Corporate Irresponsibility: America's Newest Export

Co pyrigh t © 200 1 by Yale U n iversity. All rights reserved. This book lIIay not be reproduced , in wh ole or in part, includin g illustrations, in any form (b eyond th at copying permitted hy Sections 107 and 108 of th e U.S. Co pyrigh t Law and exce p t by reviewers fo r th e public press) , with out written permission from th e pu blish e rs. Set in New Baskerville type by Keystone Types etting, In c. Printed in th e Un ited States of Am eri ca by R. R. Donn elley & So ns. Lib rar y of Co ngress Ca talogi ng-i n-Publicatio n Data Mitchell, Lawren ce E. Co rpora te irresponsibility: Am eri ca's newest expo r t / Lawrence E. Mitch ell .

p. cm. Includes bibliogra ph ica l referenc es an d index. ISB N I .

0-300-09023-4 (acid- free)

Social respon sibility of bu sin ess- Un ited Sta tes. 2. Corporatio ns -

Corrupt practices - Uni te d States. 3. Corpora tions - Moral an d eth ical aspects - Un ite d States. I. Titl e. lID60. 5.u 5 M585 200 1 658-4'0 8 '0 97 3 -dC21

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A ca talog ue record for this book is available fro m th e Briti sh Librar y. The pap er in thi s book meets th e guidel ines fo r perm an ence and du rability of th e Co m mittee on Production Guidel ines for Book Longevity of th e Co un cil on Librar y Resources. 10

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CONTENTS

Introduction

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PART I . GROUNDWORK: THE PHILOSO PHY OF THE AM ERICAN CORPORATION

American Liberalism and the Fundamental FlawThe Foundation of th e Corp orate Problem 19 2 . The Perfect Externalizing Machin e 49 3. Corporate Psychology 1 0 1 , or All the Corporate World 's a Stage : Th e Constrain ts of Role Integrity 66 4. Is Wealth a Value ? 84 1.

PART II. STRUCTURAL TRAPS IN TH E NAME OF TH E LAW

5. 6. 7. 8. 9.

Corporate Managers: Dr.Jekyll or Mr. Hyde? 97 Traditional Sto ckholders: Th e Night of th e Living Dead 135 The New Sto ckholder: Kin g Kon g with a Quotron 165 Abandoning th e Stockholders 185 Th e Dilb ert Societ y? Am eri ca's Corp ora te Work ers 208 PART III . AMERICANS ABROAD

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Ca pitalism, Socialism , an d Democr acy 253 America Right and Wro ng: Growing U.S. Econ om ic Im perialism 262 Con clusion 27 6 Notes 279 In d ex 299

ACKNOWLEDGMENTS

A book of this typ e can n eve r su cce ed with out th e h elp of oth ers. A number offriends an d colleagues h ave h elped m e alo ng th e way. I pa r ticularly wan t to th an k Bill Bratton , T h eresa Gabaldo n , Ke n t Green fie ld, Andre w Mitch ell , Marl een O 'Con no r, H ar old Poro soff, Lauren Porosoff Mitch ell , Pe ter Raven-Hansen, an d Tam ar Fr ankel for th eir insightful com men ts, an d J oe Sin ger fo r h is ea rly e nc o urage me n t. At Yale U niversity Press, H enning Gut man n saw the p otential in my p ro p osal, an d Lar a H eim e rt h elpfull y saw it thro ugh to com p le tio n , whil e Lawren ce Kenn ey d id an artfuljob of ed iting my so me times prolix p ro se . Lesliedian a J ones of the J acob Burns Law Lib rary at T h e George Wash in gt on Un iversity Law Sch ool was of immeasurabl e h elp in id entifyin g an d asse mbling so urces. LaTonya Brook s-jam es h elped m e with th e m anuscrip t an d en d less co m p ut er h ead ach es and was always th e re to p rovid e enco urage me n t. Mariya Talib ,Jennifer Hu,J osh Levy, an d Elizabe th Leise provid ed resear ch h el p . I wo uld also like to th an k th e Alfr ed P. Sloan Found atio n an d the Ford Foundatio n (a nd esp ecially Ga il Pesyna and Lan ce Lin dblom , resp ectively, of those organ izatio ns), whose fu n ding of rel ated proj ects reinforced my ab ilit y to com p le te an d refin e th is one.

INTRODUCTION

T he modern American business corporation h as be en a subject of won de r and horror for mu ch of th e p ast ce ntu ry. Wonder for the lim ited liability an d liquid shares that h ave given en t re p re n eurs and professional managers the power to concentrate and use capital for in novative and risky proj ects tha t create tec h nolog ica l miracles an d h uman comforts. Wonder for th e co r po ra tio n 's sp ecialized structu re, which encourages milli ons of people to invest the ir m oney and go abo ut th eir dai lylives, leavin g to skilled managers and workers th e res ponsibility for the businesses they h ave financed. Wonder for the fab u lous wealth that th is pro tected ca p ita l h as produ ced , freeing so many people to pursue oth er dreams and lead lives of greate r meaning than m erely making a livin g. Won der, because in these ways modern America n b usiness corporations h ave cr eated material wellbeing that allows so many people to live th e eigh tee n th-cen tury liberal id eal on which Ame rica was fou nded, an ideal of in dividual fr eedom, au ton omy, an d ch oice . But the business corporation has also been a subject of ho r ro r. H orror fo r the way its limi ted liability p ermits it to dump th e costs of production onto those who ar e pow erl ess to affect th e co rp o ration's conduct: victims of environme n tal p oll ution , consume rs of dan gerous and p oorly mad e p roducts, an d workers whose wag es hav e stagnated and, in real terms, dropped. Horror as co ntinuing massive layoffs treat wor kers at all levels as littl e m ore than disposab le ch atte l, d estroying th eir economic futures an d personal satisfaction sim p ly to in cr ease stock price by a few points. H o rro r as pl an t closin gs devastate enti re co m m unities that h ave grown up

around th em. Horror as co rp o rate political pressure distorts d emocratic processes, as corporate welfare in the form of tax breaks and subsidies deforms th e course of th e eco no my. Horror as th e fabulous wealth produced by business co rp o ratio n s ever more exaggerates th e difference between the haves and the have nots, not only in Am eri ca but in th e world beyond our shores. And all of this is justified by one very simple goal: to get sto ck prices to rise ever higher.' Am eri can corpora tio n s an d Am eri can ca p ita l have extra o rd inary power. The New York Times recently identified twenty-two Am erican corporations whi ch had market cap italization s" gr eater th an th e gro ss domesti c products of twenty-two individual co u ntries, including Spain, Kuwait, Argentina, Poland, and Thailand." Public p erception an d reported facts tell us th at Am eri can ca p ita l is overwhelming traditional and culturally diverse ways of th in king about, organizing, and conducting business throughout th e world." Surprising as it mi ght be to Am eri cans, not every cu ltu re - not even every Western culture - puts the acquisition of wealth at the top of its list of valu es. It m ay even be true, as analyses from Max Web er's study of Protestantism to more re cent research suggest, that cul tural differences can account for disparities in a socie ty's wealth , th at th ere are cu ltures whos e tr aditi on s of family, co mmunity, and hierarchy deter th eir people from making individual wealth th eir priority- an d th at th ey're happy with this ordering of valu es. Before we export our own m ethods and ou r own valu es, we need to consider whether it is our right to do so , for through th e power of our cor pora te form an d ca p ita l markets we are in fact doing so. And we are doing so for the glo rio us goal of making American stockholders richer. Tri ckle-down answers don't work. Am eri can dominan ce do esn 't benefit these nations; in fact , our in creased wealth is often at their ex pe nse . A study by the U n ite d Nations Development Program in 1999 reports th at Am eri can ec on o m ic and cultu ra l world dominance has accelerated the widening wealth divide be tween ri ch and "The mark et capitalizatio n o f a given co rpo ra tion is its stoc k pri ce tim es th e number of its o u tstand ing shares . 2

INTR ODUCTION

poor nati ons." I will h elp ex p lain at least p art of th e reason for American hegemony, the reasons it is causing th is problem, and the reasons why, if we co ntin ue on our curre n t cou rse , we ar e likely to self-destruc t - but not before we ca u se a lot more pain . And I will explain why the pain is felt at home as well as abroad, for the same fact ors th at allow America n co rpora tio ns to domin at e th e glo be hav e h elped to mak e Am eri ca itself, at least in econ o m ic terms, th e most unequal country in th e world." The argume n t is fairly st ra igh tfo r war d; th e ex p lanatio ns are far more complex. Simply put, I will ar gue th at th e main problem with Am eri can co rp orations - th e m ain ca use of th eir irresp onsibilityis th ei r d rive to maximi ze short-term stoc k p ri ces, a res ult th at n o thoughtful person really wants. The roo t of th e problem is the co r po ra te str uc tu re itself: th e co rpora tio n's legal str uc tu re enco urages managers to aim for ex actly this short-ter m re sult, and it doe s so by constraining th eir freedom to act responsibly and morally: th e result is immoral beh avior. Suc h beh avior is in nobody's best interest and has especially pernicious effects on groups outside the tr ad itional legal co r po ra te structure, th at is, everyo ne but th e stoc kholders an d managers. Co m p o u n d ing th e problems cause d by th e sh ort-termism built into the corporate structure is the fac t that for almost all legal purposes we treat th e corpora tio n as if it were a natural person, gran ting it th e freedoms of a natural person to in cr ease stock price h owever it likes, but without th e moral an d soc ial co nsc ie nce th at lead s real p eople to care ab out h ow th ey d o business. A long-term focus, whi ch includes not only in vestin g for th e fu ture but caring th at profits are mad e resp onsibly an d morally, is good not o n ly for soc ie ty, but also for busin ess. The way to achieve this result is, paradoxically, to free managers from th e structural pressu res of stoc kholde rs an d ca p ita l markets, to loo sen th e legal and cultu ral constrain ts upon them so that they can act as we expect th em to - as natural human beings wh o work to in cr ea se co rp o rate pro fit th e way people with human m oral an d soc ial values act - not in the ar tificial and dangerous way we have co nstr uc ted them to act. The best way to ach ieve this res ult is throu gh changes in cu ltural and business norms. I will make th e argumen t for the n ecessary changes but will also suggest a number of other more in trusive INTR ODUCTI ON

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p ossib ilities within our ex isting legal fram ework th at co uld be used if persuasion fai ls to work. These range from creating self-perpetuatin g boards to ch anging finan cial reportin g practi ces to cre at ing tax in centives through capital ga ins reform.

THE NEED FOR REFLECTIONTHE PURPOSE OF THIS BOOK

Th e ex traord inary co n te m p orary success of th e Am eri can co rporation, th e cor p orat io n that appears to bring great prosperity at home an d h as co me to d ominat e econom ies abroad, is ba sed on a false premise. That p re mise is that it is th e purpose of th e co rporation to maximize shareholder valu e or, in more common parlance, stoc k price . This is n ot a legal requirement. It is n ot even a n orm that has gove r ne d corpor ate practi ce for m ost of our history. It is, however, the watchword by which we live today. And it is an e thic th at will d estroy us in th e long term. The observation that the e thi c ofsto ck price maximization is both n ew an d destructive isn 't novel. My ex planatio n for it is. Th e ex p lan ation lies in th e st r uc ture an d legal rules with whi ch we have cr eat ed th e corporation , an d the markets in which it operat es. I will show why, under curren t law, we sho uld ex pect th e corpo ra tio n an d its managers to care only about sto ck price maximization . And I will show th at eve n in its pursuit of this goa l we sho uld not ex pect th e Am e rican co rporation to behave res ponsib ly. Indeed we h ave every reason to expect it to behave irresponsibly. You need not be lieve in a b ro ad notion of resp onsibility to acce pt my arg u me n t; you on ly n eed b eli eve th at co rporatio ns, like othe r people, sho u ld b e accoun table for th eir actions. We have d esigned corp o ratio ns so that they ar e un accountabl e for th eir ac tio ns, irresp onsibl e in th eir beh avior.

MAXIMIZE S TOCKHOLDER PROFI T

Maximize sto ckholder profit. This is the wat chw ord of our corp ora te faith. It is a di ctate that arises fro m th e legal st ruc ture of th e Am eri can corporat ion an d the rules of co rp o rate law. Bu t it is an imperative th at is as d estructive as it is sim p le. It is a m essa ge th at 4

INTR ODUC TI ON

keeps managers' and sto ckhold ers' focus on th e short term." And short-term management is ir responsible management: it leads to layoffs, p lant closings, alienated workers, unsafe products, and a polluted e nviro n me n t, all in th e n am e of today's profit; it leads to u nderinvestment in worker training and research and deve lopm ent; it h as dan gerously in cr eased sto ck ma rk et volatilit y an d turned our cap ital markets into unstable casin os of unimaginable proportions which threate n the lo ng-ter m economic well-being of our so ciet y. As players in th ese casinos, sh or t-te r m sto ckhold ers h ave abandoned the idea of individual corporations in favor of an invisibl e and faceless m arket."We no lo nger invest in cor po ratio n s, but in analysts' proj ecti ons offuture stoc k p rices. And we sh ift th ose investme nts the moment th e reality doesn 't appear to meet projections or as so on as proj ections change, just as bettors at th e racetrack adj u st their bets as the odds at the trac k are con tin ually shifted until post time. This stat e of affairs is not th e fau lt of co rp o ra te man agers, at least not of managers alone. Whi le equity markets have always had a quality of ga m bling abo u t th em , th e d egr ee to whi ch lo ng-te r m investing h as given way to pure specu lation h as r ea ch ed alarming proportions n o t see n since the 19 20S. O n average , stockholdi ng pe riods h ave go ne fro m two yea rs in 1990 to eigh t months in 1999 , and the period in NASDAQ stocks is five months. Even mutual fund holding periods hav e go ne from eleven yea rs in 1990 to four years o r less." It m ay be th at m arkets hav e go tte n mo re efficien t so th at stock prices re flect fair value more quickly tha n they used to . If th is is true, th en wh at ap pears sim p ly to be speculatio n refl ect ed in th e eigh tfold in cr ease of th e NASDAQ turnover rate rea lly is investin g. Bu t th e increased instability of stock prices makes this exp lanatio n

"Th e largest and, in go ver na nce terms, th e mos t ac tive, public pe ns ion fund in th e Unite d Stat es, the Califo rn ia Public Em ployees Retirement System, d iscovered thi s truth afte r e mba rking o n a study of co r po rate gove rnance . A~ se t forth in th eir U .S. Corporate Governance Princip les: " Compan y man agers want to ado pt lo ng-ter m stra teg ies and visio ns , but ofte n do not feci th at th eir shareowners are pati ent e no ugh ." http:/ /www.calp ersgo vernance.org/ princip les/ d omestic / us/ pageo 2.asp. IN TR ODUCTI ON

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seem in cr edibl e, as do es th e fact that investors who trade more heavily tend to show lower-than-average profits." The long-te r m consequence of this coll ective pursuit of shortterm sto ck pri ce maximization is to risk Am eri ca 's prosperity an d that of the rest of the world as well by making corporate directors an d managers more than ever slaves to th e sto ck market instead of professionals in search of better products and better ways of serving th eir constituencies. Followed to its logical conclusion, it may well lead to th e ruin of our eco n omy. Maximize sto ckholder profit is a message that is believed to embody the purpose ofAmerican corporations. But it is as in compatible historically, socially, ec o no m ically, and politically with a sustainabl e an d responsibl e ec o n o my as we once claimed socialism and communism to be . Looked at in th e long run , it is even in consistent with th e goal of m aximizin g sto ckholder profit itself." My th esis is, on one leve l, unremarkable : responsible corporate m an agement and sustained prosperity require long-term m an agement and long-term investment. We must allow corporate manage rs to turn th eir atte n tio n to running busin esses rath er th an m anipulating sto ck pri ces. What is remarkable is to note how th e legal an d fin ancial structures of the tradi tional American corporation create sign ifican t disadv antages for long-term management and strong competitive advantages for short-term management. These structures converge on th e com man d to maximize sto ckholder profit. Ifwe expect resp onsible co rp o ra te behavior and susta inab le prosperity, we must re think th ese legal and financial structures and th eir em p hasis on sto ckholder profit. In order to do th at , we must understand how deeply they are em b ed d ed in American law and American economic policy. Maximize sto ckholder profit. To m ake this our co rp orate goa l ignores the undeniable fact that the modern corporation is a social an d political institution as well as an ec o no m ic institution - an institution in whi ch peopl e go to work not only to mak e a living but to help find meaning and friendship in the process ; an institution that by th e products it produces, th e services it offers , an d th e m ethods by whi ch it markets them has an enormous effe ct on the way we think abo u t our lives and the go als we pursue ; an institution th a t (j INTRODUCTION

involves itself in th e m echanisms of govern men t to h elp d et ermine th e ways our laws are m ad e and th e way our wea lt h is dis tributed. To make this our corporate goal igno res th e power and th e corresponding responsibilit y of th e co rp ora tion. It 's also bad for business. As research increasingly shows, h ealthy busin ess and a h e althy ec on o my d epend up o n a rich un de rstan ding of the corporation's ro le in modern so ciety and its responsib ilities as well as its righ ts. A truly sus tai nable prosperity depends upon a lo n g-ter m view because a co nsta n t short-run fo cus skimps o n researc h and development in favo r of adve rtising and marketin g, worker train ing, in telli ge n t use of reso urces, and im p o r tan t conside ratio ns of so cia l h ealt h . As Fortune magazin e 's list of th e 10 0 Bes t Places to Work shows, co m panies that realize th e importance of th e lo ng term p erform better than those th at don't. '? In th e meantime, corporate managers p lunge thoughtlessly ahead, leaving a trail and creating a fu ture of economic and social dis location. Maximize sto ckhold er profit. It 's a se lf-d efeating maxim . But that h asn 't sto pped us from exporti ng it ab road. American id eas about busin ess and American styles of management ap pe ar to b e taking over the world. I I American (now global) co nsu ltin g, accoun ting, law, and financial fir ms are selling their stockholdervalu e se r vice s to com pan ies in th e Europe an so cial d emocracies, including countries like Germany, where the co ncept is so foreign that th e lan guage h as no word for "stockh olde r value', in emer ging capita list m arkets, an d throughout Asia and th e rest of th e d eve lope d worl d. American business and legal consultants h ave written en tire co rp o rate code s for e merg ing ca pita list ec on o m ies with littl e app reciation of the distin ct legal , cultural, and so cia l environments in which they operate - sometim es, as in the case of Ru ssia , with dis astrous results .' ? Am eri can co rp o ra tio ns are m erging with or otherwise joining forces wit h businesses throughout the globe . And th ey are doing so on th e basis of a single m essage : maximize stockhold er profit. European an d Japanese m an agers appear to be b uying this m essag e, largely be cause of pressure from American capita l. Institutional investo rs in Germany and Japan, most of whom are American.!" want these and ot her n ation s to abandon their systems of IN TRODUC TION

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corp orate gover nance. '! T h ese in vesto rs believe that "c om p an ies everywhere sho uld foll ow the Br itish-Am erican model of pl acin g share hold er value above th e in terests of ot h er 'stake h olde rs' like e m ployee s and suppliers, or co nside ra tions like th e h ealth of th e e nviron me nt. " If European an d J apanese co rporatio ns aban do n th eir systems of corp ora te governance an d ad op t th e Am erican system, the y too will be caug h t up in the whi rlwind of short-te rm m an agement an d fo r th e same re aso ns we are. T hey will also be come en meshed in a particularly Am erican view of law and responsibility, a view whic h I argue is one th at eve n Ame ricans fin d unsat isfying. It is a co ns eq u enc e th ey will ultimately regr et. Desp ite its relative n ovelt y as an op erating eth ic and its grip on co nte m pora ry Am eri can cu ltu re , the id ea that th e co rporatio n exists solely o r even primari ly to maximiz e its sto ck pri ce does arise from some fundam ental tr uths about Am erican socia l though t and p oli cy. As I shall ex p lain, it is p art an d p ar cel of the extre me an d distorted versio n of En lightenment lib eralism th at curre n tly domin ates o ur culture, the rad ical in d ividualism and rampant selfish ness th at h ave been ga in ing steam sin ce at least th e lat e 1970s, an in d ividualism and selfishness that ca n b e seen everywhere from th e elimi natio n of affir mative actio n in Texas an d Ca lifor nia sta te unive rsities to welfar e " reform " in th e 1990 S to atte m pts to elim inate the estate tax an d institute othe r tax cuts to benefit th e wea lthy. It ca n be see n in th e gra bbing behavio r of society's win n ers , who want even m ore for th emselves in a U. S. socie ty describ ed by th e ec o nomi st Rob ert Fran k as "win n er take all." It is p ar t of th e same phenomenon th at prod u ced th e you ng investm ent ban ke r we 'll m eet in ch ap ter 9, who d emanded that his firm provide free m eals, free cloth es, an d a nurse 's roo m for restin g- an d go t th em. It is p ar t of th e sam e p h e nomenon th at h as create d th e CEO we 'll m eet in th e same chapter, whose co ncer n for the value of hi s sto ck optio ns no t only lead s him to check hi s com p any 's sto ck pri ce ten tim es d aily but also to post it three tim es a day in th e lobby of co rp o ra te h eadquar ters. It is p art of the same phen omen on that h as led average CEO salaries to boom to 47 5 times th at of th e average worker, with avera ge ra ises well in to double digits, wh ile work ers' wages, for the lucky few, bare ly keep p ace with infl ation. It is p art of the same 8

IN T RO DUC TION

ph enomenon that has left most Am eri can workers with stagnant or declining wages so that executives can keep stock prices up by exportingjobs abroad. It is part of th e same ph enomenon that h as led even th e labor union pension funds we ' ll see in chap te r 7 to d emand that corporations prod uce higher stock prices in the short term even at th e cost ofj eopardizing th eir m embers' jobs. It is part of the drive ofAmerican investment bankers and institutional investors we' ll also see in chapter 7, ever o n the loo kou t for greener pastures, to d em and so-called reforms in oth er cou n t ries th at th r eaten traditional cultures of co m munity and stability, cu ltures of hi gh em p loyme n t and d eep social welfare - all to provide even more inv estm ent vehicl es with whi ch to in cr ease th eir already substa ntial wealth . It is from this eth ic of sto ck price m aximization specifica lly an d ex cessive individualism ge n er ally that many of our major corp orate proble ms derive. I d o n ot mean to claim that stockholder wea lth maximization is th e only ca use of our co rpo ra te problems. But I argue that this singular focus explai ns a great deal and fits n eatly with oth er aspects of Am erican so ciet y th at com bine to suggest th at this narrow corporate purpose may be the taproot of the problem. My purpose in th is book is to explai n why th is is so and to offer so me ways of re th in king th e co rpora tio n so th at we can ret ain its o bvio us be nefits and at the same time ameliorate its problems. I want to be very clear, before beg innin g, that wh ile I do n't find greed especially attra ctive, thi s book is not an exte n de d attack on greed. Neither is it an attack on capitalism as a broadly co nceived ec o nom ic system or on th e sim p le fact of globa lization, whi ch itself attra cts much fire, as the viole nt World Trade Organization d emonstrations in Seattle in 1999 and the recent spate of books on the subject sh ow. The book is, instead , a warning. It is a warning that if we don't restrain ours elves, if we don't restrain our driv e to accumulate even more wealth, if we don't rethink th e way we do corporate business, we may find that in the long run we h ave m uch less pro sperity than we do now, an d, in th e process oflosing for ourselves, we will harm m uch of th e world as well. It comes from a lesson we are all tau gh t as childre n and all teach our children, m uc h as I tell my fourteen-year-o ld IN TRODUC TI ON

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son to practi ce th e violin, from whi ch th e short-term rewards are negligible, before he plays video games, much as I tell him to layoff th e d elight of McDonald's in favor of th e asceti cism of fruit. It's a simple lesson abo u t d eferring gratification , about for egoing shortterm pleasures for long-term benefits. Bu t although it's a lesson we all know, we ea sily forget it. And we most ea sily forget it wh en we are acting alone but together, in the faceless, soulless, thoughtless markets of American corporate capitalist society. It 's a lesson that we rem ember only wh en we stop to ask a simple but elusive qu estion, the question that the reluctant revolutionary played by Woody Allen in th e movi e Antz dared to ask about a similar situation in whi ch everyone acte d alone but together: alone in th e sen se of acting without collective reflection , together in th e sense th at only in unreflective concert cou ld th ey acc om p lish th eir own self-de str uc tio n . The purpose of this book is to ask th at question - Wh y? - and to explore some of the answers. I'll do more than analyze th e probl em. After all, it 's easie r just to cri ticize , and I don't wan t to stand accused of taking the easy way out. I will also m ake several co nc re te poli cy recommendations whi ch flow dire ctly from the problems I id entify. While I hav e described the central problems as structural, many of my suggestions will not address co rporate str uc ture at all. There is much th at works well in the American corporation, and much of it lies in the ver y sam e structure th at ca uses us problems. Most of my sugg est ed refo rms, th e refore, are aimed at allowing us to ret ain wh at is, unarguably, an efficient structure , but to correct for the distortions th at str uc tu re produces. Some of these suggestions will look familiar: they hav e be en floating around in th e miasma of academic literature or are variations on proposals by politi cians like Sen ator Ted Kennedy, form er labor secretary Robert Reich, and public intellectuals like the Nob el laureate James Tobin. Some ar e en tire ly original. Some are unlikely to be adopted an ytim e soon, but I n everthel ess suggest th em because of the way they refocus our thinking, starting with the long term rather th an th e short term. O th ers are practi cal suggestions, and I will spend more time dis cussing these . Taken to gether, they represent a logical and coherent response to the problems I iden10 INTRODUCTION

tify -they provid e managerial fr eedom to manage without th e need to be obsessed with stock price. They give stockholders incentives to invest for th e lo ng term. They give us tim e and space to think about what individual co rp oration s ar e doing and d ecid e whether we are h ap py with their actio ns . T hey give corporations in centives to care about th e rest of us. Ultim ate ly, th ey h elp to resolve the co lle ctive action problem faced by an y single sto ckh old er or man ager whose desire is to ac hieve lo ng-term investment goals by tyin g us all to th e mast of th e lo ng te r m to prevent us from being destroyed on the rocky shoals toward which th e sirens' song of th e short term is leadi n g us. T h ey will not so lve all of o ur problems. But th ey will, I hope, h elp to reori ent th e way we think about the goals of our corporations and corporate law an d lead us in th e right direction.

CLEARING THE GROUNDSOME STARTING ASSUMPTIONS

Before I b egin my argu me n t, let m e mak e several important points on wh ich I want to be clearly understood for, despite my protest to the co ntrary, it may be easy for the reader to see this book as an othe r in th e seri es of recent attac ks on gree d an d glo balism. To see it th at way is to miss the point. First, my argument h as noth ing d irec tly to do wit h th e virtues or vices of capitalism , although I will h ave occasion to discuss th e n ature of capitalism itse lf, th e m u ltipli city of for ms it takes, and its relation to th e corp ora te form an d to d emocracy ge ne rally. For th e most part, I view cap italism as a good thing, although I think its mo dern Ame rica n for m is a perversion, much as Aristotle saw de mocracy as a p erversion of a polity, or govern me n t by th e many. Second, although I will be very critical of the modern corpora te eth ic of stock price maximization, I want to be clear about two things: first, profi: is esse n tial to co rp orate survival, and I begin with the assu m ption that co ntinued co rporate profitability is im portant for an y number of reasons; profit maximization, however, even in th e accoun tin g sense of maximizin g earnings per share, may not be an ideal ta rget. In fact, one point of this book is to argue that even if we IN TRODUC TION

11

want corporations to maxim ize profits, aiming directly at that goal is a less effective way to accom p lish it than foc using on othe r thi ngs, like the p roduction of goods an d services. " In a Tao-like way, n amin g profit maximization as th e goal will, in th e lo n g term, d efeat it. Cor;fJorate pro fit m aximi zation m ay, de pen di ng u pon th e way p ro fits are sliced up and distrib uted, be a good thing. I am foc using on what h as come to be accepted, in scholarly and popular circles alike, as the purpose of the corporatio n : stock price maximization. Maximizing corporate profits may in crease rea l wea lth . It may m ak e a bigger pie for everybody, leaving only th e serious qu estion of h ow to di stribute it. Maximizin g stock p rice may be on ly th e illusion of crea tin g real wealth .!" Nevertheless, as far as terminology goes, I will use th e p hrase "stockholde r p ro fit m aximization" in terch ange ably with "stoc k price maximization" beca use it is th e phrase used throughout th e literature. Simple financial theory, which I will disc uss later, m akes it clear that pro fit maximization in the accou ntin g sense an d sto ck price maximization ar e not n ecessari ly th e sam e th ing and in fact m ay rarely co rrespo nd except in the very long term. It is th e latt er wh ich is my focus. T hird, whi le I will h ave something to say about globalizat ion of the worl d 's ca pi ta l mar kets and, in p articul ar, th e do m inance both of Am eri can cap ita l marke ts and th e in cr easing infl uen ce of th e Ame rican co rporate fo r m in the world, this book is not anothe r attack on globalism. In fact, altho ug h the limi ts of globalizat io n are not yet known, it do es seem rather obvious that some forms of globalizatio n are h ere to stay, in prod u ct m arke ts (faci litated by th e m edia an d by elec tro n ic co m me rce ) as well as la bo r and ca pital markets. I am no t arguing that we should turn back the clock, eve n if we co uld. Rath er, what I shall be examin ing is what globalizatio n m eans in terms ofth e relations among markets , states, and cu ltu re s. I will be at pains to p oin t out the negative effec ts of globalization . Bu t what I will be cr itic izing is a p articul ar form of globalization, a relat ively unregulat ed fr ee-market form of globalizatio n in whi ch the p ower of ca pital overtakes the p ower of states and in which the power of th e prod uct overtakes th e will of cu lture an d tradition. And I will be cri tica l of the way in whic h sta tes and cultures h ave started to cave in to the exportation of American-style corporate 12

IN T RODUC TION

capita lism. Just as th e co rporation is n ot inherentl y evil, n either is glo balization. It's the way we deal with it and regul ate it that m atter. Co ntrolling globalizat io n is a far greater pro blem than sim p ly reining in th e all-embracing exuberance of any particular markets in a given country. Fo r eac h co u ntry h as its own sovere ig n authority, its own na tion al governme nt and politica l and ec o no m ic st r uctu res, through wh ich it ca n choose to limit the p en e tratio n of its borders by other systems and ot her cu ltures . Bu t whe n we seek to restrain - or to control or reform or direct or whatever you Iikeglobalism as a worl d effo rt, we lack th at sove reign . T here is no one world authority that can serve as a focal p oi n t for o ur choices abo ut glo baliza tion , that can act as a mediator among co m pe ting interests and allow fo r co m promise solut io ns. In th e absence of such a world authority, we h ave let th e markets rule. T hat is th e asp ect of glo balization I will criticize. Fo urth, I begin with th e assu m ptio n that m ost co rporate directors, officers, an d em p loyee s ar e, for th e most part, decent people , at least n o less decen t than the rest of us. Ge nerally they want to do th e rig ht thing as th ey perceive it through th eir own moral and et h ical constructs, at least as much as the rest of us . To my way of thi nking, th is is an assu mptio n that th ey do n o t always seek to maximize th eir self-interest , although self-interest is something the y pursue part of the time . I recognize that in th e p receding two se n te nces I have of co urse made a value statement: Fre e moral actors do not pursu e th eir self-interest all of th e tim e. This point may be controvers ia l in academic circles, but I suspect that the reader who lives in th e world of p eople rat h er than th e worl d of books will find it obvious. 17 The last assu m ptio n is highly im portant. With out it I am left: with two altern atives: either to assum e people ge nerally ar e selfish and uncaring o r to assu me nothing about peop les' mo tivatio ns. If I assume self-centeredn ess (wh ich I gen ui n ely b elieve no t to b e tr u e, although presentin g th e assumption as a b eli ef rath er than as an em p irically established fact may n ot satisfy so me read ers) , there would be no purpose in writing this book, sin ce my argument boils down to the simple point that we ought to free corporate actors to fo llow their best instincts. If I assume n oth in g abo ut human IN T RO DUC TION

13

motivati on s an d behavio r at all, th en I would h ave preciou s littl e to say about an ything, for how can one make an y predictions without some assu m ptions? My assumption th at p eople - an d in the p articul ar co n text of thi s book, co rporate actors - h ave good moti ves is decidedly not an assumption that they will act well all of th e tim e or eve n m ost of th e time, I sup pose. It is o n ly an assu m ptio n that m ost of th em want to act well most of th e time, an d this is all I n eed to su p p ort my arg u me nt. Finally, a word abo ut th e numbers. Th ere are a myriad of financial statistics, and new ones seem to appear ever y day. Often they are based o n different m ethodologies an d tim e p eri ods, an d some times tim e p eri od s for sim ilar types of sta tistics d on't match up perfectly. Using and com p aring th ese sta tistics is a tricky process an d must be d on e carefu lly. I h ave tri ed , as much as p ossibl e , to use th e same so urces for given categories of data , and wh ere thi s h as not b een possible h ave so indicated. Noneth eless, whi le th e precision of th e numbe rs an d th eir compariso ns may be o pe n to deb at e, th ey all point in the sam e dire ction, and th e conclusions I have drawn from th em are n ot in d oubt.

C U L T U R E MATTERS

One last point. Co ntrary to most economists, who mis takenly b eli eve th at th e same econ o m ic p oli cies, ap p lie d everywhe re, will p roduce th e same res u lts, I hol d that cu lture ma tt ers. It h as b een demonstrated, for example , that there is a definite relation be tween th e level of co rr u ptio n an d econom ic productivity in a society and its ro ots in Protestant-based individu ali stic cultu res in contrast to Cath olic an d oth er culture s, in whi ch com m u nity, loyalty, an d fa m ily ties are m ore hi ghl y prized. At th e same time th at democracy reduces corr up tio n, th ere is an interestin g case for the proposition th at loyalt y an d m arkets are " an tith etical" to one another, th e firs t p rivilegin g obligati on an d co m m un ity an d th e seco n d, individualism and merit. 18 Wh o is to say whi ch is better? Cu lture is critica l to p olitics an d to econom ics as well. As the p oli tical scie ntist Ronald In gleh art poin ts ou t, it is culture that shapes democracy, not the other way aro un d . And as an othe r co m14

INTR OD UCTI ON

m en tat or n otes, econom ic valu es are always in strumental , d esign ed to achieve a particular purpose. They are not intrinsic to a soc ie ty or to the way a cultu re defines itself. As such , ec o n om ic d evel opment can be shape d on ly by th e cultural values th at ex ist in a soc ie ty.!" Alan Greenspan, perhaps the de veloped world 's mos t famous econ omic gu ru, aban do ne d th e econom ists' gos pel th at econom ic p olicies are n ot cult urally dependent for th e co n clu sio n th at cap italism is a ma tt er of cu lture, no t of human nature . Cu lture m atte rs. As th e hi stori an David Landes puts it , " Culture Makes Almost All the Differen ce .v' " This view may be unpopular in poli tically co rrect circles wh en it lead s to th e observatio n th at some cultures are economica lly mo re "backwar d " than oth ers. Bu t as a simple observation about wealth crea tio n, it is unmistakably ri ght. T he re is n othing intrinsically wro ng with n oting th e importance of cultural differen ces in a vari et y of area s, fro m p oliti cs to soc ial organi zation to ec on om ics. And it seems undeniabl e th at ec o n omic growth an d p roductivity are gr eater in so m e cultures th an in others. The important question is what you do with th e con clusio n . Do yo u (futil ely, I susp ec t) try to mak e ot h er cultures like yours, in th e h ope th at th ey will d evel op ec o nomica lly lik e yours? Do you view the m as inferior in so me way an d the re fo re not to be b o th ered with or, to th e con trar y, to be colon ized, figuratively or literally? O r d o you understand th at cultural variat io ns might well reflect different valu es, that cultu re m atters a lot, an d th at th e kinds of ec o nom ic in stituti ons a culture devel op s re flec t more th an sim p ly its economic needs? I start from th e last point, and it is that poin t th at forms an important part of my fin al critiq u e of th e expor tation of Am eri can co rporate cap italism . In th e m ean tim e, th e thin g to note is that Am erica is very much a socie ty groun ded in Protestant values an d th at th e individualism born of Calvinism is very much intertwined with, and to so m e exten t is p art of, th e individualism born of lib eralism. Cu ltu re an d politics reinforce o n e another. But wh en th ese p articul ar aspects of o ur cu lture and politics are cu t loose from their ethi cal moorings, they can be a sh ipwrec k waiting to happen . We have done precisely th at, as our individualism and sp irit of acquisitiveness have drowned ou t an important underpinning to our individualism , a caring an d co mm unal INTR OD U CTI ON

15

impulse th at we 've all but dest ro yed but th at , carefu lly co ns idere d, shows itself as the very legitimation of our individualistic spirit. This book is organized in three p ar ts. Part 1 ex p lo res th e philoso ph ical an d soc ial e nviron me n t in whi ch th e m odern America n corp or ation is grounded and exp lains why, from a cu ltu ral perspective, we oug h t n ot to ex pect o ur co rporatio ns to beh ave res po ns ibly an d accou ntably. Part 2 exam ines th e legal str uc tu re of th e co rporatio n in fin er d etai l, d emonstratin g how ea ch aspe ct of that str u cture co n tributes to th e p ro blems I id entify an d suggesting ways in whi ch we might create an environmen t in whi ch managers, sto ckh olders, an d workers can use th e best aspects of th e str uc ture to more likely assure res ponsible, long-te rm ma nagement. Part 3 is a brief examination of th e nature of capit alism and its various forms an d an ex planatio n of th e way Ame rica n co rpora te an d cultu ra l m ores are ta king over th e glo be .

ilj INTR OD UCTI ON

I

GROUNDWORK THE PHILOSOPHY OF THE AMERICAN CORPORATION

AMERICAN LIB ERALISM AND THE FUNDAMENTAL FLAWTHE FOUNDATION OF THE CORPORATE PROBLEM

How widespread are our corporate problems? How severe is corporate irresponsibility? Sometimes we know it when we see it: Fire ston e mak es explod ing tires an d Ford knowingly allows th em to remain on SUVs; Hooker Chemical pollutes Love Canal; Union Carbide builds a substandard factory in Bhopal. Sometimes it's less easy to see : General Ele ctric lays off tens of thousands of workers and in the process destroys entire communities; MatteI's board of directors gra n ts itself obscenely valuable sto ck options so co m plex that their value is hidden from the stockholders, who vote to approve them ; some of Am erica's largest corporations abuse fed eral tax laws in order to pay almost nothing in tax es even as th eir profits soar. Pinning down th e problem is diffi cu lt; good statistical data are almost impossible to co m e by if for no other reason than that the notion of corporate irresponsibility is notoriously hard to define. Moreover, much of what I will dis cuss as cor po ra te irresponsibility is behavior that does not rise to a h igh ly visible level but results from a day-to-day way of thinking about and running large corporations. So you could, if yo u ch ose, decid e that th e problem is not terribly important and close this book right now. But that would be a serious mistake. For wh ether or not I can provide information that might pass as scientifically acceptable, it is clear that the vast majority of Americans be lieve that corporate misbehavior is a serious problem 19

- and this d espite our wid ely ce le b rate d unpre cedented prosperity. In September 2000, Business Week published the results of a poll whi ch found that fully thre e-quarters of Americans beli eved th at th eir lives were too dominated by busin ess (and that same number agreed with AI Gore 's aggressive stance against big busin ess). Among th e findin gs were th at 6 6 percent of Ameri cans believed that " large profits are more important to bi g companies than d eve loping safe , reliable , quality products for consumers. Adding to th e dis en ch antm ent is th e p erception that co m pan ies often buy their way into govern m e n t." The poll found a gen er al perception that busin ess had grown beyond th e ca pac ity of govern men t to co n t ro l it, creating a d ange rous power imbalance in Ameri can socie ty as we ll as in the res t of th e world , an imbalance in which American busin ess is perceived to overwhelm lo cal sovereignty an d culture for the sake of in creasin g profits. The poll 's findin gs were consistent across age and income groups an d are particularly no tabl e for th eir dis covery th at th e sentiments ex p re sse d were not so much antibusiness as anticorporate .' So perhaps I can't prove tha t co rp orate irresponsibility is a wid espre ad problem, altho ugh I'll try. But th e fact that th e overwhelming majority of Americans believe that it is provides a powerful incentive to try to find out why. Our corpora te p roblems, including th e eth ic of stoc k price m aximization, lar gely lie rooted in the structure of the American corporation . But th e co r po ra tio n also fun ctions in a more fundam ental soc ial, politi cal, an d eth ical id e ol ogy o f r adi cal individualism th at dominates American cu lture and reinforces and exacerbates th e problems arising from structure. This chap te r will esta blish th e gro u n dwo rk for analyzin g corp o rate r esponsibilit y by situatin g the issue in our cu ltural context.f In order to h ave a co n cr ete basis for understanding th e link betwe en co rp orate behavior an d cu ltu re, let's first look at several examples of what I consider to be corporate misbehavior, an d then se e how they fit in.

THINGS GO BETTER WITH COKE

In fiscal 1999, the Co ca-Cola Company, an icon of American business success, suffered an $8 13 million charge to earnings - that 20 PHILOSOPH Y O F TH E A M E R I CA N C ORPOR ATION

is, a loss - as a res ult of poo r overseas ope ra tio ns, prima rily in Ru ssia and Eastern Europe. Co ke suffe re d a sig nific an t decline in stoc k price during th e co urse of 1999 , with seve ra l peak s (including rebo u nds in ea rly 2000) b ut lap sin g to lower levels. Th e solu tio n for this corp oration (with its n ew chief executive ) de scribed by the New York Times as o ne " known for ge nerous benefits, j ob sec urity an d unflaggin g o pt imism about its future" was to lay off 20 percen t of its workfo rce (six tho usan d of its th ir ty tho usa n d em p loyees worl dwid e ) at a cost of $800 m illion. " While th e co m pany d efended th e move as a way of fo cusing on its cor e business, it appears th at dropping stoc k price was th e driving mo tivati on . Co u p led with th e layoff anno u ncemen t was th e disclosu re th at some of Co ke 's foreig n bottlers would reduce th eir levels of in ven tor y, with on e exp ert quoted as saying th at thi s implied Co ke h ad ove rstate d its ea rn ings growth for the preceding two yea rs and ex pressing co ncern th at it mi gh t contin ue to do so in th e futu re . Of co urse overs tating ea r n ings growth is a way of in creasin g stoc k p rice in th e short term. Altho ug h th ere is n o suggest ion that Co ke was behavin g fraudul ently, th e oversta te ment, co u ple d with th e layoffs, suggests (especially afte r a year in whi ch the stock price was beat en d own) th at cu r re nt stock price was at the forefront of m an agement's co n cer n . That's no surprise given th e sta te of American corporate law an d fin an cial markets . Does it justify terminatin g the employment of six thousan d p eople? Might Co ke h ave fo un d a different way to get th rough a di fficult time? Even if th e corporate decision mak ers d ecid ed that Coke employed to o many people, does the fa ct that th ey hired th em in th e first pl ace give Co ke's execu tives a mo ral obliga tio n to mak e layoffs th e last p ossibl e o pt io n? to m ak e the m as p ainless as po ssibl e? If you were th e owner of a small busin ess th at was h avin g a hard tim e and you worked every da y with loyal , longtime e m p loyees, how h ard would you t ry to find othe r alte rnatives before walking in to th ei r offices, looking into th ei r eyes, an d telling th em th ey were fired? Of course the Co ke board and CEO Douglas Daft didn't h ave to work with most (if any) of the fired e m ployees every day. T hey didn't p ersonally h ave to go and look them in th e eye an d te ll th em th ey were being fir ed. They had underlings to foll ow orders, to do LIBER ALI S M A N D THE F UND A MENT AL FL A W

2 1

th eir dirty work for th em. They had protection against th e expe rie nce of actually havin g to fire people . And they h ad th e protection of corporate law and th e demands and expe ctation s of capital markets to prevent th em fro m having to own up to th e co nseq ue nces of their decisio n ; after all, business is business, and busi ness is about m aximizin g profi ts. Sorry.

UNOCAL AND CORPORATE SLAVERY

Sometime around 1991, Unocal established the Yada na gas p ip el in e proj ect as a joint ven ture with the r uling Burmese junta (through a corp ora tion con tro lle d by th e junta) to e ngage in offshore drilling for natural gas and to tr ansp ort tha t gas to T haila n d through p ip elines running through th e Ten asserim region of Burma. It was well known at the time of this agr eement that the junta, whic h went by the ironic n am e of the State Law and Order Restorati on Co unc il (SLORC) , h ad engage d in ex te ns ive human rights abuses and violat io n s of in tern ation al law. No nethe less , SLORC allege dly ac te d as age n t for th e project , with financial supp ort from U nocal, "to clear forest, level gro un d , and provide lab or, materials an d security fo r the Yadana p ip eline proj ect."! In an opinion d en yin g Un ocal' s motion to dismiss th e co m plain t of farmers from the re gion , th e federal district court de scribed allegations n ot on ly ofrap e, in timidation, and forced r elocation , but SLO RC's use of slave labor for th e proj ect . As th e case ap p roac he d its resolution in federal district court in Ca lifornia, whe re Unocal is h ead q uartered , Nation al Public Radio 's progr am A ll Th ings Considered did a story on it." I will de liberately leave out th e potentia lly infla mmator y d et ails an d h or rifying sto ries of th e way th e slave la bor alleged ly came about and was conducted. I don't n eed those details for my purposes, because NPR reporter Daniel Zwerdlin g's in ter view with Unocal's vice chair man ,Jon Iml e , is e no ug h to m ake th e p oint: "T h e case was di sm issed o n jurisdi ction al gro unds in Augu st now on ap pea l.

22

PHIL OS OPH Y O F T HE A M E R I CA N C ORP OR A TI ON

20 00

and is

Mr. John Im le (Vice Ch air m an, U n ocal) : I don't beli eve those charges. I wouldn't call them lies . I - maybe co nfusion about what has been going on wh ere. I m ean , I'v e h eard stories th at - I just don 't beli eve those stories. Zwerdling: Iml e says whe n h e and his fellow executives decided to get into th e pipelin e project with Myanmar's govern me n t, their first goal was to make a profit. After all, h e says, they're a business. Mr. Imle: But right behind th at an d as a co n d itio n -always a condition of that investment, we will only invest in p laces wh ere we ca n improve th e lives of people. Zwe rdling: And Iml e says th e ga s pipelin e will improve lives across th e region . The project is pumping gas across Myanmar to a pow er p lant in sid e Thailand, an d th at 'll h elp bring ele ctricit y to people who still coo k with firewood and ligh t up their h om es with kerosene lan ter ns. Still, Iml e says, he and his co lleague s realized th at th ey ca u sed con tro versy wh en th ey formed a partnership with the mi litary r ul ers in Myanmar. They know th at everybody from U .S. presidents to human rights groups to United Nations officia ls, all these people have repeatedly denou nced Myanmar's dic tators as some of the most brutal o n th e plan et . And Im le says h e realized th at Myanmar 's government is infamous for using what some people call forced labo r or conscripted labo r . . . . Mr. Imle : I accept th at co nsc rip te d labo r is us ed broad ly in civil projects in th at country in Myan mar. Zwerdling: But Im le says h e was d et ermin ed to m ak e th eir pipelin e proje ct a model of the ethical way to do business. Maybe they 'd even nudge the dictators toward d emocracy. [Zwerdlin g th en d escribes th e structure of th e proj ect , including th e Myanmar army's intended ro le of providing security.] He [Im le] says com p any execu tives wouldn't to lerate it if th e mi litary force d villagers to work on th e project against th eir will. Mr. Iml e: We worked ver y h ard . . . to determine that we wou ld be able to con d uc t our business in an absolute ly eth ica l, honest, and moral manner.

