Yves here. While it is welcome to see Elizabeth Warren using a quixotic bill to call attention to the fact that Corporate America is increasingly in the business of looting companies for their and shareholder fun and profit, one has to wonder at the timing. During the Biden almost lame duck phase? Note she first introduced this legislation in 2018, as in under Trump, so this is a rerun. That makes the timing even odder. Was Warren that concerned about spending points via a bill that one has to assume runs afoul of pet Administration views?
I see nothing on Twitter about this bill, but the Guardian, which has renounced Twitter, has a write-up that sets forth its key provisions:
The bill would mandate corporations with over $1bn in annual revenue obtain a federal charter as a “United States Corporation” under the obligation to consider the interests of all stakeholders and corporations engaging in repeated and egregious illegal conduct can have their charters revoked.
The legislation would also mandate that at least 40% of a corporation’s board of directors be chosen directly by employees and would enact restrictions on corporate directors and officers from selling stocks within five years of receiving the shares or three years within a company stock buyback.
All political expenditures by corporations would also have to be approved by at least 75% of shareholders and directors.
What concerns me about the framing in the Guardian, and it’s even more apparent in the Common Dream account below, is that it IMHO does not make it clear that the maximizing shareholder value is a made up economists’ creed, first promulgated by Milton Friedman in a New York Times op-ed. It is not a legal duty, as management touts regularly and falsely assert. Legally, equity is a residual claim. All other obligations, like payments to employees, suppliers, creditors, landlords, tax authorities, successful litigants, regulatory fines, come first.
Since this bad idea seems as resistant to extermination as cockroaches, let us hoist from a 2017 post, Why the “Maximize Shareholder Value” Theory Is Bogus:
From the early days of this website, we’ve written from time to time about why the “shareholder value” theory of corporate governance was made up by economists and has no legal foundation. It has also proven to be destructive in practice, save for CEO and compensation consultants who have gotten rich from it.
Further confirmation comes from a must-read article in American Prospect by Steven Pearlstein, When Shareholder Capitalism Came to Town. It recounts how until the early 1990s, corporations had a much broader set of concerns, most importantly, taking care of customers, as well as having a sense of responsibility for their employees and the communities in which they operated. Equity is a residual economic claim. As we wrote in 2013:
Directors and officers, broadly speaking, have a duty of care and duty of loyalty to the corporation. From that flow more specific obligations under Federal and state law. But notice: those responsibilities are to the corporation, not to shareholders in particular…..Equity holders are at the bottom of the obligation chain. Directors do not have a legal foundation for given them preference over other parties that legitimately have stronger economic interests in the company than shareholders do….
One of their big props to this campaign was the claim that companies existed to promote shareholder value. This had been a minority view in the academic literature in the 1940s and 1950s. Milton Friedman took it up an intellectually incoherent New York Times op-ed in 1970….
Why The Shareholder Value Theory Has No Legal Foundation
Why do so many corporate boards treat the shareholder value theory as gospel? Aside from the power of ideology and constant repetition in the business press, Pearlstein, drawing on the research of Cornell law professor Lynn Stout, describes how a key decision has been widely misapplied:
Let’s start with the history. The earliest corporations, in fact, were generally chartered not for private but for public purposes, such as building canals or transit systems. Well into the 1960s, corporations were broadly viewed as owing something in return to the community that provided them with special legal protections and the economic ecosystem in which they could grow and thrive.
Legally, no statutes require that companies be run to maximize profits or share prices. In most states, corporations can be formed for any lawful purpose. Lynn Stout, a Cornell law professor, has been looking for years for a corporate charter that even mentions maximizing profits or share price. So far, she hasn’t found one. Companies that put shareholders at the top of their hierarchy do so by choice, Stout writes, not by law…
For many years, much of the jurisprudence coming out of the Delaware courts—where most big corporations have their legal home—was based around the “business judgment” rule, which held that corporate directors have wide discretion in determining a firm’s goals and strategies, even if their decisions reduce profits or share prices. But in 1986, the Delaware Court of Chancery ruled that directors of the cosmetics company Revlon had to put the interests of shareholders first and accept the highest price offered for the company. As Lynn Stout has written, and the Delaware courts subsequently confirmed, the decision was a narrowly drawn exception to the business–judgment rule that only applies once a company has decided to put itself up for sale. But it has been widely—and mistakenly—used ever since as a legal rationale for the primacy of shareholder interests and the legitimacy of share-price maximization.
