarize students around the world with Google applications—especially those in underserved communities who might otherwise not have access to meaningful computer engagement at all. Nor is Alphabet reticent about choosing not to do business in instances that it deems harmful to vulnerable populations; the Google Play app store now prohibits apps for personal loans with exorbitant annual percentage rates, an all-too-common feature of predatory payday loans. 4 Yuka Hayashi, “Google shuts out payday loans with app-store ban,” Wall Street Journal , October 12, 2019, wsj.com.

Similarly, Lego’s mission to “play well”—to use the power of play to inspire “the builders of tomorrow, their environment and communities”—has led to a program that unites dozens of children in rural China with their working parents. Programs such as these no doubt play a role in burnishing Lego’s brand throughout communities and within company walls, where, it reports, employee motivation and satisfaction levels beat 2018 targets by 50 percent. Or take Sodexo’s efforts to encourage gender balance among managers. Sodexo says the program has increased the retention of not only employees, by 8 percent, but also clients, by 9 percent, and boosted operating margins by 8 percent as well. 5 Diversity & inclusion at Sodexo: Making a world of difference , Sodexo, 2018, sodexo.com.

Shareholders and stakeholders: A balanced approach

Inevitably, there will also be times when the interests of all of a company’s stakeholders are not complementary. Strategic decisions of all kinds involve myriad trade-offs, and the reality is that the interests of different groups can be at odds with one another. Implicit in the Business Roundtable’s 2019 statement of purpose is concern that business leaders have skewed some of their decisions too much toward the interests of shareholders.

Stakeholders for the long term

Time will tell how they act on this conviction. As a starting point, we’d encourage leaders, when there are trade-offs to be made, to prioritize long-term value creation, given the advantages it holds for resource allocation and economic health. Consider employee stakeholders. A company that tries to boost profits by providing a shabby work environment, underpaying employees, or skimping on benefits will have trouble attracting and retaining high-quality employees. Lower-quality employees can mean lower-quality products, reduced demand, and damage to the brand reputation.

More injury and illness can invite regulatory scrutiny and more union pressure. Higher turnover will inevitably increase training costs. With today’s mobile and educated workforce, such a company will struggle in the long term against competitors offering more attractive environments. If the company earns more than its cost of capital, it might afford to pay above-market wages and still prosper, and treating employees well can be good business.

How well is well enough? A long-term value-creation focus suggests paying wages that are sufficient to attract quality employees and keep them happy and productive and pairing those wages with a range of nonmonetary benefits and rewards. Even companies that have shifted manufacturing of products such as clothing and textiles to low-cost countries with weak labor protection have found that they need to monitor the working conditions of their suppliers or face a consumer backlash.

Value-creating companies create more jobs. When examining employment, we found that the US and European companies that created the most shareholder value in the past 15 years have shown stronger employment growth.

Or consider how high a price a company should charge for its products. A long-term approach would weigh price, volume, and customer satisfaction to determine a price that creates sustainable value. That price would have to entice consumers to buy the products—not just once, but multiple times, for different generations of products. The company might still thrive at a lower price point, but there’s no way to determine whether the value of a lower price is greater for consumers than the value of a higher price to shareholders, and indeed to all corporate stakeholders, without taking a long-term view.

Social consequences

Far more often, the lines are gray, not black or white. Companies in mature, competitive industries, for example, grapple with whether they should keep open high-cost plants that lose money, just to keep employees working and prevent suppliers from going bankrupt. To do so in a globalizing industry would distort the allocation of resources in the economy, notwithstanding the significant short-term local costs associated with plant closures. At the same time, politicians on both sides of the aisle pressure companies to keep failing plants open. Sometimes, the government is also a major customer of the company’s products or services.

In our experience, managers not only carefully weigh bottom-line impact but also agonize over decisions that have pronounced consequences on workers’ lives and community well-being. But consumers benefit when goods are produced at the lowest possible cost, and the economy benefits when operations that have become a drain on public resources are closed and employees move to new jobs with more competitive companies. And while it’s true that employees often can’t just pick up and relocate, it’s also true that value-creating companies create more jobs. When examining employment, we found that the US and European companies that created the most shareholder value in the past 15 years have shown stronger employment growth (exhibit). 6 We’ve performed the same analyses for 15- and 20-year periods and with different start and end dates and have always found similar results.

