Shahin A. Shayan Page 1
Corporate Social Responsibility andMaximization of Shareholder Wealth
Shahin A. Shayan1
April 2015
AbstractIn a joint stock company an important management goal is the enhancement and maximization of the
shareholders wealth and value. Additionally, sustainability, stability, continuity and growth of this valueshould be a critical parameter that needs to be considered by the management. This is directly related to therisks that a company is willing to undertake in its ventures going forward. The higher the risks a companyaccepts in its ventures, the more volatile and less stable its value creation ventures will be. It seems that anoptimum management objective in any company should be a practical balance between the value or wealthcreation efforts and the management of the risks inherent in these efforts while reaching the intendedstrategic goals. But are shareholders the only group that company managements are responsible to?
Shareholders are considered a partial subset of a larger group called stakeholders. Stakeholders mayinclude anyone who has a direct or indirect interest in the business entity or someone with even a non-pecuniary interest in a non-profit organization. Thus it might be common to call volunteer contributors toan association as stakeholders, even though they are not shareholders. Usually there are potential conflictsamong stakeholder’s interests. It is one of the management challenges to create a balance between theseconflicting interests in such a way that the medium and long term continuity, stability, sustainability andprofitability of a business are maintained. Governments and regulatory agencies are also considered asstakeholders in most corporations and businesses. Regulatory compliance can be costly to a business andwill reduce bottom line profitability which can be in conflict with shareholders value maximizationobjective. On the other hand, non-compliance is also costly and is against the regulator’s interest and couldpotentially create reputational and credibility damages, causing additional costs and risks for a firm.Balancing the conflicting stakeholder’s interests and increasing the long term health and profitability of abusiness is one of the serious challenges that top management of firms are facing, on a day to day basis.Therefore one can state that an optimum management objective in any company should be a practicalbalance between the stakeholder’s interests and the management of the risks inherent in these interestswhile reaching the intended strategic goals
To understand the dynamics of how these challenges prevail we have analyzed the related issues inthis paper.
Corporate Governance and Corporate Social Responsibility
Fisher (2010) states that Corporate Governance can be defined as the set of
processes, customs, policies and laws and institutions affecting the way a company is
directed, administered or controlled. Although corporate governance is designed for the
protection of its funders, it also applies to government, not-for-profit and other
1 Chairman of the Board at Hoda International Financial Engineering Company in Tehran, Iran
Shahin A. Shayan Page 2
membership organization (Fisher, 2010). It includes the defined relationships among the
major stakeholders and the goals for which the corporation is governed. The principal
players are the shareholders, management and the board of directors. Other stakeholders
include employees, suppliers, customers, banks and other lenders, regulators, the
environment and the community at large.
An important theme of corporate governance deals with issues of accountability and
fiduciary duty, essentially advocating the implementation of policies and mechanisms to
ensure good behavior that protects shareholders. Another key focus is the economic
efficiency view, through which the corporate governance system should aim to optimize
economic results, with a strong emphasis on shareholders welfare. There are yet other
aspects to the corporate governance subject, such as the stakeholder view, which calls for
more attention and accountability to players other than the shareholders.
Stakeholders are defined as persons such as employers, customers, or citizens who
are involved with an organization and have responsibilities and interest in its success
(Cambridge Dictionaries Online, 2014).
Recently, there has been considerable interest in the corporate governance practices
of modern corporations, particularly after the high-profile collapses of a number of large
U.S. firms such as Enron Corporation and WorldCom.
When examining the blatant absence of corporate governance from a perspective of
Enron's infrastructure, one of the first issues that presented it was how Enron executives
wholly disenfranchised their stakeholders. No longer are the vulnerable individuals
merely the investors; rather, the stakeholder theory introduced in the 1980s established
that corporate obligation goes well beyond the standard investor. This new approach,
delineating to whom businesses are expected to be responsible, as well as for what sets a
precedence for those at stake to be anyone with a direct interest or risk in the firm, not the
least of which includes employees, customers, suppliers, distributors, stockholders,
interest groups, legal and regulatory bodies, as well as the general public (Poulton, 2002).
