**5. New challenges for firms**

In the current environment, business structure has substantially changed and firms find themselves in different terrain from previous commercial paradigms. For example, there is a more horizontal structure and firms are very close to their various stakeholders. The new structure is accelerated by the widespread fastening of social integration through information technology, as outlined brilliantly by Seidman [69].

This new circumstance changes the explanation on the theory of firms in many perspectives. Characteristics of these changes can be observed in two important concepts about the theory of firms. First, the value of firms no more concerns only the explicit relationship of various stakeholders such as shareholders and debt holders, but it incorporates the relationships which are the implicit ones to be included in the valuation function process.<sup>1</sup> Second, *not only a single group of stakeholders* (shareholders) will receive their value at the maximum level from the firms' operation, *but many groups of stakeholders have their claims on part of the firm's overall value* [52]. Until the introduction of agency problems, finance theories explained many financial issues away by relying on the clear separation between participants. Effects from the decisions of any one group do not have any (or small) effect on decision of others. The separation of ownership and control assumes that inside equity owners or managers maximize the value of the firm without any constraints on or without any concerns about other outside nonmanagerial shareholders' objectives. Furthermore, firm theory has previously had nothing to do with other stakeholders' desires. Stakeholders (customers, suppliers, community, etc.) were related to firms via the sole objective of profit maximization. In shareholders' maximization circumstance, only the cash flow to shareholders is taken into the valuation model by assuming that wealth of shareholders is created from sufficient returns without *acknowledging or mentioning various returns to other stakeholders' contributions.*

This traditional approach to firm theory is challenged by researchers in many fields. Management theorists have now asserted that stakeholder theory has become the prominent theory instead of shareholder theory. The concepts of decision management beyond shareholders' value are welcome, such as the Customer Social Responsibility (CSR), the triple bottom lines, the Economics Social Governance, or the Corporate Governance. Marketing theory has introduced the new paradigm of *Maketing-3.0*. Finance researchers have also incorporated these changes into the existing theories such as *the firm's value determination, the capital structure theory, and the theory of firms.*

#### **5.1. From shareholders to stakeholders**

Numerous empirical tests on the issue of the determinant factors of institutional ownership and governance structures are evidenced in many literatures that have been carried out over the last two decades. We provide some examples of the articles in the following section. Johnson and Greening [54] and Jansson [48] empirically found that companies with more pension funds representatives on the board perform better overall with the CSR. Siegel [72] showed that highskill labor firms are associated with a higher social sustainability performance. Turban and Greening [76] and Greening and Turban [40] evidence that high-quality workers are retained in high social sustainability performance firms. Unions in the firms are tested and hypothesized to affect corporate sustainability. Strong employees' unions are found to be positively corre-

Previous sections have shown some internal control mechanisms such as the ownership of shares, the number of analyst following, or the incentive compensation program. In this section, the role of *board characteristics* is discussed to show that it is also used as an internal control mechanism in a firm ([14, 32, 33, 50, 45, 57]). The composition of the board of directors is studied by many researchers with regard to its relationship with the decision to invest in

Compositions of the board being studied [1, 33, 49] in literature include board size, board independence and CEO entrenchment. The size of board or the number of directors on the board affect monitoring activities and henceforth can capture the level of corporate governance in a firm. A larger board size is generally argued to have communication problems and a higher agency problem. Free-rider problems from inert committees in large-sized boards give rise to greater power to the CEO. Larger board firms are expected to have lower monitoring costs [49]. Previous empirical studies have evidenced that board size is negatively related

Agency theory is the product of suspicious views over the relationship between principal and agent. The implication of this theory is that it is natural for owners and managers to foster interests in their own wealth rather than the firm's wealth (or shareholders' wealth). The agency relationship is under criticism because of the conflicting goals of the principle and the agents [24]. While agency theory views that conflicts of interests are not beyond expectation, the *Stewardship theory* offers the opposite view. Stewardship theory posits that managers are not opportunist nor commit to their duty for their own interest. Without any individual interests, board members can focus on strategic planning and on monitoring roles for the firms' overall sake. These roles are more manifest when the board of directors imposes effective communication, collaboration, personal charisma, and networking. Moreover, the gender differences literature suggests that such qualifications are to be found more in women rather than men [20, 57]. Based on this theory, gender differences may play more vivid roles in

In the current environment, business structure has substantially changed and firms find themselves in different terrain from previous commercial paradigms. For example, there is

producing managerial outcomes that differ from all-male boards only.

lated with high social sustainability performance [63].

social programs (or the CSR).

10 Firm Value - Theory and Empirical Evidence

with a firms' performance [1, 29, 38, 81].