Value creation is not a magic wand

Long-term value creation historically has been a massive force for public good, just as short-termism has proved to be a scourge. But short-termism isn’t the only source for today’s sense of crisis. Imagine, in fact, that short-termism were magically cured. Would other foundational problems suddenly disappear as well? Of course not. There are many trade-offs that company managers struggle to make, in which neither a shareholder nor a stakeholder approach offers a clear path forward. This is especially true when it comes to issues affecting people who aren’t immediately involved with the company. These so-called externalities—perhaps most prominently, a company’s carbon emissions affecting parties that otherwise have no direct contact with the company—can be extremely challenging for corporate decision making because there is no objective basis for making trade-offs among parties.

That’s not to say that business leaders should just dismiss the problem of externalities as unsolvable, or something to be solved on a distant day. Punting is the essence of short-termism. With respect to the climate, some of the largest energy companies in the world, including BP and Shell, are taking bold measures right now toward carbon reduction, including tying executive compensation to emissions targets.

Still, the complexity is obvious for any individual company striving to comprehensively solve global threats such as climate change that will affect so many people, now and in the future. That places bigger demands on governments and investors. Governments can create incentives, regulations, and taxes that encourage a migration away from polluting sources of energy. Ideally, such approaches would work in harmony with market-oriented approaches, allowing creative destruction to replace aging technologies and systems with cleaner and more efficient sources of power. This trading off of different economic interests and time horizons is precisely what people charge their governments to do.

Punting is the essence of short-termism. With respect to the climate, some of the largest energy companies in the world are taking bold measures right now toward carbon reduction, including tying executive compensation to emissions targets.

Institutional investors such as pension funds, as stewards of the millions of men and women whose financial futures are often at stake, can also play a critical supporting role. In the case of climate change, longer-term investors concerned with environmental issues such as carbon emissions, water scarcity, and land degradation are connecting value and long-term sustainability. Indeed, investor scrutiny has been increasing. Long-term-oriented companies must be attuned to long-term changes that will be demanded by both investors and governments, so that they can adjust their strategies over a five-, ten-, or 20-year time horizon and reduce the risk of stranded assets, or those that are still productive but not in use because of environmental or other issues.

Unfortunately, governments and long-term investors don’t always play their roles effectively. Breakdowns can lead to divergences between shareholder value creation and the impact of externalities. Failure to price or control for externalities will also lead to a misallocation of resources. Those effects can create new stresses, and sometimes outright divisions, between shareholders and other stakeholders.

Yet as the Business Roundtable statement affirms, the interests of shareholders and stakeholders can go hand in hand. Businesses make a vital contribution by creating value for the long term. Doing so in a sustainable manner calls for meeting the concerns of communities (including the environment), consumers, employees, suppliers, and shareholders alike. A short-term focus necessarily shortchanges some or all of these constituencies. A long-term commitment toward value creation, by contrast, almost axiomatically takes a broad range of constituent interests into account. Of course, it’s not the cure for all social ills (beware of anything that purports to be!), but a commitment to long-term value creation is something worth valuing indeed.

Marc Goedhart is a senior knowledge expert in McKinsey’s Amsterdam office, and Tim Koller is a partner in the Stamford office. They are coauthors, along with David Wessels, of Valuation: Measuring and Managing the Value of Companies , seventh edition (John Wiley & Sons, 2020), from which this article is adapted.

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Stakeholder Considerations

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Considering Your Stakeholders

A challenge that is unique to professional writing is that the writer is asked to be aware of the stakeholders in professional situations. In any given situation, a business can have any number of stakeholders who will be influenced by their decisions. It is for this reason that the communication and internal documents of a business should keep the stakeholders in mind.

Stakeholders and Audience

The stakeholders in professional writing are different from the audience in that stakeholders are not likely to be readers of a business’s documents, but will still be affected by the decisions they contain. Because stakeholders are implicitly affected by a business’s decisions, it’s important that professional documents are written with their consideration. Examples of stakeholders can include:

• Customers — Customers are the clear examples of stakeholders since while most of a business’s customers will not know its internal workings, a business’s decisions work either to a customer’s benefit or disadvantage.
• Shareholders — Because shareholders have shown interest in a company through investing, a shareholder’s financial gain is linked to the business they’ve invested in.
• Local residents —Even if they are not customers of a business, the residents surrounding a business’s location are affected by the business’s presence. For example, if a business opens or closes a location by a residential neighborhood.
• Employees of a company— The employees of a company can be stakeholders of the company they work in the case of policies and actions that affect them. This can include normal worker policies to employee layoffs.