Now to the current post.
By Julia Conley, staff writer at Common Dreams. Originally published at Common Dreams
Aiming to confront “a root cause of many of America’s fundamental economic problems,” U.S. Sen. Elizabeth Warrenon Wednesday unveiled a bill to require corporations to balance growth with fair treatment of their employees and consumers.
The Massachusetts Democrat introduced the Accountable Capitalism Act, explaining that for much of U.S. history, corporations reinvested more than half of their profits back into their companies, working in the interest of employees, customers, business partners, and shareholders.
In the 1980s, said Warren corporations began placing the latter group above all, adopting “the belief that their only legitimate and legal purpose was ‘maximizing shareholder value.'”
That view was further cemented in 1997 when the Business Roundtable, a lobbying group that represents chief executives across the country, declared that the “principal objective of a business enterprise is to generate economic returns to its owners.”
Now, Warren said in a policy document, “around 93% of American-held corporate shares are owned by just 10% of our nation’s richest households, while more than 40% of American households hold no shares at all.”
“This means that corporate America’s commitment to ‘maximizing shareholder return’ is a commitment to making the rich even richer, while leaving workers and families behind,” said Warren in a statement.
The Accountable Capitalism Act would require:
- Corporations with more than $1 billion in annual revenue to obtain a federal charter as a “United States corporation,” obligating executives to consider the interests of all stakeholders, not just investors;
- Corporate political spending to be approved by at least 75% of a company’s shareholders and 75% of its board of directors; and
- At least 40% of a company’s board of directors to be selected by employees.
The bill would also prohibit directors of U.S. corporations from selling company shares within five years of receiving them or within three years of a company stock buyback.
Warren noted that as companies have increasingly poured their profits into stock buybacks to benefit shareholders, worker productivity has steadily increased while real wages have gone up only slightly. The share of national income that goes to workers has also significantly dropped.
“Workers are a major reason corporate profits are surging, but their salaries have barely moved while corporations’ shareholders make out like bandits,” said Warren told The Guardian. “We need to stand up for working people and hold giant companies responsible for decisions that hurt workers and consumers while lining shareholders’ pockets.”
The senator highlighted that big business interests invested heavily in November’s U.S. presidential election.
“Following the most lucrative election in history for special interests,” she said, “my bill will empower workers to hold corporations to responsible decisions that benefit more than just shareholders.”
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I’m gonna gain a huge amount of weight or look into David Byrne’s tailor and then put this on a t-shirt. It’s exhausting. People – even people somewhat on the left – really think it’s just too bad they have no choice because duty….
A n d never useful to think “shareholders” is a one-size fits all category.
Hope Liz is trying to do some educating here.
My opinion of Ms Warren is raised, ever so slightly. The timing of both attempts alludes to the unpopularity of this line of thought within her own party.
I recall reading recently that she and Marky are responsible for referring Brian Thompson to the justice department for prosecution over the UHC insider trading free-for-all.
What’s next? Maybe now’s the perfect time for Democrats to finally try introducing a bill to codify Roe v Wade.
This is why I think that the whole goal of rebuilding US industry is a dead end. Unless this short term “shareholder value” philosophy is entirely rejected, it’s not possible to build a truly capital and R&D intensive industrial base up.
What is happening is that companies are using their money to buy back their shares, private equity in “dividend recapitalization”, and other schemes that ultimately mean less money for the company to invest in their future. The real goal is to maximize executive compensation and for PE companies, to allow them to loot the company dry.
Companies in the long run that buyback shares, do dividend recaps, etc, will have less capital to invest in the future. They won’t have the latest in equipment, they won’t be able to pay for the best people, and their technological lead will fall behind the competition. That’s played a big role as well in the West’s relative decline to China.
