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Business Ethics without Stakeholders

Published online by Cambridge University Press:  23 January 2015

Joseph Heath
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Abstract:

One of the most influential ideas in the field of business ethics has been the suggestion that ethical conduct in a business context should be analyzed in terms of a set of fiduciary obligations toward various “stakeholder” groups. Moral problems, according to this view, involve reconciling such obligations in cases where stakeholder groups have conflicting interests. The question posed in this paper is whether the stakeholder paradigm represents the most fruitful way of articulating the moral problems that arise in business. By way of contrast, I outline two other possible approaches to business ethics: one, a more minimal conception, anchored in the notion of a fiduciary obligation toward shareholders; and the other, a broader conception, focused on the concept of market failure. I then argue that the latter offers a more satisfactory framework for the articulation of the social responsibilities of business.

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Articles
Information
Business Ethics Quarterly , Volume 16 , Issue 4 , October 2006 , pp. 533 - 557
Copyright
Copyright © Society for Business Ethics 2006

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References

Notes

1. For a discussion of the scope and impact of stakeholder theory, see Thomas Donaldson and Lee E. Preston, “The Stakeholder Theory of the Corporation: Concepts, Evidence and Implications,” Academy of Management Review 20 (1995): 65–91. For an overview, see Jeffrey S. Harrison and R. Edward Freeman, “Stakeholders, Social Responsibility and Performance: Empirical Evidence and Theoretical Perspectives,” Academy of Management Journal 42 (1999): 479–85.

2. Ronald K. Mitchell, Bradley R. Agle, and Donna J. Wood, “Toward a Theory of Stakeholder Identification and Salience,” Academy of Management Review 22 (1997): 853–86, at 855.

3. See, for example, Joseph R. DesJardins and John J. McCall, Contemporary Issues in Business Ethics, 5th ed. (Belmont, Calif.: Wadsworth, 2005). In Robert C. Solomon and Clancy Martin, Above the Bottom Line, 3rd ed. (Belmont, Calif.: Wadsworth, 2004), the authors go so far as to introduce the environment as “the silent stakeholder,” p. 310.

4. For a recent, high-profile example, see “Survey: Corporate Social Responsibility,” The Economist (Jan. 20, 2005).

5. The first two correspond well to the typology introduced by John Hasnas, “The Normative Theories of Business Ethics: A Guide to the Perplexed,” Business Ethics Quarterly 8:1 (1998): 19–42. On the third, my “market failures” model differs from the “social contract model,” in that it provides more explicit recognition of the adversarial structure of market transactions.

6. Thus, for example, Milton Friedman, the most influential proponent of the shareholder-focused view, criticizes the loose talk about “business” having social responsibility, and argues that these responsibilities, should there be any, must fall upon the shoulders of managers. “The Social Responsibility of Business Is to Increase its Profits,” New York Times Magazine (Sept. 13, 1970). Similarly, R. Edward Freeman, in his classic work on stakeholder theory, Strategic Management: A Stakeholder Approach (Boston: Pitman, 1984), identifies it quite explicitly as a set of obligations that fall upon managers, as part of their professional role.

7. John C. Maxwell, There’s No Such Thing as “Business” Ethics: There’s Only One Rule for Making Decision (New York: First Warner, 2003). One can find a considerably more sophisticated, but essentially similar, version of this idea in Norman Bowie, Business Ethics: A Kantian Perspective (Oxford: Blackwell, 1995).

8. This is the framework that is implicitly assumed by Andrew Stark, in his widely discussed paper, “What’s the Matter with Business Ethics?” Harvard Business Review (May/June 1993).

9. The locus classicus is Emile Durkheim, Professional Ethics and Civic Morals, trans. Cornelia Brookfield (Glencoe: Free Press, 1958).

10. For an overview of moral hazard in this context, see Paul Milgrom and John Roberts, Economics, Organization and Management (Upper Saddle River, N.J.: Prentice Hall, 1992), 167–97.

11. Oliver Williamson, “Markets and Hierarchies: Some Elementary Considerations,” American Economic Review 63 (1973): 316–25, at 318.

12. This is why, as R. M. MacIver emphasizes, “Each profession tends to leave its distinctive stamp upon a man, so that it is easier in general to distinguish, say the doctor and the priest, the teacher and the judge, the writer and the man of science than it is to discern, outside their work, the electrician from the railwayman or the plumber from the machinist.” “The Social Significance of Professional Ethics,” Annals of the American Academy of Political and Social Science 101 (1922): 5–11, at 11.

