I was at a conference last week on Conscious Capitalism, and once again I was stunned by the persistence, even among some people in such a generally well-informed group, of the belief that firms have to—simply have to—maximize profits. It's required by law.  It's the nature of the market economic system. Any corporate leader who doesn't try to squeeze out the last penny of profit, at whatever cost to society and the environment, will inevitably be fired, sued, or lead their company into a hostile takeover or bankruptcy.  Or so it's said. 

If you really believe this, of course, then phrases like "corporate social responsibility" and "business ethics" are oxymorons—that is, self-contradictory, like "jumbo shrimp" or "personal computer." (How personal can a computer be?) 

If you really believe this, then the only way to a better society is to trust that beneficent governments will transparently reflect the will of the people, and put up lots of rules around corporations to keep them in line.  (Hmmm…governments have done such a good job lately…Or might putting the whole job on them be a bit risky?)  Or you look to a corporation-free future of small worker-owned cooperatives. (And we get there from here…How? When?  Soon enough to head off climate change and the like?) And—here's the kicker—you tell corporate leaders that you never expected them to be responsible, anyway. You hand them an ethical free pass.

But is it really true that business leaders have no choice but to go after profit at all costs?  Let's look first at the legal question. 

It turns out that there is no legal requirement that firms maximize profit—that is,  maximize value for shareholders. Really.  None. If you look at the state codes that set the terms for incorporation, they don't mandate this.  The codes just vaguely state that the purpose of a business is to be a business. If you look at case law, you can see that the courts don't mandate it either. While people who want to spread the myth like to trumpet certain old court cases, it's very hard these days to get a manager or  director of a company found liable for a breach of duty.  All they have to do is show they had a reasonable business purpose for their actions. And the courts  generally interpret such purposes broadly, to include long-term factors and the interests of employees, suppliers, other groups, and the larger community. If you don't believe me, check the legal scholarship listed at the end of this blog entry. ("Shareholder primacy" is legalese for the doctrine that leaders must always put the interests of corporate shareholders first.)

So if maximizing returns to shareholders is not mandated by law, where does the idea that firms have to single-mindedly maximize profits come from? I'll get into that in a later posting.  (Hint: I'm a member of the economics profession, and we'll take little trip behind the curtain of that particular Land of Oz.)

For more information:

Smith, G. (1998). The Shareholder Primacy Norm. The Journal of Corporate Law.

Stout, Lynn A. (2005). New Thinking On ‘Shareholder Primacy’.  University of California at Los Angeles School of Law.

Talley, Eric. (2001)  On the Demise Of Shareholder Primacy.  University of Southern California Law School.