Stakeholders and the Rhetorical Situation

The question of who are the stakeholders is both a practical and philosophical one because it requires one to think about both the ethical impact of an argument and the stance a writer must take. Three philosophical lenses that one can use to be aware of their stakeholders as they write are the Utilitarian Approach (Kant), The Rule- or Duty-based Approach (Deontological), and The Golden Rule.

• The Utilitarian Approach cites that ethical decisions should be made with consideration of all parties who will be affected by that decision. For instance, if a major chain shuts down a regional location, how will that affect the customers and the people who work at that location? Are there other people who could be impacted?
• The Rule-based Approach asks one to consider the rules in place when considering a moral dilemma. This can mean thinking about how stakeholders are affected by terms and conditions being ignored by a decision making individual. The deontological approach also asks us to consider what it would mean if all individuals ignored the terms and conditions of a situation.
• The Golden Rule requires one to “treat others as they would like to be treated.” It’s important for people who make business decisions to be considerate of others who are impacted by their decisions. Because businesses make decisions that affect individuals inside and outside the business means that an ethical decision maker will make decisions as if these decisions affected him or her to the same degree it affects others.

These three lenses can guide a writer who considers them in terms of the rhetorical situation. With what kinds of stakeholders will it be important for a rule-based approach to be used? Is there a type of stakeholder that should be considered through a Utilitarian lens? Each of these questions supposes a different purpose and stance even if their audiences were the same.

Writing With Stakeholders in Mind

Since stakeholders are different from the audience, but like the audience are individual who are a part of the rhetorical situation, a writer needs to understand how to write with both in mind. The questions such writers need to keep in mind are “who will read this?” and “who will be affected by this?” A good argument for a business will appeal to those who enact the policies of a business and those who are affected by the policy.

“Stakeholder Theory:” by Edward Freeman Essay

According to Freeman (2009), the actual or practical working nature of businesses can be best explained by stakeholder theory. Individuals and groups such as banks, shareholders, financiers, communities, employees, suppliers, and customers should receive value for their money in order to guarantee the success of any type of business.

The stakeholder theory also states that it is not permissible to view the stakes of the aforementioned individuals and institutions in isolation. In other words, their interests should be considered together. In addition, moving the interests of financiers, employees, communities, suppliers, and customers along the same path is the main duty of entrepreneurs or managers.

Freeman reiterates that the above groups are key determinants in the success of business organizations. He gives an example of a business unit that has lost market share owing to a declining number of customers. The customers may have rejected to buy the products of a particular business enterprise leading to its drastic fall.

Another case might be a business that has loose contacts or poor coordination with suppliers. Freeman is of the opinion that suppliers who merely deliver goods without added value might be a major liability to a business enterprise. He claims that creativity and innovation should be among the key strengths of suppliers apart from just delivering orders. Hence, suppliers who fail to add value to their services can jeopardize the growth of a business unit.

Employers, as stakeholders, are also instrumental in the growth of a business organization (Freeman, 2009). They should utilize their best skills and efforts to deliver value at their respective workplaces. Commitment and dedication are the key features of successful employees. Freeman feels that employees can input their creativity and energy in making sure that businesses do not decline or shrink in performance.

A community has also been pointed out by Freeman as a crucial stakeholder in the growth of a business entity. As such, a business organization should be responsive to the needs of a community. It is the latter that anchors the operations of a business. Therefore, a business unit should consider undertaking activities that benefit a community.

A good example is corporate social responsibility. It is prudent for businesses to adhere to communal laws and regulations and equally ensure sustainability in the course of operations. Freeman (2009) strongly believes that businesses that do not consider the community as a vital stakeholder are bound to fail. In fact, the author notes that businesses should be ‘good citizens’ towards the communities they serve.

Therefore, each of the entities described above is fundamental in the success of business organizations according to Stakeholder theory. Freeman (2009) is also emphatic that it is highly likely for a business unit to miss out on the positive attributes of capitalism if financiers remain the main focus of operations.

In spite of Freeman’s theory on stakeholders, there is no single business organization that can flourish without the input of shareholders. This does not refute the fact that stakeholders are instrumental in business growth (Wall & Greiling, 2011). Shareholders are the pillars of organizations because they, directly and indirectly, take part in the operations of business enterprises. Organizational leadership can only be put in place by shareholders.

