Cracks in the Foundation of Stakeholder Theory by - Waikato ...

Cracks in the Foundation of Stakeholder Theory
by: Andrew R. Weiss
Introduction
Stakeholder Theory has become an established framework within which to identify and examine the
impact of organization action. It has been used to inform discussion of corporate governance, business
ethics, strategic management and organizational effectiveness. Donaldson and Preston note that "a
dozen books and more than 100 articles with primary emphasis on the stakeholder concept have
appeared and that "the stakeholder model has become a standard element of 'Introduction to
Management' lectures and writings" (1995:65-66). In fact, one might argue that Stakeholder Theory is
approaching paradigm status. It consists of a general system of ideas and assumptions, standard
examples and established assertions. Given its broad impact, the general foundation and assumptions
on which the broad outlines of Stakeholder Theory rest warrant examination.
Stakeholder Theory posits a model of the enterprise in which "all persons or groups with legitimate
interests participating in an enterprise do so to obtain benefits, and there is no prima facie priority of
one set of interests and benefits over another" (Donaldson and Preston, 1995:68). The model rejects
the idea that the enterprise exists to serve the interest of its owners, be that maximizing their wealth or
some other reason for being in business. Rather, the model is based on the idea that the enterprise
exists to serve the many stakeholders who have an interest in it or who in some way may be harmed or
benefitted by it.
Stakeholder Theory may, as Donaldson and Preston (1995) point out, be stated in descriptive,
instrumental or normative terms. For example, Brenner and Cochran offer a Stakeholder Theory of the
firm to "describe how organizations operate and to help predict organizational behaviour" (1991:452).
Freeman (1984, 1991), on the other hand, uses Stakeholder Theory to develop an instrumental
approach to managerial, especially strategic, practice. Donaldson and Preston, however, make a
persuasive case that Stakeholder Theory is essentially normative: Stakeholder Theory cannot be
supported on descriptive and instrumental grounds alone. It goes beyond the simple (and obvious idea)
that organizations have stakeholders to the more fundamental question of what interests should drive
the enterprise, and in whose interests the enterprise should operate. Stakeholder Theory develops
implications of this model for describing the role of management, managerial practice, business ethics
and describing the actions of the enterprise. Ultimately it asks in whose interests should the enterprise
be run, and who it is that management serves.
While the general perspective of Stakeholder Theory may be plausible, there are cracks in the
conceptual and empirical foundation on which it rests. These flaws weaken it and masks some of its
implications. Taken together, they suggest that Stakeholder Theory is based on a limited analysis of
the relationship of business activity to the institutional structure of modern capitalist society (at least in
the United States, which is the limit of this essay). It understates the need for fundamental structural
change if the interests of stakeholders are to become integral to the operation of the enterprise.
Because of the cracks in the foundation of Stakeholder Theory serious questions can be raised
concerning the utility and validity of any moral conclusions or prescriptions it offers.
First Crack: Conceptual Confounds
Stakeholder Theory is ultimately about the control and governance of business activities: who shall
control them and in whose interests they will conducted. However, within Stakeholder Theory the
terms enterprise and corporation tend to be used interchangeably, confounding what are actually two
distinct concepts. This obscures differences in the range of ways in which business activities can be
governed, and makes the control of enterprises seem more problematic than it is.
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The concept of the enterprise is simple: it is permanent commercial establishment that takes various
inputs and transforms them into products or services. An enterprise comes into being when an
individual or group of individuals set out to engage in some economic activity. That they do so is
simply a matter of personal goals and the enterprise is a vehicle for achieving what ever goals they
bring to it. They use their own resources (financial capital, human capital, their own labour) to achieve
these goals. In the process they create a stream of activities which they control because these activities
use resources that they have purchased and own. For the same reason, they own the outputs of the
enterprise and may dispose of them as they see fit (constrained only by law and custom, and their own
values). They may enter into agreements with other individuals to provide supplies, money or labour
power to be used in the course of doing business (this assumes, of course, that labour power is a
commodity, which is a controversial assumption in some circles, but a necessary and accepted aspect
of a capitalist economy).
The activities that characterize an enterprise result in transactions that are organized by markets and
systems of law and regulation. These transactions represent one kind of relationship between the
enterprise and individuals or other enterprises. In the course of doing business, the enterprise also
affects individuals and enterprises indirectly: it produces harms and benefits, some of these are not
included in the prices for the goods bought and sold--what Coase (1961) called externalities.
