Chapter 7
The Stakeholder Model
This chapter will cover basic stakeholder concepts as we move toward fostering a stakeholder orientation in the organization. We will explore the potential of basing value creation on a stakeholder approach, which is different from the traditional shareholder approach focused on profit maximization alone.
Stakeholders are all the entities connected to, and impacted by, the business. We can classify them as inner circle and outer circle. The interaction between the company and its inner-circle stakeholders is relational (i.e., two-way, sustained, and mutually value-creating) and voluntary, whereas relationships with outer-circle stakeholders are more episodic and often involuntary. Figure 7-1 gives examples of inner- and outer-circle stakeholders.
Figure 7-1: Stakeholder classification framework
Our primary emphasis in part 2 will be on inner-circle stakeholders. Note that the term society includes the local communities in which the business operates as well as society as a whole.
Historically, relationships in the business world have been based on bargaining. This trade-off approach assumes that someone has to lose so that the other party involved can gain. As Ed Freeman has said, “Managing for stakeholders is not about trade-off thinking. It is about using innovation and entrepreneurship to make all key stakeholders better off and get all their interests going into the same direction.”
Trade-offs have been explored in game theory and economic theory and defined through mathematical representations in which the utility gains from the winning participant are exactly balanced out by the losses of the losing participant. This is called a zero-sum game or a fixed-size pie approach. If one takes a larger slice, others will end with smaller slices. Conscious Capitalism is based on the belief that business has the power to create surplus value; it is the ultimate positive-sum game.
How we frame our connection with our stakeholders matters. We can view the connection in terms of the time frame we consider and the nature of that connection—a transaction or a relationship. Clearly, we interact with stakeholders differently in a long-term relationship than we do in in a short-term transaction. A transactional approach results in a zero-sum game, while a relational approach generates collaboration, innovation, and incremental value.
A long-term relationship is rooted in win-win thinking, by definition. It leads to greater trust and connection and hence to a more creative and innovative approach to business opportunities and challenges. Long-term relationships offer more opportunities for each party to invest in creating shared value. One might trade off a short-term gain for greater benefit in the long term. The explicit understanding is that by investing in the relationship now, both parties can potentially enjoy larger longer-term gains.
In committing to a stakeholder orientation, we must pay a minimally acceptable level of attention to each stakeholder. However, it is not possible or desirable to treat all stakeholders with equal attention and care. Therefore, it is important to identify those stakeholders where improvements in the relationship will yield greater impact on the business and the creation of shared value. This is a good working definition of what we mean by primary stakeholders.
A Failure of Imagination
US Supreme Court Justice Oliver Wendell Holmes Jr. once said, “I would not give a fig for the simplicity on this side of complexity, but I would give my life for the simplicity on the other side of complexity.” The shareholder-centric view lies on this side of complexity; the stakeholder mindset exists on the other side.
A shareholder-centric view is not wrong per se; businesses do need to create value for shareholders, or they will not long endure. Nor can they achieve their purpose in a sustained and scalable way without paying attention to shareholders. But this view is simplistic and reflects a lack of imagination. It presumes a world filled with inevitable and unavoidable trade-offs. It underestimates the extraordinary capacity of human beings to find creative solutions to seemingly intractable dilemmas.
If you accept the idea that shareholders are the only end, you would deem it acceptable to squeeze other stakeholders to benefit your shareholders. Such a narrow, mechanistic view of a business considers financial, natural, and human resources as inputs and profit for the owners as the output. But a business is in fact a complex, living, adaptive system. Any unhealthy part of it can bring down the whole system, in the way that if one part of your body gets a serious infection, the whole body can die. Pioneering naturalist John Muir observed, “When you tug at a single thing in nature, you find it attached to the rest of the world.” Such is also the case with the world of business, which is an intricate, interconnected, and interdependent web of relationships.
When you start to think about business this way, you recognize the inherent interdependence of stakeholders. In the long run—and it must always be about the long run—investors cannot profit unless customers are truly happy and satisfied. Customers cannot be truly happy and satisfied unless employees are fulfilled and have a sense of meaning in what they’re doing. You cannot do any of that unless you have high-quality inputs, which is where suppliers come in. Because no business can flourish as an island of prosperity amid a sea of despair, the community’s health and well-being is vital.
The acknowledgment of such concepts allows us to understand the impact of a disempowered, unengaged stakeholder. Some business leaders think they run a stand-alone organization that does not depend on anyone else. This egocentric mindset is losing its grip and giving way to the emergence of an ecosystem-centric mindset. The recognition of the interdependency of all stakeholders is the first step toward a more conscious stakeholder orientation.
