Businesses should embrace corporate purposes beyond profit maximization.
For many business economists and legal academics, the purpose of any business organization is simply stated: to maximize profits. And it is true that many practical advantages may follow from this statement of purpose. Focusing only on profit-making allows leaders of firms to discount all other moral, social, or environmental claims on a business as irrelevant. Running a business then becomes a question of judging the economic costs and benefits of any proposed course of action. Any other questions are treated as irritating interruptions that are “external” to the internal operations of the firm.
Admitting that one must still conform “to the basic rules of the society, both those embodied in law and those embodied in ethical custom,” the objective of business firms is simply to “make as much money as possible.”
Given that all businesses are situated within normatively oriented societies, however, tough questions about business responsibility regarding foundational ethical principles of behavior, political choices, and environmental damage are not so easily avoided. Even though business laws, including corporate and securities laws, have been heavily influenced in the last several decades by what can fairly be called an ideology of profit maximization, much of the law has in practice withstood efforts to reduce business law’s prescriptions to this single objective.
In the American Law Institute’s Principles of Corporate Governance, for example, the objective of business corporations to act “with a view to enhancing corporate conduct and shareholder gain” recognizes the need to act within “the boundaries set by law” and in line with “ethical considerations.” The ALI’s Principles also recognize that a “reasonable amount” of corporate wealth may be donated or otherwise allocated toward “public welfare, humanitarian, educational, and philanthropic purposes.”
More bluntly, the law allows for some profits to be “sacrificed” for moral or legal reasons under broad standards of managerial discretion, such as the business judgment rule for corporations.
However, this legal reality has not stopped many professors in law and business schools from teaching economic models—often highly stylized in the language of financial mathematics—that take profit maximization as a foundational assumption. Too often, this assumption is taught without any historical or conceptual context of its origins. Profit maximization is often conveyed to students today as a kind of natural law of economics or as a scientific, even pseudo-religious truth.
Profit-making is indeed a sine qua non of business. An orientation toward profit distinguishes a business firm from organizations that pursue other primary objectives, such as charities or religions. However, to set profit-making as a primary business objective is not to make it the only objective. Although it may be useful to model business behavior in economic terms that assume profit-making as an “objective function,” in practice it becomes apparent that business firms serve other purposes too, and they are not all reducible to the bloodless calculations of profit and loss. Or at least they should not be—for moral and legal reasons.
In a recent article, I argue for moving beyond narrow views of profit maximization toward a broader, more richly described theory of plural business purposes. (I use “purposes” as a catch-all category that includes intentions, objectives, and normative imperatives that may govern or constrain them in practice.) I argue not only against a narrow view of the economic objective of profit maximization, but also for objectives that recognize the larger place of business in society.
Moral limitations must be taken seriously by business firms and their leaders, just as individuals must take morality and ethics to heart in making decisions about their behavior. Business firms exist in a political and environmental context that in some instances require categorical moral attention. For example, the foundation of a free enterprise system depends on basic political agreements about the legitimacy of the rule of law, and business firms have an obligation to help preserve it. The global climate emergency, to take another example, demands that business firms play a part too—and not only when and if pro-climate policies, products, or services contribute to the economic value of the firm.
One might object that my recommended approach is too complicated. One might say that it is easier for business managers and investors to focus only on the primary objective of short-term and long-term profits. However, the world is not this simple. The complexity of social reality intrudes, even as a business may legitimately focus on its own economic strategies, plans, operations, investments, and marketing with profit-making in mind.
As Adam Smith recognized in The Theory of the Moral Sentiments, business as an institution depends on certain basic moral principles and understandings. Even in his more famous and influential The Wealth of Nations, Smith recognized that promoting excessively “high profits” for capitalists could undermine the economic wealth and moral well-being of a nation as a whole.
In my article, I draw also on the contemporary social philosopher Axel Honneth, who follows in the footsteps of Smith as well as Friedrich Hegel and Emile Durkheim in developing an argument for a “normative reconstruction” of social institutions. Along these lines, I suggest a need for a “normative reconstruction” of business law, following from a reconstruction of foundational ethical principles. The mantra of profit maximization instead crowds out other moral and social values, and it has therefore become a leading example of what Honneth calls a “normative misdevelopment.”
From this understanding, other essential questions follow about the normative underpinnings of business law. Normative foundations of business may include the moral and not only economic value of promises, morally articulated fiduciary duties of agency (including duties of care, candor, and loyalty), and the obligation to show respect to all business participants, including a moral imperative to treat employees as people who deserve dignity and due recognition—and not merely as means to the ends of making profits for others.