Stakeholder Theory, on the other hand, defines the enterprise as an "entity through which numerous
and diverse participants accomplish multiple, and not always congruent, purposes (Donaldson and
Preston, 1995: 70). This confuses the enterprise and the interests of its owners with those parties with
whom it interacts directly or indirectly. Stakeholders are any persons or groups that are harmed or
benefited by, and so have a legitimate interest in, the enterprise. Consequently, they have a legitimate
stake in how the enterprise runs and a claim on its control. They have a right to divert some of the
benefits away for the owners and to be protected from harm.
Stakeholder Theory often presents the enterprise as a nexus of interests, what Brummer (1991:16)
called a "web of private agreements". The image of the enterprise as a web obscures the fact that it is
owners of the enterprise and not the enterprise itself, who are at the centre of the web. They are the
one party common to all interactions with, and effects on, other parties. It misses the point that there
are no other interests in the activities of the enterprise until it comes into existence and its owners enter
into agreements with other parties or create externalities. Stakeholder Theory confuses the enterprise
with the relationships that form, and interactions that occur, in course of doing business.
The actions of the enterprise have consequences, intended and unintended, which can cause harms and
benefits to the parties directly involved with it and to bystanders. Someone must be morally and
legally responsible for these consequences. As a stream of activities or a set of resources the enterprise
cannot be responsible in moral terms: only a human being can be a moral agent. Moral responsibility
lies with the people who create and control the enterprise, directly or through agents who work for
them and in their name.
By that same logic, an enterprise itself cannot enter into contracts, own property, be sued or hire
employees. Such activities are limited to what the law refers to as "legal persons:" persons who have
legal rights defined within a system of social and economic institutions. Not all people in a society are
necessarily persons in the full legal sense. Until recently, some people were denied the full legal status
as persons as minor children still are.
On the other hand, not all legal persons are people. The corporation is a legal device in which a
fictitious person is created which has the legal standing to engage in economic and legal transactions.
Creating a corporation provides a way to pool, organize and govern the use of resources that are
privately owned by a number of people. It makes it possible for a group of people (a company) to
conduct business as a single legal entity. The corporation is a legal person and has many of the
specific rights of an individual. It in turn is owned by its stockholders who control it through a board
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of directors and officers. A corporation is created (in the United States, at least; other countries have
different approaches) by individuals through a routine application to a state government.
Incorporation is a contrivance. It is a legal device that makes it easier and more convenient for people
to do what they can already do as individuals, exercising rights they already have. The primary value
of incorporation is that the fictitious person can nominally be a party to a contract, hold title to
property or engage in transactions. This makes it unnecessary for all of the owners of an enterprise to
directly involved in all actions undertaken in course of doing business. Over the years, governments
have provided some incentives to corporations, especially in granting special tax status and limiting
the liability of owners in torts to their total investment in the enterprise, in order to facilitate the
conduct of business, but this has not changed the nature or status of the corporation. In fact, there is
virtually nothing that a corporation does that could not be done by individuals through a series of
contracts and informal agreements.
Incorporation does not confer an especially privileged status on, or change the nature of the enterprise.
The control by owners of the enterprise and their moral responsibility for the consequences of its
activities are not changed by incorporation. The corporation is the creature of its owners and provides
a legal intermediary between the owners and the enterprise. It serves as a surrogate for the owners as
the nominal party to transactions and contracts. However, it cannot be a moral agent because it is not a
human being. The moral responsibility for the enterprise passes through the corporation and rests with
its owners.
Contracts and less formal but stable understandings between an enterprise and other parties (see
Weiss, 1982 for a discussion of such understandings) represent ways of reducing transactions costs
between the enterprise and other parties by regularizing what would otherwise require a series of
ongoing market interactions and negotiations. It is the owners whose interests are reflected in the
enterprise's side of the contract or understanding. Other parties to direct interactions, contracts or
understandings negotiate rights, compensation for harms and payments for benefits that they will
receive as terms of the contract or understanding. As participants in markets, specific transactions
reflect negotiations in which parties are assumed to be voluntary participants. To be sure, these
negotiations may be unfair--one party may have more power than others. The enterprise may be the
weaker party, especially when it is small relative to the market or community within which the
negotiation occurs. However, this is a question of the structure of particular markets and does not alter
the conventional model of the enterprise.
The problem of externalities still exists, of course. Protecting people from or compensating them for
the indirect harms caused by the actions of an enterprise requires processes that go beyond the market
such as regulation and legal action, but this doesn't change the issue of legal or moral responsibility of
owners. The moral responsibility for these harms rests with the owners of the enterprise or the
corporation. There is nothing the conventional view of the enterprise, or in the nature of capitalism,
that would relieve owners of the moral obligation to obey the law or to take responsibility for the
consequences of their actions.
