The goal of the firm is to create value for the company’s owners. This is often defined as maximizing shareholders wealth. However, is this definition too narrow and overly focused on the short term? Could such a short-term focus create long-term problems for the company? Explain by providing some examples. Do you think this is a problem in Saudi Arabia?

 

INTRODUCTION TO FINANCIAL MANAGEMENT

By definition, wealth maximization refers to the goal of increasing the present value of the expected future gains of the owners of an entity. Essentially, it is a long-term goal that is attained through various short-term decisions which seek to match and exceed the expected value of shareholders from a company. According to the article entitled " The Goals of Shareholder Wealth Maximization” by Rosemary Carlson, when talking about corporations, it is the shareholders who are considered as the owners since they are the ones who possess ownership interest and are the ones entitled to the profits of the company (Carlson, 2021). In light of this, it is believed to be proper that maximizing the shareholder's wealth should be the primary goal of Financial Management since serving the interests of the shareholders can create profit for the firm as well. Another reason is that to achieve such a goal over time, the company must first focus its efforts on boosting their profit in every period along with the market price of their stocks in their market. In the long run, accomplishing these things then causes the value of the business to rise and it gives the corporation the ability to release higher dividends which all lead to the maximization of shareholders' wealth (Carlson, 2021). It is widely accepted that the primary objective of a firm should be to create value for the firm's owners. However, prioritizing the maximization of shareholder's wealth is said to be a narrow objective for a company since it is typically referred to as a monotonous view about the true purpose of a corporation (Kolb, n.d.). This is because focusing solely on such goal can create long-term problems such as conflicts of interest between managers and shareholders and other issues.

 Naturally, the managers and organizational members of an entity would also aim for other objectives such as job security, social welfare, as the well as longevity of the company. However, given the expectations of shareholders for an increase in share prices and dividends, the goal congruency of management decisions might be disturbed or conflicted in terms of what to prioritize first. This disparity between their interests is referred to as the agency conflict. In addition, there might also be times when shareholders would object to management decisions that will not directly lead to their wealth maximization. In such cases, the shareholders may let go of their ownership and sell their stocks for its current market value. Lastly, a common issue is that it is a difficult feat for any company to be both profitable and socially responsible. Basically, for any company out there, lack of social concern can never be justified by successfully increasing stock prices.  Generally, the issues that can arise when setting shareholder wealth maximization as the primary objective of a firm revolve around the concerns regarding the social responsibilities of the business, the agency problem in the organization, and the decision-making role of the management. Although, another important detail about shareholders' wealth maximization is that it may indeed be widely accepted around the world but there are also some countries that do not sanction such objective for businesses (Ali, Al- Aali, Al- Owaihan, 2012). In Saudi Arabia for example, the Islamic perspective is among the many factors that govern its economy. Under the Islamic teachings, business profit and returns are considered as rightful rewards gained through the conduct of business activities that serve public interest. However, wealth maximization is not aligned with the country's culture and religion. Technically, business entities in Saudi Arabia are expected to put the public interest and their social responsibilities as a priority whereas putting wealth maximization and personal gains as primary objectives are deemed immoral and unethical. Therefore, it can be concluded that the goal of creating value for a company's owners can indeed become an effective driving objective for organizations. But then again, not following such norm doesn't necessarily mean that a company will be bound to fail. Just take Saudi Arabia for example, the goal of wealth maximization might not be sanctioned in their culture but their economy is still considered as one of the top economies around the world.