The whole reason why the US outsourced so much industry to begin with is because they wanted the cheaper labor, to break the unions, and the New Deal. They rationalized it with PR like “comparative advantage”, when in reality, it was class warfare. It was a shortsighted decision that ultimately accelerated the decline of the US and as the elites in the West are discovering to their horror, accelerated the rise of China. China didn’t even want to fight the US, but the US insists on hegemony, so they are provoking China.
There’s a bigger problem, and that’s the moral rot in the elite. The elite never wanted the New Deal, the Social Democracy that emerged after WW2, and the other concessions that they clearly intended to be temporary to quell the desire of workers for Communism. The elite are just too greedy for society in its current form to be viable in the long run. The use of buybacks and dividend recaps is just to satisfy this deep greed. The shareholders and executives don’t even care about the future of the companies that they are running, otherwise they’d invest a lot more and not return money to shareholders.
Warren’s bill, I would argue ultimately is too little, too late. It won’t fix the root causes of the problem, elite greed, and they will likely resist even this half-measure.
This seems to address the root cause of many of the problems we face today. I wonder if it could be done at the state level first, by creating charters for California Corporations or (some other smaller state to start with). Those chartered companies would get favorable treatment from the state that sponsors them.
Obamanation waited to introduced a minimum wage increase until only after Dems “lost” control (as defined by the ruling class) of the Senate, because he knew it wouldn’t pass. We’ve seen this movie before.
Yes, the Democrats have form. Add to the list the Clinton Administration’s OSHA releasing new rules meant to mitigate ergonomic injuries in the workplace a week after the 2000 election. While the result of the presidential race was still undecided at the time, Clinton knew the incoming House would be controlled by the
Chamber of CommerceRepublicans. (Turned out the Presidency and the Senate would be as well.) Surprising exactly no one, the regulations were repealed a few months later.As a footnote, a number of Democrat senators sided with the “opposition” in killing the regulations including the execrable Max Baucus and John Breaux. Reducing the incidence of widespread and painful repetitive-stress injuries would have significantly cut into the revenue streams of the healthcare sector (treatment), from which Baucus was the number one Democrat recipient of campaign funding, and Big Pharma (pain relief), from which Breaux would soon earn hundreds of thousands of dollars as a lobbyist.
Discussion of the ‘agency problem’ or ‘principal-agent problem’ proceeds Milton Freedman by a century at least. Which is basically the conflict of interest of management vs shareholders.
What about the interests of the citizenry? After all, corporations are granted a charter by the government and as such are creatures of law.
Companies put the interests of their shareholders first because the stock price functions as a popularity contest for the company. Because stock prices fluctuate constantly and are visible to everyone, management is forced to cater to shareholders.
If we lived in a world where the number of employees in each company was displayed in real time, and a disgruntled employee could move to another company at any time, companies would put the interests of their employees first.
Many thanks for this. Under English law directors are under an obligation to ‘promote the success of the company for the benefit of its members’ (Section 172 of the Companies Act 2006). In doing so they have to take various factors into account, but these are arguably ancillary to the primary obligation to benefit the members (i.e., the shareholders). In English law equity also has several meanings: (i) those rules which emanated from the chancery courts, which were especially important in the development of the ‘use’ or trust; (ii) as synonym used by the general public for ‘justice’, which may be rather different from what the courts suppose it to be; and (iii) the capital which investors contribute to a firm in exchange for their rights as shareholders. In 1873 the common law and equity (i.e., the rules of the chancery courts) were ‘fused’. The old principle that ‘equity follows the [common] law’ continued to apply, but under Section 25 of the Judicature Act 1873 if there was any contest between an established equitable rule (or maxim) and the common law, then equity was to prevail.
What I suspect happened is that Friedman was noting, albeit implicitly or subconsciously, the importance of the fiduciary obligations of directors (as trustees) towards the shareholders (as beneficiaries).
Per Professor Stout’s observations, after 1688 there was a proliferation of new companies with large numbers of passive shareholders (i.e., joint stock companies) which functioned as trusts (or unincorporated companies), as opposed to the far smaller number of ‘incorporated companies’ operating under charters granted by the crown. However, following the Bubble Act 1720 unincorporated companies were banned and incorporated companies could only be created by statute, which was an extremely expensive and politically charged form of company formation. As the 1720 Act was never enforced until 1812, it effectively became permissive legislation. Unincorporated companies, now commonly masquerading as ‘associations’ or ‘partnerships’, therefore continued to proliferate and account for the vast majority of commercial enterprises.
