Read the 2 February 2015 Forbes article by Steve Denning ?Salesforce CEO slams ?The World?s Dumbest Idea? Maximizing Shareholder Value? and the 2 April 2016 Economist article ?Analyse this!?

Using the AREA framework, discuss why financial reporting subscribes to the view of shareholder value maximization. Conclude whether a change is necessary and how it would need to change to allow for a different view.

Additional resources you might find helpful in answering this question.

• AASB (2014) Conceptual Framework. http://www.aasb.gov.au/admin/file/content105/c9/Framework_07-04_COMPjun14_07-14.pdf (viewed 17 July 2016).
• IIRC (2013) International Integrated Reporting Framework. http://integratedreporting.org/wp-content/uploads/2013/12/13-12-08-THE-INTERNATIONAL-IR-FRAMEWORK-2-1.pdf (viewed 17 July 2016).

Denning, S (2011) ?The Dumbest Idea in the World: Maximizing Shareholder Value. Forbes, 28 November 2011, http://www.forbes.com/sites/stevedenning/2011/11/28/maximizing-shareholder-value-the-dumbest-idea-in-the-world/#fa9f19c22241 (viewed 17 July 2016).

ANALYSE (30 ? 50 words)

Identify the issue and why it matters. Determine what you need to find out.

RESEARCH & EVALUATE

Discuss relevant facts and evidence, or issues.