One of the fundamental debates between Wall Street and Main Street over the next few years will be about either narrowing this potential disconnect between shareholders and stakeholders or allowing it to continue to grow. With the growth of activist investors looking to force short-term financial returns to boost short-term stock prices, the question of how best to create long-term value will move stakeholder orientation to the forefront of this debate. How one makes profits matters, and we believe the research will continue to provide solid evidence for a stakeholder-oriented, longer-term, systems view of value creation.
Key Principles
- Business is an interconnected, interdependent living organism, not a linear machine.
- In such an organism, it is folly to seek to maximize one aspect of its functioning. Rather, we must focus on the benefit of the whole.
- All the components of this system (the stakeholders) are both the means and the ends; they contribute to value creation in the system and receive different kinds of value from the system.
- Motivated by shared values and shared purpose, stakeholders are givers to the system rather than takers from the system. Paradoxically, they receive far more in return than they give. In summary, in order to win-win-win, you must give-give-give.1
Think Win-Win: Creation of Value versus Dividing Value
A stakeholder orientation must come from a win-win perspective. When we view stakeholder relationships as transactional or as win-lose interactions, then the result fails to create optimum value for the business. If we look for trade-offs, we are guaranteed to find them. If we see the world as a zero-sum game, we will find ourselves constantly facing and even creating these dynamics in our business.
On the other hand, if we look for synergies, we will probably find them. This shift in mindset is based on a more systematic view of the business ecosystem that we operate in. When we look to create value, we expand the total size of the pie, instead of arguing about how to divide the pie as it currently exists. This is a mindset of creation and innovation. John Mackey of Whole Foods Market captures this notion well: “Trade-offs and win-lose scenarios are fundamentally the result of a lack of creativity.” Win-win is a fundamentally different way of approaching business problems—and it is not easy to do. However, tremendous value creation and innovation can result from approaching our stakeholder relationships with this mindset versus looking to maximize one stakeholder’s position at the expense of others.
Win-win is based on the paradigm that there is plenty for everybody, that one person’s success is not achieved at the expense or exclusion of the success of others. Win-win is a belief in the Third Alternative. It’s not your way or my way; it’s a better way, a higher way.
—Steven Covey, The 7 Habits of Highly Effective People
An Eco-Centric Approach
One way to understand the interdependency of the business ecosystem is to use systems thinking, which has its foundation in the field of system dynamics, originated by MIT professor Jay Forrester in 1956. Traditional analysis separates the individual pieces from the whole to study. In fact, the word analysis means to break something into its constituent parts. Systems thinking takes into account the interactions between the elements of the system.
To explore the idea of an eco-centric approach to stakeholders in more detail, consider the Declaration of Interdependence, which has been a guiding philosophy for Whole Foods Market since 1985, when the statement was crafted by sixty team members.2 The interdependent elements at Whole Foods Market are depicted in figure 7-2.
Figure 7-2: Whole Foods Market’s interdependent stakeholder approach
The virtuous circle starts with the company’s purpose and values. The company hires employees (referred to as team members) with values like its own; team members are also passionate about food and health. It makes sure team members are happy with the work they do and what the company offers them in terms of working conditions, benefits, and compensation. A motivated team will be creative and search for innovation on service and products offering. The team’s creativity and innovation will lead it to form partnerships with vendors and suppliers. These suppliers contribute with better quality and innovative products with more value. Better products and outstanding service generate greater customer satisfaction, which results in better growth and profits for the organization. The improved financial results motivate investors and enable the company to give more back to its communities and environmental causes. These contributions generate strong responses from communities. The congruent values increase community and employee pride and elevate job satisfaction. And again, we start the virtuous cycle of shared value creation and strengthening the network through the strengthening of interdependencies.
In the business world, acknowledging and leveraging interdependency leads to the possibility of win-win value creation. It becomes a value-based exchange, in which stakeholders search for innovative ways to create more value. Note that like a clock, this virtuous circle only runs clockwise. The financial results are a consequence of the value created for and by the different stakeholders.
A Stakeholder Mindset
How we look at the world affects what we see. If I ask you to look around the room and notice everything that is red, you will pay attention to what is red. If I ask you to close your eyes and recount all the things that are green in the room, you are unlikely to recall any. When you open your eyes, you can immediately identify several green items that were in your environment, but because you weren’t focused on them, you didn’t see them.
So too with stakeholder orientation. When we look for win-win opportunities to create shared value, we are much more likely to find them. If we look for trade-offs, we will find ourselves surrounded by them.
Thus, a critical element in the implementation of a stakeholder orientation is that the leadership team take a long-term, systems, and relational view of the connection with stakeholders. A stakeholder orientation begins with thinking about our stakeholders differently and making them an integral part of how we operate as a business. The next chapter addresses the practical elements of identifying and working with stakeholders differently by getting clear about what their needs are and what this means in your organization.