Explain the stakeholder theory.

Question

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The Answer is Financial distress can be costly for a firm,because it affects how the firm is viewed by its customers,employees,suppliers and any other firms or individuals that in some way have stakes in its success.The stakeholders' views are especially important for firms whose products need future servicing,such as automobiles and computers,or whose product quality is important but difficult to observe,such as prescription drugs.Financial distress will also be costly for firms that require their employees and suppliers to invest in product-specific training and physical capital.On the other hand,firms that produce non-durable goods,such as agricultural products,or provide services that are not particularly specialized,such as hotel rooms,probably have low financial distress costs.The stakeholder theory explains why some firms choose not to borrow when lenders are willing to provide debt financing at attractive terms.The presence of debt reduces the firm's profits even if bankruptcy never occurs.Indeed,some firms cannot be viable if their probability of bankruptcy becomes too high.In such cases,the stakeholders' fear that the firm may ultimately fail can actually cause the firm to fail.

Explain the Stakeholder Theory