Shareholder value is a business term that emphasizes the primary goal of a business to increase the wealth of its shareholders by paying dividends or causing the company’s stock price to increase. It became a prominent idea during the 1980s and 1990s, along with the management principle value-based management or managing for value. The idea that maximizing shareholder value takes legal and practical precedence above all else first came to prominence in the 1970s.
Second, shareholder value capitalism began in 1976. This concept emerged as an invasion of the market for corporate control by financially oriented investors who critiqued sitting managers as not paying sufficient attention. The belief that shareholders come first is not codified by statute but was introduced by a handful of free-market academics in the 1970s. The early uses of the term indicate that the expression “shareholder value” was rarely used before 1980.
American society has been living in the wake of shareholder value capitalism for four decades. The term “maximize shareholder value” was coined by economist Milton Friedman in a 1970 New York Times essay, in which he claimed “the social The Friedman doctrine, also called shareholder theory, is a normative theory of business ethics advanced by economist Milton Friedman”.
The study analyzes thousands of corporate annual reports and financial data from 1960-2000 to propose an early history of the term “shareholder value” in the United States. The belief that shareholders come first is not codified by statute but was introduced by a handful of free-market academics in the 1970s. The term “maximize shareholder value” was rarely used before 1980.
| Article | Description | Site |
|---|---|---|
| The Age of Customer Capitalism | The second, shareholder value capitalism, began in 1976. … None of this means that the companies that pioneered the pursuit of shareholder value as their … | hbr.org |
| Making Sense Of Shareholder Value: ‘The World’s … | The Economist has recently declared that the goal of maximizing shareholder value, ie making money for shareholders, is “the biggest idea in business.” | forbes.com |
| Maximizing shareholder value: The goal that changed … | The belief that shareholders come first is not codified by statute. Rather, it was introduced by a handful of free-market academics in the 1970s … | washingtonpost.com |
📹 The Dumbest Business Idea in History
Thanks to James Montier for his great research that served as the basis for this video —– Our Other Channel: @HowHistoryWorks …
Do Managers Really Maximize Firm Value?
The debate over ownership in firms highlights that maximizing shareholder value is a managerial choice rather than a legal requirement, often leading to questionable managerial conduct. An analysis of over 50, 000 firm-years from 1988 to 2015 demonstrates a negative correlation between a firm's Tobin's q and managerial ownership. Specifically, in larger firms, managerial competence positively correlates with firm value, moderated by ownership concentration and firm size.
Efficient managers tend to obscure detrimental practices such as earnings management. The findings suggest that managerial ability is significant, with high-ability managers fostering risk-taking and low-ability managers negatively impacting firm performance. While the shareholder-wealth-maximization principle is broadly accepted, it inherently encourages management behaviors that may not align with long-term interests. By 2019, the notion of prioritizing shareholder value garnered criticism for its contributions to excessive executive compensation and short-term profit obsession.
Regulatory changes and cultural shifts are necessary to encourage a more holistic approach to corporate success, considering long-term value and social responsibility alongside shareholder profits. Ultimately, there exist challenges in aligning managerial goals with the broader interests of the firms they manage, especially when managers do not own substantial stakes.
What Is The Stakeholder Theory In 1984?
Stakeholder Theory (ST), introduced by R. Edward Freeman in 1984, posits that organizations should attend to the interests of various parties beyond just shareholders. Stakeholders, as defined by Freeman, include individuals, groups, or entities affected by or interested in a company's actions. His seminal work, "Strategic Management: A Stakeholder Approach," not only laid the groundwork for ST but merged business ethics with operational strategies.
Freeman identified six guiding principles critical to the theory: entry and exit, governance, externalities, contract costs, agency, and limited immortality. He emphasized that a company's effectiveness is measured by its ability to satisfy all stakeholders, including employees, customers, suppliers, and shareholders. By seeking to create value for all stakeholders, businesses can forge a more sustainable and ethical model of capitalism. Freeman’s ST caters to the interconnected relationships in a business's ecosystem, proposing that success should be gauged not solely by financial profit but by the value created for all involved parties.
The theory encourages organizations to employ responsible practices, addressing the interests and needs of all stakeholders to achieve long-term success. Ultimately, Freeman's ST invites a more complex understanding of value creation in business beyond narrow profit motives (Freeman, 1984).
When Did Shareholders Become So Powerful?
In 1970, Milton Friedman's influential essay titled "A Friedman Doctrine—The Social Responsibility of Business Is to Increase Its Profits" established shareholder primacy as a dominant corporate governance principle. Between 1980 and 2000, this ideology became entrenched in the U. S. and British corporations, shaped by government regulations and shareholder demands. The evolution of corporate structure over 200 years reflects changes in regulatory and competitive landscapes.