Contracts and agreements may be negotiated and executed by the owners of an enterprise or by agents
who act in their name and in their interest. Even if the owners empower agents to negotiate for them or
to operate the enterprise in their name, contracts and agreements still exist between the owners and
other parties. This is also the case in corporations where there are multiple owners and an intermediate
structure (the corporation itself): the principal-agent relationship stays the same, and the owners bear
responsibility for the consequences of the actions of the enterprise. This is not to say that agents
always act as their principals would have them act. Agency theory (c.f., Jensen, 1989; Jensen and
Mechling, 1976) examines the problems of maintaining control over agents who may act in their own
interests rather than in the interest of their principals, but it starts from the assumption that agents are
expected to represent their principles. The underlying assumption of agency theory is that the legal
rights of owners and their moral responsibility remains at the centre of the enterprise.
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Stakeholder Theory confuses the person who conducts business (the owners or the corporation as the
creature of its owners) with the conduct of business itself (the enterprise). It confuses the parties to the
actions of the enterprise with the owners of the enterprise. While seeing the enterprise as a nexus of
interests, it fails to note that the owner or corporation and not the enterprise is always one of the
parties to the contract, that the interests of the owners are always one side of the conrtact, and that an
enterprise as a stream of activities or the corporation as a fictitious legal person cannot a moral agent:
it is the owners who are the moral agents.
Second Crack: the Idea of A Social Contract for Business
In some forms of Stakeholder Theory, it is argued (although more often implicitly assumed) that there
exists a social contract between business and society that provides a moral basis for the social control
of business activity. Stakeholder Theory tends to assume that the actions of enterprises can be legally
and morally constrained, and that moral (rather than merely legal) obligations can be placed on
corporations because business is a creature of society. Donaldson articulates this with the assertion
that "What productive organizations need from society is:
Recognition as a single agent, especially in the eyes of the law, and
The authority:
(a) to own or use land and natural resources, and
(b) to hire employees" (1982:43).
He goes on to argue that because productive organizations require (and receive) specia l status under
the law and use society's resources, they can be morally obligated to serve the public interest.
For Stakeholder Theory to be valid, this claim on the enterprise must be a moral obligation in order to
legitimate the claims of stakeholders. Stakeholder Theory does this by claiming a prior, implicit social
agreement exists to which all members of society are parties. It provides a response to the argument
that the interests of stakeholders who are directly involved with the activities of an enterprise are
already taken into account because they are engaged in voluntary transactions. It also allows
Stakeholder Theory to identify and legitimate the interests of stakeholders who are not directly
involved, such as communities, who may be affected indirectly as a consequence of the activities of an
enterprise. Their stakes are legitimated because society grants the enterprise the right to exist.
But, as Donaldson concedes, individuals already have the rights needed to create an enterprise. They
need no special provision (except, perhaps, in some cases were a licence is required) to operate a
specific business. It is a consequence of the interwoven institutions of capitalist society that individual
has all the rights necessary to establish an enterprise, to own property, to make things alone or hire
others to work and to create a company of people, an organisation, to produce, manage, to buy
supplies, sell what is made, with no additional recognition from society. If there is a social contract for
business in a capitalist society, it lies in the provision of rights and institutional arrangements that
support the creation of enterprises.
Stakeholder Theory tends to ignore the fact that there is already a social contract for business in
contemporary society which includes what might be called the minimalist morality of modern
capitalism: moral obligations to obey the law, honour contracts and agreements and respect the rights
(including property rights) of others. The ideology of capitalism asserts that economic value is
produced by owners who, having deferred consumption, have taken their savings and put them to
productive use in ways that are available to any other member of society. They therefore have an
exclusive moral claim to the benefits produced by their activities.
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Stakeholder Theory does not provide an alternative answer to the question of who, or what, produces
economic value. Its focus is on the distribution of the outcomes, the harms and benefits, and not on
who produced the harms and benefits. It assumes value is produced by the enterprise itself and that
stakeholders have a claim on some of this value because the enterprise is a creature of society.