13. See, for example, Rakesh Khurana, Nitin Nohria, and Daniel Penrice, “Management as a Profession” in Restoring Trust in American Business, ed. Jay W. Lorsch, Leslie Berlowizt, and Andy Zelleke (Cambridge, Mass.: MIT Press, 2005).

14. Robert C. Clark, “Agency Costs vs. Fiduciary Duties,” in John W. Pratt and Richard J. Zeckhauser, Principals and Agents: The Structure of Business (Cambridge, Mass.: Harvard Business School Press, 1985).

15. It is worth noting that there have been some moves afoot among business schools to start offering students some of the trappings of a professional association. One school in Canada, for instance, has begun offering a ring ceremony modeled on that of engineers, where students “make a public oath to behave honorably and, in return, receive an inscribed silver ring to wear as a reminder.” Jane Gadd, “Is Ethics the New Bottom Line?” The Globe and Mail (March 8, 2005), E6. It seems to me that the question of whether we want to describe management as a profession should not depend upon the success or failure of such efforts.

16. There are parallels between this aspect of my argument and that of Wayne Norman and Chris MacDonald, who argue that so-called 3BL accounting is also “inherently misleading.” See “Getting to the Bottom of the ‘Triple Bottom Line,’” Business Ethics Quarterly 14 (2004): 243–62, at 254.

17. This should be interpreted as a positive (i.e., factual) claim about the structure of corporate law. See Frank H. Easterbrook and Daniel R. Fischel, The Economic Structure of Corporate Law (Cambridge, Mass.: Harvard University Press, 1991), 90–91. Whether managers should be fiduciaries of shareholders, or just shareholders, is of course the subject of considerable controversy among business ethicists. For a defense of the claim that they should be, see Alexei M. Marcoux, “A Fiduciary Argument Against Stakeholder Theory,” Business Ethics Quarterly 13:1 (2003): 1–25.

18. Marjorie Kelly, “Why all the Fuss about Stockholders?” reprinted in her The Divine Right of Capital (San Francisco: Berrett-Koehler, 2001).

19. The paper that really set economists off in the wrong direction was Armen A. Alcian and Harold Demsetz’s “Production, Information Costs, and Economic Organization,” American Economic Review 63 (1972): 777–95, with their suggestion that the firm is really just a “privately owned market,” p. 795. It should be noted, however, that subsequent work by incentive theorists has been considerably less sanguine about the efficiency properties of such “markets.”

20. For a critique of these and other “framing assumptions” in agency theory, see J. Gregory Dees, “Principals, Agents and Ethics,” in Ethics and Agency Theory, ed. Norman E. Bowie and R. Edward Freeman (New York: Oxford University Press, 1992), 35; also John Boatright, Ethics in Finance (Oxford: Blackwell, 1999), 49.

21. For example, the chapter in Milgrom and Roberts, Economics, Organization and Management, on moral hazard has a section entitled “Controlling Moral Hazard” (pp. 185–192), which discusses, among other things, employee monitoring, supervision, incentive contracts, performance pay, bonding, and ownership changes as managerial strategies for preventing shirking. At no point is it mentioned that employees may respond to changes in “internal” motives (such as whether they love or hate the company they work for). It also exhibits a lack of concern for the fact that external performance incentives, such as pecuniary compensation, have the potential to “crowd out” moral incentives, and thus in some cases generate collective action problems rather than resolve them. See Bruno S. Frey, Felix Oberholzer-Gee, and Reiner Eichenberger, “The Old Lady Visits Your Backyard: A Tale of Morals and Markets,” Journal of Political Economy 104 (1996): 1297–1313.

22. Pepper v. Litton 308 U.S. 295 (1939) at 311. Cited in Robert C. Clark, “Agency Costs versus Fiduciary Duties,” p. 76. As Clark observes, the use of moral rhetoric in cases involving breach of managerial duty is highly significant, because as a general rule “our society is reluctant to allow or encourage organs of the state to try to instill moral feelings about commercial relationships in its citizens,” p. 75.