Friedman's views gained prominence during stock market booms, reshaping executive compensation and distorting capitalism for generations. Despite American corporate law not mandating shareholder wealth maximization, it remains a powerful social norm, with managers prioritizing shareholder value above all else. Evolving from the backstory, the shareholder activism movement has gained traction, empowering shareholders to influence companies more actively.
Bakan's assertions emphasize the immense economic power of corporations today, raising concerns even among some conservative circles. This shift began as a response to managerial complacency post-World War II but has devolved into a self-serving ideology over the decades. The norm of shareholder capitalism has become prevalent, especially as companies have globalized, distancing themselves from local communities. Historically, corporate focus was broader, but Friedman's assertion marked a significant pivot favoring shareholder interests exclusively, which this chapter examines comprehensively, including pivotal cases and shifts in corporate governance.
When Did Shareholder Value Become A Thing?
Modern capitalism encompasses two primary eras: managerial capitalism, which commenced in 1932, advocating for professional management of firms, and shareholder value capitalism, which began in 1976. Shareholder value focuses on maximizing the wealth of shareholders through dividends and stock price increases, a concept that became dominant in the 1980s and 1990s. Despite early criticisms, such as those from Peter Drucker in 1973, shareholder primacy became widely accepted, reshaping executive compensation and strategies within corporations.
The idea gained traction during economic crises in the late 1970s and early 1980s, with Milton Friedman’s assertion that a firm's sole responsibility is to maximize profits providing its theoretical underpinning. This perspective influenced legislative outcomes, such as defeating consumer protection initiatives and lobbying for tax reductions. The transition to a shareholder-centered model marked a significant shift in American corporate life and later influenced global practices.
However, recent discussions indicate growing backlash against shareholder value capitalism, questioning its long-term viability and ethical implications. Experts note that this model has dominated American corporate strategies for over four decades, fueling debate over its impact on both business and broader society. Overall, the discourse on shareholder value continues to evolve, prompting reflection on its foundational assumptions and consequences.
When Was Shareholder Theory Introduced?
In 1970, Milton Friedman, a notable economist from the University of Chicago, reiterated his position on corporate responsibility in an influential essay published in the New York Times Magazine, titled "The Social Responsibility of Business is to Increase Its Profits." Friedman argued that the primary role of a corporation is to generate profits for its shareholders, asserting that there are no obligations to society or other stakeholders beyond this goal.
This notion, known as shareholder theory, posits that the interests of shareholders should take precedence over those of other parties such as employees or suppliers. The theory emerged alongside the separation of ownership and control in large corporations during the early 20th century, and it emphasizes the financial interests of shareholders. Friedman justified this perspective by stating that shareholders supply capital to businesses and expect their investment to be used in ways that maximize returns.
In contrast, stakeholder theory, introduced by R. Edward Freeman in 1984, suggests businesses should consider a broader range of interests, including those of various stakeholders impacted by corporate actions. The discourse surrounding these theories reflects ongoing debates in corporate law and ethics, with critiques of shareholder primacy and the exploration of more inclusive approaches to business responsibility.
What Is The Creation Of Shareholder Value?
Shareholder value refers to the financial worth that shareholders receive for owning shares in a company. It is primarily driven by a company's ability to generate returns on invested capital (ROIC) that exceed its weighted average cost of capital (WACC). When a company successfully increases its sales, earnings, and free cash flow, it enhances shareholder value, which is a key indicator of corporate success. Effective management decisions that boost earnings, dividends, and share price contribute to shareholder value creation.
This process involves utilizing equity capital strategically to maximize returns. True creation of shareholder value is an intricate balance of art and science, influenced by understanding both known and unknown variables in business environments.
For long-term sustainability, companies must also consider the interests of all stakeholders, not just shareholders, to build lasting value. Achieving shareholder value involves strategic decision-making rather than just focusing on short-term earnings. A company's commitment to maintaining a return on capital that surpasses its cost of capital is essential. Methods such as strategic acquisitions or divestitures can also impact shareholder returns positively. Ultimately, shareholder value encapsulates the goal of enhancing the financial benefit for equity owners, reflecting a company's overall performance and effectiveness in wealth generation.
Why Is Maximizing Shareholder Value Finally Dying In Forbes?