As much as stakeholders propel business growth, shareholders provide much-needed control, governance, and finances for business organizations. Investor communication expenses are also facilitated by shareholders. Even at a time when a business organization is declining in performance, the management can only peg its hope on the shareholders (Wall & Greiling, 2011). Hence, we may conclude that businesses can run (though dismally) in the absence of stakeholders but can completely stagnate when shareholders withdraw their services.

Freeman, E. D. (2009). Stakeholder Theory. Web.

Wall, F., & Greiling, D. (2011). Accounting information for managerial decision-making in shareholder management versus stakeholder management. Review of Managerial Science, 5 (2-3), 91-135.

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It’s Time to Value Stakeholders over Shareholders

Why corporations need metrics that quantify how decisions affect things beyond the bottom line.

May 04, 2018

In 2016 U.S. Senate hearings, Valeant Pharmaceuticals International executives were accused of imposing “unwarranted price hikes … at the expense of real people.” | Reuters/Jonathan Ernst

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Look at corporate press releases and financial documents and you’ll see countless references to the goal of “creating shareholder value.” But, says Bethany McLean, shareholders alone are too narrow a population for a company to serve. “If creating shareholder value means doing something that’s terrible for employees, that’s a problem,” says McLean,who visited Stanford Graduate School of Business recently as part of the school’s Corporations and Society Program .

A longtime journalist best known for exposing Enron’s scandalous business practices, McLean contends that companies should instead be judged on how well they create “stakeholder value,” meaning benefits for employees and customers as well as shareholders. Such a shift requires crafting “a language to measure impact, so that ‘creating stakeholder value’ doesn’t become an excuse for poor performance,” she says. That language would need to include metrics that quantify the overall social benefit of a company’s products and reflect the source of profits, clearly showing if, for instance, a significant portion of profits were coming from layoffs rather than rising sales.

Quote There’s something wrong if people are able to extract millions in personal wealth out of a company that’s bankrupt a few years later. Attribution Bethany McLean

Now a contributing editor at Vanity Fair , McLean was at Fortune in 2001 when she wrote the first investigative piece noting the impenetrable complexity of Enron Corp.’s financial statements and suggesting that the company’s shares were overpriced. She has also written about scandals at a range of companies, including Valeant Pharmaceuticals International and Wells Fargo.

Misaligned Incentives

One common thread in many high-profile business scandals is a focus on short-term profits, McLean says. Citing employees at Enron and at subprime mortgage companies who profited handsomely before their firms went under, she suggests that compensation and incentives were misaligned with the long-term health of the company.

“There’s something wrong if people are able to extract millions in personal wealth out of a company that’s bankrupt a few years later,” she says, adding that in some cases, the companies’ actions were legal but executives were “gaming the system” to benefit themselves and feed their egos.

McLean says that government regulations are of limited use because while they purport to prevent a problem from reoccurring, they can’t anticipate every potential scandal in a fast-changing business world. Nonetheless, regulators should attempt to set rules that are fair and effective. Save for whistleblowers, employees have proven to be ineffective at helping to police the companies they work for. “If you’re in a culture, you absorb the mores of where you are whether you want to or not, and you function according to its edicts,” she says.

Profits as a Byproduct of Sound Practices

After years of writing about businesses gone awry, McLean has some ideas about what makes well-run companies. In those, she says, executives’ financial incentives are “aligned with the well-being of all stakeholders,” including employees and consumers, so that “you actually provide a safe and remunerative work environment for your employees and provide products or services that are really offering a value to the world.” A well-run business doesn’t drastically raise the price of an old drug or peddle loans to people who clearly will be unable to repay them, she says.

Of course, a firm must generate income to survive, but shareholder returns should not be the primary driver; they should be a byproduct of processes that provide value to customers and employees, McLean says.

“I actually think most people in most companies are extremely well-intentioned,” she says. “But there’s the capability in any company, particularly in a world that is short-term oriented and bottom-line driven, to go wrong.”

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How to: evaluate a corporate board, investigating the unsolved mysteries of boardrooms and c-suites, how to: diversify your company’s board in four steps, editor’s picks.

September 18, 2017 Is Capitalism Killing America? Young & Rubicam Chairman Emeritus Peter Georgescu says it’s time to end the era of shareholder primacy.

