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Stakeholders and Stakeholder Theories: An Analysis

Glenn Mason-Riseborough (23/5/2003)

 

1.0 Introduction

Historically, and perhaps still in some quarters today, a common view is that businesses’ and business managers’ only responsibility is to maximise profits for the owners or stockholders of the business (within the limits of the law).  The claim is that there are no further responsibilities, such as to customers, the environment, employees, or the wider community.  The only reason for acting in a way that satisfies the interests of these other groups is if such action is required by law, or such action would increase the stockholders’ profits.  And even then, the motivation would be because such action is in the interests of the stockholders, not because it is in the interests of anyone else.  Milton Friedman[1] is perhaps the most well known defender of this position.[2]  This approach goes by many names, including the “narrow view” of the social responsibility of business,[3] “stockholder theory”,[4] “managerial capitalism”,[5] and “restricted egoism”.[6][7]  This position is criticised at a number of levels,[8] and alternative models have been suggested, in replacement.  One such model—the stakeholder theory—has been suggested by R. Edward Freeman.[9]  On this view businesses have further social responsibilities.  These responsibilities are to a wider group—the stakeholders—and not merely to stockholders.  However, this model, too, has its critics.

I will start out in Section 2 with an overview of Freeman’s stakeholder theory.  I will analyse how we might understand who the stakeholders are.  I will also examine Freeman’s discussion of how the competing interests of the stakeholders are to be balanced.  I will then, in Section 3, briefly look at some of the arguments for and against Freeman’s position, and whether, on balance, it is defensible.

 

2.0 An overview of Freeman’s stakeholder theory

Stakeholder theory is a normative theory.  It is a theory that tells business managers what they morally ought to do.  It says that businesses, corporations, and business managers ought to respond to the interests or claims of stakeholders, in a proper way—“managers bear a fiduciary relationship to stakeholders.”[10]  Who are the stakeholders?  “Stakeholders are those groups who have a stake in or claim on the firm.”[11]  I’ll discuss this in more detail in Section 2.1.  What is the proper way?  For Freeman, “stakes require action of a certain sort, and conflicting stakes require methods of resolution.”[12]  That is, if some group or individual has a stake in a business, then this generates an obligation on the part of the business to consider this stake fairly, and to act in a way that “balances” this claim amongst competing claims.  For Freeman, all stakeholder claims are prima facie equal.  I’ll discuss this in more detail in Section 2.2.

 

2.1 Who are the stakeholders?

One notices, after little more than a cursory glance at stakeholder theory, that pining down exactly what a stakeholder is, is exceedingly difficult.  It is obvious that Freeman’s definition, given above in Section 2.0, is mostly circular and uninformative.  Freeman gives a number of more informative definitions further on in his article, and also gives some examples.  One such definition is that:

 

(1) Stakeholders of corporations are “groups and individuals who benefit from or are harmed by, and whose rights are violated or respected by, corporate actions.”[13]

 

But this still lacks clarity.  I’ll address two broad interpretive clarificatory questions, which will also illuminate certain central issues to do with the more substantive matter of who we ought to include as stakeholders.

First, does Freeman mean to say that for one to be a stakeholder one must both be able to be benefited or harmed, and have rights that are violated or respected?  Or is it intended to be either/or?  If he does mean the former, then suppose that, as it turns out, rights are nonsense.  Or perhaps merely that one took the stance that rights are nonsense.  Would this mean that there are never any stakeholders?  And thus business does not have responsibilities to anyone?  This would seem to be a problem (especially given Freeman’s “pluralism”, in the sense that he thinks that business managers can “choose” which “normative core” to adopt), and I suggest in replacement:

 

(1’) Stakeholders of corporations are groups and individuals who benefit from or are harmed by, or whose rights are violated or respected by, corporate actions.

 

This leaves the formulation a little more theory neutral, and does not require one to accept both benefit/harm and rights based normative theories.  Of course, a lot more work still needs to be done to explain what sorts of entities can potentially be benefited/harmed, or alternatively have rights.  For example, can groups, strictly speaking be benefited/harmed, or merely sentient beings?  And what sorts of entities have rights?  Can inanimate objects (the moon, forests, mountains, etc) have rights?  Furthermore, one wonders if we can be theory neutral or pluralistic, or whether we need to argue for a particular normative ethical theory before we even begin discussing stakeholder theory.  I merely flag these potential problems, but don’t attempt to address them all here.

