R. Edward Freeman, an American philosopher and Professor of Business Administration at the Darden School at the University of Virginia, discusses his stakeholder theory and his work on business ethics.
Global Finance: You emphasize the need to consider the broad range of people affected by business decisions, whether it be employees, customers, shareholders, or communities. How are stakeholder topics being debated throughout the world versus the US?
Edward Freeman: Most European countries are more friendly to stakeholder ideas in terms of corporate law. Italy has long tradition of cooperatives. One of the very first inventors of stakeholder ideas is from Sweden. In Denmark they have a saying: “Live the American Dream, move to Denmark,” because they are very stakeholder oriented, they have one of the most competitive business economies in the world. The biggest difference in Europe is that business has always been seen as part of civil society, but what they were missing was seeing stakeholders as part of the business model. Asian countries are very stakeholder friendly too. Besides China and Japan, small Asian counties like Thailand have a significant number of “social entrepreneurs” who are trying to do something good for the world and make money. US companies are viewed by the rest of the world as less concerned about CSR [corporate social responsibility]. However, stakeholder theory is not about CSR; it’s a different way of thinking about business and the business model.
GF: What are your thoughts regarding the SEC’s recent rules on shareholder activism?
Freeman: Shareholders need to be able to push back when they think their interests are not being followed, just like other stakeholders. On the other hand, some of the SEC’s terms—like encouraging inside whistleblowers to go outside of companies—might overemphasize shareholders’ interests and end up punishing some good companies who want to know how to do better. One of the hallmarks of stakeholder theory is to understand the point when you are not living up to somebody’s expectations. A good example is to ask tobacco companies trying to come up with products that deliver pleasure without unhealthy risks.
GF: How can an accounting system reflect the ideas of distributive justice?
Freeman: Today’s accounting system is designed to report investors’ interests. We have been advocating stakeholder accounting, an integrated accounting system that adopts something called partnership accounting. We need experts to figure out regulation details for the integrated accounting system. My stakeholder theory focuses more on value creation, less on value capture and distribution. However, we should not distinguish value creation and value capture, but figure out how to make value creation and value capture work together. Once we stop making trade-offs between different stakeholders’ interests, we will be able to get more cooperation and create more value. Then value capture will take care of itself.
GF: What are the best ways for companies to measure and optimize their stakeholders’ interests?
Freeman: Companies have already been measuring customers’ and suppliers’ interests for a long time in different ways. More measurements are needed for communities, employees and shareholders. The assumption that shareholders only care about money is probably not true. The easiest way to measure and optimize stakeholder interest is to collect satisfaction scores from stakeholders and make improvements accordingly. I think we need something called “stake options” (like stock options). A stake option has five terms—it’s how you are doing with shareholders, customers, suppliers, stakeholders and employees and it would give you a better idea of how you are doing with the outside world.
GF: What are the challenges in developing a standard measurement system to evaluate stakeholder value?
Freeman: Measuring stakeholder value is not just about profitability. We need to measure social performance. Research of social performance measurement started a long time ago, but the progress has been halted by two major issues. First, many people try to find a single way to measure all businesses, which is not practical as businesses are so varied. Second, stakeholder theory has been viewed as a long-term goal and been overlooked when companies set up short-term goals. Separating the two is a logical mistake. We live life in the short term. It’s about figuring out what makes sense now and doing it. We need to adjust this mindset and start to focus on short-term stakeholder interests in order to optimize long-term stakeholder value.
GF: What’s your opinion regarding recent discussions about how capitalism can be more effective at advocating stakeholder theory and corporate social responsibility compared with socialism?
Freeman: In my opinion, capitalism is the greatest system of social cooperation ever invented. I think business is about creating value for all stakeholders. I have not used the word “corporate social responsibility” [in my stakeholder theory], because if businesses focus on creating value for stakeholders, CSR comes naturally. Managing the interconnected relationships between all stakeholders is about harmonizing different interests. Adopting stakeholder theory is about changing a mindset, and that takes time. I’m not sure we need new policies, new legislation or a revision of capitalism. We need government to promote a stakeholder theory of business, and facilitate mindset changes in society.
GF: Incidents like the Paris Climate Accord withdrawal put pressure on businesses to set up their own targets for social good when government can’t govern properly. Where is the line between government and companies?
Freeman: In my opinion, we should not draw a clear line between social value and economic value in the roles of government and business. Social and economic values are connected. Since business is a societal institution, we need to figure out how it’s connected to other institutions in society. In addition to being redistributor and referee, government also needs to play the role of facilitator for value creation. And when the political system is broken, we have to rely not only on other societal institutions—like the healthcare industry, NGOs and educational institutions—but also businesses to cooperate and help solve problems.
GF: How do you see companies who claim to take care of stakeholders while behaving differently in day-to-day business, like Amazon squeezing small publishers?
Freeman: I see companies starting to talk about stakeholders as big progress. Ethics is not about what we say, it’s about what we do. But saying what we intend to do is a good first step. However, we need to hold companies accountable. Amazon isn’t the only one. Walmart is accused of driving suppliers out of business, too. Companies can choose not to participate in an unfair value chain and create alternate channels. Whenever purchasing power is abused, we often see creativity and imagination. We tell our students to “critique something by creating something better; critique something by creating something different.” I’m not excusing these companies, but we need more creativity and imagination. That’s ultimately the special sauce of business.
GF: Do you think the world is ready for the stakeholder theory now?
Freeman: I am an incredible optimist about the progress the world is making in regard to stakeholder theory. We created the vocabulary many years ago, and it is understood today and has helped drive progress. And society is willing to adopt and implement stakeholder theory in business practices. Social entrepreneurs like Whole Foods and Unilever that have tried stakeholder theory have made significant progress and set up good examples for society. I’m skeptical about talking about vast differences in generations, but what is different today is this next generation demands ethics. Kids are more sophisticated today. You used to have to spend a lot of time legitimizing ethics and you don’t have to do that anymore. The problems are tough, too. But their willing to talk about ethics and have some of those better conversations is huge.