L I BE R A L I S M A N D T HE F U N D A ME NT A L F L A W

23

Zwerdling: An d d o you feel , deep down in sid e , co nvince d th at the military did not abuse workers in an y way connected to the pipeline? Mr. Imle : I'm not in a p osition to kn ow that much abo u t th e internal con duct of th e mili tary on th e ground. Bu t I guess wh at I'm t rying to say is th ere was n o co n trac tua l rel ati onship with th e military. We were not in any way in co n trol. ... But the u se of conscripted labor in connec tion wit h th is proj ect was a n on-sta rt e r fro m th e beginning, an d eve ryo ne kn ew th at. Now what th e military mayor may not have done tha t n obody kn ows abo u t, I ca n' t ad d res s. But wh at ever h appened in the area of thi s pipeline, I d on't think th ose th ings h appened in th e area of this pipeline, I don't thin k th ese things h appened , in my h eart of h earts, I reall y don't ." Now I didn't hi ghlight anyth ing in th e conversation ,just to avoid any advance signaling of my own view. But I don 't think you can help notice Imle 's logic: Firs t, U n oc al' s goal was profi t; seco n d, d espite U nocal's in sistence o n eth ics, U nocal executives kn ew that th e Myanmar regim e was brutally repressive an d us ed slave lab or, an d th ey fr ankly h ad n o id ea wh at was going on in Myanmar ; th ird, U noca l h ad " no co n tractual re latio ns h ip " with th e junta , apparently implyin g that th e absen ce of a direct co n tract to provide slave labor reli eved Unocal of the responsibility for in vestigating an d asserting co ntrol. Le ave aside th e scary re sonan ces of early American political reacti on s to reports of th e atrocities Ge r mans were co m m itt ing ag ainstJ ews during World War II , as well as th e ec hoes of Presid ent Bill Clinton' s ext ra ordinary technical responses in the far more t rivial Lewin sky affair.J ust look at th e bare o utline of Iml e 's d efen se, taking what he said as entirely accurate : U n ocal wanted to make a profit, its executives kn ew all abo u t th e Myanmar gove r n men t, they evide n tly didn' t ask or in vestigat e at hi gh co rpora te levels wh at th e military was doing, th ey had no co n tract with the mili tary to provide slave lab or, they the re fo re h ad n o legal co ntrol over th e militar y's b eh avior in U nocal's name and for its b en efit, and Imle's d eep est in tui tions told him the story co uld n 't be true. Would we accep t this 24

PHIL OS OPH Y O F THE A M E R ICA N CO R PO RA T IO N

from a p olitician? from our frien ds or n eighbors? Would we acce pt it as an ex cuse from our ch ildre n? Wh y should we accep t it fro m Unocal? Was U n ocal's decision a legitimat e cor po ra te d ecision ? It sure is cheaper to for ce peopl e to re locate th an to pay for their lan d or to redirect th e pipeline in o rde r to permit them to co n tin ue their lives. It 's obvio us ly cheaper to us e slave labor th an to pay someone to work for you . And if U n ocal's executives were acting thr ou gh th ese age n ts in whose cou n try suc h activities we re legal (or at least let 's assu me th at th ey were, to make U noc al' s case easier) , why shouldn' t th ey do what is n ecessar y to m aximize stoc k prices? Posing th e question this way an d o n th ese facts pretty much answers it ." An d yet th e answer is n ot so clear as a matter of American corp orat e law.

EXPLOSIONS AT GENERAL MOTORS

On July 9, 1999 , a Ca lifo rn ia jury awarde d th e highest liability award in American hi story, $4 .8 billion, including $ 10 7 million of co m pensato ry dam ages an d th e remaining $4 .7 billi on in punitive damages, to Patricia Anderson, who, alo ng with h er ch ild re n an d a family fri end, were seriously burned wh en the fu el tan k of th eir 197 9 Chevrole t Malibu exp lode d in a rear-en d co llisio n . Th e pl ain tiffs offered to reduce the punitive damages by $4 billion if GM recall ed th e cars an d all those built on th e same fr am e, but th e company refuse d . Althoug h the punitive dam ages award was lat e r reduced to $ 1.0 9 billion, significant eviden ce was admitted regardin g a m emorandum di scovered by lawyers in th e ea rly 1980s (but for vari ous reason s n ever produced at trial) . Written by GM engine er Edw ard Ivey, th e m emo analyzed th e cost of making safer fu el tanks ($2 .40 p er car) agains t th e possibl e losses fro m d am ages GM would have to pay in the event of accidents and re sulting fire s. Obviously, GM d eclin ed to recall th e cars o r red esign th e fue l ta n ks. In reducin g th e punitive dam ages award , Judge Ernest Williams observed that th e p lacement of the fuel tan k was intended " to m aximize profits, to th e di sregard of public safe ty,"? Was Gen eral Mo tors' d ecision a reasonable co rp orate d ecision ? If the purpose of th e corporation is to maximize stock price, then a LIBER ALI SM A N D THE F U N D A M E N T A L F L A W

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cost-be nefit an alysis is p erfectly appropriate, and th e answ er is yes. Was the decision a human decision ? No . One way of getting at the answ er is to ask what Ivey would hav e done with his report had h e known his wife, ch ildre n , or oth er loved ones would b e driving Chevy Malibus. It's not th at we don't m ake cost-be nefit decisions all th e tim e. We do . Our resources are scarce . We have little ch oice but to make costbe nefit decisions . But there 's a difference between a human makin g those decisions and th e sam e d ecisions m ad e by a cor po ra tio n. T he difference between a natural person and a corporation is that we natural p ersons exper ien ce th e costs of our decisions as well as p ay th em. If we behave in a way th at h arms other people, we typ ically not only are aware of it but fee l th e pain of it as well. If, for exam p le , a co lleague from ano the r law school sends m e h er paper and asks me to com m en t on it, and I de cide that it 's more beneficial for me to ge t my own writi ng done, I may well decline to read it but I'll feel bad abo u t it an d will alm ost ce r tain ly feel th e n eed to apologize. Corp ora tion s m ay sometimes pay th e costs, but th ey don't expe rien ce them in the same way. GM and its exe cutives had no expe rie nce of explaining to its customers that their cars might explode an d, shor t of being h au led into co urt, n o ex pe rie nce of th e n eed to apologize. In other words, th ey didn' t fee l responsible because th ey didn't ex pe r ien ce th e co nse q ue nces of th eir decision to keep profits up at th e expense of human Iife .s H ow would GM 's execu tives react if th ey had to confront th e Andersons or any of their other cu stome rs face to face? We don 't know; th ey mi ght m ake th e sam e de cision . But they would make it with a more h u man understanding of its consequences, with a fu ll appreciation of its costs. How does th eir ability to avoid this co nfro n ta tion, to ex te rnalize costs and not feel responsible , affect our evaluation of the nature and purpose of th e Am erican corporation?

MISAPPROPRIATION-THAT 15 , THEFT-AT MARRIOTT

In De cember 1991 Marriott Corporation issued co nvertib le preferred stock. T he company also issued $400 mi llion of d ebt in ea rly 2(j PHILOSOPH Y O F TH E A M E R I CA N C ORPOR A TI ON

1992 . On O ctober 5 , 1992 , Marriott an no unced a restructuring of its business in whic h its highly profitable and fast-growi ng m anagem ent and services busin esses (producing more than h alf of Marriott's operating profit) were to be pla ced in a n ew subsidiary an d spun off to Marriott 's co mmon stockholders. Its far less profitable rea l esta te an d co ncessio n busin esses were to be left in Marriott, along with all of the debt and the preferred sto ck . T he new business was expected to be h ighly profitable; the remaining business (with whi ch th e d ebthold ers an d preferred sto ckhold ers were stu ck) would be h eavily leveraged and was expected to produce rath er m in imal cash flow aft er debt service. Why d id Marriott do th is? Well, th e n ew com pa ny, with all th e good assets an d no debt, wou ld be significantly mor e valuable to stockholders than a Mar riott burdened by d ebt. In oth er words, sto ck price would be maximized. Not so for th e debtholders. The market value of th is re la tively n ewly issued d eb t p lummeted, and, although the preferred stock price in cr eas ed , th e corp ora tio n into whi ch th e preferred sto ckhold ers could convert their stock was one that was largely de nuded of the assets th e preferred sto ckhold ers thought th ey were getting.!! Marriott put the costs of maximizing its sto ck price onto the debtholders and preferred stockholders. At the stockholders ' meeting called to approve th e deal , one se ns itive sh ar eholder said to Ch airman]. Willard Marriott, "Yo ur father would be ashamed of you ." Why wasn't]. Willard Marriott ashamed? Well, for on e th ing, h e didn 't (or so h e mi ght h ave thought) hav e to con fro n t th e people who were suffering from his decision . For another, h e undoubtedly saw his job as being to maximize co m m o n sto ck prices - afte r all, that's the job we to ld h im to do." While taki ng money from bondh old ers hardl y rises to th e level of to lerating slave lab o r or knowin gly installing faulty fu el tanks, it is in lin e with this beh avior in th at the two things that permit it to occur are the sa me : the mandate to maximiz e stock price, and th e separation of th e d ecision maker from th e con seq ue nces of th e decision.

hit also didn 't hurt th a t his fami ly owned a large block of co m mo n stock. L I BE R AL I S M A N D T HE F U N D A ME NT A L F L A W

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DEATH AND TAXES

Death an d taxes, as th e old saying go es, ar e th e o n ly things abo ut whi ch one can be certain . But death is no t inevitable for the artificial corporate p erson. Su re, it can di e after a fash io n - in bankruptcy co u rt or after b eing swallowed up in a m erger- but th ese are h ardly cer tain, an d even whe n corp oratio ns ex pe rie nce th eir own form of d eath th ere is always so m e sort of afterl ife fo r th e asse ts an d often for the busin ess as a going co ncer n . Bu t wh at ab out taxes? Corpora tio ns su re ly are su bject to taxes just like the rest of us, in th eir case at a flat ra te of 35 percent on all of th eir reported p ro fits. But there 's the rub: reported profits. Recent evid en ce sugge sts th at th e p ressures of making p rofi ts for sto ckholde rs h ave mad e even good co rporation s turn bad as th ey find ways to avoid rep orting profits to th e Internal Revenue Serv ice, in the process diminishing th eir tax burden s an d in creasin g profits to sto ckhold ers. On Februar y 2 0 , 2 0 0 0 , th e N ew York T imes r ep orted h ow wid ely co rporatio ns have begun to engage in th ese sche mes. For exam p le, Allie dSignal got slam me d by th e tax co urt afte r it sold an in vestm ent for $400 milli on and , in a sche me cooke d up by its inv estm ent banker, Me r rill Lyn ch , m oved th e p ro fits to a Dutch p artne rshi p. It th us n eatly avoide d a $ 140 million tax liability. Wh en it r eclaimed th e profits fro m th e p artnership , th e tax liability had di sappeared , an d AlliedS ignal reported a $4 m illio n ga in on th e par tn ersh ip investment itself! T h is is n ot an isolated case . According to th e Tim es th e situatio n h as b ecome so bad th at co rp o rate tax lawyers (di sch ar gin g th eir eth ica l obliga tions) h ave b een ra tting to the IRS on th eir own clie n ts. But IRS resources are limited so th at fewer th an 1 0 p ercent of corp or ate dodges ar e b eing pi cked up. The result is th a t whil e individual in com e tax revenue in cr eased 6 .2 p ercen t in 1999, co rp orate tax reve n u e fell by 2.5 pe rcent.'? Alli edSignal is o n ly one example . As th e Times reports (and the numbers suggest), m ore th an a few hi ghly resp ected corp o ra tio n s are en gaging in these an d other tax evasio n practices. Some of these may be legal, but many oth ers push the enve lo pe of legalit y an d fre que n tly come ou t on th e other side . Wh y would th ey d o thi s? 28

PHIL O S OPH Y O F THE A M E R I CA N CO R PO R A T IO N

The Timesgave an answer : pressure to in cr ease stoc kholder profits. One of th e major corporate expenses, taxes, is being pushed onto th e rest of us through co rp orate bilking of th e federal treasury. It leaves less money th an we are en title d to for our soc ial in frastructures. And it limits our ability to redistribute wealth th e way our tax system was design ed to d o. Wh y b eh ave in th ese ways? Wh y sh o uld co rp o ratio ns b e particu larl y su scep tib le to the kinds of b ehavior th at mos t individuals - even if th e th ought crossed th eir minds -would reject as un ethical to say th e least? What is it about the way we structure the corp oration an d th e n ature an d purpose we e nvision for it th at gives th e corporatio n a differen t mo ral co nstr uc t, or at least mak es a di fferen t moral outlook easier for them to adopt and easier for us to swallow?

THE FOUNDATIONS OF CORPORATE MISBEHAVIOR

In order to understand the problems underlying th e structure of Ame rica n co rpora te law it is essen tial to understand th e foundations of Am eri can law upon whi ch it is built. This in turn requires us to look at the political, social, and eth ical the ories underlying our laws, th e co nce p ts of en ligh te n me n t lib erali sm th at are impli cit in our Con stitu tion , and th e social and political philosophy that fr am es our public an d privat e rel ati onships with on e an other. It is th ese co nce p ts that fo rm what we mi ght see as th e tect onic pl at es undergirding our entire social structure . Like th e tecto nic p lates up on whi ch Ea rth's surface sits, th ese th eoreti cal pl at es so me times sh ift imperceptibly to shade our prevailing moods, giving us only th e faintest sh u dde r as they settle in to our co lle ctive consciousn ess. Sometimes, though , th ey clash violen tly, as th ey do in ea r th q ua kes, ch anging for a tim e or forever our social outlook. When we have looked at th ese d eep est levels of our co m m o n understanding, we will b egin to see th at th e fundam ental flaw of o ur corpo rate structure is the fundamental flaw ofliberalism itse lf, a flaw whi ch is hard to see in th e purest theore tical forms of lib eral phil osophy but whi ch b ecomes pronounced and even p athological when the sh ifting p lat es cr eat e distortions in those forms. L I B E RA L I S M A N D T H E F U N DA M E N T A L F L A W

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Th e m et aphor is useful. But it 's not p erfect. The probl em is th at the Earth 's sh ifting surface is a natural phenomenon. We can no more con tr ol it than we can co n tro l th e ro tation of th e plan ets aro u n d th e su n. Our philosophi cal pl at es are di fferent- th ey are entirely of our own making. They sometimes may not seem like it b ecau se th ey become so em be d de d in o u r soc ial n orms an d co llective subconsciousness th at th ey appear to b e in evitabl e . But th ey're n o t. Wh eth er in tentionally or no t, we ourselves hav e cr ea ted the m. Th at m ean s th at we o urselves also h ave th e pow er to change th em. Me taphor, no matter how useful , should not blind us to this reality. As we begin to exam ine liberalism an d its modern manifestations, we can id entify two th emes th at are illu strated by th e stories with whi ch I began . The first is an ethic of radical individualism whi ch , in th e limited m oral universe of th e co rpora tio n , results in an attitude of grab and get. Th e other is th e sup pr essio n of an y impulse to car e about the welfare of oth ers.

LIBERALISM'S BASIC PREMISE

Liberal philosophy itself, whi ch mi ght be con side re d to b e co mprised of the two main plates of liberty and equality, is familiar to m ost of u s an d re latively easy to id enti fy despite th e ridges an d valle ys, the different emphases given to different aspects of it by different thinkers. These vari ati ons on lib eralism are important beca use wrongly understood or tak en as caricatures, th ey become its pathologies. Nonetheless, th e core is common to most mainstream thinkers o n th e su bject. Th e m ain precept of lib eral philosophy b egin s with an id ea, made familiar to us by Thomas Hobbes 's description of th e state of n ature , an d th at is th e rough eq uality of all p ersons. This rough equality-whether resulting in Hobbes's war of all against all or giving rise to more p eaceful deliberations among eq ua ls as im agin ed by th e modern philosoph er J ohn Rawls-leads to th e co n clusion that all persons are equally autonomous, free and self-directed in pursuing th eir own e n ds. They are at th e same time eq ua lly vulnerable to in terferen ce by all oth ers in the pursuit of the ir own e n ds . Hobbes 's solutio n to th e in evitable war of all aga in st all is 30

PHIL OS OPH Y O F THE A M E R I CA N C ORP OR ATI ON

some govern me n tal authority that maintains eac h person 's ability to set and attempt to achieve goals while at the same time res tricting others from interfering with those pursuits. Rawls argues in favor of fundam ental principl es th at are to serve as referen ce points for our laws and economic distribution . In both cases, and indeed in liberal th eory ge ne ra lly, th ere is some hi gh er auth o rity to whi ch we ap peal in order to ensure the justice necessary to allow us to be free . What makes the theories Iiberal- what differentiates them from older id eas th at required us to su bm it to au th o rity - is th e fact that in each case it is the individual right of each person to choose to surrender some au ton o my to th e gover n men t, to ch oose th e principl es under whi ch th ey are to be go verned. And it is equally importan t in liberal th eor y to note that all of this is to a purpose: to ensure th at eac h of us has as much fr eedom as possibl e to pursu e goals of our own ch oosing. Finally, this freedom is ne cessarily limited by th e freedom of others to pursue their goals. These are the ideas embodied in our basic constitu tional structure based on eq ual rights an d equal liberties; in our government designed to protect our individual boundari es so th at our enj oyme n t of our liberties do es not unduly restrict the liberties of oth ers. Liberty is bounded by equality, and so we have equal liberty (or th at, at least, is th e goal). A sim p le exam p le will illustr at e thi s fun cti on of authority in th e service of freedom . You and I might wan t to drive our cars to the store at th e sam e tim e." Each of us is equally vulnerable to interference by th e other; that is, yo u might driv e you r car in a mann er that creates danger for me so that you keep me off th e stree t or divert my co urse . Lib erty would suggest th at we are fr ee to driv e however and wherever we want. But if we d o so, our independent goals might well b e frus trated. I might prefer to driv e on the righ t sid e of th e road an d yo u, co m ing from th e other direction , mi ght like to drive on the left. A head-on collision is all but inevitable. Or you might be in a hurry and attempt to beat m e th ro ugh an inter' Dr iving to th e store is h ardly th e kind of valu e toward whi ch lib eral philoso phy ultimatel y aims . But it is so me th ing we choose to d o, and th e exam ple works well en o ugh as an illu strati on , so I ask you to pardo n what might a p pea r to be a tri vializati on of a very importan t idea. LIBER ALISM A N D THE FUND AMENT AL FL A W

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section at whi ch we both must make turns but from opposite sid es. In each case, neither of us will realize our goals; we are more likely to wind up in th e hospital than make it to th e store. The simple solution is traffi c law, whi ch mandates that we drive on opposite sides of the road and th at we follow certain rules at intersections, typi cally regulated by traffic lights an d stop signs. We each h ave sacrifi ced a portion of our liberty to drive as we would ch oose. But th e benefit of that sacrifice is that we are equally free to drive to th e store - free of th e fear th at th e oth er will ch oo se to do so in a way that harms us. In a paradoxical but very real sense, this modest sacrifi ce ofliberty gives eac h of us gr eater lib erty. But lib eralism is abo ut mo re than m ere rest raint; it 's abo ut m o re th an what we can't do . For while Hobbes may have emphasized th e n eed for th ese restrictions primarily in terms of protecting us from each other, others have emphasized the affirmative side of liberalism, the right to self-determination; th at is, the right to choose our life co u rses, free from others telling us wh at to do. In this asp ect of liberalism, each of us is a naturally equal person, with the ability to d et ermin e for ourselves how we wish to live our lives, th e goals we want to pursue, an d the people with whom we want to pursue them . The historical background against which th is concept of liberalism d evel oped - th e world to whi ch it was reacting - is th e rel ative ri gidity of premodern society. It is a background exemplified by the strict limi tations of Athenian d emocracy, th e English feudal syste m , and, in m odern times, Am eri can slavery an d th e th eo cra cy th at is Iran. Each of th ese (and many other) social structures offers a unique ration ale for th e way it 's d esign ed, a different justification for the type of authority it legitimates, a different source of difference, but the central common fac t of each is that every member of th e so ciet y h as a pl ace th at is more or less d et ermin ed by th e position of her parents at her birth, whi ch itself is determined by the position of th eir p arents, and so regressing back into tim e . Th e lib eral solution - th e liberating solution -was to arg ue th at among the natural rights of humans is the right to self-determination , an id ea brought to its most fam ous articu latio n in th e moral philosophy of Immanuel Kant but earlier de scribed in both so cial an d economic terms by John Locke, David Hume , and Adam 32

PHILOSOPH Y OF THE A M E R I CA N C ORP OR ATION

Sm ith , and later in th e writings o n liber ty ofJohn Stuart Mill. The basic idea is that you, sim p ly because you are a person like every oth er p erson, are a self-governing being, and that gives you th e right to ch oose a life cou rse an d pursue it, regardless of yo u r p arents' occupatio ns or social stations. Indeed (and this is Kan t) one can n o t realize fu ll p ersonhood unless on e is fr ee to ma ke th ese ch oices. The flip side of this way of thi n king is the restraint on lib er ty that I m ention ed ea rlie r; nobody can tell you how to live your life. No body can im p ose th eir values or goals or desires upo n yo u. So we limi t th e n ec essary authority of soc ie ty. We see th e limi ts in our rights of free speech , assembly, and religion, we see th em p rotect ed in the First Ame n dme nt to our Co ns titutio n . And we also see in Am eri can law a stro ng, almost rabid fear of imposing affir mative ob liga tions on our citizen s. We have no legal obligation to h elp oth ers in distress, eve n if we can do it at n o risk or cost to ourselves. All we really n eed to do is p ay our tax es an d serve in th e mi litary if we 're d rafted (though even th e draft allows room fo r conscie ntio us obj ection) . So we also see our privacy rights protected (though by how much is th e subject of vigoro us d ebate) in th e Constitution's T h ir d , Fo urth , and Fifth Amendme n ts, and of course the Fourteenth Am endment p assed fo llowin g th e Civil War. T he right of self-deter minatio n transfo r ms in to th e idea of individ ua lism, th e id ea of th e se lf-made man , th e h ero , th e fr ee sp irit. I t is th e cu lt of Warren Bu ffett, th e ico n of Mich ael J o rdan , th e damnthe -world free do m of Mad o n n a. It is a fea ture of America n soc ia l tho ught an d mythology from th e log ca bin presid ency of Andrew Jackson through th e tales of H oratio Alge r and the success sto ries of so many sports h ero es an d Interne t mill ionaires. It is the idea that any Ame rica n has th e free do m to ac h ieve any level of wealth or politica l o r soc ia l or p rofessional success just by vir tu e of being a p erson; it is th e id ea that every Am erican is fr ee to say what sh e thinks, no matter how unpopular ; it is th e id ea that every Ame rica n is free to practice any religion or n o re ligion at all; it is the idea that every Ame rica n is fr ee to form intimat e relati onships with wh omever h e ch oose s; and it is th e idea that no Am eri can can be fo rced to fo llow a p ath of life chose n fo r h im by another or by the state . L I BE R AL I S M A N D THE F U ND A ME NT A L F L A W

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Equality an d freedom - equal freedom. T hese form th e central and adjacent tectonic pl a tes of Ame rican lib eral thought. Wh ile they so metimes break an d so metimes clas h, wh ile sometimes one is for ced to give ground to th e other, these ideals remain largely intact. T he clas h of these p lates can p ro duce malfo rmations, but th ey are malformations that, like mountain ranges, at least rise from the basic groundwork. T here are times in our h istory whe n lib erty has been e m ph asized at the expense of eq u ality. Examples are the Gilde d Age of th e late nin eteenth ce n tury an d th e Reagan era that began in th e 19 80s an d co ntin ues to the p resent. At other times equality h as b een dominant, as illu strated by th e civil rights struggles of the Recon stru ction era and th e ea rly 1960s an d the economic programs of th e New Deal. T h e desire fo r eq u ality can be seen in contemporary struggles for eq ual religious treatment and gay rights and in d eb ates over u niversal h ealth care and welfare reform. In ever y one of th ese and many other situations, both strains have been pr esent but on ly one h as been obvious. Usually th ey exist in an in t ricate co unterpoint, seek ing reso lution thro ug h politics and adjudication but n eve r quite getting there, like a fugue wit ho ut end or a co ntine n t n ever co m p lete d. T h is co n tinuous flu x is most likely to be th e perpetual fate of our democracy - it may in fact be th e saving grace of our d emocr acy. Desp ite th is co nstant search for ba lance, lib er ty h as for so me time bee n th e dominant strain in Am erican socia l and political tho ug ht. Of co urse liberty and eq ua lity are n ot entire ly unrel ated ; as I'v e noted , fr equently th e claim for libe rt y is a claim fo r eq ual liberty. Bu t Americans h ave become in cr easingly jealous of their lib erties and co r res pon dingly susp icio us of eq uality. Equality re quires interference with libe rt y: p eople are born eq ual in nature and in the eyes of God, but h ar dl y so in economic and soc ia l circu msta nces. To improve the eq uality of th e disad van taged req u ires th e state to interfere with th e lib e rt y of those more fortunate. Even so, we ca n for the mo st p ar t see equality as a na tural fact, with eq uality of con ditio n as an aspiration - in this way of thi nking, some m easure of equality always re mains. 34

PHI LOSO PHY O F T HE AM E RIC AN CO R PO RA TION

But lib erty is terribly fragile. Lib erty is at risk wh en ever p eople put th emselve s under a gover n m en t and laws, wh enever th ey sacrifice some m easure of their freed om to oth ers, no m atter h ow n ecessary th at sac rifice may be to preserve th e o pp o rt u n ity for all to enjoy mo st freedoms . Americans have become more se nsitive to thi s fragility of lib erty in recent decades, a fact as obvio us in th e soc ial as in th e ec o nom ic r ealm. Am eri can s of in cr easin gly diverse backgr ounds an d views are fe arful of losing their righ ts to pursu e th ei r e n ds to th e pressures of mo re dominant gro u ps. The strong emphasis on liberty is evident in co n te m p orary social life in the assertio ns by vario us r eligious gro ups of th eir rights, of h omo sexu als to m ar r y, th e rights of free speech an d p rivacy o n th e Internet, and th e righ t to die . It is manifest in what th e legal scholar Mar y An n Glendon calls rights talk , th e modern tenden cy of Ame ricans to assert every d esir e in terms of th eir righ ts. It is also refl ect ed in th e str ong assertions of economic lib erty over th e past severa l decades, whi ch fin d th eir mo st p opular exp re ssio ns in th e booming sto ck markets populated with sp ec u lators and day traders wh o have n o co nc ern for th e co m pa n ies in whi ch th ey invest but are intereste d on ly in th e m aximization of th eir wealth . It is refl ect ed in th e political r esistance to n ew an d exp an ding socia l program s, in th e defeat of affirmative actio n in public unive rsiti es in Texas an d Ca lifornia, and of co urse in the perennial opposition of so many Americans to in cr eases in th eir taxes, especially to su p p or t soc ial programs th at p romote eq uality. The problem is more th an simply political. It is also cu ltural, altho ug h I will h ave less to say abo ut thi s asp ect of th e probl em. Max Web er famously (if co n troversially) described th e effec t upon moder n capitalist economic development of an in gr ain ed Ca lvin ist co nce pt of th e ach ieve m en t of worldly suc cess as evide n ce of pred estination for salvation . More important, p erhaps, is what Weber saw as th e sp irit of modern ca pitalism, th e very ration ality of modern ca pitali sm , an d th at is th e id ea of acq uir ing wealth for its own sake, th e idea of acquisition itself as a valu e, as an end and n ot as a means. It is an e th ic th at h as co m e to fo rm the co re of Am erica n culture as waves of immigran t gr oups , so me of divergent cultu ral norms an d

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some com ing from cu ltu re s that in some way h ad norms that operated like Calvinist norms, assimilated and absorbed into American so ciety. Now look wh at happens wh en this eth ic of acquisition com b ine s with a strong disposition to regard liberty as th e dominant political valu e. You h ave cre ate d a so ciet y in whi ch p eople beli eve it is th eir right to get what they can and to keep what they get. You have cre ated a world in which self domina tes society, in which entitlem ent trumps responsibility. You h ave create d wh at I h ave elsewhere called the selfishness surplus, that is, the difference be tween what th e winn ers have today and what th ey would h ave if we cared more about equ ita ble distribution an d econom ic justice for others th an we do , if we cared about equality th e way we care about liberty; in short, if we care d abo ut othe rs besid es ourselves. The se lfish ne ss surplus can be cap tured in a simple formula, SS = AS - CS, where SS equals selfishness surplus, AS equals au to n o my socie ty (or th e so ciet y of rampant individualism) , an d CS eq ua ls caring societ y, based on principles of economic and social justice. 11 Th e selfishness surplus is easy to illustrat e. Im agin e two bo ys playin g ball in th e schoolyard . One is tall, th e other is short. Th e taller bo y ge ts the ball an d decides he is tired of playing. The shorter boy wants to pl ay with th e ball. The tall er boy- an d most of you h ave seen some version of this - holds the ball as hi gh as he can and says to th e shorter one something like, "Yo u wan t it, ta ke it." The sh o r te r boy jumps an d jumps, but h e 'll n eve r reach th e b all an d will eventu ally give up . The difference between th e height of the ball and th e hi gh est th at th e sh orte r bo y can jump is th e selfish ne ss surplus. For those of yo u who prefer reality to metaphor, it is easy en o ug h to put th e selfishness surplus in concrete economic terms. In 1998 th e average household in come in Scarsdale , New York, was $280,049 , with a median of $159,447 and a per capita average income of $89,483 . The co rresp o n d ing numbers in Co m p to n, California, were $41 >4 71, $30, 546, and $9 ,970. The selfishness surplus is something short of the differences between th ese figures , something th at would refl ect a fairer ec onom ic distribution in whi ch we re cognized that it is only our so cial structure that permits gr eat

3()

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wealth (and great poverty) an d th at th e on e sho uld be adj uste d to account for the other. Some of yo u will o bject. We deserve wh at we've ea rne d . We p ay o ur taxes an d th at sh o u ld b e enoug h. I'v e answere d th e first arg ument elsewhere . De servedness has very little to do with an ything. As to your taxes: Well , co up le d with th e fact th at th e U n ite d Sta tes h as th e lowest tax rates of an y industrializ ed Western nati on , pa yin g yo ur taxes is a fairly minimal obligation if that's all yo u've go t to do . An d it p retty much is. How do the stories with whi ch I be gan this ch ap ter relate to th e selfish ness sur plus? It' s pretty easy to see in th e Marriott case. The law (or ra ther Marri ott's manipulati on of th e law) gave th e corporation a permanent advantage over its creditors and allowed it to hold th e ball so hi gh th at th e preferred stoc kholders an d debtholders had n o ch ance to play-in fact it was th eir b all tha t Marriott 's stockholders were ta king. It 's what Co ke was doing wh en it laid off work ers (who h ave almost n o legal righ ts to th eir jobs) in orde r to save money to raise its stock price . Cer tain ly AlliedSignal , while it go t caug h t, was sim ply st re tc h ing the selfishness surplus to see h ow far it would go . And U nocal's Imle, in tr yin g to distan ce th e co mpany from its responsibility for shutting its eyes to the u se of slave lab or, resorte d to th e law of co n trac ts to protect himsel f. We didn't have a co ntract with SLORC, he said , and so we couldn't co n tro l th em. We had no legal right an d thus n o legal obligati on . But of co urse thi s ign o res th e fact th at, as betwee n U nocal an d SLO RC, U n ocal had all the money-it had something SLORC wanted . It ign ores th e fac t th at Unocal co u ld h old th e ball as hi gh as it wanted an d that SLORC kn ew it. It ign ores th e fact that, lik e th e tall er b oy in our metaphor, SLORC could ge t what it wanted only if Un ocal ch ose to give it to th em , an d U nocal would ch oose to do so only if SLORC did what it wanted . The U nocal case is ex treme . But it 's only an ex am p le of th e way th e se lfish ness surplus works. There 's another side to America n social an d political culture to American ch aracter. It is this side - or rather the lack of it- that is illu strat ed by th e sto ries of Gen eral Motors' Malibu an d U nocal's slave labor. Th at is th e caring impulse, co m mon to all p eople . Bu t in

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con te m porary Am erica th at ca ring impulse is subme rge d by th e American obsession with liberty.

OUR CARING IMPULSETHE FLIP SIDE OF PATHOLOGICAL L IBERALISM

Th ere is an other asp ect to th e Am eri can ch aracte r that is e m b odied in our po litic al and social thought as well, an aspect that go es beyond th e self-ce n te re d ness th at is th e pathological m anifestati on of individual liberty. It is th e impulse th at leads us to care about th e equality side of th e eq uation, to provide th e social programs th at we d o , to give mon ey to charities , to volu n teer o ur time, an d in co u n tless other ways to join with other human beings to better our communities an d h elp those in n eed. It is especially important to spe n d some time discu ssin g this impulse be cause modern American socie ty has all but buried it, and, as we will see in the n ex t ch apter, this interment exacerbates th e co rp o ra te problem. T he caring impulse undeniably exis ts. The soc ial programs I allude d to e m body it; o ur redistributive system of progr essive taxation, flawed though it is, r efle cts it . Th e caring impulse is th e motivating factor b ehind laws like the Am ericans with Disabilities Act, th e fu n d ing of H ead Start, th e ap peal of th e call to put p eopl e first. It is the reason George W. Bush felt it necessary to modify "co nservatism" with " com p assio n ate." It is th e reason that so m any Am eri ca ns give m oney to charities an d th ei r time to causes like H abitat for Humanity and Big Brothers and the local soup kit chen. This caring impulse ex ists in all people, for it d eriv es from a sim p le truth - th at all of us are human, and as humans each of us ca n see th e humanity in others. It is the m echanism described by Hume , whereby our com mon humanity lead s us to id entify with oth ers who are despite all of our differences - more like us than not, and that causes us to "feel th eir p ain ." And in fe eling th eir pain , it ca uses us to want to h elp. The way th is motivational me chanism works is obvious if yo u take a moment to refl ect up on it. How m an y times h ave you flin ch ed in fron t of your te levisio n wh en another sensationalist n ews story shows th e victim s of disaster -or even wh en watching a vio lent 38

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mov ie? Wh y is it a natural tenden cy to loo k away wh en we see a severely ha n dicapp ed person - even as we wan t to h elp ? Why do we stop to make sure that someone who has fallen on th e street is okay or to h elp a lost ch ild find its parents? T he reason is that we ca n im agi n e ourselves in that same situation, in th e sam e kind of pain. We know, at least at some deep intuitive leve l, that vulnerabilit y is as much a co n d itio n of h um an existence as independe nce, tha t no n e of us is immune to tragedy or pain, that a fin e lin e divid es us in our cur re n t well-being from those whom we see suffering. It is this in tu itio n of vu lne rability, combined with th e recogn itio n of h uman ity in each of us, that leads us to want to h elp others. In a broad er social sen se, it is this understanding of the universality of vulnerability th at leads us to create in stitu tional and legal structures to h elp others, an d th en to support those structures. But there is a problem with our caring impulse, one that applies even more strongly in th e cor po ra te con te xt th an in th e broad er social context. That is the proble m of separation and distance . Hume noted this even as h e d eveloped th e moral psychology that explains why we care, and it also is intuitive. We tend to identify most readily with th o se who are close to us. Notice tha t in the paragraph above th e ex am p les I gave envisio n face-to-face (or at least virtual face-to-face) encoun te rs with ot her people. It is in these circumstances that we most easily id en tify with oth ers - in short, th at we most easily see th em as p eople like ourselves. Most of us care about our fa mi lies m or e th an we care about our n eigh bors and fri ends, and we ca re abo u t our n eighbors an d fri ends more th an we care about those whom we don't know. And we tend to care more about those most like us - in re ligion, in class, in race - th an we do abo u t those who are different. In a large and diverse society like that of America, mo st of us are o n ly dimly awar e of th e ex iste n ce as jleajlle of those outs id e our circles. We may see th eir fa ces in th e workplace or pass th em in th e street. We might learn so mething about so me few of them on te levision or in n ewspapers. But mostly we don't think about th em at all. Because of this separation, our appreciation of their vulnerabilit y, and our correspondent abi lity to care, becomes tenuous. T hat's why L I BE R AL I S M A N D T HE F U N D A ME NT A L F L A W

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it tak es much mo re dram ati c mi sfortun es to m ake us think abo ut th em and care about th e m in th e first place . We se n d m on ey to aid the vic tims of n atural di sasters like flo ods an d ea rthq ua kes n ot beca use we care abou t the m m o re b u t because th e d ram ati zati on of their plight makes it see m more human - an d th ere fo re more re al - to us. We m ourn with the victims of cr ime wh om we see o n tel evisio n, we share th ei r o utrage , b ecau se we can attach th e eve nt to an individual fac e , an individual id entity. Mo st of u s d on't share the same fee lings of p ain an d o utrage for th e victims of inn er city p overty or bad sch ools - we don't see th em every day, th ey are a nameless, face less othe r. An d wh ile anyo ne can experie nce a n atural d isaste r o r fall victim to crime, if you 're a re lative ly well-to-do American you don't expe ct to wind up homeless or impoveri shed in th e Sou th Bron x, an d so th e p articul ar vulne ra bilities an d tragedi es of th e lives of th ose wh o do rarely reach o ur individu al rad ar scree ns, r ar ely p en etrate o ur caring m echanisms. T he point sho u ld be clear. Space an d tim e se parate u s fro m others. They in terfere with our caring me chanisms and allo w us to foc us on ly o n th ose closest at h and - an d that m ean s o urse lves an d o u r loved o nes. That 's why it is so easy fo r U nocal's Imle to disr ega rd - or choose to di sbeli eve - stories of at ro cities co m m itted on beh alf of h is company in Myan m ar. H e doesn 't see the people; h e doesn 't see the pain. It's why h e can fall back on the legal me chani sm of co n tract to di sclaim co n tro l an d r esp onsibility. For an unfortunate effect of o ne of th e most impo rt ant soc ial mechan isms we use to prote ct our libertie s - o ur laws - is to keep us a disinterested di stance fro m othe r peopl e , to limit o ur feelings of resp onsibility fo r th em. So th e co ntract Iml e says U nocal didn't h ave with SLORC m ean s, at least to him , th at U nocal h ad n o co ntro l; it h ad n ei th er a cogn izab le re latio ns h ip with SLO RC n o r any res pons ib ility for SLORC's actions. The effec t of distan ce also ex plains why Ge nera l Motors' execu tives can with seeming callo us ness sell cars th ey kn ow are unsafe. The cars ar e to be driven by nameless, facele ss oth ers wh o , except in the ra re case of litigation , remai n name less an d face less eve n in trage dies of GM's m aking. We would thin k of th ese executives as

40 PHIL O S OPH Y O F THE AM E R ICA N CO R PO RA T IO N

monsters if th ey willin gly let th eir loved on es driv e cars th ey kn ew to be unsafe. Distance is also why it is so relativ ely easy for Co ke 's Daft to fir e six thousand people . H e do esn 't know th em. H e do esn 't h ave to personally ex perie nce the pain of look in g them in the face and firing th em. H e do esn't h ave to h ear th e stories of th e h ardsh ips he 's caused , or see the faces of the ir spouses and ch ild re n when they 're to ld they have to go witho ut, or experience the u prooting and separation from fri ends and fami ly th at may accompany th e search fo r n ew work . T h e problem is, as I'v e de scr ib ed it, not un iq u e to corporations. It is a problem th at com m o n ly arises in a geog raph ically vast an d enor mously diverse mo d ern liberal soc iety. It is what mi ght be calle d th e lib eral perversion - th e d estruction of one tect o n ic plat e by another, cr eating a malformation at the surface: th e towering do mi nance of selfish individ ualism over caring. T hat is why I said that this problem offers on ly a foundation for th e co rp o ra te problem , alt ho ug h even in this for m - and before I describe the corporate problem in more detai l -you can see how it becomes espe cially pronoun ced in the corp o rate con text. But it also he lps to exaggerate the pro bl em in the corporate context, fo r if our caring im p u lse is so easily buri ed by flesh -and-blood humans en me shed in th e individualism of modern life, if it is so eas ily abetted by th e laws of liber ty that cr eate th e selfishness surplus, h ow m uc h more so is it buri ed wh en we interpose an art ificial p erson, that is, a co rpo ratio n ? T hat is the subject of th e n ext chapter.

THE LIBERAL CORPORATIONTHE AMERICAN CORPORATION

T he bottom lin e is that the p recepts of liberalism , as distorted as th ey are in modern Am erican life , sim p ly cannot be ap p lied to th e modern business corp oratio n . Yet we hav e applied th em injust th is way. As a brief preview of the argu me nt to co me (and a bit of a summary of what I'v e said so far) , th e story go es like this: The modern American corporation was born into the lib e ral environ-

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m ent an d has in many ways been at th e forefront of ou r co n te m porary emphasis on liberty. Naturally enough, and given its largely econom ic n ature, it h as also b een at the fo refro n t of th e lib eral p erv ersion: the id ea th at we are res pons ible o nly for ourselves, th at we ar e to get what we can and to keep it from others. The co ns equen ce of thi s for modern corpo ra te behavio r an d, to be fair, for o u r ex pecta tio ns of m odern co rp o ra te behavior as well is irresp onsib ility, by wh ich I m ean the failure of responsibili ty, an d unacco un ta bility. This situatio n ulti m at ely p ermits th e co r po ra tio n to externalize many of th e costs of its profit maximization on gr oup s wh o are affec te d by th e co rpo ra tio n but p owerl ess to change its b eh avior. The corporation has always be en acknowledged to be , in th e words of Ch ief Justice J ohn Marsh all , "an artificial being, in visibl e, intangibl e, and existing only in co n te m p latio n of law." But despite th is ar tificiality, despite th e inhuman legal construct th at it is, the law t reats it as a p erson , en d owed with vir tually all of th e legal an d constitu tional righ ts p osse ssed by real people. To be sure, th is is an od d ap plicatio n of rights provid ed by a co nstitu tio n that was d esig ne d for a n ation th at perceived th ose rights to "life, lib erty, an d the pursui t of h appiness" to h ave b een b estowed by th e Creator upon n atural p ersons. But th e o bvio us fact th at th e cor po ration is not a natural person didn't stop the U .S. Supreme Court from holdin g in 1886, with out any discussion of the m atter at all, that co r po ratio ns we re indeed p ersons as co n tem p late d by th e Fourteenth Amendment. And it is that FourteenthAmendment that has proved to be th e wellspring of so m an y of o ur individual rights, making co rporatio ns p erson s lik e an y other for all practical purposes. Yet th e assu m p tions th at underlie lib eralism an d gro un d our Co ns titu tion an d o ur laws can n ot se ns ibly be ap plied to th e co rporation . The cor porat ion is nothing more than a legal de vice ; in fact, it is n othing more than a pi ece of p ap er in a sta te sec re ta ry of sta te's offic e, wh e re th e cer tifica te of in corpo rati on is filed ." Thus th e dA mo re so ph istica te d state me n t wo uld be th at th e certifica te of in co rp o ratio n em bo di es all o f th e co rpo rate laws o f the sta te of in co rpo ra tio n . I'll d is-

cuss th ose in su bse q ue n t cha p ters - but all of th ose laws taken together d on't 42

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corporation as a wholly artifi cial being lacks th e motivational capacities of a real person as well as the ability, so fundamental to liberal theory, to choose and pursue e n ds for itself. It lacks th e moral fram ework of a natural p erson. In terms of th e regulation of its behavior, of the perceptions of guilt and shame that p hilosophers like Hume and Smith believed were strong motivators to moral (or at least so cially acceptable) behavior, it has, in the words of an Englishjurist, " n o soul to be damned, and no body to be kicked ." Wait a minute, you might obj ect . Whatever th e legal requiremen ts of incorporation are, whatever the structure of the en tity and th e laws th at govern it, it can b e mov ed only by those real p ersons wh o are responsible for its ope rations: th e board of directors, th e officers, and the employees. Of course you 'd be righ t. The problem is that wh en th ese people act within th e co rp o ratio n , th ey ar e acting as corporate people. O z behind the curtain is mighty O z. But when the curtain is pulled back, he 's just a littl e man. These corporate con stitue n ts, although real peopl e with real motivations and real souls, are straitjacketed by the legal structure of the corporation in th e goa ls th ey direct it to pursue an d th e m ann er in whi ch th ey pursue th em. When they are acting for the co rp o ratio n , the curtain remains closed. Corporatio ns are p eople. But as we 've already see n, th ey are special kinds of people; people created not by God but by law and humans. As such, and in contrast to th e Enlightenment vision of au ton om o us man, th ey h ave only th e en ds given to th em by th eir creators. And th e ends given to th e m by structure if not by doctrine ar e one: m aximize sto ck price. This is th e rul e by whi ch we hav e com e to expect co rp o ratio ns to live, their revealed truth, their moral compass, th eir reason for being. Maximizing stock price is cor pora te self-actualization . Maximizin g sto ck price is, for th e co rporation, the pursuit of the good which liberalism encourages. If th ere ever was any doubt that this is the truth of corp o ratio n s, in cr easingly deregul ated ca p ita l m arkets an d th e proliferation of specu lative investment strategies, not to men tion pressure from change th e esse n tial fact th at th e co rpo ratio n, altho ug h we tr eat it like a person , is art ificial. L I B E RA L I S M A N D T H E F U N DA M E N T A L F L A W

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institutional investors (whose own goal is to maximize profit) , hav e forced it to be so . Like Rabbi Judah Loew's Golem, a sta tue which came to life to protect th e J ewish p eople o nc e th e right words were ins erted into its ear, th e modern Am eri can co rp o ratio n knows only one thing. And, like the Golem, once loosed to pursue that end it ca n n ot be con trolle d - or at least we seem to have lost th e collec tive will to control it . So we h ave the paradox of h aving created an artificial creature with all of the rights of natural persons to for m ulate and pursue en ds that give its life m eaning, but without th e abi lity to choose and pursue those ends. Not so fast , you m ight say. What abo ut those people you m entioned b efore who an imate th e crea ture - th e directors, officers, and stockholders? Surely th ey are real live peop le who are capable of selecting goals and making p ersonal, moral, an d so cial co m m itments just as other natural people can, even as corporate actors. True . But the lim itin g conditio n of th e corporation is that wh ile th e directors, officers, an d em p loyee s mi ght well loo k an d sound like the natural peopl e of lib er alism 's ideal, th e reality is otherwise . In stead of an imating th e co rp o ratio n , th e co rp o ratio n animates them . It's like the so ld ie rs of Troy who piled into the Trojan h orse. Until they clim b ed aboard, they were soldiers with the responsibilities ofsoldi ers but also free an d independent people who cou ld do as they wished, tho ugh they migh t pay a price for disobeying orders. But once in side th e ho rse th ey co llectively too k on th e h o rse 's form and cou ld go only in th e direction th e horse was design ed to pursue. T he same is tr u e of corporate actors. Outside th e boardroo m or th e office th ey may be regular p eople, ch urchgoing, good parents, members of the co un try club, and respectable people in their co mmuni ty who ba lance th eir var ious ro les and obliga tions in life ag ainst one an other in ways th ey find both fu lfillin g an d con siste n t with th eir systems of values. Bu t once th ey act under co lo r of their offic es - o nc e th e magic words are p lac ed in th eir ear, once th ey climb in to th e horse - th ey take on a sin gle fun ction, a sin gle form : to cause the corporation to m aximi ze its profits. T hey are obligated to do so even if that pursuit leads th em to make d ecisions th ey wouldn't make in their quotidian lives, or if it means cutting corners on safety, or h arming the environment, or layin g off old Joe or 44

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th ousands of old J oes wh o h ave been with th e co m pany fo r th eir entire car ee rs but are sim p ly becoming too expensive to em p loy wh en cheaper labor is availab le in India or Thail and or Mexico . They are no longer p eople b ut so meth ing else: di rectors, officers, and employee s of a corp orat io n . And as su ch th ey forego th e capacity of p eople so prized by liberalism - th e capacity for self-de te r m in ati on. This might no t b e su ch a b ad th ing if we treated the corporation as th e artificial legal co ns tr uc t th at it is, if we unde rstood it to ex ist for a narrow purpose and that th e co nseq u enc e of that limitation was th at we care fu lly wat ch ed an d regulat ed wh at co rpora tio ns did , th at we carefu lly wat ch ed an d regul at ed the way th ei r di rect ors, officers, and employees b ehaved . Bu t we don't. Dire ctors, officers, an d em p loyees ac t in an ar tificial co rporate co n text whi ch tak es away the ir individual cap acities for self-de te r minatio n all th e whil e permitting the m to act on b ehalf of an entity th at retains all of the righ ts acc orde d to p eopl e who p ossess th at ca pacity - an d whi ch are accorded to th em only be cause th ey do possess it. I'll tak e up th is p roblem of ca bined au to nomy, of ro le moralit y, in more d et ail later. For th e momen t, there is anothe r important aspect of the lib eral problem th at b ecomes ex ace rbate d in the behavior of th e corporatio n . That is th e p ro blem of resp onsib ilit y o r accoun tability.It is th e problem of (dare I say it?) corporate morality.