The perceived quality of a company's corporate governance can influence its share
price, stockholder’s wealth as well as its cost of raising capital The better perception on a
company’s corporate governance structure leads to a higher perceived management
Shahin A. Shayan Page 3
structure, company credit and hence lower cost of raising funds. This in turn leads to a
higher profitability, share price and shareholder’s wealth.
Corporate Social Responsibility (CSR) is a concept which encourages organizations
to consider the interests of society by taking responsibility for the impact of the
organization's activities on customers, employees, shareholders, communities and the
environment in all aspects of its operations. It encompasses not only what companies do
with their profits, but also how they make them. It goes beyond philanthropy and
compliance and addresses how companies manage their economic, social, and
environmental impacts, as well as their relationships in all key spheres of influence: the
work place, the market place, the supply chain, the community, and the public policy
realm (Harvard Kennedy School, 2008). This obligation is seen to extend beyond the
statutory obligation to comply with legislation and sees organizations voluntarily taking
further steps to improve the quality of life for employees and their families as well as for
the local community and society at large.
While many businesses have always behaved in a responsible manner, the debate
about CSR has been said to have begun in the early 20th century, amid growing concerns
about large corporations and their power.
CSR is often discussed at the highest levels within companies. Those advocating
CSR are essentially asking companies to look beyond how their decision-making impacts
commercial activities and examine the effect on the society around them. This is no easy
task, since an activity that generates money for the company could actually be perceived
negatively in the strict context of CSR (Kermani, 2006).
Social responsibility represents perhaps the single most critical component of
corporate culture which speaks to how the entire operation revolves around
understanding what the organization seeks to achieve and how it will reach this objective
by focusing upon the public's best interest.
Stakeholders and Shareholders' Interests
A corporate stakeholder is a party who affects, or can be affected by, the company's
actions. A narrowly defined list of stakeholders might include:
Employees
Shahin A. Shayan Page 4
Communities
Shareholders
Investors
Environment
Government
Broader lists of stakeholders may also include:
Suppliers
Labor unions
Government regulatory agencies
Industry trade groups
Professional associations
NGOs and other advocacy groups
Prospective employees
Prospective customers
Local communities
National communities
Public at Large (Global Community)
Competitors
Shareholders are generally seen as the primary stakeholder in any business. It is this
group of stakeholders that are considered when annual reports are prepared.
The school of shareholder wealth maximization states that it is the shareholders
interest that is the principle concern of the organization (Dobson, 1999).
When Economists argue for this singular approach to profit maximization objective,
it is not a total disregard for social or environmental consequences, they indicate that
normally accepted ethics and moral standards should apply to the situation (Chryssides et
al, 1999). They argue that profit should be generated within the law of the land. In short,
social responsibility is for a business to avoid doing what society would deem wrong
(Chryssides et al, 1999). Risk Reduction, Cost of risk or insurance against wrong deeds
by the company from society’s point of view, credibility or reputational cost or as defined
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by Basel II standards for banking, operational, compliance or legal costs, all have to be
considered and managed.
The need to abide by the rules and regulations means that business will look for other
ways to increase profits. For example, there are many rules and regulations that increase
employment costs in the US; these include minimum wages legislation as well additional
costs such as holiday payments and welfare contributions. There are also other costs; the
costs of abiding by environmental laws, both in prevention and clean up effotrs. Every
dollar spent on compliance with the laws may be argued that is a dollar less used to create
shareholder wealth or lost from the pockets of the shareholders. This can be argued as the
reason why, in an attempt to maximize shareholders interest, outsourcing as a mean of
reducing operational costs has has been utilized by many companies in the US.
Is maximization of shareholder wealth a realistic objective?