The social contract of modern capitalist society does not require the kind of attention to the interests of
all stakeholders that Stakeholder Theory envisions. It assumes that capitalists produce value, that all
transactions are voluntary and that people can take legal action to recover damages in the case of
harms caused by others. The moral responsibility of the owner of a business is that of any individual in
society. A minimalist morality may or may not be adequate from some moral perspectives but it is the
basic moral framework of modern capitalism. The institutional structure of modern capitalism is
rooted in an ideological system that legitimates the actions of creating an enterprise and conducting
business, as well as claiming the value produced, within its own moral system.
The claim that business has a special, distinct moral status cannot be derived from the nature of the
enterprise, or from the nature of the corporation. Stakeholder Theory makes implicitly the assumption
that Donaldson makes explicit: the enterprise has a distinct, privileged social status. As a result, it
claims a moral justification for limiting the rights of owners, and importing the interests of
stakeholders in to the operation of the enterprise. This is inconsistent with the arrangement of the
institutions of modern capitalism, institutions that legitimate the right of owners to control the
enterprise and use it for their own, private purposes. Within the moral structure of capitalism this is
accepted as moral behaviour.
Third Crack: the General Applicability of Stakeholder Theory
Stakeholder Theory grounds its vie w of the moral issues surrounding the enterprise in the issue of the
control and governance of large corporations. It routinely, and uncritically, builds on the argument
advanced by Berle and Means (1932) that ownership and control are separated in modern
corporations. Berle and Means argued that the rise of professional managers and the growing size and
stability of stock markets had led to a situation where corporations were owned by large numbers of
stockholders who held small amounts of stock. These owners became increasingly disengaged from
the running of the enterprise and control of the corporation, being content to invest in or sell shares in
the corporation response to its financial performance. Stakeholder Theory argues that because
ownership is diffuse, the property rights and moral agency of owners are increasingly irrelevant. This
opens the way for further legitimating the claims of stakeholders against those of owners.
Proponents of the Berle and Means hypotheses extend the argument by pointing out that institutional
investors have substantial holdings in the equity in publicly traded firms. They own 45.6% of all
equity and 57.1% of the largest 1000 companies. It is widely assumed that such investors do not
engage in the affairs of the corporations in which they own stock, preferring to simply sell their shares
if the stock does not perform as they like, leaving management a free hand to establish the goals and
priorities of the corporation. Two recent articles in the Wall Street Journal (1995a, 1995b) outlining
aggressive actions taken by institutional investors seeking to maximize return on stockholder wealth
attest to their interest in, and ability to influence the management of the corporations in which they
own stock. Pension funds and other institutions are voting their shares and intervening in management
to further their interests as owners. Clearly, there are a number of large corporations in which
management is able to exercise control with little involvement of stockholders, but this is not always
the case in even the largest publicly held corporations, and is certainly not the case in the vast number
of enterprises. It is not possible to simply assert that stockholders are routinely disengaged from the
control of even very large corporations.
Because Stakeholder Theory does not make a clear distinction between enterprise and corporation, it
dramatically overstates the separation of ownership and control, generalizing from corporations to all
enterprises. It doesn't acknowledge that the Berle and Means argument, at best, can only apply to the
relatively small number of very large corporations in which ownership is publicly traded. However,
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there were about 20 million business establishments in the United States in 1990. Of these, 3,717,000
were legally organized as corporations, 1,554,000 were partnerships and 14,783,000 were sole
proprietorships (Statistical Abstract of the United States, 1994:539). On the other hand, there are
roughly ten thousand corporations (two tenths of one percent of all corporations) in which ownership
shares are publicly traded corporations. In all but these ten thousand corporations, owners are either
directly involved with management or personally know the managers and control of the enterprise is
directly tied to ownership: the owners are close to business and can impose their interests on it.
It could be argued that the patterns of control in large publicly traded corporations should be taken as a
model because they represent the bulk of economic activity. It is true that the publicly traded
corporations account for about 75% of the American Gross Domestic Product (GDP). With the 500
largest industrial corporations accounting for about 19% of total sales in the United States (Statistical
Abstract of the United States, 1994:559). However, these numbers can be misleading: they represent
final goods. That is, the contribution to GDP and the reports of total sales represented by these large
enterprises includes the economic output of the many other, smaller businesses that supply them with
inputs. The sales of these intermediate goods, are not counted in GDP or reports of total revenues.
These measures of the relative size of the economic role of the largest corporations cannot be taken to
mean that they are the primary actors in the American economy.
Another way to look at this is to note that employment is heavily skewed toward small enterprises.
