Ascertaining The Corporate Objective: An Entity Maximisation and Sustainability Model
| Date | 01 September 2008 |
| DOI | http://doi.org/10.1111/j.1468-2230.2008.00711.x |
| Published date | 01 September 2008 |
THE
MODERN LAW REVIEW
Vo l u me 7 1 S e p t e mb e r 2 0 0 8 No 5
Ascertaining The Corporate Objective: An Entity
Maximisation and Sustainability Model
Andrew Keay
n
Public companies playcrucial roles in today’s world,and it has been acknowledged that ascertain-
ing the objectiveof such companies is a critical issue. However, there remains greatuncertainty as
to whatthat objective should be.This article examines the two predominant theories of the cor-
porateobjective, namely the shareholder primacy and stakeholder theories.This is followed byan
explanation of and the case for a newmodel, the entity maximisation and sustainability model.
This model focuses on the companyas a s eparate legal entity and maintains that the objectiveof
the company is to maximise the wealth of the entity as an entity and, at the same time, to ensure
that the companyis sustai ned ¢nancially.
INTRODUCTION
It is trite to say that publiccompanies playcritical roles in thecarrying on of com-
merce across the world. They conduct many businesses, some of them operating
on a globalbasis and netting millions of pounds, dollars, euro, yen etc a year.They
are so pervasive in the world that we can say that they feature in all aspects of
social, political and economic life,
1
having important legal and economic func-
tions; they‘accumulate, convert, produce and disperse economic resources.’
2
Not-
withstanding the importance of public companies, there has been uncertainty for
many years as to the actual objective ofcompanies, because company law fails to
articulate this in any clear way. Robert Clark, the renowned American law pro-
fessor, said, in his in£uential work on corporate law, that the corporate purpose is
an‘extremely varied, inclusive and open-ended’concept.
3
n
Professor of Corporate and CommercialLaw, Centre forBusi ness Lawand Practice, School of Law,
Universityof Leeds. The research for this article was madepossible by a Larger Research Grant from
the British Academy. I would like to thank Harry Rajak, Chris Riley and Gerry McCormack for
being kind enough to read and comment on an earlier version of the article, and I am appreciativeof
the suggestions made by the MLR referees. I am solely responsible for any errors.
1 S. Bottomley,The ConstitutionalCorporation (Aldershot: Ashgate, 2007) 3.
2ibid,111. This has been acknowledged for many years. See the comments of Jackson J in StateTax
CommissionersvAl drich 316US174at192(1942)andBullJAinPeso Silver Mines L td vCropper (1966)
56 DLR (2d) 117,154^155.
3 R. Clark, CorporateLaw (Boston: Little Brown,1986) 17and referred to in M. Blair and L. Stout,
‘Speci¢c Investmentsand Corporate Law’(200 6) 7 European Business Organization Law Review473.
r2008 The Author.Journal Compilation r2008 The Modern Law Review Limited.
Published by BlackwellPublishing, 9600 Garsington Road,Oxford OX4 2DQ,UK and 350 Main Street, Malden, MA 02148, USA
(2008) 71(5) MLR 663^698
All signi¢cant activity requires an objective, and the workof a company is no
di¡erent. It has been said that a company is an entity whose‘de¢ning characteristic
is the attainment of a speci¢c goal or purpose,’
4
but the problem is that there is
little agreement on what that goal or purpose should be. As Jensen has said:
‘Every organisation attempting to accomplish something has to ask and
answer the following question: what are we trying to accomplish?’
5
Recently, an
editor of the journal, Organization Science, said that ascertaining the corporate
objective is the ‘most important theoretical and practical issue confronting us
today,’
6
and it is the subject, directly or indirectly of a substantial amount of
literature in many disciplines, including law, ¢nance, economics, organisational
behaviour and ethics. The ascertainment of the objective is critical for a number
of reasons. For example, it underpins the kind of corporate governance that
needs to be implemented and determines what responsibilities are imposed on
directors.
Debate asto what shouldbe the goal or purpose of a company has gone on for
years
7
and although it has bee n said that the issue has been debated‘ad nauseam,’
8
it
is far from at an end
9
for it still exercises the minds of academics in many disci-
plines. This article is an attempt to provide some early thinking on a new
approach to the corporate objective. The aims of the article are to examine the
existing pre-eminent theories of the objective of companies and to argue for a
new model for ascertaining the corporate objective,
10
namely an entity maxi-
misation and sustainability model, and then to explain that model. I should
add, by way of disclaimer, that the article does not seek to £esh out all aspects
of the model, which would not be possible in one article of limited length.