THE MORAL ITY OF THE CORPORATE PERSON

We live in an age wh en peopl e b eli eve m oralit y is a mo re or less rel ative thing. Maybe so. But my ar gument d oesn 't d ep end on your acce pting an y p ar ticular moral system or code or any particular form of m oralit y. You m ay go vern your life in accorda nce with re vealed truth as you see it , or natural law, or a sim p le pre cept of n ot treatin g othe rs as en d s, or in pursuit of th e good life of co n te m p lation prized by Aristo tle. You may b eli eve th at mo rality lies in d oing the best yo u can for yo urself and your child ren and giving so m ething back to the co m m un ity wh e n you can, by d on ating your money or volu nteering yo ur time . You m ay think that morality is simply being responsible for yo ur actio ns, avoiding harm to oth ers L I B E R A L I S M A N D THE F U N D A M E N T A L F L A W

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wh en you ca n an d co m pe nsating th em fo r th eir pain wh en you can n ot. You may thin k that morality is sim p ly doing whatever produces th e greatest good for the gre atest num ber. You m ay, like certa in co n te m porary thinke rs, beli eve th at mo rali ty is n othing more tha n maximizing your wea lth. You may beli eve any of th ese things. But chanc es are pretty good th at you h ave so me form of moral co m p ass. You h ave so me b eli ef or syste m of b eli efs that direc ts you in your daily life an d in your contacts with others. Despite th e sometimes co n to r te d arg ume nts of th eorists, yo u have some limits to what yo u will do in pursuit of yo ur self-in te res t. You h ave some sense that so metimes, at least, th e e n ds d o n ot j us tify th e m ean s, an d that sometimes, at least, the e n ds thems elves are n o t worth pursuing. That is all I need to make my p oint. Fo r th e co r poratio n is differ ent. T he co rpo ra tio n has one e n d, an d th at is to m aximize its stoc k price. And th e direct ors an d office rs th at animate it do so with that e n d in mind . Aga in you might o bject. T h ere are peopl e, you say, for wh om making as much money as they can is th e pursuit of th e good . Perh ap s we di sagr ee with them. Bu t one of th e h allmarks of lib eral soc iety is that eac h p erson is fr ee to choose h er own en ds . So wh at ri ght h ave we to judge? Again , I agree . Bu t the difference b etween th e co rporatio n an d a n atural p erson is th at wh en a natural person makes a decision and acts on it , sh e is co n scio us of actually making that d ecision , of choosing between alte rnative en ds, an d of being co nsc io us b oth of that choice an d h e r own res ponsibility for makin g that ch oice . And if th e ch oice tu rns out to have bad co ns equen ces fo r h erself or oth ers, o ur n atural person kn ows th at sh e is accou ntable for th ose co nse q ue nces, either becau se of legal sanc tions or of soc ia l sanc tio ns or eve n the san ctio ns of conscience. Few of us always beh ave in ways th at we or oth ers co ns id er admirable . But wh en we fail we have so u ls to damn and bodies to kick . We have the capacity an d usu ally th e d esir e to r ep ent fo r, an d so m e tim es rectify, o ur mi stak es. Co rp or atio n s have no su ch me chanism . Quite the op posite. As I h ave p ointed o u t, the co rporatio n kn ows o ne thing an d th at is p rofi t maximization, regardl ess of th e fact that it requires human b eings to h elp it pursu e that goa l. The resu lt is th at corporatio ns ar e 4(j

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abl e to act without morality or accountability for th ey ar e form ed for a single purpose. As we will see in the next chapter, the device of limited liability com p o u n ds this by en co uraging th e co rp oration to exte rnalize many of th e costs of profit maximization upon p eople who have no power to protect themselves. Add to this th e rights of n atural persons in lib eral societ y, th e sam e rights that corp oratio ns have be en gran ted . What you ge t is a nonperson with all of the freedom of persons, an uncontrollable Golem th at ca n n ever be calle d back, a m achin e th at runs of its own logic, a logic not tha t of natural people. What you get is the modern corporation. Now add ba ck in th e modern Am eri can ob sessio n with lib erty, the modern perversion ofliberalism as th e pursuit ofself-interest. It is bad e n o ug h to e nc ou rage irresp onsibl e beh avior in real human beings - thinking, fe eling people who have to interact with oth ers and see th e impacts of th eir actions on others, people who know th ey will be h eld responsible for those action s - pe o p le who will rarely act only selfishly because they still feel their common humanity, even if th ey've tri ed to suppress it in pursuit of th eir ga in. Think about how much more severe are the co nseq ue nc es of setting a corporation, which has none of tho se quali ties , freely into the world with a single given mi ssion . And th en think abo u t a co r po ra tio n whi ch is structurally and le gall y organized in such a way th at it responds with ex tr aord inar y sensitivity to ever y possible pressure to con for m to th at mission . It 's a sca ry th ought. The result is a co rporation th at has not only th e right and the power but also th e incentive to push th e costs of its stoc k price maximizati on onto oth er people. So there you have it. A society predisposed to excessive individualism, but on e in whi ch peopl e at least ret ain th eir person al moral frameworks , models its corporations in its image without recognizin g that th e resulting structure lacks th eir moral fram ework. Indeed, it replaces th at moral structure with co ns train ts th at enc ou rage corporations and corporate actors to behave immorally. What you see is what you ge t. In a re cent, very bad movie, Th eIl eep Blu e Sea, scientists enhan ced the brains of sharks in order to use their biological material in the LIBER ALISM A N D THE FUND AMENT AL FL A W

47

treatment of human disease. T he sharks became far smarte r, far more skilled, far more cap ab le of reason in pursuing th e one goal they kn ew by n ature: to kill an d ea t. As any teen aged boy would h ave p redi cted fro m th e first sce ne, th e co nse q ue nce ofth is misguided, if well-intentioned, experiment is that the crew of scien tists th e mse lves were ea te n an d th e sharks ran amok th reate n ing anyo ne th at mi gh t come in th eir p ath (and undo ubtedly awaiting a sequel) . Modern Am erican corporations are th ose shar ks. And they th re a te n no tjust Am eri can soc ie ty but world soc iety. In th e res t of thi s book , I will explain why.

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THE PERFECT EXTERNALIZING MACHINE

I be gan chapter 1 with some examples of what mi ght gen er ally be co nsidered corporate mi sb ehavior: Coke 's disregard of its employees ' well-being, U n oc al's use of slave labor in Myanmar, GM's exploding Malibu , Marriott's theft of mo n ey from p referred stockhold ers and bondhold ers, and Allied Sign al's tax evasio n , all for th e purpose of jacking up stock prices. In a general way, we then saw h ow the kin d of th in kin g that led to the cava lier attitudes of these com p an ies can be found in some basi c truths about American cu lture, and how th e corporate context exaggera tes its effects. T he rest of part 1 will focus on the more specific ways in wh ich the laws governing th e Am erican corporation and th e socia l thinking from which th ey arise can lead us to expect no thing ot her th an co rporate irresponsibility. It will ex p lain why managers an d workers are trapped be h ind this very structure - why the y are O z forced to re main forever be hind the curtain .

GOOD BUSINESS, GOOD ACTORS; BAD BUSINESS, BAD ACTORS

Not all corporations are bad. An d eve n the bad o nes do n 't n ecessari ly m ean to be bad. The Financial Times recently reported a fact that we all in tu itively know: good be havior is good business. Fortun e Maga zin e n o ted that most of the one hundred best corporations to 49

work for in Ame rica are m ore profitabl e th an average, an d fu rth er r eported in the su m mer of 1999 th at companies tha t spend the mon ey to hire, train, and retain minorities outperform th e S&P 500. Vari ous stu d ies by organ izatio ns like H amilton, J o an d Statman, Lu ck and Pilotte , and Covenant Investment Management h ave sup por te d th ese findings. These co r po ra tio ns worry abo ut th e overall qualit y ofl ife of th eir workers, b ehave as resp onsible citizens in their communities, produce go od, safe products, and , in b ad tim es, try to m aintain th ese valu es. Wh en Levi St ra uss, a privat ely held com p any, re cently was forced to lay off thousands of workers, it did so in a humane an d care fu l fash io n , offering su bsta n tia l tran sitio nal h elp to its em ployees and thus p reser vin g e normous goodwill for the fu ture . In my own experience , th e law firm for which I worked not o n ly treat ed m e with resp ect but also was quite h elpful and supp ortive as I made th e transition from lawyer to tea ch er; th e result is that I en cou rage my best students to work th ere . Th ese sto ries show th e ben efits of go od behavio r, ben efits d emonstrated by recent managerial re search like The Loyalty Effect, by th e man agement co ns ulta n t Fre de rick Rei ch eld. Basin g hi s b ook o n research an d years of co n su lting ex pe rie nce , Reich eld describes h ow good and loyal treatme nt resu lts in good an d loyal tre a tme nt, wh eth er of emp loyees, stoc kholde rs, or m an agers. Psychologica l evidence, too , supports th e assertion that in corp orat e enviro n men ts, as in othe r types of o rgan izatio ns, p eop le wh o b eli eve that decision-making p ro cesses are fa ir an d th at they are tr usted accept the outcomes of th ose decisions more readily and b eh ave in m ore trustwo rthy ways th an p eople wh o d on't. I The evid en ce is also clear that trusting p eople are th emselves m ore likely to b e trustworth y than p eople who are suspicious or less tr u sting, implyin g th at environ me n ts in whi ch trust an d res pect are fostered are more likely to be healthy and productive than those in whi ch they are not." By con tr ast, th e structure an d rules of co rporate law (and th e major premises of co rporate legal th ought) are b ased on th e idea that corp orat e actors are n ot to be tr u sted. Su ch mis trust is evide n t in th e push toward h avin g in stitutional investors like large p en sion funds put pressure o n co rp o rate managers thro ug h incr eased monitoring, and goe s all the way b ack to tradition al m eth 50 PHIL OS OPH Y O F THE A M E R I CA N C ORP OR ATI ON

ods of shop floor production, p arodied in 1936 by Charlie Chaplin in Modern Tim es but based on the serious and widely accepted work of th e efficienc y expert Frederick Winslow Taylor. Whil e it is true that co rp o ratio ns are wid ely thought of as treating their employees be tter today, there is some evidence that the reality is otherwise. Th e co n su lta n ts Patri cia McLag an an d Ch risto Nel report in their book Th e Age of Participation that 7 0 percent of the Fortune 1 ,000 polled had a worker p articipation program , but only 13 percent of th eir e m ployee s were involv ed in it." I will h ave much more to say about this (as well as about all of th e issues raised in th e last paragraph) in chapter 9 . For now it's simply worth wondering wh eth er thi s app are n tly improved treatment is th e result of a tight employment market or reflects a truly enlightened manage rial style. I ce rta in ly hope it 's en ligh te ned management, but for reasons I'll dis cuss I suspe ct that as long as American corp orate law remains in its current posture th e reality is different." Billy Cr ystal 's Saturday Night L ive charac te r Fernando was fond of saying, "It is be tter to look good than to f eel good ." Bu t Adam Smith an d th e modern ec on om ist Rob ert Fr ank dis agr ee . In order to look good , they say, yo u have to be good . Good people attract others. Good people bege t loyalt y from others. And, if we must be materialistic abo u t it (Fr ank is) , good peopl e co llec t th e rewards. But as Smith and Frank poin t out, you can 't fake it . If you 're not good and pret end you are, you mi ght be abl e to ge t away with it for a whil e, but it won 't last ; p eople will even tually see th rough yo u. The simple fact is that most corporate managers are good people who very much want to be good . H arris Research polling sh ows this, as does a re cent stu dy by the Malcolm Baldridge Foundation and the empirical work of corporate scholars like Myles Mace an d Jay Lorsch . The proliferation of voluntary co rp o ra te co des of co n d uc t like the Sullivan Principles, the MacBride Principles, the CERES Principles, an d the Caux Prin cipl es ar e furth er evide nce of business lead ers ' d esir e to look good. And to look good , th ey hav e to b e good, especially in an age when we are sensitive to the problem of false co n sciou sne ss, of being m anipulat ed by th e appeara nce of others acting for our benefit. So why is it that so many of our corp orations b ehave so badly so much of the tim e? THE PERFECT E XTERN ALIZIN G M ACHINE

5 1

Th e sim p le answer is th at managers are trapped - or at th e very least, that it is easier for them to feel trapp ed and su ccumb to it tha n to gn aw th eir legs off to ge t th emselves free ." The trap is largely create d by th e fin an cial an d legal str uc tu res of th e co rporatio n , which themselves are grounded in th e legal and social ethic described in chapter 1. Th e Am eri can co rpora tio n is structured to m aximize its sh ort-te r m stoc k price an d to avoid long-term accou ntab ility, much as Am erican leg al an d social thought enc o urage the irresp onsibility of citize ns. As th e Fren ch execu tive an d writ e r Michel Albert describes it, American companies, in contrast to European cor po ra tio ns, are " m er e cash flow m achines," obsessed with short-term p rofit. " America n corporate law an d practi ce give th e short-term com p et itive ed ge to those who directly seek to maximize stoc kholde r profit, regardless of th e co nse q ue nces. Fro m Co ke to U nocal to Gen eral Motors, from U n io n Carbide 's Bh opal disast er to th e Exxon Valdez oil spill that almost destroyed the magnificent an d pristine Prin ce Willi am Soun d , fro m Bristol-Myers's Dalk on shield to Johns Manville 's asbestos and Nike 's treatment of its overseas workers, co r po ra tio ns more often than no t u se th ei r sp ec ial structure and privileges to in cr ease profits by placin g th eir costs of doing business on th ose who are vulnerable to corp orate power. An d th ey do so p roudly, in th e n am e of m aximizin g stoc kholder profit, the sacred watchword of modern American business fai th . Good behavior is good busin ess, but th e rewards of good beh avior lie largely in th e long run . An d who kn ows quite how long th at is? In th e short run (from whi ch we have more confidence we will p rofit) , bad or at least indifferent may be better. Th e st ruc ture of Am erican corporate law e nco urages mo st managers to focu s on the sh ort term." There are a number of r easons for this, a few of whi ch I will di scu ss h ere an d th e others in lat er chap ters in whi ch they become more relevant. Let's be gin with a fea ture that sets the "To be fai r, co r po rate man agers have readily succum bed to th e tr ap . Averag e exec u tive in come h as risen dram ati call y to abo u t 4 75 tim es th at of th e avera ge wo rker. It is terribly diff icult to d etermine anyth in g ca usally abo u t thi s, b ut it does seem th at th e in cr ea sin g e th ic of sto ck pri ce m aximi zat ion has unleash ed th e worst tendencies in o ur execu tives. 52

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trap by building an att itu de of ir resp onsibility directly into th e corporate str ucture: that is, the feature oflimited liability.

LIMITED LIABILITY, OR NOT IN MY CORPORATE BACKYARD

Just as evolutio n h as made th e sh ark a p erfect eating machine, the d evice of lim ited liability has allowed the cor p orat io n to perfec t its fun cti on , so much so th at in o ne ridiculo us bout of hyperbol e Nicholas Murray Butler, Colu m bia U niversity's towering twe n tiethce n tu ry presid ent, d escribed it as a m ore sign ifica n t in vention th an th e steam engine. The fu nc tio n perfect ed by lim ited liability is th at of permitting corp oratio ns to externalize th e costs of sto ck price maximizati on , th at is, to push th o se cos ts o n to othe rs. T he co rporation is th e p erfect ex te r nalizing machine . Defining limi ted liability is sim p le. It me ans that n o matter how much environ me n ta l dam age a co r poratio n ca uses, n o matte r h ow much debt it defaults on, no matter how many Malibus explode or tir es burst or workers an d co ns u me rs di e of asbes tos is, n o m atter h ow m an y p eople it puts o ut of work with out th eir p en sion b en efits or oth er protec tions; in short, n o ma tt er h ow much p ain it cau ses, th e corpora tio n is res ponsible for payin g d am ages (if at all) only in the amount of assets it has. When Johns Manville faced le gal claims fro m p eople harmed by asbes tos far greate r th an th e asse ts it h ad , it de clared ba n kr u ptcy. It co u ld n 't pay all of the claims, an d it didn 't have to . Bankruptcy law is be yond the scope of this book, but basically it p ro vid es th e ad de d advan tage of giving th e co r po ra tio n an escape h at ch , leavin g the cre dito rs to figh t it o ut. You can't go after th e stockh olde rs for any more than th ey've invested. You can' t go after th e m an agers o r emp loyees except in limited an d largely ir relevan t cases. No matter what kinds of harms the co rp oratio n cau ses, an d n o matter wha t kinds ofjudgm en ts a co urt may levy agains t it, it must p ay on ly wh at it h as. Limited liability in American co rpor ate life shouldn 't com e as a big surprise. In one sense, it is th e realizatio n of p ersonal au to nomy in the co rp oratio n , an importan t way of individuatin g the co rporation an d making it more like a p erson. In fact it may flow, at least in THE PER FE CT E XTERN ALIZIN G M A CHINE

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p art, as a conse q ue nce of our thinking of th e co rp o ra tio n as a person." For while you can thin k of flesh and blood people as having unlimited liability- that is, th ey are legally responsible to others for all th e h arms th ey cause up to th e full am ou n t of th eir p ersonal wealth (as well as their individual consciences) - in a real sense th eir liability is much like th at of th e co rp ora tion . You can 't ge t wh at someone do esn 't hav e, no matter what they've don e to yo u , whi ch is one major re ason we have in surance requirements for activities like driving cars. By itself limited liability doesn't appear terribly troubling. If the corp oration is indeed a p erson , albe it, as I shall keep rep eating, an artificial one , why sho u ld it b e liabl e for mo re th an it has an y m ore th an an y other individual? If you can't get blood from a stone (or from a judgm en t-proof person) , why sh o uld you be able to go afte r the stoc kh olders of cor p oratio n s tha t have be come judgment proof? To do so is to ignore the corporation's legal personhood, to ignore its individual integrity as a person . The answer lies, as the answer consistently lies , in the important divergences betw een a real-life p erson an d an artificial p erson. And while those differences may th emselves be enough to justify disparate treatment, the justification becomes all th e more powerful wh en you ad d to th e mix th e hi ghl y limited moral universe of th e corp or atio n : th e mandate to maximize stock price ." The com bination of limited liability and th e eth ic of sto ck price m aximization is th e ultimat e realizati on of individual auto n o my as understood in some prominent academic circles." That is, it is th e ultimat e realization of th e perversion of liberal au to nomy th at see s that ideal as satisfied by the pursuit of self-in terest. But it is a realization that is deeply immoral for the same reasons that th e th eory of radi cal au tono my I earlie r d escribed is immoral for individual human beings: it permits the corporation to behave as if other people didn't matter. But th ere is a differen ce b etw een real people an d cor po ratio ns. At least when we 're dealing with individuals, even if they act in the pursuit of self-interest , th ey are suffi ciently co m plex as to h ave "I' ll ex plore this moral universe in detail over th e next seve ra l chap te rs.

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other attach me n ts an d co ncer ns th at put limits on wh at most of them do. Even in the cr u d e and dehumanizin g economic terms in whi ch this id ea is sometimes described, you ta ke other p eople into acc o un t - th at is, you ac t as if you care - o nly as so meth ing whi ch serv es your self-interest. (The theory doesn 't actually require yo u to do thi s - you o n ly h ave to do it if you want to. ) But at least it 's th e re, an d m ost of us would tak e so me advan tage of it o r life would b e awfu lly lon ely. The situatio n in th e co r po ratio n is di fferent. On e important difference is natural. Suppose th at it is th eo re tically possible to get more fro m a n atural p erson than h e owns, by making him buy in su ran ce, for exam ple, as we d o for specifie d activities lik e d riving . Life would be com p licated if we made people take out insurance for eve ryth ing th ey d o. In stead , we rely up on th eir se nse of res po nsibility to othe rs to regulate m ost of th eir b ehavior. Limited liability for a p erson is n atural- wh en we d emand insurance we cr eat e a co ns t ra in t o n n ature . Limi ted liability fo r th e co rporatio n is n ot in the leas t natural- it is co nstr ucted from th e beginning. And , unlike a p erson , a co r po ra tio n has no se nse of resp on sibility o n whi ch we ca n rely. This co mb inatio n m ak es th e co rp o ra tio n potentially very dangerous.

SPARE THE ROD AND SPOIL THE C HI L D

Assu m e you ha ve a child wh om you h ave ra ised to b eli eve th at she can behave however she likes; sh e doesn 't have to clean up after h erself, she d oesn 't h ave to do h er h omework; she can stay up as lat e as she likes; and whatever th e co nse q uences of h er b ehavior might be, yo u will not punish h er or hold h er acco un ta ble. If she leaves a m ess, you o r so me o ne else will clean it up ; if she d am ages so me one's property, yo u will pay for it, and if sh e damage s her own property, you' ll replace it ; if she fa ils to d o h er h omework, you will pressu re h er teachers to exc use h er an d to gra de h e r as you d emand; if she sta ys up too la te, you will le t her sleep as la te as sh e likes, an d if she suffers at school or in h er activ ities you will so me how mak e it righ t for h er. Ifin the long run she d oesn 't succeed as sh e might, yo u will continue to su pp ort h er. You don' t n eed to be a THE PER FE CT E XTERN ALIZIN G M A CHINE

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beh avioral ex pe rt or ch ild psych ologist to realize th at you are likely to have raised an ext rao rdin arily irresponsibl e ch ild. Nor do yo u n eed to b e especia lly p erceptive to see that your ch ild will probably n eve r feel accou n ta ble for h er actio ns . You h ave, in a ver y real way, limited her responsibility and accountability by limiting her liability. The ch ild can act h owever she likes an d n ever have to p ay the price . An econom ist would say th at she n ever h as to in ternalize the costs she imposes o n othe rs or, conversely, that she h as exter nalized th e cos ts of h er be havio r on to others. Imagine now th at yo u behave like that ch ild . You drive re cklessly, are abus ive toward othe rs, refu se to h elp your cowor kers, push your way ahead in lin e at th e store, ta ke adva n tage of ot hers ' ge nerosity, ignore yo ur friends when th ey need yo ur help. You do all of th is, you say, n ot because you ar e a bad p erson , but becau se co ns ide rati on for othe rs tak es time, it ge ts in your way, and you ar e sim p ly trying to maximize your self-in te rest. Assu me th at m ost oth er p eopl e don't ac t th e way you do (all you need to do is sp e n d a da y watc hing people around your town to co nfirm th e valid ity of th is assu m ptio n). Peopl e are n' t go ing to like you. In fact , chances are you 'll b e sh u n ned an d treate d as a soc ial pariah. The reason of course is that normal people , that is, people wh o are n o rmally socialized , d on't act th is way. They d on't impose th e consequence s of pursuing their self-interest on ever yone else . They drive accord ing to th e traffic rules, repay othe rs' ge ne rosity, wait th eir turn in lin e at th e store, and treat th eir fr ien ds th e way th ei r frie n ds trea t them . When yo u behave the way I de scribed ab ove, yo u, like your spoile d ch ild , are ex te rnalizing cos ts. You are imposin g th e co nse quences of pursuing you r self-in te rest on to othe rs. Ge ne rally we consid er ex te r nalizatio n to be a b ad thing ; as a soc ial matter, we expe ct you to bear your own cos ts, at least unless you make oth er arrangements with those with whom you deal. If you fu lfill th ese expectatio ns, you are intern alizin g cos ts, wh ich is th e d esirabl e econom ic result. Eco nom ists from Art h ur Pigou in th e early twe ntieth centu ry, who ad vocated ta xa tion as a me ans of forc ing cor po ration s to internalize th ei r cos ts, to Ron ald Coase lat er in the twen tie th ce ntu ry, wh o argued that bargaining, under certain con ditio ns, would lead to th e most ec o nom ically efficie n t 56

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result beli eve th at you r cos ts sho u ld be internalized , th at you sh ould bear th em yourself. The d octrin e of limited liability reduces the likelihood th at th e corpora tio n will internali ze its cos ts. Fo r th e co nse q ue nce of limited liability is to permit, if not encourage , the co rpor atio n to ex tern alize th e cos ts of its p rofi t m aking up on oth e rs. Tak e th e following classic ex am ple drawn fr om Cease 's famous work." A railroad runs thr ough corn fie lds . Because of th e fric tion cr eate d by stee l wh eels on ste el rail s, th e train s p roduce sparks wh en they run . Periodically, th e sparks ignite th e fields and burn the far me rs' cro ps. The cro p burning is an ex te rnality create d by th e ra ilroad ; in the abse nce ofa legal d evice or other in centive to m ak e the railroad accountable to th e farmers th e railroad will have no in centive to prevent th e burning. It will h ave n o in centive to enco urage it to d evel op ways to prevent th e p roblem. It co u ld, for ex am p le, buy up righ ts-of-way from the far me rs for a su fficie n t distance fro m th e tracks to clea r th e fields or d evel op less in cendi ar y technologies like rubber whe els. The externality would exi st wh eth er or not the railroad is a limited liability co rporatio n. The fact th at it is o ne sim p ly m eans th at th e railroad 's fin ancial ex posure to th e farmers will b e limited , th at its stockholde rs will profit fr om the railroad 's ab ility to evade res po ns ibility or, to put it differently, from th e farm e rs ' losses. Or take a more contem p or ary example, like th e General Motors sto ry I d escribed ea rl ier. In th at case, th e cos t-be ne fit analysis th at res u lte d in GM's decision n ot to re design th e car an d recall cars already sold was a conscious ch oice to place th e costs of keeping corpo ra te profits an d stoc k prices hi gh o n to th e drivers of th e cars. Ce rtain ly as th e legal j udgment in th at case showed (and as tort law in th e farmers' case might sh ow) , we do h ave laws th at force some internalizati on of th e cos ts. People h arm ed can so m etim es sue an d re cover damage s. But those laws are in suffi cient and in comple te . Even in a regime in whi ch th e fa r m e rs co u ld successfu lly sue th e railro ad , th ey would in cur sign ifican t cos ts, including th e tim e valu e of th eir lost profit, in re covering their losses . And even th o ug h crash victims su ccessfu lly sued Ge neral Moto rs, n o amoun t of money co uld com pensate th em for the physical an d e m otio nal harms they suffe re d . Moreo ver, there are thousands of oth er people THE PERFE CT E XTERN ALIZIN G M A CHINE

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driving unsafe ca rs for whom th e cost of rep lacement is prohibitive or who, for one r eason or another, simply are unaware of th e problem . Eith er th ey live with the fear of exp losio n , wh ich clea rly is a cost, or th ey might actually suffer serious harm one day," T hese examples are troubling. And of co urse there are pl en ty of oth ers. J ust to stay with th e same cor po ra tio n , wh en GM clos ed its h uge Willow Ru n p lant in 1991, it left the town of Ypsilanti, Michiga n, devastated. Yp silan ti h ad grown to re ly upon the factory, so much so that it h ad n egotiated with GM to rebate ce rt ain tax burde ns in order to keep the p lant the re in th e first p lace and to provide jobs for its citizens . But GM h ad a better id ea : aft er sixteen years of accepting gen erous tax abatements and a vari ety of other tax adva ntages, and after thir ty-eigh t yea rs of operating Willow Run , years during whi ch th e town gre w d ep endent up o n th e p lant not o n ly for its economic base but for general community support, GM decided it was cheaper to make its cars elsewhere and closed up shop and mov ed . Th e ec o n om ic and socia l dis location this ca u sed was enor mous, and wh ile the town was victorious in a lawsu it in th e trial court, it lost on appeal becaus e th e court dec id ed that Ypsilanti's government was unreasonable in re lying upon GM 's promises to stay; that is, they were unreasonable in trusting GM, even ' O f co u rse I a m aware of th e argum ent that th ere is a social benefit in lower-pr iced cars. But th e cos t of m any safe ty improvements rel ativ e to the cos t of the car is fairl y minimal. For e xa m ple, Genera l Motors e stim a te d that relocat ing the fuel tank to make the 19 73 mo d e l safer wou ld have cost a m ere $8 .5 9 per ca r, a nd th ere was evide nce a t th e tria l that Ge ne ra l Motors refused to install safety features costing as littl e as $2.40 per ca r. Michael M. We inste in , "C os t o f Life Issu e in GM Suit Lo st o n Pri ce o f a Part," (Oklahoma City)j ourn al

Record, Au gust 13 , 1999. A study in 1999 showed that 9 5 percent of ch ild sa fe ty se ats in American cars a re in corre ctly installed, a problem th at ca n be fixed by a u to manufacturers fo r $ 10 per ca r by providing a Un ive rsa l Ch ild Att achm ent System. Ela in e Morgan , "Seat of Kn owledge ," Tampa Tribune, Fe bruary 13, 1999 . And even if a multip licity of safe ty d evices or a sing le d evice incre ase s co st to th e poin t that some co nsu mers m igh t not be able to afford a particular ca r, thi s d o es nothing to dimin ish th e mora l pri ority of human life to profit. I su sp ect that most people wou ld cho se life without a ca r than d eath in a car. 58

PHILOSOPHY O F T HE AM ERIC AN CO RPORA TION

wh en th ey h ad given th e co m pany su bstan tial fin an cial ben efit s." So th e re sult was that GM succ essfu lly externalized the costs of in cr easin g its stoc kh olders ' profit onto th e citize ns of Ypsilan ti. Limi ted liability m eans n ever h avin g to say you 're so rry - or at least feel th e pain of sor ro w. It me an s th e corporation can, in effe ct, draw in its wagons an d p ay atte n tio n o n ly to th ose p eople to wh om corp ora te law says it's responsible, n am ely, stoc kh olde rs. And th e resp onsibility it has to the stockh olde rs is to m aximize their stock prices. As long as th e co rporatio n, through its direct o rs, officers, and em p loyees, is performing this fun ction, it is doing everything th at we ex pect of it. An d b ecau se thi s is the limited resp onsibility of th e corporatio n, because we can 't chase after th ese p eopl e if they hurt us while doing th eir jobs, they are able to push off th e costs of maximizing stoc k prices o n all of th e rest of us; th at is (in econom ics talk) , th ey are abl e to ex te rnalize th e cos ts of stoc k price m aximization on the rest of us. No w thi s is p erfectly co ns iste n t with th e m odern econom ic views discussed in chapter 1 . In fact , many economists would say this so rt of behavior is ac tually econom ically efficie n t; an d in h on est mom en ts m ost of th em would say ec o nom ic efficie ncy is a go od thing. In a lib eral society in wh ich every p erson, including the corporat e pe rson , see ks to im prove his own self-in terest, we would ex pect th e cor p oration to maximize sto ck price th is way. This doesn't mean th at other p eople are unprotect ed ; th ey can, afte r all, en te r into co n tracts with th e co r poratio n in order to sh are th e cos ts or sh ift the costs back onto th e corporation . And it's even good to have th is potential probl em regul at ed by co n trac t becau se in a liberal soc iety co ntract is th e principal legal m eans through which p eople co me to gether to exp re ss the ir preferences and strike economic b argains th at m aximi ze th eir self-in terest. Some times laws sh ift costs, too , like the Superfund law, whi ch requires corp o ratio ns to pay for the cleanup of th e m esses th ey've mad e. But th ere 's a problem with thi s way of thinking : in order to strike an efficient bargain, you need to have th e bargaining power to do it. In order to p ass laws, you n eed specific p roblems of suffic ie n t size and effec t to for ce lawmakers to act. Many of those who deal with th e corporation, like th e town of Ypsilanti an d GM 's em p loyee s, THE PERFECT E XTERN ALIZIN G M ACHINE

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clearly do not have bargaining power equal to that of the corporations on whic h they re ly. Many of th e problems corporations cause are local and diffuse and don't le n d themselves to legislative so lutions. When such conditions prevail, the justification for lim ited liability fails. Peopl e can't bargain as autonomous equals with the corporation. Laws can't co ntrol it from the o uts id e because we've already created the corporation with a consciousness that will let it evade laws and legal detection - and allowe d it to acquire and use political power to prevent legislatio n when problems are too ob vious to ig nore. Limited liability h as cast the corporation in the im age of the spo iled ch ild.

LIMITED LIABILITY AND THE LIBERAL PERVERSIONLOOKING OUT FOR NUMBER ONE

T here 's another pr obl em , too . Even if corporate lim ited liab ility is, technically sp eaking, the same as lia bility for ordinary human persons (you ca n give up only what you have ) , does corporate limited liability en able corporations to escape responsibility in a way that is different from flesh and blood people? Does limi ted liability create what economists ca ll a m oral hazard , that is, an increase in the risk of bad behavior be cause th e costs of that be havior are shifted o nto someone else? Even to ask the question this way is to presume that the corporation is capable of the kind of moral actio n that, as we have already seen, law and corporate structure deny it. T he corporate scholar T he resa Gabaldon h as fra med an in teresting way of lookin g at th e issu e of lim ited liability, one whic h relat es directly back to the lib eral perversion I described in chapter 1 . As she poin ts out, "Lim ited liab ility is about im posing risks that so me on e else must bear. Liabi lity lim ita tio ns artificia lly distance individuals from the real life effects of the en ter p rise in whic h they inves t, thus decreasing th eir acknowledged p erso n al res ponsibility." I I Of course this is the broader po int that I am making about corporate law ge nerally, b ut the focal p oin t of limited liability h elps to pl ace it in a con cr ete context. Moreover, as Gabaldon perceptively observes, limited liability as a legal doctrine can produce a harm beyon d that sim p ly caused by corporate law. Because it exists, because Go

PHILOSOPHY O F T HE AM ERICAN CO RPORA TION

it ex p resses soc ial ap prova l of a certain kind of co n d uc t, it can h elp to sh ap e social values and realities. The particular harm it creates is pa ssivity an d irresponsibility, th e se nse th at you n eedn't ca re an d won't suffer any of th e co nse que nces if you d on't . It is n ot on ly in line with th e selfish ness su rp lu s an d th e su pp ressio n of our caring impulse , but h elps exagge ra te th e m. Limited liability is o ne of th e ways we let our co rporatio ns evade resp onsibility for their actio ns . For present purposes it is eno ug h to n ote with Ga ba ldo n th at limited liability goes a long way toward sep arat ing corp or at e de cision making from th e effe cts of th ose decisio ns an d th eir co nse q ue nces to others. Thus it h elps to replicat e th e co r poratio n as an asoc ial being, with its morality severely co nstrained by th e goal of maximizin g its own profitability. Like our amoral acto r (or th e afo re m en tio ne d shar k), it look s o ut on ly for itself an d gr abs wh atever it can ge t in th e p ro cess. Now of course th ere are arg u me n ts in favor of limited liab ility, an d I d on't m ean to igno re th em. O n e argu m en t says th at limited liability makes inve stm ents in cor p orat io ns rational, which in turn mak es th e ec on omy fu nc tio n by p ro viding ca pital. It d oes so by allowing stoc kholde rs to engage in the se nsible ac tivity of diversifyin g the ir sto ck p ortfoli os an d th us reducing the ri sks of their investm en ts. Wh y? Becau se limited liability le ts you ignore wh o th e oth er sto ckholders are . Sin ce nobody can co m e after yo u for corporate debts, it doesn 't m atter wh ether you are the rich est stoc kholde r th e d eepest pocket - or th e p oo rest. So you can in vest in a lot of cor p orat ions and not pay attention to any of them . The only risk you fac e is losing th e mon ey you invested. An d you lessen th e risks of that by diversificati on. The virtues of diversifica tion as a fin ancial matt er hardly n eed exte n de d di scu ssion in an e ra in whi ch th e sto ck m ark et is a majo r topic of soc ial co nversatio n . Bu t the idea is that o n e reduces the risk of in vestin g by h olding a reason abl y broad p ortfoli o of sec urities (he n ce th e rise of mutual fu n ds .) If limited liability didn't ex ist, pe ople would be afraid to diver sify be cause diversifying yo ur portfoli o also m ean s diversifyin g your att e n tion away fro m any p ar ticu lar corp oratio n . You'd h ave to put all yo ur eggs in one baske t an d , in the words of Mark Twain , "watch that ba sket" because th e risk of THE PER FE CT E XTERN ALI ZIN G MAC H I N E

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p ersonal liability beyond your investment would be too gre a t simply to le t it ride . You'd want to watch the managers, to look over their shoulders to be sure they weren't ta kin g too many risks . You'd want to find out who th e other sto ckholders were because if th e co rp oration came tumbling down and the creditors started chasing after yo u , yo u 'd want to know th at th ey were able to step up to th e pl at e for their sh are of the liabilities. Iflimited liability didn't exist, corp orate shares wouldn't be so freely tradeable because the risks of investing in any given co rp o ra tio n would d ep end very much on who else was investing in that corporation. This fact would complicate th e information availabl e in th e sec urities m arkets and make it much mo re diffi cult fo r stoc k to trade smooth ly, thus d est ro ying secondary market liquidity and hampering the market's ability to mov e ca pital to its hi gh est-valu e use. So limited liability se r ves a purpose. Bu t not so fast. For the argument I just laid out assumes th at diversifi cation is th e only ra tio nal stra tegy and th at in attention and passivity are legitimate and reasonable consequences for us to bear for th e privil eg e of having efficien t markets . Is this assu m pt io n n ecessarily co r rec t? What would th e world look like without limited liability? Well , for o ne thing, investo rs would learn a lot m o re abo ut th e com p anies in whose stock they were investing. They would want ca re fu lly to study th eir finan cial positions, to be sure, but th ey also would want to learn a lot mo re about th ei r m an agement, th ei r behavior, and the risks that th ey would incur liability be yond the stockholders' investments. Not only th at ; on ce you invest ed in th e sto ck yo u would carefu lly watch the way the co rp oration behaved and might even ta ke the tim e to re turn your proxy card or attend th e an n ual m eeting to try to influen ce th e co rp o ra tio n 's direction. You would demand more information, such as whether you r corporation was em p loyin g slave labor in Burma or ch eating on its ta xes or d estroyin g whol e co m m u n ities. You would care ab ou t th ese issues, at least in part be cause yo u would be concerned about yo ur own liability. But you would care abou t them for anothe r reason as well.

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PHILOSOPH Y OF THE A M E R I CA N C ORPOR ATION

THE PERSONAL TOUCH AND THE EXPERIENCE OF RESPONSIBILITY

The reason yo u would care is th at it is characteristic of us as human beings, as part of our moral an d psychological m ak eup , th at we come to id entify with those things and persons who are clos est to us, with whom we have re lationships. The justificatio n I gave for limited liability assume s th at yo u h ave no rel ationship at all with th e corporation other than to pay you r money and watch yo ur portfolio rise or fall. But imagin e if yo u were investing not in Microsoft but in a small software store th at you in co rp o rat ed and of whi ch you we re the sole stockholder. You probab ly don't want to do all of th e work yo urself, so le t's say yo u hire two people,Jeff and Sarah, to work for yo u .J eff is right out of co llege and doesn 't quite know what h e wants to do with the rest of his life, but you 've exp laine d to him th at you mi ght want to gro w the business into several stores and that he h as a future as a manager and mayb e even as a partn er. Sarah is th e divorced moth er of two small child re n who ne eds to tak e on ext ra work to supplement her chi ld support payments and th e in come from h er firs tjob; she is att rac te d by th e regul ar hours an d reasonab ly stressless nature of the work. Your cu stom ers com e from all walks oflife, but yo u have a sizab le compon ent of adolesc en t boys who regularly buy computer an d vid eo ga mes with hard- earn ed p ap er ro ute m on ey o r allowances. Let 's say busin ess is good for th e first severa l years. Although you often leave Jeff or Sarah in cha rg e of the store, yo u spend quite a bi t of time th er e yourself, and you become friends with both of th em. You h ave lun ch with th em an d sometimes invite th em to your home for dinner. You get to know Sarah's kids, both of whom are into vid eo gam es, and you sp end a lot of time ta lking with j eff about h is future in busin ess an d you r pl ans for ex p ansio n. You start a modest pension p lan and make co ntributions for your employees. They come to rely on you as a source of advice as well as a source of in come and future finan cial security. You also ge t to know yo u r yo un g customers pre tty well, since most of them come by regularly

T HE P ER F ECT E X TE R N A L I Z I N G M ACHINE

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to see what's n ew in stoc k an d to window-sh op , as well as to pl ay th e sam p le games you se t out and to buy new gam es. Bu t after a whil e bu sin ess goes bad. A recession occ urs, co up le d with a n ew interest in old-fash io ne d board ga mes. You 're h avin g a litt le trouble meeting your expenses, and your profits decline by 10 p ercent. You kn ow you co u ld eas ily reco u p th e p rofits by firing eithe rJ eff o r Sar ah an d working m ore at th e sto re yourself. You also kn ow that you could sta rt cu tting b ack on inventory an d sto p su pplying your sa m ple pl ay sta tio ns with n ew games, an d th at would save yo u money too. You figure yo u can ride ou t the re cession by cutting costs an d beli eve th at board ga mes are a fad an d th at vid eo ga mes will soo n b e bac k. Bu t you n eed to wat ch your cos ts. Do you do an y or all of th ese things? in what order do yo u do th e m? Or do you sim p ly swallow th e d ecr ease in profit an d keep your (temporarily) less-pro fitabl e busin ess running? If you d o make adj ustm ents, do you consu lt with Jeff an d Sarah to seek th eir advice an d coo pe ra tio n? o r do you sim ply decid e to keep your own p ro fits up? Well , ch an ces are yo u at least co n sider working with yo ur staff to ride o ut the probl em. Th e reason is th at you kn ow th em as people, yo u have relationships with them , an d you see th em as more th an simply a busin ess ex pe nse. As a result, yo u are unlikely sim p ly to fir e Sara h, wh o h as co me to d ep end on th e income, or to disappoint yo ur custom ers, whom yo u've com e to know and like (in addition to h avin g create d good will with th em that you d on 't wan t to destroy) . You 've come to ap preciate the human ele me n t in your busin ess. Sto ckholders in public corporations don't feel the same way. At least not all of th em do - so me d o , as evide nced by th e rise in socalle d soc ia l resp onsibility mutual fund s, which ca p tured appro xim at ely 2 to 3 percent of th e dollar value of th e mutual fund m arket in 1999 (I' ll discu ss th e limitati ons of th ese fu n ds in chap te r 7) .12 Public corporat ion stoc khold ers don't feel the sam e way b ecause the di sassociation fro m th e co rp oratio n whi ch limited liability m ak es possibl e allows th em to distan ce th emselves fro m th e human effe ct of th e corp orat io n' s behavior to the p oint of h aving to pay n o atte ntio n to it at all, a su bject I'll tak e up in m ore d epth in the n ext chap te r. In short, limited liability breed s irresp onsibility. And

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PHIL O S OPH Y O F THE A M E R ICA N CO R PO RA T IO N

th e de tachment fro m th e co nseq ue nces of co rpo ra te beh avior is equally true , although for differen t reasons, of corp orate boards of directors, a subject to whi ch I'll now tur n. "

dThe re is also a legitimat e question of th e practi cal co n seq ue nce of elimin at in g limited liability, at lea st for lar ge co rpo ratio n s. (We mig h t want to keep it at th e formative stages of bu sin ess to protect risk-takin g en tre pre ne ur s, altho ug h th ere are good argum ents against thi s as well. ) An exam p le will illu strat e my point. As I writ e thi s, Microsoft has 5,355,3 77 ,000 o u tsta nd ing sha res . Now let's assu me that Micro soft go es bankrupt and not o n ly loses all o f its curre n t valu e b ut is left with debts and liabilities of $5 billi on- a fairl y substa n tia l amo u n t, I'm sur e you ' ll ag ree. If we had no limit ed liability, and eac h sha re ho lder were liabl e o n ly fo r th ei r pro-ra ta share , th en eac h shareholder would owe o n ly o ne d ollar a share to Microsoft's cre d ito rs . Do ubl e th e amo un t to an asto un d ing $ 10 b illio n d e ficit and each wou ld owe two d ollar s a share . It 's at least worth asking wh ether this is too hi gh a price to pay for th e el im in atio n of limited liabilty if in fact th e resul t wou ld be more responsible , lon g-term co rpo rate beh avior.

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CORPORATE PSYCHOLOGY 101 , OR ALL THE CORPORATE WORLD 'S A STAGE : THE CONSTRAINTS OF ROLE INTEGRITY

Limited liability forms the backgrou nd structure of the proble m. Bu t the issue is no t just limi ted liab ility. There are other ways in whi ch we h ave bu ilt th e co rp oration to be irrespons ib le. T h e legal co nstraints we 've co nstr uc te d aro u n d modern Am erican co rpora tio ns are com p le te ly in co nsistent with p revaili n g psych ological understandings of free mo ral deve lop ment, wh eth er as described in the wor k ofJ ean Piaget an d Lawrence Kohlb erg or in the feminist revision of th ose th eori es made so influen tial by Carol Gilligan .' These co nstr ain ts tak e two r ela ted forms: one is the co m bin atio n of law an d structure th at narro wly co nstrains th e corpo ratio n in th e e n ds it is p er mi tt ed to pursu e, wh ich I' ve earlier described as th e mandate to maximize stockh olde r profit. The othe r is th e limited an d mora lly stun ted ro le that co rp orate acto rs (d irectors, officers , and stoc kholde rs) are req u ired to p lay in di recting the corpora tio n to ach ieve this goal. More directly, the str uctu re an d laws of the mod ern Am e rican cor poratio n im pel (if th ey d on't absolu tely require ) co rporate actors to mak e these go als th eir own . In so d oing, th ey h ave h elp ed to exagge rate th e lib eral p er version in th e corpora te co n text. Le t m e give an exam p le an d the n exp lain the effects of these con strain ts in turn. T h e Ca r Co rporat ion of Am eri ca (CCA) m an ufactures and sells au to mobiles . As p art of its o ngo ing study of automotive safe ty, the Natio nal Highway Traffic Safety Ad mi n istra (j(j

tion (NHTSA) begins to hold h earings on th e adv isabilit y ofrequirin g all car manufacturers to install airbags in their cars within five years at th e latest. CCA asks its engineering and sales d epartmen ts to study th e issu e, an d th ey report that add ing airbag s would increase the sales price of cars by 8 percent. Alt houg h the regu lation would ap p ly to all car manufacturers an d th e price in cr eases would thus occur across the board, CCA's sales experts conclude that the consequence of increasing prices, even for a safety feature, would lead people to keep th eir cars for two years lo n ger before trading them in . As a result, sales would decrease by more than th e in crease in reven u es. Car com pan ies, in clu di ng CCA, will lose mon ey as a result. At the sa me tim e, th e NHTSA staff has determined that mand atory airbags would dramati cally d ecr ease traffic deaths . CCA h as two alternatives. Ifi t is co nstrained by the cur re n t legal precept that the purpose of the corporation is to maximize stockholder p rofit, its bo ard of directors co uld legitimat ely fight th e regu lation . If, on the ot her hand, th e directors are free to act as mo r al h u m an beings, balan cing th e n eed for co rp o ra te profit against th e in cr ease in safety that airbags would provide, the board might de cide to accept the regulation or perhaps to work with the NHTSA in ac hievi ng some kind of co m p ro m ise. Certainly eac h di rector would be required to co nsult his or h er conscience in decidin g h ow to vote, and because of th e moral fr eedom enj oyed by th e board th ey would be acc o un ta ble for whatever decision th ey mak e ." T he example illustrates both kinds of co ns traints, whic h although relat ed in th at th ey produce th e sam e effec t are noneth eless different in operation . T he first is the legal co nstrain t imposed upon the corporation itself, the narrow moral universe that mandates th at th e corp ora tion m aximize its profit." Th e second is th e

"In fact th e American a u to in d ustr y fought airbag regulations for sixt e en yea rs . "No te that I say "maximize co rpo ra te profit. " T h e law h as never d emanded, excep t in o ne rare ci rc u m sta nce, th at th e co rpora tio n maximize stock

price. (In fact it is questionable wh ether th e law ha s actually ever d emanded tha t th e co rp oratio n maximi ze profi t.) That , however, is the way we 've co me to COR POR A T E PSYCHOLO GY

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constraint under wh ich corporate directors and officers operate, limiting if n o t obviating th eir broader moral selves in order to function within the ro les that the ethic of stock price maximization cre ates for th em. Now constraint in both cases is a problem: it in hibits the freedom of th e corporation and its directors to act in th e manner th ey think most consistent with the behavior of a full moral person by erecting walls around the scope of th eir considerations. By itse lf, this constraint wouldn't n ecessarily prevent th e co rp o ra tio n an d its directors from acting morally, even within limits. The reason is th e legal scope of directorial action, whi ch is governed by a legal doctrin e known as th e busin ess judgm ent rule (BJR) . Th e BJR, in its classic formu lation , is a legal presumption th at in making corporate decisions th e directors h ave acte d with due ca re, in good faith , and in the best interests of the corp oratio n . Because it is a presumption th at is difficult to rebu t, it gives the board a great deal of latitu de in d eciding how to pursue th e goa l of profit maximization. Thus one could argue that directors need not leave their moral compasses b ehind, th ey n eed not gu ide th e co rp o ra tio n to b eh ave irresponsibly, be cause the BJR permits them to bring issues of morality and responsibility into their decision-making process. In other words, o ne co u ld arg ue, th e e n ds are given but th e m eans are not. Look ed at this way, it 's not terribly different from th e natural law of St. Thomas Aquinas, whi ch sees th e en d (of return to God) as a given , with th e m eans to b e d et ermined by human reason in acc o rdance with that end; or Aristotle 's conception of th e end as being the good life, with th e m eans to ach ieving it also to be d et ermin ed by reason. But the answer is not that simple. In the first place, even if we take the position tha t the ends are given but the means are not (and thus that th e m eans can be morally d et ermin ed) , th e given en d is not the elevated one of a return to God or the contemplative life but rather th e less lofty one of stock price maximization. That is to say, even if th e m eans are undet ermined, we must still defend th e end itse lf. Now one could argue , I suppose , that stock price maximisee it, and, as I wiII discu ss in part structure. 68

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zation is as morally justifiable as redemption . But I don 't think it 's obvious on its face - it needs a defense. Second, th e moral judgment of directors acting under th e constraint of sto ck pri ce maximization (or co rp orate profit maximization) , even with the latitude provided by the BJR, is a contingent moralit y. That is, even if we assu me th at th e BJR gives th e bo ard th e freedom to make morally defensible de cisions, the moral freedom of th e board extends only so far as it is consistent with the end goal of th e corporation, th e en d of maximizin g sto ckholder profit. When moral, or, if you prefer, responsible, behavior conflicts with this e n d, responsibility must ta ke a back seat to profitability. A brief exam p le will show wh at I m ean. Pr esumabl y GM, in designing th e Malibu, built what its engineers considered to be a reasonably safe car. We would expect th em to do this if for no other reason than that they wouldn't be able to sell cars that were known to be dangerous. But we might also expect th em to feel some moral responsibility to th eir custome rs to build safe cars, even if this meant a slight reduction in profits, which it mayor may not have ca used . The com p any's d ecisions not to install an in exp ensive safety devi ce that would have prevented the Andersons' harms and not to recall the cars illustrate how corporate morality is a marginal moralit y. For th e co m p any decid ed th at th e co st of d oing eithe r of these things far exceeded the financial benefit, measured in terms of likely damages awards in litigation. On th e margin, profit maximization trumped morality. This is what I m ean by co n tingen t morality: moral behavior is contingent upon its financial rationality. The prestigious Am eri can Law In stitute g rap p led with th e issue of corp orate morality some yea rs ago in attempting to codify and, to some extent, expand the ability of directors to act responsibly. Bu t it fell woefully sh or t. Section 2 .01 of its Prin cipl es of Cor po rate Governance , which sets out the rules of proper corporate conduct, only went so far as to suggest that th e co rp o ratio n , even if corporate profit and sh areholder ga in are not en h anced as a result, (i) must act in accordance with law like a natural person; (ii) may devote " a reason abl e amo un t of resources " to charity; an d (iii) "may tak e into account e thi cal considerations that are reasonably re garded as appropriate to the responsible conduct of business." C ORPOR ATE PS YCH OLO GY

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Now if th ere 's going to be ro om for real moral ac tio n, it 's going to be in this last consideration . But note the limitations: while the institute's principle requires that cor po ratio ns co m p ly with law (th e minimum obligation of any citize n) , charita ble giving an d e th ica l behavior are not required but only permitted. And ethical behavior is p ermitted o n ly within th e bounds th at suc h co n d uc t be "ap pro priate to th e responsibl e co n d uc t of business," wh at ever that m eans. As far as the permissive rath er tha n mandatory n ature of this flexibility goes, on e first h as to co ns ider th e likely beh avior of a corp or atio n and its directors in an environment in whi ch profi t m aximizati on is th e norm. In thi s enviro n me n t, in whi ch co rp o rations are co m pe ting with o ne an othe r to survive, the corporatio n th at can best maximize profits will be the most likely survivor. The m arket will vote th e others " off th e island." H ow does th e co rp oratio n m aximize p rofits? Of co urse it co uld make a better mousetrap . Bu t another way is to reduce expense s. Eth ica l beh avior, res pons ible behavior, is costly. In fact , eth ica l an d responsible behavior is ethical and re sponsible pre cisel y because it is beh avior that we would n ot ordinarily undertak e if o u r own purp ose were to serve ourselves; it is b eh avior th at we would prefer not to undertak e . We would prefer no t to do so b ecause it is in so me way cos tly to us. Oth erwi se it wouldn't be e th ica l at all, but ra the r m erely a means of satisfyin g our own desires; we would do it simply be cause it ser ved our interests. Th e corporatio n th at be haves eth ically and res ponsibly is a corporation th at in curs greater costs tha n corp oratio n s tha t choose to co m ply on ly with th e minimal requirements oflaw. It is p ossibl e th at o u r eth ical co rporatio n will ge nerate gre ate r revenues b ecause its e th ica l reputation may garn er more good will for it an d thus a larger, m ore loyal custo m er base. But thi s last resu lt is h ardly o bviou s on its face , and in any event that cor p o ratio n' s costs would be hi gher an d would offset at least some of th e gre ater r even ues. C

CIt is no acc id en t th at one of th e mo st eth ically ad m ire d corp orations , Levi Strauss, is a pri vately held co m pa ny, o r th at th e publicly held Ben & J erry's, with its fam o us co m m itme nt s to sma ll local su ppliers and charities, felt th e need to sell o ut to a large public co ng lo mera te .

