What is the Purpose of Business
What is Business
Business is defined as an organization or an entity devoted to industrial or commercial activities with the objective to create value for customers by providing products or services. Business can be categorized either as a profit or not for profit entity. In addition to the customers of the Product or services Business can benefit many groups such as investors by providing return on investment, employees by providing opportunities and wages and communities at large to drive growth, innovation and economic development. But as always there are two sides of any coin so Business with all the benefits can also cause harm through lack of governance and social responsibility.
Therefore, for any Business to succeed it is paramount for Leaders to understand the purpose of business and how the stakeholders need to be managed.
Managerial to Investor Capitalism
The real purpose of business has been debated for over centuries and till late 1960 it remained as inclusive growth which was referred to as Managerial Capitalism. It entailed that business exists to serve the benefits of customers, its employees and society which stability and reputation essential to the business rather than growth or progression.
But the business landscape started to change from 1970 onwards with globalization and specialization of products and services which rendered the philosophy exposed to criticism and eventually getting replaced by modern ways of Investor First philosophy which is based on the shareholders return. This ushered the new way to operate business based on short term goals of maximizing profits and optimization cost to boost share price and in some cases leading to frauds and scandals
Debunking Myths
There are numerous myths around Shareholders and objectives of the company so let us discuss some of them below:
First Myth
Among the first and based on the popular belief Shareholder are actually not the owner’s of the company. These corporation/companies are separate legal entities and as per the law in US, corporations or companies cannot be owned and are not property though they can own properties. Therefore, shareholder in essence holds a contract with the company for specific rights and responsibilities. And in some cases, the shareholder may not have even rights based on the type of shared being held for example in US companies like Google, Berkshire Hathaway etc. have class A or Class B shared based on the voting rights.
Second Myth
Second misconception that Executives by law are required to maximize the shareholder profit is not at all correct. This is another popular myth and the actual law is based on Business Judgement rules which state’s that as long there is no personal conflict of interest or any personal financial gain the executives or board of members cannot be held responsible for the decisions of the company and how it can affect the shareholders’ value or profit. But the customer of the corporation or employee or any supplier can legally claim in case of false promises or product defect or contracts not being honoured.
Third Myth
Third misconception is that Corporation can become financially strong when Executives focuses solely on increasing the shareholders’ value. This is definitely not the case as historic data does not provide any evidence of correlation between the two and on the contrary the opposite is true as shareholder value can be marginalized.
Fourth Myth
And lastly focusing on maximizing shareholder’s value helps to manage all the problems in company related to balance sheet, cashflow or governance again a great myth which is far removed from the actual reality of the running an organization which is not just about bottom line. Such shareholder centric attitude coupled with short term driven objectives can lead to financial engineering, corrupt & unethical practices and moral dilemma which ultimately ends up in harming the corporation in the long run.
Therefore, it is important for any business to generate profits and add value for shareholder but the basic rules of ethics in the society which is based on trust and responsibility must be adhered at any anytime and not just a mere afterthought or a by-product of generating profit.
Manage the Stakeholder
A stakeholder is defined as an individual or a group which has vested interest in a company which can affect or get affected by the business performance. Stakeholder group for a company can be classified as customers, employees, shareholders, financial lenders / investors , trade partners and suppliers , regulators , government , environment and society as a whole.
So, the purpose of business is to create value which is achieved by set of activities or transactions between different stakeholders. Therefore, understanding and managing the relationship with various stakeholders is the key to understanding business.
The stakeholder’s group can further be categorized as Primary and Secondary stakeholder. The Primary stakeholder are defined as a group without which business will not be viable. The Secondary Stakeholders are defined as group which can affect or influence the primary stakeholders reflecting the intricate relationships between various stakeholders.
Investor or Financial lenders have financial stake in the business in the form of return s or dividends, but it is important to understand and differentiate between the type of investors and their goals to manage them appropriately based on return, time horizon and influence and their preferences. For example, now days many institutional investors are focused on Socially Responsible investing in addition to return on the investment and are extremely demanding on corporation to focus on ESG — Environment, Social and Governance.
Employees are responsible to perform activities to achieve the objectives of the company in return of wages, benefits and security. It is extremely important to keep the employees motivated and engaged and develop their skills to prepare them for workforce of the future.
Customers and Suppliers exchange resources in the form of product and services and derives value and benefits from this transaction. Companies needs to honor promised value proposition to the customers and act responsibly to the suppliers to maintain a healthy relationship.
Society and Local government help to provide the framework and means to build facilities and derive value by means of corporate tax. The corporation are expected to act responsibly to the local community and environment through Corporate Social Responsibility and sustainability activities and cater to the broader values of the society and human beings.
There are hard evidences that companies which focuses on adding value for stakeholders like creating better workplace or focusing on customer satisfaction perform much better than the one only focusing on shareholders’ value. Therefore, it is extremely important for Executives to show responsibility in managing various stakeholder and not just focused on shareholders interest but considers them tied together and not distinctly. But managing expectation for all stakeholder may be a daunting task as it required huge amount of disciple and strategy and if at all trade-off are required then Executives needs to carefully assess pros and cons of each such decision as stakeholder management helps to create long term value and growth prospects.
Conclusion
Finally, the purpose of the business is not to only make profits or maximize shareholders value but to create or add value for all the stakeholders. The Executives need to align the goals of the corporation by relating company to a human and respecting the core values and basic rights in the society — honesty, respect, freedom, trust, sharing and equality.
Only with such endeavors can we humans create a sustainable and enriched society !!
