Questioning the Primacy of Shareholders

The NY Times published a nice little contrarian piece discussing the perceived negative effects of putting shareholders first.

One of the many interesting phrases runs:

QUOTE: . . . the idea that shareholders own their companies isn't actually so set in the law, Ms. Stout argues. . . . Instead, as Ms. Stout explains, what the law actually says is that shareholders are more like contractors, similar to debtholders, employees and suppliers. Directors are not obligated to give them any and all profits, but may allocate the money in the best way they see. They may want to pay employees more or invest in research. Courts allow boards leeway to use their own judgments. The law gives shareholders special consideration only during takeovers and in bankruptcy. In bankruptcy, shareholders become the residual claimants who get what's left over. UNQUOTE

Another is: QUOTE The biggest ill has been to align top executives' pay with performance, usually measured by the stock price. This has proved to be a disaster, Ms. Stout says. Managers have become obsessed with share price. By focusing on short-term moves in stock prices, managers are eroding the long-term value of their franchises. Here, Ms. Stout also blames the corporate governance movement, which pushed for such alignment. It has proven harmful to the very institutions that it is seeking to benefit, she says. Investors are actually causing corporations to do things that are eroding investor returns. She calls for a return to managerialism, where executives and directors run companies without being preoccupied with shareholder value. Companies would be freed up to think about their customers and their employees and even to start acting more socially responsible. Shareholders would have a limited almost safety net role, Ms. Stout says. They would be relatively weak – and that's a good thing. Of course, this is anathema to the corporate governance advocates. Sure, short-term thinking is bad, but it's hard to believe that giving management more power will suddenly result in a wave of altruism.

The era of managerial supremacy was not that successful then and would be more catastrophic now, says Nell Minow, a standard-bearer of the corporate governance movement. The idea of speaking of shareholders as owners is absolutely crucial. UNQUOTE

So is shareholder supremacy really the problem? It seems to me a couple of different things are being conflated here: corporate governance and management incentives. Incentives can be aligned with longer or shorter term performance; and managers can ignore short-term incentives if they feel they harm the franchise or the future value of the business, assuming they can stand the criticism, which the would probably get anyway even if their incentives weren't based on stock performance. In fact, one important corporate governance message is all about aligning management incentives with long-term rather than short-term performance. For a similar article based on Peter Drucker's ideas over a decade ago:

Ultimately, doesn't someone who proposes managerialism have to ask the same question she's posing to shareholder capitalists – how did that work out? The argument is really just about dividing the spoils of business, not about whether shareholders are owners or not.

The Board Director Training Institute (BDTI) is a "public interest" nonprofit in Japan dedicated to training about directorship, corporate governance, and related management techniques. It is certified by the Japanese government to conduct these activities as a regulated nonprofit. Read a summary about BDTI here, and see a menu of its services for both corporations and investors here.

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