Choosing a corporate objective of a firm is an extremely important process and is a determinant to the success/failure of a corporation in controlling the market. To gain control of the market shareholder wealth maximisation and stakeholder interest satisfaction play a key role in the creating profit for the company. Should a manager who makes the final call focus solely on maximising shareholder value or should he/she also try to satisfy stakeholder interests which at the end of the day involves themselves.
We will discuss points both for and against a manager’s responsibility of increasing long term profits of a business in order to maximise shareholder wealth ...view middle of the document...
Jensen goes on further to say that it is impractical for managers to pursue more than one goal. In this case the goal should be shareholder wealth maximisation due to the shareholder being the individual who takes the risks and if the business does not get off the ground then it he/she who ultimately loses everything. Therefore, trying to pursue more than one goal adds a degree of separation to the relationship between the owners and the managers which gives managers the incentive to go ahead and pursue objectives which are more attractive to them.
I therefore agree with Michael Jensen’s theory that a business manager should make maximising the wealth of shareholders their sole objective in the longer term. Stakeholders opinions should also be taken into account they are the people who indirectly contribute to creating value for the firm.
The sole concentration of improving shareholders wealth, either by paying them higher dividends or by increasing the market value of the firm, by financial managers has been criticised. One reason why it has been criticised is due to profit maximisation (short term goal) not taking into account or making allowances for risk differences among alternative courses of action.
For example, if a firm is faced with the choice of two different business ventures, both creating the same return yet having different levels of risk, most firms would go ahead with the less risky option as it makes it more valuable than the other, for example, business venture A could look to create a larger profit than business venture B yet at the same time it could have a much greater risk therefore actually making it less valuable than business venture B. Profit maximisation however does not take into account those differences in value. If a firm pursuing the strategy of profit maximisation gets entrenched in the singular strategy meant to maximise its profits by choosing to pursue with risky business ventures or solely focusing on a singular venture that in the current time is making high margins of profit it could stand to lose everything with a sudden change in the market or miss out on investment and expansion opportunities. A good recent example of this could be a firm finding it creates the most profit from selling the Wii gaming console and therefore invests solely in them to sell rather than maintaining a balanced inventory but if the console was to go out of favour as a new one enters the market (Playstation 4, Xbox One) then they could stand to lose everything.
When companies are willing to take greater risks in order to meet there primary priority of profit maximisation, the focus is always more than likely to be on the shorter term at the expense of long term investment putting the survival of the firm in the longer run into doubt.
Although shareholders control the business in theory, in practice, its the managers who run it on a day-day basis. This raises the principle-agent...