The rise of passive investors
theconversation.com
theconversation.com
The gist of the argument was:
- Shareholders have no long-term investment in a company, they can easily move their money if they feel a company is performing badly. They can have little interest in long-term survival.
- Employees and suppliers do have long-term investment, have barriers to moving their commitment
Therefore you should discard the concept that a companies should maximize share-holder value and should instead incentivize companies to focus on long-term survival.
The example cited was GM, which did share buybacks instead of saving cash in boom times and then went bust because it ran out of cash in a recession.
I'm yet to read the book (which I can't remember the title now), but it sounds interesting and would be an effective counter to this concentration.
For "happy employees leads to happy customers", consider almost every company in existence, of any kind, in any sector. Do customers in general mind that the people making their electronics are underpaid, abused and unhappy? That the people serving them food in the restaurants are underpaid, abused and unhappy? That their doctors are overworked and unhappy? No. The happiness of employees starts and ends with "suck it up, smile nicely, or else lose your job and/or career prospects".
The more difficult to debunk is "happy customers leads to happy share holders". It is true in some cases, but it's also false in many more. Consider telcos or ISPs as a pretty stark example of companies doing totally fine with very unhappy customers.
http://www.sciencedirect.com/science/article/pii/S0022435908... A Meta-Analysis of Relationships Linking Employee Satisfaction to Customer Responses
"The authors report a meta-analysis of relationships linking employee job satisfaction to customer satisfaction and perceived service quality in studies that correlate employee data with customer data. Overall, both relationships are positive and statistically and substantively significant."
This seems to weakens my example with restaurant workers, and also possibly with the doctors (as much as people can shop around in this area). I do stand by the manufacturing example though, which represents the cases where a customer doesn't interact with an employee.
Anyway, thanks for referencing an actual paper! I learned something today :).
happy employees -> happy customers
does not imply:
happy customers -> happy employees
Likewise:
>Consider telcos or ISPs as a pretty stark example of companies doing totally fine with very unhappy customers.
happy customers -> happy share holders
does not imply
happy share holders -> happy customers.
* replace '->' with one 'leads to'
In some hypothetical world, if you raise the median income 50% and increase the quality of life for 95% of the population, while causing the other 5% to end up in crippling poverty for the rest of their life, you've made that society better in aggregate but certainly not for that 5%.
The majority of legal commentators suggest it's all attitude - not law. There are a few dissenting opinions.
What they don't have is an obligation to do literally anything legal to create short term gains, as many seem to believe.
The fiduciary duty of board members to shareholders still seems to be mostly about maximizing shareholder value.
As an example, it would be easy to make the case that reducing the dividend to build a new factory is in shareholders' best interest. It would also be easy to make the case that they shouldn't open a new factory, and instead increase the dividend. Which option they choose is a bit subjective, and a judgement call, but neither would breach their fiduciary duty.
Choosing a much higher cost supplier, that is owned by their husband or wife, probably would breach fiduciary duty.
The article you linked touches on this.
"Delaware (like other states) applies the business judgement rule to protect directors of corporations that reduce profits and share price when directors claim this will ultimately help the corporation."
Things that help the corp do increase long term shareholder value. If you limit "shareholder value" to mean "current stock price", then sure, that's not fiduciary duty. But that's a really shallow view of shareholder value.
Additionally, companies guarding mountains of cash is problematic. Sometimes companies can invest cash more wisely than the market. Often times however this is not the case.
I agree short termism is a problem, but I'm not convinced of any particular solution here.
I'll also point out that sometimes when the market is too short termist private equity can come in and revalue the company to free it from those constraints as in the case of Dell.
Another consequence was that instead of investing on new cars, GM's leadership was incentivized to focus on buybacks because of compensation schemes.
EDIT: The more I think about this, the more obviously broken it is.
Capital markets are lauded for being able to help companies grow. You're saying that capital is the most important thing and companies should focus on returning capital instead of themselves.
This is a long-standing debate over who should allocate capital. I don't think there's one exact answer. Clearly some companies, like AOL were terrible at reinvesting money, they tried and tried but wound up blowing tons of cash on worthless companies.
Other companies, like say Facebook were able to make smart investments like buying Instagram.
Clearly investors price stock based on whether the company can make smart investments in its own future, which is why AOL nosedived and Facebook rose. The market isn't always right but I'm not convinced that an alternative would be better
All you're doing is making Ha-Joon Chang's point for him!
Having not personally read "23 Things They Don't Tell You About Capitalism", I assume the argument is that companies should grow, not chase investor returns. Thus they contribute to the society and the eco-system of suppliers and employees they support. Investors don't depend on them, they can just move their capital elsewhere.
One might say that it's called "investing", not "extracting". If you want to move your capital elsewhere, because you think you can get better growth elsewhere, fab! That's capitalism at work and easy to do, sell your shares.
Which reminds me of all the films in the 80s about the company raiders (e.g. Pretty Woman) being bought and broken up, the pieces were worth more than the whole?
Destroying companies for short-term profit. I have no idea whether it's overall a net loss for an economy, but it destroys more than just the one company.
First, shareholders (and their interests) are a side effect of raising money. Anything you’d do to reduce the importance of shareholder interests would impact the amount of money companies could raise.
There have been some examples of industries where employee interests played a big role. Public sector companies, employee cooperatives or just private businesses with highly empowered unions.
