Accounting essay help: Should the primary objective of management be to increase the wealth of shareholders and owners?
Table of Content
Shareholder value is the common stock value of firm in the market. Shareholder value is the return of company for any particular investment to the shareholders. In order to determine the shareholder value we first need to determine what the fair market value of the company is, this market value is discounted to achieve the shareholders value. Here are methods like the discounted cash flow method which states that the present value of the firms future cash flows are added to the initial cash value, the marketable securities and other investment so f the firm and hen the value do debt is subtracted.
If a company is maximizing it shareholders value it reflects the at the company is making progress an d revenue is being generated in the company. These factors are motivating factors for the employees as well a she other external environmental factors like government feel a satisfaction that that their company is growing well because it has higher stock value as compared to the other r companies. Shareholders wealth maximization is a long term goal for nay management because this shows what future return to the shareholders is. Any management must focus on the long term investment and not on the short term investment. E.g. if a firm is reducing its expenditure on R&D in order to increase its short terms earnings and profit, it is reducing its long term profit which would be the shareholders wealth because if it is not doing investment in red it cannot make new product sot seal in the market, and no market means no generation of revenue.
The shareholders are the very important part of the organization. They invest money in the company so that they get proper return from the company in the form of both dividend & capital appreciation. But some problems arise when there is difference in the objective of the management & the shareholder. Shareholders want that they get maximum return of their investment & the management want that the organization grow. So when the difference comes up agents are used which incur agency cost who acts on the behalf of the principal agent.
This action will harm stockholders in the form of return on their investment. Stock holders want to get maximum return out of their investment while the management wants to run the organization in their way so that it grows. So to remove this difference of objective agents are used to act on behalf of the principal agent who will incur some cost. So this way it will harm the stockholders. It is important to make sure that the management makes less use of the agents or the best will be they do not at all make use of agents. It will create more conflicts between the interest of the stockholders & the management. It will also add on some cost which the company has to bear. So the best way is to come in a mutual understanding so that both the stockholders & the management can reach their objective.
Management needs to make it clear to the stockholders about what they are looking for & at the same time the stockholders should communicate properly with the management so that there is no conflict of the objective.
The ability f the firm to clearly asses and measure the shareholder value is a crucial step to determine the financial success of the firm (Ansoff, 1965). This will determine how the firm is moving toward its ultimate objective of generation of revenues and how stable a profitable it would be in future coming years. There are various other factor parts from the maximization of shareholder value like, profitability, efficiency, growth of market share, but maximization of shareholders value is the most important because it focuses on the long term achievement of the company goals and long run financial performance.
If a company is focus sing on its other strategies also like innovation, research, new product development, mark intelligence, strong employee morale, then it is obvious that hat the firm will get return on their investment in this will ultimately increase the shareholders value in the market (Ahlstrom, 2010). A company can only make profit if it is paying for the cost of capital invested in it. Investors, owners and shareholders are an integral part of any organizational success. Investors and shareholders want to know what is the status of the company in which they are investing and how it is going to perform in the long run also. The long run focus is the ultimate objective for nay firm and this is connected to the firm’s strategy formulation and what re the steps it has taken for fulfillment of such objectives. Disruptive innovation is essential technique to adopt the competitive advantage and sustainability for the organizations. They are shifting to social benefits rather than just looking after the profitability (Ahlstrom, 2010).
This would be a part of performance measurement for the company because it will determine. The strategic progress of the company also. It can be used to evaluate ,monitor and ultimately control the performance measures a firm cannot optimize its shareholders value ,this means that it has to re evaluate its strategies an policies and then ultimately reframe its strategies so that it can generate maximum revenue for the firm
So maximization of shareholders value is one of the ultimate goal of any management because it offers the key step in the performance measurement of the company and thus have a control on the economic performance of the firm a.
So in order to maximize its free cash flow it is important four accompany to determine how it will manage the relationships with its stakeholders. Customers are also important in this sector because they will decide what will be the ultimate profit of the company (Clarkson, 1995). If it charges high to them, it will lose customers to its competitor and if it charges less, then it will dissatisfy it stakeholders by not generating revenue and fulfilling other financial obligation. So it is essential that a firm must make proper stagy for its maintenance of relation by focusing on its long term goals also.
If we look over these theories of management related to the shareholders and stakeholders concerns. We come to know that the shareholders theory in which the management gives preferences to the shareholders and owners and the main objective of management is to maximize the wealth of shareholders and owners. This may sometimes seems that there is a kind of partiality between the other stakeholders and the company’s shareholders.