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Thus th e Am eri can Law In stitute 's gra n ting p ermission (whi ch doesn't go be yond the BJR) to corporations to b ehave ethically is no ch ange in curre n t law. It is unlikely to result in an outpouring of responsibl e corporate beh avior. Th e co m pe titive enviro n me n t in whi ch corporations can irresponsibly ex ternalize th eir costs (and thus ga in an advan tage ) with out being h eld accou n ta ble discourages good b eh avior. In order to see this, you don't n eed to go furth er th an the stories with which I began . Cons t ra in t is h armful in a broad e r se nse as well. Devel opmental psychology has something to tell us here . The theories I will be relyin g on, princip ally th ose of J ean Piaget an d Lawren ce Kohlberg," were developed by stu dying an d th eo rizin g abo u t individual human beings, and so they do not offer a perfect parallel with co r po ra te co ns tra in ts. Thus I am m ainly usin g th e st ruc ture of th eir ar gument more than its sp ecific co n te n t to evaluate th e moralit y of th e corp orat ion . Yet th ey ar e re levan t not only by structure and analogy but for two oth er reason s: both Piaget an d Kohlberg saw implications for social organization in th eir work, and corporate direct ors an d man agers are individual human b eings to wh om th ese th eories can directly apply. In any eve nt, the claim I want to make is no t overl y strong: it is simply that in an atmosphere of legal an d p racti cal co ns train t suc h as I just d escribed , n eith er th e corpo ration nor its dire ctors and managers can be expected to behave responsib ly an d accou n ta bly.They d on't h ave th e fr eedom to d o so, an d we don't h old the m accountabl e for failing to do so . THE MORAL JUDGMENT OF THE CORPORATION

The arg u m en t of d evel opmental p sych ology is an arg u m en t about the de velopment of moral au ton om y, that is to say, m oral .II reali ze th at Piaget an d Kohlberg have been accu sed o f gend e r bias in th eir stu d ies, see Caro l Gilliga n , In a DifJerent Voice (Ca mb ridge : H arvard University Press, 198 2). My critiq ue is e n tire ly co nso na n t with ce r ta in a p proaches to cu ltural feminism , so I am perfectly co mfortable rel yin g on th eir studies becau se my arg um en t will begin with th em (as d oes Gilligan) an d th en tak e th e m beyond th eir lim itatio ns in atte m p ting to understand th eir re levan ce to th e problem of co rporate responsibility. C ORP OR ATE P S YCH OL O G Y

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fr eedom. At this point, you might fairly ask why I am talking about moral autonomy when I began this book with a critique of liberal autonomy and grounded th e problem of corporate responsibility in that very critiq ue. Th e answ er is not diffi cult. It is that th e problem of autonomy with which I began is one of a radical perversion of th e Enlightenment conce pt of au to n o my, whi ch h as produced a so cial understanding of autonomy that holds that each individual ought to serve only themselves. One of the two major observations of the critiq ue I h ave developed h ere an d elsewhe re is th at this p erversion of autonomy denies caring and community. It is similar to, if broader than , th e cr itiq ue that Robert Kuttner in his book nv erythingfor Sale has leveled at modern Am eri can soc ie ty, namely,that this pe rversion tur n s everything we value into a market cornmodity.s It is not an arg ume n t th at auton omy in th e original Enlightenment sense is intrinsi cally bad, only that we have made a fe tish of individualism to th e point where it has suppressed th e intuitions that lead us to care abou t one an othe r an d our lar ger co m m u n ities.t That caring itselfis the result of a healthy moral development, and indeed that moral d evelopment is th e development of our maturation in a ca ring manner. Thus the argument I am making here is that corp o rate moral development, which me ans th e free moral development of corporate act ors as co rpora te acto rs, is a preconditi on to res ponsible, accountable corporate behavior. I recognize that in m aking this claim I am putting a p articular sp in on m oral d evelopment. On e co u ld , for ex am ple , argu e that moral developmen t means de ontological moral development, whi ch is th e morality of intentions regardl ess of th e co nse q ue nces. In this way of thinking, outcomes don't matter; what matters is that you mean to do the righ t thing. If I mean to help an elderly lady ac ro ss th e street but a bus blo cks my way an d she cro sses before I can ge t around it, I have behaved morally even though I did not achieve th e result I intended. This d eontological, or nonconsequenti alist, morality is th e morality of Immanuel Kant. It lies in the duty of each individual to act as his own moral rule giver. It is th e duty of every person to ac t in accordan ce with abs tract moral principles that require yo u to universalize yo ur decisions for the purpose of making yo ur actions 72

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internally consiste n t with a ge neral governing princip le, like Kant's categorical imperative. Consequences don't matt er ; you don't h ave to achi eve what you intend, as lo ng as your intentions ar e good and ar e bas ed on a princip le that everyone co uld follow. One of th e most im p or tan t princip les Kant identifies is that of treating each person not as a m eans to th e fu lfillm ent of one's own goals, but as an end in h e rself. To th in k in th is way is to strip mor al action of context and consequen ce and to m ake it a matter of pure intention. While I, along with ma ny others, rej ect the idea tha t consequences don't matter, my argument is not r eally in co n siste n t with a broader un derstan din g even of Kantian m orality b ecaus e it, like Kant's own th eories, winds up requir ing that corporations and corporate ac tors tr ea t others as e n ds an d not as m eans; th at is, it e n ds up arguing th at cor p orations and corp orate actors are not allowed to use others for their own gain. T his is somewhat the same argument I made earlier in th e co n te xt of limited liability, th at co rp o ra tio ns not be allowed to externalize th e costs of stockholder profit maximization onto others. And so I return to th e point I made in chap te r 1, th at th e specific moral theory one adheres to is not especia lly important as long as you u nderstand th at no mo ral development can ta ke p lace within th e co ns tra in ts imposed upon th e co rpora tio n. " It is th at structural point, and not th e particular content of morality, I want to e m ph asize . The opportunity to fr eely make moral decis ions is "It may be th at my ar gu me n t is inco nsisten t with a broad so cial moralit y based in uti litari anism . I have elsewh ere a rg ue d agains t uti litari anism as a n acce pta ble moral alternative and will not re hash those a rgu men ts he re . I sim ply o bse rve th at for uti litari anism to be a wo rka ble m oral fr amework it has to be wid espread within th e soc iety itself- it o nly rea lly works on an individual level in th e perverse form a rticulate d by th e neoclassical ec o no m ists as th e individual pursuit o f wealth maximizati on (alt ho ug h eve n that perversion is devel oped on a soci al scale) . It m ay be th at individual directors, corporatio ns, o r boards ac t to maximize th eir uti lit y; but in a regim e in whi ch co rpo ra te moral judgments a re mad e th e responsibility of th e particu lar corp o ra tio n a nd its board in co n tra st to th e cu r re n t Am eri can syste m, wh ich provides th e profit-ma ximizati on d efense , co rpo ra te decisions mad e to maximize co rpo rat e profit or uti lity need to be acc o u n te d for by th e board th a t m ak es th em . COR POR A T E PSYCHOLO GY

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what is req uired ; th e actual moral fram ework for making those decisions is, for th e m om e n t at least, unimp ortan t. As I h ave no ted elsewhere, "Constraint is th e enemy of moral dev elopment." I won't belabor th e argument (and so I tak e th e risk of oversim p lifying it, but I thin k the m aj or outlines are clear enough) . Psycholog ists believe that for a ch ild to d evelop as a fr ee moral actor, h e needs to be ab le to see himself as part of the process of rule making. Suc h understanding deve lops over time, with ch ild ren be gin n ing th eir moral d evelopm ent under th e severe co nstrain ts of parental r ul es and th e r ul es of games. Chi ld re n take th e r ul es as given and be hav e accordingly, first imi ta ting th e r u les alo n e in a form of codified b ehavior, th en coo pe rating with others in game s, co m p lying with th e rules in order to win, and finally participating in th e process of rule making. In fact Piaget obs erved boys in this latt er stage as arguing about th e rules and learnin g to reach agreement. He co n cluded th at this process is a ce ntral aspect of moral d evelopment. It is through this process that th e ch ild co me s to see hi mself as having a ro le in the creation an d d evel opm e n t of r ul es an d acq uir es a sense of his moral autonomy.' Note that this is an argument that a given process will produce a desirable outcome. In order for mo ral developme nt to occ ur, chi ld ren must be free to coope rate with on e another in th e deve lopm ent and m odificatio n of r ul es and th e resol u tio n of disputes over th e r u les. By th e way, th e fr eedom to cooperate is at least as im p o rtant in Gilligan's evalua tio n of girls' moral development b ecause

'G illiga n doesn 't tak e se rious issue wit h th is in her at tempt to co rrect fo r th e ge nder bias of thi s work. Rather, she sees th e "rules" by which girl s co me to th eir co m p lete moral d evelopment as co n te xtual and relational, more in th e nature of broad er pr in cip les whi ch are adapta ble to circ u msta nces and in whi ch rel ati on ships tak e priority over winning. Thejurisprudential di stin cti on betw een rules and pr inciples is an im po r ta n t one and is ce n tra l to the work of liberal th eorists like Ronald Dworkin, who cha lle nge th e perceived rigidity o f positivism , and J o h n Rawls's articu lation of princi ples ofjustice against whi ch spe cific co n te xtua l ru les are to be measured, as we ll as legal pr agm ati sts (or rea lists) like Karl Llewellyn , who saw almost all legal decision making in co ntext.

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that very d evelopment ori ginates in a coope rative, co nsu lta tive, and contextualized ideal of morality in contrast to boys ' more compe titive ultimate id eal (although of course that competition itself requires coo pe ration ).« Process itself can be constrained. In fact some kind of constraint is n ecessary for process to exist. Think for exam p le of th e process of a criminal trial whi ch, while designed on principles of procedural fairness, fo llows a formal, stylized approach. While th e procedures may h ave developed from a process of moral reasoning abou t what a fair trial requires, this won't do for moral development itself; tha t requires an unconstrained ability to ex pe r ien ce th e fr eedom that Kant assumed was a precondition of moral behavior and th at developmental psychologis ts see as essen tia l to moral maturity." So whil e one might argue that th e co r po ratio n has some process opportunities - to participate in the passing of corporate legislation, through the requirement of stockholder voting, through the compliance by directors and officers with co rp orate bylaws - this is really little process indeed (as I will argue in greater detail later) and in no way fr ees th e co rp oration to d et ermin e its ultimate en d . And that end of course constrains all corporate actors in their behavior through whatever governance processes are provided for the cor poration . This last observation requires me to repeat one point; th ere are perfectly resp ectable moral theories in which en d s are taken as given , from Aristotle 's ideal of th e good life to Aquinas 's goal of redemption to the utilitarian notion of the greatest good for the greatest number. In an important sense, though, eac h of th ese th eo -

gl want to be clear that I reject th e esse n tializatio n of ge nde r types that ha s been drawn from Gillig an 's work. Although sh e co n tra sts boys an d girls as a general matter in he r stu dy, it is clear th at boys are as ca pab le of " fe male" moral d evel opment as girls are of "ma le" moral development. I, for exa m ple, co nside r myself to have a m oral charac te r far m ore like th at of Gilliga n 's girls th an Piaget's boys , and my scholarl y work has refl ect ed this . So has th e work of man y cr itica l scho lars. "In fact , this very cr im inal process can itself be see n at lea st in part as th e outcome of moral d ecision making. CORPOR ATE PSYCHOLO GY

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ries begins with a prin cip le of morality th at justifies th e en d and works towa rd that e nd. And, as I n oted ea rlier, eac h of th ese ideals ultimately serves a p urpose that go es beyo nd n arrow egoism - it goe s b eyond m ere self-satisfa ction. Th e co r po rate en d of sto ck price maximizatio n does n ot do this. It is an ethic of pure selfinterest. Moral b eh avior -whatever your moral th eory -is d ifferent. It is be havior that by definition takes accoun t of the conc erns of others . It's also a precept of ever y m aj or re ligio n . Corporate constraints ret ard, if th ey don 't co m ple te ly block, th e developm ent of such atti tudes. As an end state of moral deve lopmen t, the cu r re nt state of affairs simply won't do .

THE PLAY'S THE THING

A seco nd level of con strain t relat ed to th e first is that imposed on corporate actors whe n the y are acting in the name of and on be half of th e cor pora tion . This brings us to th e problem of ro le morality. T he te rm " ro le morality" might not be readily recognized by all readers, but it is a con ce p t fami liar to all of us. Role morality simply m eans th e rules of b eh avior and so cial ex pecta tio ns we have of people who p erform specific fu nctions in the course of performing those fun ctions. One hotly d eb at ed ro le whi ch carries with it a particu lar kind of moralit y is that of a lawyer. In the American system ofjurisprudence , lawyers are sup posed to vigorously defend th eir clients to th e best of th eir ability an d with out co n su lting th eir own fee lin gs about th e clie nt's behavior or p urpose.' Recent examp les of th is in th e p ub lic eye include th e O . J. Simpson trial. T h e question of wh eth er or not Simpson actually murdered his wife, Nico le, and h er frie nd Ro n Go ld man was no t o ne whic h hi s lawyers add res sed; th eir ob ligation was to atte m p t to create a reasonab le 'T his is an oversim plificatio n . T he re is an ac tive d eb at e over whether and wh en a lawyer o ug h t to co ns ult her own feelings abo ut a m atter in representing a client, and th ere are of co urse rules of e th ics that lim it how far a lawyer ca n go in th at representati on - avoid ing fr aud, for exam ple . But th e sta tem ent is ge ne ra lly accep te d to be true , and the arg u me n ts are on th e mar gins of co nd uc t, not with th e ce n tral premise .

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doubt in th e jurors' minds abo u t wh ether Sim pso n actually did it and to use th e rules of evidence , procedure, and constitu tional protection to evade facts tending to show th at h e did . I was recen tly listening to two of Sim pso n's lawyers, Bar r y Sch eck and Pe ter Neufeld , talking about the trial with Terry Gross on National Public Radi o 's Fresh Air. Gross aske d th em directly wh ether th ey in fact b eli eved th at Simpson had not co m m itte d th e murders. Sch eck responded , with a tone of surpr ise, th at in effect they h ad n ever aske d Sim pson th e question ; h e sa id h e h adn't don e it an d as his lawyer s their job was not to verify his denial but to gain an acquitta l.' The qu estion of wh ether Simpson h ad actually murde red two peopl e wasn 't eve n on th e tabl e as far as th ey were co ncer n ed. T h is kind of co nve rsa tio n bothers m an y p eopl e. An d crim inal defen se lawyers hav e r eady an swers, including the ce n tral an swer that th eir job as lawyers is not to sit in judgment of the ir clients but to co nvince j uries to acq uit within th e pro cedural rules of th e legal system . After all , a verdict of not guilty doesn 't necessaril y mean that th e defendant didn 't d o th e ac t with whi ch h e was charged; it o n ly m eans th at th e prosecutors hav en't proved it beyond a reason abl e doub t. That is th e ro le our legal and social syste m s cr ea tes for cr im in al d efen se lawyers. While we m igh t n ot want to do th ei r j ob p recisely be cause we don't like havin g to be in the position of defendin g p eople we suspect mi ght h ave d one b ad things, an d whil e the very n eed for thi s ro le m igh t mak e us un comforta ble , we acce pt th e lawyers' defense of themselves as morally adequate because we have agreed to create th e rol e fo r a purpose th at , all things co ns ide re d, we b eli eve to be worthwhile. But it isn 't just about lawyers. There ar e lots of soci ally constr uc te d ro les, eac h of whi ch h as its ex pecte d n orms of beh avior. Because we have agreed to cr eate the roles, the norms of behavior th at go with th em provid e an ade quate m oral d efense for th ose wh o are ac ting within th em. So , fo r exam p le, d octors, clergy, p arents, policemen , spouses, and friends all have roles tha t car ry with them rules an d ex pectatio ns. O f co urse so do m afia bosses, drug kin gpins, prostitu tes, and terrorists. Th e difference b etween the first and second se t of ro les is th at we h ave co llec tively d ecided th at the C ORP OR ATE P S YCH OL O G Y

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first are so cia lly desirable and n eed th e set of rules that d efine th em in order to fu lfill their fu nction, whereas the second are socially undesirable and th erefore th e rules that define th em and co n strain th em are illegitimate (and ge nerally illegal) . This do esn 't n ecessarily mean, as the cri minal defense lawyer example makes clear, th at eac h of us as an individual ap p ro ves of wh at th e ro le requires in whi ch case we ea ch have the ch oice of refusing to take on the role in the first p lace . Nor does it me an that we don't argue ab o ut th e limits of wh at th e ro le requires - clearl y we do. But th e co re of th e role and the r ul es are things that we take as acceptable in order to m ak e our soc ie ty fun ction in th e way we d eem best. So let's look at th e rol e of th e co rporate director. In th e first p lace , it is important to remember (for reasons that will soon be come ap pa re n t) th at co rp ora te directors act on beh alf of an artificial person. Is the role of a person whose so le objective is to maximize stockholder wea lth a legitim ate ro le, especially if it means imposing substa n tial costs on oth er people an d societ y an d ge tt ing away with it? This is a question abou t whi ch reasonab le p eople mi ght disagree. So first le t's con trast it with the crim in al defense lawyer 's role an d several other socially accepted roles as well. Then, in the next chap te r, I'll look at th e legitimacy of stoc kholde r wealth m aximization as a moral construct in itself.

THE NATURE OF THE BEAST-TYPES OF ORGANIZATIONAL MORALITY AND THE CORPORATION

In order to make the appropriate co n trasts, let's be gin with the point I made just above - that corporate directors and other corporate actors hav e rol es th at ar e organizational, not individual. In order to analyze these organizational roles, in order to see whether th ey ar e morallyjustified , we first n eed to ex am ine ex actly what th e nature of th e corp ora te organization is to determine wh eth er we approve of it as a ro le-creating ins titution . Th ere are two basic types of organization . In one th e participants have a com m on goal. A symphony orchestra or string quartet is a good example: each member of the organization does some78

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thing individually, but th ei r co m mon goal is to pl ay music as beau tifull y as possible. A team of su rgeo ns and nurses is another: th eir go al is to m ak e a patient well. The poin t is th at wh ile eac h of th e m embers of th e o rgan izatio n h as a given ro le, that ro le is design ed to work in conc er t with those of the others to achieve a com m o n en d . In the oth er type of organ izatio n, p eople co me to gether to fulfill the ir individual goals but n eed the cooperation of ot hers to do so. A stoc k brokerage fir m is a good exam ple. Eac h stoc kbroker wants to make as much money as sh e can . Ea ch can accomplish this goal alo ne, buyin g a sea t on th e Ne w York Stoc k Exc hange or working over-the -cou n ter, perfor ming h er own resea rch , an d hi ring h er own office staff. But there are synergie s in stockbrokers working toge ther th at ben efit all of th em in th e pursuit of th eir individual go als. It is far cheape r for th e firm to hav e o ne m ember with an ex change seat, a com m on research dep artm ent, an d a common legal co m p liance staff an d back office. Eac h broker has h e r own clients, however, and th e work of one broker does n ot depend in any important way o n the work of th e other brokers. Whil e th ey work togethe r, th ey do n ot in any m eaningful se nse work as a team . It is clearly a very distinct kind of organiza tion from an orchestra or surgical team . The principles that bind these teams are also importantly differe nt. The legal philosopher Lon Full er described wh at h e calle d two prin cipl es of human assoc iation. " The first principl e is o ne of sh ared co m mitm ent an d binds the members of th e organization by th ei r co m mon goal. Organi zati on s of this type can be ex pecte d to share a st ro ng se nse of co m m un ity an d close relation ship , for eac h of the m embers n eeds the oth ers to ach ieve h er goa l. Thus religiou s in stituti ons, universities, eve n co un try clu bs ca n ex h ibit thi s princip le. In co n trast to these are organ izatio ns whi ch Fu lle r describes as bound by th e legal p rincipl e . T hese are organ izatio ns whi ch are held tog eth er by formal rules, rules whi ch set out th e ri ghts and duties of the m embers. T hese organ izations tend to be mo re fo rmalisti c an d procedural in operatio n and, whil e the m embers may sh are th e same goa ls, th ey ar e ch aracterized more by the individual C ORP OR ATE P S Y CH OL O G Y

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cla ims each has on th e other (and on th e organization) in th e pursuit of those goals than associations based on th e principle of shared commitment. So if o n e sto ckbroker decides to p lay go lf more frequently th an h e sp ends time in th e office, th e other sto ckbrokers are unlikely to get too upset, as long as the leisure-lovin g sto ckbroker is p aid acc o rd ing to his effo rt. Th ey may sn eer at his lazin ess, or they may be envious of his abi lit y to enj oy life, but the y are un like ly to fee l betrayed . If, however, the principal bassoonist fai ls to practi ce, th e e n tire orch estra will be em bar rassed in its p erfor mance of th e Rite of Sjning and will justifiably fee l she h as let th em all down. Whi le not exac tly parallel, it should be clear th at organ izations in whic h th e m emb ers share a goal are mor e likely to be organized along th e princip le of shared com m itme n t, and organizations in whi ch the goals of the members are more individual are more like ly to be organized arou n d th e legal prin cipl e. T he fo r ms of organization an d th eir organi zin g prin cip les ar e not pure - most human associations exhibit characteristics of both . Ye t as the examples of th e orch estra and th e brokerage firm I d escribed above exe m plify, there are im p ort a n t d ifferences) Perhaps the m ost important difference is in the ro les of th e m embers. In organizations th at are based on com mon goals, th e m embers are more likely to subordinate their individual interests to th e good of th e group in ac h ieving th eir goals. T h e bassoon ist may not feel like practi cin g - in fact sh e mi ght feel like p layin g gol f. But with a perfor mance co ming up, she fee ls an ob ligation to the entire organization th at lead s h er to forego h e r pleasure for th e ben efit of the gro up. In orga n izations like the brokerage h o u se that are based o n in divid u al goals, me mbers are less likely to worry abo ut interfer-

iFu ller recognized th e rea lity o f Ame rican soc ie ty th at th e legal princip le appears in almost all forms of h um an organizat ion and bemoan ed the fact th at o nce it to ok h old it h ad a co lon izing tenden cy, lead ing to th e grea te r formalization , proceduralization , and legalizatio n even of organizations based on th e principle of shared co m m itme n t. Whi le I j o in Fu ller in regr etting th is observation, it is only tan gential to th e purpose for whi ch I share hi s arg um ent. 80

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in g with co m mon goals th e organ izatio n m ay h ave to th e ex te n t that their own interests are impeded in so m e way. It's hard to imagin e a stockb ro ke r sacrificing so me of what she perceives to be h er fair share of pro fits in order to m ake th e ot her brokers better off. O r to forego pl aying golf in order to he lp everyone earn a few cents more in th e co m pany p rofit-sh aring pl an . Th e ex t raordinary m obility of brokers am o ng firms, with b roke rs regularl y leaving th eir firms for the hi ghest bidder, is evide nce of th is. (Regr ettab ly the same te n de ncy h as become quite pronoun ced in law fir ms, in whi ch the sense of com mo n goal seems largel y to have been supplanted by th at of individual goals. The same tendency is o bse rvable even in unive rsities, wh e re star scholars h op from ap po in tment to ap poin tmen t in searc h of th e best de al.) Now what kind of o rgan izatio n is th e co rpora tio n? Clea rly moder n Am eri can public corporatio ns, as legal cre atures, ar e organize d alo ng th e legal principle. Co rp o rate law goes to great len gths to establish th e rights an d obliga tio ns of th e m embers an d to defin e who is included and who is excluded from whatever community of interests the corporatio n is. In fact, as I h ave demonstrat ed at great length elsewhere , th e ten dency of co rpora te law ove r th e p ast ce ntu ry h as b een cons iste n tly an d marked ly to replace any se nse of common purpose with a very in d ivid ualized co nce p t of compe ting legal ri ghts and du ties . And th is tren d has been aided in re cent decades by n eocl assical econ o m ists who h ave arg ue d that th e co rporati on is really n othing mo re th an a co llec tio n of individuals pursuing th eir self-interest and bound to ge ther by a se t of loose, co n tractually based rul es - a free market within a sh ie ld of limited liability, if you will. But the corporation also exh ibits ch aracteristics of the other type of organ izatio n as well. Fo r th e m odern Ame rica n corp ora tio n has one go al, and it is the goal toward whi ch its members are bound to work; th at is th e m aximization of its stock price . In this resp ect it is like th e orc hestra. U n like th e orchestra, h oweve r, in whi ch th e members presumably also have individual interests whi ch th ey subo rdinate to th e co m mon good (golf or side gigs in wedding quartets, for ex am p le ) , corp orate law presumes that individu al interest can, if unrestrained, trump th at co m m o n interest, and so the legal C ORP OR ATE P S Y CH OL O G Y

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r u les ar e tigh tly con st ruc te d to attem pt to prevent this , to keep th e me mbers within their appropriate ro les.

THE LEGITIMACY OF THE ORGANIZATIONAL GOAL

With this in mind, let's focus again on th e legitimacy of th e corp orate goal and of the ro le it creates for corporate actors. The crimin al defense lawyer, as we n o ted , h as a narrow goal an d a broad goa l. Th e n arrow goa l is to defend h er client to th e best of h e r abi lity. T his n arr ow goal is individualistic: it is the respo nsibility of each cr im inal d efense lawyer to eac h of h er clients. But th is n arrow goal is in complete without th e broad goal. That broad go al is a societa l goal and transcends the goal of th e individual defe nse lawyer. In fact it ca n n ot be acc om p lished without th e e n tire co m m un ity of criminal defense lawyers and indeed th e en tire crimin al justice system . T hat goal is to e nsure thatjustice is achieved. Now you might obj ect th at this is also th e rol e of th e crim inal defense lawyer individually, to achieve j ustice for h er individual client, an d th ere are resp ectab le arg u me n ts to support th at view. Bu t it is a disputed view, and one th at may be at odds with the rules of pro fessional respo nsibility th at th e criminal defense lawyer is o bliga te d to follow. If you aske d crim inal defense lawyers (at least th ose who stay in business) , and especially if yo u asked their clie nts what th eir ro le is, I suspect th e answ er would be to ga in acq uittal for th e client within th e rules of th e syste m. In any even t, thi s is n ot a debate I choose to enter, no r is it necessary that I do so , for th e con t rast is clear en oug h . Nobody, I think, co u ld legitima tely arg ue that the goal of crim inal defense, as an in tegral part of the crimin al justice system, is to obtain acquittal for every defendant - th ere are, afte r all, p eople who ought to sp end tim e injail. Looked at as a rol e in an ove ra ll so cial syste m , it is instead to p rotect persons accused of crime s from th e unj u st use of stat e power, to act as part of a system geare d toward doing justice. That is why we h ave th e crim inal justice system and the practice of cri minal defense as an integral part of th at system. T h ere are other ro les in which th e in divid u al and soc ietal ro les are the same , or at least overlap . T he ro le of parents is to provide 82

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for, nurture, and rais e th eir ch ild re n. The ro le of tea ch ers is to educate. T he role of doctors is to cure th eir patients. Each of these ro les, like that of th e criminal defense lawyer, is designed to ach ieve a goal we d ecid e is valuable. Each of th ese goals, and th erefore eac h of th ese roles, see ms defe nsible on its face . T he persons who perform th ese ro les do so with an eye to th e good to be acc o m p lishe d . T he single ro le of the corporation as it is understood in modern Ame rica is to ma ke m oney for the stockholders. Like th e ro le of the crim in al defense lawye r, this ro le really can be p layed out only as part of a system, in this case as part of the market system whic h allows th e corporation to purchase in pu ts and produce o utp uts from suppliers an d for cu sto me rs. The systemically justified goal is to increase overall societal wealth. And as we h ave struc tured the cor poration, it also , like th e crim in al d efense lawyer, has an individua l ro le, namely, to increase th e wea lth of its stockholders, without regard to th e wealth of others (and protected in th is endeavor, as I discuss ed ea rlie r, by th e m antl e of limited liability) . Is th e cre atio n of stockholder wea lth a defe nsible role? In order to evaluate this, we n eed to know wh eth er th e pursuit of wealth itself is a legitima te goal.

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IS WEALTH A VALUE?

If our defense of th e role of the corporation and its directors and managers is to rest on our approval of th e purpose of that role, we must first determine wh eth er th e goa l of th e co rp o ra tio n is one of which we approve . That goal is stock price maximization. Put more directly, th e goal is to create wealth. So th e question is wh eth er th e pursuit of wealth is a legitimate goal. At firs t blush (especially in turn-of-the-century America) , th e answer appears obvio us ly to be a reso un ding yes. Wealth is good ; more wealth is better. Money makes the world go 'ro u n d , and with it we can do gre at things. Even to ask such a question seems to bla spheme o ur nati onal faith. And in th e co n te xt of the corporatio n it appears almost silly: Wh y do we have corporations if not to create wealth? But th e an swer is not so obvious. In th e first pla ce, co rp o ratio ns do important things like produce goods and services we need and create jobs for p eopl e, not on ly to allow th em to earn th e bread th ey need to live but to provide so m e sense of personal fulfillment (although obviously work is not th e only way in whi ch p eople find fu lfillme n t). But th ere 's more: Th e pursuit of wealth for its own sake , an activity we have directed the corporation to engage in , is an e m pty missi on . More wealth d oesn 't m ean a better society o r better lives. In order to give moral meaning to th e accumulation of wealth,

we n eed to understand why it is important. Wealth in itsel f has n o valu e. Bu t it is the value by whi ch the corp oratio n lives. The philosopher Ronald Dworkin provid es an in teresting analysis of wh ethe r weal th itself is a value. ' If it is, th en th e ro le we h ave given corporatio ns (and by extension co rpor at e actors) clearl y is a defen sibl e o n e, an d ou r on ly co ncern is over th e rul es that g uide th em toward this en d . If it is n ot , then th e d efense of co rpora te b ehavior is illegi tim a te, an d the role moralit y of cor p orate actors is in fac t a fo r m of immoralit y. So is wealth a valu e? Dworkin says no , and I agree. He be gins to answer thi s question by d escribing a view th at characte rizes an influential strain of mode rn economic thin king, that maxim izing soc ial wealth is a valu ab le thing to do . In re aching hi s co n clusio n, he goes th rough a series of arg ume n ts by wh ich one co uld reach th e o pp osite result. On e se t of argumen ts treats wealth as an en d in itself. Social wealth is part of socia l value , eithe r b ec au se it is soci al valu e o r becau se it is in itself jJart of soc ial value . A secon d se t of arguments tu r n s on th e effect: th at wealth is a tool of soc ial value , either becau se it causes oth er kinds of so cial improvements or becau se it may b e u sed to brin g abou t othe r impro vements. A th ird kind of argu ment is that weal th is "a su r rogate for so cial valu e " b ecause the maximizing of social wealth would produce other thi n gs we care about, like overall happiness, more effe ctively than if we aimed to in cr ease ove ra ll h appiness directly. The first set of argumen ts, th at wealth is a co m pone n t of soc ial value, must re st on th e valu e of wealth itself. This class of ar gumen t is different fr om in strumental arg ume n ts - it doesn 't claim th at wea lth will lead to othe r things; rather it arg ues only that a soc iety th at h as more wealth is be tt er than a soci e ty th at h as less wealth sim ply by vir tue of th e fact th at it has m o re wealth . H ere 's an ex am p le . Le t's say you would like to have my beat-up old Vol vo wagon becau se you th in k it is a classic. I would sell it to you for five th ousand d oll ars, an d you, wh o really must wan t it, would pay six th ousand. If th e govern m en t simply to ok the car from me , thus saving u s the cos ts of bargaining an d writing co n tracts, an d gave it to you , that would in cr ease wealth. It would move the car

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from a lowe r-valu ing user (m e) to a h igher-valuing user (you) . The car is worth six thousand dollars to you and only five thousand to m e . Thus overall so cia l wea lth wou ld be in cr eas ed. As a matter of in cr easing so cial wealth th ere would b e no point in for cin g yo u to pay me an ything because five thousand dollars of the value - th e five thousand yo u would p ay m e - wo ul d simply cancel out, an d th e remaining one thousand dollars rests with yo u be cause you valu e th e car more highly. Soci et y is wealthier by one thousand do llars . Of co urse I'm o u t five gra n d , but my own situa tio n isn 't important when we 're talking about the wealth of society as a whole . But is soc iety rea lly m ad e better off b ecause of this in cr ease in overall wealth ? Dworkin thinks n ot, an d I agree - for we hav e to ask what it is about society that is better. We can immediately see th at th ere is some th ing worse abou t it, an d th at is th e practi ce of co nfiscating property from som e p eople and giving it to others. Surely th is seems unjust in a society that values private property, at least without more justification . Is th at justification provided simply by th e increase in societal wea lth? Is the socie ty better as a result of this transaction simply because it is wea lthier?" Dworkin is care fu l to clear away th e possible answ er that the society is better off because overall utility is incre ased ; that is, be ca use you would deriv e greate r satisfac tio n from th e Volvo th an I do . We've said nothing about who derives more satisfaction from th e car, and because we h ave no way of m easuring satisfaction obj ectively we can 't. Th e question of utility, whi ch utilitari ani sm d efin es very broadly as satisfac tion , is not the same thing as th e question of wealth - th at is, mon ey. So we must answer th e qu estion ofwh eth er th e soc ie ty is b etter off only on th e ba sis of wh ether more money in itself makes th e society be tter. If you r answer is yes, th en yo u must exp lain why. Remember first that we are talking about the wea lth of a so ciety, not of its individual "Dwo rkin persuasively sho ws how rules th at require th at you co m pe nsate m e by assig ning one of u s th e rights to th e ca r are only in strumental to th e goal of in creasin g socie tal wealth - in othe r words, th e question of whether a socie ty th at has more wealth is better th an o ne with less wealth is a philosophical question independen t of how o ne ge t~ th ere.

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citize ns. So why does an overall in crease in wealth n ecessarily m ake the wh ole soc ie ty better off? Even if the in crease in soc ial wealth m ean s an in cr ease in th e wea lth of every o ne of its citize ns, d oes it mak e th e soc ie ty bette r off? If so, why? Is it b ecau se wealth lead s to greater happiness? Not ne ce ssaril y. Go rent Citizen Kane at your local video store an d wat ch it for proof to th e co ntra ry. If wealth in cr eases h appiness, it is only b ecause of wh at it can do for you . Every body kn ows that a ro om full of cash d oesn 't mak e you h appy sim ply becau se you p ossess it. But what about the second argumen t in this class : social wealth is o n ly one co m ponen t of soc ial value? That is, th ere are many things that mak e a soc iety better, and more wealth is o ne of th e m . This requires us to lo ok at all of the co m p o n ents of social valu e and ask whe the r it mak es se nse to think of trading off ce r ta in co m po nen ts of greate r value for m ore wealth. Dworkin uses th e exam p le of trading off so me m easure ofjustice for an increase in wea lth. If we think th at taking th e Volvo fro m m e an d giving it to you is unjust, is it justified by th e fact that it increases social wealth? Before go ing o n with this lin e of arg ume n t, let's look at wh at it implies. To say th at o ne can tra de off one soc ial value like j ust ice or fairness or equality or liberty for anothe r, like wea lth, implies that eac h of th ese social values is me re ly a preference, like th at ofa chi ld in the sch ool cafe teria who trades his Oreos for hi s friend 's pota to ch ips. To accept th e id ea that soc ial values are n othing m ore th an preferen ces-like potato chips over O reos-is to say, in effect, th at moralit y orjustice or liberty or wh atever is nothing more th an mere taste. Indeed , so me econom ists have said exactly thi s." But casual refl ection , I th in k, d emonstrat es the error of th is way of thinking . As I've noted , p eople behave in ways they co nsider to b e m oral becau se th ey think th ey sho u ld, n ot becau se th ey want to . It is part of the co nce pt of morality itself tha t wh en you d o so me thing for reasons of moralit y you d o it d espite the fac t th at d oing so me thing else would b etter satisfy your immediate d esires. O th erwise , behavin g morally would sim p ly be an oth er way of gr atifying your urges, an d we wouldn 't nee d no rms of m orality to direct your beh avior in circ u mst ances in whi ch you h ave co n flict ing selfish in terests. I S W E A L T H A VA L U E ?

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To com p le te th e arg u me n t, th en , th e id ea th at we can trad e other soc ial values for in creased wealth makes no se nse on an aggregate societal level because no individual would ra tionally agr ee to d o thi s (and if no individual would rationally do it, n either would society, whi ch , after all, is com p osed of individuals) . The reason you wouldn't do it is th at you wouldn't h ave any guara n tee th at an in cr ease in so cial wealth would in cr ease yo ur wealth - remember, we are talking ab out increases in social wealth without r eg ard to how th at wealth ge ts dist ributed . Mo reo ver, yo u would know th at yo u might well suffer by th e loss of whatever it was that we trad ed to in cr ease o the rs' wealth, just as I suffere d from th e co n fisca tio n of my Volvo to m ak e soc ie ty richer. If you wouldn't ratio nally do thi s, th ere is littl e reason to thin k that we would collectively choose for soc ie ty to d o it. So maximizing soc ial wealth is again off th e tabl e as a defensible valu e. Bu t th en there is th e second class of arguments, the ins trumental arg u me n ts: th at by in creasin g soc ial wealth , for exa m p le, by trading off some other component of so cial value , like justice , for greate r wealth, we in cr ease th ose other co m po ne n ts (like justice) . In other words, yo u mi ght think th at in cr easin g social wealth might so meh ow also increase the amou nt of justic e in soci ety. Bu t th is argume n t is intrinsically in cohe rent. Justice is an en d. Wealth , in this instrumental class of ar gument, is on ly a means to that end. It see ms in coherent to say th at yo u would trad e off more en ds for greater m ean s. Wh y would you diminish the e n ds for m o re m eans if it is ends toward which yo u are aiming? Dworkin ad d resses th e in strumental arg u me n ts - th at a soc ie ty that has m ore wealth can th ereb y achieve other goods - head-o n . He focuses on what he calls th e strong claim, th at increasing social wealth will improve oth er soc ial goa ls, like ach ieving justice or ame liorating poverty. But in order to make this ar gumen t, we first need to know what our other goals ar e, wh at goa ls it is th at in cr easing wealth will ach ieve. Simply in cr easin g wealth do esn 't answer thi s question . What does? One arg u me n t is th at a soc ie ty th at aims to in cr ease wealth breeds gre ate r resp ect for individual ri gh ts b ecaus e in order to m aximize wealth we n eed some initial assignment of rights, lik e the 88

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right to my Volvo . We do , afte r all, h ave to kn ow wh at so meone owns before we know what so m eo n e is willin g to pay to keep that property or wh at so me o ne else is willin g to pay to buy it. But a soc ie ty th at specifies righ ts is not a better soc ie ty by virt ue of th at alo ne. Antebellum American law provided th e right of one person to own another. A m ore efficien t assign me n t of individual rights d oes n ot by itself produce a b etter so ciet y without reference to wh at th ose rights are . Those wh o advocate maximizin g soc ial wealth would arg ue, h owever, th at ri ghts should be assigned in a way th at re sults in maximizin g wealth . This, as Dworkin points ou t, is circ u lar an d doesn 't answer anyth ing. It o n ly says th at you sho u ld h ave the rig h t to my Volvo without givin g an y reason other than tha t it maximizes wealth. We n eed so me indep endent reason to justify th e assign me n t of rights in th e fir st place ; maximizin g wealth sim p ly won 't do unless we can exp lain why we want more social wealth . Even wh en we assume an indep endent basis fo r rights- say, th e right to self-own ers h ip - th e idea of weal th maximization doesn 't provid e an independent valu e. Fo r, th e arg um e n t go es, once rights are in place we o ug h t to arran ge socie ty in a way th at th e subjects of th ose rights wind up in the h ands of their highest-valu e u ser. This, as I n oted ea rlie r, is measured by th e amoun t someone is willin g to pay for those rights- your willin gness to pay six thousand dollars for my five-thousand-doll ar Volvo . But, as Dworkin rightly points o ut, your willin gn ess to p ay depends on your ab ility to p ay. You might be willing to pay six th o usan d for my Volvo, but yo u might not h ave th e m on ey. Questi on s of wealth distribution are logically pri or to qu estions of soc ial valu e. Thus it is n ot at all clea r that pursuing weal th maximiza tion ser ves other important social valu es. Dwo rkin also ad dresses a well-known influential arg um e n t in American cu ltu re familiar to most of us as trickle-down theory. The th eory holds th at a soc ie ty that m aximizes wealth will enco u rage th e individual m embers of th at soc ie ty to maximi ze th eir own wealth , whi ch in tu r n will lead them to produce more for others. They d o thi s by virtue of th e m ech anisms of m arket exc hange, wh ereb y we assume that p eople engage in suc h exc h anges only wh en it increa ses the ir wealth. (They may also choose to give wealth IS W E A L T H A V A L U E?

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to th o se th ey care abo u t - altho ug h of co u rse th ey don't h ave to give an y of it away at all.) Thus, wealth maximization produces b en eficence, as free exc hange in pursui t of your own interest m ak es everybo dy b ette r off. No te th at if other p eopl e benefit fr om o ur maximized wealth, it is no t at all be cause we intend for th em to; th eir impro vemen t is a by-product of o u r own pursuit of wealth . Th us, assu m ing trickle-d own works at all, th e type of b en eficen ce su ch society cr eat es is no t a virtu e at all but rath er a happy accide n t. Dworkin also addresses th e argu me n t th at a soc ie ty of p eopl e who maximize their wealth has th e valu ab le result of achievin g a m ore eq u ita b le distribution of wealth . But nothing in th e th eory assures thi s. Nothing says th at we h ave to d istribute th at wealth in an ything re semblin g an equitable way, and recent eviden ce makes it clear th at in th ese terms m od ern Ame rica is just abo u t th e most unequal soc iety in th e world." More fundam en tal is th e question of wh at a j ust distribution of wealth is. This cannot be answere d sim p ly by re fer ring to th e value of m aximizin g wealth , but must in stead be independently de termined on th e basis of our ideas of what constitu tes a just distribution of wealth . We ca n reach this co n clusio n o n ly by referring b ack to other values. I th in k I' ve spent enou gh tim e on Dworkin's argu ment, but the answer to th e question sho u ld be clear eno ug h: Maximizin g wealth can be d efended as a valu e only by reference to other values. The arg ume n t th at wealth maximizati on is itself a good fa ils because th ere is n o pl au sibl e reaso n to think th at a soc ie ty th at maxim izes its wealth is, for that reason alone , a better society th an one th at chooses n ot to maximi ze its wealth , any more th an an individual would b e. And as a n on-wealth maximizin g law professor who gave up a wealthy life in th e tre n ches for a more modest ivory tower ex iste nce, I can assure you h e 's righ t! I think I' ve said eno ug h n ow to apply the analysis of wealth maximization to the role morality d efense of the modern Ame rica n co rporatio n.

