Lee Merkhofer Consulting Priority Systems
Implementing project portfolio management

"If the goal is to create value, who is the intended recipient of that value? Two alternative viewpoints have been proposed."

Shareholder vs. Stakeholder Value

Choose one..

To recap, the number one responsibility of project portfolio management is to select the best projects for the organization's project portfolio. The best projects are the projects that, subject to the constraint on resources, generate the most value. Knowing this, organizations have sought metrics for project value. Although many organizations use metrics for evaluating candidate projects, no organization has found a single set of metrics that might be regarded as working for every organization. Also, even if the organization believes it has found a comprehensive set of metrics useful for evaluating its projects, few have been able to deduce an equation for combining their metrics into an estimate of what the opportunity to conduct the project is worth to the organization.

On the previous page, it was noted that the net value of a project (project value minus project cost) must equal the value of the organization with the project minus the value of the organization without the project. Likewise, the net value of a project portfolio must be difference between the value of the organization with the portfolio minus the value of the organization without the portfolio. Various methods have been devised for measuring the value of organizations. Perhaps one or more of the methods for measuring organizational value might be used to estimate project and portfolio value.

Methods for Measuring Organizational Value

Traditionally, three main approaches have been used to value organizations: the income approach (discounted cash flow, DCF), market-based approach (the price paid for a similar organization sold in the marketplace) and asset-based approach (the estimated cash generated if the organization's assets were to be sold) [1]. DCF can obviously be used to estimate the financial value of projects, but it is difficult to see how any of the traditional methods for valuing organizations, with the possible exception of the marketplace approach, could be used to estimate the value of projects that generate significant amounts of non-financial value.

Methods that Account for Non-Financial Value

In recent years, firms have been under pressure to include in annual reports assessments of performance from perspectives other than just the financial perspective. The methods that some organizations are using include triple bottom line reporting (TBL), Kaplan and Norton's balanced scorecard (BSC), and the quadruple bottom line (QBL) [2]. With TBL, the company reports performance relative to "the 3 P's"—"people," "planet," and "profit" [3]. The metrics used are company specific, but might, for example, for the people perspective include numbers of person-days of employment generated and, for the planet perspective, pounds of greenhouse gasses emitted. The BSC reports, "in order to provide a more balanced view of company performance," leading and lagging indicators for financial, customer, internal business process, and innovation and learning. Leading indicators, for example, include metrics for customer satisfaction, new product development, on-time delivery, and employee competency development [4]. QBL adds to TBL's three perspectives a fourth perspective intended to reflect concerns for future generations (sustainability, intergenerational equity, etc.) [5].

In short, various new metrics are being used by organizations to report dimensions of performance beyond those traditionally used. The implication for us is that new metrics may be needed for capturing non-financial components of project value.

shareholder or stakeholder

Value for Whom?

Underlying the question of how organizations ought to report their performance is a debate fundamental to measuring project value; namely, "value for whom?" If the goal of organizations is to create value, who is intended to be the beneficiary of that value? Two conflicting viewpoints have been proposed to answer this question. The first view is that the purpose of organizations is to produce value for owners (shareholder value). The second view is that successful organizations must create value not just for owners, but for customers, employees, suppliers, communities, and other stakeholders as well (stakeholder value).

Shareholder Value

Historically, most management scientists and U.S. business leaders have argued that the fundamental objective of investor-owned organizations is to maximize value for the owners of the business [6]. In the case of a publicly traded company with one type of stock, shareholder value is roughly the number of outstanding shares multiplied by current share price. Dividends increase the return to shareholders while simultaneously decreasing share price. For both theoretical and practical reasons, increasing market value can be argued to be the primary goal of private-sector businesses.

One argument for shareholder value is the objectivity of market valuations [7]. Market prices are objectively determined and applied consistently across all publicly held companies and markets. If different markets valued businesses differently, there would be opportunities for arbitrage; that is, one could buy shares of a company at a lower price in one market and simultaneously sell them at a higher price in another market. The lack of such arbitrage opportunities ensures that, at any given point in time, there is a single value ascribed to every publicly traded company. Since corporations are owned by their shareholders, theory suggests that directors and executives do what owners/shareholders want; and what shareholders generally want is to maximize share price.

Irrespective of theory, seeking higher stock value is clearly a practical objective for senior management. Compensation for top executives is often tied to stock performance. Poor stock performance is a common reason for a company's board of directors to consider replacing its chief executive. A company whose stock is depressed because it is not effectively managing for shareholder value is a candidate for investor takeover [8].

Maximizing Profit does not Maximize Shareholder Value

It is important to understand that managing for shareholder value and managing for profitable cash flows are two very different things. The figure below compares the market values and risk-adjusted discounted value (NPV) of projected future earnings for four companies in the same industry. In each case, the discount rate for computing the NPV is the company's weighted average cost of capital.

Market value includes option value

Figure 2:   Market value is not the NPV of projected earnings (data for 4 companies in same industry).