Adam Smith and his followers in contemporary economics unlocked a compelling theory of how self-interested behavior can translate through markets to serve efficient economic production and distribution. In this sense, our contemporary business civilization is founded on moral consequentialist justifications in the form of welfare economics.
However, following self-interest does not automatically yield socially positive results when not channeled into productive work and investments that predictably redound to collective well-being. A normative reconstruction through historical, sociological, and philosophical reflection can raise important questions also about moral limits that may be deontological or based in social contract theory, as well as through moral assessments of consequences.
A normative reconstruction of business theory opens questions also of distribution with respect to the economic objective. An economic framework based on profit maximization often assumes that profits are owed primarily to the owners of capital. Distributional questions are typically dismissed as a question for tax policy. There is nothing, however, in the essential nature of business that disallows consideration of what share of profits employees, for example, may also deserve from their productive efforts and skills. As Thomas Piketty has shown, returns to capital and to labor have been heavily skewed toward capital in recent decades due largely to legal and economic frameworks.
With respect to politics, one often hears that business should remain “neutral.” However, the freedom of a business to self-organize, and for capital owners and laborers to make independent decisions, depends on the legal and political structure of governments that recognize economic freedom and protect individual property, contracts, and the formation of agency relationship that lie at the heart of the creation and maintenance of firms.
Other big issues that are sometimes considered outside of a firm—including the climate challenge and economic inequality—should be considered legitimate business objectives too. Indeed, they must be if humanity is to survive and flourish in the face of existential threats. One reason is that the collective power of business to influence some of these large problems is at least equivalent to the power of nations or global assemblages of only governments and nonprofit organizations.
Extending my previous descriptive argument in Business Persons prescriptively, business firms are best understood as “real fictions” in society that are legally constructed, maintained, and changed simultaneously (1) from the bottom up via the self-organization of individuals in a business and (2) from the top down via legal authorizations, recognitions, rules, and principles set and enforced by governments and courts. Normative determinations about the purposes of businesses can and should follow a similar bottom-up and top-down pattern. From the bottom up, business participants have the flexibility to shift and change the mix of objectives followed by a firm to include what economists call “externalities” (positive and negative). Again, for example, the long-standing business judgment rule allows great normative flexibility for the leaders of many firms. Owners of firms—and parts of firms—can also express or vote their values, even as they engage in profit-making. Relatively new forms of enterprise such as public benefit corporations allow entrepreneurs to signal their intentions to pursue social or environmental objectives that are explicitly not tied only to profits. New business forms such as Patagonia’s hybrid nonprofit-profit trust suggest that many more experiments with respect to business purposes and objectives are possible, too.
From the top down, a normative theory of plural business purposes recommends flexibility and an easing of profit-only mandates. The new proposed American Law Institute Restatement of Corporate Governance proclaims that business corporations should follow an “economic objective,” which is arguably larger than the “shareholder value and economic gain” objective of its predecessor. The new project is mistaken, however, in setting the “economic objective” as the sole purpose of business. Perhaps we can understand “economics” broadly, but this still does not account for externalities that are primarily physical as well as economic, such as those implicated in the climate crisis.
Over the last several decades, neoclassical economists have set the terms for most scholarship and, as importantly, much of the teaching of corporate and business law. Although gains in efficiency and overall wealth may have been achieved as a result, there has also been a social cost in terms of what has been left out. Moral foundations of corporate and business law have been disregarded or torn up – or at least significantly loosened. Contemporary capitalism has morphed into an extremely selfish, greedy form of “hypercapitalism” that celebrates only wealth and the making of money to the exclusion of other values. If this trend continues, the moral center of human society cannot hold, and things will fall apart on a grand scale.
In my new article, I argue for a careful, normative reconstruction of basic moral foundations regarding choices of business objectives that have been either forgotten or suppressed. In addition to the language of economics, we will need moral narratives and principles—and other normative orientations that appreciate the central role that business plays in politics and the natural and social environment. Business should not be conceived in the law as about profits alone.
This essay was originally published in the Columbia Law School Blue Sky Blog on Corporations and the Capital Markets and reprinted here with permission and with some references omitted. The essay is based on the author’s recent article, “Toward a Theory of Plural Business Purposes,” published in Journal of Corporate Law Studies.
