Evaluate the pros and cons of shareholder capitalism PDF

Preview

Summary

This was the first analytical essay we had to write as part of the Business School. This was 10% of the final grade....

Description

Evaluate the pros and cons of shareholder capitalism. In order to successfully run an entity, organizations need to make decisions regarding being a system focused on shareholder or a stakeholder utility. Shareholder capitalism is a system in which the firms focus on maximizing shareholder returns by achieving the highest returns to equity. On the other hand, the market system of stakeholder capitalism deals with the concept of taking account the effects on individuals who are closely related to the performance of the company based on a social aspect, such as employees, suppliers and the society. Instead of capitulating to either system, firms need to understand that in order to build a socially and economically successful company, they need to take account of the interests of shareholders, employees, suppliers and the community around them and promote efficiency and productivity, to achieve higher future returns.

As shareholders interest is on the returns and dividends, their demands from the entity is based on profit maximization, which leads to holding back investment. In the pursuit of high levels of returns, the corporate leaders are underinvesting in innovation, skilled workforces and capital expenditures as observed by Chief Executive of BlackRock, the world’s largest asset manager (Mccann, D, 2017). The stock market has turned into a system for extracting value from companies and not for reinjecting them into the growth of the company. In addition, financial markets have grown to become highly complex and rapid, due to the shares becoming increasingly seen as assets to be traded for higher returns rather than long-term investments in businesses (Mccann, D, 2017). Additionally, a study by economists from the Stern School of Business and Harvard

Business School, compared the investment patterns of public companies and privately-held firms and discovered that while keeping the company size and industry constant, private US companies invested nearly twice as much as those listed on the stock market: 7% of total assets versus just 4% (Denning, S., 2017). This shows how the shareholder capitalist system is unsuccessful in the modern society.

Although to an extent shareholder capitalism leads to holding back investment, the aim of maximizing shareholder utility forces businesses to increase efficiency, causing an increase in economic growth, leading to improvements within the society. Wal-Mart is an example of this, as it has experience massive growth and high stock returns. Although they don’t provide healthcare to their employees, they are paid wages that keeps their workers out of poverty (Murray, M. & NH Labor News, 2016). Despite of being described as firm which focuses on shareholder capitalism, they are able to provide their workers with wages high enough to reduce poverty in the community that they exist in. While a company follows the shareholder maximization method, future investments get hindered and the need to gain higher returns creates pressures for entities to produce efficiently, cut costs and avoid waste. (Amadeo, K., 2018). This increased productivity creates higher profits, leading to higher economic expansion, generating an increase in the real GDP of a country and eventually causing an improvement in the living standards.

Despite of the significant levels of profit earned by large corporations, a shareholder capitalist system increases income inequality. In America, after the World WAR II from 1945-1970, Stakeholder Capitalism drove the economy, where the productivity of the

workers grew by 96% and the median income grew by 94% (Murray, M. & NH Labor News, 2016). Later, in the 1970’s businesses moved into Shareholder Capitalism system, during which their productivity kept rising although their wages remained constant. The added returns from the increased productivity was acquired by the executives and the shareholders, leading to a CEO’s salary being 380 times higher than that of an average worker (Murray, M. & NH Labor News, 2016). Additionally, in the 1980’s, 84% of all companies had a full pension for retired workers, 70% even covering the healthcare account. Although, due to the eagerness for maximizing returns, only about 30% of companies offer pensions and 18% offers retire healthcare (Murray, M. & NH Labor News, 2016). This prioritization of shareholders benefit has contributed to the decline in UK wages relative to the high levels of profit earned (Mccann, D, 2017). In these cases, if a small group of people hold on to the majority of the wealth, the distribution of wealth remains limited and the wealth continues to descend within a particular group, creating a higher social division. This division can lead to an increase in resentment and social isolation within a community.