In Israel for example, during the 50s-80s there were a lot of worker-cooperative companies. The biggest bus company, bank & health care provider were co-ops. These were generally started by large multi-industry union organisations. Where unions are this powerful, union-run & state-run tend blend into each other.
The bus company is still technically a cooperative, owned by members.
Anyway… Here incentives can play weird roles too. One thing that happens at a successful worker co-op (famously at Egged, the bus company mentioned above) is that member-workers want to avoid dilution, so no new member-workers. This either leads to hiring workers sans-membership or avoiding hiring altogether. In both cases, the owners have a much reduced interest in growth. Shareholders are hyper-interested in growth. Shareholders can portfolio away volatility, so they're more risk tolerant.
I’m not opposed to redefining the concept of a “company,” (joint stock or otherwise), it’s legal rights and such. I don’t think they should inherit the rights people have by default. I also don’t think infinitely cascading parent-child “structures” should be allowed.
But, I don’t think you can make anything perfect.
https://www.amazon.com/Things-They-Dont-About-Capitalism/dp/...
Therefore, first and foremost, Companies must serve the public good. The rights/interest of investors can be seen as a secondary interest. Not that private interests aren't crucially important; however, out of the gate there is a balance of public/private interests -- presenting it otherwise isn't correct.
(...) Darrell West of the Brookings Institution in Washington, DC, notes the decline of the idea that companies are creatures of the state, given the privilege of incorporation in return for pursuing a broad public purpose.
This all sounds very enlightened. But who will decide whether new companies are likely to serve the public good? Will a committee of the great and the good interrogate young app designers about the social benefits of their inventions? Will foreign competitors who are not required to pass a public-interest test be barred from the market? Or domestic entrepreneurs who choose to incorporate abroad?
(...) As for Mr West and the supposed virtues of companies as creatures of the state, the one-word response to that is: Petrobras.
I'm not sure this is totally fair, though:
> We found that the Big Three, taken together, have become the largest shareholder in 40% of all publicly listed firms in the United States.
> Together, the Big Three are the largest single shareholder in almost 90% of S&P 500 firms
> The Big Three – seen together – are virtually always the largest shareholder in the few competitors that remain in these sectors.
They're aggregating these owners together, then saying that the aggregation is larger than the non-aggregated other owners.
That's not too surprising, right? Taken together, the vowels cover more of the alphabet than any other single letter. Undoubtedly true, but what does that really tell us?
If the big three tend to vote with management, that sounds potentially concerning. But are they just not voting for wacky shareholder proposals? What proportion of those votes actually tip the outcome?
The section on the potential impact of this ownership concentration has a lot of "could have" and "may be" in it. We should definitely be doing that research, but at this stage the story isn't super compelling.
You can build the underlying basket yourself if you want the voting rights.
Personal opinion is all this consolidation into 2 or 3 companies dominating various fields will not bode well in the long term. Once you have enough people invested in something, it's tough to let it fail (politically), so you have a situation like 2008 where the people that made bad decisions were bailed out creating bad incentives and moral hazard going forward just because enough voters were negatively affected because everyone was invested in the same things.
Of course, 2008 wasn't the first time that happened, and it won't be the last, but I assume the cycle will continue until we reach a breaking point and the game is reset.
It's hurting innovation because now the company is beholden to these owners who never show up or look at the big picture. Their window of caring about the company is a quarter to a year at best which is reset after every earnings call.
We're nowhere near the level of dystopian control that Soviet central planners had, but the trend is leaning closer to that than farther away, what with companies listening to their investors before their customers.
Furthermore the article specifically mentions that its impact is limited because index funds are more "hands-off" than anything else. This implies there is not more central planning, and (more to the point) there is no planning -- just a reflexive response to stock price movement.
This is the purest expression of the "invisible hand of the market."
Granted it is a problem that 3 firms are so dominant.
Shareholder voting really does make a difference. Here's one case where the big three voted against management (for what I think were the right reasons):
https://www.washingtonpost.com/news/energy-environment/wp/20...
Moreover, executive compensation is still overwhelmingly set via earnings-per-share targets in a fairly transparent manner. If there's a conspiracy afoot to miss targets to benefit an industry sector, the authors haven't identified it.
I like the Matt Levine treatment of this question ('Are Index Funds Communist?'):
https://www.bloomberg.com/view/articles/2016-08-24/are-index...
So it must be lower fees. And you are able to charge lower fees if the total amount of money you manage is big. (Because a tiny percentage of a huge sum will still cover your costs.) The established players already manage a few trillion dollars, so it is hard to compete against them in this area.
Actually, Vanguard has been sued over this [2][3] -- the claim essentially being that Vanguard ought to owe taxes on those profits that it didn't earn from fees that it didn't charge.
[1] https://en.wikipedia.org/wiki/The_Vanguard_Group [2] https://www.nytimes.com/2016/02/07/your-money/vanguard-a-cha... [3] https://news.ycombinator.com/item?id=11081550
Seems like that would still be beneficial from a business perspective somehow, although one would probably need to be well versed in banking/finance/securities laws to figure out how to make it so..
Their theory? You'll come in the door for the index ETF and stay for the more expensive funds, the alternative investments, the retirement advice.
[1] http://www.reuters.com/article/us-column-stern-advice-idUSKC...