Shareholder Value Maximization, Shareholder Primacy and related concepts have been drawn and quartered from all corners. Academia, the business and regular media, politicians and even some in the business community have skewered these concepts, portraying them as evil incarnate and responsible for a plethora of business and societal ills. I would suggest that this is unhealthy in general but even more so in a hyper-competitive business climate (that is not going to slow down). Further, I would suggest that what much of this reveals is how poorly shareholder value maximization is really understood.
In actuality, the current public company governance model with its emphasis on compliance, process, oversight, director independence and quarterly earnings is not a shareholder value maximization model. Nor is shareholder value maximization about a focus on shareholders to the consistent or intentional detriment of what are now considered “stakeholders.” Instead, it is about the development of the full potential of a company. In more concrete terms, it is about optimizing capital allocation and maximizing company performance, and thus shareholder value, over a longer period of three to six years.
Michael Gelband’s Exodus Point launched in 2018 with $8.5 billion in assets. Expectations were high that the former Millennium Management executive would be able to take the skills he had learned at Izzy Englander’s hedge fund and replicate its performance, after a decade of running its fixed income business. The fund looks to be proving Read More
A shareholder value maximization model of governance will involve an in-depth understanding on the part of the board of the levers that can be pulled to maximize value over the period with key initiatives developed to actualize this value. In this model, there will be a short-term focus; likely more intense than the typical public company. But, the focus on the short term will be in the context of the longer-term targets of the aforementioned initiatives – you cannot get to the longer-term if you do not achieve the shorter-term steps. This model does not preclude divestitures, changes in the capital structure, special dividends, share buybacks or the sale of the company. These can all lead under the right conditions to the full potential development of a company.
Why do we need to maximize shareholder value? First, it is vital for our economic well-being now and as the future unfolds. This model will result in considerably more competitive companies on a sustainable basis. Today’s commercial environment is hyper-competitive and will continuously become more so. If our companies are not developing their full potential the United States will get its collective butt kicked by international competition. One glimpse of this was offered by venture capitalist Michael Moritz in a Financial Times piece entitled “Silicon Valley Would Be Wise to Follow China’s Lead.” In discussing the risk tech companies face from more fierce competition, Moritz states, “In recent months there have been complaints about the political sensibilities of speakers invited to speak to a corporate audience; debates over the appropriate length of paternity leave or work-life balance and grumbling about the need for a space for musical jam sessions. These seem like the signs of a society that is becoming unhinged. These topics are absent in China’s technology companies, where the pace of work is furious.” (1) He goes on to describe other ways in which the Chinese tech companies are becoming more competitive including their frugality and efficiency.
Another example of the competitive issue is in manufacturing. A March 2019 McKinsey podcast focused on “lighthouse” manufacturers, i.e. those that are “combining automation, artificial intelligence, the Internet of things and more to fundamentally change how they operate.” (2) Companies that are making this leap are jumping out ahead in performance and productivity growth; those that are not leading the way will find it extremely difficult to catch up. Concern during the podcast was voiced because the lion’s share of these plants are China, other parts of Asia and Europe with the US being a laggard.
Second, seeking to maximize shareholder value “demands” the absolute best of the people who are employed in such companies, from the board all the way into the lower levels of the organization. Far from being detrimental, for those who are willing to be totally accountable and exert maximum effort it is actually rewarding and enlivening. Just as one simple example, many years ago, I became non-executive chairman of a company where performance had declined precipitously with the company teetering on the edge of bankruptcy. This company had a culture that had historically “taken care” of all employees. As a first step a new board was formed that, after the initial struggle to reasonably stabilize the company was successful, shifted the focus toward that of maximizing shareholder value over a 5-year period. A new CEO was recruited who, with engagement from the board, led the company, per standardized industry metrics, from the worst in the industry to the best. During the course of this transformation many employees who were underperformers lost their jobs. Yet, during the fourth year, I received a letter from the VP of Sales & Marketing who had been with the company at a lower level during its downturn. Writing on behalf of the entire senior and middle management team, she thanked me and the board for bringing in the CEO who was instrumental in the turnaround. She stated that he was the toughest SOB for whom any of them had ever worked and that he demanded performance of which they did not know they were capable. But, she said, “The company is doing better than at any time since any of us have been here and we are happier than we have ever been.” Which is better? A culture that feels “safe” yet leads to complacency or a high-performance culture that engages all involved in a quest for long term objectives and that leads to “happier than we have ever been?”
Finally, we need shareholder value maximization because investors will receive a better return on the capital they invest. Said more bluntly, investors will make more money. We really need to stop the subtle and overt demonizing of the “investor class” in this country. Although possibly hanging on by a thread, we remain a capitalist country. As such we should celebrate the capitalists. And, just who are these capitalists? The wealthy would be among them for sure. But so are the middle, lower-middle and working class. Public pension funds, private pension funds and 401(k) plans own a significant share of publicly traded equities. Insurance companies that provide coverage for auto, health, home and life depend upon the returns, in part, from their investments in public companies to pay claims (and, of course to make profit) on policies for people from all levels of society. So, who are the capitalists? We all are. Why would we not want the value of our capital to be maximized?
- Michael Moritz, “Silicon Valley Would Be Wise to Follow China’s Lead, Financial Times, January 17, 2018.
- McKinsey & Company, The Future of Manufacturing Podcast, March 2019