By 2019, the pursuit of maximizing shareholder value (MSV) had been criticized for creating substantial issues: rising short-term profits accompanied by excessive executive compensation, stagnant median incomes, and increasing inequality. The consequences included financial crises, reduced corporate life expectancy, and slowing productivity. Critics argue that a focus solely on shareholder profits alienates customers and employees, illustrating that this approach is financially and socially flawed.
The Business Round Table declaration in August 2019, signed by numerous CEOs, marked a pivotal moment in acknowledging the need to redefine corporate purpose beyond MSV. This shift indicated recognition that the simplistic notion of maximizing shareholder value is both incorrect and detrimental. The rise of shareholder activism, triggered by stock performance issues and new regulations, highlighted the urgency to reconsider corporate strategy. The MSV pandemic persists, promoting short-termism and fostering distrust, thereby deepening societal fissures.
Advocates for stakeholder capitalism warn that it must evolve beyond mere rhetoric to succeed. Ultimately, maximizing shareholder value is presented not as a legal requirement but as a managerial choice that has catalyzed negative behaviors and distanced businesses from societal needs. The literature suggests a critical reevaluation of this corporate mantra to mitigate its harmful effects.
When Did Shareholders Become More Important Than Employees?
Corporate capitalism has historically prioritized returns, initially benefiting the ruling classes and later focusing on shareholders with the rise of stock markets. Stanford professor Jeffrey Pfeffer advocates for a reevaluation of this focus, suggesting CEOs should balance shareholder interests with those of other stakeholders such as employees, suppliers, and customers. For the first time, employees are viewed as the most critical stakeholders for long-term success—three times more important than shareholders.
This shift reflects a growing awareness that the traditional emphasis on maximizing shareholder value erodes job security, pensions, and benefits. The concept of shareholder primacy, established decades ago and reinforced by Milton Friedman in a 1970 article, has led to a transactional approach towards employees and customers, indicating that shareholders' interests often overshadow other critical relationships. The Business Roundtable's recent statement challenges this doctrine, suggesting a broader view of corporate purpose.
In Europe, particularly France, a strong movement towards employee shareholdings illustrates a shift away from shareholder dominance. Employees are integral to creating value and fostering relationships with communities. As companies become more human-centric, recognizing the invested interests of employees is crucial for adapting to a modern economic landscape that sees employees as vital partners rather than expendable resources.
Whose Work In The 1980S Was Central To Emphasizing Shareholder Value Added?
In the 1980s, the concept of Shareholder Value Added (SVA) emerged as a pivotal concern for corporate strategists, notably championed by Alfred Rappaport in his influential 1986 work "Creating Shareholder Value: A Guide for Managers and Investors." Rappaport posited that shareholder funds should generate returns exceeding those available through similarly risky investments. The late 1970s recession catalyzed a shift in management thinking, allowing new ideas surrounding value creation and governance to surface.
During this period, corporate managers faced increasing scrutiny regarding their focus on personal or organizational benefits at the expense of shareholder interests, leading to the ascendance of SVA as a governance principle. The ideology asserting that enhancing shareholder value should be the primary objective of management became entrenched from 1980 to 2000, resulting in a significant realignment in corporate strategies. Notable scholars like Lazonick and O'Sullivan documented these shifts, observing the rise of shareholder-focused management and the financialization of firms.
Critics, including Jack Welch, have since labeled the fixation on shareholder value as flawed, arguing that it oversimplifies corporate governance. Ultimately, the shareholder value paradigm reshaped corporate America by framing management’s success through the lens of shareholder returns, fundamentally altering corporate governance dynamics during the 1980s and beyond.
Who Said Maximize Shareholder Value?
Milton Friedman, a prominent American economist, established a business ethics doctrine asserting that an entity's primary responsibility is to satisfy its shareholders, emphasizing that businesses must maximize revenues for their owners. This principle, rooted in Friedman’s belief that profit maximization fosters social wealth, has significantly influenced corporate culture, finance, and law, becoming the prevailing view in business schools and among executives.
Critics contend that this focus leads to self-serving behavior among CEOs and shareholders, ultimately harming broader interests such as job security and wages. Despite its widespread adoption, many business leaders have begun to challenge this doctrine, as evidenced by the Business Roundtable's recent stance. The historical context of the shareholder value debate stretches nearly a century, emerging from contrasting views on corporate objectives.
Although Friedman championed the idea of prioritizing shareholder value for economic prosperity, dissenting voices argue it has detrimental societal consequences. While some continue to endorse Friedman’s perspective, labeling deviations as detrimental, the conversation around corporate purpose remains dynamic, with increasing recognition of the need to balance shareholder interests with broader societal responsibilities.