On the other hand, if we talk about the primary objective of an organization i.e to increase the employment and wealth maximization of the organization not only to the shareholders and owners wealth maximization.
To make the organization more sustainable and competitive it is very much important to make an effective relationship with the stakeholders rather than concentrating to the shareholders only (Bejou, 2011). Stakeholders consists of shareholders, customers, suppliers, buyers, society and all other parties who all are directly or indirectly related with the organization and helping the organization to reach the objective of the organization (Freeman, 1999).
If the primary objective of management is just synchronized to the wealth maximization of shareholders and owners then it may lead to the self interest of the owners and the shareholders. It will also lead in inefficient decision or synchronize decision making process due to presence of less people including shareholders and owners only. But if we take the whole stakeholders into considerations then our decision making ability will increase enormously. This will help in making an unbiased and effective decision for the long run of business.
Friedman and Miles (2002) use two criterions to define firm’s stakeholder relationships. Their typology of organization-stakeholder relations is based on two important descriptions;
1. Compatible or incompatible in terms of sets of ideas and interests.
2. Necessary or contingent: Necessary relationships are internal to a social structure or to a set of logically connected ideas. Contingent relations are not integrally connected.
According to these ideas, we can easily assess the kind of requirement and the role which the stakeholders play in the sustainability of the organization and helps the organization to gain the competitive advantage in terms of wealth maximization, decision making, CSR activities and various other aspects. This condition is better than just sticking and including the shareholders and owner while looking the wealth maximization objective by the management. CSR is one of the most important and effective aspect for the organizations to show their concern towards the society and economy (Bejou, 2011).
Shareholders and owners are the two parties who are the mostly in touch with the business or organization. But this may lead to their self interest sometimes as we can see the result of bad corporate Governance in Enron and WorldCom. They were one of the biggest giant in power and energy sector in USA. But they collapsed, which is just the result of the shareholders and owners interest.
These kinds of various other fraud and antisocial stories can be seen in day to day life at a lower level. Like the conflict within the organization, failure in the expansion of the organization, successful implications of the management theories and applications. To avoid these kinds of inefficiency in the organization, it is better to adopt a new strategy i.e. the stakeholder’s theory and the stakeholder’s wealth maximization, which will in turn give more benefit to the organization and there will be less or even no chances of the self-interest kind of thing within the organization. Due to diversified authoritative concern and perspective, there will be no place for inefficiency and ineffectiveness within the organization which is the most common and huge matter of concern nowadays for the MNCs and Transnational organizations. The CSR may differ firm to firm and it is very difficult to measure the CSR activity of external environment or competitors (Beurder & Gossling, 2008).
These historical concerns give us an idea and make us bound to think before going for the shareholders theory within the organization. By following the shareholders theory within the organization the management is self responsible to give the shareholders and owners an opportunity to indulge in these kinds of illegal and antisocial acts. Which is not harmful for the organization but it harms the whole economy as well. To avoid these kinds of situation, the organization and management should avoid the use of shareholders theory and should use the stakeholder’s theory with the organization.
If the decision making power and the other powers will be in hand of common stakeholders then there will be less or even no chances for the occurring of these kinds of activities within the organization. This will also increase the social responsibility of the organization and that will surely lead to the wealth maximization and the competitive advantage for the organization.
Competitive advantage and sustainability is now more important than just only looking after the wealth and profit maximization. This could only be possible if the organization is indulged in the social responsibility and stakeholder’s consideration (Cosans, 2009).
If we take a critical view about the perspective that whether the management objective should be towards the wealth maximization of shareholders and the owners then the first thing which comes in our mind, whether it will be fruitful for the competitive advantage of the organization or not? If we see the past experiences and happenings in the organization which followed this perspective then we comes to know that it is nowhere the long lasting approach and very much effective for the organization point of view. The bad corporate governance lead to the various antisocial activities and the self interest is the most common cons of the shareholders theory. Various other drawbacks are also there which makes us the aware about the inefficiency related with the shareholders theory within the organization.
Shareholders perspective is good but if the stakeholders are also added to the account then it will be an add-on benefit for the organization and will be more effective from the organization point of view.
The management has now come to know the different drawbacks of this approach and now they are moving towards the stakeholder’s approach of management. In which the management is totally concerned and focused towards the social perspective of the organization. The decision making ability and the efficiency of the organization also increases which this aspect and we can think of the sustainability of the organization for a long run of business.