Second, does Freeman mean to include all groups or individuals who benefit or are harmed, or have rights that are violated or respected, or just a subset of those so affected?  His phrasing could be taken either way.  In fact Freeman does take it either way, and distinguishes between two senses of “stakeholder”—the “wide-definition” and the “narrow definition”.[14]  Freeman apparently seems open to either definition, but chooses to focus on the narrow definition in his paper, and (at least initially) defend this more modest thesis.  First, Freeman’s wide-definition:

 

(2) “The “wide-definition” includes any group or individual who can affect or is affected by the corporation.”[15]

 

It is clearly intended by this definition to include all such groups and individuals in (1), and not just a subset.  But, interestingly, by including any such group or individual who can affect the corporation, (2) turns out to be even wider than (1).  That is, it is clear that not all groups or individuals who can affect or be affected by the corporation are those who are benefited or harmed or have rights that are violated or respected.  For example, take the unidentifiable hacker who might accidentally, unintentionally, and unknowingly affect a corporation’s computer system.  Such a hacker has not been benefited or harmed, and has not had her/his rights violated or benefited.  But clearly the hacker has affected the corporation.  The hacker is a stakeholder on (2) but not a stakeholder on (1).  Presumably we would not want to say that the hacker is a stakeholder or that the corporation has a responsibility to the hacker, but this is what is entailed by (2).  I suggest in replacement:

 

(2’) A group or individual is a stakeholder of some corporation if and only if it either benefits from or is harmed by the corporate actions, or its rights are violated or respected by the corporate actions.

 

It was a mistake for Freeman to change to talking about affecting and being affected by corporations.

However, (2’) still includes an extremely wide range of groups and individuals.  Depending on how we spell out benefits/harms and rights it seemingly includes competitors, extremist interest groups, burglars, terrorists, non-human animals, future generations, and many others.  Also, our hacker becomes a stakeholder if the corporation responds in some way against her/him.  Whatever the case, this may or may not be a problem, depending on how we spell out the level to which stakeholder theory requires that these groups and individuals are considered, and the extent of the actions required as a result of such considerations.  It seems plausible to me that they ought to be considered, even if, eventually, their interests are not satisfied (because stronger interests, or a greater number of individual’s interests outweigh them).[16]  Again, whatever the case, Freeman does not want to deal with this potential problem from the outset, and so gives his narrow definition, which he discusses for the remainder of his paper:

 

(3) “The “narrow definition” includes those groups who are vital to the survival and success of the corporation.”[17]

 

But, once again, this is unclear, and imprecisely expressed.

Is he meaning to say that he includes and only includes such groups?  Or is he leaving (3) open to also include other groups who are not vital in this way?  This is unclear, as in his explanation he merely gives some examples of who might be included.  But I take it that he is intending “and only includes” in (3), otherwise it is essentially the same as (2), in the sense that he would allow, without qualification, some groups who are not vital in this way.  I also presume that Freeman is intending to add on (3), conjunctively, to (1).

Interestingly, in this definition Freeman leaves out individuals (he also leaves it out of his initial uninformative definition, given above in Section 2.0).  This is a notable omission, for which there is no stated explanation.  Further, is he meaning to say that the groups, themselves, are stakeholders, or each individual member of the groups?  I don’t know.  In his examples of possible stakeholders, his explanations are at a very high level of generality, and he doesn’t mention individuals.  Yet surely it makes more sense to consider the interests, for example, of employees as individuals, and not merely as an entire group.

This also ties in with how fine-grained we are conceiving of the groups.  If we take the group at a very course-grained level, then we might say that humans are vital to the survival and success of any business, and so humans are stakeholders of all businesses.  If we take it more fine-grained, then we might say that factory workers who could easily be replaced by automation are not vital in this way, and are hence not stakeholders.  Ultimately, if we take our groups as so fined grained that each only includes one member—the individual, then we might say that none are vital, and none are stakeholders.

