Managers are hired to act on behalf of the shareholders of a firm. However, this is not always the case as both parties have different objectives. The difference in interests between shareholders and managers ‘derives from the separation of ownership and control in a corporation’ (Berk and DeMarzo, 2011: 921). Whereas shareholders are interested in maximising their own wealth, managers may have more personal interests which differ to that of the shareholders. Downs and Monsen (no date, cited in Chin, Cooley and Monsen, 1968:435) suggest that managers self-interest lies in maximising their life-time income and that ‘such self-interest will be congruent with profit maximisation for the firm only in special cases’. This conflict between both …show more content…
Although it may be a simple solution, there are costs involved. Berk and DeMarzo (2011:922) state that as no one shareholder has an incentive to bear these costs, as the benefits are then divided between all shareholders, they instead elect a board of directors to monitor the managers on their behalf. The directors’ duties include hiring the executive team, approving major investments and acquisitions, and dismissing executives if necessary (Berk and DeMarzo, 2011: 922). The level of monitoring required differs across firms and is ‘based on the magnitude of the incentive gap between principal and agent’ (Beatty and Zajac, 1994, cited in Westphal and Zajac, 1994:125). However, the main factor affecting the level of monitoring provided is the cost, otherwise ‘all rational firms would monitor maximally, irrespective of the strength of incentive compensation contracts or other factors’ (Westphal and Zajac, 1994:125). Although the board of directors are hired to keep a close eye on top management, the agency problem may still exist. This will occur when the director’s duties in monitoring have been compromised as they have connections with management. A way of overcoming this problem is to hire directors who are independent to the company, as they are deemed to be better monitors of managerial effort. As Mehran (1995:166) states, outside directors are ‘more independent of top management and thus better represent the interests of shareholders than do inside
By pursuing this, the manager (agent) also pursues the goals of the shareholders (principals). At least that is the idea behind it.
There are three internal and one external governance mechanisms used for owners to govern managers to ensure they comply with their responsibility to satisfy stakeholders and shareholder’s needs. First, ownership concentration is stated as the number of large-block shareholders and the total percentage of the shares they own (Hitt, Ireland, Hoskisson, 2017, p. 317). Second, the board of directors which are elected by the shareholders. Their primary duty is to act in the owner’s best interest and to monitor and control the businesses top-level managers (Hitt, Ireland, Hoskisson, 2017, p. 319). Third, is the
The primary objective of the manager is to please the stockholder by maximizing stockholder wealth.
Over the years, firms have increasingly been maximising shareholder value. However, Steve Denning, a former director of the World Bank, author of six leadership and management books and columnist for Forbes, disagrees. His article “The Origin of the ‘World’s Dumbest Idea’: Milton Friedman”, was published on June 26, 2013 on Forbes, debates against Friedman’s argument that the social responsibility of corporations is to make money for its shareholders. The main issue here is whether the maximisation of shareholder value as the guiding principle of executives is detrimental to the corporation. Although Denning has exhibited valid points in his argument, his lack of citation, biased view on most arguments and his tone has dampened the credibility
Managers and shareholders are the utmost contributors of these conflicts, hence affecting the entire structural organization of a company, its managerial system and eventually to the company's societal responsibility. A corporation is well organized with stipulated division of responsibilities among the arms of the organizational structure, shareholders, directors, managers and corporate officers. However, conflicts between managers in most firms and shareholders have brought about agency problems. Shares and their trade have seen many companies rise to big investments. Shareholders keep the companies running
This situation can lead to negative consequences for a business when its executives or management direct the organization to act in the best interest of themselves instead of the best interest of its owners or shareholders. Stockholders of the enterprise can keep this problem from arises by attempting to align the interest of management with that of themselves. This normally occurs through incentive pay, stock compensation, or other similar incentive packages that now cause the managers financial success to be tied to that of the company (Garcia, Rodriguez-Sanchez, & Fdez-Valdivia, 2015; Cui, Zhao, & Tang, 2007; Bruhl, 2003; Carols & Nicholas,
According to Gitman, the goal of the firm, and therefore of all managers and employees, is to maximize the wealth of the owners for whom it is being operated (2009). The financial manager is responsible for acquiring sources of financing and allocate amongst competitive investment alternatives. The ultimate goal is to invest in projects yielding higher returns than amount of financing used to invest, so profits can be used satisfy claims and increase shareholder wealth. The issues facing financial managers are therefore to 1) increase sources of financing from investors and 2) increase shareholder wealth while maintaining a
A company has to find a way to achieve a balance between rewarding managers to the point that it is detrimental to the company and finding a way to maximize the wealth of the shareholders.
Under this perspective it is best for managers to provide a return of capital to shareholders while also meeting the demands of society in order to be socially responsibly and continue to exist within a society.
I don’t agree with Dunlap’s view that shareholders are the only constituencies about which corporate directors and executives should be concerned. In light of agents’ obligations to principals, managers are supposed act in the best interest of the company’s shareholders, the major capital providers, when making decisions; however, as shareholders and stakeholders interests are to a large extent compatible, especially from a long-term perspective, managers should also take into consideration the interests of multiple constituencies when operating a company. For example, both shareholders and customers may benefit from a company’s successful research and
This paper will have a detailed discussion on the shareholder theory of Milton Friedman and the stakeholder theory of Edward Freeman. Friedman argued that “neo-classical economic theory suggests that the purpose of the organisations is to make profits in their accountability to themselves and their shareholders and that only by doing so can business contribute to wealth for itself and society at large”. On the other hand, the theory of stakeholder suggests that the managers of an organisation do not only have the duty towards the firm’s shareholders; rather towards the individuals and constituencies who contribute to the company’s wealth, capacity and activities. These individuals or constituencies can be the shareholders, employees,
Owners and manager should not focus on their personal interest above the company’s interest. The owners and manager should not get the improper personal benefit because from their authority of the company.
Milton Friedman’s shareholder theory has had a broad range of consequences for HRM ethics. The main consequence being that if management are only answerable to owners and shareholders, and must do as they wish, management’s quest will almost always be to maximise profit. Organisations that are constantly trying to maximise profits are often constricted by short-termism. Short-termism refers to the excessive focus of some organisational leaders on
The principals (the shareholders) have to find ways of ensuring that their agents (the managers) act in their interests.
Nevertheless if companies operate in weak markets and fail to create growth and profit the concept of maximization of shareholder wealth is also an opportunity for self-regulation and security against threats for a company. This approach is in particular useful for safeguarding against difficulties arising from wrong or misguided leadership within a corporation. Shareholders of a company have the strongest interest in a company’s success because they often invest a lot of capital in the business and require revenues for their deposit (Moore, 2002). As a matter of fact, they become more