The most important concern with this concept is to that, it helps a lot in gaining competitive advantage to the organization in terms of effectiveness and efficiency.
If the management is totally devoted towards the wealth maximization of shareholders and owners then the social perspective of the organization will be avoided. This will make a negative impact on the external environment including the buyers, suppliers, clients, nongovernmental parties and others who all are directly or indirectly incorporated with the organization.
For the optimal growth and sustainability of the organization, it is very important to make a better and effective relationship with the stakeholders of the organization rather than just looking after the wealth maximization of the shareholders and owners.
In my opinion, the management should not focus only for the wealth maximization of the shareholders and the owners. We have already seen a lot of discrepancies and inefficiencies that may arise with this perspective. If we think about the long term perspective and sustainability of the organization then it is must to make a better cooperation and correlation between the management and the stakeholders of the organization.
To avoid the conditions and circumstances like the Enron and World com faced in past, which were following the same shareholders perspective, we need to understand the huge concern related with the shareholders perspective which is nowhere fruitful for the long run and sustainability of the organization. So, rather than repeating the same story, we need to take initiative and steps towards the effective concern of the organization and this could be possible by following the stakeholders approach only. Until and unless the power is equally divided among all the stakeholders, we cannot imagine for the unbiased decision makings within the organization.
To gain the competitive advantage is very necessary at this competitive era. In each and every sector there is a huge and tough competition among the market players. At this situation, it is very necessary that the management should take an effective and efficient approach to attain the sustainability. This could be easier by following the stakeholder’s perspective rather than following the shareholders perspective of management.
If the management of the organization is working effectively and in a focused direction then it will be easier for the organization to achieve the success and sustainability and if the organization is not following a good governance system then it may affect the organization sustainability. It may take some more time to achieve the success but the approach should be effective and up to the mark.
In this situation the self regulation and self authoritative aspect works that is again not very much effective for the organization point of view. This again encourages the self interest of the shareholders and the owners in the organization. They have all the authoritative power in their own hand, so nobody will be questioning to them. This makes a safer side for the shareholders and owners in the organization (Freeman, 1999).
On the other hand if the management is concerned about the whole stakeholder’s wealth maximization then it will lead to the satisfaction of the stakeholders of the organization which is the win-win situation for the organization. According to the modern theories it is again proved that the organization will gain competitive advantage if they are concerned about the stakeholders rather than just focusing on the shareholders and owners.
It will be beneficial and add on advantage for the organization to take into account to stakeholders rather than just concentrating on the shareholders and the owner of the organization. This way the organization will be able to gain competitive advantage by adding more people in their responsibility and governance system.
This way the organization will be able to generate more profitability and wealth comparative to the just following the shareholders theory. Now a day the CSR has become an important aspect for the organization and every organization is in the race of following the CSR activities and stakeholder’s theory is one of the best ways to perform the CSR activity within the organization (Smith, 2003).
It is like an initial stage to make a better relationship with the common people whom we can say the stakeholders of the organization to make an effective and efficient move towards the competitive advantage and sustainability.
The stakeholder’s theory is quite modern and new in the existence but the concept is quite old (Friedman, 2006). As we all know if the authority and governance is expanded then there will be more effective governance system rather than just giving the whole authority to a single hand. Apart from that the stakeholders also help in financial capacity enhancement of the organization. These are the basic and fundamental need which must be fulfilled by acquiring more stakeholders in the organization.
So it is quite clear from the whole discussion that management should not focus only to the shareholders and owner’s perspective and their wealth maximization but the system could be more effective if the whole stakeholders are taken into consideration. This way the organization can achieve the success and competitive advantage in an effective and efficient way (Hustade & Salazar, 2006).
So the second condition is more favourable for the organization point of view and it is also more effective and helpful to gain the sustainability and competitive advantage for the long run of business. Most of the organization and their management have understood the huge importance and requirement of the stakeholders within the organization rather than just focusing and concentrating to the shareholders and owner’s wealth maximization.
I would like to conclude the essay by saying that the stakeholders are very much required to be included within the organization and they will be more accountable towards the upliftment of the organization.
So only to be stick with the shareholders and owner’s wealth maximization is not a good policy and strategy for the long run of business and sustainability. So it is better and even proven to use the stakeholder’s perspective to avoid these various kinds of inefficiencies like the fraud, self-interest, antisocial acts and that finally leads to the collapse of the organization that is not only a big issue for organization but also a big matter of concern for the whole economy and society.
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