The level that Freeman is thinking of is vaguely suggested by some of his examples.  It seems to fall in between my first two examples—between humans in general, and the factory workers of the corporation.  He says that owners, employees, suppliers, customers, the local community, and management are all typically, but not exhaustively or necessarily, stakeholders according to (3).  He also tells us that competitors are not stakeholders, since they are not vital on the basis that “stakeholder theory works equally well in monopoly contexts.”[18]  However, he thinks they would be the first to be included in any extension to the theory.  But this doesn’t give us any help in deciding borderline cases (how wide or narrow do we understand the local community?).  Nor does it tell us why we ought to consider it at this level and not at some other level.

This leads us to also ask in what sense Freeman is intending to use the word “vital”, in (3).  For example, surely fowl are vital to the survival and success of KFC.  Without fowl, KFC would not be able to continue making and selling most of its chicken-based products.  Moreover, many fowl are clearly being harmed by corporate actions, and plausibly (at least on many accounts[19]) have rights that are being violated by such actions.  Does this mean that fowl are stakeholders in KFC?  Again, Freeman does not tell us if he intends to include fowl as stakeholders, in (3).

Another thought: might some groups be vital at some time, then cease to be vital at some later time?  For example, might employees’ vitalhood be dependant on technological developments?  For example, in a manufacturing business factory employees might have been vital in the past, but they are no longer vital because they can be replaced by automated machinery.  More concretely, might this mean that the individual factory worker who has worked in the same job for the past 40 years may have been a stakeholder in the past, but is no longer a stakeholder, because the group to which he belongs is no longer vital to the survival and success of the business?

Furthermore, can there be degrees of vitalness, on Freeman’s account?  That is, it seems, prima facie, that some groups or individuals are more vital than others (especially for the success of a business, which is not an all-or-nothing concept).  And if there are degrees of vitalness, does this mean that there are degrees of stakeholderness, or degrees of considerability?  Freeman apparently thinks not, but doesn’t explain why this might be.

I don’t suggest any answers to many of these questions above, because Freeman doesn’t give many specifics.  So I simply don’t know what he is really intending by (3).

Whatever the case about this interpretative issue, I suggest that we drop this whole notion of vitalness as central to defining stakeholders, and instead adopt a view of stakeholders closer to (2’).  I suggest this for three reasons.

First, as I suggest above, spelling out what it might mean to be vital to the survival and success of a business is exceedingly difficult, if not impossible.  (2’) also allows us to consider individuals, and so the ambiguity and vagueness of groups, and their vitalness, is avoided.

Second, it seems plausible to say that, on the basis of the above definitions, the corporation itself is a stakeholder.  Plausibly[20] it can be benefited or harmed by its own actions, and if other corporations have rights it also presumably has rights.  It is also undeniably vital to its own survival and success.  But if this is the case, then, by Freeman’s own claims (as I will discuss further below in Section 2.2), its interests should be considered prima facie equal to the interests of other stakeholders.  That is, it should not be privileged above them through, for example, building preferential treatment into the definition as is done in (3).  If Freeman wants to keep the unqualified equal consideration of stakeholders component of his theory, then he has got to dump (3)—he cannot consistently keep both.

Third, and most important, surely vitalness is not a morally relevant criterion, anyway.  Groups or individuals ought not be considered merely because it is in the interests of the business to consider them (in the sense that they are vital to the survival and success of the business).  Our rejection of the egoistic models taught us this.  Moreover, by tying in vitalness to the business, it seems to rest on the dubious assumption that the business ought to continue indefinitely into the future, come what may.  However, maybe it is the case that sometimes the morally right thing to do is for the business to end, if many groups or individuals, who are not vital to the survival and success of the business, are being harmed or are having their rights violated.  And the responsible thing to do is for business managers to recognise this possibility, and not rule out such groups or individuals as non-stakeholders and hence not considerable.

 

2.2 What happens when the interests of the stakeholders are in conflict?

Having pinned down, at least a little more precisely, who the stakeholders plausibly are, the next issue to be addressed is how to manage the various interests of the stakeholders.  Different stakeholders want different, often competing, things.  As Freeman observes: “owners want higher financial returns, while customers want more money spent on research and development.  Employees want higher wages and better benefits, while the local community wants better parks and day-care facilities.”[21]  They cannot all unreservedly get what they want.[22]  Freeman’s response to this is to say:

 

The stakeholder theory does not give primacy to one stakeholder group over another, though there will surely be times when one group will benefit at the expense of others.  In general, however, management must keep the relationships amongst stakeholders in balance.[23]

 