Ninety two million people were employed in the United States in 1990 with a total payroll of $2,145
billion. Only 12 million (13%) of these were employed in enterprises with more than 1000 employees
while 50 million (54%) were employed in enterprises with fewer than 100 employees. Only 6000
employers (which could be no more than 60% of publicly traded corporations) had more than 1000
employees and these accounted for payrolls of $390 billion. (Statistical Abstract of the United States,
1994:546). Clearly, most people are employed by small enterprises which must be producing
sufficient economic value to justify the number of people they employ and the payrolls they carry.
While large publicly traded corporations represent an important part of the economy, they cannot be
taken as a representative model for all enterprises in the United States, or capitalist economies in
general. The nature of corporate governance in these enterprises tells us nothing about the governance
or control of enterprises in which a small number of owners are in control.
Because Stakeholder Theory generally accepts the Berle and Means hypothesis uncritically, it tends to
generalize from the peculiar, even anomalous, conditions faced by a small percent of the enterprises,
inappropriately taking them as a model for the enterprise in general. If the separation of ownersiph
and control is limited to a relatively small number of large publicly held corporations, any general
theory of governance, business ethics or corporate responsibility based on it would misrepresent the
nature of the control of business. The breakdown in control by owners in some (but by no means all)
of very largest corporations may have important political, legal and economic implications but if
cannot be argued that it has occurred most enterprises or that it is a structural feature of the modern
economy, as Stakeholder Theory implicitly assumes: most enterprises, indeed most corporations, have
clearly identified owners who directly or indirectly control their activities and set the objectives for the
enterprise. It is their interests that drive the enterprise, and it is they who have moral obligations to
those with whom they do business and to those who are harmed or benefited indirectly by
externalities.
Fourth Crack: Ownership and Property Rights
Donaldson and Preston (1995) argue that the justification for Stakeholder Theory as an implicitly or
explicitly normative model rests on the validity of the owners' claims to property rights. Even if
Stakeholder Theory is limited to the problem of governance and control in large corporations (or, if
the large corporation is taken as a model, for other forms of business ownership) the problem of moral
justification of Stakeholder Theory turns on the idea that maximizing stockholder wealth or other
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interests of owners cannot morally be taken as more privileged than the interests of others who have a
stake in the enterprise. This requires arguing that the claims of stakeholders on the enterprise are
legitimate in the sense that they have comparable status to the claims of owners. The moral status of
these claims and the moral obligation to honour them turns on the relative strength and legitimacy of
the owners' claims based on their assertion of property rights: if their property rights are legitimate,
then the owners have priority over the claims of others. Stakeholder Theory argues that the property
rights of owners are eroding, and therefore that there are multiple legitimate claims on the enterprise,
none of which have priority over any other.
Stakeholder Theory requires that the interests of owners be limited by the claims of others to control
over and benefits from an enterprise. This is a straight forward claim on the property of owners:
Stakeholder Theory, in effect, creates alternative claims on the right to use and benefit from property
of owners. Stakeholder Theory can be morally justified only if the rights of owners can be shown to be
limited. Donaldson and Preston make this point explicitly and argue that these claims are legitimate
because the rights of owners rest on a weak legal and philosophical justification.
Donaldson and Preston (1995) base a critique of owners' property rights, in part, on a number of
observations about recent legal developments. They note that Cochran and Wartick suggest that
"courts have been chipping away at" (1988:24) the Business Judgement Rule which specifies the
conventional responsibilities and duties of directors, and that Orts (1992) reviews anti-take-over and
constituency laws passed in several states which state that directors may (note the use of the word
"may") take the interests of parties other than stockholders into account in making business decisions.
The implications of these judicial and legislative innovations for an understanding of the status of the
property rights of owners is actually quite limited. They largely reflect a response to the corporate
takeover activity and the plant closings that occurred in the 1970's and 1980's, and can only
meaningfully apply to large enterprises organized as corporations which have publicly traded stock,
and a large number of stockholders. Furthermore, these laws, do not require that directors consider any
interests other than stockholders: they merely allow directors to consider other interests when they
make specific decisions. Such laws have only limited applicability to the conventional idea of
ownership, and only limited relevance even to the largest corporations. In general, under existing law,
the directors of corporations are still expected to serve the interests of stockholders. Clark (1985:71)
points out, "Case law...can be fairly read to say that the manager has an affirmative, open-ended duty
to maximize the beneficiaries' wealth, regardless of whether this is specified in any actual contract."
There is no question that when owners or stockholders are in control, their interests will be decisive.