WEALTH A S THE C O R P O R A T E TELOS

If weal th is n ot a value , th en th e argume n t th at the sole legi tim at e goa l of th e corp oratio n sho u ld b e to maximize its sto ckholdgo

PHIL O S OPH Y O F THE A M E R ICA N CO R PO RA T IO N

ers ' wea lth falls. Th e ga me is over, and we can co n tin ue on and th in k abo ut h ow to change th ings. Bu t in order to reach this conclusion, we m ust consid er a furth er argument. You mi ght say th at th e argument we just exa m ine d - even if it is rig h t with respect to individu al human beings and eve n if it is right with resp ect to an en tire so ciet y - doesn't work wh en yo u ap ply it to the corp oration . The co rp oration is, aft er all, on ly a tool in a b ro ader social syste m . It doesn 't h ave the mor al fra mework ofindividual human beings (whi ch of co urse is p art of my point), nor do es it represent society as a whole . Instead th e individual corporation, looked at in divid ually, is kind of like th e cr im inal d efense lawyer wh ose individual ro le is to mak e sure th at his client is acquitted . It is not like th e societal ro le of creating an e n tire syste m of cri minal justice. Th e ap pro p riate way to think abo ut th e co rp ora tion, th en , is not in thi s broad societal way, but only as part of a system, namely, the capita list m ar ke t system, in whic h each corpora tion is just one actor, like th e individual crim inal defense lawyer is one actor in a more co mplex system of justice. In th e more complex economic system, eac h corpora tio n m aximizes its profits in co m pe titio n with other corporations and other fo r ms of business enterprise, ea ch of whic h is seeking to m axim ize its own wealth. You m ight argue that co m pe titio n within th e syste m of free bar gaining checks th e individual co rporation 's abi lit y to ru n roughs hod over society, much in th e way that th e adversary system checks th e crim inal defen se lawyer in his zealo us effo rts to seek acquittal. You might con clu de th at, looked at syste matica lly, there is no th in g wro ng with th e corporation's p ursuit of maximum stock prices. Not bad. But not right. Before I answer this ar gument, let's tu rn to the syste mi c level to see if there 's a defense of th e corporate system th e re as well. I might respond to yo ur arg ume n t by sayin g th at even if th e individual cor p oratio n serves a legitim ate role that is kept in check by th e n eed to co m pe te an d coo perate in a vari et y of m arkets, th e co rporate system itselfis flawed b ecause, unlik e th e crimi nal j ustice syste m , th e goal of whic h is j ustice , the corporate system is d esign ed to maximize stockh old er wealt h . An d wealth is not a valu e. So its maximization can n ot be a legitim ate defense . Bu t agai n yo u h ave an answer. T he corporate system, you might IS W EA L T H A VA L U E ? 9 1

respond , itself is only a part of a broader so cial system. Th e rol e th e corporation plays in this society may be narrow and not in trinsically valuable but taken together with ever yth in g else serves an important fun ction . It 's h ard to disa gr ee with th e id ea that a so ciet y n eeds a certain level of wealth to survive. We have chosen the corporate system as th e prin cipal way to ge nera te th at wealth. Th ere are other systems, other so cial institutions, that pursue or facilitate our pursuit of values we hold to be truly important. Certainly the criminal justice system pursues su ch a valu e; our ed ucational system is designed to aid students in the pursuit of knowledge; our medical system is ge are d toward e nsu ring ad equate h ealth care; religious syste ms tak e care of th e spir itual n eeds of p eopl e; our syste m of taxation is designed not only to supply th e funds to protect all th ese oth ers systems but also to result in a mild d egr ee of in come redistribution. So what's wrong with having an institu tion like the corporation that pursues only one narrow goal? To borrow an idea of th e philosoph er Mich ael Walzer, th e co rpo ra tio n exists in its own sphere and should be evaluated on its own terms and in terms of th e way it fulfills its rol e in th e larger system. So now I have to answ er these very perceptive obje ctions. And th e an swer might be surprising - at least based on wh at I have said so far. The re is n othing especially wrong with viewin g th e corporation this way, as long as it is kejJt in its own sphere. Recall tha t the problem with which we started was th e problem of co rp ora te autono my, of th e pe rsonification of th e co rporation an d th e attributi on to it of essentially all of the rights and liberties our constitu tion guara n tees, all of th e basic lib erties design ed to fulfill th e goals of Enlightenment humans. And re call that the co rp o ratio n is an artificial person, constrained in ways that natural persons are not. By treating th e corp ora tion as if it were a natural person we allow it to run loose in society without the normal moral restraints individual human beings feel , without th e balance of valu es an d en ds th at human b eings ch oose to pursue . Instead, we h ave se t it after a nonvalue (at least when taken on its own) and given it the power of humans with whi ch to pursue it. We h ave thus fors ak en our pow er to re gulate th e corp oratio n , from within as well as without, much in th e way that Enlightenment theory leads us to reject the legitimacy 92

PHILOSOPH Y OF THE A M E R I CA N C ORPOR ATION

of regul ating human beings. But co rp o ratio ns ar e not human beings , and they do no t pursue h uman values. If we were to exe rcise our dormant pow er to regulat e th e corporation, to use th at pow er to com pe l it to internalize its exte rnalities, to cause it to behave respo nsibly and be accountable for its actions, to loosen th e constra in ts of th e co rp o ra te ro le an d th e ro les of corp orate actors, th en the foregoing defense might be enough . Let the corporation maximize stockholder wea lth and use other institutions to keep it in check. This mi ght not be practi cally possible because of the speed and fluidi ty of business. But sure ly it is th eo re tically possible. And th at th eoreti cal possibi lity gives us a defen se. Maybe. But n ot quite . The reason th e d efense is in complete is because it ignores a simple fac t about th e corporation that my re ification of th at institution in th e preceding dis cussion ignored: it is fundamentally a human institution. That poin t is obvious. Bu t it 's more th an the fac t th at th e corporation is a h u man institution th at destroys this arg u me n t. It is th e fact th at it is within th e frame wo rk of that institution that a vast proportion of our population spends a vast amo un t of th eir lives, an d it is within th e fram ework of th at institution that norms are form ed and shaped, values are deve loped, an d individual an d co llective goals are chosen and pursued.h And th at mak es all th e diffe ren ce . The argument is somewhat similar to Robert Dahl's observations in his important Preface to Economic Democracy:" There Dahl arg ue d th at th e modern Am eri can busin ess co r poratio n was hi ghly soc ialistic , a hierarchical institu tion that internally replicated a command an d co n t ro l ec on omy an d in whi ch th e opportunity to develop civic virtue was constrain ed to the detriment of our larger democracy and its values and processes. Now I know that some readers immedi at ely will note th at co rp o ra te m an agement structure h as changed in recent years, that team production and total quality managem ent and outsourcin g and co rp orate n etworks and workers' councils an d th e like hav e flatten ed th e hi erarch y and am eliorat ed th e problems Dahl observed. I will explain why this response is inadequate in chap te r 9 , even to an swer Dahl's arg u me n t. For now, I want "I' Il ex plo re this point in more d et ail in chapte r 9 . IS W EA L T H A VA L U E ?

93

to make a somewhat different argument that starts from th e same concern . Even if corporate management structures h ave changed sufficie n tly to address Dahl 's conce rn s about d emocr acy and civic virtue, the simple fact remains that the corporatio n is designed so lely for th e max imiz ation of sto ckhold er profit. T hat is its telos, its e n d , the goal toward whi ch it drives. Even if co rp orate employees and managers have greater par ticip ation in corporate gove r nance than th ey did wh en Dah l wro te in 1985, th e parti cip ation th ey hav e is to m ake the co rporation better at maxim izing stock price, and they do so sh ielded by th e doctrin e oflim ited liabili ty. We th us h ave cr eated a corp orate society in whi ch most people sp end most of th e tim e e ngaged in the m axim ization of wea lth . From the perspective of our ea rl ier dis cussion , it doesn't matter that th ey may h ave a greate r say in h ow the corporation maximizes wealth. T he re leva nt point is th at we h ave created a socie ty in wh ich m ost people spend mo st of th eir tim e in pursuit of som ething whi ch in itself is not a valu e. T his is the role of the corporation; this is the rol e of corpora te ac tors. The stru cture and laws governing th e co rpo ratio n cre ate a situation in whi ch the American citizenry lea rns to maxim ize profit, to make its decisions in reference to the maxim iza tio n of profit, and to hone its skills primari ly in th e pursuit of m aximizin g profit. How can we reason ably expect respo nsible, accountable, and mo ral be h avior from th e e n ter prise in wh ich th is tak es plac e? We h ave already structured and co n straine d its morality. T here is a broader point h ere as well. Even if we were willing to acce pt th e narrow goa l of wea lth maximization for th e cor po ra tio n, the fact that it h as be come the breeding ground for so much of our social o utlook ca n 't h elp but affect the way we be have in our daily lives. It can 't h elp but in culcate within us a sense that maximizing wea lth is a worthy goal. It ca n't help but affect the way in whic h we see oth ers , relat e to oth ers, situate oth ers within our lives. It can't h elp but exace rb ate th e radical autonomy and pursuit of self-interest that already characterize tur n-of-the-century America. T he corporate goal of sto ckhold er wealth maximization not only destroys the corporation, as I shall show; it also destroys our social fabric.

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PHILOSOPHY O F T HE A M E R I CA N CORPOR A TION

II

STRUCTURAL

TRAPS IN THE NAME OF THE LAW

CORPORATE MANAGERS: DR . JEKYLL OR MR. HYDE?

Corporate misbehavior is not espe cially the fault of corporate manage rs, stockholde rs, and em p loyees. As I have shown, it is the resu lt we should expect from th e legal structure an d r u les we esta blish to create the corporation . And the legal structure and rules we create for th e corporation derive importantly from Am eri ca's broader lega l and socia l culture of radical autonomy. T he corporatio n 's legal struc tu re an d r ul es result in the dictum to maximi ze stockholder profit within th e con fine s of lim ited liabi lity, a di ct um whi ch not o n ly gives m an agers, stockholde rs, an d workers the excuse to be h ave ba dly, but also e n courages th e m to do so. Hav ing made the point in ge ne ral terms, I turn in this part 2 to th e detai ls of th e laws and specific exam p les in order to flesh out the argu me nt. Recall Ro bert Lo uis Stevenson's story of Dr.Jekyli and Mr. Hyd e, a sin gle person with two n atu res, one mild and gen tle and the ot her the embodime nt of evil. This co m pariso n may sligh tly exaggerate th e reality of corp ora te manag ers, but this classi c story offers a useful m e taphor. Co ns ider a corporate di recto r,J ohn , asJ e kyli an d Hyde.Joh n is a person of good moral cha racte r who e nj oys a d istin guish ed reputatio n in his co m m u nity. H e has a fami ly an d is a good fat he r and h usband . He belongs to civic and re ligio us organizations. H e loves his mother. But when h e en ters the boardroom h e abandons the values of h is daily life and takes o n an e nti re ly n ew person ality, that 97

of th e corporation. As I hav e d escribed it, this person alit y or rol e of stockholder price maximizer to th e exclusion of all others is a role that we would con side r pathological if it d escribed a human personality. Yet this is th e personality th at Am eri can co r po rate law creates for John and other corporate directors, the role that the structure of th e modern corp ora tio n reinforces. Not on ly h ave we ch ose n to make our directors Mr. H yde, but we hav e protected th em in that role by absolving the m of responsibility and accountability for their ac tions. Even more, we h ave given Mr. Hyde a co m pe titive advantage over Dr. Jekyll. Absolving Mr. H yde of accountability permits him to reduce hi s corp o ratio n 's costs of production by shifting th em o u tside th e corpora tio n o n to th ose m ost vuln erabl e, th e workers, th e environment, the consumers, and the community. In this chap te r I will sh ow how th e rol e would d eriv e from co rp ora te structure, even if social and economic norms of stoc k pri ce maximization did not exist. Let's sta rt with th e real world . Co ns ide r th e story ofJack Welch of General Electric, widely considered to be America's best CEO (he was recently awarde d a seven-million-dollar advance byTimeWarn er Books for a book about business) . Although th ere is no question that GE 's stock price has climbed th ro ugh o ut his te n ure -in fact , it 's in creased 1 ,200 p erc entl-> h e h as laid off or displ aced th rough dives titure approximately 120,000 workers, many of whom had b een loyal GE em ployees for decades. And besid es its well-known dumping of p olychl orin at ed biphen yls (PCBs) into th e Hudson River and the widespread health problems caused by its Hanford, Washingt on , nuclear pl ant, GE tops th e fed eral govern me n t's Sup erfund list as " p ote n tially responsibl e " for fift y-on e toxic waste sites. Welch 's defense? Maximize stockholder profit. Th e fed eral go vern me n t found th at May Department Stores sold clothing made in California by Thai workers paid fift y cen ts an hour an d h eld to th eir work by threats of r ap e and murder. Wh at co uld b e th e d efense? Maximize stoc kh olde r profit. And as lon g as we give corp or atio ns this defense , we have no right to complain when th eir m an agers beh ave according ly. Corp or ate directors and managers (to whom I will refer to ge th er as managers) generally want to behave well. This is th e conclusion 98

STRUCTUR AL TR APS

of th e e m pirica l work done by sch olars like Myles Mace an d J ay Lorsch. But, as one board consultant I know put it , "Alm ost every director I talk to feels trapped." And th e tr ap they feel is th e imperative to maximi ze stoc kholde r profit, a logical ou tgro wth of th e legal str u ctur e and rules of co rp orate law.

THE STRUCTURE OF THE CORPORATIONTHE PUSH TO PROFIT

I th in k I' ve said enough about the way th e co nc ept of sto ck price m aximizati on creates a serio us co ns tra in t on th e moral b eh avior of corporatio ns an d th eir di rect o rs and officers. But even if we didn't have a norm of stock price maximization , we would still have the basic st ruc ture of Ame r ica n co rpora te law, whi ch by itself is sufficie n t to cre ate almost in surmountabl e in cen tives for corporate actors to look primarily, if not exclusively, to maximizin g stockhold er wealth in performing th eir func tio ns , an d to m ake any more balan ced concept of their roles extremely diffi cult to pursue. This sam e st r uc ture h as, I beli eve, led judges to assu m e somewh at unrefl ectively th at th e purpose of th e co rporatio n is to pursu e stoc kholde r wea lth, even in the abs ence of any clear legal rules or do ctrine to su p port th at id ea. The reaso n is th at th e str uc ture of American cor p orate law is geared dire ctly toward sto ckholder in terests. There are three su pports to thi s structure : voting, d eriv ative litiga tio n (which is th e rig h t to sue di rect o rs for breach of th ei r dutie s) , and sales of co ntr ol. Each one of th ese is th e province of the stoc kholders, an d th e sto ckholde rs alo n e.

THE CORPORATE FRANCHISE

Only stoc kh o ld ers can vote. That is the basi c premise of corp orat e d emo cr acy. As vir tu ally eve ry sta te co rp oratio n statute provid es, directors are to be ele cte d an n ually by th e stockh olde rs. Stockholders get to vote on some other things too, like amendm en ts to th e certificate of in corporati on , m ergers, sales of all of th e cor p oration's assets, and dissolution. This set of voting righ ts, whi ch leaves th e directors in control of every th ing else, is pre tt y lim ited . C ORP OR A TE M AN A GER S

99

But th e fac t th at stoc kholders ge t to choose th e di rect o rs is still a basic le gitimizin g premise of the corp oratio n by whi ch nonowner direct ors m an age on behalf of own er-st ockholders. As the hi ghly influential forme r Delaware chance llo r (n ow law pro fesso r ) William Allen wrote in one case, "It is clear that ... [sto ckholder voting] is cr itical to th e th eory that legitimat es the exercise of p ower by so me (direct ors an d offi cers) over vast aggregates of proper ty that they d o n ot own ."2,a So stoc kholder voting legitimizes th e en tire system. But it d oes more than that, as a brief analogy to political democracy sho uld m ak e clear. Poli tician s are resp onsive to their co ns tituen ts -an d, as Tip O 'Neill so famous ly unde rstood , th e more local , the m o re re sponsive. Cam p aign finan ce reform is a perennial issue , at le ast in p art becau se th ere is so me clear evide nce th at th e biggest d ono rs ge t the grease . MotherJones magazin e regul arl y publish es a list of th e biggest political donors, th e id entities of those to wh om they h ave given m on ey, an d th ei r busin ess in terests. Only an ost rich would ign ore th e power of voting (and the ability to influence votin g) on th e b eh avior of p olitician s. Only th at sam e ostrich would di sregard th e st r uc tu ra l importance of stoc kholde r vot ing to the locu s of in terest of corporate directors. "I am no t co nce rned here with th e effec tivene ss o f voting

ri gh t~ ,

abo ut

whi ch mu ch has be en wri tte n , It ce rtain ly is true th at at o ne point it co u ld be said with som e ce rt ain ty th at sto ckho ld ers p retty m uch ignored th eir p roxy cards, whi ch allowe d th e bo ard esse n tially to co n tro l el ec tions, T he re is probab ly still so me truth to th is, although th e rise o f in stitu tional stoc kho lders, who now co m pr ise over 50 percent of th e public eq uities market (a nd who I'll d iscuss in cha pte r 7), may be hel pin g to make exe rc ise of the co rpo ra te franch ise m ore effective. And it is also true th at in recent years - even lea vin g aside th e cha nges in corpo ra te co n tro l brought abo ut by hostile tak eoverssto ckho ld ers have bee n in creasin gly willing to th row o u t unde rpe rfo rming boards, and boards h ave been more willin g to fire u nder pe r fo r ming manage rs. But regardl ess o f th ese d evel op men ts, th e po in t is still cruc ially im po rtant becau se it creates a structu re th at forces a particul ar focus o n th e stoc khol d ers. Moreover, th e in ch oat e power of sto ckho lder voting, even if it re mai ns largely unex ercised, still gives d irectors a pow erful in centive to look to stoc kho lder in terests. 10 0

S T RU C TU RA L TR AP S

So th e fact that stoc kh olde rs vot e and hav e th e pow er to oust th e board of di rectors and corporate manageme nt is a very powerful in centive for directors and managers to fo cus th eir attention on sto ckholder h appiness, whi ch, for reasons I will discu ss b elow, m eans stockholder wealth.

DERIVATIVE LITIGATION AND STOCKHOLDER SUITS

Another asp ect of co rpora te structure th at create s powerful incentives for directors to keep stockholders h ap py is th e institution of th e d erivative suit. Simply put, directors and cor po ra te officers owe two p rincip al classes of duty to th e co r poratio n: th e duty of care and th e duty of loyalty. The first class of duty, th e duty of care, goes to th e issu e of wh ether directors have don e th eirj ob - in oth er words, whether th ey have both ered to make cor p orate de cisions on the basis of real information about the corporation and whether those d ecisions are rational. Whil e th e duty of care is a loose one and has bee n increasingly diluted over the years by a number of factors (starting with director an d officer liab ility insuran ce an d con tin uing to Widespread statutory provisions that allow co rp o rations to hold directors harmless for breaches of the duty of care) , it n onethel ess ex ists as so me th ing mo re th an a precat ory m essage to corporate directors and officers as to how to go about dischargin g th eir duties. Every on ce in a whi le it r esu lts in successful lawsu its aga ins t direct ors wh o fail to do their j ob . The du ty ofloyalty is a bi t more complex . It holds that directors, officers , an d e m ployees with ce r tain au th o rity are obligat ed to act in th e best interest of th e co rp oratio n. Broadly understood, th e duty of loyalty, also consid er ab ly di luted in recent years, is designed to prevent corp ora te actors from pursuing th eir own interests to th e detriment of the corporation. The duty of loyalty, simply put, is a series of con flict of interest rules. Now as I'v e described th ese duties, one thing sh o u ld be clear : they are owed by corp orate actors to the corporation. They are not, excep t in rar e case s involving m ergers an d co n tro lling stockholders, owed to the sto ckholders themselves. Yet the percep tive reader will note a problem. If the duties are owed to th e corporation , an d C ORP OR AT E M AN A GER S

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th e corpora tio n is run by th e p eople wh o owe th e duti es, h ow can the cor p oration ever su e to enfo rce those dutie s wh en they're breach ed? Wh at board of directors in its right mind would direct th e corporatio n to sue itsel f for breach es of duty? Well , th e an swer is probabl y none . And so co rp o rate law developed th e device of th e d erivative suit . Sim p lifie d as much as possibl e, th e d erivative suit is a two-ste p process in whi ch a stoc kholde r sues the corporation to bring actio n against the direc tors, an d wh en th at fails sta n ds in pl ace of th e direct ors to bring th e su it agains t th em on its b ehalf. That is why it's called a d erivative sui t-the stoc kholde r's right to sue is d eri ved from th at of th e co rporatio n . No w th e d erivative su it h as bee n an object of sus picio n ever since it was de veloped by co urts as a de vice to enforce managerial duties . T he reaso n for th e susp icio n isn 't h ard to divin e. You see , because th e stoc kholde r brings th e suit on b eh alf of th e co rporatio n, an y dam ages that the stockholde r win s are p aid to th e corpora tio n, not to th e stoc kholde r. So stoc kholders h ave littl e fin an cial in centive to spen d time an d m oney bringing these derivative su its, an d th ose th at d o are p robabl y substa n tial enoug h to have so me influen ce ove r th e b oard in the first place . So as a matt er of fin ancial incentive, it's h ard to im agine terribly many de rivative sui ts bei ng brought agai ns t di rect ors. But th ey are brought. So how do we en sure that th e duties of care and lo yalty are e nfo rce d? H ow d o we ens ure th at deriv ative su its are brought? The answer is that th e win ning stoc kholder ge ts to co llec t legal fees fro m th e losers. And so we 've creat ed a party with th e interest to bring th e litigati on: lawyers. The stoc kholde r pl aintiff in d eriv ative litigatio n is almost always a nominal plaintiff. The economic in centives are those of th e lawyer. No body likes lawye rs very much , especially lawye rs wh o have a strong finan cial in cen tive to win a case (or force the corporation in to se tt ling so th ey can co llec t legal fe es) . As a result, sign ifica nt res trictio ns have been pl aced o n stockholders' abilities to bring d erivative suits, including the requirements th at before filin g su it they m ake what is ca lle d a demand on the board to tak e corrective actio ns, p osting b onds to cove r the ex pe nses of litigation if the stockholder do esn 't own a sign ifica nt amo u nt of the stock, an d an 10 2

S T R U C TU R AL TR AP S

en tire series of co m plex rules th at permit di recto rs to di smi ss th e suit if cer tain co n ditions are met." Even within these restriction s, h owever, th e sim p le fac t remain s th at d erivative litigati on is a p otent d evice for keeping corpo ra te management in ch ec k. Perhaps its mo st powerful asp ec t, in light of th e restri cti ons, is the th reat adva n tage a pl aintiff stoc kholder h as in challe nging th e co m pete nce or in tegrity of a co rpora te b oard in a public forum like a court. In order to avoid the n egative publicity th at suc h su its can engen de r, corporate boards are p ron e to se tt le them prior to trial. And whil e the statutes I m entioned earlier can exc u lpate th e board for breach es of th e duty of care, th ey ge nera lly do n ot p rotect th em in cases of breach of th e duty of loyalt y. In addition , typ ical dire ctor and officer liability insuran ce policies create excep tio ns for indemnifi cati on fo r willful acts like loyalt y brea ch es. Fin ally, regardless of financ ial indemnificati on , derivative su its can resul t in e m ba r rassing injunctions again st directors to preven t th em from viol ating th eir duti es. So th e d erivative su it remains an important incentive for dire ctors an d office rs to behave. Beh ave with respect to wh om? Wh y th e stoc kholde rs of co urse. For o ne rul e of d eri vative litigation is very clear: on ly stockholde rs "The re is also a sign ificant soc io logical d ime ns ion to th e restri ction s on deriv ative liti gati on . Most of th ese restricti ons were devel oped at a time wh e n co rpo rate d efendants were represented by what are referred to as "wh ite sho e " firms , tha t is, law fir ms pr imarily, if not exclusively, co m posed o f whi te lawyers of An glo-Saxon d escen t. T hese firm s refused to hire .Jews and other m in o rities, and the plain tiff' s bar co nsiste d largel y of th ose lawyers whom the whit e shoe firms refu sed to hire, th at is, .Jews and o ther min orities. T h e langu age of so me of th e leading cases refl ects a stro ng susp icio n of the motivations of plai nt iffs' lawyers, at th e same tim e that it im pli citly assu mes on ly good faith of th e defendants ' bar and th eir cor po ra te clie n ts. I won't develop th e argume n t he re , b ut it is plau sible , ifnot likely, th at mu ch of th e mo tivation fo r restri ctions o n d erivative litigati on was gro un de d in an ti-Se mitic an d an tim in o rity se nti m en t. Lat e r restriction s, such as th e ab ility of d irecto rs to di smiss deriv ative su its, were m ostly put in place in th e early 1980s and reflect a solicito usness of co rpo ra te m anageme n t by bu sin ess-friendlyj ur isd ictio ns like Delaware and New Yo rk for th e purpose o f retai ni ng th eir co r po rate franch ises. CO R PO RA T E MA NAG E RS

10 3

hav e th e legal standing n ec essary to bring derivative suits." Now there are other directorial duties besides care and loyalty. Beginning in th e early 1980s, more than half of all Am erican states adopted some form of what is calle d a stak eholder statute or co n stitue ncy statute, usually as an amendment to that sec tion of their corporate statute whi ch lays out th e directors' b asic duty of care . These statutes typi call y were passed during a time of rampan t corp o rate takeovers, when hostile bidders bought out the stockholders at premium pri ces, oft en by using large amounts of debt to pa y th em off. In order to reduce the takeover debt, these takeover artists would sell off substantial portions of th e corporations th ey acquired, sometimes for good business reasons, or to reduce costs by layin g off large numbers of employees or simply by closing down factories. The result was th at not only many p eopl e in specifi c localiti es found themselves without work, but also en tire towns that had gro wn up around th e factories were deprived of their principal means of economic existe nce (r emember th e Willow Run case dis cuss ed in ch apter 2) . In order to protect th e ec o no m ic h ealth of th eir stat es, legisl ators added to directors' duties the ri ghts to co n sid er the interests of a variety of corporate constituencies th at were not within th e contempl ati on of corpo ra te law, whi ch , you will recall , ackn owledges only directors, officers, and stockholders. Among th ese constituencies are em p loyee s, cre dito rs, suppliers, customers, and even communities. So it might appear th at th e di rectors' in centives to look only to th e stockholders, on which th e en tire th esis of this chapter is b ased, has been severely diminish ed, and so th e problem I am addressing is more theoretical than real. If that's your idea, you 're wrong. The reason is that while these statutes m ay be on th e books, th ey have very littl e effec t. The reason they are ineffective is threefold . First, a significant number of the statutes apply only in th e circu mstan ces of a hostile ta ke over and so "T he Am eri can Law Institute in its Principl es of Corporat e Governance suggests th at co nvert ib le bondholders, wh o have at least an expecta ncy interes t in co rpo ra te stoc k, ought also to be allowed to bring derivative su its, This suggesti on has not received wide accep ta nc e . 104

5 T Rue T U R A L T R AP 5

do not address problems of co rp o rate accountability in day-to-day ope rations. Bu t there are other fatal flaws. Second is th e fact that all but one of the statutes is permissive, not mandatory. Wh ile th e dir ectors may tak e th e oth er interests into account, th ey ar e not required to . And given the facts of stockholder vot ing and stoc khold er selling (as I will soon disc uss), th ere is very littl e inc entive for directors to ca re about these groups . T hird, and re lated to the perm issive natu re of the statu tes, n ot o ne of them gives th e other con stitue n t gro u ps th e right to su e directors for failin g to tak e th eir in te rests into account. O n ly stockholders h ave standi ng to sue the board. T hat remains the r ule. An d th ere is no r eason stockhold ers would h ave an y in centive to su e dir ectors for fai lin g to co nside r th e in terests of other groups tha t assert a claim on th e co rporation's assets, whi ch claim, if satisfi ed , would dim in ish th e wealth of th e stockholders. So there yo u are; a rig ht (sort of) without a remedy. Stockholde rs are th e o n ly group whose financ ial interests are affect ed by th e corp ora tio n that can hold th e directors acc o u n ta ble. So it 's o n ly n atural that di recto rs ' incentives (at least directors who don't want to b e su ed) are to keep th e sto ckhold ers - and on ly th e sto ckholders - h ap py. Now you m ight h ave two answers to th is. The first is one that stems from corp orate law. Rem e m be r the busin ess judgm ent rule I described in chapter 3, th e p resu mptio n th at di rectors are acting in the best in terests of th e corporation and are th us p rotected from liab ility in th e ab sence of a clear brea ch of th eir duti es (wh ich breaches are asserted in derivative suits)? Well, you could see sta kehold er legisla tion as reinforcin g wh at alr eady exists by virtu e of this rule - that is, that directors have wide d iscretion to run the co rp oratio n and the refore can ta ke th e in ter ests of these gro ups into acc o un t. Maybe so . But recall th at th ey can do so only against th e background of a particular p urpose: stockholder wea lth maximizatio n. And wh ile some of th e sta keholder statutes allow directors to consider th e interests of other stakehold ers on a par with sto ckh old er in terests, the fact re mai ns that on ly stockholde rs can sue . So wh ere 's th e in centive to care? T hat brings me to the second possible answer. T here is an incentive to care, you might say, p ro vid ed by the various m ar kets in whic h CO RPO R A T E M ANAG E RS

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th e corp oration interacts with th ese other stakehold ers . Aft er all, corporations need employees, th ey n eed suppliers and customers, and often th ey n eed th e support, at least in terms of services if not ta x ab ate men ts, industri al revenue bonds, an d th e like, of th e co mmuni ties in whic h they operate . Don 't th ey have a built-in incentive to keep su ch gro u ps h appy? Well, yes, as a gen e ral matter. But gen eral matters aren't especia lly interesting. T he interesting questions occ ur at the margin s, wh eth er in terms of in cr easin g m arginal profit in th e sh o r t te r m or the marginal benefits of externalizin g costs on th ese gro up s to benefit stockho lders in th e lo n g run . It see ms clear th at in order to m aintain profitable co rp oratio ns , direct ors have to m ak e sure th at eac h of th ese groups is kept happy. But the question is h ow h ap py? As th e busin ess sch olar C. K. Pr ah alab ad puts it , "Finance th eory says, in effect, that corp oratio ns should devote r esources to su ch stakeholders only to the point where the marginal dollar spent yie lds at least a dollar in ret urn to th e share h olde rs.:" In other words, j ust happy enough to co ntinue to do business with th e corp oration an d n o more. Just like th e con tingent morality we explored in chap te r 3 . T hi s last an swer assu m es of co urse that each of th ese groups h as so me choice in wh ether or not to deal with a p arti cul ar corpora tio n (leaving aside for th e mo m en t th e question of bargaining power). Sometim es th ey do . As a cu sto me r, for ex am ple, I can selec t from a number of b rands of breakfast cereal or auto mob iles or toothpaste. And I will be inclined to cho ose the one that no t on ly satisfies my preferences but th at I co ns ide r overa ll to be th e best. But wh at if th ere are on ly a few products available? MS-DOS, for ex am ple , as my computer 's operating system, made only by Microsoft. Or what if th e corp oration s com p rising an en tire industry, in order to remain co m p e titive with one another, give somewhat sh or t shrift to consume r interests an d as a resu lt there is very littl e ch oice - as th ere was no choice of cars with airbag s unti l th e mid-r qoos b ecause th e industry ba nded together to fig ht against the proposed regulation requiring th em? My interests are tak en into accoun t on ly to th e ex te nt th at th e board thin ks it's n ecessary to do so, remembering all

10 6

5 T Rue T U R A L T R AP 5

th e whil e th at th ey owe th ei r an n ua l reelec tio n to th e stoc kholders, who are presumed to be wat ching th e stoc k price . Or what abo ut em p loyees? Wh at if they h ave no ch oice at all, like th e citize ns of a one-in d ustry town. I recall several years ago a student in my corp orations se minar said of a hypo thetical steelworke r, "Well, why sho uld th e co rporatio n's board care abo u t him? After all, h e chose to be a steelworke r." Afte r I rath er less than ge n tly pointed out that o ne d oesn 't ch oose to b e a stee lwor ke r in the same way th at o ne chooses to go to a p restigious law school an d accep t an obs cen ely paid position as an asso ciate at a prestigious firm (now star ting at aro un d $ 160,000 a yea r, including bonuses), the stu de n t at least recogn ized th at so me times choices of career, like choices of em p loyer, are limi ted. And when th e corporate board knows th at it h as a relatively ca p tive au dience , it d oesn 't n eed to be quite as interested in its welfare as wh en it is facin g reel ection by a mi raculously mobile capi tal m arket." So the str ucture of directors' du ties wh en co up led with th e rules gove rning de rivative litigati on cr ea tes every in centive for a fo cu s on sto ckholder wealth an d very little reason to care abo u t anyth ing else . SELLING THE FARM

The last aspect of corp orate str uctu re th at gives dire ctors and officers th e in centive to foc us th eir atte n tio n on maximizin g stoc kh older wea lth is th e fact th a t as th e nomin al own ers of th e co rp o ration - which in thi s con text really m eans the voting co nstituency stockholders h ave th e righ t to sell th e corporatio n o ut fro m unde r the management to th e hi ghest bidder. In light of the takeover "O f co urse I recognize th at workers can rel ocat e o r even retrain . But as to th e first point, we need to at least question whe ther we wan t to create a soc ie ty in wh ich co m m u n ities ar e even less stab le th an th ey are, with workers co mpell ed to leave co mm u nities in whi ch th eir families might have lived for generatio ns, simply to m ax im ize sto ckho ld er profit. A~ to th e seco nd, we need to co nsider th e pr acti caliti es of worker retrainin g in an e nviro n me n t of great wealth di sp ari ty, espe cia lly if th e co rpo ratio n does no t provid e and has littl e in centive to provid e tha t retrainin g.

CO R PO RA T E MA NAG E RS

10 7

activity over th e past several d e cades , this right doesn 't require a lot of explanation. While corporations have always been saleable either by merger or sales of their assets, transactions which require stockholder approval but also board approval, th e d evice of th e tender offer allows bidders to circumvent the board and go directly to the stockholders. For whil e m ergers an d asset sales are transactions directly involving the co rp o ratio n and thus the board, tender offers are nothing more than public offers to the stockholders of th e co rp or atio n to buy th eir sto ck. Thus th e management ca n stand helpless while th e stockholders sell control to a person or corporation that is likely to promptly issu e a series of pink slips in the boardroom . This r eality has th e effec t of fo cusing th e dire ctorial mind rather sharply on th e issue of stockholder wealth . Th e legally sophisticated reader knows th at I'v e just overstated my case. In th e first place, she will argue, there are a number of judicially approved defenses that, at least when exercised within proper leg al limits, let th e board gain co n t ro l or at least influen ce the outcome of a takeover contest. Almost everyone has heard of poison pills an d an asso r te d vari ety of other co lo r fu l tak eover d efenses . There are also statutes, developed sin ce the mid-i qd os, which can be used to impede an d sometimes all but stop takeovers. So in fac t th e board h as a ro le, and my argu men t abo u t in centives goes too far . Not true. The board can have a role - but it's a role within limits and a rol e th at can be ove rco me. As to th e limits, tak eov er d efenses are measured by judicial tes ts that seek to determine whether th e board is ac ting in th e best interests of th e sto ckholders -yes, th e stockholders - or simply seeking to entren ch itself in offi ce . While th ese tests aren 't perfect, they do provide a measure of scrutiny as to th e board 's motives in resisting a tak eov er, an d some number of boards have been forced to remove these devices when the tests haven't been m et. In addition, if th e board is actively seeking to sell th e co m pany, it is co nstrained by a requirement th at it do so at th e best price available - that is, it cannot use defensive devices to keep out bidders who m ay fir e th em in favor of bidders who will treat th em more kindly, at least so long as the latter are not offering the

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hi gh est price. So whil e th ere 's so me truth to th e assertio n th at directors are not powerless, th eir power is not without its limits. The second arg u me nt is abo ut th e recently passed statutes that allow a board to bloc k certain tak eover offers. In th e first pl ace , these statu tes have their own limits and ne ver co m p let ely permit th e board to prevent tak eovers. In th e secon d pl ace , clever bidders h ave man aged to evade the statu tes , whi ch eithe r have to be o pte d into or o pte d out of by th e corporation, by coupling their te n de r offe rs with pro xy co n tests whi ch e nable th em to obta in co n trol of th e board , lift the restrictions of th e relevant statute (by opting out or revoking the o pt-in ), an d proceeding with th e tender offe r. An d as long as the price is right, that is, as long as th e stoc kholders want to tak e th e offer, they will coop erat e and unceremoniously oust th e board. So wh ile it m ay be true th at boards h ave m ore protective o p tio ns available to th em than th ey did, say, in th e ea rly 198 0s, it is n everthe less equally true th at bo ards h ave every in centive to ke ep the stoc k price up an d th e stoc kh olders h appy.

SPEAK I NG OF OP T IONS

In 1994, Co ngress ame n de d the Internal Revenue Co de to provide th at executive salaries in excess of $ 1 milli on were not d eductible by th e corp orat io n unless th ey were linked to performance ." On e result of th is was th e proliferati on of stoc k o p tio ns as th e m ost sig n ifica n t compo ne n t of executi ve co m pe nsatio n packages. Obvio usly this gives exe cu tives a sizab le personal stake in their corp or ations' stoc k prices. One co m me n ta to r re fe r re d to th e 1990Sas "the decade of executive stock o pt io ns ," n oting th at "enor mous o p tio n gra nts have rai sed exe cu tive pay to staggering n ew h eights, whil e inten sifyin g its se ns itivity to fir m stoc k pri ces."? According to a stu dy by the co m p en satio n co nsu lting firm Pearl Mayer & Partners, stock reserved for option co m pe n sat io n r epresented 13 .7 p ercent of o utsta n ding shares in 199 9, an amaz ing p roporti on of stoc k when you co n sider that institu tional in vest ors own just over a maj ority of th e shares. A number of co m me n ta to rs saw op tions as a wonderful way to align m an ageri al and stoc kholder interests. After all, if

CO R PO RA T E M AN A GER S

l()9

a manager's pay was principally d ep endent upon how hi gh th e stock price rose, he would have every incentive to do his best to get the price as high as possible. Well, ifnothing else that I'v e said about th e legal in centives for managers to focus on short-term sto ck pri ces has persuaded you that I'm right, surely this one is obvious. As two com pensation ex per ts illustrated, "T he typi cal ch ief exec utive officer ... of a company under $500 million in revenues received $514,298 of cash compensation in 1995 compared with actual sto ck own ership valu ed at $3,084,275 . . .. The situation is even more striking at the larger company level (over $10 billion in revenues), wh ere cur re n t [1995] data reveals [sic] that th e m edian CEO 's actual sto ckholdings ar e over $7 .9 million, almost four tim es th e average cash compensation of $1,896,996. "6They note that for th e small er com pany director, " the ' me d ian' CEO is ext re me ly sensitive to ch anges in the com p any's sto ck price . Considering only actual holdings, a 16.7 % decrease in the stock price would reflect a loss of $5 \ 5,000 to this CEO, effec tively ero d ing all of th e cash co m pe nsation received tha t year." And obviously the CEO of the larger corporation is also hi ghl y ex p osed to downward sto ck pri ce mov ements. Perhaps no exe cutive has more su ccessfully pursued this in centive than Charles Wang, ch airman an d CEO of Computer Associates Intern ati on al, In c. (CA) . In a pl an p roposed by th e co m pe n satio n committee ofCA's board and approved by its stockholders in 1995 , three executives were awarded sto ck options for whi ch th ey were to qualify ifth eyraised th e price ofCA's stockfrom $20 to $53 .33 . Only th ree years later th ey had succeeded. The result was th at the three executives were gra n te d more th an $\ billion in sto ck options, $655 million of it going to Wan g alone . The sto ckholders got what they wanted. But in order to cover th e cost of the op tions, CA had to write off $675 million ag ainst earnings. Following th e writ e-off, CA's sto ck price plummeted back into the $20S, although it later came back to th e mid-$50S (probably at least partly as a result of litigation whi ch resulted in an order that th e three executives return 9.5 million of the 20 .3 million shares they had been granted). 7.e
CA's sto ckholders were lu cky that a Delaware co u rt saved th em from their own foolishness (although th e complaint was notably bas ed on th e decr eas ed stock price). But stockhold ers can't expe ct to b e so lu cky all of th e time. Delaware, in whi ch 60 p ercent of th e Fortune 500 corporations and slightly fewer than half of the corporations listed on th e New York Sto ck Exchange are in corporat ed," is the undisputed leader in co rp o rate law and has rather lax rules on executive compensation. The general idea is th at unless managerial com pen sation rises to th e level of outright obscenity, as it did in Wan g's case, and that obscenity has no rational relationship to the corporation's (r ead sto ckholders') well-being, courts will not interfere with com pe nsation d ecisions." In any event, th e fact that managers increasingly find their compensation dependent upon sto ck price, as Bu siness Week's April 2000 report on execu tive co m pen sation shows, clearly in creases managerial incentive to worry about stock price every single year. Whil e I can' t prove th e effec t of this on long-term p erformance, it sure seems like there 's every reason to think that this trend is creatin g serious risks . The con clusion from our primer on co rp orate structure seems clear. Even in th e abs ence of a norm th at tell s directors to maximize stoc k p rice , th e str uc ture of co rporate law itself gives th em every incentive to do just that. And despite the attempt by state legislatures to give th e directors some gr eater indep endence, d espite th e atte m pt to allow th em to think more broadl y ab out th e co r porations ' externalization of the cos ts of maximizing stockholder wealth , th e simpl e fact remains: Cor po ratio ns an d th e acto rs th at motivate them maximize stoc kh olde r wealth with little or no re gard for th e consequences of such activity to other people . This is just an other way of sayin g th at , given th e legal structure of th e modern American corporation, we have every reason to expect it to behave irresponsibly. How do we fix th e problem cre ate d by this structure?

L EA VE T HE BOARD A LONE

My answer will be rather surprising, at least to those of yo u who have (correctly and unsurprisingly) perceived me to be a generally CORP OR ATE M AN A GER S

III

left-of-center so r t of g uy. Th e answer is to break th e str uc tu res th at tie corp orate managemen ts' actions to stock prices. The answer is to make th e board more indep enden t of sto ckhold ers. Now I know su ch an adj ustme n t cre a tes its own set of probl ems, an d I shall be at pains to address them later in this chapter. But for now le t me d escribe several possible solutions an d th e logic underl yin g th em. T he first solution is my personal favorite . It's one I proposed several years ago in a law review article (it fell on de af ears, although I ca n 't im agin e why th e Business Roundtab le didn't pi ck it up as their fight song) . T hat solu tion was to eliminate the institution of sto ckhold er voting e n tire ly and mak e th e board self-perpetuating. In other words, on ce th e m embers of th e board we re put in place, ei ther by a one-time stockholder vote or public appointment or something like it, th e bo ard itself was to fill th e p eriodic vacancies resulting from death, re signation, and in cr eas es in board size by selecting the people to fill th ose vacancies. T he mech anism alr eady ex ists. Virtually every sta te co rp ora te statute gives th e bo ard th e power to fill vacancies th at occur between annual elections. My idea is simply to ex te n d th at pow er by p ermitting th e bo ard to co n tin ue d oing so ad infinitum, without sto ckholder participation at all. Note th at this would also cu t down on the threat of h ostile takeovers if th e bidder is n ot allowed to remove th e board during its term. Now this is a pretty radical idea. Fo r that reason it isn 't the one I'm u ltimat ely going to recommend. Instead I' ll mak e a more modest (and m ore flawed) p roposal that I think has a greater p ossibility of e nactment. But precise ly because it is almost exactly th e opposite app roach to th e on e we now tak e, I will begin with my id ea an d work toward th e middle, for th e logic b eh ind thi s proposal ultimately justifies the less ex treme id eas I will support. H ere 's th e probl em: th e str uc ture of co rp o ra te law focu ses directors on stock prices . Now, leavin g aside moral considerations, if sto ck markets were p erfectly or eve n n ea rly p erfectly efficie n t, this wouldn't be much of a problem, at least in th eory, b ecau se even a short-term focus on sto ck price would equate with a lo ng-ter m fo cus on sto ck price. 10 The reason thi s is true lies in th e th eori es of efficie nt markets . In a strongly efficie nt market, everything th at is known abo ut a corporation is incorporated into its stock price. Of 11 2

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course ever yth ing that is known includes the anti cipation of th e corporation's future performance, and since a stock is worth only what you can get out of it, stock price in a p erfectly efficien t market would refl ect th e coll ective judgm ent of investors as to th e discounted present value of the corporation's future returns -in other words, th e lon g-ter m valu e of th e cor po ratio n . This would be great-still leaving aside moral con side ratio n s. Because in order to have the best current stock price possible , the cor poration would have to aim for th e best long-term sto ck price possible (at least within a sensible conception of the long-term so that discount rates weren't so hi gh as to d estroy present valu e), and th at would m ean making go od products, having happy an d loyal employees, having a steady source of supply, and th e like . I've now twice said, "leaving asid e moral co n side ration s" because happy employees and loyal consumers are important in this way of arguing only up to the point at which the marginal cos t of re taining them is less th an th e margin al benefit from doing som ething else. Fin an cial logic might lead to maltreated employees and substandard products wh ereas moral th eory migh t arg ue otherwise - but I'll tak e this up later. The more re levant point for now is that nobody be lieves we h ave pe rfectly efficie n t markets , an d n ob ody ever did. So instead we ca n consider whether we have somewhat efficient markets - markets that may not in corporate soft information like managers' judgm ents about future profitability but at least h ard information as to the here and now. We 'd still have the same moral problem, but we mi ght be able to overcome a lot of th e problems of fin an cial in centives. There used to be tr u e believers in this kind of efficient marke t. Not any more. We don't really n eed sophisticated ec o n om ics to confuse the issue : an yone who has followed stock price movements, individual and indexed, over th e past couple of years intuitively knows th at th e sto ck m arket isn 't anywhe re n ear p erfectly efficie n t. If it were , you wouldn 't see the remarkable swings in sto ck prices th at occur alm ost ever y d ay. Aft er all, can we reasonabl y expect that corporate prospects ch ange that much from day to day? Clearly not. And so even to the economically uninitiated, the idea that CORPOR ATE M AN A GER S

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sto ck markets approach any m eaningful efficie nc y seems like a fairy tale. But we can also look at the economic sophisticates. For many of those very scholars who once sold us on th e id ea that eq u ity markets were fairly efficient have emerged from their computer lab s, seen th e sam e things we hav e, an d h ave either recanted th eir faith or struggled mightily to show why the market remains efficient despite all appearances. More to th e point, th ere is evide nce that sto ck markets are hi ghl y inefficient. Perhaps th e most damning bit of evidence, at least as to th e market e nviro n me n t ex isting as I write, is given by th e Yale ec on omist Robert Shill er in his recent critiq ue of th e modern sto ck market, IrrationalExuberance. Efficient markets are supposed to disco un t th e dividends a co r po ratio n ultimately will p ay down to present value .' But Shiller shows th at sto ck market performance from 1871 to 2000 doesn't correlate very well with th e present value of dividends. It sometimes even diverges wildl y. And it has n ever diverged more wildly than now, with the present value of dividends for th e corp ora tion s com p rising th e Standard & Poor's (S&P) Co mposite Index in early 2000 standing at about 28 percent of S&P stock price index values. Or, to put it differently, from 1980 to 2000 , dividend present valu e in creased by abo u t 50 percent. Sto ck prices increased during the same period by approximately 700 percent.s That sugg ests that th e market expects a whole lot of dividends - far more relative to stoc k price than it ever h as. And whil e dividends increased ra ther steadily,stock prices were relatively volatile , shoot-

'P rese n t value is th e a mo u n t of money th at o ne needs to invest in o rde r to realize a g iven sum la te r on . The co nve rse , e xpec te d valu e , is what a given a m o u n t invested today ca n be ex pec te d to produce a t a future point in time . The two vari abl es th at co ns titu te th e di scount rat e (or its co nverse, th e ex pect ed rat e of r eturn) are th e tim e value of money (i.e., infl ation) a n d th e risk th at th e a n ticipa te d profit won't mat erialize . At least as a m atter of th eory, th e cur re n t price of a sha re of sto ck ought to be th e future stream of dividends di scounted to present value . gSh ille r do esn 't give th e ac tual numbers in hi s te xt. I hav e derived th ese percentag es from my best reading of th e gra ph o n page 11 4

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186 .

ing up dramatically in that same period whil e dividends kept on a steady course. Shiller allows for the possibility of a significant disparity between price and dividends consistent with efficient markets, but he argu es that there must be a much closer relationship between the volatility of the two factors to suggest meaningful market efficien cy. II There is one final point to be made, and that is that yo u manage what you measure. Even if th e structure and rules of corporate law weren't su ch as to keep managements ' eyes focus ed on th e daily stock quotations, the simple fact is that the other set of performance measures available to th em ar e the corporations' financial statements. Financially sophisticated peopl e understand that th e balance sheet is generally not a very good measure of the performance of a going concern , at least not in any given year. Balance sheets, to be meaningful, must be compared across time, and in order to get meaningful performance information from balance sh eets you n eed to collec t a bunch of th em , whi ch obviously tak es time . Of course you could look at monthly balance sheets, but the n et worth of most cor po ra tio ns doesn't ch ange terribly much from month to month, no matter what's going on in the stock market. Bu t income statements can tell you how you are doing, notjust over time but every month , every quarter, an d ever y year. And th e bottom line number that accountants enter on income statements is ea rnings p er share . So a manager who wants to know how h er cor poration is curre n tly performing is most likely to look at that earnings-per-share figure - and she should, because th at' s what sto ck analysts and investors look at too. The sto ck price of Intel, a highly respected and ver y strong performer, dropped 20 percent on September 22, 2000, simply because earnings were not what th ey were expecte d to be . Earnings per share is a measure , based on accounting conventions, of how much mon ey each share earne d during th e p eriod for whi ch it is reported . And whil e ea rning s per share does not directly translate into stock price for a variety of reasons which are not important here, th e important point is that it , like sto ck price , is a measure of stockholder value . So even if managers could ignore daily changes in stock price itself, they are still measuring performance CORPOR ATE M AN A GERS

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by re fere nce to wh at th e co rporatio n returns to its stoc kholders. And thi s is precisely the in formation the sec urities laws require public corpora tio ns to report quarterl y an d an n ually, so th at it is read ily availab le to stoc kholde rs for th ei r evaluatio n an dj u dg me n t. Everything th at we have used to constr uc t th e modern American public co rpora tio n lead s to a focu s o n stoc kholder wealth. So wh ere does all th is leave us? With the co n clusio n th at focu sin g on sto ck price as a m easure of m an agement (or protec tion of your j ob ) is n othing mo re th an focu sin g on stoc k pri ce fo r th e short ter m. This is not rational management. As Warren Buffe tt has fam ously said, " O ur [Berkshire H athaway's] owners an d m an agers b oth h ave very lon g time ho rizons in regard to thi s business, an d it is diffi cult to say an ything new or meaningfu l each quarter abo ut even ts of long-term sign ifica nce ." It d oesn 't tak e a fin an cial ge n ius to recognize that mo st corporatio ns mo st of the time don't change all that much from quarter to quarter or even from yea r to yea r. You wouldn't kn ow thi s fro m co n tem pora ry stoc k pri ce volatility. Bu t th at has nothing to do with the long-term health of the corporation itself. So wh at d oes this m ean for m an agers? It m ean s that lon g-term consid erations give way to the desir e to keep your j ob h ere an d n ow - an d th at is ra tio nal, for wh o among us, in clu di ng co rporate managers, can know how long a term they'll be around for? Certa in ly wh at e m p irica l evide nce th ere is suggests th at eve n th ose many managers who would p refer to thi nk an d act more b ro adl y fe el b oth a le gal and practical imperative to fo cus on th e sh ort ter m . It m ean s th at eve n th e financial in centives, leavin g aside th e m oral o nes, to treat e m p loyees well, avoid p oll uti on , mak e safe an d use fu l products, care about sup p lier relationships, an d protect communiti es are no real in centives at all as long as o u r beh avior gets us fr om today to tomorrow. And it means th at ex pens es co rporat io ns in cur today th a t will show ben efit s o n ly in th e long-run , fo r exampl e , research an d d evel opment (R&D ) , better wo rk e r training an d care, and so o n, will be skim p ed on . In the shor t term , su ch exp en ses re d uce the bottom lin e an d th erefore cur re n t stoc k p ri ce , an d the management that in curs the m risks upsetting cu rren t stockhold ers an d thus losin g th eir jobs." Richard Mah on ey, the 1 ilj

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retired president of Monsanto , tells of his co rp o ra tio n 's sto ck price being punished by analysts when Monsanto undertook an expensive, long-te r m R&D project, of analysts d emanding reductions in th e R&D budget an d th e use of cash th at might oth erwise b e availab le to buy back stock to in crease sh or t-ter m stock price. One result of Monsanto's b enighted effo rts was Ce lebre x, an en o r mo usly su ccessfu l product that not only h as h elp ed co n su m ers but has e nriched Monsanto. 13 Of co urse short-sightedness m igh t not prevail if sto ckhold ers th emselves took a lo ng-ter m p ersp ective: I' ll exp lo re this possibility in the next chapter. Before going on , I should point out an anomaly that seems to con tradi ct my argumen t. Some d ata indicat e th at since 1994 , R&D expenditures as a perce ntage of GNP h ave been in creasing , both wh en d efense-relat ed R&D an d non-defense-relat ed R&D are tak en into account. T hese data indicate that the percentage of GN P devoted to R&D in the Unite d States is exceeded only by that inJapan. Ge r many is fairl y clos e behind th e Un ite d Stat es, Fran ce not far be hi nd that, and then the re is a significant decline to the United Kin gdom, Ca nada, an d Italy. 14 So maybe I'm wrong, at least about managers' in centives to invest in th e future, since th e b are numb ers seem to suggest tha t th ey are in fact doing so ; yet th ere is also evide nce th at I am right. IS Like all sta tistics , th ose in th e previous paragrap h don't te ll the whole story. Michael Porter points out that th ere is at least an ecdotal evide nce suggesting th at Am eri can co rporations invest less than Japanese and German corporations in " n o n-traditio nal for ms su ch as human resource development, relati onships with sup plie rs, and start-up losses to en te r foreign markets," and while th ere is oth er anecdotal evidence (some of which I 've already me ntioned) th at at least some of th ese practi ces are changing, more troubling is harder evidence that the "R&D portfolios of American fir ms include a sm aller share of lon g-ter m projects than those of European and J a pan ese firms ." IG An d Robert Kuttn er cite s broad evidence to show that American corporations significantly underinvest in R&DP So the question is not a simple one of h ow mu ch money is spent o n R&D but what counts as R&D and where it is spent. It appears CORP OR A T E M AN A G ERS

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that whi le th e evide nce is somewh at co n flicting, th e kind of R&D expenditures that are showing up in the statistics are not th e kind that in cr eas e future wea lth and well-being. Co nseq ue n tly, I continue to con clude that managerial focus on R&D is b lurry.!" If this is the case , if managers have every ince ntive to focus on short-term sto ck price in order to keep th eir jobs, wh at is th e id eal so lution? Free th em of the pressures of the sto ck market. And how do you free them of th e pressures of th e stock market? Bre ak the tie betw een th eirjobs and th e sto ckhold ers.