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Two Factors that Determine When ESG Creates Shareholder Value

New research suggests that high-ability managers and applying ESG practices to supply chains set successful initiatives apart.

The paper “Corporate Sustainability: First Evidence on Materiality,” published in 2016, marked a significant shift in perceptions of corporate sustainability. It demonstrated that focusing on financially material ESG (environmental, social, and governance) factors positively impacts portfolio returns and shareholder value. Despite its influence in popularizing ESG investing, the topic remains controversial with mixed academic consensus and political debate in the U.S. Recent research by the author has further explored this field, highlighting two critical aspects: the role of high-ability managers in selecting profitable ESG projects and the long-term value of ESG practices in supply chains. The study found that companies with high-ability CEOs and strong ESG investments outperform others, and firms with fewer supplier ESG incidents yield higher returns. These findings underscore the importance of ESG efforts in resource allocation and their potential to attract investment by demonstrating a tangible impact on shareholder value. The ongoing challenge lies in enhancing disclosure, transparency, and effective use of ESG information by investors and regulators.

A main criticism of corporate sustainability has long been that it results in firms not putting shareholders first, thus contradicting managers’ fiduciary duty. In 2016, however, I published a paper, “ Corporate Sustainability: First Evidence on Materiality ,” with George Serafeim and Mo Khan, that began to overturn that narrative. We documented that considering financially material ESG factors (i.e., those sustainability activities that are related to the core sector practices of the firm) improve portfolio returns, which is consistent with financially material sustainability activities creating shareholder value.

• AY Aaron Yoon is an assistant professor of Accounting & Information Management at Northwestern Kellogg.

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Stakeholders, Essay Example

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Stakes and stakeholder awareness encompasses a broad relationship between the organization and those that are interested in the success of that organization.  The ability to manage and provide successful key performance indicators and objectives to the stakeholders is valued differently in different organizations.  The progression of stakeholder management allows for the organization to increase their awareness of the needs and desires of the stakeholders and allows for the appeasement of these requirements.  The governance of organizations relies upon accountability, enforcement and auditing capabilities.  Each level of the organization is responsible for the implementation of governance.

Explain the concepts of stake and stakeholder from your perspective as an individual. What kinds of stakes and stakeholders do you have?

With stakes and stakeholders the key concept revolves around the interest in a particular idea or entity.  The stake comes in many forms such as a vested interest in an outcome or key deliverables for a project.  The stake itself is the individual interest in the process or outcome.  The stakeholder is the person that holds that interest.  I have stakeholders that have permanent stakes in my life as well as recurring or temporary stakes.  My family has a permanent stake in my life as they have an interest in me becoming successful.  Their return on my success is a sense of accomplishment and happiness.  On a micro-level, my friends and colleagues have recurring or temporary stakes and roles as stakeholders.  When we go out to lunch, the group of people all has interests in what to eat and where to go.  Each has an interest or stake in the process of lunch.  The interest in the process or objective creates a responsibility as a stakeholder.

Explain in your own words the differences between the production, managerial, and stakeholder views of the firm.

The production of the firm has a clear and concise view of the business process.  The production must take the output of the suppliers, process the output to create the firms good and make sure it gets to the customers.  The production’s view is linear with three major functional areas including the supplier, the firm and ultimately the customer.

The managerial view is a bit more complex.  The first reason is that the linear view of production now flows both ways from the supplier?firm?customers as well as in reverse from the customer?firm?supplier due to the necessary feedback from the key points of contact that occurs during the business process.  There are also outside factors that influence the managerial process.  This includes input from the ownership of the organization as well as the employees throughout the organization.

The stakeholder view is the most complex and includes the production and managerial views but also every outside factor such as the political, social, technological and economic environments.  These outside factors influence the stake or interest the stakeholder has within the organization.  The stakeholder view is critical because they encompass many different individuals with differing perspectives influenced a multitude of different external and internal factors.  Management of the stakeholders’ interest is vital to business operations/success.

How can a firm transition from Level 1 to Level 3 of stakeholder management capability (SMC)?