Donaldson and Preston also raise a philosophical question about the status of property rights as they
apply to owners. As they point out, Coase (1961) and Honore (1961) argue that ownership is a
complex bundle of rights, some of which may be limited: ownership is not an unrestricted right
(Donaldson and Preston, 1995:83). But Honore also notes that the rights and restrictions on ownership
vary across societies. Becker (1978) argues that are alternative theories of property and shows that in
the twentieth century philosophers have moved toward pluralistic theories of property which hold that,
in general, property rights can be derived from a number of perspectives. But he also argues that there
are alternative ideas of what constitutes property and that these will be associated with different ideas
about the rights associated with ownership. Becker concludes that the implication of pluralistic
theories of property is that the concept of ownership is philosophically robust. At the same time, he
makes it clear that the idea of ownership is embedded in specific economic and political structures.
That is, while in the abstract, property can be defended on a number of grounds, in any specific social
setting, what counts as property and the rights associated with property with be defined and
legitimated by particular socially embedded practices and ideas.
One implication of contemporary theories of property is that ownership is a social institution
embedded in a complex system of ideas, values and other institutions. The legal and social concept of
ownership is central to and cannot be separated from the institutional structure of capitalist society and
principles such as rights of free association, freedom of contract, systems of law and institutionalized
markets, particularly in the American variety of capitalism. The specific rights of ownership are
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historically and socially rooted in ideas of property that must be understood in the specific context of
modern capitalism. Stakeholder Theory treats ownership as an isolated and abstract idea divorced from
this political and economic context. The crucial point that Stakeholder Theory attempts to work
around is that, as Brummer states, ownership grounds the status of stockholders, and defines the
legitimacy of management (1991:157). In modern capitalist economies, ownership rights clearly
involve the ability to control the property and determine (within socially and legally established
constraints) the use of that property, and the ends to which it will be put: that is cle arly up to the
owners (who remain firmly in control of the enterprise, even in most large corporations). It is the
moral and legal basis for the ability of managers to act as agents and is what (at least in principle and
under the law) provides for the control and accountability of managers, and it is what connects the
enterprise to moral agents.
Donaldson and Preston assert that "the most prominent alternative to the Stakeholder Theory (i.e. the
management serving the shareholders' theory) is morally untenable" (1995:88) because of the erosion
of ownership rights allows the alternative claims of stakeholders to be defended as morally legitimate.
By confounding the nature of corporations and the enterprise and generalizing from a small number of
firms, they offer a caricature of the ownership. The exclusive claims on the enterprise by its owners
are morally justified because they have used their own property to create the enterprise and the
economic value represented by its outputs. This argument may be wrong, but within the institutional
context of capitalism and its moral structure, the argument offers a plausible moral defense of the
conventional view of the enterprise.
Fifth Crack: An Ideological Defense of A Professional-Managerial Class
If the property rights of owners are repudiated, obviating their predominant right to define and control
the enterprise, its managers (at least in enterprises where they not are not the owners) would be
effectively left in control. The legitimacy of their right to be in control, and the legitimacy of any
authority they exercise over the enterprise, would be derived from a stakeholder model of the
enterprise. The rejection of the conventional rights of owners, which in Stakeholder Theory justifies
does the claims of stakeholders on the enterprise, would also legitimate the control of the enterprise by
management, and establish its independence of identifying, responding to, balancing and mediating
among the interests of different stakeholders.
At one time, there was hope that professional managers could transcend the narrow interests of
capitalism. Veblen (1904) believed that engineers (among whom he numbered managers) would
eventually take control of industry, freeing it from the pecuniary interests of owners who were
preventing it from being fully productive. Berle and Means (1932) argued that professional managers,
separated from the social class interests of owners would put the general social interest above that of
mere profit. In these cases, of course, the authors made explicit arguments to support the assertion that
if professionals were in control, business would be governed with a eye towards the general social
good, rather than the immediate profits of owners.
In the conventional model of the enterprise, the only moral or legal legitimacy of management is
rooted in their role as agents of owners regardless of how much autonomy they are given by their
principals. If managerial authority is not grounded in ownership, there is a serious question of what
would legitimate their authority. It would require an ideology that legitimates their claims to the right
to control resources and determine what interests are valid in particular cases.
Stakeholder Theory as it is generally discussed provides an implicit ideology that defends increasing
the power of a particular kind of manager; those who work in large administrative structures in
business, non-profit organizations and government and identify with other managers as members of a
professional rather than with the organizations within which, and the owners by whom, they are
employed. These managers are members of what Ehrenreich and Ehrenreich identified as
Professional-Managerial Class, a self-conscious class of people whose interests are antagonistic to the
interests of both capitalists, (that is to say the owners of enterprises) and workers (1979: 42). These
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managers are part of what Gouldner (1979: 7) called the New Class: an "elitist and self-seeking [class]
that uses its special knowledge to advance its own interests and power, and control its own work
situation."