📹 The Most Ridiculous Idea in Business: Shareholder Value – Episode 146
Shareholder value is the outcome of taking care of your employees and your clients. No one is inspired to work harder or buy from …
Norfolk Southern approved a $10 billion share buyback program and a 9% dividend increase just before they told their employees that they couldn’t afford to give them any sick days and 10 months before they had a giant accident that poisoned a whole town because they wouldn’t invest in maintenance and pursued understaffing to save money.
I’ve lived this. Worked for a fortune 500 company that every single quarter results were about 1 minute of congrats for beating expectations and 59 minutes of all the things we need to do better. It seemed unsustainable to constantly do more and more in a saturated market, working for a mature company. I would always sit back and wonder why isn’t it enough to just have a profitable business, with steady revenues. Instead, everyone was miserable, expectations were off the charts, work/life balance was non-existent and layoffs always a looming threat.
Boeing cutting down on safety controls and testing is the thing that pisses me off the most. These psychos have literally decided that their returns are worth more than the safety and lives of their machines passengers. Literally criminal behavior. I think that all happened after the change from an Engineering-Educated CEO to an MBA CEO with little no engineering experience? Like, wtf is such a move even legal in a field that is usually pretty brutal when it comes to safety? Not to say that all MBA CEOs are necessarily bad or evil, but the one responsible surely was.
All large companies are seeing one major seldom mentioned shortcoming of “shareholder value” now, the skills shortage. Looking at job listings in my area, everything is either entry level or senior positions. Nothing in the middle. Companies aren’t loyal to the employees, so in turn the employees aren’t loyal to the companies. So no one is with a company long enough to develop and refine the skills needed to perform at a senior level. And no one wants to hire and train for mid-level work when they can just lean hard on their senior employees and let the expectation of incompetence fill in the rest. Industries like telecom, railroads, and construction are in for a major hurt.
Since the german federal railway (Deutsche Bahn) was privatized in the 90s, they have done this a lot. They let their infrastructure rot, because their contract makes the state come up for replacments, but they would have to pay repairs themselves. So now, 30 years later, the infrastrucutre is garbage and will take something like 60 billion euros to fix. Sacrificed short term cot savings for long term productiviy.
My dad told me running a company is like running a marathon. You gotta keep moving at a good pace and avoid tripping on small stuff. And the runners who only care about appeasing shareholders at every move are like people who cut off thier arms mid race. Yeah, you lowered your weight meaning you can now run faster but you will bleed out either after you crossed the finish line or before crossing.
That shareholder first mentality was what broke IBM. The company executives strived to reach very high EPS goals to the point of starving the company from talent, investments in R&D and building new products. Eventually their products became obsolete and irrelevant and couldn’t remotely compete against modern cloud services from Amazon and Microsoft.
This mentality is why layoffs are probably going to become more and more common than what we’ve been seeing. It’s the epitome of enshitification: provides a large, short-term gain that you can ride the effects of for at least a year before the problems it created are fully evident. You can maybe juice another year out of it if you can blame the remaining employees or use the family card to get them to work harder.
The CEO’s dream is to make one reckless decision after another until your company reaches “too big to fail” status, at which point your terrible decisions will no longer have consequences because you can just hold the entire economy hostage and force the government to bail you out over and over again.
So many people missed the point here, which is that reinvesting profits back into the business made for better results, better jobs, better quality, better overall profits, and actual stability. That was the model that made the US and its middle class prosperous. Believe it or not, some of us are still around who remember this system. Now everything is overpriced hot garbage. Soon we’ll be buying garbage washing machines that you assemble at home because the assembly line will be seen as dead weight that cuts into shareholder profits. As the article said, the shareholder model is unsustainable. Eventually there’s nothing left to cut and nobody left to fire.
“So we have two options.” “Okay.” “Option 1: we release the article game now. It’s broken and unfinished but we get money now.” “Okay.” “Option 2: we delay and release a finished high quality product. Though it’d take longer it’d certainly pay dividends and earn us more money overall.” “…I want money now though.” “… sighs option 1 it is then…”
I just read today about a billionaire that was going to buy hundreds of schools here in Sweden and focus on long term growth by focusing on the teachers and students not dividends. This tanked the stock and the other share holders pressured the seller to not sell the shares and blocked the acquisition. They cared more about the short term drop than long term growth. Support for private schools are dropping because of owners taking the tax money to pay dividends instead of investing in the schools so it may even turn out that private schools paid with tax money will be banned and then they will lose everything all for short term profits.