As illustrated, a company's market value is usually higher than the NPV of its earnings. In the literature on real options, the additional value is termed "option value" [9]. In addition to projected future cash flows, market value depends on how buyers and sellers in the marketplace perceive, among other things, the ability of the business to obtain and respond to future opportunities and avoid future risks.

Also, as shown in the figure, it is not uncommon to find two companies in the same industry such that one has a higher NPV of projected returns but the other has a higher total market value. Indeed, some "dot com" companies have substantial market values yet cannot convincingly forecast any profits. Option value typically does eventually translate into earnings. However, because it is generally difficult or impossible to forecast the exact mechanisms by which this will occur, option value and other indirect sources of value will not be represented in accounting forecasts of cash flows.

The implication of the above is that impacting cash flows is only one of several paths by which projects can influence shareholder value. The alternative paths that may be relevant depend on the nature of the organization's business and the projects they invest in. For example, a project that generates new knowledge that improves consistency of execution can reduce investment risk. This can have the effect of lowering the cost of capital and increasing the returns on the capital invested. Investors seeking investments likely to increase in value will buy more shares, which will increase shareholder value. As another example, a service company might conduct projects that enable it to meet commitments or promises that it makes to customers. This improves customer perceptions and can influence the views and reports of Wall Street analysts, resulting in higher stock prices.

Measuring Shareholder Value

According to the perspective of shareholder value, the appropriate metrics for evaluating projects in the private sector are those relevant to forecasting impacts on the market value of the business. Such evaluation methods must account for characteristics or attributes of the business that cause investors to believe that the business is likely to grow and prosper versus stall and decline. Real options analysis and multi-criteria analysis are among the methods that have been used to do this. As will be described in subsequent pages, these same methods can be used to measure the value of projects [10]. Companies that evaluate projects by estimating impacts on cash flows alone ignore a significant component of value, even if the only objective of the company is increasing its share price.

Stakeholder Value

The alternative view, gaining popularity and more accepted outside the U.S., is that firms should create value for all stakeholders, not just shareholders [11]. Stakeholders are groups of people who have an interest in the business or organization (Figure 3). From the perspective of the organization, the most important stakeholders are those whose attitudes and actions can impact its success. Stakeholder value includes value for employees, suppliers, customers, local community, and society at large.

Stakeholders to the firm

Figure 3:   Some potentially important stakeholders.

Proponents of narrower shareholder value argue that there is no need for firms to think about creating value for other stakeholders because the pursuit of self-interest and economic efficiency automatically creates value for all stakeholders. If customers voluntarily buy a company's products, the value they place on those products is greater than the cost, meaning that customers gain value through their purchases (consumer surplus). Likewise, workers gain value through their employment, and the taxes the company pays benefit communities. Furthermore, the more successful a company becomes the more value it will create for others. This logic is commonly referred to as the "invisible hand of the free market." The most successful companies create the products and services that customers want most at the lowest price. Their rising stocks attract more investors, which enables them to satisfy even more customers and hire more employees. The tax system then ensures that successful companies create tax revenues for social ends.

Moving production of products offshore to third world countries is currently viewed as irresponsible business behavior. However, even this can be argued to be beneficial to society in the long run. Suppose, for example, a firm outsources its manufacturing to an underdeveloped country. The wages it pays those workers will enable them to become consumers, which will spawn new local businesses to provide things that those new consumers want. Increasing job opportunities will cause wages to increase. Eventually, higher wages will reduce incentives for companies to outsource to the previously poor countries.

Arguments Against Shareholder Value

One problem with the invisible hand argument is its assumption that the markets within which firms operate are "perfect," such that stakeholders other than shareholders are unharmed by the firm's focus on benefiting shareholders alone. For example, if employees are laid off, it is assumed that they can immediately get equivalent jobs elsewhere. Similarly, if suppliers or consumers are mistreated, they can take their business to other firms. Clearly, this idealized view of the free market is not an accurate depiction of the real world.

Another problem is externalities—situations where the actions of a firm produce impacts on others who do not pay or are not compensated. Externalities cause free markets to malfunction, producing, for example, too much pollution and too little basic research. Recent well-publicized accounting and investment scandals, declines in the housing market, volatile oil prices, and the difficulties job seekers experience in relocating or changing professions raise serious questions about the effectiveness of the invisible hand. Some critics of shareholder value have claimed that the 2008 economic decline was largely caused by excessive risk taking by companies fueled by shareholder demands for ever higher levels of short-term gain [12].

Arguments for Stakeholder Value

Proponents of stakeholder value believe that a narrow focus on creating wealth for business owners doesn't lead to the best social outcomes. Instead, they argue, organizations ought to consciously consider the impact of their actions on all stakeholders and seek to create value for all stakeholders. The degree to which companies are successful is a function of how much stakeholder value they create.

Even the staunchest proponents of shareholder value are unlikely to argue that the concept provides a useful guiding rule for organizations not in business to make money. For non-profit and public-sector organizations, stakeholder value is the natural measure of success. Likewise, companies in regulated industries are often required by their regulators to serve the interests of customers, citizens, and other stakeholders, so seeking to maximize stakeholder value makes sense.

