Few people would argue with the idea that commercial businesses aim to make profits, and that decisions in these businesses are focused around how best to achieve this objective. The desire to be profitable need not, however, be all embracing, and in practice it can be seen that companies are likely to pursue a wide range of objectives, which are both financial and non-financial in nature. This article seeks to explain how such diversity of objectives might arise, discuss examples of non-financial objectives, and consider the implications for company owners and society in general.
The first thing to note is that the suggestion that companies seek to make profits is a little imprecise. Does this mean that profit is sought at all costs, that maximum profit is the central aim, or that managers/owners are happy with a specific “satisfactory” level of profit? The exact answer will vary between businesses, as the priorities of owners and managers differ, but it is possible to establish some basic guidelines.
It is useful to remember that although a company is a separate entity in the legal sense, in reality it is made up of a collection of individuals and interest groups, all of whom have personal objectives to fulfil. Management will constantly be trying to balance the return to these groups e.g., shareholders or employees, and discussion on corporate objectives really comes down to a compromise which takes account of what the different groups are seeking. Consequently some objectives may be financial in nature, such as a rise in earnings per share, whilst others will be non-financial e.g., shorter working hours, or an increase in the level of waste recycling in a manufacturing process.
A useful starting point for analysing non-financial objectives, is to specify the variety of interest groups which may seek to influence company objectives, because they are affected by a company's operations. The list includes:
In other words the owners of the business, who will be looking for a financial return on their investment.
This group will want to ensure that the business maintains the liquidity level required to repay its debts on time.
Who will be concerned about product/service quality and price.
Improved working hours and conditions of work will be important to this group, and so they may have a mix of financial and non-financial concerns.
Whose personal objectives may to some extent conflict with those of the owners. For example, a manager may seek to increase staff levels, as a way of increasing his personal status, but this may be lead to reduced profits.
The community at large
Communities are affected by company activities in a number of ways such as the use of land in a local area, the potential for pollution from effluents, commercial sponsorship of community projects and the impact of business activity on local transport systems.
Faced with such a broad range of interest groups, managers are likely to find that they cannot simultaneously maximise profits and the wealth of their shareholders whilst also keeping all the other parties happy. In this situation, the only practical approach is to try and work to satisfy the various objectives rather than maximise any individual one. Adopting such a strategy means, for example, that the company might earn a satisfactory return for its shareholders, whilst at the same time paying reasonable wages to satisfy employees, and avoiding polluting the environment, hence being a “good citizen.” As a result, profit is no longer the sole corporate objective, and the pursuit of non-financial objectives has begun to be increasingly important, as part of a portfolio of corporate objectives which spread right out into the community of which they are a part.
The range of possible non-financial objectives which might be pursued is broad, and the list below is not comprehensive, but may be viewed as indicative of the aims of a typical business at the start of the twenty first century.
Non-financial objectives might include:
– Growth of sales;
– Contented workforce;
– Leaders in technology development;
– Product/service quality;
– Environmental protection.
Clearly some of the objectives listed are specific to the interests of one particular group of people, and the extent to which they are pursued is dependent upon the bargaining power of that group. For example, employees may want to reduce working hours or raise the hourly rate of pay, but if management do not face a problem in recruiting staff to work under existing contract terms, it may be very difficult to persuade management to pursue objectives which serve the interests of staff. In one sense, the “controlling influence” is always the equity investors. Pursuit of alternative goals, relating to employees, the environment or whatever, will incur costs and reduce profits. Equity investors will be conscious of this trade off, and if they think that they are losing too much as a consequence, investors will sell shares and the market value of the firm will fall. Managers need to remember that the interests of shareholders are paramount, but those interests will be tempered by the influences and objectives of other parties.
The recent furore over the Millennium Dome in London is evidence of this. A large proportion of the finance for the Dome came from commercial sponsorship, from companies such as Roche, Boots, BSkyB and Mars, and low attendance figures at the Dome have led these sponsors to threaten non-payment of their last tranche of funding, unless something is done to improve visitor numbers. The reason behind the commercial sponsorship is ultimately that it buys publicity for the companies concerned – it is a form of advertising. If the adverts do not draw in the customers, raising corporate profits, then the money has not been well spent. The mix of objectives for the sponsoring companies is quite subtle; on the one hand they like the public relations benefits that come from being associated with a large public project such as the dome, but at the same time they want a commercial return on their investment. In some texts, sponsorship of community projects in this way is termed “corporate social responsibility”, whereby the company recognises that its stakeholders extend well beyond the shareholders and out into the wider community. Regardless of the terminology, the fact is that companies now need to acknowledge some commitment to meeting the objectives of parties other than just the equity investors.