Managing risk is a central part of all corporate strategies. Corporate reputation and
credibility that takes decades to build up can be ruined in an hour through incidents such
as corruption scandals or environmental accidents. These events can also draw unwanted
attention from regulators, courts, governments, public and media. Building a genuine
culture of 'doing the right thing' and be responsible towards stakeholder’s interest within
a corporation can offset these risks (Kytle, Ruggle, 2005).
The pressure from shareholders to increase earnings and the need to compete with
numerous other firms means that companies are always seeking ways to save costs or add
value to their operations. This should be balanced with the fact that profitability should
be continuous, sustainable and even better, growing. If we try to maximize shareholder
wealth without any concerns on its sustainability, our fiduciary responsibilities as
managers or board members are under serious question. One very important cause for
sustainable wealth creation is good reputation and credibility on stakeholders list.
Through an active Corporate Social Responsibility functions, a company can easily
achieve continuous good reputation and enhance brand value.
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Conclusion
In corporations, shareholders delegate decision rights to the management to act in the
principal's best interests. This separation of ownership from control implies a loss of
effective control by shareholders over managerial and day to day decisions. Partly as a
result of this separation between the two parties, a system of corporate governance
controls is needed to assist in aligning the incentives of managers with those of
shareholders.
Board of directors often plays a key role in corporate governance. It is their
responsibility to endorse the organization’s strategy, develop directional policy, appoint,
supervise and remunerate senior executives and to ensure accountability of the
organization to its owners, authorities and in general its stakeholders.
All parties to corporate governance have an interest, whether direct or indirect, in the
effective performance of the organization.
A socially responsible firm would take proper environmental, regulatory
considerations into account when making a decision. It often falls to management and
shareholders to push for a company to be run responsibly and take initiative for its
actions. Of importance is how directors and management develop a model of governance
that aligns the values of the corporate participants and then evaluate this model
periodically for its effectiveness on stakeholder’s interest sustainability, balance and the
minimization of potential conflicts among these interests. In particular, senior executives
should conduct themselves honestly and ethically, especially concerning actual or
apparent conflicts of interest, and disclosure in financial reports.
The impacts of proper and effective governance on the stakeholders interests can be
seen in the International Finance Facility for Immunization Program (IFFIm) award that
was given to Goldman Sachs by the Financial Times and International Finance
Corporation (World Bank, 2007). The award, which recognizes banks that have shown
leadership and innovation in integrating social, environmental and corporate governance
objectives into their operations, was presented following a one-day Sustainable Banking
conference where the impact of environmental, social and corporate governance issues on
long-term shareholder value was discussed.
Shahin A. Shayan Page 7
In conclusion, the management objective of shareholder wealth maximization is
necessary but not sufficient. The realistic management objective should be the creation of
a practical balance between the conflicting stakeholder’s interests and the management
of the risks inherent in these interests while reaching the intended strategic goals. This
approach will lead to a more stable, sustainable and continuous growth in the wealth
creation objectives of a firm in the medium to long term horizon.
Shahin A. Shayan Page 8
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Fisher, John (2010, April). Corporate Governance and Management of Risk (M_O_R).White paper. Best Management Practice, Unconfuseu
Harvard Kennedy School, John F. Kennedy School of Government (2008). CorporateSocial responsibility Initiative, Defining Corporate Social Responsibility. RetrievedAugust 15th, 2014, fromhttp://www.hks.harvard.edu/m-rcbg/CSRI/init_defined_p.html
Kermani, F. (2006, May). Why corporate social responsibility makes sense: CSR is inthe best interest of the public at large ... and the pharmaceutical company itself.Applied Clinical Trials 15.5, 36(2).
Kytle, Beth. Ruggle Gerard John. (2005, March). Corporate Social Responsibility as RiskManagement. Working paper No. 10, Booz Allen Hamilton and Harvard University.Retrieved June 20th, 2014, fromhttp:// www.hks.harvard.edu/m-rcbg/CSRI/research/papers.html
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