The first level is identification of the stakeholders and the third level is the actual engagement of the stakeholders in key business transactions.  In order to transition from level 1 to level 3 there are key tasks that must be accomplished.  The movement is a progression that builds on the previous level.  In level 1, the organization is building the relationship with the stakeholders and takes assessment of their interests, needs and expectations.  In level 2 there is a process to build on the stakeholder assessment.  The development and implementation of the approach to take the information garnered from the stakeholders and utilize it in the business processes takes place.  The major task is to plan how to integrate the ideas and actions of the stakeholders into the business process.  Level 3, the highest level of stakeholder engagement, takes the planning phase and puts action toward the plan.  Full engagement of the stakeholders including communication and actions based upon the assessments and processes of the previous levels takes place.

Is the stakeholder corporation a realistic model for business firms? Will stakeholder corporations become more prevalent in the 21st century? Why or why not?

A stakeholder corporation is a good theory that takes into account all aspects of the organization and all opinions on how and where to direct the organization.  The major downfall is the decentralized command of the organization based on the varying opinions of the stakeholders.  There is also the prioritization of who the most important stakeholder is and how to determine when the individual has the most important issue or not.  While each stakeholder is dependent upon the other for success there would need to be a centralized command and control of the organization to make key business decisions.

Explain the evolution of corporate governance.  What problems developed?  What are the current trends?

Corporate governance is based on legitimacy.  Legitimacy provides the level of importance to the differing levels of the organization.  The CEO of the organization has a higher level of legitimacy than the line work.  This does not mean that one is more important than the other in the overall process of the organization, both could be vital, but the CEO has more legitimate power to manage organizational governance.  The evolution of governance is moving from a localized interaction with organizations to a global stake in international organizations.  As this move takes place, shareholders want to have more governance processes that they are familiar with and are standardized globally.  With this move there is a separation of ownership and control of the organization.  The owners, shareholders, of the organization are no longer controlling the actions of the organization and need a system of governance to help facilitate their interests.  The trend to move to a ownership (shareholders), to board of directors and ultimately the management provided a separation that left the direction of the company in the hands of those closest to the organization.

What are the major criticisms of boards of directors?  Which single criticism do you find the most important? Why?

The board of directors serves a critical component of organizational governance.  The purpose of the board of directors is to oversee the management on behalf of the shareholders.  This key capability and function is only effective if the board of directors carry out their responsibilities and ensure their due diligence to the shareholders.  The major breakdown comes when the board of directors does not follow their due diligence.  To create a check and balance system, auditors are then brought in to ensure compliance with governance.  This ability to uphold the core responsibilities of the board of directors is the most critical to ensure the governance policy works.  Without the ability for the board of directors to represent and uphold the interests of the shareholders the organization is not working in the interests of the shareholders.

Outline the major suggestions that have been set forth for improving corporate governance.  In your opinion, which suggestions are the most important? Why?

The first and most broadly known is the Sarbanes-Oxley Action which purpose is to protect investors by providing better financial reporting and auditing of financial reports.  There is also an increased level of accountability that is included for SOX compliance.  There are also areas within the board of directors that provide awareness to potential issues and mitigation steps to help remedy those issues.  These red flags and mitigation steps will help ensure an improved process and governance impact.  With the improved visibility and awareness of risk factors there are also steps to increase the board diversity and utilization of board members.  The board members are aligned from internal and external areas and then they are used to focus as an audit committee to ensure and improve the adequacy of internal financial reporting and controls.

The single most important improvement for governance is the increase in accountability throughout the organization.  The reason for this importance is that mere fact that the members of the organization will take the appropriate actions if they have intrinsic and undeniable accountability to the shareholders, the organization and themselves.

In what ways have companies taken the initiative in becoming more responsive to owners/stakeholders?  Where would you like to see more improvement?

One area includes the movement to increase shareholder democracy.  This is in response to the lack or perception of the lack of power the shareholders, owners, felt within the organization.  This action to increase the opportunity for influence within the organization spread through the election of board members by majority vote, classification of boards, and the ability for proxy access for voting.  I would like to see more improvement for the involvement of the management and owners of the organization.  This includes spanning the gap between the owners’ strategic vision with the operational activities of management.  By raising the accountability of owners, the board of directors and management the ability to meet the requirements of each level within the hierarchy becomes a possibility.

Cooper, D. F., Grey, S., Raymond, G., & Walker, P. (2005). Project risk management guidelines, managing risk in large projects and complex procurements. John Wiley & Sons

Dobson, M. (2004).  The triple constraints in project management . Vienna, VA: ManagementConcepts.

Project Management Institute, P. M. (2008). A guide to the project management body of knowledge . (4th ed.). Newtown Square: Project Management Inst.

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