LET MANAGERS MANAGE

As I noted, the first suggestion I have for breaking this tie is th e most radi cal, an d th at is to elim in ate sto ckhold er voting e n tire ly and establish self-perpetuating boards. Let me first outline the basi c idea and th e n answer some objections and make some refinements. Boards of directors n eed to be fr ee to do wh at it is th ey do best , and that is manage (or provide fo r the management of) co rporations for th e long term. Th ey n eed to do so responsibly, acc o u n tabl y, and in full re cognition of the consequen ces of the ir de cisions. As I have taken great pai ns to point out, the current structure and rules of cor pora te law m ake thi s diffi cult, whil e not impossibl e, an d offer the possibility of at least a short-term compe titive edge for those corporations whose boards choose to manage for th e short term. T here is evide nce th at directors th emselves fee l this pressure. Th e business scholarJ ay Lorsch surveyed more than nine hundred directors of Standard & Poor's index of four h u n d red co m p anies. He concluded that directors generally were stymied in reaching conse n sus as to th eir cor po ra te goa ls largely becaus e of th eir p erception that their legal duties are owed to their stockholde rs. At the same tim e, h e fou nd that most dir ectors believed th ey owed moral and business duties to a much wid er ar ray of co rp orate co n stitue nts, including creditors, employees, suppliers, and customers as well as to th e com m u n ity at large. Lorsch also found that most directors felt a great deal of short-term p erformance pressure from institutional investors, an issue I will take up in chapter 7. 11 8

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Everything I have said so far leads to one co n clusio n: Co rpora te management should be entirely separated from stockholder pressure . The easiest way to accomplish this is to break th e annual cycle of sto ckholder elec tions of direct ors (unless yo u beli eve th at on e year is a long term) . One way of accomplishing su ch a goal is to permit boards to b e se lf-perpe tua ting an d, through th eir own insul ation from short-term pressure, insulat e th e managers under th em from it too , to enab le th e m to manage responsibly and for the long te r m . This is practically easy to accomplish. Most corporations don' t start out as public corp o ra tio ns, and so th ere is a board in place at th e tim e th e co rporatio n goes public. No m atte r wh at, corporate sta tutes require those who form the corporation ei ther to provide for an initi al bo ard or to h old a stoc kholde rs' m eeting shortly afte r in corporation to elec t a board. In an y even t, the boards are in existence, and the exis ting statutory mechanism I mentioned earlier can be used to keep th em staffed. Wh y haven't we done th is so far ? What would th e principal objections be? It see ms to m e th ere are two: first, th at stockholders own th e co rp oration an d so sh ould be entitled to vot e for th e p eople who run it, an d, second, that if left to th eir own d evices, directors would e ngage in ra m pa n t sel f-dealing.

THE MYTH OF STOCKHOLDER OWNERSHIP

Firs t, le t's spend a minute on stockholder ownership , which I h aven 't m entioned yet becau se I cons ide r it to be one of th e greatest mi sunderstandings that exists in Am eri can co rpo rate law. It is com mo n ly said that stockholders own the corporation . This is a beli ef th at my stu de n ts unive rsally bring to th eir first d ay of cor po rations class . It is a belief th at is repeated endlessly in the financial and popular press. It is a beli ef that is articulat ed in a number ofjudicial opinions. And it is a b eli ef that is loudly proclaimed wh enever directors behave in a way the sto ckholders disapprove of, usually involvin g a drop in stock price. Well, if all th ese people b eli eve it, there must b e something to it. So to get at the mythology of stockholder ownership, I will begin by C ORP OR ATE M AN A GER S

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asking what it m eans to say that sto ckholders own th e cor po ratio n . And this will necessarily take us on a digression into th e concept of own ership more gen erally. Owning a corporation in th e sense that sto ckholders do is not like owning your house or your car. Say you own shares of stock in Home Depot. Wh at do you think would happen if you walk ed into yo ur lo cal Home Depot and helped yo urself to what yo u wanted from the shelves and, when stopped by an employee, proclaimed that as a sto ckholder of Home Depot you own ed what you were taking? Or if you tried to prevent your obnoxious neighbor from e n te r in g a Home Depot store on the grounds th at you own it so you ca n d ecid e who sh ops th ere? Or if yo u d ecid ed to go to h eadquarters and sit yourself down for lunch at th e company cafeteria? Or if you felt like dropping in for a visit with th e CEO or to atte n d a board meeting? Clearly any of these things would get you an invi tation to leave an d maybe a ni ght in j ail. But eac h of th e possibl e behaviors I'v e suggested reflects aspects of ownership. Your taking inventory reflects yo ur right to use th e thing you own ; your atte m pt to keep yo ur neighbor out reflects yo u r ri ght to prevent others from using what you own; yo ur dropping in for lunch reflects your right of entry o n to th e property; an d your visits to co r po ra te office rs refl ects your right as th e owner to con trol the behavior of your agents. You can do all of th ese things with your house . You can tak e an ything fro m inside it. You can go in anytime yo u like, keep anyone out that you like, except th e police under certain carefully con strained con d ition s. If you hav e people fixin g your plumbing or paintin g the house, yo u ca n tell them what to do and throw them out if you don't like what they're doing. A sto ckholder's own ership of th e cor po ra tio n, however, is differen t. There is some degree of stockholder control, and I've already d escribed what it is: sto ckholders vot e, sto ckholders bring d erivative suits, and sto ckholders can sell th e cor po ratio n. But th ese are consequences of stockholder ownership, not definitional asp ects of own ership. Sto ckholders ca n do th ese things becauseand only be cause - we have de cided that in some sense th ey own th e corporation . 1 20 STR UCTU R AL TR APS

So what does it m ean to say that sto ckholders own th e co rp o ration? It means they have the right to whatever wealth is left in the cor porate till aft er ever yo ne else who has a claim on th e co rp oration h as pi cked it over. It m eans th ey h ave th e right to receive dividends if the directors feel like declaring them and if creditors h aven't con t rac te d with th e co rp oratio n to prevent it from p ayin g them . And it m eans th at wh en the co rp o ratio n meets its maker, when it dissolve s and liquidates, th ey h ave the right to be p aid whatever is left afte r all prior claimants. Now we recognize that because ownership means th at stockholders get only what's left , th ey are vulnerable to th e forces of th e markets, of busin ess cycles , and even of bad m an agement, and so we give th em some limited con trol through voting and th e right to bring d eriv ative actions. And of co urse th ey can sell th eir sto ck if someone else wants to buy it. But notice tha t th ese possibilities that lead us to give some protection to th e stockholders aren't very different fro m th e position of other co r po ra te claimants. Cre d ito rs, for example, while th ey ge t paid before stockholders, are also subj ect to th e sam e fin an cial risk th at th ey won't ge t paid - th e differenc e is one of degree, not of kind. Creditors, like sto ckholders, can also sell their debt to willing buyers, which is why we have a bond market . Empl oyees are su bject to losing th eir j obs an d so me times their pensions because of bad corporate performance - and th ey can sell th eir labor like sto ckholders sell th eir sto ck. And so on for su p plie rs wh o ma y sell on trade cre d it or h ave long-te rm su p ply commitments from th e corporation , and customers who may have warranty claims or depend upon a steady su pp ly of sp ar e p arts or other inputs. It 's probably th e case that some of these other claimants can protect th emselves through con trac ts a littl e better th an th e sto ckholders can. There 's been a lot of academic debate about this, and it's a debate I don't n eed to e ngage in h ere. The sali ent point I want to m ak e is th at stoc kh olde r own ership isn 't really th at different from other forms of corporate claims; it 's when yo u put th e label " O wne rs h ip" on it th at it tak es on a mythi cal level of importan ce. Something else about ownership makes appending th is label to stockholders dangerous, and this ties back both to our earlier disCORPOR ATE M AN A GERS

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cussio n of limi ted liability an d to th e id ea of th e single corpo ra te purpose: We have str uc tur ed this own ership in a way tha t we gen erally don' t permit of any othe r property, an d th at is we allow it to be used with out regard to th e co nse que nces to others. I suspect th at even in the ab senc e of tr affic laws, most of u s wou ld n't drive th e cars we own h eedlessly, mowin g d own wh at ever or wh omever might be in our way. And if you want to obj ect an d say th at it 's b ecau se we drive on public ro ad s or th at we 're licen sed to driv e th at we have res trictio ns on th e use of our cars, it 's clear th at suc h an answer is nonsense; you have no gr eater right to run someone over on yo ur privat e drivewayjust b ecau se you' re in a hurry th an you d o on the public street. Yet we p ermit co r poratio ns, in th e n am e of th ei r sto ckholders, to mow down an yone th ey like in th eir pursuit of p rofit. Th e p oint is that n ot on ly do we have laws that restrict th e ways in which we m ay use the things we own: we also have moral responsibility for th at u se. An d thi s moral resp onsibility is aid ed by th e fac t th at when we use our property, we generally experience its effe cts o n oth ers; wh en we mow down o ur n eighbor with o ur car, th ere 's n o d en ying wh at we did, that we did it, an d th e experience of doing it. The same can h ardly b e said for the own ers of the corporation So it 's n o answer to say th at sto ckholde rs h ave to ele ct di rect o rs be cause th ey own th e cor p oratio n . There are respe ctable argum ents that say sto ckholder voting is th e m ost efficien t way of co ntrolling th e corporation. But th is is j ust anoth er way of saying th at sto ckholder voting ensures th at corp oratio ns make as much money as th ey can for th e stoc khold ers withou t a lot of regard to th e co ns equen ces to othe rs. In fact, according to th e economic arg u men ts, atten tion to the conse quences to oth ers would m ak e the corp ora tion an d thus stoc khold er voting less efficien t. T h is is exactly on e of the principal questions I have put at issu e. So th ere's no point in rehashing efficien cy arg u me n ts h ere. The myth of stockh olde r ownersh ip d oesn 't j ustify anyth ing, including th e righ t to vote for direct ors. Th ere is an alte rnative way of looking at stoc kholde r owne rsh ip, and it 's o ne tha t Buffe tt has d escribed as the vision of Berkshire H ath away: "Alth o ugh our form is corp orate, our atti tude is partner12 2

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ship... . We do not view th e co m pany itsel f as th e ultimate own er of our business asse ts but, instead, view th e company as a conduit through whi ch our sharehold ers own th e assets ." Now this flies in th e face of every th eory of th e co rp o ra tio n on th e books. And of course it 's no t the way Berkshire Hathaway really operates, except through its charita ble giving progr am, wh ich allows eac h sto ckholder to design ate a ch arity to whi ch the corp o ratio n makes a contribution. It couldn't actually operate thi s way, or all of th e conseq ue nces of own ership th at I d escribed earlie r would begin to assert themse lves, and Berkshire couldn't operate in th e centralized, efficie n t manner under Buffett's management that has led to its success. But th e very exp res sion of th e attitu de is sign ifica n t and, if Buffe tt and his stockholders really believe it, has important consequences for th e way we think abo ut co rp o ra te responsibi lity. Buffe tt 's attitude at least has the potential to get sto ckholders to think about th e corporate assets as their property. And, as I 've already discuss ed , yo u ca n' t legally use yo ur property however yo u wan t, nor would yo u morally do so , especially because you have some id entification with yo ur property. You can see th e conse qu ences through the lens of th e philosophy of David Hume. Because on some level you id entify with you r property, you are morally accoun ta ble for its use . Hume wrote, "Whenever any pl easure o r pain arises from an object, connected with us by property, we may be cer ta in that either pride or humility must ari se from this conjuncti on of re latio ns. " We care about the things we own - they may not exactly be extensions of us, but th ey are con necte d to us an d id entifi ed with us in som e ways, and so we take care of h ow we use th em. Buffett's attitude, if taken seriously, has th e potential to bring stockholders to thinking of th e corp ora tion as th eir property, an d its use of those assets as their concern . Exploding cars and slave labor would come to be a p ersonal emb arrassme n t, much as durin g my college years emb ar rassed students atte m pte d to p ersuad e th eir colleges an d universities to divest their portfolios of the sto ck of companies doing business in apar the id South Afri ca. Sh ame is an att itu de th at has strong implications for corporate gover n anc e as well as for accountability. But it's not an atti tude that's wide ly h el d , at least not CORP OR ATE M AN A GERS

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yet. So I return to my ori ginal co n clusio n: Sto ckhold er own ership under the curre nt mode l of the corporation justifies nothing.

THE SPECTER OF MANAGERIAL THEFT

Th e second princip al arg ume n t against severing th e m an agem ent/ sh areholder con nectio n is th e fear that cutting directors loose from stockholders would be to let the foxes in to the henhouse. Let 's face it , Am eri can cor po ra te law an d th eory are based on mis trust.!? At least since Adolp h Berle and Gardiner Means observed th e substantial separation of " owners h ip " from co n tro l in th e Am e rican co rporatio n (and ign oring the ir cry for th e reassertio n of public control as the solu tion) , corporate scholars , lawyers, fin anciers, an d reformers have based th eir id eas abo ut goo d cor po rate gover n anc e on the ce n tr al premise of mis trust. Mistrust is systemic. No t surprising, I suppose, in the radically auton om o us society I describ ed in chap te r I , wh ere every o ne is presumed to look out only for onese lf. But nonetheless damaging for all th at. Th e mistrust is eviden t in intercorporat e relations (a subj ect b eyond th e scope of my argument and refl ected at least in p art in our antitrust laws) , in in tracorporate re lations, that is, the relati onship of stoc kholde rs to m an agers, whi ch is at issue h e re, an d in corporate managerial re lations, that is, the hierarchy and monitoring of corp ora te e m ployees, which I' ll talk about in chap te r g. Taken together, th ese relati ons co m bine to form wh at I hav e elsewhere ca lled th e American monitocracy, th e system of watchers wat ching wat ch ers wat ching wat ch ers th at was described co m pe llin gly by David Gordon in h is book Fat and M ean and that cre a tes a pervasive atmosphere of mis trust an d an atti tude of self-protection .F" A system based on mistrust is bad. Mistrust has been b lamed for hampering Italy's ec ono m ic d evelopment an d for stunting its community." Mistrust leads to wasted so cial resources, wh at ec o n o m ists call agency cos ts and monitoring costs , whi ch are a net social loss. And mis trust, as psychologists over whe lm ingly tell us, leads th ose who are not tr u sted to b e untrustworthy,wh ereas people who know th ey are trusted tend to behave in tr ustworthy ways. 124

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So wh at's th e m istr ust abo ut in corporate law? Mon ey, of course, and the presumption that those wh o h ave co ntrol of it will try to grab as much for themse lves as they can to the detriment of those who have parted with control over it. That's the ce ntral issue ra ised by the idea th at stoc kholde rs invest the ir m oney in p ublic co rporatio ns over wh ich they h ave no real control and watc h it in crease or decrease in the h an ds of others. It is the ce ntral debate enge ndered by Berle an d Means ove r how best to mak e management more acco untable to sto ckhold ers and over whi ch cou n tle ss for ests hav e been felled in th e scholarly atte m pt to solve the probl em. It is th e fear th at th ose in co ntrol of the m on ey will ta ke it, either by fa iling to do their jobs and thus be ing overcompensated for doing very littl e or by sim p ly stealing it by p ayin g themse lves too much , by dealing with th e corp oratio n for th eir own advan tage, or by ta king opportunities th at rig h tfu lly belong to the corporation and its stockholde rs . And as a co nse quence of th is mi strust, we expen d en or m o us amo unts of in tell ectu al ene rgy trying to make sure th ese things do n 't h appen. This whole id ea of mon itoring bas ed on mistrust is consid erably ove rstated. T he effo rts that h ave gone in to attempting to control corporate management have largely bee n for n ought, the pro bl em is one at th e margins, and the atmosphere of mistrust created by excessive monitoring is worse than the proble m it 's in te nded to cure . The first point is simply one of co m mo n sense. We know as an em p irical m att er that, despi te its effect of foc using atten tio n on stoc kholders, sto ckhold er voting is not very effe ctive. We also know, as I'll discuss in chapte r 8, that the laws against manageria l sh irking and stealing are largely tooth less. Yet p eople co n tin ue to p ar t wit h th eir money in droves, often in vesting without knowledge of who th e co rpo ratio n 's man agement is an d certain ly without h avin g mad e th eir ac quaintanc e. Wh y? Becau se th ey must assume, as I hav e assumed from th e beg inning, that most p eople, most of th e time, act in good fait h . T hey must assu me that co rporate m an agers ar en 't simply going to walk off with their money or play go lf as th e corporation trails off into bankruptcy. T hey m ust assume that, just like themselves, corporate managers ge ne ra lly fee l some r esp onCO RPO RA T E MANAG E RS

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sibility for doing th eir jobs. And th ey must assume this for several reasons. In th e first place, law can do only so much . If th e principal con str ain ts on whi ch investors reli ed were those of th e law, th e number oflawsuits against corporate managers would be far greater than it is now and th e d egree of sto ckholder investigation into management practi ces would be far greater. The costs of su ch actions would diminish th e money available for investment and the opportunity to ge ne rate real productive gain s. Law m ay esta blish th e rules of the game, it may se t aspirational levels of conduct and baselin e levels of b ehavior, but it cannot be th e answ er. Far more important are th e soc ial norms th at drive p eople to do th e right th in g simply because it 's th e right thin g to do. And there is no reason to think that cor pora te managers are any less affec te d by social norms tha n other people. Of course there are abuses. Stories of managerial overcompensation , insider trading , and directori al e n tre nc h me n t abo u n d. But those are the stories you hear. And th e bad publicity associated with th ese stories is one of th e m ech anisms th at create th e norms of behavior we expe ct from our co rp o rate managers. Shame can be a powerful deterrent. In fact it's the very basis of th e disclosure rules esta blished by o ur fed eral sec urities laws. But there are also the stories you don 't hear. And that's most of th em. Of course one reason you don't h ear th em might simply be th at th e press, th e financial com m u nity, an d individual inv estors don't have th e resources to uncover all bad behavior. And th at mi ght be true to a limited ex te n t. But if it were wid ely true , th e productivit y gains in re cent yea rs, the in creases in corporate profitability, and the astonishingly low rate of unemployment would be impossible. Th e simple fact is th at without some m easure of integrity, the system wouldn't work at all. As all lawyers know, law can provide last-ditch solutions; it can no t b e th e principal governing tool of an en tir e society, even a co r po rate societ y. But there 's another reason law is not the answer. The laws we have d esign ed to restrain manageri al self-d ealing are largely in effective. Take managerial laziness, whi ch co rp o rat e law deals with under th e broad doctrinal heading of the duty of care . Every second-year law 1 2(j STRUCTUR AL TR APS

student can tell you that th e only tim e th e duty of care really makes a difference (and th at only at the margins) is in takeover cases , and those are big en ough , public enough, and transparent en o ugh that we 're pretty good at catc h ing th e cases of bad behavior. More interesting is the law of stealing. It used to be a long, long tim e ago th at corp orate m an agers co uld n 't do business with th eir own corp oration s, could n' t take opportunities that might be desirable to the corporation, and had to be very careful about accountin g for th eir com pe nsa tio n. No more . We've now evo lved (?) to th e point where we have procedural rules wide enough to drive a truck through that p ermit directors and managers to do practically anything th ey want. Of course most of th e tim e th ey don't . They don't because it's wrong, th ey know it 's wrong, they know th eir reputations will suffer if th ey're ca ug h t an d th eir caree rs mi ght be d estroyed . Besides, for th e most part, the amounts of money they could take without ge tting caught are penny ante . The on e area in whi ch th e stak es are hi gh er is man agem ent compensation. The name Michael Eisner alone conjures up images of execu tives p aid well above what any human b eing is worth, well more than an y value they co uld possibly add to the co rp oratio n . I'll talk about this later, but the major way compensation is kept in check is n ot by law- it 's by publi c disclosu re and em ba r ra ssme n t, by outrage in the investing community. The impotence of law is clear; very littl e stops managers from paying th emselves whatever th ey want. A recent case from Delaware illustrates the point. 22 A board of directors developed an option plan for th emselves. The result was that they stood to make a whole lot of money. In fact they did . Lots of it. Some stockholders sued, claiming th at the directors hadn't disclos ed how much money th ey would actually mak e from th eir options when they asked for stockholder approval. The chancellor told th e stockholders to go away: options ar e too hard to valu e , especially th e particul ar kind of options th e directors had given themselves here . So the directors kept their options and their money. The opinion is ridiculous. For what th e directors must have known -what the chancellor must have known the directors must CORPOR ATE M AN A GER S

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hav e known in cre a ting th e option p lan - is what they though t th e options were worth . T hey might not have been certain of course. But no b ody acc epts an offer of compensation without some id ea of wh at th ey're ge tt ing. Wh at 's more, if th ey didn't hav e some id ea of what the options were worth the di rectors would not h ave enough information to fulfill th eir legal duty of care in approving th e options in the first place . T he opinion and its outcome are fantasy. But they show what hap p ens whe n, as a matter of legal po licy, we decide we don't care that much about self-dealing. A reading of countless cases on th e subject supports my co nclusio n: we rea lly don't care that much about self-dealing. We p ermit it, and we set up rules to show m an agers h ow to do it . On ce we 've go ne th is far, to say th at boards need to be elected by stockholders in order to e nsure th ey're monitored and co n tro lle d is silly. So if we don't really need to worry about managers stealing except at the margins, and we don't care enoug h to h ave strong legal rules preventing it, th en th e two prin cip al reasons for putting directors under stockholder co ntrol go away. We cou ld tak e a different th eoreti cal ap p roach . We co uld say that be cause the corp oration is a creatio n of the state, a creation th at is given its existence for public purposes, and because the board is, as a legal matter, em p owere d by th e state an d not th e stockholde rs, ma nagers must be answerable to the sta te for their m isbehav ior. We could , if we cared, tighten up th e rules against m an agerial th eft an d le t an ybody who wanted to su e . Don't worry, we could create so me lim its and restrictions to preve nt an explosio n of opportunistic litigatio n . And we co u ld also be cer ta in that on ly those people who had a real stake in the corporation would have an incentive to sue. But this wou ld be a far m ore ra tional way of addressin g th e problem than a system that insists on tyin g managers to stockholde r mo n itoring. So th e main excuses fai l, and th ere's no reason not to fr ee managers to b ehave professionally, to manage for th e lo ng term, to do what they do best. Wou ld they forego profitability? Clea rly no t. Without profits, th e cor po ratio n wouldn 't survive an d th ey'd be out of a job. Wou ld they steal? Not un less we assume that they're an y worse than the rest of us. We might eve n deve lop stro ng enough 128

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rules so th at wh en th ey did steal th e law would at least be effec tive at catc hing them . The rules themselve s would set an aspirationallevel at whi ch we ex pecte d them to act well , in sharp co n tra st to th e curre n t monitocr acy co m bine d with loose legal rules th at tell th em we expect th e m to act badly. And so it is hard to imagine a serious disadv antage to freeing up boards an d relatively easy to im agine an improvement in th e cu r re n t state of affairs. Now p erhap s my proposal m ak es yo u n ervou s. Maybe it loo ks too much like unch ecked p ower, an d in Ame rica n p oli tical th eory unch ec ked power is a very bad thing. Well, in th e first place it's not really unch ecked p ower - as I noted earl ier, the co rpora tio n would h ave to be p ro fitabl e to survive an d en able th e m an agers to keep their jobs. It would also have to do well enough to attract in vestors. An d it wouldn 't be unch ecked if we h ad so me real serio us rul es again st self-de aling and left en fo rce me n t p ower to the state , either directly or thro ug h private attorneys ge n eral. But I'll accept th e possibility th at th e id ea of ap pare n tly unch ec ked power makes yo u uncomfortable . So here 's a middle grou n d . Like most co m p ro m ises, it 's not as good an id ea as th e o riginal - as th at of self-p erpetuating boards- b ecause it ret ains some of th e problems of the current syste m . But it does r educe the ir effect. It 's an id ea th at was flo at ed so me years ago in th e University of Chicago L aw Review by th e famous takeover lawyer Marty Liptorr ." The id ea is th at boards sho uld sta n d for elec tio n every five yea rs ra ther th an every year. Now I don't question Lipton's motivations, but I be t a lot of his co r po ra te clients liked th e id ea. That doesn 't m atter. It 's a good id ea , for th e same rea sons th at my suggestio n that we sep arate management from stockholder influen ce is a good idea. It 's just a little less sca ry to con te m plate . So let m e sp en d a few minutes on Lip ton's logic before I go on to my last suggestio n of reforms for finan cial an d corp ora te rep ortin g.

QU INQUENNIAL ELE CTION S

Lip ton reco gnizes the same problems I h ave d escribed, from an overemphasis on stock prices to an irrational concern with manC ORP OR ATE M AN A GER S

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age rial th eft to a var iety of pressures th at lead Ame rica n co r po ra te management to foc u s exc essively, if not exclusively, on the sh or t te r m. This, as I h ave arg ue d, is b ad for th e long-term welfar e of the corpora tio n , leading to in ad equat e investm ent in R&D, e m ployee training, and th e like , and is also to the unfair disadvan tage of th e co ns tella tio n of co ns titue n ts with wh om th e co rporatio n does busin ess. So hi s proposal, like mine, is geare d toward ame lio ra ting th ese problems and letting corporat e management work for the long te rm in a res pons ib le, accou n table way. Lipton suggests a solution similar to mine, but does so in a way that accou n ts for th e Amer ica n fear of unch ecked power that ultimate ly leaves th e stoc kholders in charge . Mo re or less arbitrarily adopting five years as an adequately long-term management h orizo n (with su bconsc io us ec hoes perhaps of Sovie t five-year pl an s) , h e cre ates the id ea of a b oard electio n by the stoc kh olde rs on ly o nce every five yea rs, with a moratorium on hostile ta keovers in th e inte rim an d strength e n ed legal r ules to mak e it easie r to rem ove mi sbehaving dire ctors. The election is to be accompanied by a fiveyea r rep ort on th e p erforman ce of th e co m pany an d a five-year pl an , both evaluate d by indep endent au d ito rs. While his id ea allo ws for the possibility of boards being thro wn out for underperforming durin g th e five-year peri od , hi s ex pe cta tio n is th at direct o rs an d sto ckholders will develop working relationships th at lead to gr eater trust an d understanding suc h th at we would ex pect bo ards to rem ain largely th e sa me from one quinquennial election to th e n ext - and so the end result is not too different from my self-perpetuating board. This is also its disad vantage relati ve to my proposal: stoc kholde rs remain in co ntro l, an d it is lik ely (and indeed Lipton contemplates this) th at stock price performance will b e an important fac to r in wh eth er o r not directors are reelec ted . But that's really sor t of quibbling. It's probably n ot unreasonable to care ab out th e five-year p erforman ce of a co rp o ra tio n's sto ck . Th e basic id ea is th e same , altho ug h wh at I h ave wri tt en thus far sugges ts that if there is to be a ch ec k on directorial p ower by means of p eri odic elec tio ns it is n ot o bvio usly th e sto ckholde rs wh o sho uld d o the votin g. While I d on' t wan t to thoroughl y d evelop the proposal h ere , largely for r easons of space an d because th e p aram eters 13 0

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of th e issue an d its resolutio n are clear eno ug h to facilitate intelligen t public debate , th e corporate fran chise cou ld rather easil y be ex te n de d to a broad er variety of cons tituenc ies. There is n o reason, for exam ple, th at a corporatio n 's em p loyees an d cre ditors co uld n' t vo te along with th e stockholders. Cer tain ly the employee s have a kind of kn owled ge abo u t th e co rpora tio n an d its busin ess that th e stoc kh olde rs lack , an d cre dito rs, like stoc kholde rs , h ave interests in the long-term well-b eing of th e corporation. I ad m it th at exten d ing th e n et m ore bro adl y creates practi cal p roblems an d also m ak es th e directors' ele ction be gin to re semble a legislative elec tio n (whi ch begs th e question of why we d on't h ave th e go vern me n t appoin t di rect ors - an d th ere are a lot of reaso ns th at keep m e fr om suggesting tha t). But there 's no reason to thin k, unless yo u view sto ck price maximizati on as th e co rpora tio n's on ly legitimate goal, th at allowin g em p loyees and cre dito rs to vote too would damage th e corp oration. h I am not suggesting, as so m e refo rmers h ave, th at work ers an d creditors be allowed to ele ct th eir own representatives to the board. That id ea seems to m e co n t ra ry to th e sp irit of my en tire critiq u e. The ge ne ral Am eri can rule, whi ch if it were followed an d b acked up by the ri ght str u ctures an d incentives would be a good one, is th at eve ry di rect or is respo nsi ble to th e e n tire corporatio n . My p roposal re tains th at spirit-itjust makes it more likely to work. No w I kn ow that a lot d ep ends on votin g p ower; th ere are more shares of stoc k th an workers in m ost publi c co m pan ies, so it 's p ro bable em p loyees could be outvoted. Bu t if electio ns were to be come real h orse races (and Lipton suggests so me reforms of p ro xy voting

"The princip al argu me n t that has been mad e aga ins t em ployee an d cred itor particip ati on in voting is th at th eir interests are different from th ose of sto ckho lders: e m p loyees and cred ito rs would be more interested in th e stability of th e corporatio n over th e long term, whil e stoc khold ers ben efit from greate r risk tak in g with th e related potential for great er fin an cial rewar d s. T h ere is, of co urs e , so m e sound n ess to thi s view. But if I'm right abo ut th e sho r t-ter m pressures cre ate d by sto ckho lder voting, it seems reasonabl e to in clude with in th e co rpo rate franchise co nstitu e n t grou ps whos e interests would tend toward th e longer term. CO R PO RA T E M AN A GER S

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rules th at mi ght mak e th em just th at ) , th e re is n o reason a pri ori to assume that stoc kholders as a gro up would ch oose different directors than e m p loyees as a gro up. It all d ep ends on how things are go ing and th e individual in vestors' tim e h o rizon . The flaw in my modifi cation of Lip ton's suggestio n is th e flaw embedded in that suggestio n itself: Making directo rs accou n table to co ns titu enc ies with specific interests will lead them to favor those interests unless the incentive str u ctu res to do so are broken. That's why I prefer the self-pe r pe tua ting board , alo ng with th e elim inatio n of th e stoc k price maximization rule .

I N F O R M A TI O N

Another pi ece of th e puzzle n eed s a bit of fleshing o u t. Ce n tral to Lipton's p roposal is that the b oard provid e ex te nsive au dite d an d eva luated information, loo king five yea rs back an d five yea rs forwar d. T hat mak es a lot of se ns e an d see ms esse n tial if hi s id ea is to work. Bu t whether yo u reje ct his proposal, my proposal, or an y other proposal an d th in k th at for so m e reason an n ual b oard electio ns are a good id ea, the re is yet another m ore moderate suggestio n which can h elp break managements' in centives to focus o n the short ter m : length en th e p eri ods be twee n fin an cial re ports. U n de r cur re nt federal securities laws, every re gistered corp or atio n h as to file quarterl y an d an n ual fin an cial rep orts with th e Securities an d Exc hange Co m missio n, p arts of whi ch go to th e stoc kholders. Now so meon e wh o tak es long-term in vesting se rio usly (I hate to keep usin g Warren Buffett as the exam p le, but h e really is th e prime role model, at least for this) recognizes that quarterly ch anges in p er fo rman ce ar e close to m eaningless an d eve n an n ua l changes, th ough so me wh at more revealing , are n ot of earth-shattering imp ortan ce. This is especially true if you pi ck your investm ents care fu lly in th e first pl ace an d understand th at your corporatio ns, like an y corporation, will suffer temporary ups and downs . If o ur goal were to try to sta bilize o ur ca pital m arkets an d free management from shor t-te r m pressures so that they felt e m powere d to m an age for the lo ng te r m, we might all get together an d 13 2

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agr ee that we wouldn't make buy and sell decisions on th e basis of quarterly reports, and that we might not make them even on the basis of annual reports. The problem is, even if each of us individually thinks this is a good id ea, we don't hav e a m echanism to ca ll a group meeting on the subject, no way to draw up some norms of restraint. We don't reall y individually h ave a way of sign aling to other investors that if they behave the way we all agree is right, so will we. As a result, we live in a market environment in which we are at a com pe titive dis advantage if we don't acc o u n t for price mov ement and vola tility in making our investment decisions. So what do you do in a situation like this ? You do what Ulysses did wh en faced with th e Sirens' song and with his lack of co n fide nce in his self-restraint: you tie yourself to th e mas t. In financial ter ms, this would m ean ch anging th e sec urities laws to len gthen th e p eriods between finan cial reports. We 'd certain ly wan t to eliminate quarterly reporting. And we might also get rid of annual reports. Maybe we 'd require th em every two yea rs or every three yea rs or every five years, as Lipton suggests (although he nowhere advocates eliminatin g th e curre n t system of reporting - just en hanc ing it). Nothing would stop co m p an ies from voluntarily reporting more frequently. In fact there may be entire industries, like those involved in hi gh technol ogy, for whi ch m o re fre q ue n t rep orting reflects business realities better than longer reporting periods. These industries co u ld b e treated as ex ce p tions in any n ew regulated reporting regim e . But in th e n ew enviro n me n t, fr equent rep orting would be a risky business: live by the short term , die by the short term. The e n tire reform would be aime d at giving m an agers greate r freedom to let their long-term plans mature, to free them from the fear of stockholder wrath, and to le t th e m make investments that might not payoff for several yea rs an d th at might reduce ea rnings per share . If they really want to risk short-term pressures, nothing would stop th em. And nothing would stop shorter-t erm sp ecul ators either. In th e first place , speculation by definition means guessing, and nothing would prohibit th eir gue ssing between fin an cial reporting p eriods. In addition, I've said only that we should extend th e interval between financial statements, not deprive the investment community CORPOR ATE M AN A GERS

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of informati on altogether - managers co uld prep are all th e quarterly and annual narrative reports they like, talk ab out their plans, successes, an d failu res, all ultima tely su bject of co u rse to ex isting an tifraud laws. T he goal is n ot to keep everyone in th e da rk , but m erely to remove the p erverse in centive that prevents long-term manageme n t.

1 34 5 T R u e T U R A L T R AP 5

TRADITIONAL STOCKHOLDERS : THE NIGHT OF THE LIVING DEAD

How many times a day do yo u log on to the In ter n et to ch ec k yo ur stock prices? How much do you know or care about the corporations in whi ch yo u invest - how th ey treat th eir em p loyees, wh ere they do business, what their environmental record is? How much do yo u treat sto cks like th e day trad er quoted in th e Washington Post: "Wh o care s wheth er it 's a car co m p any or a chem ical co m p any? Who cares what th ey're going to be doi ng in 2000?" One study re ports th at th ere are ap proximate ly fifty th ou sand peopl e engage d in day trading every sin gle da y. These investors have a profound effec t on sto ck prices and market volati lity, trade solely on rumor an d volume, an d care nothing of and know n othing ab out th e co rporations in whic h they invest. And remember th e dat a I dis cuss ed in th e introduction th at sh ow that sto ck market volat ility has in creased dramatically. On Wednesday, March 8, 2000, as I was writing this chapter, total trading volum e on th e New York Sto ck Exch an ge was slightly over one billion shares, and total trading on the NASDAQ wasjust under two billion shares. That's a lot of shares of sto ck ch angin g h an ds every day. Modern finance th eory supports th e thinking of d ay trad ers, at least to some degree. It tells them that corporate stock is nothing other th an a m easure of its risk in relationship to th at of othe r sto ck. And th e way to ha n dl e this risk is to develop a diversified portfolio of securities. As the popularity of index funds demonstrates, once 135

you 've don e thi s, th e particu lar co rp oration doesn 't m atter at all. All th at matters is the risk and return it represents in yo ur portfolio. Long-term, responsible cor po rate management will not become th e norm until we change our att itude as sto ckh olders, until we see th at the individual corporation is what matters. If America n co r po ra te direct ors are enco u raged to b e Mr. Hyde, traditional corp ora te sto ckholders, by whi ch I m ean individuals who inv est th eir money in the stock m arke t, are en cou ra ge d to beh ave as if th ey we re am ong th e living d ead . They are e nc ouraged to act as if they had no conscience, no soul, no responsibility for th eir own ership. They ar e enc o urage d to care only for th emselves. Wh o re ads a p ro xy sta te me n t? Wh o both ers to re tur n p roxy cards and vote for directors? Who thinks or cares about the lo ng-ter m directi on of th e bu sin ess? But who cares abo u t daily stock prices? In d ivid u al stoc kh olde rs are e nc o urag ed to b ehave as if the ir sing le go al were th e consumption of corporate wealth. Former Securities an d Exc hange Com m issio n Chair man Ar th ur Levitt recently criticized on-line brokers' get-rich-quick advertising as "trivial[izingJ a process th at is so cr uc ial an d so important. " Th e question is why U .S. sto ck markets hav e b ecome even more casino like th an ever b efore. Wh y have stockhold ers become compl etely d et ach ed fro m th e co r po ra tio ns in whi ch th ey invest? Th ere are several answers, all boiling down to the cen tral theme of this b ook: stoc k price m aximization.

ALLOCATING CAPITAL AND PROVIDING LIQUIDITYTHE ROLE OF THE EQUITY MARKETS

Forgive me for going over some basic material, but I th in k it's important to refl ect on th e qu estion of why we h ave stoc k markets in the first p lace before en ga ging in a specific discussion of the problems of th e Am erican sto ckhold er. There are two co m p onen ts to th e Am eri can equ ity m ark ets, whi ch I am d efining broadl y to include all of th e national and regional ex changes as well as th e NASDAQ.a The primar y m arket is the m arket for n ew issu es: initi al -T here is a no the r important ca pita l market wh ich is beyond th e sco pe of 13 (j STR UC TU R AL TR APS

publi c offerings an d su bse q ue n t offerings by publi c corpora tio ns whi ch are de signed to raise cap ital for th e issuer. These are usually underwritten by in vestment banking firms, whi ch purch ase all of th e sec urities to be sold directly fro m th e issuer at a discount fro m the issuance price and then re sell them to the public. The difference is referred to as th e underwriting co m m issio n or spread. This is h ow underwriters mak e th eir money, an d it 's h ow corp o ra tio ns ob tain the capital they n eed to fin ance the ir businesses. Of course th ey ca n also o bta in ca pital by bo r rowing mon ey, th at is, issuing debt, but that presents a differen t se t of problems from the ones I wan t to talk about h ere . In 1997 , so me $8 2.4 billi on of n ew co mmon stoc k was issued in the U n ite d Sta tes . Th e ma rk et value of sales of sto ck on all registered ex changes was $6. 879 trillion , with an ad d itio nal $4 .482 trilli on trad ed o n NASDAQ .l So on ly $82 billi on of a total of m ore th an $ 11 trillio n in stoc k transacti ons, ab out .74 percent, consiste d of issuances of n ew stock. Obviously th e secon dary market is wh e re m ost of th e ac tio n occurs (over 99 percent, to be precise) and where most of the problems co me fro m . Now d on't get m e wrong, th e secon dary market is very importan t. That is th e m arket in whi ch p eople who d ecid e th ey no longer want to own their sh ares of Intel or Ge ne ral Electric or AT &T fin d , usu ally th rough brokers, peopl e wh o want to buy th ose shares. It's just like th e market for used cars, although ideally a lot more profitabl e. The secon dary m arket sim ply is th e aggregate of all of th e individual trans actions betw een buyers an d sellers of stoc k that has already been issued. The buyer s get th e sto ck ; th e sellers get th e m oney; th e co r po ra tio n gets nothing. The importan ce of th e secon dary m arket is fairly obvio us. There ar e only two ways yo u can ge t your money out of a corp o ratio n: first,

my d iscussion here , and th at is th e in ternal market th rough wh ich individual corporatio ns m ake ca p ita l allocatio n decisions as to th e projects th ey will invest in . Clea rly thi s mar ket is rel ated to th e ca pita l mar kets whi ch are exte rnal to th e corporatio n, but wh at I h ave to say abou t th e latter sh ould be sulIici en t to suggest th eir effe ct o n th e former. Greater d iscussio n of th e internal ma rkets an d th eir rel ationship to exte rn al markets m ay be found in Micha el Porter, Capita! Choices. TR ADITI ON AL S TO CK HO L D E RS

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wh en th e directors declare dividends, usually a return on yo ur cap ita l, tha t is, th e corporation's ea rni ngs , rathe r than of your capital, th e money you invest ed; and, second, wh en th e co rp oration liquidates an d disso lves, in whi ch case yo u ge t yo u r investment or wh atever is left of it back. Now the latt er is a re lative ly rare occurrence, an d in fact th e form er is becoming in cr easingly rar e as well. And yo u want these to be rare occurrences be cause a co m p any's liquidation is usu ally a sign that it hasn 't do n e ver y well, and excessive dividends suggest th at yo ur co rpora tio n 's directors don't know how to invest its cash . But loo k at th e problem: once yo u 've invested yo ur mon ey in th e corp oratio n you hav e no way of ge tting it back , and you mi ght as well assu me th at you 're locked in forever. I suspect th at n o t terribly many people would be enthusias tic about in vestin g mon ey if th ey th ou ght th ey'd n ever see it again. T hi s is the importance of the secondary market. One of th e characteristics of stock ownership is the rig h t, withi n some federal restri ctions, to sell th at sto ck ge nera lly wh enever yo u want an d to whomever yo u wan t. This is th e principal way most people realize a return of th eir ca p ita l. And for cor po ra tio ns th at don't p ay d ivid ends, it 's also th e prin cipal way most p eople reali ze a re turn on their capital, as the mone y that would oth erwise h ave been paid o ut in divid ends ge ts re investe d in th e co m pany to ge ne ra te greate r profits and higher share prices. T hat's th e way it's supposed to work. And, to a large ex te n t, th at's th e way it does work. T h e prima r y mark et p ro vid es investment ca p ital; th e secondary mar ket provides liq u idity. The secondary m ar ket serves another fun ction as well. To th e ex te n t th at stoc k trad es are based on investors' assessm ents of th e future ec o n o m ic well-being of th eir co rporations, they provide informa tion th ro ugh the simple law of su pp ly an d d emand . If more people are selling Coke stoc k than buying it because more people thi nk its prospects are less than ros y, th e price will go down . Co nverse ly, if more p eople ar e buyin g Cisco stoc k than are sellin g it b ecaus e th ey p erceive Cisco to b e one of the driving for ces of the n ew tec h nolog y economy, the price goes up. Su ch informati on is usefu l in th e primary m ark et because wh en th ese co m p anies want to issu e new stock it allows the m to "c o r-

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rectl y" price th e issu e , th at is, se t a p rice at whi ch it will se ll. Th e main soc ial fun ction this se r ves is to ensure that capital in the prim ar y m arkets is allocated co rrec tly, th at is, to th os e issu ers who ap pear m o st likely to m ak e th e best use of it . There have always been people who choose companies car efu lly, in vest in th em, an d h old th e stoc k until th ey n eed to sell it to buy a h ouse or se n d a ch ild to college o r to h ave fu n ds availa ble for r etirement. And th ere h ave always b een p eople who h ave speculat ed in stock by taking advan tage o f pri ce movem ents o r an ticipated price movements based ei ther on information from th e co mpany or m arket p sychol ogy. One of th e m arket p sychologists was th e great English econo m ist Jo h n Ma yn ard Keyn es, wh o spen t an h our trading from his bed ea ch morning and wound up making quite a pil e of m on ey. H e d escribed th e m arket as som eth ing like th e b eauty con tes ts Engli sh n ewspapers used to run . They would publish the pi ctures of a number of women , and the winner was th e pe rson wh o correc tly id entifi ed th e most attractive o f th em. Of cou rse th e way to win was no t to pick th e woman you though t was m o st att rac tive, but ra th er th e o ne yo u th ought the grea tes t numb er of other p eople would id entify as most att r ac tive. Th at 's th e psychology of se co n dary m arke t specu lat io n. But whil e specu lators may pl ay an impo rtant marke t ro le -for example, in ferreting out information and h elping to move sto ck prices to their co rrec t level s, whi ch affec ts the primary m arket an d thus th e allocation of ca pita l - th e p rincipal purpo se of th e secon dar y markets, at least historicall y, was to provide liquidity. Is this still th e primary purpose of th e secon dary m arkets? If not, are th e secon dary m arkets on ly ab out speculatio n? If th ey ar e , is that a go o d an d healthy thing for corporate gove r nan ce, resource allocatio n , an d th e well-b eing an d sus ta inability o f our eco n o my? The trading volume by number of sh ar es in 1970 was 4.23 billion . This co m pares with 21.11 billion in 1980 , 82 ,59 billion in 1990, an d 508. 6 billi on in 1999 .2 In 1970 , about 30.5 million Americans own ed some kind of sto ck , directl y or indire ctly." In 1999, that numbe r h ad rise n by over two an d a h alf times to 78.7 million ." But the volu me of shares traded increased over 120 times, and

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th e value of the shares trad ed in creased mo re th an 173 times. Now maybe a lo t more people were buyin g houses or sen ding kid s to co llege in 199 9 . Bu t it sure looks like so meth ing h as changed. " As the stories with whi ch I began thi s chap ter indicat e, th e ch anges have not escaped public attentio n. It see ms unquestionab le that secon dary m arket spec u latio n isn 't just for p rofessionals anymore - th at in fact it is the drivin g force of the dram a tic incr eases in o ur capital markets. There are, undoubtedly, lots of reaso ns thi s m ay h ave h appen ed .

