Shareholders Care About More Than Just Profits

Oliver Hart is a professor of economics at Harvard University. Hart won the Nobel Prize in economics in 2016 for his work in contract theory and is the author of "Firms, Contracts, and Financial Structure." Hart sat down with Business Insider's Sara Silverstein at UBS's Nobel Perspectives Live event in Brooklyn.

In this interview, Hart discusses his most recent paper "Companies Should Maximize Shareholder Welfare Not Market Value." He says that profit maximization is important to shareholders, but it's not the only thing they care about. 

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Following is a transcript of the video:

Sara Silverstein: Can you tell me about your paper and the premise of it?

Oliver Hart: The basic idea - it starts from something that Milton Friedman said in an article in The New York Times Sunday Magazine. Surprisingly enough. Back in 1970 I think it was — he argued that companies should just devote themselves to the bottom line because he was particularly concerned with the issue — the question whether they should give money to charity. So I think it was a time when CEOs were talking a lot about the broader social purpose of companies and trying to justify charitable contributions. And Friedman said, "This is completely wrong, the only business of business was to make money." And what they should — a company rather than giving money to charity, should simply give that money to shareholders as a dividend, and then they could decide individually if they wanted to give to charity. So he wasn't saying that charity wasn't important, he just said companies don't have a comparative advantage in giving to charity.

I think it's quite a compelling argument when it comes to charities. But I think people have taken this argument too far. So what we do in this paper is we say, let's consider other cases. For example we use ... take the case of a company like Walmart — or actually this has been very much in the news, Dick's Sporting Goods I think, changed their policy on selling guns. So suppose the question is, you know, you can make money by selling assault rifles. The Friedman argument would be, I mean — maybe some of the shareholders care about gun control. His argument would have to be if it's a profitable strategy to sell high-powered guns, then the company should do it, pay shareholders an extra dividend, and then shareholders individually if they want to give that money to gun control organizations can do so. But when you think about that, it just — the argument sort of falls away. It obviously doesn't make sense. Because it could be much more efficient if the shareholders want gun control it would be maybe much more efficient for Dick's simply not to — or Walmart, to sell the weapons in the first place.

Or to take another example, think of a company polluting a lake. Maybe they can make some extra money by doing so. And maybe it's not illegal because we don't have very strong regulations. Whatever — so, the Friedman argument would be, make the money by polluting the lake, give the money to the shareholders, and then let them, if they want, clean up the lake. But it could be much more costly to clean up the lake after you've polluted it than not to pollute it in the first place. So we argue, given that situations like that are going to arise. Shareholders are companies who have pro-social concerns and we think shareholders do because they are just ordinary individuals and individuals in their own private lives seem to be not just interested in the bottom line. So if that's the case, then they are going to want the companies they invest in also not to be just interested in the bottom line. So the conclusion is that this idea, which seems to have taken hold that companies should be all about making money and that indeed managers, the CEO, they have a fiduciary duty to their shareholders to be concerned only with the bottom line. We think this is wrong — a serious mistake. Actually if they want to act — be loyal to their shareholders — which is what fiduciary duty means. They should actually ask them what they want. That's the loyal thing to do. Rather than just assume that it's making money at the expense of all else.

[vandertuber]

Friedman *DID NOT* argue that a company should just pollute and then have someone else use dividend payments to clean up the mess. Friedman argued that pollution causes third party extrinsic costs, and the polluter should directly pay for or eliminate those costs. Total misrepresentation of Friedman's viewpoint.

[richardyoung]

As shareholders there are a hoard of things to be considered + profit. Reputation is a big chunk of being successful.

[hridaytulsianj]

The way I think of it, both the examples he made were completely inaccurate, both are examples have a question of basic morality, of making money despite harming others, charity is very different

[mikevanover]

Never heard someone twist up Friedman's words that bad. I have never heard him say we should pollute a lake and then clean it up.

[MichaelJayValueInvesting]

If a decision makes sense from a business standpoint, then as a shareholder I am all for that.

But I am not supportive of CEOs and other executives using companies as their own outlet for their political beliefs (for either side). Buffett said it well, "I do not believe in imposing my political opinions on the activities of our businesses."

