Henry Ford's dividend

In 1916 the Ford Motor Company was earning enormous profits. Henry Ford, its controlling shareholder, announced that it would stop paying special dividends and pour the money into a vast new plant and lower car prices. He spoke of wanting to employ more people and spread the benefits of industry. Two minority shareholders, the brothers John and Horace Dodge, sued.

In 1919 the Michigan Supreme Court sided partly with the Dodges. It declared that "a business corporation is organized and carried on primarily for the profit of the stockholders." Yet the outcome was mixed: the court ordered a dividend while letting the expansion go ahead. Judges, it said, were not business experts. This deference became known as the business judgment rule: courts defer to directors' good-faith business decisions unless there is fraud, self-dealing or a clear breach of duty. In practice the rule gives managers wide room to consider employees or communities, as long as they can tie their choices to the long-run health of the company.

The great debate begins

In 1931 and 1932 Adolf Berle and the Harvard law professor E. Merrick Dodd argued in print about whom managers serve. Berle, worried about unchecked managers, said corporate powers were held in trust for the shareholders. Dodd replied that managers held power in trust for the community as well, including workers and customers, because a big company was a social institution as much as a private one.

Shareholder primacy

The strongest modern statement of one side came from the economist Milton Friedman in a 1970 magazine essay. In paraphrase: a corporate executive is an employee of the owners, and the executive's job is to make as much money as possible while obeying the law and ordinary ethical custom. Spending company money on social causes the owners did not choose is in effect taxing others and deciding how to spend the proceeds, which spends other people's money without their consent and without the democratic accountability that real taxes require. Social goals, Friedman argued, belong to citizens and governments.

Defenders add a practical point. Profit is measurable. If managers are told to balance everyone's interests, they can justify almost any decision, including ones that simply benefit themselves. The main strength of shareholder primacy, on this view, is that a single clear goal makes managers accountable. A manager answerable to everyone is answerable to no one.

Stakeholder thinking

In 1984 the management scholar R. Edward Freeman offered a different map. A firm's stakeholders are the groups who affect or are affected by the firm: employees, customers, suppliers, lenders, the local community and shareholders. Freeman argued that companies thrive by creating value for all of them, and that treating workers or towns merely as costs is both bad ethics and often bad business. Long-term investors, supporters add, have their own interest in firms that do not burn out their workers or poison their neighbors.

The idea reached the top of American business in 2019, when the Business Roundtable, a group of chief executives, issued a statement signed by 181 of them committing to serve all stakeholders. Skeptics noted that few signers changed their governance documents, pay plans or board structures afterward. To critics on the left, the statement was public relations. To critics on the right, it was a dangerous license for unaccountable managers.

Changing the legal form

Some reformers think the answer is to change the rules rather than the speeches. Germany requires worker representatives on the boards of large firms, a system called codetermination. In the United States, Maryland created the first benefit corporation statute in 2010, and most states followed. A benefit corporation's directors take on a duty to weigh a public benefit alongside profit, and must report on how they are doing. In 2022 the founder of the outdoor clothing company Patagonia went further, transferring ownership to a trust and a nonprofit so that profits not reinvested would go to environmental causes.

Each approach has costs. Shareholder primacy can push managers toward short-term numbers. Stakeholder duties can blur accountability. Legal forms like the benefit corporation depend on how seriously directors take them, and nobody yet has decades of evidence on how they perform.

Worked example

A company that makes kitchen appliances has a factory in a town of 12,000 people, where it is the largest employer. A plant overseas could make the same products for 20 percent less. The board meets to decide.

A shareholder primacy director asks whether closing the plant raises long-run value. If it does, she votes to close, and argues that the town's needs belong to unemployment insurance, retraining programs and voters, not to a board spending investors' money. A stakeholder director counts the workers, suppliers and town as parties with real claims. She asks whether a slower transition, new products for the old plant, or help for workers might cost little and preserve trust that customers and future workers will notice. If the company is a benefit corporation with a stated public purpose, she has a legal duty to weigh these effects and report on them. Both directors care about people. They disagree about who should be responsible for which people, and that disagreement is the heart of the debate.