OF EFFICIENT MARKETS, PORTFOLIO THEORY, AND RATIONAL APATHY

Modern fin an ce th eo r y offers a stu n n ing array of justifica tions for co n temporary m arket b eh avio r an d even so me plau sibl e em p irical and theoretical explanations. It does no t, however, offer an y sort of n ormative excuses for th e beh avior we 've seen, an d so I'd like to take the economists on th eir own terms and de scribe what follows as purely p ositi ve , th at is, as an o bservatio n of wh at is rathe r th an wh at sho u ld be. Wh en it comes to in vesting, financ e the ory is intertwin ed . So I'll sta rt with a littl e deep background an d th en go on to exp lain th e way modern fin ancial econo mists h ave d efined th e world . T here are, as far as the hi story of twentie th-c entury fin ancial th ought goes, a few id eas th at tran scend Keynes's b ed ro om tradin g.?The first com es fr om J ohn Burr Williams, whose ideas more or less gave birth to th e divid end di scount m odel of valu ing stoc k. Ii Ea rnings h ad b een , as th ey still ofte n are, tak en as a ce n tral m easure of a com p any 's an d th erefo r e a stock's performance . Bu t earnings are th e product of acco u n ting co nve n tio ns , an d whil e th ey m ay give so me indication of a co rpor atio n's profi tability th ey do no t reveal the amo unt of cash it ge nera tes .c Viewin g th e worl d fro m th e p er"The

2000

Securiti es Industry Fact Book rep orts th at th e sup ply of eq u ities

di minish ed over th e five-year peri od ended 1999 whil e deman d sign ifican tly in creased. <Ear nings are d et ermined by a co m plex set of rules th at involve timing, 14 0

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sp ective of an investor whose major interest is th e cash h e can reap from the stock, Williams suggested tha t looking at the dividends a company would pay- that is, th e cash that would come out of itwas a far more potent indicator of valu e than ea rn ing s. Th e way to value stock, then , was to project the amount of cash th e company would produce for th e foreseeabl e future, m ak e some reasonabl e predictions as to future growth be yond that point, and discount the total amount down to present value . The discount rate yo u used would com bine an ele me n t for th e tim e valu e of mon ey an d an element for the risk that you anticipated taking with the particular company. Then you would know what th e sto ck would be worthnot without some guesswor k and judgm ent mind you but in th e ballpark. Now th at's one way of doing it . Inv estors still use it , just as th ey still use earnings, net assets, and other aspects of th e cor p orat io n' s individual characteristics to come up with estimates of value. But all of th ese m ethodologies h ave on e thing in co m m o n: th ey fo cus on fundamental aspects of the company, the characteristics that make it sp ecial an d unique, an d th at includes not only numbers but th e nature of its business, its management, and everything else you could find ou t about it. This style of investing, called fundamental analysis, was cham pio ne d by th e finance p rofessors David Dodd and Benjamin Graham in th eir famous book Security Analysis (19 34) . It is th e m ethod still used today by th eir disciple, Warren Buffett, and by a number of investors kn own co m m o n ly as valu e investors. It is a me thod th at, curiously, remains out offavor. Things began to change , sta r ting with real breakthroughs in th e academy in the early 1950S and on Wall Street in the 1970s, in ways that are intertwined and complex. I'll tr y to layout th e various strands in a way th at shows how th ey all come to gether an d create the modern legal model of the stockholder. Let's begin with a basi c truth developed by th e ec o n o m ist Harry Markowitz, a truth known to ec o n o m ists as portfolio th eory. The inventory, d epreciati on of asse ts, tax matters, and th e like . Some of th ese involve noncash adj ustme n ts to ea rn ings . Thus earn ings, as far as th e co rpo ration's cash goes, ca n be a misl eading number. Cash , o n th e o the r hand , is cas h . TR ADITION AL STOCKHOLDERS

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id ea is very sim p le, so sim ple th at it 's em bo die d in a folk saying: "Don' t put all your eggs in one basket." (I don't mean to poke too much fu n at ec o nom ists for proving th e obvio us . Afte r all, it' s ni ce to kn ow th at wh at we kn ow to be true is in fac t true. I'm j us t n ot sure why they give Nobel Prizes for it- maybe it's b ecause th e economi sts use nifty ma th emati cal models th at th e rest of us don't really u n de rstan d but are comfo rted by b ecause th ey look so much m ore authoritative than our in tui tions.) Anyway, Markowitz sh owed that if you bought a group of stoc ks rath er th an a single stoc k an d p aid a little bi t of attention to what th e co m p anies did so that th ere was so me balan ce to wh at you bought (th ou gh it didn't h ave to be a lot) , you co u ld ca nce l o u t a lot of th e specific risks of own ing stoc k in a p ar ticular com p any and still make a prett y go od re turn . An exam p le will mak e th e obvio us eve n m ore so. Assu m e you buy stoc k in a co mpany th at mak es sunsc ree n. If th at 's all you own, and th e weather is rainy one summer, yo u 're likely to lose money. But n ow let 's say you also buy stoc k in a co m pany th at m ak es umbrell as. Voila! You profit from the rainy season , and that offsets yo ur losses in th e sunscre en co m pany. As my fourteen-year-old so n would say, "Du hl " (Of co urse h e doesn 't h ave a Nob el Prize - yet .) Anyway, the important th ing for our purpose is the implication of p ortfoli o th eor y (wh ich by th e way is an implica tio n th at is p art of th e force behind th e de velopment of mutual funds) . If yo u own a reasonabl y diversified p ortfoli o of stoc k, you don't h ave to worry abou t or really pay atten tio n to any specific corpora tio n becau se the re turn yo u are looking for is a return on you r portfolio as a whole , n ot on any individual stoc k. An d th e risks of own ing any individual stoc k are bal anced o ut by diversification . You can d o it yourself or you can buy a mutu al fund an d let somebody else do it- eithe r way, o nc e you 're in vested th e uniquen ess of any individual co rporatio n be comes entirely irrelevant to you . Now th ere 's a greater adva nce on this th eory, o ne th at becam e all th e rage in th e 1980s an d early 199 os, alth o ug h it h as lost some of its ch ar m by now: that is an in vestment th eo ry kn own by th e impressive n am e of the ca pital assets pricin g m odel (CAPM) . A logical, if more math ema tically sop h isticate d , advan ce o n b asic portfolio th eory, CAPM skip s th e corporation e ntire ly - we don't 14 2

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even hav e to look at what th e co m pany mak es anymore - and goe s di rectly to what we are presumed to care about, stock price movem ent. Simply put, CAPM th eorizes that th e price ofa sto ck mov es in some proportion to th e rest of th e market, and th at proportion is determinable for an y give n corporation's stock. All you do is perform a regr ession analysis, evaluating th e way th e sto ck h as mov ed in relation to the market as a whole in the past. This gives yo u a number, called beta, whic h tells yo u the re lative risk of yo ur stock to th e m arket as a whole . For exam p le, acc o rding to th e beta bo ok compiled by PaineWebber fo r Ap ri l 2000, Lexmark In ternatio n al Group had a bet a of 1 (a bet a of ex actly 1 is rare) . This m eans th at if th e mark et as a wh ole goes up one p oint, so d oes a sh are of Lexmark. Likewise if it goes down . The implications ofCAPM are striking, especially wh en you co mbine it with portfolio theory. Because now you don't ne ed to look at whether the corporation makes sunscreen or umbrellas - all you n eed to look at is its beta. An d yo u d ecid e th e level of risk with whi ch yo u' re comfortable and th en put toge th er a portfolio of sto cks using th eir bet as . That's it. Both of th ese th eories d o mak e an underlyin g assumption, on e that ties together all of modern fin ance th eory. The assumption is th at th e stoc k market is efficien t. Not to worry - it 's an assum p tio n that, at least for a whi le, had some empirica l proof behind it . In 1970 , th e econom ist Eugene Fama publish ed a pap er reviewin g th e literature o n mark et efficie ncy an d co n clud ing th at th e stoc k marke ts were at least semistrong efficient. 7 What this means is that th er e is en o ug h informati on an d e no ug h trad ers (and th at tran saction costs ar e low eno ug h ) so that at an y given time th e price of a sh are of a corporation's stock refl ects all of th e company 's past information (no big deal) an d all of its publicly available cur re n t information as well (a much bigger deal) . The implication of this is fairly important: at an y given tim e and for an y given sto ck , th e market knows all, whi ch m ean s th at eac h co m p any's stoc k trad es at th e supposed right price . You can beat the market on ly if yo u have in sid e informati on. Maybe it's n ot surprising th at Fama's article was followed by a wid ely publicized sp ate of insider trading in the ear ly to middle TR ADITI ON AL S TO CK HO L D E RS

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I g80 s. But for th e average p erson wh o h ad n o access to in sid e in formation or wouldn't use it if h e did, the im p licat io n is clear: d on't bo ther trying to beat the m arket because you can' t. Just assemble your diversified p ortfoli o and sit back and co llec t reaso nable, but n ot extrao rdinary, re turns. T he lat e I ggOSshowe d that id eas abo u t mark et effic ie ncy were at least questionabl e and h ave go ne fr om n ea r-gosp el to real co n t ro versy. The stock market volat ility an d tra d ing volumes I 've describe d see m like good eno ug h evide nce of th is." (Just as a re minder, daily tr ading in 1998 on all exc h anges reached 1.6 billion shares, an in cr ease of 1,300 p ercent from 1982 , whe n 113 milli on shares were trade d daily.)? Controversy over the theory did n 't stop the Supreme Co ur t from basin g an entire jurisprudence on it, nor did it sto p lots of in vestors from putting th eir m oney into index fu n ds an d other wid ely diversified mutu al fu n ds, co n trib uting e norm ously to the gro wth of in stitu tional investors (the su bject of the n ext chap ter) . My p oint for th e mome n t is wh at h ap p en ed wh en people b eli eved that th e efficie n t market th eory was right. Wh en you em be llish it with p ortfoli o th eory an d CAPM, you h ave a logic that de n ies the importance of any single co m pany to the ca p ita l m arkets or your portfoli o , a logic that d enies the uniqueness of any single company, an d in stead arg ues for understandin g suc h companies as nothing more th an the risks and returns associa ted with their stoc k. It is a logic far removed fro m that of th e individual b usinessman who ru n s h is own small company, or th e family corporation , or even th e in vestm en t te chnique of Graham an d Dodd and Buffett. It is th e logic of th e day trad er whose sta temen t began thi s chap ter: wh o cares what the co m pany does, wh at the co m pany m ak es, wh at th e com pany's long-term prospects are - or for that matte r, h ow it be haves? H ow is its stoc k d oing an d h ow does it fit into my p ortfoli o? This is n ot an attitu de that p roduces ca ring stockholde rs. It is certain ly n ot an att itude th at woul d lead a stoc kholder to read an an n ual report or proxy state me nt, much less to fill ou t and re turn a p ro xy ca rd an d vote for direct ors. It is not an attitu de th at would lead a stockholde r to p ay any attentio n to wh ether th e corpora tio n was clo sing fa ctories an d d estroyin g towns, making exp lod ing cars, 144

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or em p loying slave labor in Burma; th at would lead a sto ckhold er to fee l any loyalty to or co ncern with the corporation at all. It is an attitude that would lead a sto ckhold er to fo cus solely upon th e price of th e corp ora tion 's sto ck . The point is that finance theory, no matter how descriptive it may claim to be, has significant normative implications. And finance theory can be wrong. Right or wrong, however, it is important that we understand these no r ma tive implications, that we see th e kinds of beh avior th at fin an ce th eory, tri ckled down through the business schools to the analysts and traders and portfo lio managers to th e mass es, produces. And it is especially important and interesting to see th e ways in whi ch fin an ce th eory and legal th eory intersect.

THE LEGAL MODEL OF THE STOCKHOLDER

How does this financial model of investing (o r sto ckholder p erspective or whatever yo u' d like to call it) re late to th e mode l of the sto ckholder con str uc te d by law? The answer turns out to b e th at it relates very well, with th e longer-s tanding legal model reinforced by the more modern financial model. The result is to produce legally co ns t ruc te d acto rs who p redictabl y behave mo re like au to mato ns than th e corporation or its managers and wreak havoc on corporate accountability an d responsibilit y in th e process. You already kn ow so me thing ab out th e stoc kholder model. As I discussed in chapter 5 , stockholders have the power to vote on ce rta in limited m atters, including th e elec tio n of directors, bring derivative litigation, and sell th eir sha res. It was lon g b eli eved, at least before th e takeover wars of the mid-t qb os, that th ese powers were relatively m eaningless, th at sto ckholders were impotent to effect a ch ange in directors, that (as I've described the rules governin g deriv ative litigation ) sto ckhold er suits were hard to bring an d ge nera lly in effective, an d that th e princip al mode of selling a co rporation was a merger, which required board of director approval and some tim es wound up preceded by a proxy figh t th at th e directors con tro lled. The 1980 s ch allenged some of these ideas abo u t stockholder TR ADITI ON AL S TO C K H O L D E RS

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power. But at th e same tim e that th e even ts of th e eigh ties and th e decade following resulted in some very real stockholder empowerm ent through th e d evice of th e hostile tak eov er, th ey also exace rbated th e short-term profit m entality preval ent in th e m ark et today." Th e change didn't occur in th e more tradi tional legal m echanisms of voting and suing, although there was and still is hope within the institutional investor community tha t the extraordinary rise in institutional holdings will result in a more effec tive fran chise. Ra ther the change came about as hostile takeovers showed stockholders th ey had th e pow er as a group to sell th e company out from under m an agement. Of co u rse th ey co uld n 't an d didn't ac t as a group. Stockholders generally are too widely dispersed to be able to coordinate th eir actions, ag ain exce pting institutional sto ckholders. In fac t the recognition of this prompted state courts and th en legislatures to create ways for the incumbent board to act as a central n egotiating m echanism for th e sto ckholders. It might appear at firs t that if the board were put in a position to n egotiate for sto ckholders th ey co u ld serve th eir own interests at the same time and so the sto ckholders aren't really empowered in a meaningful way. Bu t courts deve loped fairly fine ly tuned rules to d et ermin e wh eth er th e bo ard was acting in th e best interests of th e stockholders or for its own benefi t. And Delaware went so far as to say that, whil e th e board didn't hav e to p ermit th e company to be sold at all (and it cou ld prevent th e sal e through defense m easures like poison pi lls and later by statutory mechanisms) , as soon as it d ecid ed to tak e m easures that would result in a ch ange of co n t ro l it was obligated to seek the highest price reasonably available for the stockholders. Clearly a rule about short-term profit maximization. Clearly a rule about sto ckholder interests .

"Sorn e of th e stockholder-empowering effec ts of hostile tak eovers were blunted by th e rush o f sta tes in th e 1980s and 1990S to pass man agementprotective an titak eover legislation . But cre ative wou ld-b e raid ers have evaded m an y of th e blocks through th e revival of o lde r devices like proxy co n tests and th e use of newer techniques like co nsen t solicitations, through which th ey replac e th e bo ard and lift th e protections (or satisfy th eir requiremen ts) . 1 4(j STR UCTU R AL TRAPS

WHO IS THE STOCKHOLDER?

Wh o is th e stoc kholder an d wh at motiv at es h e r? On one level , the an swer is sim p le: the stockholde r is you and me . While we have scarcely reach ed the poin t of Pet er Drucker 's n eosocialist worl d of unive rsal stock-owne rsh ip, " it is th e case th at as of 1999, so me 28.6 p ercent of the Am erican population in 48 .2 p ercent of all h ouseh olds owne d stoc k in some form. '? Fifty-three pe rcent of h ouseholds that own ed eq uities did so in th e form of both individual stocks an d mutu al fu n ds, wit h 15 percent own ing individual stocks o n ly and 47 percent owning on ly m u tua l fun ds. '! Eig h ty-five p ercent of households th at own ed equitie s owned at least some of th em in a fo r m th at pl aced an intermediar y b etween the shares (and th e corpo ra tio n th at issu ed th em ) and th eir owners. Bu t th e number of Am ericans owning eq u ity in so me form h as dram atic ally increased , from 19 pe rce n t of h ou seh olds (42 -4 milli on individuals) in 19 83 to 48 .2 p ercent of h ouseholds (78 .7 milli on individuals) in 1999 . So th ings are looking up, as fa r as the distribution of corporate wealth is co ncerned, and we h ave look ed at th e stoc kholde r an d h e is us. Bu t is h e really us? The answer is far m ore co m p lex, but ultimately I think it is fair to co ncl ude th at stoc kholders, at least as th e law co nceives of th em , look nothing at all like us. And th erein lies a p roblem , a problem sim ilar to the o ne I d escribed in th e preced ing chap ter. I started with the proposition that stockholders are the owners of th e co r po ra tio n an d th en d econstructed that popular misconception to show th at stockholde rs are n ot in fac t owners in any way we wo uld se nsib ly r ecognize as suc h . The conclusion is compounded whe n we look at p atterns of stoc k ownersh ip . In th e first pl ace , as we -I call it neosocialist becau se , wh ile Drucker e nvisions a world of virtuall y uni versal sto ck ho ld ing, th e ma n ner in wh ich he envisions such wea lt h shari ng co ming abou t, thro ugh what he ca lls " pe ns io n fund ca pita lism ," seems poorly poi sed to red uce or el im in ate signifi can tly th e serio us co nd itions o f pover ty in whi ch so man y Ame r ica ns (no t to mention o ther h uman s) live , nor to redress pro blems of in come d istr ibut ion. Whil e it might go some way toward am elio rat in g problems of wealth dis tributio n, tha t hardl y amounts to th e same thing , for reasons I will di scu ss in cha pter g. TR ADITI ON AL S TOCK HO L D E RS

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h ave see n, by far th e lion 's share of stoc k owne d in th e U n ite d Sta tes is owned thr oug h in stitutions. Sometimes, as in a single-asset own ersh ip veh icle like an em p loyee stoc k owners h ip pl an , th e ultimate b en eficial stoc kholder, in thi s case th e em ployee, kn ows what stoc k he own s, although the way th e plan operates requires him to cede hi s tradi tion al rights of voting, suing, an d selling to th e pl an trustees. H e there fo re h as n o co ntro l wh atsoever over th e co rpora tio n (or even the ch oi ce of investm ent itself, altho ug h h e has ch osen to work for th e p arti cul ar corpo ra tio n), an d so look s eve n less like an own er than most sto ckholders. On th e other hand, hi s ch oice to work for the co r po ra tio n spo nso ring th e pl an as well as hi s ability to co n trib u te to th e o peratio ns, co n d uc t, an d success of th e corporation gives him more of a re al ownership identit y and provide s him with p otentially greate r ownersh ip beh avior th an other fo rms of stoc k ownership. I'll talk abo u t thi s more in th e di scu ssion of empl oyees. O the r for ms of indirect ownersh ip are far m o re re move d th an th is. One susp ects that if yo u polled most owne rs of mutual funds abou t wh at stoc ks th eir fu n ds h eld , th ey co u ld n't answer. They ce rtainly wo uld b e likely to id entify th e industr y sector as well perhaps as the ge nera l inv estm ent goa ls of the fund . And they mi ght b e ab le to n am e a stoc k o r two . But more th an th at? Dou bt ful. It 's even more unlikely th at they would follow th e corp oratio n s or even th e stoc k prices of the co r po ratio ns of that stoc k whi ch th ey kn ew th eir fu n ds owned because the ir co ncern on any given day would be with th e fund price , not th e individual stock price . Now n oti ce whe re we 've been go ing - fu rther an d furth er away from th e co rporatio n as a thing in itself and m ore toward th e id ea that it is nothing more th an one of a number of diversified streams of risk an d re turn . T hat's th e stoc kholder worldview to whi ch , I suggested, modern portfolio th eory leads. And it's n o surp rise to see th is with in stitutional in vestm ent veh icles . Afte r all, a mutual fu n d is n othing other th an a m eans of diversifyin g your in vestments. People wh o own stock through institu tional me chanisms, wh ich is m ost of us, are unlikely to p ay any atte ntio n at all to individual co rporations . We have, in a very real way, ce de d n ot only our

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investment d ecisions but our right to co rp o rate citize nsh ip to th e fund managers. Well, what about individual stockholders? Whil e we still comprise a small percentage of th e market, it 's not an insignifi cant amount. In considering what the individual stockholder looks like, let's start with day traders, those spawn of th e Internet age who now, according to one study, make up some 17 to 18 percent of the daily trading volume on th e New York Stock Exchange and the NASDAQ an d 75 to 80 p ercent of all on-lin e trades.'? U n like sto ckholders who have relinquished their citizenship by choosing to invest through institutions, day traders ar e th e m ercenaries of th e corporate world, claiming allegiance to no co rp o ratio n at all an d moving in for th e kill to take advantage of price movements with speed and stealth, gra b th eir ga in s, and ge t ba ck out before being ca ugh t with (heaven forbid) an "investment" that mi gh t go down . That's an unflattering portrait, I know. And I don't mean to suggest that day trad ers are evil p eople . But th e m etaphor is apt, of renegades serving themselves regardless of the consequences. It is apt, that is, unless we ca n find a sociall y advan tage ous justification for their behavior. Let's step back and try to do that. Day tr ad ers are, after all, nothing but sp eculators. And specu lators h ave always existe d in th e market, will always exist in the market, and in fact have an economically and socially justifiabl e rol e in th e market. Even ed ucate d investment banks engage in sp ecul ation and always hav e - but th ey call it market making or specializing. What is the func tion of speculation and are day traders fillin g it? Well, as traditionally practi ced, speculation in the form of marke t making is designed to do something very important for the market : stabilize sto ck pri ces. Th e id ea is th at, for any number of reasons, the stock price of a given corporation can on any given day suffer a short-term drop or ex perie n ce a short-term gain b ecause of mismat ch ed supply and d emand, for good reason, for no apparent reason , or for reasons that have little if any re lationship to the longterm p erforman ce of th e co rp oration . If th ese flu ctuations were able to occur unchecked, the liquidity of th e corporation's sto ck in

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th e mark et , th e co rpora tio n 's ability to ra ise ca p ita l, an d th e managers' ability to maintain a stab le in vestor base would be threate ne d, an d managers would be fac ing all of th e short-te r m pressures th at th ey curren tly d o an d m ore. So specialists are ob liga te d to buy an d sell stoc k of the corp orat io ns in wh ich they sp ec ialize to maintain an orde rly m arket- a reason abl e equ ilibrium of sup p ly an d d emand . Sometim es they win , so me times th ey lose, but th at's th eir j ob , an d they get paid quite well for it. Specu lators se rve another functio n as well. Through research , speculators seek to exploit varianc es in sto ck price by using their su pe rio r in formati on either to buy sec urities th ey th in k, based o n th eir in for m ati on gathering, are under valu ed , or to sell (or sell sh or t) sec urities th ey think, based on th at information , are overvalue d . If th ey're good , th ey m ak e quite a lot of money at thi s. An d th ey d eserve to be well co m pe nsate d b ecause in ta king sig nifican t risks th ey serve an important socia l function, namely, th ey h elp to m ove stoc k to its correct price. T hat is to say, if anyth ing ever said ab ou t marke t effici ency ever were true (and it was an d to so m e exte n t m ay still be ) -they buy an d sell in qu antities, or by being wat ch ed by ot her in vestors wh o th en j um p o n the b andwagon stimul at e buyin g an d selling in quan tities su fficie nt to m ove the sto ck p rice of a given corporatio n to what it would be if th e informatio n th at they 've worked to acquire (hopefully legall y and n ot in violatio n of th e in sid er tr ading rules) were kn own to the m arket as a wh ole. That's a good thi n g because it h elps to serve the princip al marke t fun ction of allo catin g capital to its hi ghest-value uses . The co rpora tio n whose stoc k is co r rec tly priced will raise eq uity at th e righ t price and will b orro w money at th e right interest rate.tAny of u s co u ld do th isj ob if we h ad the time, inclination, talent, an d taste fo r risk to d o so . But we don 't . So spec u lators serve an impo rtant fu nc tio n, and we sho u ld be gratefu l. Do day tra ders stab ilize the m arket? Do they h elp to move stock 'T h e rel ati onshi p between stoc k pr icing an d debt pr icing is beyond th e sco pe of my inquiry here . It sho u ld be e no ugh to re cogn ize that both are based on the (relatively invarian t) time value o f mo ney and the risk o f investin g in th e particul ar corp oratio n . 1 50 5 T R ue T U R A L T R AP 5

to its co r rect pri ce? Do th ey do anyth ing for us at all? Nope. In fact da y traders destabilize the market by th eir ex cessive in and out tr ading to tak e advan tage of sto ck price flu ctuations without regard to th e reasons th e pri ce is movin g; an d th ey do nothing to move th e price in th e corr ect direction be cause th ey typ ically know nothing abo u t the co rpora tio ns in wh ose stoc k th ey trad e. Th eir trading is largely random , b ased on price m ovement alon e, and so th eir activities cr eat e what is generally r eferred to as n ois e - which in terferes with m ark et effic ie ncy rath er th an advances it - an d an awfu l lo t of noise at that. So forge t about loo kin g to da y traders for respons ib le co rp ora te owne rs h ip - we can 't expect th em even to trad e resp onsibl y.

THE REST OF US

So what about the rest of us? Wh at ab ou t th e 53 p ercent of the Ame rica n stoc kholding popul ation th at di rectl y ch ooses at least som e of the corp orat io ns in which they will invest, tha t directly in vest in th ose co rpora tio ns an d receive an n ua l reports an d proxy sta te me n ts? H ow op timistic can we b e about responsibl e co rp o ra te own ership from ourselves? Well , again th e answer d oesn 't look very good . Whil e d at a are unavailable (or at least I haven 't been ab le to find an y), it is common kn owledge th at few individual stoc kholde rs ever bother to re tu rn th eir p roxy cards -or if they d o , th ey sim p ly vote for m anagemen t's slate - or attend an annual meetin g for the ele ction of direct ors. On e would ex pect th at if any stoc kholde rs anywhe re would make th eir influen ce felt it would b e in thi s are na. But one would be wrong. In th e first p lace, as I suggested earl ier wh en I described th e implicati ons of modern fin an ce th eo r y, most of th ese sto ckholders hold diversified portfolios of sto ck and have no spe cial concer n with the welfar e of an y given corp o ratio n . The logic of diversificati on is th e logic of apa thy. An d one can h ardly blame people for behaving logically. Even if stoc kholders wanted to h ave a direct influen ce on th eir cor p oration's behavior, it would b e diffi cult. Securities laws make it relati vely diffi cu lt for individual stockhold ers to h ave any influence TR ADITI ON AL S TO CK HO L D E RS

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at all , and least so wh en it come s to issues that deal with responsible corporate behavior. So you wouldn't expect stockholders to push much of a social ag enda - th ey can't. Or rather th ey can, but only by ch oosing to invest in co rpo ratio n s of whose behavior th ey approve, and the barriers to obtaining adequate information on corporate b eh avior are high.s Moreov er, as I h ave previously discussed, limited liability and the norm of sto ck price maximization are powerful competitive disadvantages to corporations who try to behave well an d publicize th eir practi ces, unl ess th ey also happen to be outperforming the market. So what's a sto ckholder to do ? Nothing really, but what th e combin ation ofl aw, str uc tu re , m arkets, an d acc o un ting rules leads us to do : sit back and watch our gains and losses . The rational stockholder is th e apathe tic sto ckholder. Th e law exacerba tes su ch an attitude by depriving th e sto ckholder of an y real power or influen ce and thus of any real reason to tr y to influence or even care much abou t th e cor poration 's co n d uc t. The law provides a maxim of stockholder profit maximization to th e corporation and its directors, an d so th e m an agement is told, in effec t, not to look at sto ckholders as individuated people, not even for purposes of caring ab ou t such fin ancial consequences as th e diverse tax effects on stockholders of distin ct corpo rate transacti ons like tak eovers. Stockholders are all alike - and what th ey are is receptacles. You ca n 't ex pect much input from a rec eptacl e.

L E AD, F O L LO W, OR GET OUT O F THE WAY

So what's th e solution? On e an swer is simply to do nothing: continue on our current course and let the faceless, soulless market push cor pora tion s as th ey will through th e co m bine d an d often gl've alread y dis cu ssed th e limitations of modern acc o un tin g pr acti ces . T he re is a nascent move to require forms of soc ial acco un ting and soc ial auditing, both in th e acc o u n ting profession an d as a form of di sclosure under th e federal sec u rities laws, but th ese m ovements have th eir own difIi culties and have yet to bear mu ch fruit. I'll di scu ss so me o f th ese pr obl ems in th e co ncl ud in g portion of this cha pte r. 15 2

STRUCTUR AL TR APS

disp arat e forces of in stituti ons, day trad ers, profession al speculators, and long-term in vestors. As I've already ar gued at so m e length , th ough, if this is th e course we ch oose it is unlikely to be sus tainable in th e long run . Our economy m ay run on steam fo r a whil e . But th e sh ort-ter m pressures that the modern cons tr uc t of the stockh old er puts on co rpora te man agement are design ed to lead to long-term disast er. We h ave two o pt ions . Eith er we ignore stockholde rs entire ly, whi ch doesn 't see m like a pl au sibl e or even very d esirable solutio n in a world in whi ch sto ckholders ultimately supply the prin cipal ca p ita l o n whi ch o ur bu sin esses are built (alth ough wh en we look at th e Germa n system in chapter 1 1 we will see a successful alternative to a system based prin cipally on equity capital, even as it is one th at th e Ge r mans appear to be, for reasons I shall di scu ss, aba n do n ing). Or we can ch ange the in centives that shape stockholde r b eh avior. I won't pre tend th at the cir cumstan ces are ripe for a wholesale tra nsformatio n fro m stoc kholde r apathy to stoc kholder activism - n or do I th in k, for th e reasons I've already given, that th is outcome would be hi ghly d esir abl e . But we can create in centives for stoc kh olders to behave more like long-term investors, th ereb y giving management the space an d room it n eeds to manage for the lo ng term in a res pons ib le an d accoun table manne r an d without th e pressure of havin g to respond to the modern con str uct of the apath eti c stoc kholde r demanding in stant gra tifica tio n .

LOYAL CAPITAL IS HAPPY CAPITAL

Wh y sho uld we as a soc iety care about stoc kholde r loyalty to any particular corp oration? Wh y should managers car e? Wh a t difference d oes it m ak e to th e profitability an d res po ns ibility of o ur corporations? What differen ce does it make to the well-being of our soc ie ty? A lot. Let 's sta rt with th e words of Warren Buffett, th e ac knowledged guru of long-ter m in vestin g. Several year s ago I wro te ab out Buffett's ap proac h to cultivating stoc kholde r loyalt y an d suggeste d th at one rea son for hi s success migh t b e nothing more th an the ext raor dinary p erformance of Berkshire H ath away stock, coupled TR ADITI ON AL S TOCK HO L D E RS

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with th e fact th at th e Buffett family gro up h eld 4 6 p ercent of Berkshire Hathaway's common shares; I sp ec ulated th at a substan tial downturn in the price of Berkshire Hathaway might one day lead to dilution of th at loyalt y. 13 Well , th at day is upon us. Berkshire H athaway's Class A common stock dropped from a high of $78,600 per share in 1999 to $40,800 an d h ad reb ounded to $59,300 at th e time of this wri tin g. Yet th e trading volume of Berkshire Class A stock during the months of decline was an ast o n ish ingly low average of th ree hundred shares." Wh y the loyalt y? As Buffett writes, "In large part, companies ob tain th e share h olde r co ns titue ncy th at th ey see k an d d eserve. If th ey foc us their thinking an d commun ications on short -term results or sh or t-ter m sto ck market co nseq u en ces they will, in large p art, att rac t share holders who focu s on th e sam e fac to rs. An d if th ey ar e cyn ica l in th eir treatmen t of inv estors, even tually that cynicism is hi ghly likely to be returned in the inv estm ent community." I'll have more to say abo ut Buffett lat er. But wh at h e says is quite consisten t with what I've written so far and , perhaps far more imp ortant, is sim p ly co m m on se ns e. This id ea is ec hoed by the manage me n t co n sulta n t Fr ed eri ck Reich eld, wh o writ es, "Ma ny manage rs find it ne arly impossible to pursu e long-term, valu e-cr ea ting stra teg ies with out th e su p po r t of loyal, kn owled geabl e in vestors." Rei ch eld ad vocates cor p orate programs to educate investors as to th e ben efit s to th emselves of loyal, patient ca pital an d attem p ts to teach m an agement th e su bsta ntial benefits th ey will d erive fro m such an approach .

hi recognize th at it may well be th at th e re lative stabi lity of Berkshire 's

sto ckho ld e r base may be owing at lea st in part to investors' unwillingn ess to reali ze significan t losses when th e potential for pri ce ap pre ciatio n co n tin ues to exist. But th e fact th at 97 percen t o f Class A Berkshire stoc kholde rs who star t ever y year with th e co m pa ny co n tinue to own th e stoc k at th e e nd of eac h year implies lon g-term owne rsh ip and suggests th at most co u ld still ge t o ut with subs ta n tial gain s despite th e drop in pri ce and despite Buffett's prediction, in his le tter to share ho lders in Berkshire 's 1999 an n ua l report, of substa nt ially lower re turn s. See Berksh ire H athaway, In c., 1999 and 1997 An nual Rep orts. 1 54 5 T Rue T U R A L T R AP 5

So forget about responsibility. Loyal and patient capital is good for business. But it's also necessary to permit management to demonstrate th e kinds of accountability that not only co n tribute to th e long-term bottom lin e but are also simply good an d right behavior. Reicheld tells , for example, of John Deere 's policy of limiting its profit m ar gins on replacement parts sp ecifically to prevent customers from feeling go ug ed and building loyalt y for business purposes. But taking advantage of a captive market is also simply wrong. H e describes State Farm 's beh avior in th e wak e of Florida 's devastating Hurricane Andrew in 1993. Unlike other insurance companies, whi ch p aid claims and refu sed to renew customers' poli cies, State Farm actually over p aid claims to e nab le its custo me rs to replace substandard roofs with roofs that met liability codes. Good beh avior, good business. But th e results of su ch go od behavior won't be apparent to sto ckholders in th e short term; in order to make them understand the business benefits, th ey need to be in it for th e long h aul. In order for man agers to beh ave so responsibly, they have to educate their stockholders as to the benefits. For we can n o t assume , at least in th e short run , an overwh elming wave of sto ckholder conc er n with corp o rate behavior for its own sake. So we h ave to work toward that goal firs t by disseminating an understa n d ing of th ese benefits in business terms. When I put th e matter in business terms-at leas t in terms of profit-I am by no m eans ab andoning my argument for responsible, accoun ta ble behavior for its own sake. I am n ot sacrificing th e language of moral responsibility for the more pragmatic approach of busin ess ben efit. That would undercut my arg u me n t substantiall y, for r easons I'v e already discu ssed: Good b ehavior justified in business terms extends only as far as the marginal benefi ts exc eed th e marginal costs. An d th at mi ght ex te n d far or it might not. As Buffett, whose record on moral business behavior is spotty, put it, "I won't clos e down busin esses of sub-normal profitability m erely to ad d a fraction ofa point to o u r cor po ra te rat e of return. However, I also feel it inappropriate for even an ex ceptionally profitable compan y to fund an op eration once it ap pears to h ave unending losses in prospect." Moral corp orate behavior re co gnizes th e need for profitability earned in a manner responsible to all those whose lives TR ADITI ON AL ST OCKHOLDER S

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th e corp oration touch es. A pure profit-maximizin g argument gives a m oral out. But, having made th e moral argument at some gr eat len gth , I will bas e my reform suggestions in this ch apte r on busin essjustifications. The reason is simple and as old as Aristotle 's argu ment for com pe lling p eople to behave as if th ey were virtuous even if th ey fa iled to understand the reasons for virtuous be havior. It 's an ar gument that is p o pul arl y su mmarized today as "fa ke it 't ill you m ake it ." The ar gum ent is th at if you be hav e as if you were responsible, as if you accepted and u nderstood the reasons for your be havior, eventually you wou ld come to understand th e reaso ns for your b ehav ior and internalize th e moral principl es whi ch underl ie it . It's not too far off from the way Piage t observed kids deve lop their mo ral co nscien ces. Okay. I know that sounded arrogant, paternalistic, and elitist. Nobody ever acc used Aristo tle of being a pop ulist. Bu t it's n ot an ar rogan t arg ume n t at all. In fact if yo u've followed m e to this point yo u pro b ably agree th at some thing in our curren t corporate system is terribly wrong. But you m ay not kn ow quite wh at (although I'm tryin g to explain it) , and even if you do know what's wrong yo u ' re alm ost certai n ly unable to act by yo urself. Moreover, n o t one of us, including m e , is exem p t fro m th e temptati ons of greed, an d to sacrifice big re turns today for a sustainable future is indeed an act of sacr ifice , especially wh en don e alone . And th ere are u n d oub tedly a numbe r of p eople wh o are su fficie n tly unrefl ective or sufficiently greedy that th ey don 't care . Well, th ey need to be brough t along for th e greate r good . So my suggestions are aime d at overcom ing collec tive action problems and at giving us a ch ance to stop, breathe, see wha t we 've done, an d co m e to u nderstand the co llective responsibi lities of stoc kh olde rs - n ot th e legal co ns t ruc t of stockholde rs , not the anonymous mar ket, but the flesh and blood sto ckhold ers that we are - for th e future h ealth and well-being of o u r cor pora tions , of o u r ec o nomy, an d of our ch ild re n. That's not arrogant or elitist - it 's our responsibility. Creating in centives for lo ng-ter m m an agement an d pat ient ca p ital isn 't easy. People buy and sell sto ck for a lot of reasons, eve n within fairl y sh ort periods of tim e, an d it would b e a ser io us mistake to l S (j S TR UC TU R AL T R A P S

proh ibit or interfere with legitima te activity wh ile attempting to curb abuses. Some for ms of res traint are m ore appropriately re served for th e discuss ion of in stitu tion al in vesto rs in th e n ext chapter. But th e ar gument so far has pointed to a number of possible solutions that I will set forth h ere simply as suggestio ns for thi nking about reform. It may b e that some of th em are worth adopting, but the main point is to stimulate thinking about ways to solve problems.

LENGTHEN FINANCIAL REPORTING PERIODS AND CHANGE ACCOUNTING RULES

The first suggestion, or set of suggestions, begins with an idea I disc ussed in chapter 5, so I will n o t be labor the point. It is to le ngth en cor pora te reporting periods in order to elim in ate pressure on manageme nt to produce good short-term n um b ers and to allow th e m to focus o n th e lo ng term, as well as to elimi nate the sp ectacl e of sp ecu lative reactions by th e sto ck market and its co ncurren t destabilizing effect based on short-term n u m b ers. Allowing man ag ers to fo cus on th e lo ng term will make sto ckhold ers behave more as if the y were real owners of the co rp o ratio n and will lead man agement to act on that ownershi p fu nction mor e respo nsibly, both for th e long-ter m fin an cial h ealth of th e co rp o ratio n an d for the greater welfare of society as a whole . But th e answer depends on far more than th e less fr equent reporting of numbers . I hav e already noted several times th at what you m easu re and th e way in whic h you m easure it are as critically important to th e u ltimate direction and beh avio r of th e en te r prise as anything else . T here has been a great deal of re cent work on revising accounting inpu ts and p ro cedur es to rethi nk th e way we treat costs, expe n ses, investm ents, an d th e like. It is odd th at short-term corporate wealth decreases when manageme n t spends mo n ey on things like R&D and em p loyee train ing that are treated as current expen ses but ar e d esign ed to in cr eas e co rp o rate profitabilit y in th e long r un . These observations lead to one possible co n clusio n, and that is to revise the way we think about costs and expenses. Mayb e some emp loyment costs are really investments in lo n g-ter m increased T R A D IT I O N A L S TOCKHO LD ERS

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p roductivity. In vestment in wo rk ers an d in R&D cle arl y ca n be see n as a down payment on fu ture profits, much like building a new fac to ry. So ca p ita lizing at least so me of these ex pe nses r ather than taking th em as current hits to th e b ottom lin e would create a p owerfu l in centive to in crease them for a collective lon g-ter m benefit. A co rpora tio n that fo rgoes the op portu n ity to sq ueeze its last profits for th e sake of improvin g custo mer rel ati ons to d evelop a loyal consumer b ase is one that may well enjoy th e b est results in the e n d, although it m ay do less well th an its co m petitors in th e short term. And a cor p or at io n th at does all of th ese things is, at leas t implicitl y, recognizing its resp onsibility to those whose lives are impact ed by its b eh avio r, as well p erh ap s to th e broader co mmun ity of whi ch it is a p ar t. So at least as a firs t step , re visin g accounting rules so th at th ese long-term in vestments are n ot treated as short-ter m cos ts is a good id ea. Bu t it m ay not be e n o ugh to take the current accounting structure an d alter th e inputs. The soc io logist Fred Blo ck , in hi s acco un t of modern economic p oli cy, sugg ests th at the problem lies not only with th e inputs but with the en tire way we think abo ut econom ic e n te rp rises.l" Block presents a way ofloo king at th e econom ic world from th e persp ec tive of wh at h e describes as eco nom ic so ciology. T he pr in cip al di fference betwe en t raditional econom ics an d Blo ck 's approach is that while the former assumes self-in terested ac to rs see king to maximize th eir wealth in relati vely free an d efficie nt mark et s, th e soc io logica l ap proach tak en by Block recogn izes th at economic systems and th us economic behavior are both socia lly co ns tr uc te d an d n ecessaril y e m be dde d in hi stori cal , soc ial, a n d p olitical str uctures (much in th e way I h ave argu ed th at we sh o u ld see the modern corp oration ). T h is in sight, whi ch see ms fairly obvio us to anyo ne wh o look s o u t the window of th e ivory tower, is importan t in the implicit critiq u e, m ad e ex p licit by Block , that it levels at our e n tire fin an cial reportin g syste m - an d indeed o ur en tire financ ial understanding of th e corpor atio n. Corporate profitability depends on measurable inputs an d outp uts. But it d epends at least as h eavily upon the o rgan izatio nal st r uctu re in whi ch co llective b ehavior tak es place, th e interactio ns among managers an d em p loyees, and the effe cts o n all p er158

S T R UCTU R AL TR AP S

sonnel of n ew technologies and n ew ways of organizin g business. The point is th at form, behavior, culture, incentives, human synergies, technologies, job d escriptions, and th e like hav e impacts on cor pora te valu e : th ey ar e part of th e inputs th at cre ate or reduce value , and they are inherently difficult to measure precisely. These dil emmas are more th an th eoreti cal- th e in ability or unwillin gness to account for so cial factors in evaluating corporate performance can create incentives for managers to avoid making ch anges an d investm ents an d to avoid taking risks. They can cre ate incentives for employees to shun participation, avoid responsibility, work at minimal levels. If you truly manage what you m easure, th en perhaps it is tim e to sta rt m easuring or at least finding ways of accounting for th ese fac tors, which every manager and employee intuitively knows are important but is afra id to bas e d ecisions upon be cause of th e ch allenges in making quantitative justifications and the difficulty of defending mis takes. Un de rsta n ding th e n eed to reconceptualize th e inputs an d outputs of the corporation is important. Peter Drucker has recently described in d et ail th e shift h e claims we largely h ave undergon e from a society in whi ch cash is cap ital to one in whi ch knowledge is capital. Block too calls the cash society into question. Drucker's view stro ngly suggests th at in a kn owled ge-based economy th e wo rk ers are the owners of capital, not in the sense ofpension fund ownership and thus indirect own ership of ca p ita l sto ck, but through own ership of th e actual m eans of p roducti on, whi ch co n sists of th e kn owledge and ability to do things. While I will take th is idea up in more de tail in chap te r 9 , th e point m esh es well with Blo ck 's, n am ely, th at our cur re n t syste ms of measurement of corp o rate performance measure either the wrong thing or only part of the right thing and must be rethought. Block suggests some alternatives, although he doesn 't see a quick solution. As h e puts th e issue of imagin g alt ernatives, "T he problem is circ ular, sin ce people expe rience reality through th e lenses of th e earlier set of categories. In some historical transitions, an extended period of social learning is n ecessary before an alte r native set of con cepts be gins to appear co nc ret e and practical. " IS Non etheless, if we fail to take the time to step back, understand our social world TR ADITION AL STOCKHOLDER S

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and its vario u s asp ects as humanly constructed, and co nside r alt ernative possibilities, we wind up as prisoners of our own constructions, headed on a course that mayor may not lead wh ere we want to go. Block's alternatives all stem from a reconceptualization of economic growth in a mann er that is qualitative rather than quantitative . He su ggests that we frankl y accept the fa ct that we can n ot measure all of th e inputs and relations that in reality (in contrast to a hi ghly constraine d and stylized n eoclassi cal ec o n o m ic model) go into economic production. In so doing, we can begin to look at all of th e rel evant inputs and factors, including organizational and structural factors, an d evaluate th eir effec ts on gro wth , productivity, and accountability. Block is n ecessarily ge neral abo ut how to mak e this n ew approach operational. The most important poin t he makes is that we should look beyond the amount of growth to the quality of growth, including th e effec ts of gro wth on th e e nviro n me n t an d on th e creation of meaningful and rewarding work, as well as the effects of in cr eased leisure an d ed ucatio n not just on gro wth but on worker participation and satisfaction, and the like . It sounds like a different way oflooking at corporate accountability as we have been discussin g it , an d of co urse it is. Wh at is novel ab out Block 's approach is his attempt to demonstrate th at there is a qualitative difference - one that affects our happin ess - in conceiving of eco no m ic growth in terms of numbers and in terms of social inputs. Now th er e are clear problems with this approach, problems th at disappear wh en we con side r ch anging some of th e em p loyee costs we now consid er accounting expenses to assets (as cap ital acquisitions are treated) . The main problem is that it's much more difficu lt to in corporat e this view of th e world into th e cu r re n t model of SEC reporting. It doesn 't appear on a balance sheet or income statement; it's not quantifiable in th e Manag ement Discussion & Analysis section of a co rp o ra tio n' s Annual Report on Form i o-K (the MD&A). But that doesn't mean that it 's unreportable . Tak e, for ex am p le, that very MD&A. As curre n tly implemented , it is designed to give managemen t an opportunity to evaluate th e changes that have occurred in the corporation's financial perfori

fio

STRUCTUR AL TR APS

man ce as well as othe r materi al changes. The di scu ssion tak es place against the background of the Form i o-K, the cor p oratio n' s financial state me n ts prep ar ed in accordance with ge nerally accep te d accoun ting principl es co ns iste n tly ap plie d an d certified by th e co rporation's accountants. One cou ld imagine , in stead , revising the regulati on s in order to include analysis based on an an n ua l ce rtificati on p erformed by a management cons u lting firm or a ce rtifie d business socio logist or organizational theor ist that evaluates in a qu alit ati ve way th e effect of organ izat io nal changes, co m pe nsation ch anges, sh op-flo or ch anges, ch anges in te chnology and producti on m ethods, an d th e like th at have tak en pl ace over th e prece ding year. One might even co nsider in cluding a discu ssion of com mu nity activities, en vironmental activities , even an ethical section whi ch enables m an agement to discu ss d ecisions it h as mad e or activities it has undertak en th at might not n ecessaril y resu lt in short-te r m profit maximiza tion but that management b eli eved were eth ica lly righ t or in th e co r po ra tio n 's long-term financ ial interest. The inclusion of suc h a repo rt would serve an importan t symb oli c purpose . It would, at a minimum, h elp to co nvey to stoc kh old ers the beli ef that the owners h ip of corp orate sto ck is n ot own ers h ip as trad itionally co nceived an d is burde n ed by th e same kind of public obligations we expe ct people to have in th e conduct of th eir individual lives - perhaps even more so given the public privilege th at in corporation is. It woul d also, ulti m at ely, serve to ed ucat e sto ckholders, as well as managers thr oug h the process of cr eatin g suc h rep orts, in a n ew way of thinking abo u t co rporate beh avio r th at is likely to lead n ot on ly to greate r accoun tability and res ponsib ility but also p erhaps to greater sustaine d growth an d ul tim at ely profitability (a ltho ug h I co n fess th at thi s last aspect is ofless importan ce to my ar gument as long as so m e su fficie nt de gree of profitability is m ain tain ed - wealth is not a value). Quali tative r ep ortin g may not work. But it's a good id ea, an d it 's worth t r yin g. It's also a lo t less radical tha n som e of the proposals I have made so far and will con tin ue to m ak e, an d so can serve as a first atte m p t at creating greate r co rporate accoun tability before we d ecide that we n eed to tak e more drastic m easures. TR ADITI ON AL S TOCK HO L D E RS

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THE LAST-DITCH ALTERNATIVE-

TAXES , TAXES , TAXES

If all else fai ls, th ere is a last-ditch alternative to which we could turn to cre ate in centives for long-term sto ckholding. In cr easing ta xes is not a very popular co nce p t th ese days. But b efore yo u co mp le tely dismiss th e idea (whic h , remember, I am suggesting only as a fin al alte r native) , th ere is a justification. !" Remember the purposes we ascribed to the capital markets, the justifications for th eir ex iste n ce? And remember that we dis cuss ed th e ro le of specu lation in th e mark ets, good fo r ms of specu latio n as well as bad? Well, if traders are misusing the market, as I suggested most day traders are, th en it is our right an d duty to restore our cap ital markets to th eir proper fun cti on in g and purposes. If excessive speculation distorts the marke t, makes it less efficient, and winds up mi sallocating ca pital, th en excess sp ecu lation n eed s to be stopped. Law enforcement resources are suffi ciently scarce (and would be so in this co ntext) that attempting to levy pe nalties for undesirable sp eculation probably would fail. But levying p enalti es by imposing h eavy tax burdens on those who misuse th e market would not o n ly discourage irrational an d damaging sp ecu lation but would at the same time enhance federal revenues. The problem is, as we h ave seen, some forms of sp eculation stabi lize th e market. An y tax ation so lu tio n would have to accoun t for an d exe m p t suc h beneficial speculation. Th ere are a number of ways of crafting suc h taxation progr am s, although it is be yond my scope here (and my ability) to detail all of th em and th eir potentia l consequences. As a re latively crude firs tditch effort, we mi ght impose a sliding-scale tax on trading th at occurs within an irrationally short period - say, a punitive tax of 75 p ercent of th e profits for trades that ta ke p lace with in a twenty-fourhour p eriod. (I know this is arb it rary, but I am suggesting it only for purposes of stimulati ng thought.) T he amount of tax could go down by, say, several p ercentag e points for each twen ty-four- or forty-eight-hour additional holding p eriod, until it levels out after several weeks or a month. Specialists and those who can demon-

dh

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strate that th eir principal occupation is sp ecul ation , for exam ple, by at least being registered broker/dealers, would be exempted. This proposal would not radically alt er what we already do. We curre n tly distinguish betw een long-term an d short-term cap ita l gains for tax purposes, with advantageous treatment for long-term holdings. And whil e th ere h as been co n t ro versy from tim e to tim e over the appropriate ta x rates as well as th e appropri at e holding periods for particular type s of asse ts, th e logic underlying thi s distin ction is much th e sam e as th e logic underlying my p roposal. But the long-term /short-term distinction, introduced in 1921, is now seriously outmoded given th e radical ch anges in th e nature of tradin g in eq uity m ark ets th at I have previously discus sed.' It seems appropriate to change th e tax laws to account for these changes. If you didn't want to penali ze trading in individual acc o u n ts in this way, th ere is another alternative . Pensions, 4 0 1 (K) plans, and other retirement vehicles receive advantageous tax treatment for th e purpose of allowing individuals to build up th eir wealth over th e long term for retirement. If one begins to invest in such a plan rel atively ea rly in h er em p loyme n t history an d ex pects to live a normal life span (and indeed has to live to b e fifty-nin e and a half to begin making withdrawals) , then such a plan by definition is a longterm investment vehicl e. There is n o justificati on fo r fr equent trad in g in these plans; if one chooses one 's investments carefully and tr eats th em as investments, th en th ere should be no rea son , abs ent extraordinary circ ums ta nces, n ot to stay in a p articul ar stoc k for th e long haul. We could, th er efo re, pass laws that lift the tax advantages of retirement vehicl es by p en alizin g trad es at a given level of fr equency o r in d efined sh ort-te r m p eriods."? There is a risk to th ese schemes. We might not ge t it exactly right an d thus might create unintended co nseq ue nces like excessive chilling of trading activi ty and consequential damage to our ability to rais e corp orate cap ital efficien tly. But I think we 're a long way off 'Co ng res s has p eri odically ad justed th e holding period for sto cks to d eal with th e market efficie ncy implicati ons oflocking investors in to given holding peri ods in o rde r to gain th e tax ad van tag e .