James M. Humber[24] points out that it is not clear whether, in this context, Freeman is using the word “stakeholder” exclusively in the narrower sense, or whether this statement also applies to the wider sense of the word.  I agree that it is not clear, but I suggest that it is most plausible to understand Freeman’s intention only in the narrow sense of the word.  This is because Freeman further suggests the reason for needing to keep the relationships of the stakeholders in balance is because if things are too “imbalanced” then the “survival of the firm is in jeopardy.”[25]  But talk of the survival of the firm as being essential is clearly only required on the narrow definition.  However, I don’t think that this need be the only reason for keeping the relationships in balance (and I don’t think it is a good reason), so I don’t think we need to understand it only in the narrow sense.

So what, actually, does Freeman mean in this quote?  I suggest not much.  Substantively, it is next to worthless with respect to telling business managers what criteria to use to actually make decisions in concrete cases.  All Freeman is saying is that businesses can’t satisfy all stakeholders (which is obvious), and so management must do the best they can to keep things “balanced.”  But “balance” is clearly being used in a non-literal sense, in this context, and it is used so vaguely as to mean almost anything.  At best we have a principle of equality, at least among stakeholders—all stakeholders are to be considered prima facie equal.  But we still have no further normative principle or principles to decide between the competing interests of these stakeholders.

Freeman’s further response is to say that it is up to managers to decide which “normative core” they will use, for the particular corporation.  In this respect he thinks that, strictly speaking, there are numerous stakeholder theories, and not one single stakeholder theory.  For example, one can have a “feminist standpoint”, which emphasises caring, connection and relationships.  Or alternatively one can have an “ecological” normative core, which emphasises caring for the earth.  Alternatively, Freeman suggests and explains, but doesn’t exclusively endorse, what he calls a “Doctrine of Fair Contracts”.  Each is apparently equally acceptable, for Freeman; he calls this a “reasonable pluralism”.

However, I don’t think it is all that reasonable.  Humber doesn’t think so either, when he discusses it in his Problem #4.  Very briefly, it seems to me that we need a theory that gives more definitive answers about substantive business issues, not one that can be used to support virtually any business decision, depending on which normative core business managers choose to insert into it.  Aside from a restricted principle of equality, stakeholder theory generates no further moral obligations on the part of the business, as all further obligations are up for grabs, depending on which normative core is chosen.  Minimally, for example, it could simply be interpreted as giving the stakeholders a forum to express their opinions and respond to each other.  But then, via an “invisible hand” argument, or a strong Kantian promissory position, one argues that on “balance” in all concrete situations it is better that the stockholders interests are met, at the expense of the other stakeholders.

 

3.0 Arguments for and against Freeman’s stakeholder theory

Freeman gives two main arguments in favour of stakeholder theory.  He calls these the legal argument and economic argument, respectively.  Neither argument is particularly strong.  I will just give the bare-bone arguments and replies; Humber gives a more detailed analysis.

The legal argument is based around the idea that, in fact, many legal systems now hold that businesses have obligations to many of the stakeholders, as discussed above.  And thus the theory is justified based on the law.  Humber observes two problems with this argument.  The first is that this observation about the law is also consistent with a restricted egoism, in which it is in the best interests of the stockholders if the business considers the interests of the other groups—if they don’t they will be fined or otherwise punished by the courts.  The second is that this argument makes the obvious confusion between what is morally right and what is legally right.  Just because something is legal doesn’t make it moral.

The basic claim of the economic argument is that there are weaknesses with the “invisible hand” argument in favour of managerial capitalism.  Various factors, such as externalities, moral hazards and monopolies, make the “invisible hand” less effective or impotent.  Thus, stakeholder theory satisfies the interests of more people than does managerial capitalism.  Humber’s response is to point out that while this may show that stakeholder theory is better than managerial capitalism, it has nothing to say about any other broad social responsibility theory.  The economic argument only works if there is no third (or fourth, etc) position available besides managerial capitalism and stakeholder theory.  And Freeman cannot just assume that there aren’t.

The arguments against stakeholder theory can come from both sides of the social responsibility of business fence.  Those who support a narrow view of the social responsibility of business can use the various arguments that putatively bite against the broad view in general.  There is a lot to say about all of these arguments, but I won’t say it here.  All I will say is that I don’t think any of these various arguments work against the broad view in general, and hence don’t work against stakeholder theory.

