Philosophy of Business – What is the Purpose of Business?

The audioblog got me thinking more about what kind of content might be good in different formats. So I've decided to do a short "series" on philosophy and business. Today's installment (audio is here) will look at the question what is the purpose of business? We will look at Peter Drucker's response to that question. The Drucker passages for today all come from the book Management, Tasks, Responsibilities, and Practices, for those of you who may want more information.

What is the purpose of business? If you listen to the modern media, you may think it is to employ people. If you hire lots of people, the media will say good things about you. If you fire lots of people (even if it makes good business sense) they will say negative things about you. But the media is wrong. The purpose of business is not to employ people. Businesses do not exist for the employees. So what then, do they exist for?

Here is what Peter Drucker says on that issue.

Business exists to supply goods and services to customers, rather than to supply jobs to workers and managers, or even dividends to stockholders.

So basically, businesses exist to serve the needs of customers. If you have no customers, you have no business.

So what about profit? Business school teaches us to maximize long-term shareholder value. Doesn't that mean maximize profit?

Let's back up a second. First of all, don't confuse the purpose of management with the purpose of business. The purpose of management is to maximize long-term shareholder value. They do that by remembering that the purpose of business is to serve customers. So does that mean profit doesn't matter? No. Profit does matter. Again let's see what Drucker says.

Business management must always, in every decision and action, put economic performance first.

Profit is not the explanation, cause, or rationale of business behavior and business decisions, but rather the test of their validity.

What does he mean by this?

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Drucker is not talking about accounting profit. There are plenty of ways to make it look like you are profitable even when you are not. There are plenty of accounting tricks to boost profitability. But Drucker is talking about economic profit. He is talking about the benefit to the economy of having a business provide a product or service.

To take a simplistic example, let's say I can make a shirt for $40 in materials and labor. Now an aspiring entrepreneur comes along and figures out how to make the shirt for $10 and sells it to me for $20. I have saved time and money that I can devote to other things, and the entrepreneur has made $10 worth of profit, which represents part of the total cost savings that arises from making shirts more productively.

If you do not turn an economic profit over the long-term, you are draining the economy rather than supporting it. It is this economic profit that gives validity to the existence of a business, but that profit is not, in and of itself, the purpose of the business, at least in Peter Drucker's view. We will look at some individuals later in this series who will disagree with him.

That's it for today. Next time we will talk about Karl Marx and what he can teach us about work. You may be surprised to find out that some of his teachings are still relevant today.