answer

provide your opinion

Shareholder value Analyse this The enduring power of the biggest idea in business Apr 2nd 2016 | From the print edition WHAT is the most influential contemporary book about the world economy? An obvious choice is \"Capital in the TwentyFirst Century\Shareholder value re-evaluated 717 words 15 March 2009 Financial Times (FT.Com) FTCOM English (c) 2009 The Financial Times Limited. All rights reserved A palace revolution in the realm of business is toppling the dictatorship of shareholder value maximisation as the sole guiding principle for corporate action. As so often with regicide, many of the knives are in the hands of the old regime's own henchmen. Jack Welch, the former General Electric chief executive who ushered in the reign of shareholder value maximisation a quarter-century ago, told the Financial Times last week that "shareholder value is the dumbest idea in the world". But this revolution will not eat its own children - not Mr Welch, and more importantly not shareholders at large, who rather stand to benefit from being less fetishised. In capitalism, private companies fulfil the social function of providing goods and services people want by competing for consumers' purchases. Companies that compete well - whose products consumers choose are rewarded with profits. Since profits ultimately redound to the owners' advantage, holding managers accountable to shareholders best ensures that companies remain profitable and keep their products attractive to customers. This basic model of economic organisation (supplemented with the government's requisite role as regulator and provider of public goods) is still sound; it fuelled unparalleled economic growth throughout the second half of the 20th century. Shareholder value maximisation as a principle of management, however, goes much further. It says that companies should take shareholder returns as their operative goal. Its most extreme version argues that executives should single-mindedly aim to increase the stock price even in the short run. But the theory confuses cause and effect and conflates goals with metrics. Competent executives' dedication to improving products, to motivating employees, and to pleasing customers will usually be reflected in higher profits and stock prices. But such results are measures, not causes, of business success. As this crisis shows, efforts to boost stock prices far from guarantee stable or secure earnings. Shareholder value maximisation presupposes efficient capital markets where companies' stock prices fully capture their future profitability and nothing else. The bubbles that ballooned and burst in the past decade show that in the short run, and over surprisingly long periods, capital markets can be remarkably inefficient. In a bubble, each individual investor maximises short-term return by following the herd - but the herd as a whole must lose money when the bubble bursts. Clearly, strong total shareholder returns - capital gains from the share price plus a flow of dividends - are what ultimately matter to investors in a company. But there are reasons to think that shareholder value, like happiness and many of life's other good things, is best achieved by not aiming at it too directly. Take compensation policy. It makes sense partly to align executives' or employees' remuneration with the stock price through share awards. But some such schemes, particularly involving share options, can create incentives to game the stock price rather than create sound and sustainable business practices. Their vesting period, typically three years, may have encouraged managers, especially in the banking industry, to take dangerous short-term business risks, the catastrophic results of which only became evident long after the options had been monetised. Good business results often require long-term relationships based on trust between managers, employees, customers and suppliers. But long-term trust between two parties is impossible unless their respect for each others' interests is anchored in something deeper than the effect on the next quarterly profit numbers. None of this undermines the model of capitalism that leaves to private market actors the power to decide how capital should be deployed. Instead it has implications for how market actors ought to use that power. Page 1 of 2 2016 Factiva, Inc. All rights reserved. Managers must know - and they must communicate to shareholders - that if companies strive to make good products and generate trust with customers, suppliers and creditors, profits will follow for the well-run business. Investors must permit and encourage that focus and not obsess about short-term results. Directors - independent directors in particular - have a special responsibility to create this mutual understanding. If they do, companies will enjoy more stable and sustainable profits, dividends and the prospects for the stock price improves. In the end this secures value for shareholders better than actively maximising the stock price is likely to do. Shareholder value maximisation is dead; long live shareholder value. 20090315_4088_52.xml Document FTCOM00020090315e53f001xi Search Summary Text Welch Date 01/01/2009 to 30/11/2011 Source Financial Times - All sources Author All Authors Company All Companies Subject All Subjects Industry All Industries Region All Regions Language English Results Found 65 Timestamp 17 July 2016 9:35 Page 2 of 2 2016 Factiva, Inc. All rights reserved. Salesforce CEO Slams 'The World's Dumbest Idea': Maximizing Shareholder Value Jack Welch has called it \"the dumbest idea in the world.\" Vinci Group Chairman and CEO Xavier Huillard has called it \"totally idiotic.\" Alibaba CEO Jack Ma has said that \"customers are number one employees are number two and shareholders are number three.\" Paul Polman, CEO of Unilever [UN], has denounced \"the cult of shareholder value.\" John Mackey at Whole Foods [WFM] has condemned businesses that \"view their purpose as profit maximization and treat all participants in the system as means to that end.\" This week, Marc Benioff, Chairman and CEO of Salesforce [CRM] joined these CEOs and declared in an article in the Huffington Post that this stillpervasive business theory is \"wrong. The business of business isn't just about creating profits for shareholders it's also about improving the state of the world and driving stakeholder value.\" Marc Benioff (Credit: Tim Mosenfelder/Getty Images) \"We have an imperative,\" says Benioff, endorsing the vision of Professor Klaus Schwab, founder of the World Economic Forum \"to shift from creating shareholder value to stakeholder value... corporate management isn't just accountable to shareholders... businesses must focus on serving the interests all stakeholders customers, employees, partners, suppliers, citizens, governments, the environment and any other entity impacted by its operations.\" \"But we have to do more. We have to build radically higher levels of trust and transparency with all of our stakeholders. We need legions of 'stakeholder activists' who seek to hold companies accountable for all constituents, going beyond the role of investor activists, who focus on holding CEOs and boards of directors accountable in terms of share price. Ultimately, the most effective way to create shareholder value is to serve the interests of all stakeholders.\" \"The competitive advantage you gain from being a caring and sharing company is significant,\" Benioff wrote in his 2004 book, Compassionate Capitalism. \"It instills in your people a higher integrity level. In turn, stakeholders want to be associated with a company that has heart. Community service: You do it because it's the right thing to do, but it's also the profitable thing to do.\" Benioff also cited Facebook CEO, Mark Zuckerberg who was questioned about his initiatives in less developed countries. \"It matters to the kind of investors that we want to have, because we are really a missionfocused company. We wake up every day and make decisions because we want to help connect the world. That's what we're doing here.\" Zuckerberg said. \"If we were only focused on making money we might put all of our energy on just increasing ads to people in the U.S. and the other most developed countries, but that's not the only thing that we care about here.\" He might also have quoted Tim Cook, the CEO of Apple [AAPL], who, when asked to disclose the costs of Apple's energy sustainability programs, and make a commitment to doing only those things that were profitable, Cook replied, \"When we work on making our devices accessible by the blind,\" he said, \"I don't consider the bloody ROI.