Originally published on the Harvard Law School Forum on Corporate Governance and Financial Regulation:
A new statement from the Business Roundtable commits to stakeholder interests instead of making the primary purpose of the company shareholder value. Long-term shareholders are increasingly committed to explicitly ESG investing, which values stakeholder interests as a way to minimize investment risk. But I am skeptical about what the CEO signatories to this statement have in mind for six reasons.
1. We’ve seen this before. The last time the BRT deployed stakeholder rhetoric it was during the 1980’s era of hostile takeovers, when a feint to the interests of anyone other than shareholders was the best way to entrench management. The CEOs who signed this statement know that accountability to everyone is accountability to no one. It’s like a shell game where the pea of any kind of obligation is always under the shell you didn’t pick. It’s shoot an arrow at the wall and then draw a bull’s-eye around it goal-setting.
2. It does not really mean anything. As the law and basic economics already make clear, stakeholder interests are already included within the obligation to shareholders; sustainable shareholder value requires commitment to employees, customers, suppliers, and the community. There is also a serious credibility problem here. Barry Ritholtz notes dryly, “Scan the list of 181 signatories to the recent memo and it’s a Who’s Who of corporate behavior that has burdened and disadvantaged the very stakeholders they will now champion.” His exhaustive lists include many specific examples of opposition to unions, health, environmental, consumer protection and safety rules, and efforts to reduce shareholder oversight. Jordan Weissmann makes a similar point on Slate, pointing out that Senator and Presidential candidate Elizabeth Warren has proposed stakeholder legislation, and if the signatories to this statement want to be believed, they should support it.
3. It is not consistent with the principles of capitalism. Capitalism is not named after the managers; it is named after the providers of capital, the shareholders. Its foundation is the strict and scrupulous fiduciary obligation (“the punctilio of an honor the most sensitive,” as Justice Benjamin Cardozo said in Meinhard v. Salmon), that gives credibility to capitalism by addressing the agency cost risk of entrusting money to others. Why should investors entrust their money to people who want to turn the fiduciary duty of strict loyalty into some version of “just trust me?” The Council of Institutional Investors has responded to the new statement by noting pointedly that they and their members have discussed the importance of stakeholders with corporate CEOs many times in the past. They said, “The BRT statement suggests corporate obligations to a variety of stakeholders, placing shareholders last, and referencing shareholders simply as providers of capital rather than as owners…[CII] believes boards and managers need to sustain a focus on long-term shareholder value. To achieve long-term shareholder value, it is critical to respect stakeholders, but also to have clear accountability to company owners.”
4. We are waiting to see CEOs put their money where their mouths are. Everything will depend on how specifically and quantifiably each CEO describes his or her stakeholder goals and especially how their compensation is tied to those goals. If pay continues to be exclusively or primarily based on stock price, this statement is just an attempt at distraction. Indeed, its greatest significance may be as an indicator that CEOs do not think stock-based metrics will support current levels of compensation in a likely recession and they want to tie it to something less quantifiable. Furthermore, following a record-setting amount of stock buybacks last year, the options for short-term manipulation through timing of repurchases are narrowing, CEOs have to find other ways to justify their astronomical—and non-performance-related—pay packages.
5. There is a bait and switch element. When companies go public, they almost always promise in their offering documents to deliver shareholder returns. Their presentations to security analysts have chart after chart showing all of the prospects for creating shareholder value. Companies with other priorities can make that clear and allow the market to decide whether to discount the stock price to reflect investment risk. They can incorporate as Public Benefit Corporations, which let investors know from the beginning that their primary purpose is not shareholder returns and let shareholders value their investment potential accordingly.
6. Corporations are not designed for making public policy. The key issue in any discussion of stakeholders is what happens when there is a trade-off between stakeholder and shareholder interests. Allocating more capital to R&D, becoming carbon-neutral, developing more environmentally friendly products, better pay and training for employees, or a brand-enhancing charitable contribution, can all be justified in terms of long-term, sustainable creation of value for shareholders. We need to know whether the signatories to this statement are talking about something different: trading off shareholder value in support of some kind of policy goals. Given the amply corporate funded attacks on shareholder proposals and the independent research and analysis of proxy advisory firms at the SEC over the past 18 months, all making completely unsupported claims that “political” initiatives on proxies are contrary to shareholder value, it is fair to assume that this is what corporate managers have in mind. But corporations thrive when they are accountable through robust market forces. As The Economist puts it in their cover story responding to the BRT statement, “Competition, not corporatism, is the answer to capitalism’s problems.” Trade-offs on social/political issues, including allocating capital to determine environmental/health/safety/consumer protection standards, can only be made by those accountable through a very different kind of market test—the political process. Who do we want to trust to set auto safety and emission standards, the auto industry or legislators and regulators? Here’s a hint: do we let students grade their own papers? These decisions must be made by those with the most robust accountability, and that means the fewest conflicts of interest and the least likely to externalize costs or divert assets to higher pay levels for managers.
Shareholders will be doing what the market and, in the case of intermediaries like pension funds and mutual funds, their own fiduciary obligation requires in response to this statement. We will look for specifics and incentive compensation tied to quantifiable, transparent goals. We will look for corporate support for legislative and shareholder initiatives on climate change and better pay and working conditions for the human capital companies always claim—at least once a year in their annual reports—are their most important asset. And then, as market forces and fiduciary duty require, we will adjust our own capital allocations accordingly, because that’s what keeps companies and markets—and economies—strong.