[jaredfontaine]

Friedman would state that the externalized costs would be settled in a court of law. This is a perversion of Friedman.

[davidtumm]

That's not the Friedman argument applied to these cases. He misrepresented his position. Pathetic. Of course Milton Friedman would support polling the shareholders to see if they want to take a course of action such as not polluting the lake.

[nickh]

I’ve never heard such a load of twaddle. Friedman never encouraged corporations or anyone else to break the law. He did advocate for the basic sets of laws this twaddler is talking about. Argumentative and a non starter. This chap should re read his o level economics course books

[jeremiahlawrence]

Entreprises are supposed to increase the economic pie. Making more money is hence a foremost.

His point of view is part of the philosophical values of the company and the type of shareholders it will attract. Saying that Milton Freeman is wrong is a clickbait.

[karanraajsingh]

On the lake example Milton Friedman's argument would have been to impose some sort of pollution tax on businesses so they naturally would want to not pollute to save costs.

[jackkraken]

My problem with CSR is that there is often a hidden element to it. And it's usually more than just branding or getting a better image in the eyes of the customers. Sometimes the organisations they use to carry out the CSR maybe involved with them and they could be doing some sort of money laundering for example..

[speedy]

Whether to polute a lake in order to make a profit should not even be a question. Since some companies lack a moral compass and are willing to do almost anything to make profit, we need regulations imposed on businesses. Otherwise the society will pay the price in a different form, for the unjust activities done by corporations...
Also the sanctions for pollution should be much higher. Companies should not test the courts in a lawsuit leveraging that it is still profitable for them to cause damage and pay repercussions or even get away with it thanks to a good lawyer or lobist backing them up.
It's disgusting what people are capable of doing for a piece of shinny paper...

[MrStephenRGilman]

I think he's comparing apples to oranges. The debate over a corporation taking a position on a political issue is a whole different discussion than the debate about the efficiency of giving corporate funds to charity.

[danielritsema]

Just came across this video, thus the comment on a 5 year old video. However, I felt the need to clarify this guy's gross misrepresentation of Friedman's argument.
Friedman argued that a business and/or CEO should only act in the best interest of their shareholders. The business should not do things like donating to charity or siding with a particular political party without being directed to do so by the shareholders. The shareholders, on the other hand, can do what they want with the business. If they want the business to donate to charity, then the business should. If they don't want their business to sell guns, then the business should not sell guns.
From what he said, it sounds like he earned his nobel prize by misrepresenting Friedman, then repeating what Friedman already said.
This just goes to show that the Nobel Prize Committee just doesn't do their homework when it comes to deciding who should be awarded the prize.

[AriVovp]

Next time i will record my board meeting and share with you sir

[wgmyler]

His Dicks Sporting Goods example actually cuts against his argument. When shareholders invested in Dicks, was the intent to secure a return on investment out to engage in anti-gun activism? And when Dicks stops selling guns, in the absence of legislation impacting all retailers / gun dealers, Dicks not selling guns simply drives that portion of their business to competitors like Academy Sports that continue to engage in the lawful sale of firearms. This results in no reduction in the number of guns, only cutting off and disenfranchising a subset of customers, not to mention the shareholders that don't agree with or wish to support anti-gun activism. Freidman's argument is more compelling.

[esmolol]

It's true shareholders don't just care about profit.
They only care about INCREASING profit each year.

[romaromes]

But what if the shareholders who want gun control are the vast minority?

[MrSupernova]

Milton wasn't wrong on this one. Companies shouldn't be left to their own devices, especially large companies, when it comes to their impact on society and the environment. This is why we have government. Companies have proven time and again that they can't be trusted.

[wweweqws]

If you know that there's a group in the country that is so ignorant it will boycott you for anything that seems right-wing it is in your own interest and also the shareholders interest to cut off any business that might cause you a boycott and hurt your business, goodwill and brand even more. The company isn't listening to the public because it cares about your opinion, it cares about keeping you as customer and making money. Why else do businesses mine so much data ?

Its merely a risk analysis. Everyone knows in business school you only take CSR into account because it's great pr, great marketing and an extra value which lead up to an increase in sales or consistent sales.