\" It was the same thing for environmental issues, worker safety, and other areas that don't have an immediate profit. The company does \"a lot of things for reasons besides profit motive. We want to leave the world better than we found it.\" The problems of shareholder value theory These criticisms of the singleminded pursuit of shareholder value as measured by the current stock price are wellfounded. The theory has contributed to: pervasive shorttermism diverted human and financial resources from needed investments in innovation dispirited both employees and managers, leading to pervasive disengagement generated \"bad profits\" that undermined customer loyalty caused excessive \"financialization\" of the economy, making it vulnerable financial crashes incentivized CEOs to become financial engineers and companies to lose their entrepreneurial mojo led firms to pursue the extraction of value, rather than the creation of value undermined the economic recovery from the Global Financial Crisis drastically reduced rates of return on assets and on invested capital appropriated gains that flowed from workers' improvements in productivity and led to secular economic stagnation and increasingly unsustainable economic inequality. It turns out that privately held companies, which are freer from pressures of shareholder value theory, are better value creators than public companies, and invest more. The German and Austrian \"mittelstands\" (mid sized companies) have prospered by relentless innovation. Ironically, the pursuit of maximizing shareholder value as reflected in the stock price has done the opposite of what it set out to do. If anything, it has driven firms steadily further away from actually adding value to shareholders. In 2010, Roger Martin wrote that maximizing shareholder value \"is a tragically flawed premise, and it is time we abandoned it.\" By 2014, a report from the Aspen Institute showed that thought leaders were coming to the same conclusion. In a crosssection of business leaders, including both executives and academics, a majority, particularly corporate executives, agreed that the primary purpose of the corporation is not to maximize shareholder value, but rather \"to serve customers' interests.\" In effect, the best way to serve shareholders' interests is to deliver value to customers. When will the rest of the CEOs see the light? WATCH: Salesforce's Mike Lazerow on how weird is the new normal: _________________________________ Follow Steve Denning on Twitter at @stevedenning Lecture 8 TUTORIAL SOLUTION FOR TUTORS EQUITY I BASED ON LECTURE 8 Due Date: Thursday 12 Jan 2017 PRACTICAL QUESTION (14 marks) Brilliant Blue Ltd's equity section of its balance sheet for the financial year ended 30 June 2016 is presented below: Equity: Fully paid ordinary shares issued @ $4.00 per share Preference Shares issued @ $2.50 per share Retained Earnings Options (425,000 x $1.00)* $48,000,00 0 7,500,000 $55,500,000 37,650,000 425,000 $93,575,000 *The options were issued as a part of the executive management's compensation package. The options entitle the executive management team to purchase a total of 425,000 ordinary shares in Brilliant Blue at a strike price of $4.50 per share. These options can be exercised until 30 April 2018. An obligatory 10% preference share dividend was announced on 1 November 2016. The ex-dividend date was on 26 November 2016 the record date was on 28 November 2016. The preference dividend was paid on 16 December 2016. The board of directors announced an interim ordinary dividend on 14 February 2017 of $0.70 per share to be paid on the same date. After the price for Brilliant Blue's shares increased to $4.75 per share on 30 April 2017, all of the executive team members decided to exercise their option contracts to purchase additional shares in Brilliant Blue on that date. On 30 June 2017, the directors of Brilliant Blue declared a final ordinary dividend of $1.50 per share on all issued shares after announcing a profit of $31 million for the financial year. The final dividend has not been paid yet. On the same date, the directors also decided that of the remaining profit (after taking into account all dividend payments made throughout the year and closing of all the other temporary accounts) was to be transferred into General Reserve. Required: Prepare the journal entries to record: (i) The preference dividend transactions; (3 marks) (ii) The interim dividend transaction; (2 marks) (iii) The exercise of executive share options; (3 marks) (iv) The final dividend transaction; (2 marks) (v) The closing entry for the dividend transactions; and (2 marks) 1 (vi) The transfer of profit to the general reserve. (2 marks) Narrations are not required. 2 CRITICAL THINKING Former GE CEO Jack Welch called \"shareholder value maximization the dumbest idea in the world\". Required: Read the 2 February 2015 Forbes article by Steve Denning \"Salesforce CEO slams 'The World's Dumbest Idea' Maximizing Shareholder Value\" and the 2 April 2016 Economist article \"Analyse this!\" Using the AREA framework, discuss why financial reporting subscribes to the view of shareholder value maximization. Conclude whether a change is necessary and how it would need to change to allow for a different view. Additional resources you might find helpful in answering this question. AASB (2014) Conceptual http://www.aasb.gov.au/admin/file/content105/c9/Framework_0704_COMPjun14_07-14.pdf (viewed 17 July 2016). Framework. IIRC (2013) International Integrated Reporting Framework. http://integratedreporting.org/wp-content/uploads/2013/12/13-12-08-THEINTERNATIONAL-IR-FRAMEWORK-2-1.pdf (viewed 17 July 2016). Denning, S (2011) \"The Dumbest Idea in the World: Maximizing Shareholder Value. Forbes, 28 November 2011, http://www.forbes.com/sites/stevedenning/2011/11/28/maximizing-shareholdervalue-the-dumbest-idea-in-the-world/#fa9f19c22241 (viewed 17 July 2016).1 The articles mentioned here are all available on Blackboard. 1 The required reading (i.e. the 2015 Forbes Article) is a summary version of the 2011 Article. Read this article if you need more context. 3 ANALYSE (30 - 50 words) Identify the issue and why it matters. Determine what you need to find out. RESEARCH & EVALUATE (300 words) Discuss relevant facts and evidence, or issues. ANSWER (50 - 100 words) Provide your opinion based on your discussion of relevant facts, evidence, or issues. 4 The Dumbest Idea In The World: Maximizing Shareholder Value There is only one valid definition of a business purpose: to create a customer. Peter Drucker, The Practice of Management \"Imagine an NFL coach,\" writes Roger Martin, Dean of the Rotman School of Management at the University of Toronto, in his important new book, Fixing the Game, \"holding a press conference on Wednesday to announce that he predicts a win by 9 points on Sunday, and that bettors should recognize that the current spread of 6 points is too low. Or picture the team's quarterback standing up in the postgame press conference and apologizing for having only won by 3 points when the final betting spread was 9 points in his team's favor. While it's laughable to imagine coaches or quarterbacks doing so, CEOs are expected to do both of these things.\" Imagine also, to extrapolate Martin's analogy, that the coach and his top assistants were hugely compensated, not on whether they won games, but rather by whether they covered the point spread. If they beat the point spread, they would receive massive bonuses. But if they missed covering the point spread a couple of times, the salary cap of the team could be cut and key players would have to be released, regardless of whether the team won or lost its games. Suppose also that in order to manage the expectations implicit in the point spread, the coach had to spend most of his time talking with analysts and sports writers about the prospects of the coming games and \"managing\" the point spread, instead of actually coaching the team. It would hardly be a surprise that the most esteemed coach in this world would be a coach who met or beat the point spread in fortysix of forty eight gamesa 96 percent hit rate. Looking at these fortyeight games, one would be tempted to conclude: \"Surely those scores are being 'managed'?\" Suppose moreover that the whole league was rife with scandals of coaches \"managing the score\