23. Although admittedly an unscientific survey, I have in my office fifteen different introductory business ethics textbooks, many of which discuss insider trading, but only one of which (John E. Richardson, Business Ethics, 16th ed. [Dubuque: McGraw-Hill, 2004]) makes any mention of the issue of employee expense account abuse or employee theft. Even then, the discussion focuses upon falsification of expenses, and does not mention the issue of mere profligacy.

24. See Alex C. Michalos’s critique of “the loyal agent’s argument,” in A Pragmatic Approach to Business Ethics (Thousand Oaks, Calif.: Sage, 1995), 50–52. Also Richard T. DeGeorge, “Agency Theory and the Ethics of Agency,” in Ethics and Agency Theory, 65–66.

25. Arthur Isak Applbaum, Ethics for Adversaries (Princeton, N.J.: Princeton University Press, 2000).

26. For example, see Tom L. Beauchamp and Norman E. Bowie, Ethical Theory and Business, 6th ed (Upper Saddle River, N.J.: Prentice Hall, 2001); Deborah C. Poff, Business Ethics in Canada, 4th ed (Scarborough: Prentice Hall, 2005); and Thomas White, Business Ethics: A Philosophical Reader (New York: Macmillan Publishing, 1993).

27. Khurana, Nohria, and Penrice, for example, in “Management as a Profession,” argue that a bona fide profession requires of its members “a renunciation of the profit motive.” They then blame “the doctrine of shareholder primacy” for recent corporate ethics scandals, on the grounds that it “has legitimized the idea that the benefits of managerial expertise may be offered for purely private gain.” This “led directly to many of the worst profit-maximizing abuses unmasked in the recent wave of corporate scandals.” Such an analysis is almost exactly backwards. The problems at Enron (for example) were not due to managers maximizing profits; they were due to managers failing to maximize profits, then creating special-purpose entities to keep more than $26 billion worth of debt off the balance sheet, precisely to generate the illusion of profitability. The fact that they were able to line their own pockets in the process demonstrates the extent to which the goal of maximizing one’s own personal earnings and maximizing the profits of a firm can diverge. Professional conduct requires setting aside the goal of maximizing one’s own earnings, but that does not preclude one from earning money for others. Divorce lawyers seek to secure the largest settlement for their clients, without that compromising their status as professionals.

28. David Gauthier, Morals by Agreement (Oxford: Clarendon Press, 1986).

29. For an especially clear example of confusion on this score, see Ronald F. Duska, “Why Be a Loyal Agent? A Systemic Ethical Analysis,” in Ethics and Agency Theory, 157–59. He talks about the “self-interested pursuit of profit,” and argues that in order to diminish the level of self-interested behavior on the part of individuals within a firm it will be necessary to challenge the orientation toward profit-making on the part of the business as a whole.

30. John Kay, The Truth About Markets (London: Penguin, 2003), writes “it is not true that profit is the purpose of the market economy, and the production of goods and services the means to it: the purpose is the production of goods and services, profit the means,” p. 351.

31. See Nicholas Barr, The Economics of the Welfare State, 3rd ed. (Stanford, Calif.: Stanford University Press, 1998), 70–85.

32. Kenneth Goodpaster, “Business Ethics and Stakeholder Analysis,” Business Ethics Quarterly 1:1 (1991): 53–73, at 60.

33. R. Edward Freeman, “A Stakeholder Theory of the Modern Corporation,” in The Corporation and its Stakeholders, ed. Max B. E. Clarkson (Toronto: University of Toronto Press, 1998), 126.

34. Freeman, “A Stakeholder Theory of the Modern Corporation,” 129.

35. Ibid., 132. For an example of this view, further developed, see the list of “Principles of an Ethical Firm,” in Norman Bowie Business Ethics: A Kantian Perspective, 90.

36. Goodpaster, “Business Ethics and Stakeholder Analysis,” 61–62.

37. Some U.S. states have been moving in this direction, see n. 54 below.

38. Joseph Heath and Wayne Norman, “Stakeholder Theory, Corporate Governance and Public Management,” Journal of Business Ethics 53 (2004): 247–65.

39. For a survey of attempts to define the term, see Mitchell, Agle, and Wood, “Toward a Theory of Stakeholder Identification and Salience,” 856–58.

40. The narrow definition is from Freeman, “A Stakeholder Theory of the Modern Corporation,” 129; the wide is from Freeman, Strategic Management, 46.