Given the high incidence of fraud associated with these unincorporated firms, and despite (or because of) partnerships being subject to joint and several liability, the courts were on their guard. Moreover, during the 18th and early 19th centuries period the courts were also at pains to calcify ‘equity’ (i.e., the rules of the chancery court), so that it would no longer vary – in John Selden’s acid, famous and telling phrase – with the ‘length of the chancellor’s foot’. That meant clarifying the meaning of fiduciary obligations, and under the most painstaking and influential chancellors, notably Hardwicke and Eldon, making them more demanding, to the benefit of beneficiaries. As time passed the fiduciary obligation of directors to beneficiaries (shareholders) became ever more severe, as in such notable cases as London & Mashonaland Exploration Co. Ltd v. New Mashonaland Co. Ltd (1891), Regal (Hastings) v. Gulliver (1942), Phipps v. Boardman (1967), etc.
The 1720 statute was repealed in 1825, and in 1844 parliament passed the Registration Act, which permitted company formation by means of the registrar of joint-stock companies, instead of by statute. However, under the terms of the 1844 Act every new partnership, company or association carried on for profit with tradeable shares and more than 25 members had to register, regardless of how the directors or partners wished to organise their enterprise. However, the mandatory requirements of the 1844 statute were unpopular, so the trust model continued to persist until at least the late Victorian era.
Therefore, the combination of the long prevalence of the trust model into the late 19th century and the increasing severity of fiduciary obligations owed by directors and partners to beneficiaries (shareholders) *might* help to account for the belief that directors must pay due attention to the interests (i.e., returns to) members/shareholders qua beneficiaries above practically every other consideration. All this may have cast a long shadow over Anglo-American jurisprudence, given that many US jurisdictions may have continued to be influenced by long-standing principles of English trust and corporation law until about the 1920s. However, I would press this argument only very tentatively.
Indeed, all this might require further research. Some of these themes have been touched upon recently in several works, notably John Morley ‘The Common Law Corporation: the Power of the Trust in Anglo-American Business History’ in the Columbia Law Review, Dec. 2016 v. 116 (no. 8), at 2145-97, and in Andreas Televantos ‘Capitalism before Corporations: the Morality of Business Associations and the Roots of Commercial Equity and Law’ (2020), though neither say a huge amount about the development of fiduciary obligations per se, and I might have to continue looking. Hopefully there will be something about this in volumes IX and X of the Oxford History of the Laws of England when, and if, they are ever published, because at the moment it is still necessary to rely upon part III of volume 12 of Holdsworth (1938), whose presentation – despite his many virtues – does not really help. I also hasten to add that I hold no candle for Friedman, for whose reputation I have the same regard that a mongoose reserves for a snake.
You can’t use UK law to argue for US standards. US cases cite ONLY US case law.
The literature on the internet is often sloppy. While US directors, such as under Delaware law, do have certain fiduciary duties, that does not make them fiduciaries in all respects of their role as say public pension fund trustees are. See here for a typical analysis: https://digitalcommons.law.uga.edu/fac_artchop/1134/
Herb Kelleher, the legendary Southwest Airlines CEO, was once asked during an interview to rank the people involved with his airline. He ranked employees as first (because if your employees don’t treat the customers right – you don’t have any customers), and customers second (because customers bring in the money). When asked about shareholders he said they rank last, they buy and sell your company in minutes, and will show up if the company is successful:
Southwest Airlines Herb Kelleher believed in putting his employees ahead of himself
https://www.charlestonbusinessmagazine.com/2019/03/18/190805/southwest-airlines-herb-kelleher-believed-in-putting-his-employees-ahead-of-himself
I can remember after 9/11 when all of the airlines had to be grounded for a week, a co-worker that worked directly with all the airlines said that they (all the US carriers) were furiously trying to figure out how to turn themselves into Southwest because only Southwest was making money after the one week disruption in cash flow. It’s notable that with Herb gone, Southwest has not been doing as well.