In the recent history of management ideas, few have had a more profound — or pernicious — effect than the one that says corporations should be run in a manner that “maximizes shareholder value.”
Indeed, you could argue that much of what Americans perceive to be wrong with the economy these days — the slow growth and rising inequality; the recurring scandals; the wild swings from boom to bust; the inadequate investment in R&D, worker training and public goods — has its roots in this ideology.
The funny thing is that this supposed imperative to “maximize” a company’s share price has no foundation in history or in law. Nor is there any empirical evidence that it makes the economy or the society better off. What began in the 1970s and ’80s as a useful corrective to self-satisfied managerialmediocrity has become a corrupting, self-interested dogma peddled by finance professors, money managers and over-compensated corporate executives.
Let’s start with some history.
The earliest American corporations were generally chartered for public purposes, such as building canals or transit systems, and well into the 1960s were widely viewed as owing something in return to a society that provided them with legal protections and an economic ecosystem in which to grow and thrive. In 1953, carmaker Charlie Wilson famously spoke for a generation of chief executives about the link between business and the larger society when he told a Senate committee that “what is good for the country is good for General Motors, and vice versa.”
There are no statutes that put the shareholder at the top of the corporate priority list. In most states, corporations can be formed for any lawful purpose. Cornell University law professor Lynn Stout has been looking for years for a corporate charter that even mentions maximizing profits or share price. She hasn’t found one.
Nor does the law require, as many believe, that executives and directors owe a special fiduciary duty to shareholders. The fiduciary duty, in fact, is owed simply to the corporation, which is owned by no one, just as you and I are owned by no one — we are all “persons” in the eyes of the law. Shareholders, however, have a contractual claim to the “residual value” of the corporation once all its other obligations have been satisfied — and even then directors are given wide latitude to make whatever use of that residual value they choose, as long they’re not stealing it for themselves.
It is true that only shareholders have the power to select a corporation’s directors. But it requires the peculiar imagination of a corporate lawyer to leap from that to a broad mandate that those directors have a duty to put the interests of shareholders above all others.
Becoming the norm
How then did “maximizing shareholder value” evolve into such a widely accepted norm of corporate behavior?
The most likely explanations for this transformation are two broad structural changes — globalization and deregulation — which together conspired to rob many major American corporations of the outsize profits they had earned during the “golden” decades after World War II. Those profits were so generous that there was enough to satisfy nearly all the corporate stakeholders. But in the 1970s, when increased competition started to squeeze out profits, it was easier for executives to disappoint shareholders than their workers or communities. The result was a lost decade for investors.
No surprise, then, that by the mid-1980s, companies with lagging stock prices found themselves targets for hostile takeovers by rivals or corporate raiders using newfangled “junk” bonds to finance their purchases. Disgruntled shareholders were only too willing to sell. And so it developed that the mere threat of a possible takeover imbued corporate executives and directors with a new focus on profits and share prices, tossing aside old inhibitions against laying off workers, cutting wages, closing plants, spinning off divisions and outsourcing production overseas. Today’s “activist investor” hedge funds, which have amassed war chests of tens of billions of dollars to take on the likes of Microsoft, Procter & Gamble, PepsiCo and Apple, are the direct descendants of these 1980s corporate raiders.
While it was this new “market for corporate control,” as economists like to call it, that created the imperative to boost near-term profits and share prices, an elaborate institutional infrastructure has grown up to reinforce it.
This infrastructure includes business schools that indoctrinate students with the shareholder-first ideology and equip them with tools to manipulate quarterly earnings and short-term share prices.
It includes corporate lawyers who reflexively advise against any action that might lower the share price and invite shareholder lawsuits, however frivolous.