Tuesday, April 23, 2013

Owner Utility Heterogeneity and the Firm Objective Function

Read the working paper
INSEAD Working Paper 2013/56/AC

All firm performance measurement requires knowledge of or assumptions about the firm‘s objectives. I provide a framework for the firm‘s objective function based on the extent to which owners differ in the utility derived from alternative firm actions and outcomes. I theorize as owner utility heterogeneity increases, the less likely the firm will pursue actions to satisfy owners‘ nonpecuniary preferences. This framework provides an important reconciliation between the theory of the entrepreneur and the theory of the firm by showing how firms evolve from maximizing the financial and nonpecuniary benefits of specific owners to focusing primarily on value maximization as the firm objective. Owner utility heterogeneity also provides a framework to evaluate the performance of all firms in an economy, providing theoretical guidance on firm performance measurement for researchers and practitioners.