The Business Responsibility Debate: Shareholder Value Versus Ethical Concerns

1. Is the Responsibility of Business to Pursue Shareholder Value?By Oliver Hart and Luigi ZingalesJune, 2016Preliminary

2. Two Questions • Does the board of directors of a public company have a legal duty to maximize shareholder value? (We take shareholder value to mean the monetary return from holding shares.) • Should it maximize shareholder value?

3. (1) is the subject of much current debate in the U.S. The situation seems quite confused (some say deliberately so). • Concerning (2). Milton Friedman famously argued that the answer is yes. • Most corporate finance and law scholars seem to agree, at least if value max is interpreted as long-run value max.

4. (There are exceptions, e.g., if shareholders work in the company, consume the company’s product, or hold shares in competing or related companies.) • In this talk we want to develop by way of example the idea that, if shareholders have ethical concerns, the answer to (2) may be no. • Connection to CSR literature, especially Baron (2007).

5. Example Company initially owned by founder F goes public at date 0dispersed ownership zero interest rate, risk neutrality At date 1 action or 1 chosen monetary profit and environmental damage . Damage experienced by outsiders Obviously is socially efficient

6. Assume a large number of consumers in the economy, who are of two types, and Type consumers (fraction : Type consumers (fraction 1−𝜃): Here is consumer ’s monetary wealth Type 𝐴’s care only about money Type ’s put some weight on “social concerns” (the way this is captured is a short-hand; in the paper social concerns will enter utility only if a type B feels “responsible” for the action x)

7. Analysis If will occur at date 1, company will sell for 100 at date 0 If 𝑥 = 1 will occur at date 1, company will sell for 200 at date 0 (even type B’s will pay 200 since the damage is independent of their ownership decision)

8. What does founder F want? If F is a type A, he wants If F is a type B, he wants as long as , i.e.

9. How can F’s choice be implemented? Here are some possibilities: Case 1: F is a type A. (i) Stipulate in corporate charter (ii) Specify a narrow notion of fiduciary duty, so that shareholders can sue if value max is not pursued (iii) Encourage takeovers (with freeze-outs) and/or intervention by active shareholders (free-rider problems work against shareholders with social concerns; can show that a prosocial bidder will not bid)

10. Case 2: F is a type B. (i) Stipulate x in corporate charter (ii) Specify a broad notion of fiduciary duty (iii) Encourage binding resolutions by shareholders if most people share F’s tastes ( small) (iv) Discourage takeovers

11. Conclusions • A blanket requirement that a board must pursue long-run value maximization seems unjustified • To put it another way, shareholder interests and value max may not be the same thing • But of course giving the board too much flexibility can be dangerous • So maybe encourage founder to include a mission statement in their charters: purse these goals to avoid shareholder lawsuits • Maybe encourage boards to consult shareholders more often on what they want: do so and you will avoid lawsuits • (Do we need benefit corporations? The dead hand problem…)