We all know that a firm has responsibilities for a number of interested parties or claimants like shareholders, creditors, customers, employees, managers, society, etc. Stakeholder theory states that “managers should make decisions so as to take account of the interests of all stakeholders in a firm” (Jensen, 2001). Stakeholders are various, ranging from financial claimholders to employees, managers, customers, suppliers, local communities, government, etc. They may have different or conflicting objectives. For example, customers want high-quality products and services with low prices; creditors expect low risk and high returns; and the society wants the firm’s high social expenditures. Thus maximising multiple objectives is difficult to realise in practice, especially when conflicts exist among them. Meanwhile, shareholders are those provide funds to a business in expectation that they receive the maximum possible increase in wealth for the level of risk which they face (Arnold, 2008). In other words, we can say they are people who own stocks or shares in a company in hopes of making a profit. Maximisation of shareholder wealth is measured by the market price of the firm’s stock which reflects three key variables (timing of cash flows, magnitude of cash flows and the risk of the cash flows that investors expect a firm to generate over time) that directly affect shareholder’s wealth. “Maximising shareholder wealth means maximising the flow of dividends to shareholders through time – there is a long-term perspective” (Arnold, 2008). These mean that SWM focuses on the firm’s owners and is a single objective. Therefore, financial experts consider SWM as a superior goal.

Freeman (1984) and others give no conceptual specification of how to make the trade-offs among stakeholders that must be made. This makes the stakeholder theory damaging to the firm and to the social welfare, and it also reveals one reason for its popularity (Jensen, 2001). The stakeholder theory gives no criteria for what is better for or what is worse, it leaves the board of directors and executives in firms with no principled criterion for choosing among alternative actions and constituencies. The theory provides no criteria for problem solving in firms, thus if the firm that try to do behave only by the dictates of stakeholder theory will eventually fail because natural selection will eliminate them if they are competing with firms that are behaving so as to maximise value (Jensen, 2001). According to Arnold (2008), both theoretical and empirical literature supports the assertion that manager should focus on SWM. The practical reason assumes that “the decision-making agents (managers) are acting in the best interests of shareholders then decisions on such matters as which investment projects to undertake, or which method of financing to use, can be made much more simply” (Arnold, 2008). This means that a single objective can help the firm’s managers to make clearer decisions.

Theoretical literature also supports the assertion that managers should give the first priority to SWM. “The contractual theory views the firm as a network of contracts, actual and implicit, which specify the roles to be played by various participants in the organisation. For example, workers sign both an explicit (employment contract) and an implicit (show initiative, reliability, etc) deal with the firm to provide their services in return for salary and other benefits; and suppliers deliver necessary inputs in return for a known payment. Each party has well-defined rights and pay-offs. Most of the participants bargain for a limited risk and a fixed pay-offs” (Arnold, 2008). Meanwhile, shareholders are asked to pour money into the business at high risk. They are residual claimants and do not have prior explicit or implicit claims. Shareholders can add to their wealth only after satisfying all the prior claims of every other participant. They bear all the risk of failure and therefore it is only fair that they get the rewards. Therefore, SWM is good for not only the shareholders and but also the society because the shareholders’ wealth comes from wealth created by the firm after fully compensating everyone involved and the society for all the resources used (V. Sivarama Krishnan, 2009).

Arnold (2008) also gives us another theoretical reason on practicalities of operating in a free market system. It is argued that a firm will find it hard to survive if it wants to reduce returns to shareholders and “direct more of its surplus to the workers” (Arnold, 2008). These actions will not encourage shareholders, then they will sell their shares and reinvest in other firms. As a result, “employees would find it relatively more difficult to change employers, customers could lose an essential source of supply, and certainly local communities are hurt if an organisation ceases to exist” (Edward Freeman, Jeffrey S.Harrison, Andrew C. Wicks, Bidhan L.Parmar and Simone De Colle 2010: Pg129). Therefore, shareholders should get the most importance in managerial decisions as they “are the only constituency of the corporation with a long-term interest in its survival” (Jensen, 1989).

“For over 200 years, it has been argued that society is best served by businesses focusing on returns to the owner” (Arnold, 2008). Jensen (2001) forcefully argues that maximising the market value of the firm provides the “most purposeful, single-valued objective function,” which is necessary for efficient management of the firm. This paradigm assumes that there are no externalities and all the participants engaged in transactions with the firm are voluntary players competing in free, fair and competitive markets. Shareholder wealth maximisation is seen as the desirable goal not only from the shareholders’ perspective, but also as for the society. Therefore, firm wealth maximisation would lead to the maximisation of society’s wealth as well (V. Sivarama Krishnan, 2009). Jensen also warned against “allowing managers too much discretion with regard to allocating resources to satisfy a broad group of stakeholders. His admonition stems from a mistrust of managers and their propensity to allocate resources according to their own desires at the expense of efficiency” (Edward Freeman, Jeffrey S.Harrison, Andrew C. Wicks, Bidhan L.Parmar and Simone De Colle 2010).