According to this column in the LA Times, it’s the “single most pernicious idea in modern American finance.” Can you guess? It’s the idea “that the corporation exists to ‘maximize shareholder wealth,’” the columnist proclaims. “As the mantra has evolved since it was declared by conservative economist Milton Friedman in 1970, it has come to mean ‘maximize shareholder wealth to the exclusion of everything else.’ The harvest has been stagnating worker wages, squeezed suppliers, noxious government economic policies, and the steady flow of corporate income to the top 1%. It’s long past time to bury this bad idea in the grave.” Needless to say, many would take issue with the columnist’s view, but probably not Senator Elizabeth Warren, who has recently introduced the “Accountable Capitalism Act,” which would mandate that specified large companies have as a corporate purpose identified in their charters—their new federal charters—the creation of a “general public benefit.”
As discussed in this article in the Harvard Business Review, the shareholder primacy theory (sometimes referred to as the “shareholder preeminence” or “agency” theory)—the idea that the goal of management and the board should be to maximize shareholder value—is rooted in the idea that shareholders own the corporation and, as owners, they “have ultimate authority over its business and may legitimately demand that its activities be conducted in accordance with their wishes.” To the authors of the article, however, because of the attenuated relationship with, and lack of responsibility for, the corporation that characterizes share ownership, the theory leaves an “accountability vacuum.” The consequences of this governance model, they maintain, are damage to companies and harm to the broader economy:
“In particular we are concerned about the effects on corporate strategy and resource allocation. Over the past few decades the agency model has provided the rationale for a variety of changes in governance and management practices that, taken together, have increased the power and influence of certain types of shareholders over other types and further elevated the claims of shareholders over those of other important constituencies—without establishing any corresponding responsibility or accountability on the part of shareholders who exercise that power. As a result, managers are under increasing pressure to deliver ever faster and more predictable returns and to curtail riskier investments aimed at meeting future needs and finding creative solutions to the problems facing people around the world.”
(See this PubCo post.) Of course, the authors are hardly the first to criticize the shareholder preeminence theory. See, for example, this Cooley News Brief, this Cooley News Brief and this Cooley News Brief.
To introduce her bill, Warren wrote an op-ed for the WSJ, observing that “[c]orporate profits are booming, but average wages haven’t budged over the past year.” That result she attributes to a “fundamental change in business practices” that occurred decades ago—the shift from the recognition of multiple corporate obligations to various stakeholders, including employees, customers and communities, to a sole corporate obligation focused on maximizing shareholder value. “That shift,” she contended,
“has had a tremendous effect on the economy. In the early 1980s, large American companies sent less than half their earnings to shareholders, spending the rest on their employees and other priorities. But between 2007 and 2016, large American companies dedicated 93% of their earnings to shareholders. Because the wealthiest 10% of U.S. households own 84% of American-held shares, the obsession with maximizing shareholder returns effectively means America’s biggest companies have dedicated themselves to making the rich even richer….Before ‘shareholder value maximization’ ideology took hold, wages and productivity grew at roughly the same rate. But since the early 1980s, real wages have stagnated even as productivity has continued to rise. Workers aren’t getting what they’ve earned.”
In case you were thinking of this as strictly a one-party issue, note that, in a recent interview on cable, a former senior advisor to the current president expressed agreement with Warren on the problems associated with the concept of “maximization of shareholder value,” even claiming she “ripped him off” for the idea.
More specifically, Warren’s bill would federalize a number of corporate governance requirements, mandating that companies with gross revenues over $1 billion obtain a federal charter with specified provisions. One of the mandatory provisions is that a purpose of the company is to create a “general public benefit,” defined as “a material positive impact on society resulting from the business and operations of a United States corporation, when taken as a whole.” Under the bill, the applicable standard of conduct—which Warren wrote was patterned after the state “benefit corporation” model—requires directors to manage the business and affairs of the corporation in a manner that seeks to create a general public benefit and balances the pecuniary interests of the shareholders with the best interests of persons that are materially affected by the conduct of the corporation, including employees, customers, communities, the environment, and the short- and long-term interests of the corporation (including the possibility that those interests may be best served by the continued independence of the corporation). Another feature of the bill—borrowed from Germany and other developed economies—would require that 40% of the board be elected by the corporation’s employees.
According to this article in Bloomberg.com, German law requires that the one-half of the boards of companies over a specified size be composed of employees. The article also provides a lengthy history of employee participation in corporate decision-making in the U.S., whether on corporate boards or otherwise.