In addition, there are a number of worries aimed more specifically at the stakeholder theory.  These worries may be put forward by those within the broad social responsibility of business camp, who don’t think that the stakeholder theory is the right account of broad social responsibility.  I will just briefly run through four of Humber’s arguments, which are of this type.[26]  I take it that the fourth, especially, is extremely problematic for the theory.

First, the arguments given in favour of stakeholder theory are not convincing.  I have already discussed this in this section above.  This means that we have no positive reasons for adopting it in preference to some other theory.  This would be alright if there were no other plausible contender theories, but clearly there are.

Second, there is the problem of defining “stakeholder”.  I have already discussed this above in Section 2.1.  Humber thinks that until the meaning of “stakeholder” is pinned down more precisely, it is impossible to adopt the theory in practice (and likewise it is far too premature to make legal changes to force corporations to be managed with stakeholders in mind, as Freeman ultimately wants).  I have attempted to pin down the meaning more precisely in Section 2.1 above, but I grant that my suggested best definition is not the only definition available, and it is still possible to adopt a far narrower definition.

Third, Humber wonders why one ought to accept Freeman’s assertion not to give primacy to one stakeholder over another.  I think the answer to this is a moral one, which parallels the Principle of Equality.  However, if vitalness is included, and it is conceived of as a continuum, not a dichotomy, then Humber’s point still has weight.  We could conceivably give primacy to stakeholders who are more vital than others, and Freeman has not argued why we ought not do this.  Humber suggests that stockholders could be argued to be more vital to the survival and success of the business than the local community, and so a firm has no obligation to stay in some community if it is cheaper to move to some other location.  I think this objection can best be replied to by abandoning vitalness, as I suggested above in Section 2.1.

Fourth, there is the problem that I discussed above in Section 2.2, to do with Freeman’s “reasonable pluralism”.  Humber argues, via an imaginary scenario, that either (a) the stakeholder theory is inconsistent, or (b) that some specified action is right for a stakeholder theorist using one normative core, but wrong for some other stakeholder theorist using some other normative core.  And this leads, as I suggested above, to almost any corporate action being permissible.  This seems to be the most devastating objection to stakeholder theory.  The only way to respond to this objection is to abandon the notion of pluralism, at least in the extreme sense that Freeman apparently recommends.  This forces us to engage in debate about which normative ethical theory is the correct or best theory.  But if we do this, why not simply apply our winning moral theory directly to business decisions?  Why do we need to invoke the further notion of stakeholder?  It seems that the notion of stakeholder is redundant, misleading, and adds unnecessary complications due to its vagueness and ambiguity.

 

4.0 Conclusions

I have argued that, on balance, there are more problems for, than advantages of, stakeholder theory.  It is unclear whom we should include as stakeholders.  Moreover, it doesn’t help resolve concrete business dilemmas, as its plurality means that almost any business decision can be defended by stakeholder theory, depending on which normative core is chosen.  Ultimately, all it tells business managers to do is to consider all stakeholders equally, but doesn’t tell them specifically how conflict is to be resolved.

 

(4194 words)

Bibliography

DesJardins, J. & McCall, J. (1996). Doing Business Ethics: An Analysis of Friedman. In Contemporary Issues in Business Ethics (3^rd ed.), (pp. 12-21). CA: Wadsworth.

 

Freeman, R. E. (2001). A Stakeholder Theory of the Modern Corporation. In Snoeyenbos, Almeder & Humber (eds.), Business Ethics (3^rd ed.), (pp. 101-114). New York: Prometheus Books.

 

Friedman, M. (1998). The Social Responsibility of Business is to Increase its Profits. In D. M. Adams & E. W. Maine (eds.), Business Ethics for the 21^st Century, (pp. 41–45). CA: Mayfield.

 

Humber, J. M. (2001). Why I Am Not a Normative Stakeholder Theorist. In Snoeyenbos, Almeder, & Humber (eds.), Business Ethics (3^rd ed.), (pp. 115-124). New York: Prometheus Books.

 

Piggott, L. (2003). Lecture Five: Moral Issues Facing Employers I – Social Responsibility. Unpublished lecture notes for MGMT 331, University of Auckland.

 

Shaw, W. H. & Barry, V. (2001). Moral Issues in Business (8^th ed.). Belmont, CA: Wadsworth.