The short term thinking of shareholders is very real. I remember several years ago reading that Bezos having Amazon invest in it’s own trucks rather than outsourcing all their delieveries to other companies and a lot of shareholders were extremely upset by this because they wanted more dividends. Couldn’t believe how short sighted that was.
The current US rail industry is a great example of the pennies and steam roller. The infrastructure is so vast and needs constant maintenance. They can cut don’t on maintenance a bit here or there and save money in the short term, but it will take a massive investment to return to normal, and will be more accident prone. The Milwaukee Road is a good example of the short sighted cost cutting. Companies will also trim and cut their ability to innovate, adapt, and find new business.
There is a reason that young people (and people who are entering middle age) are souring on Neoliberal Capitalism. They have bared the heavy burden of propping up an oppressive system and have seen little fruit from their labors. The short term growth strategy has benefited the rich and the elderly and has made everyone else realize that the system is broken
People forget that ensuring the company survives throughout various cyclical swings in the market, sustainable returns and growth without swinging wildly threatening layoffs, lost of reputation and ability to secure future talent market share of the industry basically far supercede any short term gains IS also maximising shareholders value. With the recent trend towards share price as a major KPI on whether an executive has done their job, is not maximising shareholder value, its profiteering at the expense of society.
I just read “The Man Who Broke Capitalism: How Jack Welch Gutted the Heartland and Crushed the Soul of Corporate America—and How to Undo His Legacy” by David Gelles, which discussed the emergence of shareholder primacy at length. I thought it was a great book and interesting topic as someone who is just starting out in the corporate world. Glad to see a article on the topic, too!
The Shareholder Value mindset leads to every company becoming the exact same company. Boeing, Apple, Exxon, Pepsico, Disney. Salaries and quality will always be as low as possible. Prices will always be as high as possible. Skills and roles are seen as interchangeable. Strategies and moves are the same high risk, cost-cutting affairs. Speculation and marketing is king. The part where you actually do business is just a minor inconvenience.
I always tell my friends my classic example of short-termism and why its so bad. I use Mcdonalds vs In n Out. Mcdonalds used to play such an active role in communities, giving teens their first jobs and giving seniors a place to still work later in life, they would hold community events with Ronald Mcdonald, pony shows, and lots of people showing up. So many people could attest to Mcdonalds being their first job. But as a public corp, they needed to constantly grow earnings, and you do that in two ways, growing revenue or cutting expenses. So for years they expanded everywhere in the world, introduced the cafe line of drinks, did all day breakfast, everything and anything to expand the business and grow revenue. But you can only grow so much, so they started cutting expenses by having less full time employees and more part time, and then introduced more automated menus and cutting staff to the lowest levels ive ever seen for them. And of course, the quality of their food has declined over time, at the same time the cost continued to increase exponentially. And then of course they are mad about minimum wages going up, not because they cant afford it, but because it cuts the earnings per share. They made $8.67 billion in profit last year, a 37% increase year over year, but they cant afford higher wages?? Conversely, In n Out is privately held, never felt the need to recklessly expand, has always paid their employees great wages, has many many more employees in each location than mcdonalds, has much higher quality of food, better service, and better prices, and has even raised their prices the least after recent minimum wage law increases.
Management in public companies can have problems managing loose cannon shareholders and shareholder expectations. Even in closely held private companies, shareholders objectives evolve with different life stages (retirement for example). A local businessman inherited a medium sized manufacturing company with a <1% market share 30 years ago. He claims that he would have been fired every year if his company was public. He never laid off staff when business was slow, but instead set them to work on product development and customer support so that he would be better positioned when the market turned up. His company now has a dominant 70% market share. Private companies can have a competitive advantage if the the owner is thinking long term.
It was eight years ago, i was working for zeven years and the company ceo said during a years overview that times would be tough, but they would increase the value of shares by buying them. And on that moment it didn’t make any sense. If you have funds and you know times will be tough, there is a better way to spend it right? Left a year later, stock is now about 20% of what it was. Has seen two new ceo’s since.
I think the scary part of this concept of maximizing shareholder value over sustainability is that a large portion of the market(Probably close to 80% of publicly traded companies in North America), have been operating with this strategy for 3 decades now. It should have ended in 2008 but the entire economy got bailed out with 0% interest rates, instead of fixing the core issue. This pretty much gave execs a license to keep being idiots, and keep going into “unrealized debt” by penny pinching on key business initiatives that are critical to longevity. We have hit a cross-roads in the economy where the “fruits” of all of this “unrealized debt” from maximizing shareholder value is coming due, and all at once. You can only imagine the absolute carnage that is going to reap.