To address the possibility that equity-based financial incentives granted to management provide a financial incentive to prioritize shareholder returns, the bill would also impose a five-year holding period on securities of the corporation, acquired post-enactment, held by officers and directors, as well as a three-year holding period following a stock buyback under Rule 10b-18. The bill also includes certain limitations on personal liability of officers and directors and monetary liability of the corporation, but the corporation could be sued derivatively by larger shareholders to enforce the bill’s requirements. Finally, political expenditures related to a candidate for office would require the approval of 75% of the shareholders and 75% of the directors, a concept borrowed from the founder of institutional investor Vanguard.
Interestingly, a number of institutional investors are, in some respects, on the same page as Senator Warren. For example, in his annual letter to public companies in 2018, Laurence Fink, the Chair and CEO of BlackRock, advocates that companies recognize their responsibilities to stakeholders beyond just shareholders—to employees, customers and communities. Governments, in Fink’s view, have not been up to the task, with the result that “society increasingly is turning to the private sector and asking that companies respond to broader societal challenges…. To prosper over time, every company must not only deliver financial performance, but also show how it makes a positive contribution to society. Companies must benefit all of their stakeholders, including shareholders, employees, customers, and the communities in which they operate.” [Emphasis added.]
What does that mean in practice? According to Fink, among other things, a company should consider its role in the community, its management of its environmental impact, its efforts to create a diverse workforce, its ability to adapt to technological change and take advantage of new opportunities, its retraining programs for employees in an increasingly automated world and its efforts to help prepare workers for retirement. But these goals are not just goals in and of themselves; they have a larger purpose. In the absence of “a sense of purpose,” Fink contends, echoing the title of his letter, companies will simply “succumb to short-term pressures to distribute earnings, and, in the process, sacrifice investments in employee development, innovation, and capital expenditures that are necessary for long-term growth.” (See this PubCo post.)
In some cases, these institutional investors have followed through with their votes. For example, last year, proposals to enhance disclosures regarding climate change won majority votes at three major companies, in large part as a result of support from mammoth asset managers such as BlackRock and Vanguard, and two climate change proposals won majority support this year. It’s also been reported that nine ESG proposals were successful in winning majority votes this year. (See, e.g., this PubCo post.)
And some large companies have acknowledged corporate responsibility to multiple stakeholders. For example, in this interview in the NYT, Marc Benioff, CEO of Salesforce.com, responding to a reader’s question about the responsibility of public companies to contribute to the public good, recognized the philosophical transformation that is ongoing:
“There’s a shift going on. When I went to U.S.C., it was all about maximizing value for shareholders. But we’re moving into a world of stakeholders. It’s not just about shareholders. Your employees are stakeholders, so are your customers, your partners, the communities that you’re in, the homeless that are nearby, your public schools. A company like ours can’t be successful in an unsuccessful economy or in an unsuccessful environment or where the school system doesn’t work. We have to take responsibility for all of those things. This idea that somebody put into our heads — that companies are somehow these kind of individuated units that are separate from society and don’t have to be paying attention to the communities they’re in — that is incorrect. We need to have a more enlightened view about the role of companies. This company is not somehow separate from everything else. Are we not all connected? Are we not all one? Isn’t that the point?”
I don’t think I’d be going out on a limb to suggest that the chances are slim that the bill, as is, will be signed into law. However, since most companies are incorporated in Delaware, federalization would not be required to make a fundamental change to board responsibilities that would affect a significant proportion of public companies. While Delaware has adopted a statute authorizing “public benefit corporations,” few public benefit corporations have taken the IPO plunge. (See this PubCo post.) Delaware has also recently enacted legislation providing for optional certification of adoption of sustainability and transparency standards. But does certification change the board’s fundamental responsibilities? Chief Justice Strine of the Delaware Supreme Court, as discussed in this PubCo post, a supporter of the PBC concept, has made clear his view (for example, here and here) that the concept that corporate directors are entitled to take into consideration the interests of constituencies other than shareholders is naïve, tiresome and misguided. Not to mention ineffective (because, he believes, the concept does little to change the incentives of directors to take the interests of these other constituencies into consideration). By articulating new corporate purposes and mandates, in Strine’s view, the PBC tweaks the normal corporate accountability structure that makes corporate managers accountable to only one constituency—shareholders. Ok, maybe it needs more time to gestate, but, if the PBC concept does not ultimately gain acceptance by public companies—or catches on only for certain niche companies, such as those in education—should the concept of “maximizing shareholder value” under Delaware law be revisited? When will Delaware catch the wave