AAMA : Blogs : Goals of Financial Management: Value Maximization

Most corporations are owned by shareholders and within the construct of these corporations are managers who are placed with the one of the primary objective of maximizing shareholder wealth and fostering the growth of the intrinsic stock value (Ehrhardt & Brigham, 2010). According to the shareholder model, the objective of the firm is to continuously strive to maximize shareholder wealth through allocative, productive, and dynamic efficiency (Kyereboah-Coleman, 2007). It has recognized that the implicit goal of managers and directors of firms is to run in the interest of shareholders and shareholder wealth maximization is a long term-decision-making process (Brealey & Myers 2002;Kyereboah-Coleman, 2007).  The success or failure of a corporation, company, or organization is highly dependent on its ability to effectively increase its value from one fiscal year to the next and given the variability of the market this is a monumental task. Past occurrences of “stock market convulsions and corporate scandals” have led to the reigniting of what truly defines a corporation with particular emphasis being placed on the goal of shareholder value maximization (Sundaram, & Inkpen, 2004, pp. 350). The even that led to the articulation of the corporation’s primer goal of pursing shareholder value maximization was the ruling by the Michigan State Supreme court in Dodge vs. Ford Motor Company, 1911. It was Henry Ford’s intention to invest Ford Motor Company’s retained earnings in the company rather than distribute it to shareholders so the Dodge brothers, the minority shareholders, filed a suit against Ford charging him with the intent of wanting to benefit both employees and consumers at the expense of shareholders. The ruling that was made by the Michigan court favored the Dodge brothers in the belief that the sole intent of the business operations of corporations is for the profit of shareholders maximization (Sundaram & Inkpen, 2004).

Over the last two decades several other cases have rose to challenge the primary objective of corporations but the despite legislative efforts, the pendulum has swung back in favor of shareholders, and the responsibilities of business to increase profits for these shareholders. The authors (Ehrhardt and Brigham) state that value maximization or stockholder wealth maximization should be an objective because an attempt to maximize intrinsic stock value can produce residual benefits for consumers, employees, and shareholders society as a whole. The authors are able to convey that efforts to maximize shareholders’ wealth can help to ensure that they are compensated for the investment risks that are undertaken.  From a consumer perspective, this can create value for the consumer who is able to receive optimal service, appropriate stock of merchandise, and prime locations for business establishments (Ehrhardt & Brigham, 2010).  Consumers are viewed as valuable assets to a firm so it is imperative that efforts are made to provide them with excellent service and this can subsequently promote growth in sales. The long-term benefit is to satisfy the consumer.  On the other hand employees appear to benefit from stock maximization because this can also lead to the addition of more employees and ultimately benefiting society through increased employment. In my opinion, I do not believe that the objective of maximizing shareholder wealth is a globally accepted rule by managers of firms/corporations because there are those managers that value consumers and employee satisfaction above pursuing the total benefit of shareholders. According to Fortune magazine, an admired attribute of a company is the ability to “attract, develop, and retain talented people” with a correlations being identified with value of shareholders. (Ehrhardt & Brigham, 2010,pp.11).

The objective of management should be seen on a larger context to not only to benefit shareholders but also to benefit society at all because employees and consumers are part of our society. They have the ability to determine the success or failure of a corporation through their degree of involvement or satisfaction. While a primary objective of management of  management is shareholder value maximize and minimize shareholders’ losses without violating legal rules and the ethical customs of society; management should also focus on employees’ welfare and promotion of business ventures that are good for communities and society at large  (Alpaslan, 2009; Ehrhardt & Brigham, 2010). Managers are able to move beyond demonstrating how their actions only help to generate cash flow and thus promote the intrinsic value of their company but also help change business processes to promote social efficiency that other companies can strive to emulate  (Charlie Xiao-chuan, 2012). As a result of one company adopting the practice of identifying consumers and employees in the equation when attempting to maximize the intrinsic stock value of a firm, the practice can gradually become adopted by other companies. A shift can occur to where there is a growing awareness of the fact that the same actions that maximize shareholders’ wealth can also benefit society in the process (Ehrhardt & Brigham, 2010).

There is the potential for ethics and mortality to be turned into value through the identification of deceptive tactic and lesson being learned from these actions. For example, since managers are working on behalf of shareholders there can be pressure to continuously ensure that the company remains valuable no matter the associated cost (Sundaram  & Inkpen, 2004).Some have argued the shareholder value maximization should be considered the preferred corporate goal not simply because it is the law but also because it is also ethical but ultimately this primary goal can place some managers in compromising situations that lead to a crisis. In some situations, the shareholder value maximization can conflict with some prima facie duties such as the duty for reparations when managers need to make amends for their wrongful acts. It is important for managers to take responsibility for their actions and this may pose a challenge when it is between upholding the primary objective of a firm an abiding by what is considered to be ethically sound or morally right (Alpaslan, 2009; Kyereboah-Coleman, 2007). I am in agreement that ethics and morality can be turned into value because managers may choose to neglect that is considered to be ethical or moral behavior or acts in favor of maintaining the value of a company. The goals of the financial statements should not be heavily focused on shareholder wealth maximization so as to remove some of the added pressure to always success, no matter what the circumstances, that managers and directors continuously face. Conversely, consumers and employees are also less likely to suffer from the heightened pursuit value maximization, and the repercussions that can result from managers who are attempting to achieve this primary objective on an ongoing basis.

References

Alpaslan, C. M. (2009). Ethical Management of Crises: Shareholder Value Maximisation or Stakeholder Loss Minimisation?. Journal Of Corporate Citizenship, (36), 41-50.

Brealey, R.A. and S.C. Myers (2002). Principles of Corporate Finance,7th edn, McGraw-Hill/Irwin, London.

Charlie Xiao-chuan, W. (2012). Lifting the Veil: An Analysis of the Efficacy of Chinese Takeover Laws and the Road to a “Harmonious Society.”  Columbia Journal Of Asian Law, 25(2), 180-221.

Ehrhardt, M.C. & Brigham, E.F. (2010). Corporate Finance: A Focused Approach 4^th edn,, South-Western Cengage Learning ,United States.

Kyereboah-Coleman, A. (2007). Corporate Governance and Shareholder Value Maximization: An African Perspective. African Development Review, 19(2), 350-367.

Sundaram, A. K., & Inkpen, A. C. (2004). The Corporate Objective Revisited. Organization Science, 15(3), 350-363.