Not everything that counts can be counted
After I wrote about the problem with shareholder value maximization a couple of weeks ago, a reader asked me if I knew any methodologies on how to manage a company from a stakeholder value maximization perspective. This is a legitimate question because it is not evident how to weigh the concerns of different stakeholders ranging from shareholders to clients to employees and the local community.
And indeed, there is no formal approach that I know of how to weigh the interests of different stakeholders. But then again, I think we all practice stakeholder value maximization on a daily basis.
Think about you and your family. You may be married and have two children. Both you and your other half may have siblings as well as parents and parents-in-law.
In this family business shareholder value maximization amounts to you doing whatever you think is best for you and what you like to do best. Who cares about what your wife or your children ant, as long as you can go to the pub and hang out with your mates. Obviously, that won’t work for long and your family business will end in divorce. So, you engage in a form of enlightened shareholder value maximization where you think about the needs of your wife as well and take on childcare duties, support your wife in her professional endeavours, etc.
That works better, but you still have to deal with conflicts between different stakeholders. Your children may want different things that are mutually exclusive. Your mother-in-law may think you are not good enough for her son and gives you a hard time. And just wait what happens if parents die and siblings try to get their hands on the inheritance…
Yet, somehow, we all deal with these diverging interests all the time without having gone to business school and without any formal training in stakeholder management. Yes, some of us are better at it than others, but the same holds true for shareholder value maximisation.
All of that is to say that there is no formal theory or universal guide to stakeholder value maximisation because it tries to weigh quantitative and qualitative aspects against each other. And that doesn’t lend itself to economic analysis. As George Akerlof has shown nicely in a forthcoming article in the Journal of Economic Literature, economics, and business sciences have always preferred hard problems over soft problems. Hard problems in this context mean problems that can be quantified and tackled with an equation, while soft problems are not easy to define or undefinable altogether. This focus on hard problems has led to Sins of Omission and he gives several important examples:
Our failure to predict the financial crisis of 2008 due to our failure to understand the interconnections between different markets
Our failure to predict the actions of actors that act rationally, but not to optimise a given monetary utility function.
In particular, the last point goes to the core of the issue. What motivates people to do a vs. b. We still have no real understanding of what motivates people. And because we don’t, we also have a hard time grasping how to deal with things like ESG investing and climate change, smoking, becoming a socialist or simply why Chinese people are quite happy to live in a less free society than we do in the West. As long as we don’t understand the motivations of different stakeholders, we will not be able to maximise stakeholder value, but then again, evolution has given us all the tools needed to practice stakeholder maximisation: Empathy and the ability to put yourself in someone else’s shoes.