Justifying Shareholder Wealth Maximisation

Topics: Property, Stock market, Welfare economics Pages: 20 (4976 words) Published: September 28, 2010
Alan D Morrison
Programme Director, The Oxford Finance Programme
for Senior Executives; Professor of Finance, Saïd Business School CORPORATE OBJECTIVES AND
The Role of the Corporation
Corporate fi nance is the branch of economics
that concerns itself with the ways in which
corporations fi nance their activities. If we
want to think clearly about this topic, we need
a simple model of the corporation. Figure 1
is about the simplest I can come up with.
Corporations require fi nancial capital, and
this comes from investors. They contract with
suppliers to get the raw materials that they need,
and they contract with their workforce to do
things with the raw materials that generate
value. They sell their output to customers,
which generates more cash. Some of the cash
is needed to pay their suppliers and their
workforce, and the remainder fl ows back to the
How should we think about corporations?
Management theorists have come up with a
number of answers. Many see organisations
in organic terms, drawing upon similar
conceptualisations of society which date
back at least to Plato’s writings, and which
are developed by modern sociologists such
as Auguste Comte, Herbert Spencer, and
Emile Durkheim. A related vision is one of an
organisation as a cultural entity, with its own
personality and ways of doing things. Marxist
thinkers have viewed organisations as
mechanisms for sustaining the cultural
hegemony of the ‘Boss Class’, which uses them
to extract surplus value from the proletariat. And
post-modernists reject grand unifi ed theories
of this type, and see organisations as refl ecting
the power relations that underpin a socially
constructed reality.
Economists, and fi nancial economists in
particular, tend to approach this question from
a different angle. Finance and economics
rely upon a number of assumptions about
corporations, the role that they play in the
economy, and the right way to think about the
employees, managers, shareholders and, for
want of a less ugly word, the other stakeholders.
For example, in fi nance and economics we
tend to analyse corporate activity at the level
of the individual actor, and we tend to assume
that, most of the time, this actor is rational.
Economists are extremely skeptical of arguments
that ascribe person-like characteristics to
corporate bodies, rather than to the agents
who work within them. We assume that markets
are populated by rational agents, who aim to
profi t from their information and their skills. And
we think that this is a good thing: rational
agents operating in a competitive environment
face incentives that tend to result in effi cient
outcomes. Effi cient outcomes make people
happier: corporations are only worthwhile if they
increase effi ciency.
These themes are addressed in the opening
discussion of the Oxford Finance Programme for
Senior Executives. This lecture note summarises
and expands upon some of the points mentioned
in class; as there are very few easy text book
treatments of this topic, I hope that it will be
useful if you want further information.
Figure 1: A very simple picture of a corporation
This is obviously a very simplifi ed version of
reality. I have been completely vague about what
the company produces, what the suppliers
provide, and how the employees add value.
This way of viewing the company is therefore
extremely general: it applies equally to a
huge manufacturing concern and to a small
software house. The former sinks most of
its fi nancial capital into physical assets like
machines, buildings, unfi nished metal, fuel, and
distribution, and it produces something
concrete; the latter buys a few computers
and spends most of its money on talented
people (‘human capital), who turn their ideas
into instructions that a machine can...
Continue Reading

Please join StudyMode to read the full document

You May Also Find These Documents Helpful

  • Essay about Shareholder Wealth
  • Wealth Maximisation Essay
  • Managerial Actions to Maximize Shareholder Wealth Essay
  • Shareholder Wealth Maximization Essay
  • Strategies for Maximizing Shareholder Wealth Essay
  • Impact on Shareholders Wealth in M&a Essay
  • Maximising Shareholders' Wealth Essay
  • Profit and Shareholder Wealth Comparison Essay

Become a StudyMode Member

Sign Up - It's Free