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“The Dumbest Idea in the World”: Corporate America's False - and Dangerous - Ideology of Shareholder Value

Part of a critical new movement, Lynn Stout's must-read new book exposes the lie behind the destructive trend of running public companies for the sole purpose of raising the stock price.

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After  months of investigation, the  National Commission on the BP Deepwater Horizon Oil Spill and Offshore Drilling concluded the Macondo blowout could be traced  to multiple decisions by BP employees and contractors to ignore standard safety procedures in the attempt to cut costs. (At the time  of the  blowout,  the Macondo project was more than a month behind schedule and almost $60  million over budget, with each day of delay costing an estimated $1 million.)2  Nor was this the first time  BP had sacrificed  safety to save time  and money. The Commission concluded, “BP’s safety lapses  have been chronic.”3

The Ideology of Shareholder Value

Why would a sophisticated international corporation make such an enormous and costly mistake? In trying to save $1 million a day by skimping on safety procedures at the Macondo well, BP cost its shareholders alone a hundred thousand times more, nearly $100   billion.  Even if following proper safety procedures had delayed the development of the Macondo well for a full year, BP would have done much better. The gamble was foolish, even from BP’s perspective.

This  book  argues  that the Deepwater Horizon disaster is only one example of a larger problem that  afflicts many public corporations today. That problem might  be called shareholder value thinking. According to the doctrine of shareholder value, public corporations “belong” to their shareholders, and they exist for one purpose only, to maximize  shareholders’ wealth.  Shareholder wealth, in turn, is typically measured by share  price—meaning share price today, not share  price next year or next decade.

Shareholder value  thinking is  endemic in the business world today.  Fifty years ago, if you had asked the directors or CEO of a large public  company what the  company’s purpose was, you might have been told the corporation had many purposes: to provide  equity investors with solid returns, but also to build great products, to provide decent  livelihoods  for employees, and to contribute to the community and the nation. Today, you are likely to be told the company has but one purpose, to maximize its shareholders’ wealth.  This  sort of thinking drives directors and executives to run public  firms like BP with  a relentless focus on raising stock price.  In the quest  to “unlock shareholder value” they sell key assets,  fire loyal employees, and ruthlessly squeeze the workforce  that remains; cut back on product support, customer assistance, and research and development; delay replacing outworn, out- moded,  and unsafe equipment; shower CEOs with stock options and expensive pay packages  to “incentivize” them; drain cash reserves to pay large dividends and repurchase company shares,  leveraging  firms until they teeter  on the brink  of insolvency;  and lobby regulators and Congress to change  the law so they can chase short-term profits speculating in credit default  swaps and other high-risk financial  derivatives. They do these  things even though many individual directors and executives  feel uneasy about such strategies, intuiting that  a single-minded focus on share  price may not  serve the interests of society, the company, or shareholders themselves.

This book examines and challenges the doctrine of shareholder value.  It argues that shareholder value ideology is just that—an ideology, not a legal requirement or a practical necessity  of modern business life. United States  corporate law does not, and never has, required directors of public corporations to maximize either share  price or shareholder wealth.  To the contrary, as long as boards do not use their power to enrich themselves, the law gives them a wide range of discretion to run  public  corporations with other goals in mind, including growing  the firm, creating quality  products, protecting employees,  and serving the public interest. Chasing  shareholder value is a managerial choice, not a legal requirement.