Outside of the dollar signs and stock prices, this mentality has shredded the social contract between employers and employees. The current system is exploitive where companies just want to maximize productivity out of people in the short term, burning them out. We’re all cynical, bitter and frustrated over our professional lives for the most part. Employees are expected to devote existence and be loyal (“we’re family here!”) but are immediately disposable. It’s just not a healthy economic system and it’s poisoning most aspects of our lives.
This nonsense is one reason why I have said for years that I would never go public with a company. Period. It is a deal with the devil. In the long term there is no way to reconcile the perverse incentives, and you get to keep your job or keep your soul. I have gotten to observe the board of a small company for years now, and the shortsighted approach that dominates is appalling… but they don’t care, they’re all old and just want their payout. No reinvestment in the company has been made, no acknowledgement of the power of concentrated wealth over dispursed wealth. Absolutely surreal.
There is a runaway trolley barreling down the railway tracks. Ahead, on the tracks, there are the trolly company’s low and mid level employees tied up and unable to move. The trolley is headed straight for them. The company’s executives are standing some distance off in the train yard, next to a lever. If they pull this lever, the trolley will switch to a different set of tracks. However, this will delay the trolly and cause the company’s stock price to miss growth projections. They have two (and only two) options: 1. Do nothing, in which case the trolley will destroy the lives of the people on the main track. 2. Pull the lever, causing the company’s shareholders to lose out on a half-percent of returns for that quarter. Which is the more ethical option? Or, more simply: What is the right thing to do?
This is why I was investing in intel recently. Their CEO pat announced huge investments into capital for the future. The stock price tanked though because investors knew that meant earnings would decrease for a while while it was happening. Bottomed out at like 26-27 and then shot up to 44-50 recently. I thought the investors were stupid. I still think that.
How to fix businesses and corporations: 1) Companies are not people and do not have the rights a person has. They cannot have limited liability or form contracts. Your contract is with a human representative. 2) Companies cannot own land. Only living American citizens can. A human’s name must be on the deed. They are responsible for what happens with their land. 3) If a company commits a crime, its punishment is distributed among its owners/shareholders in proportion to their shares. They are responsible for their behavior.
The dutch IRS offered all employees a golden handshake when they left voluntarly. The most valuable employees left and more than anticipated and not valuable employees stayed behind. A few years later the IRS had a huge shortage of employees which are still slowing tax collecting decades after the incident.
The biggest problem: Convincing people to stop doing this is impossible. Business will go bankrupt in 10 years? Just Find a new business. People hate the lack of quality? Find a new business. Government shut it down? Find a new business. It’s predatory, destructive, cruel, selfish, and doesn’t plan for the future at all, but as long as they are profiting, they won’t stop.
Instead of giving all the money to the CEO and Shareholders, maybe spread the money with the people that made the actual goals possible. You know, to incentivize workers with positive reinforcement rather than the threat of job security that is slowly killing people. We have yet to learn how deep these consequences will run until a few generations down the line, we’re starting to learn about the impacts of generational trauma and how this is passed genetically.
Boomers experienced working for companies that reinvested back into themselves, and as soon as they got themselves in charge, abandoned that strategy in favor of appeasing shareholders. And now they want to lecture us on how things were better back when they were “on their way up” the corporate ladder.
There I was, studying Business Administration at the best university in Latin America, when I had the Dean of my college (who was also one of our teachers) saying that the role of a company is to maximize shareholder value and showing me that the world I was getting myself into was not one I was going to enjoy working on nor would I agree with 🙃 It was a sad realization…
I realized this too late in life. Its one of the reasons people don’t want to work long hours, collaborate and make things better, or even come back into the office. I am hoping that a new generation of entrepreneurs comes in and runs things differently but money is money, and we reward stupidity now.
What we need to keep in mind is: Private Equity has several companies that sell nothing but ‘efficacy.’ This concept, which is just ‘Maximizing Share-holder Profits’ misnamed so people think it is good, is being marketed to board members of other companies. Due to the fact these consultants cost the company quite a bit of money to do their ‘inspection and report,’ they are often listened to regardless what that advice is… Loss-Sum. That the advice does make the stock prices go up too, it can seem like it is bringing success until the company realizes it’s coffers are broke, it’s workforce depressed, and it’s customers demanding their concerns be addressed.
As someone who is passionate about investing I wish companies would just focus on fundamentals and let the share price reflect their (real) growth as a company overtime. (I also love dividends but would rather know a company is well managed than get a temporary dividend that makes the holding less secure.