**5. New challenges for firms**

Shareholders' theory and stakeholders' theory are two opposing theories that view property rights differently. Traditional shareholders' theory views shareholders as the only owners of the assets since they invest their money (capital) into the firm and they should therefore get the residual income to offset the risk from an operation. Traditional structure, therefore, assigns the right to shareholders who select the board to be their representatives. The board then selects the managerial team to operate a firm. Another perspective or stakeholders' theory views that all stakeholders have their own rights with regard to their assets in a firm. Workers invest their human capital, customers and suppliers also contribute to a firm and should have their own claims on the part of the total income. Consumer co-operatives and

<sup>1</sup> Implicit relationship or implicit contracts are found in the relationships between nonmonetary stakeholders (social environment or community surrounding the organization, or environmental organizations).

worker-cooperatives (or unions) are examples of organizations where consumers or workers explicitly get the shared income from an operation. Confliction in the two theories comes from the main disputed questions which turn out to be: Who should be the parties that have such "rights" on the asset or property and: Who has the authority to allocate the shared income? Jensen and Meckling [53], Ross [67], Quinn and Jones [64], Jensen [51] all argued in favor of shareholders maximization theory based upon the ideal that shareholders are essentially the principals who invest their explicit capital and delegate their managerial rights to managers or agents to operate the firm using the single objective to maximize the wealth of shareholders. By contrast, Freeman [34], Donaldson and Preston [28], Kay [55], Blair and Stout [10], and Freeman et al., [37] are researchers in favor of the stakeholders' theory. Kay [55] argued that assets of the firms are in many forms and not just monetary capital provided by shareholders. Employees provide the skills, customers and suppliers' the willingness to purchase and sell; additionally, a better understanding from societal groups around the firm is also an important asset that in terms of its returns, should be maximized. Kay explains that managers are the trustees of these assets.

individual interest is satisfied [11]. Stakeholders' theory and nexus-of-contract firms are aligned to each other because all stakeholders participate as contractors in the formation of a firm. In this view, the intrinsic value of each groups' interest is the added value to a firm. As explained earlier by the author, the main normative clause from the nexus-of-contract theory is the agency theory, which posits that agency cost or agency problem is naturally occurring in the separation of ownership and controls [53]. Under the agency base theory, the value of a firm can be increased when agency costs are minimized. Agency theory focuses on explicit contractual relationships. Hill and Jones [46] and Boatright [11] proposed a new conceptual theory of agency-cost among stakeholder groups, which is called stakeholder-agency theory. Their model contends that stakes of constituencies or the various sizes of stakes are derived from the implicit contracts of the specific assets invested by stakeholders. By definition, specific assets means assets that cannot be redeployed to an alternative use without a loss of value [11, 46, 79, 80]. In this model, the relationship between manager and each stakeholder depends on such specific assets [11] and the power of difference between managers and stake-

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Promotions in the job, a continuing production of handling quality products, or services to customers are examples of implicit contracts that can affect a firms' value. As outlined by Williamson [79, 80]), Hill and Jones [46] and Boatright [11], human capital is an example of an intangible asset *and is called on as a specific asset only if the human assets in the particular firm pose a unique skill to work within only that kind of business*. Talented staffs with specific skill are

Corporate sustainability is a broad dialectical concept that combines economic growth with environmental protection and social equity. Originally, the term was used by the World Commission for Environment and Development or WCED in 1987, which defined sustainable development as *development that met the needs of present generations without compromising the ability of future generations to meet their needs.* The concept of sustainable development was originally created to enhance the implementation of macro-economic policy against the direction of country-development, which most countries often set in tandem with policies geared toward monetary growth (such as GDP). The concept has subsequently been used by businesses, who then labeled the term as "corporate sustainability" to differentiate from the macro-concept. Despite the lack of clarity as regards a working definition, there are still common concepts used to explain this term. The common concept usually documented is from the Global Reporting Initiative (GRI), which is the nonprofit organization that works toward a sustainable global economy. From the viewpoint suggested by the GRI, corporate sustainability comprises *three pillars*: the economic performance, the environmental aspect,

The three pillars concept is very much well known in connection with the name of the *triple bottom lines* delineated by Elkington [31]. Corporate sustainability is almost identical to the triple bottom lines and many businesses use and interpret it as if they are utilizing the exact

usually found in the computer business or airlines business.

**7. Stakeholders and sustainability**

and the sociological performance.

holders [46].

Stakeholder theory is called an incomplete theory by Jensen. Jensen argues that stakeholder theory is incomplete because it does not offer a maximization of value for stakeholders. He also points out the flaw in the theory is that it does not provide a single-objective, so that the management cannot have a long-term goal under the stakeholder concept. However, he accepts that a stakeholders-oriented policy is needed to couple with the objective function and is labeled the "enlighten value maximization" policy. According to Boatright [11], stakeholder theory is not inconsistent with the nexus-of-contract view of firms, in which shareholders are held to be the only group that should be allowed to maximize their value. Boatright [11] reconciled the theory of stakeholders and nexus-of-contract views and argues that stakeholder theory has the following perceptions: (1) all stakeholders have a right to participate in corporate decisions that affect them, (2) managers have a fiduciary duty to serve the interest of all stakeholder groups, and (3) the objective of the firm ought to be the promotion of all interests and not just those of shareholders alone. These three criteria are served as the essential concepts to understand how value and stakeholders are related. It is not uncommon for all stakeholders to participate in corporate decisions in this corporate governance structure. But, it is possible for some groups (employees or creditors) in some countries to have no such right [48].
