Stakeholder Activism, Managerial Entrenchment, and the Congruence of Interests between Shareholders and Stakeholders

stakeholders and shareholders have a common interest in enhancing managerial turnover.
The reason for this is that shareholder value need not necessarily be created at the expense of
stakeholder welfare; indeed, it is often the case that more efficient and innovative managers,
by increasing the size of the corporate pie, benefit both shareholders and stakeholders. ¹²

In this “first best” scenario, shareholder value is maximized when π and x_r are respec-
tively close to 1 and 0, that is, when the quality of corporate governance is high while
stakeholder protection is minimized. In what follows, we allow the incumbent CEO to make
binding commitments vis-`a-vis stakeholders, so that stakeholder activists will have an incen-
tive to campaign against the potential new manager. As we will see, this changes dramatically
shareholders’ preferences over corporate governance and stakeholder protection.

3 Stakeholder activism and managerial entrenchment

Under the existing corporate governance regime, the incumbent manager faces a probability
π of being replaced. Hence, at t = 0 she may try to entrench herself by building a privileged
relationship with the firm’s stakeholders. There are several ways to achieve such a commit-
ment. The manager can make an early investment in “environmental human capital” so as
to gain expertise in implementing environmentally-friendly projects. ¹³ She can spend long
hours gathering the advice of, and building relationships with, NGO representatives, local
communities and environmentalists. More generally, she can develop a reputation for being
lenient to stakeholders’ requests.

We model this idea in the following way. Suppose that implementing any project k ∈
{0, 1, 2, . . . , N} imposes a private cost c on management. At t = 0, however, the incumbent
CEO can make an observable investment in expertise to reduce such a cost. In particular,

¹² Indeed, although many hint at a “natural alliance” between stakeholders and inefficient CEOs (see for
instance Hellwig, 2000), to us it is not obvious that stakeholders need benefit from managerial inefficiency.
For instance, consumers may be better off when a more innovative manager takes over to improve the firm’s
products. Potential pollutees may well be more aligned to shareholders concerned with future environmental
liabilities, rather than to a myopic manager with poor incentives to invest in discovering green production
processes. For instance, and against common wisdom, hostile takeovers enhancing efficiency in the oil
industry have led to curtailment of excessive exploration. Probably, it is not managerial inefficiency per se
that pleases stakeholders; managerial concessions do.

¹³Investment in “green expertise” is becoming a fashionable strategy for many corporate officers. In an
interview with McKinsey consultants, the C.E.O. of Dow Chemical Company (a leader in the voluntary
adoption of environmentally-friendly strategies) stated that he allocates about 25 percent of his time to
handling environmental issues. He also reported on the firm’s dialogue with stakeholders: “[we created] a
panel for the corporation on a worldwide basis. It includes academics, environmentalists, a former EPA
director, (...) and it worked: we have learnt from the panel, and they have learnt from us.” (“What is
Environmental Strategy?”, The McKinsey Quarterly, 1993, 4: 53-68)

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