I once had a training period where I was given a document with tons of jargon I didn’t understand to sit and read for an entire week while almost nobody talked to me and then pushed onto a team of already busy people that were also supposed to train me as I immediately started taking projects. I hadn’t even been given credentials to log into any systems, so I had to have one of them create a new IT ticket any time I had to do something new.
I was in business school in the late 80s. The ascendant share maximization theory was presented as one school of thought on business. I was always sceptical of it. Short term profit maximization sounds like a quick way to ruin a business. The real decider on the use of profits was: can the business reinvest the cash and make a greater return than the shareholders can. The whole premise of running the business is that the company can outperform the investors, otherwise the company should be wound down and the money put to better use.
This philosophy has pretty much ruined everything across the board. The quality of every single thing has gone to hell while the costs have soared in the name of “shareholder value.” In “nonprofits” they just call the shareholders by a different name. You see it everywhere. article games, movies, Boeinf, Healthcare, groceries. I just had to replace a 500 dollar air conditioner after 4 years. I’m sure I helped maximize shareholder value there.
The problems listed don’t seem to have anything to do with the maximizing shareholder value model. In fact, most of these are explicitly the opposite: using various tricks in order to hide the actual performance of the company from shareholders. Brand and reputation doesn’t show up on the balance sheet (except as part of a merger), so, yeah, you can make your numbers look good through extracting earnings (numbers that do show up) by ruining your reputation (numbers that do not show up). However, this is obviously not in shareholders’ interests. The problem is that the stakeholder model also has enormous issues, in that it essentially gives management leeway to do whatever the heck floats their boat, with no real oversight.
The silly part about shareholder first management is that shareholders are supposed to be the last puppy to the bowl. These corporations are treating shareholders like they are bond holders. Stock is a long term investment and unfortunately it’s not being treated as such with this management strategy, and ultimately it leads to much more volatile economic cycles due to constant over evaluation. The article anthropomorphizes this as picking up pennies in front of a steam roller, but I prefer the term “stepping over old dirty dollars to pick up shiny new pennies”
I wrote a paper for a class about this a couple years ago. I didn’t find the fact about CEO’s income being disproportionately tied to stocks after 1990s- that’s very interesting! Here are some things I had as well: Not only are companies rewarded for treating workers poorly, they are often slammed in the stock market for improving conditions. I had Milton Friedman as an additional source for the shareholder first ideology because he cemented it in the minds of academia and politics as the default position. High CEO pay spills over into other endeavors as it forces increased wages for charity directors and university higher ups. I can provide sources if anyone wants to look further into my claims
Unfortunately, it’s not even a choice for businesses to deviate even if shareholders are on board with long term growth. High Wall Street valuation means affordable access to equity through direct stock sales and collateralized loans. If you don’t play Wall Street’s game, it’s difficult to gain access to the funding to make long term investments, especially since all your competitors will.
Risk management team members have a unique position at most corporations, and must maintain a delicate balance. Revenue-generating teams see them as “obstacles”, while the Risk teams are constantly trying to prove their worth. It’s easy to see quarterly fee income increased by 10%, but not so easy to see that 10,000 account takeover attempts were thwarted in that same time period.
It is a bit funny that whenever someone mentions people getting ground to dust for shareholder and CEO profit the first response is always “why don’t you go to (SOCIALIST/FAILED COMMUNIST COUNTRY) instead?” as if it’s the only alternative is some extreme. Also, to anyone who might have missed it, GE wasn’t just “one of the best companies to work for” it was THE BEST company to work for in the world prior to Jack Welch. The prosperity that turbo-fans of capitalism fawn over in the 50’s and 60’s was propped up by Welfare Capitalism that was essentially company-funded socialist policies. Some businesses saw Welfare Capitalism as a moral imperative to better the communities around them and enrich the lives of workers, some used it to stave off worker strikes. This was funding everything from sports teams and events, to education, to libraries, to social clubs, to childcare, to healthcare, to pensions, to free/cheap housing developments, etc. All of that progress went out the window, along with the R&D that put GE in the forefront of innovation, in favor of turning GE into a bank to use large sums of capital to speculativly invest in smaller companies or buy them and their patents rather than do research themselves. ~40% of GE’s market capitalization was in financial services by the end of his tenure. For any Champions of Capitalism in the comments that really like to say “it’s the best system we’ve got” and think there’s nothing we can do about the current way things operate, I can guarantee that nothing will make you more sad than reading David Gelles’s “The Man Who Broke Capitalism” to really get a grasp for how far we’ve fallen.
in the post war years, during the “economic wonder”, business tax was partly around 95%, so companies lile porsche would reinvest profits, which they could write off from their taxes. the company was doing quite well, even through the oil crisis, and the workers were happy with their jobs. the business started going down hill, once those taxes were lowered and management started paying out higher dividend, to a point that in the 90s porsche was close to bankruptcy.
