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Stakeholders are as important as shareholders

Companies should plan for long-term best interests.

Dateline: Monday, August 04, 2008

by Mark Brownlie

If Milton Friedman were still alive he might quip that CSR [corporate social responsibility] stands for corporate socialist republic, lamenting that companies should not take on the responsibilities of government and not neglect their shareholders. The rationale he posited almost 40 years ago in his famous article, The Social Responsibility of Business Is to Increase Its Profits, has been used ever since as justification for companies to fixate on shareholder returns.

Paying attention to stakeholders and pursuing corporate social responsibility do not conflict with Friedman's myopic perspective. In fact, treating stakeholders on the same footing as shareholders is in a company's best interest. But this approach could prove overwhelming when almost anyone can claim they are a stakeholder.

 

Shareholders and lenders might provide the financial capital to operate, but other stakeholders provide the human, social, and natural capital to succeed.

The traditional definition of stakeholder is along the lines of "one who can be affected by or can affect a company's operations." This is too all-encompassing. Perhaps a more helpful definition would differentiate stakeholders as those with a vested interest or where the effect is direct, instead of someone with a passing interest and an indirect effect.

For many, the suggestion that stakeholders are just as important as shareholders is a non-starter. They contend that company officials are bound by law (ie, their fiduciary duty) to focus on maximizing shareholder value. Reading the Canada Business Corporations Act carefully one discerns a different emphasis: "Every director and officer of a corporation in exercising their powers and discharging their duties shall act honestly and in good faith with a view to the best interests of the corporation." (Section 122a)

The Act is clear that directors and officers behave in the best interests of the corporation, not necessarily to maximize shareholder value. In a landmark study released in October 2005, the law firm Freshfields Bruckhaus Deringer further dispelled the myth that laws prevent corporate brass from considering environmental, social and governance (ESG) issues — the very stuff of stakeholders. The paper declares that the law clearly permits and, in certain circumstances, requires that ESG issues be considered.

Shareholders and lenders might provide the financial capital to operate, but other stakeholders provide the human, social, and natural capital to succeed. Stakeholders make significant investments in companies — primary among which is their time:

Customers invest trust in a company when making a purchase, and directly supply the firm's revenues. Suppliers and distributors in the value chain often modify their systems and policies to fit with those of the company. Employees do get paid for their time, but they invest more than that, often serving as company goodwill ambassadors, or making sacrifices "not otherwise specified" in their job descriptions. Governments review development proposals and allocate funds for better services (eg, fire, police) and infrastructure (eg, roads, sewers) that benefit companies. Neighbours participate in community advisory panels to companies and often demonstrate patience with traffic, noise and dust. Non-governmental organizations and the media serve a labour-intensive watchdog role on corporate behaviour to the benefit of society at large. Future generations unknowingly contribute natural capital (eg, non-renewable resources).

Stakeholders invest in companies in many ways. They take on risk. Often they are people that help the company thrive. In some cases stakeholders can fundamentally alter a company's operations.

Vocal advocacy from non-governmental organizations and general social pressure has chased companies from certain countries (eg, Burma, South Africa, Sudan), and from certain practices (eg, child labour, old growth logging). Landowners surrounding an extractive facility have essentially withheld the "social license to operate" from companies that have supposedly gained government approval. The influence of stakeholders should not be lightly dismissed.

It is simply smart business for a company to cater to its customers, educate its employees, build positive relationships with its suppliers and become a good community citizen. By creating value for all of its constituencies, a company ensures smooth operations. This doesn't mean that companies have to abandon seeking profits. Companies need to be financially viable to be able to also contribute on environmental and social fronts.

However, companies should re-orient their objectives from maximizing short-term profits to pursuing the long-term best interests of the company. They need not place shareholders on a mountain peak, hundreds of metres higher than all other stakeholders. Of course shareholders are entitled to dividends, and can sack the Board of Directors if they deem it necessary. After all, they still own the business. But they are only one group of "investors".

Mark Brownlie is Chief Executive of Responsibility Matters Inc, a Calgary-based advisory firm assisting companies and non-profits with sustainability strategies and communications.


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