Shareholder value involves increasing the amount of free cash flow. The additional cash can then be used to either pay dividends to investors or further expand the business, which may increase the market value of their shares. Shareholder value is a core concept of business management, which drives the need to continually increase cash flow over the long term. However, an excessive focus on shareholder value can lead to issues in other areas, such as:
- Driving down costs to an excessive extent, which can result in shoddy products
- Forcing down compensation levels, leading to an increased amount of employee turnover
- Outsourcing to low-wage locations, thereby driving work away from the home country
- Engaging in environmentally unfriendly activities, such as dumping hazardous waste irresponsibly
- Engaging in tax management ploys to pay less than their fair share of taxes
Another offshoot of a tight focus on shareholder value is an increased risk of financial reporting fraud, as managers are more likely to be tempted to falsely report optimistic results in order to further increase the share price.
Yet another possible outcome of using the shareholder value concept is an increased use of debt instead of equity. This additional level of leverage can increase earnings per share, but puts an organization at risk of not being able to pay back loans if there is an economic decline.
These issues have led to an increasing outcry against an excessively tight focus on shareholder value. A more responsible business is now considered to be one that allows increased expenses in the areas just noted in order to be a better partner to employees, customers, and local authorities.