Stakeholder capitalism sees the firm as serving society writ large, considering customers, employees, suppliers, and the community alongside shareholders in its decision-making.
This view contrasts sharply with shareholder value optimization, which has been the dominant model for corporate governance over the past thirty years. The primacy of shareholders, coupled with a significant fraction of executive compensation being in equity, has been a substantial driver in the rise of inequality since 1980.
Stakeholder models have fast shifted from fringe to mainstream over the past decade, hitting a clear tipping point in 2019. This deep dive, reviews recent trends. How widespread is the adoption of stakeholder capitalism? How can companies implement new governance structures? How might the pandemic be an opportunity to accelerate the adoption of new models?
Stakeholder Capitalism Essentials:
Stakeholder capitalism represents a variant of capitalism, just as money market capitalism describes the current variant in the US today.
Hyman Minsky’s quotes clarify the evolutionary nature of economic institutions and their interdependence with the broader institutional context:
“The economy is a complex, time-dependent system—an “evolutionary beast,” changing in response to endogenous as well as exogenous factors, not an equilibrium-seeking and -sustaining system.”
“The economy’s institutional structure is a fundamental determinant of the particular path of development; this structure—which is itself evolving—facilitates, influences, regulates and constrains economic activity."
Where did shareholder value maximization come from?
“There is one and only one social responsibility of business--to use its resources and engage in activities designed to increase its profits so long as it stays within the rules of the game." Milton Friedman in Capitalism and Freedom (1962)
- Friedman’s 1970 New York Times Magazine article “A Friedman Doctrine: The Social Responsibility of Business is to Increase its Profits” written in response to recent trends pushing for socially responsible business, reiterated his stance
- Through the 1970s, economists formalized Friedman’s ideas, viewing the firm as a “nexus of contracts” and a principal-agent orientation of owners / investors and managers, which culminated in Jensen and Meckling’s “Theory of the Firm: Managerial Behavior, Agency Costs, and Ownership Structure” published in 1976
- Maximizing shareholder value look off in the 1980s with stock buybacks. Similar to dividends, buybacks allocate the firm's capital to shareholders rather than investing in the firm and its stakeholders
Recent trends in stakeholder capitalism; hit a tipping point in 2019
May 2019: Marco Rubio, chairman of the Senate Committee on Small Business and Entrepreneurship, released a report criticizing the maximization of shareholder value creation:
“Shareholder primacy theory refocused corporate management’s understanding of economic value as financial return to shareholders. This theory tilts business decision-making towards returning money quickly and predictably to investors rather than building long-term corporate capabilities, reduces investment in research and innovation, and undervalues American workers’ contribution to production.”
August 2019: the Business Roundtable (association of nearly 200 major US corporations) released a new Statement on the Purpose of a Corporation where signatories committed to leading their companies for the benefit of all stakeholders
"While each of our individual companies serves its own corporate purpose, we share a fundamental commitment to all of our stakeholders."
December 2019: World Economic Forum updated its Davos Manifesto:
“The purpose of a company is to engage all its stakeholders in shared and sustained value creation. In creating such value, a company serves not only its shareholders, but all its stakeholders.”
January 2020: Larry Fink’s (CEO of BlackRock, the world’s largest asset manager) letter to CEOs asked companies that they invest in to disclose in line with industry-specific Sustainability Accounts Standards Board (SASB) guidelines by the end of the year.
Implementing stakeholder models
- Proclamations without accountability like the Business Roundtable's are just stakeholder washing
- There is a need for implementation with real corporate governance reform.
Transparency and accountability through disclosure
- Ensures new corporate processes that give stakeholders voice and consideration in decision making
- There is a need for and value in standardized reporting by industry, SASB is the leading accounting standard, facilitates a race to the top
Real authority for stakeholders to make decisions, via:
- Management team representation
- Board representation
- Voting rights granted through equity, can be differentiated for different stakeholders
- Oversight boards
- Steward ownership (this is the full monty of stakeholder capitalism; find our deep dive in the related topics below)
Skin in the game through ownership
- Trust structures
- Employee Stock Ownership Plans (ESOPs)
There are also concerns regarding ownership corrupting stakeholders' incentives by giving them a motive to extract from the firm for personal gain
Accelerating the transition
Governments can mandate stakeholder governance
- Give stakeholders a right to board representation
- Make companies incorporate with a fiduciary responsibility to all stakeholders rather than just shareholders
- Mandate partial ownership
- Some examples: Elizabeth Warren’s Accountability Capitalism Act; Germany’s Codetermination Act 1976.