Stakeholder Theory offers a way to articulate the interests of members of this class, legitimate its
claims to authority and establish its autonomy from other institutions in society. By invoking the
interests of a wide range of vaguely defined stakeholders who are to be served by an enterprise run in
their interest by its managers, the managers can claim to be serving the general interests of society in
the name of the public good. As an ideology, Stakeholder Theory can be used to defend a manager's
interpretation of the merits of claims made by competing stakeholders and deflect critiques of
managerial power and prerogatives. There is no instrumentality to review managerial decisions if
management concludes that some action is in the best interests of stakeholders in general, even if it
harms some specific stakeholders.
There is, of course, no reason to assume that professional managers would be more likely to behave
more altruistically than owners, union officials or government bureaucrats, nor is it clear that it would
be reasonable to entrust one class of people with such power. Donaldson and Preston (1995:123) note
that Orts sees the possibility that constituency statues may provide managers with the opportunity to
act in their own interests while claiming to serve those of stakeholders. Donaldson and Preston
(1995:87) are less concerned, pointing out that the foundation of the stakeholder model they have
advanced "prohibits any undue attention to the interests of any single constituency." But this leaves
Stakeholder Theory with a circular argument, since managers would be, in effect, the only people
associated with the enterprise who are in a position to decide what constitutes undue attention.
Stakeholder Theory in Light of the Cracks
Donaldson and Preston argue persuasively that the ultimate acceptance of Stakeholder Theory rests on
the validity of its normative justifications: they conclude that the descriptive and instrumental
arguments for the justification of Stakeholder Theory are not sufficient to warrant accepting it. The
problems identified here suggest that the same could be said of the normative justification and that
Stakeholder Theory might be too limited and its foundation too weak to be considered either useful or
valid.
As a normative model, the Stakeholder Theory is limited to situations where ownership is weak. At
best, this would limit Stakeholder Theory to a very small number of very large corporations. The
model of the enterprise and its control offered by Stakeholder Theory is inconsistent with the overall
institutional structure of capitalism; it treats the enterprise as an isolated phenomenon. It fails to note
that modern capitalism has it own moral framework, tied up with an overarching ideology that
legitimates all of the institutions within which it operates.
If Stakeholder Theory is offered as an instrumental model without its normative dimension and its
rejection the control by the enterprise of owners, it simply restates a recurring theme in organizational
theory going back to Evan's (1966) discussion of the organization set, to other theories of interorganizational
relations, to Peters and Waterman's (1982) excellent companies and to Porter's (1980)
ideas of industry structure and competitive strategy. It is not controversial to argue that enterprises will
be more effective (what ever that might mean in a particular case) if they are responsive to their
environments. If the enterprise is in the hands of the owners and stockholders, (and the evidence is that
is in most cases) then their goals remain central to defining the behaviour of the enterprise. They may
choose to take the interests of stakeholders into account, to negotiate with them, even put them on the
board because they conclude that it will enhance performance or because they are morally committed
to a greater social good. But a stakeholder approach to management of this kind would not represent a
departure from the mainstream of organisation and management theory.
If, as Donaldson and Preston argue, Stakeholder Theory intends, implicitly or explicitly, to add a
particular normative dimension to our thinking about the enterprise, it does not succeed. It denies the
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moral validity of the control of the enterprise by owners, despite their well established property rights
and justifies creating new claims without offering an adequate alternative theory of the nature and
validity of these claims. It suggests that the enterprise has a moral obligation to a diverse set of
competing stakeholders, but does not offer a framework in which to distinguish among competing
claims. It dismisses the control of owners, but puts professional managers in control and legitimates
their autonomy and control of the enterprise. It asserts a moral agenda, but it invites managers to
violate obligations that they have taken on voluntarily.
Stakeholder Theory suffers from an incomplete analysis of the institutions and ideology of a modern
political economy, and the relationship of the enterprise to it. It tends to treat basic institutions like
property rights as if they could be separated out from other institutions. It takes too much for granted,
but fails to engage the possibility that capitalist society has its own moral structure.
Political Implications of Stakeholder Theory
On its own Stakeholder Theory can not off-set ownership and the conventional view of the enterprise.
