Corporate Governance And Shareholder Value: Greed’s Not Good For Shareholders

18th Jun '10 by timarr

3 comments 3968 reads

When we look at the genuinely successful business people of our time, that happy band of folks who've created true shareholder value, enriching themselves and their followers to an astonishing degree, we find an extraordinary thing. The vast majority of these people are not particularly interested in money and their companies are generally not dedicated to some New Age declaration of shareholder value maximisation. Greed is not a quality that seems to drive the world's greatest creators of shareholder value and creating shareholder value is not the aim of the companies that are best at it. In fact we can pretty much guarantee the alternative: wherever you find over-rewarded executives presiding over companies whose main aim is to increase their market capitalisation we should pick up our skirts and get the hell out of it. Corporate greed is bad for ordinary shareholders.

Buffett's Army

If you read Warren Buffett's shareholder letters, for instance, you can't help but notice that the people whose companies he takes over all, by and large, continue to work for him despite being made rich beyond the dreams of our avarice. They tap-dance to the workplace everyday and lead their companies through a set of values far removed from the value enhancing conceits of management consultants.

What seems to set aside great business people and their businesses from the pond life that mainly occupies executive positions is that they focus on things other than making money. These generally involve doing stuff that people actually want to pay good cash for, rather than an obsession with growth. Indeed, the last thing we should want is running our companies is people who are greedy for money, since the opportunities for unscrupulous executives to cheat us shareholders are huge.

Welch on Shareholder Value

The dangers of the concept of shareholder value are outlined by Jacques Reland who quotes Jack Welch with approval:

"On the face of it Shareholder Value is the dumbest idea in the world. Shareholder Value is a result, not a strategy. Your main constituencies are your employees, your customers and your products"

Welch, of course, was the man behind the elevation of shareholder value to cult status in his time as CEO of General Electric, so this looks like something of a sea change. Appearances may be deceptive, however: Welch was a man on a mission…

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Andrew Butter

19th Jun '10

Excellent review and absolutely right.

Now and then I get involved in Private Equity deals, it never ceases to amaze me how smart-ass "bankers" (with a "w") bearing MBA's and theories who know nothing about how to create, run, or grow a business outside of quick fixes like firing people and loading up with debt (both of which increase return on equity in the short-term), manage to weasel themselves into some sweet deal where they get a percentage of some short-term construct of IRR.

In most cases it's nothing more than piracy by parasites who manage to bamboozle dumb shareholders into something they should never have allowed.

mchl

30th Jun '10

John Kay made the same point in his book Obliquity - using the example of BP, among others, which now looks prescient as well as sensible. Whether spurred by his book or not, I'm seeing this point being made more often, e.g., by a chairman at a recent AGM: "You do not make more money by trying to make more money; you make more money by doing outstanding work."

emptyend

Thought provoking stuff, as usual Timarr :-)

Welch was a man on a mission and it's doubtful if share price increases were anything like his main driver. Unfortunately where trailblazers go with intelligence and subtlety their followers tend to go with dumb adherence of a set of rules – and then usually fail the first time these are challenged.

I used to work for a company in "Neutron Jack's empire". The goose laying the golden eggs at that time (mid 90s) was called GE Capital - and it went on laying golden eggs for a further decade until the 2008 liquidity crisis:

When Paulson and Geithner were searching for ways the previous weekend to mitigate the suffering that would follow a Lehman bankruptcy, they called on bankers. They didn’t call on GE Capital, GE’s finance unit, for advice. And when the bankers mapped out solutions, they hadn’t accounted for GE Capital.

Now regulators had to deal with Immelt, a New York Fed board member. GE Capital said it had borrowed $97 billion in commercial paper as of June 2008, more than any company or bank in the world.

Immelt eventually won approval for special government guarantees on up to $126 billion of borrowing, including backing for its commercial paper. GE says the program leveled the playing field for GE Capital to compete with other financial institutions, especially banks.

The episode humbled GE Capital, dragging down GE shares to a low of $6.66 on March 5 from $26.75 on the Friday before Lehman’s bankruptcy. They have since rebounded to about half their Sept. 12, 2008, value.

So - I would argue that Jack Welch championed and benefited from a flawed business model....and wasn't the genius that some had assumed.

And what about Rick Greenbury, the Marks & Spencer legend of the 1990s? No sooner had he retired than M&S began to fall apart. Was that the fault of the new management - or was it his fault for having driven M&S down a strategic cul-de-sac with his foot pressed firmly to the floor?

And you may remember "Mr 20%" ....Clive Thompson of Rentokil....who could do no wrong at all - until the inevitable day came when his promises of 20% annual growth rates were finally revealed as a chimera.

I am very firmly of the view that these "great business leaders" were mostly the product of being "in the right place at the right time". GECapital stayed at the leading edge of the capital markets for over 20 years (and is still there, even though it and the capital markets themselves are now diminished). M&S had a long phase of growth by having a loyal customer base and very few competitors who stayed the course. Rentokil profited from a secular trend towards outsourcing of business services, but eventually that trend, too, ran its course and went ex-growth.

For investors, it is too easy to say things like:

Here's an easy tip: most companies these days have some mission statement declaring what they stand for. If this talks about excellence, about providing benefits to society and a culture that's supportive of staff then the corporation may be worth investigating further. If it speaks only of financial targets and maximising shareholder value then don't waste any more time.

......the REAL trick in equity investing is to find opportunities to get in on the ground floor with new markets. Look at Microsoft for the 25 years from 1980 to 2005 or so. Look at Google. Look at Bloomberg...which was a start-up newbie competitor to Reuters in the mid 1980s (when I happened to be one of its first customers in the UK).

Good businesses are indeed fully rounded in the way you describe - but unless they operate in growing markets and have a realistic plan for developing their business then they are doomed to failure or mediocrity. It isn't sufficient to simply say the right things about being a good corporate citizen and to cuddle one's staff - and it isn't sufficient to aspire to "excellence" either! .....If it were then all of the companies referred to in the 1982 Peters and Waterman book "In Search of Excellence" would still be in business!

Corporate Governance and Shareholder Value: Greed’s Not Good For Shareholders

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Timarr

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