At appropriate points the article identi¢es matters which require further
treatment. While the article considers the issue from a legal perspective, the
discussion seeks to draw substantially on studies in other disciplines, notably in
the ¢elds of management, ¢nance, accounting, economics and ethics.The article
argues, normatively (although there are indications of descr iptive support for it),
that the goal of a company is to maximise the company’s total wealth and
importantly, at the same time to ensure that the operation of the company is
sustained.While referring to the theories of the nature of thecompany fromtime
to time, the article does not purport to address the issue of the nature of the
4 T.Parsons, Structure and Processin ModernScienti¢c Societies(Glencoe: Free Press,1960) 63.
5 M. C. Jensen,‘Value Maximisation, StakeholderTheory, and the Corporate Objective Function’
(2001) 7 European Financial Management 297,298.
6 J.Walsh,‘Introduction to the ‘Corporate Objective Revisited’ Exchange’ (200 4) 15 Organization
Science 349, 349.
7 As far as the US is concerned, it goes back certainly as far as the time of the decision of the
Supreme Court of Michigan in Dodge vFord Motor Co (1919)170 NW 66 8.
8 See H. N. Butler and F. S. McChesney,‘WhyThey Give at the O⁄ce: ShareholderWelfare and
Corporate Philanthropy in the Contractual Theoryof the Corporation’ (19 99)84 Cornel l LRev
1195, 1195.
9 A. Sundram and A. Inkpen,‘The Corporate Objective Revisited’ (2004) 15 Organization Science
350.
10 The assumption is that the company is solvent.If a company is insolvent then arguablya di¡erent
approachmust be invoked. See A.Keay,‘Formulating a Frameworkfor Directors’Dutie sto Cred-
itors: An Entity Maximisation Approach’ (2005) 64 CLJ 614.
Ascertaining The CorporateObjective
664 r2008 The Author.Journal Compilation r20 08 The ModernLaw Review Limited.
(2008) 71(5)MLR 663^698
company in any detail. I should also add that the article is all about the general
objective of a company. It is acknowledged that every company, through its
board, will set its own goals and these will undoubtedly di¡er. But the
argument of the article is that all companies should have the overall objective
identi¢ed here.
As indicated above, the debate over the corporate objective, although not
always articulated in these terms, hasbeen with us for a longtime. Certainly since
the 1930s it has been dominated by two models, on the one hand the shareholder
primacyprinciple (or paradigm),also known as the shareholder value principle or
the shareholder wealth maximisation norm, and on the other hand, the stake-
holder model (and its philosophical forebears).
11
This work does not argue for
either of these two dominant theories. In fact it is contended that the shareholder
primacyand stakeholdermodels are either not normativelydesirable or workable,
or both, and each su¡ers from several shortcomings. The article is structured as
follows. First, there is a short explanation of why a new model is needed.
Secondly, the article critically examines, albeit relatively brie£y because of space
constraints, the two primary models that have been developed to explain the
corporate objective. Thirdly, the main part of the article proposes and seeks to
justify a new model. The article ends with some concluding remarks.
It must be emphasised that this study is focused on those jurisdictions that
embrace the Anglo-American system of corporate law. Other countries which
follow di¡erent systems may take a di¡erent approach, often based on cultural
and/or historical grounds.While it has been argued that corporate law is conver-
ging in favour of the Anglo-American system,
12
it can be asserted with justi¢ca-
tion that there is no signi¢cant convergence occurring because of culture, social
conditions and political imperatives, which keep countries separated, at least to
some substantial degree.
13
THE NEED FOR A NEW MODEL
Establishing the objective of the company is critical. First, it provides some gui-
dance fordirectors in the carrying out of their functions. Secondly, it enables us to
assess whether directorshave donewhat they shouldhave done.Thirdly, it helpsus
to formulate corporate governance mechanisms.This last point is mademore per-
tinent by Jensen’s assertion that at the very essence of the‘current global corporate
governance debate is a remarkable division of opinion about the fundamental
purpose of the corporation.’
14
11 W. Allen, ‘Our Schizophrenic Conception of the Business Corporation’ (1992) 14 Cardozo Law
Review 261,264.
12 H. Hansmann and R. Kraakman,‘The End of Hi storyfor Corporate Law’ (2001) 89 Georgetown
LawJournal439.
13 See, M. Guillen, ‘Corporate Governance and Globalisation’ inT. Clarke (ed),Theories of Corporate
Governance (Abingdon: Routledge, 2004) 226^228
14 M. C. Jensen,‘Value Maximisation, StakeholderTheory, and the CorporateObjective Function’
(2001) 14 Journalof AppliedCorporateFinance 8, 8.
Andrew Keay
665
r2008 The Author.Journal Compilation r2008 The Modern Law Review Limited.
(2008) 71(5)MLR 663^698
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