Ethics and Corporate Governance in Regard to Shareholder Primacy
The topic of governance has gained significant traction over the past two decades. This follows series of corporate scandals that have resulted into greater need for good corporate governance. According to Smith and Rönnegard (2016), corporate governance denotes systems of practices, policies and rules that stipulate how directors oversee and manage the operations of the company. In an attempt to improve the concept of corporate governance, some theorists have emphasized the need to introduce ethics into organizational leadership. Rezaee (2019) defines ethics as a branch of philosophy that studies moral principles governing the behavior and conduct of people. Both ethics and corporate governance have featured prominently in discussions and analysis of shareholder primary. It is upon this basis that this paper presents a scholarly and critical reflection on the controversies and important ideas presented in two articles.
The article by Maitland (2015) describes shareholder primary as the doctrine entrusting the managers and directors with the management of the corporation in the best interests of the shareholders. It emphasizes the need for managers and leaders to maximize the wealth of shareholders. The idea of maximizing wealth for the shareholders has elicited divergent arguments especially among progressive legal scholars and ethicists who argue that this approach to corporate governance is biased towards the other stakeholders. Maitland (2015) presents detailed arguments against the ideology of shareholder primacy. The first argument against shareholder primary is that it makes corporations too powerful thus cannot be disciplined by prevailing market conditions and forces. Under this point, it is argued that prioritizing shareholders derails the firm from meeting the bigger commitment to delivering corporate social responsibilities. Additionally, ethicists argue that when corporations are made powerful and only answerable to shareholders, they gain influence over global governments thus begin playing the role of a quasi-government. Such illegitimate power compromises the responsibility of the firm to other stakeholders, while only focusing on satisfying the shareholders. The second argument against shareholder primacy is that since the corporations benefit from state privileges such as bailouts, then they have the duty of putting public interests over those of shareholders.
The third argument against yielding primacy to shareholders is that it unfairly enriches and favors shareholders at the expense of the other stakeholders. Maitland (2015) explains that the basic concept underlying shareholder primary is that in the event of a conflict, then their interests have to be put above those of the other stakeholders. This situation creates a scenario selfish shareholders could explore natural resources without compensating the communities and societies affected by its activities. Such practices are considered unethical and an indicator of poor corporate governance. Another important reason why shareholder primary is often challenge is that corporations have the duty of serving public interests. This argument is in line with the utilitarian ethical theory which notes that organizations and people should optimize the utility of the most people as opposed to benefiting a few. Evidently, the organizational ecosystem is composed of more stakeholders compared to the shareholders. Adopting this line of thought therefore opposes the ideology of shareholder primacy (Maitland, 2015). The fifth point is that by delegating leadership to the managers and leaders, shareholders automatically forfeit the right to primacy.
On the contrary, those arguing in favor of shareholder primary cite a number of points. First, Stout (2001) emphasizes that shareholders should be accorded primacy since without their investment in the organizations, the corporates could not have existed in the first place. Therefore, in order to encourage investments, it is quintessential that the government protects shareholder primacy. The second argument in favor of primacy is based on residual claims. This argument notes that shareholders are the sole residual claimants to the corporations. By virtue of their investment into the firm, they become the primary signatories of contracts. On the other hand, the non-shareholder groups namely managers, creditors, and employees only sign explicit contracts allowing them to perform certain duties in exchange for fixed payments in the form of interests and salaries. As a result of these contracts, the shareholders are entitled to all the proceeds that remain after the firm has catered for its explicit obligations and settled all the fixed claims. In addition to being the sole residual claimant, shareholders are the residual risk bearer. As a result of their willingness to take a risk, they are entitled to benefits in form of profits. Another point that justifies the need for shareholder primary is explicated using the agency cost argument. To enforce good corporate governance, Stout (2001) claims that shareholders should be given primary to measure and monitor the performance of the duties entrusted to agents, namely the managers.
This paper outlines two points of views regarding shareholder primary. Whereas one school of thought argue in its favor, the other notes that shareholder primacy is an unnecessary doctrine that should be shunned. Some of the points outlined against shareholder primary include the need to limit the power of the shareholders and their corporations, the corporations are beneficiaries of state privileges thus, they should promote public interests, and likewise, corporates have the duty to serve public interests. Those in favor of the shareholder primary argument note that shareholders are the main owners of the corporations thus, they should be protected and their interests prioritized in order to encourage them to invest more. Secondly, it is noted that since shareholders retain residual claim and residual risks, they should be entitled to primary.
Stout, L. A. (2001). Bad and not-so-bad arguments for shareholder primacy. S. Cal. L. Rev., 75, 1189.
Maitland, I. Bad and-not-so-bad arguments against shareholder primacy. Academy of management rev., 65, 67 (2015).
Smith, N. C., & Rönnegard, D. (2016). Shareholder primacy, corporate social responsibility, and the role of business schools. Journal of Business Ethics, 134(3), 463-478.
Rezaee, Z. (2019). Business Sustainability, Corporate Governance, and Organizational Ethics. John Wiley & Sons.