Shareholders, Small-Town America Enemy No. 1?
Did greedy investors really destroy small-town America?
That's about the only conclusion one can draw from a Washington Post article last week recounting how Endicott, New York, where International Business Machines Corp. was founded and based for many years, was gutted as the company responded to shareholders who insisted on better investment returns.
It used to be a given that the interests of corporations and communities such as Endicott were closely aligned. But no more. Across the United States, as companies continue posting record profits, workers face high unemployment and stagnant wages.
Driving this change is a deep-seated belief that took hold in corporate America a few decades ago and has come to define today’s economy — that a company’s primary purpose is to maximize shareholder value.
The belief that shareholders come first is not codified by statute. Rather, it was introduced by a handful of free-market academics in the 1970s and then picked up by business leaders and the media until it became an oft-repeated mantra in the corporate world.
There's a curious assumption underlying this passage, as if the way things were once in the U.S. economy could stay that way. To a great extent the article reflects a nostalgia for the century after the start of the Industrial Revolution.
In that era, businesses -- even relatively large ones -- were often headed by their founders. Think of Henry Ford in Detroit, George Westinghouse in Pittsburgh, George Eastman in Rochester, New York, and yes, IBM founder Thomas Watson. The interests of these owner-entrepreneurs were indeed bound to the communities where they lived and worked. How could it have been otherwise?
But as the U.S. developed as a mass-market economy and companies expanded, their need for capital to support growth led to widely dispersed ownership. Shareholdings, once concentrated in the hands of a company's owner or small circle of its early backers, increasingly were held by investors all over the country -- or even the world.
This phenomenon was at the heart of one of the great books about modern capitalism, ``The Modern Corporation and Private Property,'' (1932) by a pair of professors, Adolf Berle and Gardiner Means, respectively of Columbia and Harvard -- hardly redoubts of right-wing and free-market thought. Their premise was that the managers of large publicly held companies tended to run the businesses to advance their own interests (usually keeping their jobs) rather than those of the owners, the shareholders. Stock owners, Berle and Means wrote, ``have surrendered the right that the corporation should be operated in their sole interest.''
It's not hard to see why. Managers, who literally are the employees of shareholders, faced no meaningful check on their power and actions. Yes, corporate directors are supposed to represent shareholders, but since boards then -- and now -- were often hand-picked by management, this worked more in theory than practice.
More important, financial results eventually proved the drawbacks of management that was held to little account by investors. Yes, many U.S. companies flourished in the 1950s and '60, when most of the world was either still recovering from World War II or less economically developed. But not so much in the 1970s, amid rising international competition, energy shocks, stagnant productivity and a series of bear stock markets.
Companies that didn't adapt either courted takeovers by more efficient managers or watched their market share get eaten by nimbler competition, both domestic and increasingly foreign. It was only a little more than 40 years ago that Detroit's carmakers commanded almost 90 percent of the U.S. market compared with less than less than half now. The Big Three automakers arguably didn't do enough to maximize shareholder value. Maybe if they had we all might have been spared the wreckage that is Detroit today.
No doubt IBM's transformation from a maker of mainframe and personal computers to a service provider was wrenching for the company, its workers and Endicott, where IBM once employed thousands and now has just a few hundred. Yet towns just like Endicott -- which is 190 miles northwest of Manhattan -- have fallen on hard times even if they didn't lose a huge corporate patron. Upstate New York is littered with such towns, which are crumbling amid a complex stew of causes that include the decline of local agriculture; industry consolidation driven by mass production; big-box retailing; urbanization; even climate, just to name a few.
There is a case to be made that maximizing shareholder value isn't necessarily pretty or painless, and real human suffering has sometimes been the result. And it sure wouldn't hurt to have smarter government policies to address this. But the truth is that the results for small-town America might have been just as traumatic -- or even worse -- if companies ignored or resisted investor pressure to improve performance.
(James Greiff is a Bloomberg View editorial board member. Follow him on Twitter.)