Stakeholderism Needs a Reality Check

The drumbeat of stakeholder capitalism is growing louder. A series of seemingly irresolvable crises has exposed the shortcomings of the present economic system in which shareholders hold a privileged position. In its place, a growing number of business leaders and commentators are calling for commercial interests to be re-oriented toward stakeholders.

Under stakeholder capitalism, organizations create long-term value by taking into account the needs of all their stakeholders, among them employees, customers, suppliers, local and global communities, lenders and shareholders. It works well as a slogan, says Bertrand Malsch, the PWC/Tom O’Neill Professor of Accounting at Smith School of Business. But in practice, it has the potential to tie corporate board directors in knots trying to please everyone.

In this conversation with Smith Business Insight senior editor Alan Morantz, Malsch discusses how an idealized version of stakeholderism can set people up for disappointment, and what board directors can do to manage the inherent conflicts of interest in today’s economy.

The great thinkers of Davos say corporations should serve the interests of all their stakeholders, not just shareholders. Business Roundtable CEOs say stakeholder capitalism is the only way to address our challenges holistically. Marc Benioff, CEO of Salesforce, says capitalism as we know it is dead. Are you buying what they are selling?

The quick response is no, I’m not buying it. The key problem is that there isn’t just one stakeholder. There are many stakeholders who have conflicting interests, and sometimes these interests are not reconcilable. Which begs the question: What happens when different stakeholders have conflicting interests in the same business? And no one has a magical solution.

You can claim that all stakeholders should be treated equally, but that’s a bit delusional. The distribution of power is not equitable, so you don’t — and can’t — treat your stakeholders the same way. Treatment reflects the distribution of power, and even if you wanted to treat everyone well, what do you do when they have conflicting interests?

The Canada Business Corporations Act was updated a few years ago to recognize stakeholder interests, but obviously it can’t offer any guidance when interests are not aligned. If you’re on the board of a public corporation, what are you supposed to do?

You have to be honest and not make claims you can’t meet. So if you can’t satisfy all your stakeholders’ interests, you have to acknowledge that and be transparent about the process you go through to prioritize your stakeholders, recognizing that you may have to make trade-offs that are not necessarily win-win.

The issue for me is not that you need to decide which stakeholders to support over others. The issue is that you need to explain how you make these decisions and then be held accountable for the outcomes. Are we happy with the end result depending on the goal, which could be profitability or social justice or being a good corporate citizen?

Another way to look at this is through the notion of public interest, which is very strong in the professions like accounting. When you start thinking about this, you realize there are a lot of publics that have a lot of different interests. So the public interest as such does not really exist. You have different publics with different interests that conflict. So we have to be realistic.

The hope, then, is that corporate transparency with stakeholders will lead to positive outcomes, which may or may not be true.

If you have a very broad understanding of the firm, everyone that is impacted by the firm’s activities, even indirectly, is a stakeholder. So if you outsource production to China or Bangladesh and the employees of your supplier are not well treated, this should be your problem. Then it becomes a question of reporting, hoping that transparency will somehow create pressure for corporations to change their practices and make sure that they’re treating impacted people well.

But the consumer is not always a great judge. Look at the commercial success of a company like Shein. This is a very controversial company because they’re able to produce a lot of clothing at unbeatable prices, but we know that behind them are a lot of questionable business practices. It’s public knowledge but they’re still very successful.

At the end of the day, it’s troubling that more transparency does not necessarily lead to better behaviours. The customer is also conflicted between different interests, between saving the world but at the same time buying affordable clothes. So there are these situations that create complexity.

In the literature, when corporations or individuals are confronted by these types of pressures, it’s called institutional complexity. This term captures it well. It’s complex institutionally because at the same time you have to be economically efficient, you have to be commercial, you have to be green, you have to be good, and all of this does not work well together. It leads to a lot of friction and tensions. Resolving them is very difficult.

Some people will follow that argument and say, Just let the marketplace deal with these conflicting interests.

I think it works partially in the sense that it can be commercially wise to become sustainable; if this is what the consumer wants, this is what the market will reward. But there are a number of buts. One is that you still have a lot of anti-sustainable practices that are encouraged by consumers. So clearly, they don’t always care about socially responsible corporate behaviour.

Another question, which is even more complex, is this: The link between sustainability and financial performance, from a stock market perspective, is increasingly unclear. There are still a lot of controversies about whether, and to what extent, the market values sustainability.

So to your question, no, because the market is really inefficient and doesn’t care about social justice. Maybe the market decides in 10 years that we need to do something, but right now some people are suffering and dying. So what do you say? Oh well, let’s wait 10 years when the market adapts and becomes efficient, in terms of information.

Think of the market as a response between a demand and an offer. What if your voice is never even recorded as a demand? You’ll never hear about some people because they’re not even recognized, or their voice will never be heard. To think you can resolve your problems by leaving them to the market is really an oversimplification of the world.

A study published a few years ago concluded that stakeholder capitalism hurts corporate performance, that commitments are mostly for show, that it insulates executives from shareholder oversight and that it advances a managerialist agenda by allowing executives to play stakeholders off against each other. Is this a harsh take?

I can see how stakeholder capitalism can be captured by management for their own profit and create room for opportunism. That being said, managerial opportunism wasn’t born 10 years ago. This is something that has existed forever.

Managerial opportunism is just adapting to the landscape. It’s an iteration of managerial agency theory, according to which stakeholders cannot fully trust managers because managers have their own interest at stake that’s not the same as shareholders. This is why we created boards and [why] we have a governance system to monitor management, to make sure management’s interests are in line with stakeholders as much as possible. There is nothing new from that perspective.

I don’t like the idea of managers being insulated from their shareholders. But you also don’t want shareholders to be insulated from the world.

You spoke earlier about the frictions and tensions associated with stakeholder capitalism. If you assume there is no ideal model for capitalism and that creative tension may actually be productive, perhaps this is not so bad. At least that’s one positive spin on the issue.

I love it. In one of my papers, I wrote about this notion of a healthy tension. It’s healthy to have disagreement, especially on a board. I think it’s a big red flag when you have no tension because we know that life is complex. We can’t necessarily resolve tensions but at least the recognition of these tensions is a condition of possibly doing something better.

Let’s embrace this imperfection. We shouldn’t try to hide it. It’s just life as it is.