In a large number of instances, the willingness of management to pursue wider objectives is a matter of goodwill on their part, combined with strong bargaining power on the part of the outside parties. In other cases, non- financial objectives are “forced” upon companies via legislation. For example, the furniture company Ikea is very environmentally conscious. This reflects Ikea's Scandinavian origins, but at the same time it also reflects the fact that EU legislation, and the Kyoto Protocol are forcing companies to become more environmentally conscious. For example, Ikea banned the use of HFCs and CFCs in its products some years ago. The ban might indicate a strong environmental conscience on the part of the company, or it may simply indicate an anticipation of legislation that would ban such products anyway. Nonetheless, regardless of the reason behind the ban, its very existence indicates that Ikea is typical of the many companies which pursue non-financial as well as financial objectives.
Shareholder impact of non-financial objectives
The impact of the pursuit of non-financial objectives upon shareholder wealth is not clear cut. There are many writers who would argue that companies which pursue a wide range of objectives find that they create for themselves a very positive public image, and this serves to increase shareholder wealth. Others would argue that community type projects simply add to costs and thus erode profit, thereby reducing shareholder wealth. In reality, the truth probably lies somewhere between these two extremes. Carefully selected projects, particularly those which are community related, may well serve as a form of indirect advertising, and raise the corporate profile and associated shareholder wealth. Other projects may simply represent a gesture of goodwill, on which no return is either sought or earned.
For example, suppose that a company decides to pursue an image of high product quality as a secondary objective. The aim is clearly non-financial in nature, but it will involve spending money on quality control and management projects which could add to costs and reduce profits. There is substantial research evidence from people like Juran, which suggests that “quality is free”. In other words, the gains from higher sales levels and reduced costs of warranty claims exceed the costs of the investment in quality improvements. Where this is the case, then the shareholders actually gain from the fact that the company has chosen to pursue a non-financial objective.
In other cases, the shareholder impact will be much more difficult to identify. Some companies have a very good reputation in terms of the facilities which they provide for employees. Such provision clearly costs money, and absorbs funds which could be used elsewhere within a business, and so it might be easy to take the view that pursuit of the objective of employee welfare is detrimental to shareholders. In fact, it may work that such policies serve to reduce staff turnover rates and increase productivity. It is quite possible for the aggregate benefits from such a policy to exceed the costs, so that shareholders see profits rise over the longer term. As with many things, whether a strategy has a positive or negative effect depends upon the time frame within which it is being judged.
Not for profit organisations
This category of organisation includes public sector bodies such as the National Health Service or local councils, charitable bodies e.g., Oxfam, and other organisations whose purpose is to serve the broader community interests, rather than the pursuit of profit. In broad terms, such organisations seek to serve the interests of society as a whole, and so they give non-financial objectives priority of place.
It is reasonable to argue that they best serve society's interests when the gap between the benefits they provide, and the cost of that provision is greatest. This is commonly termed value for money, and it is not dissimilar to the concept of profit maximisation, but for the fact that public welfare is being maximised rather than profit.
In practice it is incredibly difficult to quantify, for example, the benefits from an operation such as the UK's National Health Service. How does one put a value on a life which has been prolonged by “x” number of years, or on the easing of pain which is brought about by the replacement of an arthritic joint? The benefits extend beyond factors which can be measured in purely financial terms. Nonetheless, financial criteria can be used to appraise the extent to which such organisations offer value for money, and hence make good use of the funds provided to them.
Value for money may be described as ” getting the best possible combination of services from the least resources.” This means maximising the benefits for the lowest possible cost, and is usually accepted as requiring the application of economy, effectiveness and efficiency. Economy measures the inputs that are required to achieve a certain level of outputs. Effectiveness measures the extent to which a service achieves its declared objectives/goals. Efficiency combines the other two measures to show the ratio of inputs : outputs. When an operation is efficient it will produce the maximum number of goods/services relative to the inputs required for their production. The three “Es” are the fundamental prerequisite of achieving Value For Money, and their importance cannot be over-emphasised.
The major difficulty for public sector bodies lies in precisely how to measure the achievement of the non-financial objectives. Value for money as a concept assumes that there is a yardstick against which to measure success i.e., achievement of objectives. In reality, the indicators of success are open to debate. For example, in the Health Service is success measured in terms of fewer patient deaths per hospital admission, shorter waiting lists for operations, average speed of patient recovery? etc., etc. As long as objectives are difficult to specify, so too will it remain difficult to specify where there is value for money. Comparative performance measures are useful, but care must be taken not to read too much into limited information.
We have seen that the pursuit of non- financial objectives is associated with all types of organisations, including what might typically be described as the commercial organisation. To seek non-financial objectives is not to ignore the financial , but merely to acknowledge that no single aim is of overriding importance. At the same time, non- financial objectives do not necessarily conflict with the financial, and can in fact serve to prosper the interests of shareholders. A strong public image, and good publicity must be important too, for example the Nationwide Building Society in sponsoring the Nationwide Football League, but it would be naive to believe that Nationwide did not also think that the associated publicity would also bring in business. The difficulty lies in reaching the right balance, which keeps shareholders happy but also allows other interest groups to believe that a company also has their interest at heart as well. The good manager must learn to be good at juggling.