I’ve been having similar thoughts for months, that businesses these days are so stuck in maximizing quarterly performance that they suck the life out of their workforce, suffer myriad issues from high turnover, are vulnerable to market disruption due to lack of forward thinking and adaptability, and are heedless of the harm they cause the labor pool and society as a whole by trying to suck up more and more of their employees’ time and energy. They don’t care if the parents they demand so much time from don’t have enough time to properly raise their children into good citizens and competent workers. They don’t care if their demands don’t even necessarily boost productivity as long as they can tell their boss they’re pushing hard for more performance and keeping their employees too demoralized to slack on the job. They’re tearing down all the damn pillars our civilization rests upon so they can sell the rock it’s made of. No concern for leaving their children an inheritance or a better world. Just more money for me me me.
I’ve kept posting the same thing on every comment I see that complains about corporate ethics: This won’t change until we end the doctrine of Shareholder Primacy. What we need is direct legal intervention that discourages or outright makes it illegal the practices that have led to this being so problematic.
When you think about it I dose make sense. The people that own the most stocks can pay brokers to manage their stocks constantly. Then can afford to sell high and move their stocks elsewhere, creating a natural boom bust they they never have to suffer the consequences for. The other group are those that own major shares in a company, but have no other form of income and thus use those shares as collateral to fund their wealth. Yes it’s bad for everyone but this very small group, but it dose make sense why it’s like this when you think ably how the stock economy works and who it works for.
You’re skipping a few key details in the Ford story. Ford wasn’t doing what he was doing purely out of the goodness of his heart, he was doing it to screw over two particular share holders: the Dodge brothers. Yes, the same Dodge as the cars. In fact, the Dodge brothers had already started making their own automobiles by the time made his decision. So the decision kept Ford from preventing the brothers from “double dipping”.
I wholeheartedly concur, which is why I appreciate giving an investment coach the power of decision-making. Given their specialized expertise and education, as well as the fact that each and every one of their skills is centered on harnessing risk for its asymmetrical potential and controlling it as a buffer against certain unfavorable developments, it is practically impossible for them to underperform. I have made over 1.5 million dollars working with an investment coach for more than two years
Half the time, the companies start doing stupid stuff that destroys their reputations and businesses just for short term gain. It’s like: they’re already earning million to billion per year and all they have to do is keep doing that they’re doing while investing into more research to become market leader. Then they start cutting costs and their products start hurting. When it goes from making a good product to rapid monetization.
Probably one of the biggest reasons why a company fails. Extreme greed blinds you to the possibilities of the future, and hurts you in the long run. It’s like the classic “penny a day” theory. Would you rather take a million dollars today? Or start with the a penny, and double it each day for a month? Perhaps a way of adapting it to the concept, if we don’t know how long it’s doubled for, companies would certainly chose the million for fear of not “maximizing shareholder value” and lose out on the potential for massive gains. Though it’s maybe not a great example for this kind of concept… the point still stands stands though. Companies being forced to maximize shareholder value often makes them take “stupid” decisions. Look no further than AAA studios
Maximizing any single thing at the expense of all other things is almost always irrational, at least where long-term survival is concerned. Businesses, like any enterprise, are complex systems, which must do many things well. The goal should always be system optimization, never maximization of any one factor. If it made any sense to exclusively maximize shareholder value, classification of stocks as “growth,” “income,” etc. wouldn’t exist.
I love this website and this is a great article, but this at 5:49 is not a factual representation of this situation. I assume you are not purposefully misrepresenting this to make a point. Come to think of it, the background and court case surrounding Musk and his $55 billion pay package would make for a great episode of How Money Works. Either way, keep up the good work.
Then executives and CEOs should be forbidden by law to sell or cash out more than 10% of the shares they received for compensation. They should also have a limit on the rate at which they can liquidate shares they purchase. That way if you golden parachute on stock compensation you will have to wait to see all of the money, so sabotaging the business to raise the stock price is bad for your wallet. Great article by the way.
12:21 That’s a very misleading stat, because that reduction in shareholder ownership duration is in no small part driven by people buying share on one exchange and selling them on the other for a tenth of a penny’s profit per share and other such manipulations which do not generally grant anyone voting rights. The people with voting rights still tend to hold onto shares for as long as ever.