Donaldson and Preston (1995:87) call for a legal version of the stakeholder model in which "statutory
and common law are almost certainly capable of achieving arrangements that encourage a broader,
stakeholder conception of management". It would attempt to impose political solutions through
legislation aimed at corporate reform (constituency laws, co-determination on the model of European
social democracy) and direct regulation. Unfortunately, Donaldson and Preston may be overly
optimistic about the effectiveness of this approach.
The sort of reform that Stakeholder Theory would require that stakeholder theory address how the
diverse interests of stakeholders could be reconciled. It leaves open the question of what sort of theory
would determine whose need is greater or whose interest is stronger, and to which needs or interests
managers should respond in specific situations where stakes conflict. It fails to address how to resolve
conflicting interests within a category of stakeholders; people within a stakeholder group may, indeed
probably will, have different interests, or interests which are ill-defined or even ill-conceived.
Stakeholder Theory would need to address the problem of determining, on any given issue, which
stakeholders, and whose view of their interests, are most relevant, which harms and benefits are most
harmful or beneficial and which claims have the greatest justice in any situation. Without some
guidelines or procedures to accomplish this, and legitimate the results in ways that made them
acceptable to stakeholders whose interests were taken less seriously would lead any attempt at
legislative reform to degenerate.
If this legislative approach focuses on changing the law concerning the control of corporations, it runs
into a different problem. Unless there is change across a wide range of institutions, owners will be able
to reorganize their capital to form enterprises in other ways, avoiding the legislatively and judicially
imposed obligations. It would seem to be case that any attempt to redefine corporate social
responsibility without broad changes in the institutional structures of capitalism will end up
reproducing the situation that Stakeholder Theory seeks to eliminate: individuals will still be able to
create and control enterprises and do business to achieve their own personal goals. Owners will
exercise their own values, using the enterprises they create to further their own interests. Shifting the
control of the enterprise to its many stakeholders of the enterprise require wholesale structural change,
not only in the law governing corporations, but in individual property rights and other freedoms and
rights associated with modern capitalist society.
To be effective, a legislative agenda would need to severely limit the rights of individuals to own
property and buy and sell their property, form contracts or associate freely (just about all that is needed
to create an enterprise). This would be considered too repressive to be politically acceptable in most
capitalist societies. If it went far enough to effectively change the nature of control in the enterprise, it
would need to make fundamental changes in the basic structure of modern capitalist society.
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It is not clear that such change is politically tenable. Without such change, however, Stakeholder
Theory is a sheep in wolf's clothing: it sounds radical, but it ends up being little more than a call for a
new ethos for business, an invitation to owners and managers to engage in a kinder, gentler capitalism.
The Need for A More Fundamental Critique
If Stakeholder Theory is to realize its goal of changing the structure of control of the enterprise and
redirecting its actions toward other goals, it will have to go beyond legislation or social action: it will
require fundamental changes in the institutional structure of capitalism that shift the interests that drive
capitalist enterprise. Structural change in the social and economic institutions of capitalism may be
intellectually and morally justified, but a stronger and deeper critique of capitalism than that offered
by Stakeholder Theory would be needed to inform it.
There is nothing mysterious about a radical critique of the structure of modern capitalism which goes
to the heart of its institutional structure. There are a number of sound frameworks from which such a
critique could be initiated. This much should be obvious: any effective critique would need to address
hard questions of conflicting rights and obligations which need to be resolved in workable social and
economic institutions. Resolving these issues would require taking sides--identifying some
stakeholders whose interests take precedence and constructing a moral theory which can effectively
articulate the basis for their claims over and against those of owners. It is clear that, as it stands now,
Stakeholder Theory neither offers such a critique, nor seems like a promising place to start one.
There are serious cracks in the foundation on which Stakeholder Theory has been built. The harder
one pushes it toward a normative theory or a basis for social action, the more serious the implications
of these cracks become. The question of who should control and benefit from the enterprise, and the
social responsibilities of those who control it, cannot be separated from the larger structure of modern
industrial society. If one is to challenge the conventional model of the enterprise that serves its owners
interests, one needs to advance an alternative view of a society.
If Stakeholder Theory stops short of a radical critique, it may not be able to do more than suggest what
it means to be a nice, rather than a naughty, enterprise, proposing sensibilit ies rather than moral
obligations. At that point, Stakeholder Theory becomes a matter of moralizing about, rather than
effecting change in, the nature of modern capitalist society. Only those who already share the
sensibilities will be interested and Stakeholder Theory becomes the text of a sermon preached to the
choir.
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