Who owns a corporation?

I could not disagree more with this post from Yves Smith at naked capitalism.  Here’s the gist of it:

One of my pet peeves is the degree to which the notion that corporations exist only to serve the interests of shareholders is accepted as dogma and recited uncritically by the business press.

“maximizing shareholder value” is an idea made up and promoted by economists, starting with Milton Friedman and his Chicago School cronies. And like many ideas that came out of the Chicago School, the public as large has suffered from treating a soundbite like a serious policy proposal.

So the issue here is really a bottom line kind of thing:  What is a corporation, and what are its responsibilities?  From a legal standpoint, the post includes this:

If you review any of the numerous guides prepared for directors of corporations prepared by law firms and other experts, you won’t find a stipulation for them to maximize shareholder value on the list of things they are supposed to do. It’s not a legal requirement. And there is a good reason for that.

Directors and officers, broadly speaking, have a duty of care and duty of loyalty to the corporation. From that flow more specific obligations under Federal and state law. But notice: those responsibilities are to the corporation, not to shareholders in particular…Shareholders are at the very back of the line. They get their piece only after everyone else is satisfied. If you read between the lines of the duties of directors and officers, the implicit “don’t go bankrupt” duty clearly trumps concerns about shareholders…

And then it includes a bunch of stuff about labor, and society at large.  Blah, blah, blah.  Talking about that idyllic world of the 50’s:

… productivity gains were shared among workers, management, and investors. The fact that labor participated in these improvements helped propel a robust consumer economy, fueling more business growth. These enterprises typically took a long-term view, and used retained earnings to fund investments and research.

So we’ve got this legal construct, the Corporation, beholden only to itself.  It is regulated by laws (to force it not to abuse labor, or the environment, etc.), and bound by contracts (again, with labor, and also lienholders, customers, and others, with shareholders a weak lien holder at the end of the line).  Its goals are really only set by management, and minimally, by the directors, correct?  So, who owns this behemoth?  I mean, in the end, everything is owned by human persons, right?

I definitely prefer thinking of corporations as existing to maximize shareholder value.  We know that labor will take the maximum available amount of corporate value that they can get, right now, along with promises for the maximum into the future, whether or not that is sustainable.  This makes perfect sense from a labor standpoint:  since the corporation may or may not exist in the future, lets get ours now.  And for labor leaders, it makes sense to promise the moon going forward as well.  It doesn’t matter what the corporation is actually capable of providing, in this model.  We also know that management will operate similarly.  That is, they will take everything out of the corporation that they can personally get away with, and they will do it right now.  In addition, where they can make agreements with labor, they are likely to try to limit today’s cash outlays for their own benefit, but promise lots of future rewards.   For both labor and management, the greater good of society is partly a competing interest.  That is, what would be good for the community, such as less pollution, or more jobs, might have a smaller benefit to each individual within the corporation than what that benefit would cost him.

Shareholders at the end of the line is a feature, not a bug.  If the corporation isn’t thinking long term, then shareholders don’t receive any value.  Externalities have to be considered in this view, at least enough for the longest term shareholder to have some value (what is the timeline of a 20 year old share holder?  70 years? 80?).  Shareholders get what is left after labor, management, the board of directors, the government (including fines for not obeying laws) and any parties who sue the corporation get what is coming to them.  So maximizing shareholder value, in theory, would force corporations to obey laws, minimize polluting that would harm others (lawsuits), develop the most effective possible management and labor structure and compensation system, and invest in research and capital to promote future value.

Of course it doesn’t really work this way, IRL.  Boards of directors frequently do not stand up to management and force better allocation of resources.  Management is still able to take a disproportionate share for themselves (CEO pay?!?).  Labor, although often now less powerful, still pushes for as much as possible.  The disappointing fact here is that shareholders are just not taking on enough of the responsibilities that come with owning the shares of the corporation.  See Warren Buffet and Coke.

But sometimes they do.  How do we know that, in the end, shareholders are the owners, and shareholder value is, or should be, the goal of the corporation?  We know because when a corporation experiences change from the inside, it usually happens due to the purchase of a controlling stake of the shares by some person or group that wants to make that change.  And when that happens, the corporation can suddenly and dramatically change.  It’s not beholden to itself, or its employees, or its communities, or the government, beyond laws and contracts.  It’s beholden to its owners, bottom line.  And those are the shareholders.  Don’t go bankrupt “implicit” directive?  How is that different from maximizing shareholder value?

To me, a better question might be, how do we get a more direct line from shareholders to management?  How can we get that long term shareholder value better represented and acted on by management?


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