41. Mitchell, Agle, and Wood, “Toward a Theory of Stakeholder Identification and Salience,” propose a very nuanced analysis of stakeholder groups, classifying them in a way that reflects their relative “salience” to managers. They go on to observe that, “if the stakeholder is particularly clever, for example, at coalition-building, political action, or social construction of reality, that stakeholder can move into the ‘definitive stakeholder’ category (characterized by high salience to managers),” p. 879. This sort of observation shows how stakeholder analysis may be useful for strategic management, but when employed without further ado as the normative foundation of business ethics tends to favor the squeaky wheel.

42. See Bruce Langtry, “Stakeholders and the Moral Responsibility of Business,” Business Ethics Quarterly 4 (1994): 431–43, at 432.

43. Mitchell, Agle, and Wood, “Toward a Theory of Stakeholder Identification and Salience,” 859.

44. Heath and Norman, “Stakeholder Theory, Corporate Governance and Public Management,” 255–56.

45. Milton Friedman, “The Social Responsibility of Business Is to Increase its Profits,” 34.

46. Applbaum, Ethics for Adversaries.

47. For an example of the former, see Freeman, “A Stakeholder Theory of the Modern Corporation,” 132; for an example of the latter, see Mitchell, Agle, and Wood, “Toward a Theory of Stakeholder Identification and Salience.”

48. See Rogene A. Buchholz and Sandra B. Rosenthal, “Toward a Contemporary Conceptual Framework for Stakeholder Theory,” Journal of Business Ethics 58 (2005): 137–48.

49. Kelly, “Why all the Fuss about Stockholders?” Also Max Clarkson’s introduction to The Corporation and its Stakeholders (Toronto: University of Toronto Press, 1998). Bowie offers an approving survey of such strategies in Business Ethics: A Kantian Perspective, 144–45.

50. Clarkson, The Corporation and its Stakeholders, 1. For a clear antidote to these sorts of views, see Henry Hansmann, The Ownership of Enterprise (Cambridge, Mass.: Harvard University Press, 1992).

51. See Easterbrook and Fischel, The Economic Structure of Corporate Law, 90–91.

52. See, for example, E. W. Orts, “Beyond Shareholders: Interpreting Corporate Constituency Statutes,” George Washington Law Review 61 (1992): 14–135; also Donaldson and Preston, “The Stakeholder Theory of the Corporation,” 75–76.

53. Freeman, “A Stakeholder Theory of the Modern Corporation,” 128.

54. John Boatright, “Fiduciary Duties and the Shareholder-Management Relation: Or, What’s so Special about Shareholders?” Business Ethics Quarterly 4 (1994): 393–407, at 402. See also James J. Hanks, Jr., “Playing with Fire: Nonshareholder Constituency Statutes in the 1990s,” Stetson Law Review 21 (1991): 97–120.

55. Donaldson and Preston, “The Stakeholder Theory of the Corporation,” 76.

56. Ronald Coase, “The Nature of the Firm,” Economica 4 (1937): 386–405, at 389. See also Williamson, “Markets and Hierarchies,” 316.

57. Eric Noreen, “The Economics of Ethics: A New Perspective on Agency Theory,” Accounting Organizations and Society 13 (1988): 359–69.

58. Allen Buchanan, “Toward a Theory of the Ethics of Bureaucratic Organizations,” Business Ethics Quarterly 6 (1996): 419–40.

59. Kenneth Arrow, in “Social Responsibility and Economic Efficiency,” Public Policy 21 (1973): 303–17, puts particular emphasis on the consequences of firms maximizing profits in cases where there are pollution externalities and information asymmetries that favor the firm. “The classical efficiency arguments for profit maximization do not apply here,” he writes, “and it is wrong to obfuscate the issue by invoking them,” p. 308.

60. For more extensive discussion, see Joseph Heath, The Efficient Society (Toronto: Penguin, 2001).

61. Langtry, “Stakeholders and the Moral Responsibility of Business,” 434–35.

62. Goodpaster, for example, moots such a proposal in “Business Ethics and Stakeholder Analysis,” 67–68. The term “side constraint” is from Robert Nozick, Anarchy, State, and Utopia (New York: Basic Books, 1974), 28–32, whose discussion of the issue is also quite helpful.

63. Goodpaster, “Business Ethics and Stakeholder Analysis,” 66.