Every business entity has stakeholders who are individuals or a group of individuals that are directly influenced by the success or failure of the entity. “Stakeholder Theory is a view of capitalism that stresses the interconnected relationships between a business, its customers, suppliers, employees, investors, communities and others who have a stake in the organization” (Stakeholdertheory.org, 2014). This theory was developed with a view to effectively manage and create value to an organization.
There are two branches of stakeholder theory namely, the ethical or normative branch and the positive or managerial branch. The Normative or Ethical theory argues that all stakeholders are equal and deserve to be treated fairly. It deals with “how managers or stakeholders should act and should view the purpose of organization, based on some ethical principle” (Fontaine, Haarman and Schmid, 2006). The Managerial or Positive theory, on the other hand, focuses on how the management should act to satisfy the interests of selected and most influential stakeholders.
Normative theory puts a responsibility on all stakeholders to act in the interest of the organization and to take responsibility for their actions. Here, “the participants incur obligations to others through the taking and giving of the benefits” (Freeman et al., 2010). Interests of all stakeholders are integrated into the organization’s objectives as they are all considered to have moral standing. Freeman and McVea (2001) outline that stakeholder relationships are managed coherently and strategically under the ethical theory, to achieve organizational goals.
According to theorists, stakeholders under the normative or ethical theory may be divided into primary and secondary stakeholders. Primary stakeholders are the ones without whom the entity would cease to exist and, secondary stakeholders are the ones who are influenced by or influence the entity in any way. An entity is supposed to treat primary as well as secondary stakeholders as equal since it is considered to be in a fiduciary relationship to all of them. During conflicts of interest, the management is required to obtain an optimal balance among all of them. The management is also considered to be morally accountable to all stakeholders. It is hence, not only responsible to satisfy the needs of all stakeholders’ but also to achieve business objectives alongwith their goals.
Managerial theory, on the other hand, places responsibility on managers to manage specific groups of stakeholders and work towards fulfillment of their ultimate interest. Unlike the normative theory, all stakeholders are not treated equally and those that are in the maximum control of the entity’s resources are given priority. Generally, shareholders are given the highest priority since they control and finance the entity directly. Managers are thus, held responsible for maximizing shareholder’s wealth. This theory states that companies which keep powerful stakeholders at the fore and work towards fulfilling their needs, survive in the long run.
In contrast to the normative theory, the managerial theory is more business and organization driven. Under this theory, the management views stakeholders as a means to achieve business goals. It views these stakeholders as separate units with distinct powers; weaknesses and benefits, rather than as a whole. Freeman and McVea (2001) examine that those units which ensure long-term success of the firm are catered to the most and the rest are ignored, marginalized or traded-off consistently.
A key difference between the two approaches is that an entity might be ethically driven to achieve its goals and will take all of its stakeholders together; or it might be focusing on its survival and will favor its most beneficial stakeholders to achieve those goals. Another difference between the two is that unlike managerial theory, the normative theory cannot be substantiated with the help of empirical evidence. Managerial theory however, has been validated by several empirical studies. In fact, Freeman et al. (2010) state that empirical studies have added support to managerial theory and have substantiated the idea that managing the needs of stakeholders results into better organizational efficiency.
Unlike the normative theory, the managerial theory suggests that managers need to consistently apply new strategic plans to cope up with stakeholders’ requirements. New and better operating strategies and disclosure techniques are also required to be continually adopted. As per the managerial stakeholder theory, the management is also required to report their performance and effectiveness to the shareholders at regular intervals, which is not the case under normative theory.
Under the normative theory, stakeholders have personal space and freedom to function and respond to the organization. They are considered to have a sense of purpose and a drive to achieve organizational objectives through the integration of their efforts. In simple terms, an entity establishes ethical principles to govern and manage the business. Genuine commitment from the management to integrate business goals with that of the stakeholders’ is required under the ethical stakeholder theory.
Managerial theory, on the other hand, completely disregards the needs or purpose of non-powerful and insignificant stakeholders. According to this theory, a connection between business strategy and corporate ethics does not exist and cannot be used to achieve the entity’s goals. Framing business strategies to cater to shareholders’ needs is evidently the best long-term strategy, according to managerial stakeholder theory.
References
Fontaine, C., Haarman, A. and Schmid, S. (2006). The Stakeholder Theory. 1st ed. [eBook] p.4. Available at: http://www.martonomily.com/sites/default/files/attach/Stakeholders%20theory.pdf [Accessed 13 Jan. 2017].
Freeman, R. and McVea, J. (2001). A Stakeholder Approach to Strategic Management. SSRN Electronic Journal, [online] p.11. Available at: https://papers.ssrn.com/sol3/Delivery.cfm/SSRN_ID263511_code010316590.pdf?abstractid=263511.&mirid=1 [Accessed 13 Jan. 2017].
Freeman, R., Harrison, J., Wicks, A., Parmar, B. and Colle, S. (2010). Stakeholder Theory: The State of the Art. 1st ed. Cambridge: Cambridge University Press, p.100- 218.
Stakeholdertheory.org. (2014). About the Stakeholder Theory. [online] Available at: http://stakeholdertheory.org/about/ [Accessed 13 Jan. 2017].