Companies, including those that only care about shareholders, are increasingly recognizing the need to be mindful of how their actions affect a wide range of stakeholders. If they don't, they risk conducting (or failing to conduct) projects needed to prevent adversely impacting the interests, attitudes, and perceptions of workers, customers, regulators, and local citizens and/or public officials. The animosity so generated can harm the business. A company seeking to grow its stock price would be foolish to ignore significant concerns of stakeholders. Careful investors factor considerations such as employee relations, customer satisfaction, regulator attitudes, and community perceptions into their investment decisions. Significant impacts on stakeholders inevitably affect shareholder value.

Proponents of stakeholder value argue that the benefits to shareholders may be less obvious, but are real and long-lasting. Businesses that serve the needs of all stakeholders tend to gain efficiencies, enhance their reputations, and create new markets. Projects that benefit the local community ultimately help the business, since healthy communities tend to contain well-educated, skilled workers and generate more local demand for products and services. Furthermore, a thriving community is more likely to provide the infrastructure and a supportive environment important for business success. Thus, there may be competitive advantages for businesses that actively pursue stakeholder value that may be more lasting than cost and quality improvements that have traditionally been the focus of executive attention [13].

Key differences Shareholder Value Stakeholder Value
Purpose Maximize shareholder value within what is legally permissible Maintain financial viability while providing value for all
Philosophy Profitability over responsibility Responsibility over profitability
Parties served Shareholders/owners Owners, managers, employees, suppliers, partners, customers, citizens, etc
Dimensions One dimensional Multi-dimensional
Indicators of success Increasing share price, dividends & economic profit Satisfaction of all stakeholders
Advantages Clear objective for managers, easy to measure performance, promotes wealth generation Improves brand image, better relations with stakeholders, stakeholder acceptance of decisions
Disadvantages Undesirable externalities, bias toward short term gains, promotes job outsourcing, principal agent problem, poor image, concentration of wealth Conflicting objectives, emotion-based decisions, bias toward activist objectives, leads to stakeholder involvement which may slow decision making and increase costs

Maximize Value Creation

In my experience, most companies strike a balance somewhere between the perspectives of shareholder and stakeholder value. Government agencies and non-profits, of course, are squarely in the camp of stakeholder value. In either and all cases, however, the correct logic for selecting projects is maximizing value creation, with value defined based on the organization's fundamental objectives.

Measuring Project Value

Return now to the original question, "What are the metrics for measuring project value?" Similar to the above, measuring the non-financial components of project value requires defining new metrics corresponding to the non-financial objectives of the organization. However, in addition to defining new metrics, estimating project value requires defining an equation or algorithm for combining the metrics to produce an estimate of project value. How can the necessary metrics be identified and project value be computed? Remarkably, there is a theory of valuation devised more than 50 years ago that provides the answer. The remaining pages in this Part 3 of my paper describe the theory and explain how it may be used to create a value model. The value model both identifies the metrics for measuring project value and shows how to combine the metrics in order to compute what conducting the project is worth to the organization.


  1. L. Kruschwitz & L. Andreas, Discounted Cash Flow: A Theory of the Valuation of Firms, Wiley 2006.
  2. J. S, Bala, "Measuring Stakeholder Value," KPMG CORNER, http://www.philstar.com/business/80057/measuring-stakeholder-value, August 19, 2008.
  3. T. F. Slaper & T. J. Hall, "The Triple Bottom Line: What Is It and How Does It Work?" Indiana Business Review, 86(1) 2011.
  4. F. Perrinil and A. Tencati, "Sustainability and Stakeholder Management: the Need for New Corporate Performance Evaluation and Reporting Systems," Business Strategy and the Environment, 296308, 2006.
  5. E. E. Lawler III , The Quadruple Bottom Line: Its Time Has Come," Forbes Leadership, http://www.forbes.com/sites/edwardlawler/2014/05/07/the-quadruple-bottom-line-its-time-has-come/#1df0d5a46630,May 7, 2014.
  6. R. E. Johnson, Shareholder Value - A Business Experience, Butterworth-Heimann 2001.
  7. J. M. McTaggart, P. W. Kontes & M. C. Mankins, The Value Imperative: Managing for Superior Shareholder Returns, Free Press 1994.
  8. A. Rappaport, Creating Shareholder Value: A Guide For Managers And Investors, Simon and Schuster 1999.
  9. P. Kodukula & C. Papudesu, Project Valuation Using Real Options: A Practitioner's Guide J. Ross Publishing, 2006.
  10. R. E. Freeman, J. S. Harrison & A. C. Wicks, Managing for Stakeholders: Survival, Reputation, and Success, Yale University Press 2007.
  11. E. N. Gholson & S. T. Mark, Driving Growth and Shareholder Value: The Distribution Value Map, NAW 2006.
  12. W. Amann, M. Pirson, C. Dierksmeier, E. Von Kimakowitz & H. Spitzeck, Business Schools Under Fire: Humanistic Management Education as the Way Forward Palgrave Macmillan 2011.
  13. A. Keay, The Enlightened Shareholder Value Principle and Corporate Governance, Routledge 2012.