On the other hand, if firms start to provide healthcare and pensions for all their employees, with rising prices it can lead to creating a harmful impact on the growth and success of the business. Nowadays, the term Corporate social Responsibility has encouraged companies to take in interest the shareholders and the stakeholders in value while making a decision. While it is important to take responsibility of the work environment, the CEO’s of the entity are ultimately obliged to run the company in a way where they are able to create a profitable business. Geoffe Drabble, Ashtead Group

CEO stated during his talk at the University of Edinburgh “A CEO that doesn’t check the shares prices everyday is a liar”. Therefore, in order to measure the success of a firm, stakeholder value is harder to measure than shareholder value. A firm’s success is measured and reassured within the market with the value of its stocks, which is largely maximized when a firm has a higher focus on the shareholder utility maximization.

Although shareholder utility is ideal to measure the success of the company. Shareholder utility maximization also becomes a part of abolishing the corporate social responsibility and creates operations that could increase environmental pollution or create other social issues (McEachern, A., 2018). Often the social utility gains from a certain action is ignored in search of profit maximizing, which leads to creating negative externalities such as pollution, decrease in living standards and an overall inefficient allocation of resources. Jack Welch, CEO of GE and a former applier of the shareholder capitalist system stated “Shareholder value is a result, not a strategy... your main constituencies are your employees, your customers and your products. Managers and investors should not set share price increases as their overarching goal… Short-term profits should be allied with an increase in the long-term value of a company”. Creating a comfortable working environment for the employees creates low stress situations for them, therefore boosting their productivity. Additionally, acknowledging the culture and values of one’s customers can create high demands for the good or service. These aspects also directly link with the reputation of the entity, if the entity is a socially responsible and employee thriving firm, it would attract more employees and potentially create a positive association with its name amongst the customers.

In conclusion, although businesses encourage efficiency within a shareholder capitalist system, when the whole community is considered, the growth in productivity leads to a shared prosperity within the community, as it is highly important to preserve the society and environment in order to have higher further returns in terms of economic growth. Companies need to focus on the demands of the shareholders as they are the investors and the growth motivators of the entity, while also focusing on the needs of employees, suppliers and the community that aid to build and run the business.

Bibliography

McCann, D, 2017. Shareholder Capitalism: A system in crisis. New Economics Foundation. Available at: https://neweconomics.org/uploads/files/NEF_SHAREHOLDER-CAPITALISM_E_late st.pdf. [Accessed October 14, 2018]. Heraclius, L. & Lan, L.L., 2010. The Myth of Shareholder Capitalism. Harvard Business Review. Available at: https://hbr.org/2010/04/the-myth-of-shareholder-capitalism [Accessed October 14, 2018]. McEachern, A., 2018. What is the difference between a shareholder and a stakeholder? Investopedia. Available at: https://www.investopedia.com/ask/answers/08/difference-between-a-shareholder-and-astakeholder.asp [Accessed October 14, 2018]. Murry, M., 2013. Stakeholder Capitalism Vs. Shareholder Capitalism; How Workers Lost Everything. NH Labour News: Where Labor and Progressive Politics Intersect. Available at: https://nhlabornews.com/2013/11/stakeholder-capitalism-vs-shareholder-capitalism-how -workers-lost-everything/ [Accessed October 14, 2018]. Amadeo, K., 2018. Why Trickle Down Economic Works in Theory But Not in Fact. The Balance. Available at: https://www.thebalance.com/trickle-down-economics-theory-effect-does-it-work-330557 2 [Accessed October 14, 2018]. Murray, M. & NH Labor News, 2016. Stakeholder Capitalism vs. Shareholder Capitalism; How Workers Lost Everything. NH LABOR NEWS. Available at: https://nhlabornews.com/2013/11/stakeholder-capitalism-vs-shareholder-capitalism-how -workers-lost-everything/ [Accessed October 15, 2018] Denning, S., 2017. Making Sense Of Shareholder Value: 'The World's Dumbest Idea'. Forbes. Available at: https://www.forbes.com/sites/stevedenning/2017/07/17/making-sense-of-shareholder-va lue-the-worlds-dumbest-idea/#1674d7b82a7e [Accessed October 18, 2018]....