TR ADITI ON AL ST OCKHOLDER S

Ill 3

from th at sta ge, and ec on o m ics as a predi ctive dis cipline, aid ed by the power of modern computers, is probably adequate to the task of anticipating probable financial effects. In any event, th e logic is sound, and th e solution is one well worth pursuing. Even some short-term harm may well be a cost worth incurring, if the lon gterm b en efits of more acc o un ta ble an d sustainable co rpo rate management are great enough . The point is we don't know. But we should think about it, and my hope is that readers will take th e su ggestion seriously and that those with eco n om ic training will pursue the solution to enable us to understand both its costs and its b en efits .

1 (j4 5 T Rue T U R A L T R AP 5

THE NEW STOCKHOLDER : KING KONG WITH

A QUOTRON

T he tr aditio n al sto ckholder still exists. ' As frigh tening as I've made her appear, she 's at worst negligent, not, except for day trad ers, destructive . In this resp ect , as I'v e noted , sh e resembles th e aggressively individualistic automaton that has come to caricature Am eri can social norms an d beh avior. As bad as this may be, however, there is worse . For th e traditional sto ckholder has b een substantially displaced by ins titutional stockholders, th e massive growth of wh om h as occ urred mo stly over th e past two d ecad es. Mushrooming through th e 1980s and 1990s, institutional stock own ership now accounts for so me 58 p ercent of all eq uity of th e top 1,000 Am eri can corp oratio ns. And some co rpo ra tio n s h ave most of their stock held by institutions -c-Sj; perce nt in th e case of CocaCo la. Institution al own ership in th e largest 50 co m pan ies was 58.2 percent in the third quarter of 1999, with 62 .7 percent of Home Depot, 64.4 percent of MCI Worldcom, 6 1.5 percent of Cisco Systems, and 63 percent of Citi group co n tro lle d by institutional investors." In stitu tion al ownership was as high as 62 .5 percent fo r the top 101 -250 companies." Fin ally, th e number of institution al investors co m p are d with individual stockholders is re lative ly small, with the 25 largest institutional investors con tro lling 22.7 p ercent "of total outstanding eq uities in 1998, up from 19.7 percent in 199 7 and 15 4 percent in

1995 ," 4co m pare d with 49 million households owning 42 -4 percent of all outstanding equities in 1999.a Even more startling p erhaps, at least to those who hav e an in stin ctive fe ar of great co ncen trations of wealth, th ese 25 institutions accounted for 47 .9 perce nt of all institutional equity in th e United States. Su ch figures su ggest th at this n ew bre ed of sto ckhold er is hi ghly co nc en trated and has enormous potential power. Is that power used? is it used well? That depends on what yo u mean by "used " and "we ll." The influence of institutional sto ckholders over their portfolio companies has been increasing. But it has been in creasing for the purpose of maximizing sto ckhold er valu e . As we shall see in cha p ter 1 1, this is a th eme th at is in cr easingly h eard 'ro u n d th e world - at least the industrialized world. Legal sch olars in th e early to mid-i qqos em braced th e h egemony of th e institutional sto ckholder with almost messianic fervor. H ere, they argue d , was th e so lution to th e lo ng-sta n d ing problem of th e separ ation of own ership an d co n t ro l, th e way to unite sto ckholding with real managerial oversight in order to better align manage r ial b eh avior with sto ckholder interests, cu t down on th e costs of monitoring management, and bring in a new age of responsible own ers hip. Some people still be lieve this. But th e bloom is off the r ose. In the first p lace, as I will shortly discuss, the promise of institutional sto ckhold er activism has b e en distinctly less significant than was ori ginall y hoped. For th e most part, th ese in stitutions tend to remain passive and have every incentive to do so . Second , when th ey do motivat e th emselves to ac t, through stoc kh olde r proposals at corporate annual meetings or by putting informal pressure on boards of directors, they almost always do so in the name of increasin g sto ckholder profit - an d sp e cifically of in cr easing sh or t-te r m stock prices." So their activism , to the extent it exists, is based on pre cise ly the problem of co rp orate govern an ce that I h ave tried to isolate. Some institution al investors whose purpose is to cre ate an d "The 199 8 and 1999 d ata are th e best number s I can find. In 199 8 , th e yea r given in th e text for institutional holdings, households hel d 4 1.1 per cent o f all o u tstand in g eq u ities. d j6

5 T Rue T U R A L T R AP 5

manage funds of "so cia lly responsib le " co m pan ies hav e aris en , but th ey remain re la tively few in number. For example , only 175 of a total of 7,500 m utual funds (3,952 eq u ity funds) en gage d in some form of "soc ial scr eening " in 1999. On e study, however, by th e p res umably biased Soc ial Investm ent Fo rum, repo rts th at 13 perce n t of all professionally manag ed money in 1999 was "part of a socia lly responsible portfolio."6 And there is a great deal of debate as to wh at it means to be a socia lly responsible corp o ratio n to qualify for su ch investm ent. Th e Social In vestm en t Forum includes within its group of socially responsible investors any in stitu tion that e m ployed on e or more social scr eens in determining its investments, sponsored or cosp o nsored a share holder resolution on social resp on sibility issu es during th e preceding three years, or was what th e report calls a "c om m unity investment institu tion." By far, the overwhelm in g socially responsible activity of choice was soc ial scree ni ng, whic h means that an institution would be co un te d if, for exa m ple, it simply refused to invest in tobacco stocks (as 96 pe rcent of the included institu tions do) . To b e fair, th e vast majority also decline to invest in gambling, alcohol, and weapons sto cks, but the bulk of the screening activit y see ms to end th ere. Although the Social Investm ent Forum reports, for ex am ple, that 79 percent of "scr eened assets also address e nviro nmental concerns, " this is a weak criterion as the report defines th is scr een either as avo id ing compani es with bad enviro n me n ta l records or including com pan ies with good records, th e latt er b eing presumably a less rigorous criterion . Mo reover, socially respons ib le investing seems flabby in co nce pt, by whi ch I m ean that it doesn 't take much - or much of yo ur investment portfolio - to qualify. For example, the Do mini Social Eq uity Fund, the largest of the soc ial investment funds with more th an $ 1.8 billion in assets in March 2000, h el d substantia l portions of its portfolio in the convicted monopolist Microsoft (7.72 p ercent), Cisco (7.38 percent) , and market-dominator In tel (6. 15 p ercent), among others. It looks like the fu nd 's criteria are re lative ly loose, and its portfolio looks very m uch like th at of any other fund . No wonder th e Social Investm en t Forum proudly proclaims the success of social investin g, notin g that both the Do mini 400 Social In d ex and the Citize ns In dex h ave T HE N E W

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consistently outperformed th e S&P 500. Under th ese crite ria, it 's easy to be socially responsible and h ighly profitable at the same time simply by avoiding Phi lip Morris." So even if a new day is at hand, it is a new day grounded in the old model ." Here is where the power of institutional investors becomes somewhat frightening. If th eir principal motivation is to in cr eas e sto ckholder profit (and they have every incentive to do so), and they unite to make th eir presence fe lt, then all of the problems we have so far seen to stem from th e sto ckholder profit motive becom e exacerbated. We should breathe a sigh of relief that they haven't been more effective. But the jury is still out. To talk of institutional investors is, to b e sure, to talk of a somewhat varied group. H Generally speaking, they consist of corporate p ension funds, public pension funds , mutual funds, money managers, insurance companies, and banks. And they not only have differing investment goals, th ey are also subject to varying regulatory regim es." Th e largest gro up of institutions co n sists of p ension funds, which control 48 percent of institutional holdings, with investment com pan ies con tro llin g 24 percent, banks 12.8 p ercent, and insuran ce com p anies 18 percent.'? By far the fastest growing group among th ese is open-end mutual funds, which experienced a 27 p ercent gro wth in 1997 , outpacin g total institutional gro wth of 18 percent; such expansion reflects at least in part a substantial historical shift in retirement accounts from defined ben efit pension plans to d efined con t rib u tio n plans, most of whi ch are inv est ed in diversified funds. Each of th ese typ es of institutions has a ch arac te ristic investing agenda. As the Conference Board reported in 2000, they are " n ot monolithic - instead th ey pursue a variety of investment strategies th at , in turn , produce very different turnover an d trading patterns. " 11 But the poin t is that whatever their particular trading strat"Even as a purely eco no m ic m atter, giving in stitutional investors in cr eased power over co rp o ra te governance might be co u n te r p ro d u ctive . A~ Michael Porter notes , " Giving institutional investors m ore pow er over man agement without cha ngin g th eir goals ... may heighten pressures toward underinvestm ent. " Capital Choices. iljS

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egy, th ey remain sharp ly focu sed on stoc k price as th e ultimat e measure of corp orate ac hieveme nt. " No t only is thi s how they make money fo r th eir investors - it' s h ow the in stitution al m an agers usually (b ut n ot always, as in th e case of publi c pension funds) are co m pens ate d. If n othing else, you would th in k that all of thi s institu tion al co nce ntratio n wo uld bring so me m easure of sta bility to the m ark et. An d it d oes: in stitu tions tra de at a slower rate than individuals. Bu t the ir ra tes of turnove r are h ardl y slow. Recall th at I earlier noted the drama tically in cr eased rate of turnover on th e New York Stoc k Exchange : in 1930 , th e turnover rat e was, n ot sur prisingly, 67 p ercen t. It was 12 pe rce n t in 1960 , 19 percent in 1970 , 36 pe rce n t in 1980, an d a whop ping 76 p ercen t in 1998.13 While the re is sign ifica nt variance in the rat e of turn over of th e different types of ins titutional in vestors, they ran ge from a low (altho ug h histori cally rath er hi gh ) of 33.7 p ercent for banks to a hi gh of 59 .7 p ercent for m oney managers, th e fast est growing segment, with a weighted average tu rnover of a still sig nificant 44.3 p ercent.l" As Michael Useem more gen erally p ut it , "Ins titutio nal investo rs co nti n ua lly trade, increasing or decreasing th ei r h oldings by as m u ch as 25 p ercen t or eve n 50 p ercent p er quarter." l !'i Equ ity m arke ts cer tain ly see m more stable with in stitutional investors th an with out th em , although b ased o n what we 've discu ssed abo u t individu al stockholde rs that's n ot saying a whole lot. Bu t it see ms prett y clear that institu tion al in vestors are significant and active traders. Wh o runs the in stitu tion s? The p ower b ehin d eac h of these sto ckholders is like the Wizard of Oz be h in d th e curtai n - an ord inary person . Conside r Peter, a twen ty-five-yea r-old graduate of an Ivy Leagu e co llege . H e m an ages a p ortfoli o for a b illio n-do llar p ension fund. H e 's a moral person and gen erally care s abo ut oth ers . Bu t put him in fron t of hi s Quotron and h e b ecomes Kin g Kong , pursuing short-term p rofit with a fervor that mak es th e search for Ann Dar ro w, aka Fay Wray, look like a walk in the park. O n the o ne hand , the growth and co ncentration of in stitu tion al sto ckholding presen ts th e real possibi lity of re p lacing th e livin g dead with real live h uman be in gs like Pe ter. For example, there were o n ly 228 stock mutu al fu n ds in 1980 with 5.8 milli on acTHE N E W

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counts. By 1999, that had gro wn to 3,95 2 with 149 million accoun tS.16 So th ere are an awful lot of Americans involved in the stock market, even without regard to p ension accounts, who might tak e an interest in long-term corporate welfare (although for th e same reasons I discussed in the last chapter, they generally don't) . And, given th e size of th e institutions through whi ch this sto ck is held and the large and illiquid positions they hold in various corp orations, th e institu tional managers are human beings with incentives to invest for th e long term an d th e potential pow er to co m pe l responsible corporate behavior. But who are th e p eople behind th ese institutions? The exa m p le of Peter is drawn fro m real life, a p erson with littl e life experie nce or exposure to th e world who, most importantly, is given th e job of m aximizin g th e profits of th e institution's investors,just as th e co rporate dire ctor is given the job of maximizing sto ckholder profit. Money managers are young. One report gives their average age as thirty-six , ano the r as twenty-eight, an d a third as forty-four, still fairly young considering the vagaries of sta tistics .' ? (One analyst, comm enting on th e reported avera ge age of forty-four, notes th at yo u nge r managers work longer hours and have more energy, so it's possible th at th eir effect on the market is disproportional to that of th eir olde r colle ag ue s). And, worse, hi s pay depends up on profit maximization. Like most money managers, he is paid on th e basis of how much mon ey h e makes for th e fund in th e short run , a fact whi ch focus es his atte n tio n on th e short-term p erforman ce of his portfo lio corporations. 18 Instead of using his power as a responsible own er, h e is e nc ou raged to us e it to in cr ease th e short-term fo cus that managers already have . As one critic notes, "Most money managers focus on quarterly profit statements and early cash dividends." This h ardly enc o u rages long-term , responsibl e man agem ent. Before we go further, then , let's look at the current state of institutional investor attitudes and activism.

C O R P O R A T E GOVERNAN CE FOR THE BOTTO M LINE

It shouldn't come as a surprise tha t institu tional investors are centrally concerned with portfolio value . A survey in 1999 by the 170 STR UCTU R AL TR APS

execu tive and director search firm Russ ell Reynolds Asso ciates reports that corporate governance has become an increasing focus of institutional investors throughout th e industrialized world . So whil e investor activism may hav e been relatively insipid in th e 1980s and 1990s, the late nineties showed a sharp increase in institutional conce rn with governance activities. And why? As th e survey reports, "T h e interest of institutional investors in boardroom practi ce is rooted in a ver y real concern over th e value of th eir portfolios... . Less fr ee th an others to 'vote with th eir feet ,' institution al investors have turned to corporate gover na n ce ac tivism as one way to pressure boards and senior management to improve corporate performan ce ."!? Moreov er, co rporate go ver nance factors into inv estment decisions, bringing marke t pressure to bear on managements, just as I h ave thus far arg ue d th e structure of co rp o ra te law would suggest. According to the survey, a majority of Ameri can institutional investors reported that they have not invested in a corporation or reduced th eir stak e in on e becaus e of th eir dissati sfaction with governance practices. But gover nance practi ces to wh at en d? As I will discuss in more detail in part 3 , th e two leading govern anc e models are the sto ckholder-eentric model th at dominates in the United Sta tes an d the U n ite d Kin gd om , so me times re fe r re d to as th e An glo-Am eri can model, and a stakeholder model tha t developed in th e European soc ial d emocracies and J apan , in whi ch th e responsibilities of co rporate bo ards an d managements exte n d beyond th e stoc kholders to more or less all of th e constituent groups affected by th e corporation , from cre ditors to e m ployees an d su pp liers, custo me rs, th e enviro n men t, and the co m m un ity in ge n eral. There is no question that American ins titu tional investors promote th e An glo -Ameri can model with a vengean ce." Th e survey asked institutional investors to rank the priority of interests of different con stituenc ies on a scal e of 1 to 6 , with 6 b eing the hi ghest priority. Ame rican institutional investors gave sto ckholders a priority weighting of 5.7 , almost 27 percent higher th an th e next interest grou p, the e m ployee s, 50 p ercent hi gh er th an cre d ito rs, 137 percent hi gher than the in terests of suppliers, and of full y 175 percent greater importance than the environment. Now to be fair, THE NE W

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th ese numbers ar e not o ut of lin e with th e attitudes of institutional investors in Germany, Japan, and the U nited Kingdom, whic h at least for th e first two co untries might be surprising (but that's a dis cussion for part 3 of this book) . The important point is that stockholde r in terests are clearly do minant, an d one can at least sp ecu lat e that th e on ly other interests th at ap pear at all significant in investors' estimation, those of employees and cred ito rs, are significan t because of th eir relatio nsh ip to stockholder interests. Sto ckhold er interest is reflected in institutional investors ' decisio n making as to where to invest th eir fu nds. According to th e survey, th e most im por tan t factors in U.S. institu tion al investm en t d ecision making are fin an cia l p erformance (g2 p ercent), growth p ro sp ects (go p erce n t) , m an agemen t quality (80 perce nt) , an d sto ck performan ce (56 p ercent) . In its 2000 Survey, Russ ell Reynolds reported that whi le finan cia l performan ce still ra nked first among U.S. investors at go p ercen t, stock price h ad moved up to 73 p ercent, an obviously significant 17 percent hi gh er. Sto ck performance is im portant and is unmistakably on th e rise. Moreover, in light of th e fact th at corp ora te p erforman ce depends on ea rn ings per share (and the fact that the investing community famously focuses o n quarterly growth in th is factor in pred ictin g stock pri ces) , o ne can reaso nably co n clude th at th e m ost important facto r is anticipated stock performance and that the r elatively lower rating given to hi storical stock price p erformance compar ed to finan cial pe rformance is more a refl ection of th e lesser valu e p laced upon th at factor as a predictor of fu ture stock p rice p erforman ce. T his trend is reflect ed in institutional investors' att itu des toward exe cutive sto ck options. Acco rd in g to the Russell Reynol ds 2000 Survey, 63 p ercen t of U.S. insti tu tions be lieve d that director op tio ns ought to be priced at premia, "following obs ervers who beli eve directors should be reward ed fo r returns on ly above those of a rising sto ck market." 21 Cle arly th e interest of th e ins titutional investor is sto ck price, and th e cor po ra tio n that follows this co nce rn is o ne that will place increasing pressure on its managemen t to maximiz e th at price. Whether or not others p erceive th e m as h avin g exercised their potential in fluence , the survey r ep or ts that institutional investors 17 2

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th emselves believe th ey are in cr easingly exe r ting infl u en ce on co rporate man agemen ts. In 1997 and 1998 , similar surveys reported that two-th irds of Am erica n in stitu tio nal in vesto rs believed that th ey "e xe r t at least a moderat e d egr ee of infl u en ce over top manage ment."22In 1999 that number had rise n to 73 perce nt. T he vast majority of this "infl u en ce," however, co nsiste d of voting in favor of a sto ckholde r resolution, with relat ively small (but still significant) perce ntages of U.S. ins tit utions wri ting or orally exp ressing th eir views to m an agement, an d relatively insi gnificant numbers sponsorin g stockholde r resol u tio n s, workin g wit h othe r institutio ns to in flu en ce th e board , or attem p ting to exer t more dir ect in flu ence. But in th e 2000 Survey, Russell Reyno lds re p orted a d eclin e in U.S . in stitu tional activity in ter ms of voti ng on share holder resol u tions an d exp re ssing th eir conce r ns to management. As we will soo n see, the types of sto ckholder resolu tions that are by far the most co mmon are di r ected towa rd easing the abi lity of stockholders to re place bo ards an d tak e advan tage of hostile bids for th e portfolio co mpanies - in other words, th ey're di r ected towa rd in cr easing sto ckhold er valu e . And it may well be th at th e decl in e in institutional activity is itself a refle ction of in creasin g institutional sat isfactio n that American corporate m an agemen t has intern alized insti tutional valu es and p laces stock valu e at th e top of its age n da . T he survey did h ave one surprising resu lt, particularly in th ese tim es of an tigover n me n t sentim ent. Wh ile 32 p ercent of in stitutional inv estors surveyed b elieved th at th ey sho u ld be th e act ors to set sta ndards for corporate governance , 46 p ercent be lieved that this ac tivity shou ld be undertak en eithe r by stoc k exc hanges, th e SEC, or the govern men t more broadly. It sh o uld be noted, h owever, that 68 p ercent of American institutional in vestors tho ug h t these gu ideline s sh o u ld be voluntary" Whi le this is in te restin g in th at regul ation appears to be mo re attractive to in stitu tio nal investors than one might think in th e wild fr ee market e nviro n me n t of the U n ite d States, th e an omaly m ay well b e expla inab le as an in stan ce of r egul atory capture; that is, eit her the in stitu tions be lieve they can lobby self-regu latory organi zations or th e govern me n t to provide gover na nc e standards that favor th eir interests, or th ey assume that in the current political an d economic e nviro n m e n t governance T HE N E W

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standards ar e alm ost ce rtain to refl ect th e cu r re n t att itu de of stoc kholder-centrism that exists in th e United States. In its 2000 Survey, Russ ell Reyno lds found that only 35 percent of U.S. ins titutions b eli eved that cor porate governance code s h ave affec te d co rporate behavior, alt hough 46 percent reported their be lief th at they have refl ected co ncerns h eld by institutional invest ors.

ONE , TWO , THREE , WHAT ARE WE FIGHTING FOR?

So le t's take a closer loo k at th e allegedly increasing activism of in stitutional investors. If th e lion 's share of th e actio n is in voting for stoc kh olde r proposals, what kinds of things are they votin g for? Whi le I' ll ta ke you th ro ug h a series of examples th at might be slightly mind-numbing, th e bottom lin e is th at th ey all go to th e bottom line: in creased sto ckholder profit. Le t's start with th e policies of p ension funds. In th e first p lace, we o ug h t to expect pension fu n ds , ce rtain ly those th at are d efin ed benefit p lans," to have a lo nger-ter m perspective tha n most other types of in stituti onal investo rs, say, mutual fu n ds, becau se th ey n eed to be able to have suffi cient assets to payout to their benefi ciaries as retirement app ro aches -since the benefi ciaries hav e nothing to ga in if th e fund earns m o re th an th ey' re en title d to , th e funds are less concerned with portfolio gain tha n with ensuring adequate assets to p ay th e benefici ari es. Given th at risk an d return are directly cor re late d , we should expect su ch investors to hav e a lower risk profile tha n mutual fund investors, who can come in and ou t -A d efined benefit p lan is one that pays out a set am o un t to retirees over tim e . T h is co n t rasts with defined co n trib utio n plans, wh ich pay out wha teve r amo u n t th e parti cu lar retiree earn s. In 199 9 , de fin ed ben efit p lan s had $3 .75 bi llion in asse ts co m pa re d to defined co n tr ibu tio n p lan s, whi ch had $ 1 billion in assets, although th e latter have bee n receivin g m ore in co n t ribu tio ns and m aking lar ger payouts. Profile Statistics at a Glance, Pensions & In vestm e n ts, J anuar y 24, 2 0 0 0 . T IAA-CREF, abo u t whi ch I sha ll talk shortly, is o f the latter type , each retiree seIf-directing th e investm ent of her portfolio and reaping th e ga ins o r suffer ing th e losses upon retirement. CalPERS is th e lar gest of th e former type yet is kn own as o ne of th e mos t ac tive sto ckho lde rs amo ng all pen sion funds.

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wh eneve r th ey want, althoug h n ot with out tax effec t, an d, to a lesser extent, than de fined contribution plans, in whi ch maximization m ay b e th e goa l. The gro wth of defined co n trib u tio n pl ans, by th e way, h as far outpaced th at of defined benefit pl an s, a fac t refl ected in the growth of mutual funds and th e re sultant exacerbation of th e probl em. v' Almost everyo n e recogni zes th at socially resp onsibl e corp ora te b eh avior is, for th e most p art, in th e b est long-term interest of the corporation's go al of wealth cr ea tion ." There is evide n ce eve n, th ough n ot undisputed , th at in stitutional in vestm ent in general has a positive effe ct on corporate so cial responsibility, whi ch suggests th at suc h behavior might be e nco urage d ; I will discu ss suc h evide nce at the co n clusio n of thi s chapter." An d, aga in, th ough n ot undisputed , th ere is also some evidence th at at leas t public pension fu n d managers are m ore co ncer ne d with issues like product qualit y, environ men tal prot ection, lab or relations, and work er tre atment than inv estm ent managers like those managing mutu al funds .F'' But th at evide n ce go es on ly to investm ent beh avior an d its effects on social performance. Le t's tur n to institutional inve stor activism , whi ch , as I n ot ed, h as been seen as th e saving grac e of th e Am e rica n syste m . Two major Am eri can p ension funds, TIAA-CREF and th e Califo rnia Public Employees Retirement System (CaIPERS) , should by th e n ature of th ei r co ns titue nc ies be among th e m ost ac tive institutional investors with respe ct to issues of cor p orat e soc ial respons ib ility an d accoun tab ility. Wh y would one ex pect soc ial co nce rn from th ese organ izations? Well , TI AA-CREF is th e largest p ension fund dedica ted to th e re tirement well-being of educators at all levels (including m e). It go es with out saying, I think, th at teach ers are n ot p eople wh o h ave, for th e most part, chose n th eir occ up ation in order to be come wealthy but ra th er are attracted to th e callin g for a variety of reasons , n ot th e least of whi ch is to be of service to others in an important endeavor. Thus, while one can assu me th at tea ch ers care as much as anyo ne about h avin g ade "Althoug h for th e reason s I di scu ssed earlier, thi s arg u m en t works only up to a point. Whil e it is an ec o no m ic rather than a soci al o r political ar gu me n t, it is co nsiste n t with these argum ents up to tha t po int and is th erefore worth noting h ere . THE NE W

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quate wealth for retirement, one is probably safe in assu m ing that teachers on th e whole are more concerned with social issues than others . TIAA an d CREF, whose boards are co m p osed of acade m ics an d public servants as well as business people, have adopted a Policy Statement on Corporate Governance whi ch it claims to be an "evo lving documen t '' that is th e joint product of its co m m itt ees on co rpo ra te governance and social responsibility. The Statement does, in its eleven pages (n et of an ap pe n d ix on exec utive co m pe n satio n ) ," note that boards of directors should be appropriately diverse in terms of gender, age , an d rac e as well as ex pe rie nce; this can be considered an issu e of co rpora te responsibility, although TIAACREF views it as an issue of corporate governance , theorizing th at th e more diverse th e co m position of a bo ard, th e less it will be beholden to managemen t and the more likely it will be to improve corporate performance. Thus TIAA-CREF views even an issue that on e would likely conside r to be social as a wealth-enhan cin g device. The Statement notes fur ther that "th e leadership of th e corporation should set a hi gh standard of performance acc o un tability an d eth ical b ehavior." And in a brief section e n titled " Social Responsibility Issu es," the Statement acknowledges a relationship b etween good beh avior an d long-term shareholde r value an d recom me n ds th at corp or ate boards have policies and practices addressing environm ental impacts , eq ual em p loymen t opportunities, em p loyee trainin g, an d th e evaluatio n of " corpo rate acti on s th at ca n n egativ ely affec t th e common good of the corporation's communities and its cons titue nc ies ." It co n clu des by suggesting th at co rp ora tio n s "s ho uld avoid th e deliberate and knowing exp loitation of an y of th e non-shareholder constituencies." Now thi s is not a great d eal of sp ace devoted to acc o un ta bility and responsibility issues, at least if we ignore the sto ckholders for "I sho u ld point o ut th at thi s is th e number of pages whi ch printed from th e copy of th e Statement posted on TlAA- CREF 's website , http:/ /www.tiaa-cr ef. o rg / lib ra /governance / index. h tm l, and th at a different format mi ght alter th e n umber o f pages. But th e pr op ortions noted in th e text are at least informati ve. 17(j STR UCTU R AL TR APS

th e moment. And th e standards set out ar e precatory, but th en so are the balance of th e standards - TIAA-CREF can't compel a board to do anyt h ing exc ept thro ugh its voti ng and investment policies, although it seems to be th e case, at least with T IAA-CREF, that in formal contac ts with management through lett er wri ting are th e preferred m eans of influence, and hi ghly su ccessfu l on es at that.' ? Yo u might think I'm quibblin g, that the fund is tryin g, and I should be grateful for its atte m pt. But let's look at th e rest of th e stat ement. The ba lan ce of th e eleven pages is devoted so lely to issues of stockholder value. In fact, at th e same tim e that TlAA-CREF professes a co nc ern for n onsto ckhold er co ns titue nc ies , th e Statement notes th at th ese co ns tituencies , u n like stockholders, who have on ly th eir vote , h ave th e abi lity to protect th eir interests through co n trac ting with th e co rp o ra tio n . Even among academics who are co m mitt ed to the sto ckhold erce ntric principle, th e abi lity of constituents like em p loyees an d communiti es to protect th emselves from cor po ra te ex ploita tio n is a question abl e proposition, a fact ofwhich th e Statement takes no no te. But more to th e point, this assertion strongly qu alifies, ifit do es not ne gate, an y expressed concerns fo r so cial responsibilit y except perh ap s for the nonexploitation prin cipl e. More important, h owever, is th e fac t th at all of th e other issu es addressed by the Statement are indisputably about stockholder value. Many of th e sp ecific principles articulat ed are dir ect ed toward th e prohibition or removal ofa vari ety of an titak eover protectio ns that might be used by m an agemen t to fe nd off h ostile takeovers. Moreov er, virtually all of T IAA-CREF 's reported co rp o ra te gover nanc e activity go es d ire ctly to the se or re lated matters." According to the In vestor Resp onsibili ty Research Center, between 1995 an d 2000 T IAA-CREF m ad e only one sh arehold er proposal re lating to so cial issues (and Ca IPERS, whic h I will n ext discuss, mad e none) . 29 Corp oration s subj ect to hostile tak eo ver obviously present th e potenti al for in cr ea sin g sh o rt-te r m stoc kh olde r valu e through th e payme nt of control premia. But as our experience with hostile tak eovers (indeed tak eovers in ge nera l) sh ows, su ch shortterm sto ckholder benefit often co m es at th e expense of other stake holder groups: creditors who see th e value of th eir debtholdT HE N E W

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in gs drop as leveraged acq u isitio ns in crease d efault risks, sup pliers who see long-term relationships di srupted, employees who are laid off to cut costs th at allow leveragin g to occ ur an d premia to be paid to stoc kholders, an d e n tire co m m u n ities th at lose jobs an d employers (whi ch is one of the reasons th at states p assed co nstitu ency legislati on an d an tita keove r sta tu tes in the first place) . If eve n a lib erally oriented o rgan izatio n like TIAA-CREF is so focu sed on stockholder valu e, wh at are we to expect from mutu al fund m anage rs an d privat e p en sions? So maybe TIAA-CREF is not an avatar of accountability, ex cept to stoc kholde rs . Wh at about public em p loyee p ension fu n ds? Civil servan ts, like teach e rs, m igh t also be expecte d to h ave a mo re sign ificant public in terest th an th e general population . And public pensio n fun d m an agers are th emselves civil servan ts wh o are p aid o n ly a fra cti on of th eir private in stituti on al m on ey manager co un te rp ar ts, so one can su p p ose th at at least part of th e reason they tak e th ese j ob s in co n trast to privat e sec to r j obs is a co m m itm e n t to public ser vice . Some times public p en sion funds d o tak e p ositions th at co u ld be see n to refl ect a clear in terest in accoun tability. For exam p le, Ca rl McCall , New York's sta te co m ptro ller an d h ead of its pension fund , recen tly wrote di rectly to th e ch air m an of Coca-Co la , Douglas Daft , demanding that Coke quickly se ttle a lawsuit brought against th e co m pa ny by bl ack em p loyees alleging racial discriminati on in Co ke 's emp loyme n t p racti ces. The n ature of th e suit an d th e actio n at least sugges t a desire to hold Co ke accountable for soc ially unacce ptable p racti ces. But even h ere, profit seems to be th e ultimat e ta rget. The letter rep ortedly sta te d th at fund benefi ciari es were bothered by th e sui t's impact on Co ke, and in ad d itio n to qu estionin g th e h andling of th e lawsuit co m plain ed abo u t Daft 's co m p ensation packa ge at a tim e when Coke 's stoc k price had dramatically fa lle n. ?? There 's littl e question th at, despite the soc ial p atin a, the motivati on b ehind th e lette r was prima rily financ ial an d th at financial performan ce is at th e forefront of even th ese funds ' institutional activism. Le t's tak e the largest of all Am eri can public p ension funds, Ca IPERS, long known for its leadership in in stitu tional activism. 178

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Accord ing to Ca IPERS' 2000 Focus List ." the fund was slat ed to mak e fo ur share holder prop osals, two of whic h de man de d th at the targete d co m pa ny's board chair man be an indep en dent di recto r, o ne of whi ch demanded that a majority of th e board be composed of independent directors, an d the fo urth of wh ich proposed to declassify th e targeted co rporation's board. T here co uld be a vari ety of reason s for these proposals. But one thing is obvious: they all aim to reduce th e abi lity of management to keep itself in office. T his in itse lf is not a bad thing. But it does strength en the institution's hand in ta keover co ntests, whic h, as I' ve observed, can be hi ghly be ne ficial to stoc kholde rs an d ha rmful to everybody else. In addition to these formal proposals, th e Focus List reports on m eetin gs h el d by Ca lPERS wit h various p ortfoli o co m panies an d th eir results. T h ere were six reporte d m eetings, all of whic h were directed toward the same kind of in dep en dence demanded in the stockholde r pr oposals. Not one had to do wit h issues of accou n tabi lity to oth er con stitue n ts or responsibi lity for other behavior. From 1995 to 2000 Ca lPERS d id n ot m ake a single for mal stockh old er proposal havin g to do with soc ial issu es. Ca IPERS' overwhe lming concern is stock price." Moreover, Ca lPERS h as publi sh ed a substan tia l set of Domestic Proxy Voting Gu idelines as well as a set of International Proxy Voting Guide lines (whic h I'll discuss later.) T he th ird p aragr aph of the Gu idelin es leaves no doubt as to Ca IPERS' in terests. It states that it will cast its votes against any proposal for representation of co nstituenc ies o n the boards of directors of its p ortfoli o co m pan ies an d sta tes in n o uncertain te r ms, " It is concluded that th e co rp o rate board members ' primary resp on sib ilities should be to direct the co m pan ies in the in terests of all of the share holde rs. " To be sure, th e Guidelin es do set forth "Socia l Resp on sibility Criteria" for boards to fo llow, but th ese are h igh ly ge neral, setting for th the exp ectatio n that man age m en ts be hav e "with p roprie ty an d with a view toward soc ial considerations, " with th e furth er expectation that m an agemen t b ehave above the minimum level set by law, and that th e managements of co m pan ies operating in co un tries wh ere h u man rights abuses occur ad here to " m axim um progressive practices" to elimi nate the m . Muc h better than TIAA-CREF. Bu t the THE N EW S TOCK HO L D E R

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section also acknowled ges CaIPERS ' fidu ciary obligation to maximize returns to the pension fund, which takes precedence over other concerns. In fact th e Gui delines clearly ar e aimed at stockholder valu e . Lik e th e TIAA-CREF Statement, th e Guidelines sp end most of their time se tting ou t voting principles designed to keep portfolio corp ora tion s fr ee an d available for hostil e tak eov ers an d thus short-term sto ck price maximization. And although, as we 've seen, CalPERS pa ys some lip service to social impact, the Guidelines m ak e it quite clear th at CalPERS opposes all managem ent proposals to permit boards to consider the interests of stakeholders other than sto ckholders in th e ta ke over con tex t; and of co urse, in recent d ecad es, tak eovers hav e been th e co n text in whi ch co ns tituent interests are most at risk . So while CalPERS seems to make some effor t in articu lating social conce rns in its broad er principl es, it would be unreasonable to expe ct CalPERS to put itself out too much in pursuing social agendas when it comes to actual voting or influen cin g of th e bo ard . And it hasn't. Greater institutional investor activism can reasonably be exp ect ed by th e p ension fund of th e AFL-CIO, at least with resp ect to labor and employment issues. And the Offi ce of Corporate Affairs an d the AFL-CIO pension fund management have indeed been ve r y ac tive in pursuing co r po ra te go vernance issues aro u n d th e globe . In fac t labor union pension funds have become th e most ac tive of all institution al investors, aid ed in part by th e AFL-CIO's Center fo r Wo rking Ca pital, esta blishe d fo r th e purpose of h elping local unions use th eir pension power to make corporate managem ents more acc o u n ta ble to labor. " But whil e th e AFL-CIO has made som e formal share h olde r proposals over the past three or four years, they are of exactly th e same typ e as TIAA-CREF 's and Ca IPERS': th at is, th ey d em and a m ajority of targeted co m pa ny's directors be independent and raise issues of executive compensation , poison pills , other an titak eov er devices, and th e like. And it appears that local union p ension funds are followin g its lead. Th ey are raising traditional issues of corp orate governance tha t reflect atte m p ts to in cr ease sto ckholder valu e , alth oug h occasional proposals for labor representation on the board and oth er employee an d soci al welfare issues are made .I" But the principal thrust of 1 80 5 T Rue T U R A L T R AP 5

union p en sion ac tivity is still sto ck pri ce maximization." As two commentators put it, "Lab or activism is a mo d el for any large institutional investor attempting to maximize return o n capita l.T " What about th e rest? Well, not surprisingly, mutual funds d esigned fo r socially responsible investing often take an activist position on issues like th e enviro n m e n t, labo r relations, workplace co nditions, workforce diversity, cult ural im p acts of corp o rate b ehavior, and the like based o n their social screening criteria. O ne of th e lead ers h as been Domini Social Inv estments, th e first mutual fund to publish its votes; its voting record with respect to eac h of its portfolio companies is p ub lish ed on its webs ite .F Domini Social Inv estments regul arl y submits shareholder proposals to be pl aced o n its portfo lio co mpanies' ballots '" at the same time th at it regul arly beats th e S&P 500. Other so cial investment funds ar e not activist at all and are "socia l" on ly in that they employ some screening criteria for investment in th eir portfolio - the Vanguard Ca lvert Social Index Fund is an exa m p le. For th e most p art, Am eri ca's 3,952 equity mutual funds (in 1999), representing more than $4 tri llion in assets, h ave remain ed p assive;" Mutual funds are hardly the place to look for h elp in ensurin g corporate accountability. So, wh at are we fighting for? Stockholder wea lth . I t's clear as day from th e evide nce available th at to th e exte n t th atAmeri can institutio nal investors are active in corporate governance, they are co ncern ed first and foremost with in creasin g th e wealth of th eir funds. T h ere 's nothing wrong with this in an d of itself. I ce rtainly hope to amass a suffic ie ntly large pension package to re tire comfortably. But it is disappointing to see th at those who h ave th e power to act like real owners, to take the kind of active in terest in the behavior of their businesses that an individual proprietor migh t, don't do so. The reasons th ey don't , of co urse, are th eir own fidu ciary obligatio ns to their fund be neficiaries and their own self-interest. But I return to th e qu estion posed and analyzed in chapter 4 : Is wea lth a valu e? If it is, should it b e balan ced with other con side ratio ns? Should a private pension fund sell its shares into a takeover or vote in favor ofa m erger that will resu lt in man y of its ben efi ciaries losing their jobs? Wou ld th ese people really trade off their employment for a sligh tly h igher return on their investments? Do they want a TH E

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hi gh er return as a result of bad co rp orate behavior? It 's not really fair to expect these institu tions to have any greater moral conscien ce than th e corporations in th eir portfolios - aft er all, th ey're subj ect to th e same problems of rol e moralit y we exp lo re d with respect to corporate directors. My point is simply that the institutional sto ckhold er is not th e place to look for hope of greate r co rp orate accountability. Bu t there 's another problem. If institutions simply behaved like lon g-ter m investors, seeking to profit well over time but not worryin g about the short term, at least as lon g as th ey h ave assets sufficient to m eet th eir curre n t claims , th eir self-interest wouldn't b e a problem. And th e simple fac t is th at th e size of institution al holdings does lock institu tions into investments in a way that is usually not true of individual investors.?" But as I sh owed earl ie r, many institutions, including th e fastest-growing segment, still trade heavily, thu s imposing the same kind of short-term pressure, if perhaps to a lesser ex te n t, we 've seen from individual investors. T he greater proble m is the incentives of fu nd ma nagers, and this is wh ere differentiation by type of fund m akes a difference. H ere I re introduce Peter, whom we m et at th e be ginn in g of the ch ap te r. U n like public pension fund ma nagers, who are civil ser vants workin g for a salary, or union fu n d m an agers, wh o h ave workers' interests at h eart, Peter is co mpensated on what h e produces in te rms of fund valu e . Now. And th erein lies th e gr eat est source of sh o rt-te r m and thus ir resp onsib le pressu re from financial in stitutions.

THE PAY 'S THE THING

So let's ta ke a look at how institution al money managers ar e com pe nsate d. Need less to say, th ey mak e a lot of mon ey. Th ey average $660,000 pe r year. For that kind of money, they're expected to produce." According to a recent survey by Investment N ews, th e key to portfolio man agers ' co m pe n satio n is beating id entified ben ch marks, like maj or sto ck indices. At the same time (this is the good n ews) , investmen t m an agers are in cr easin gly receivin g equ ity stak es in th eir corporations as part of their co m p ensatio n , a way of lin kin g their pay to longer-ter m performance. T his gives th em an incentive 18 2

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to in cr ease assets under man agement by hi gh-pressure sa les tacti cs - and th e SEC re cently caved in to allow advertising based on p erforman ce to h elp th em out. But th e short-te r m remain s d ominant. How much you fin d in yo ur annual bonus ch ec k depends upon what you have produced now. A su r vey co n d uc te d in 1999 by th e Assoc iat io n for In vestm ent Man agemen t an d Research an d Russell Reynolds Associat es shows that of all in vestm ent professionals, including analysts, execut ives, m arketing p eople , an d trad e rs, p o rt foli o man age rs' bonuses are most clos ely tied to th eir individual performance, with analysts a fairly close secon d. Sin ce bonuses ca n eas ily exceed 50 p ercent of salary, th e in cen tive to p erform is very stro ng indeed . The same is true for pension fund managers. And some clients of in vestment man agers are including co n trac tual penalti es for underperforman ce .t" Co m pe ns atio n d ep ends on h ow you do in the short run , an d th at gives money managers an d th e fu n ds they m an age every reason to pressu re co rpora tions to in cr ease th ei r shor t-ru n p erfo rmance at the expense of the long term . Remember Richard Mah oney's ex p erience as h ead of Monsanto that I discu ssed in chap ter s? No surp rise th at the in stitutional activism we've see n is direct ed toward r emovin g ta ke over barriers an d increasing m an agerial vu ln e rability to th e ca pital marke ts. Forgetti ng any in centives th at institutions as institutions have to look good now, their co m p ensat io n str uctu res definitely push th e shor t term. Now you m ight say I'm overloo king an important p oint. After all, cor p orations must con tin u e to make money ifmoney managers are to preserve th eir levels of co m pe nsatio n . But thi s is not an answer. In th e first pl ace, hi gh trading volumes suggest that th e way for investment professionals to mak e mon ey is to trade stocks th at don't p er fo rm qui ckly e no ugh for stoc ks th at look p rettier in th e sh or t term , thus exa cerbatin g th e effe ct. Moreover, psych ological evide nce m ore o r less definitively suggests that most p eople are m ore inclined to go after short-term re war ds th an to b e p ati ent for the long-term .t" Finally, a re asonably short fo cus isn 't irrational for po rtfoli o m an agers. A su r vey co n d uc te d by Pensions an d In vestments in 1999 con clu de d th at th e hi gh est average p ortfolio manager com pens at ion came b etween yea rs eleve n an d nineteen of experiTHE NE W

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e nce, whi ch for most money managers covers th eir thirti es, an d that in fact average earnings declined with experience greater th an nin et een years.r' Ni n et een years is a reasonably lo n g tim e. But knowing you 've got only nin e yea rs of m aximum ea rning s potential whi le you 're in the b usiness does suggest that you are like ly to ma ke h ay whi le th e sun shin es. By th e time yo u hit forty, yo u ' re pretty much over the hill. So? What do we do about it? Well, the so lutions I've already su ggest ed would alter th e in centives of institutional investors quite seve re ly; and adopting so me form of my tax proposals might also h elp cur b excessive in stitu tio n al trading in vehicles wh ich were built for lon g-ter m p erforman ce . We might also want to think ab out ways of lim itin g th e amount of money manager compensation that is tied to short-term p erforman ce or to give favorab le tax treatment for sto ck options in their mutual funds that are he ld for lo n g-ter m p eriods. The idea is the same: Create incentives for lo ng-ter m investing whi le ret aining th e efficie n t, ce n tra lize d structure ofAme rican co rporate law. Being locked in fo r the lon g ter m should sharply focus th e institution al mind.

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ABANDONING THE STOCKHOLDERS

I have argued thus far that the key to unlocking long-term value in American corporations and to e nsuring a governance and own ership structure th at will provide for sustain abl e co rp o ra te productivity and profitability is to break the bonds that tie managers to stockhold ers an d to create in centives to keep sto ckholders invest ed in th e lon g term rather than as short-term speculators. T he basi c idea I have bee n promoting is to let managers manage ; trust them to run th eir corporatio ns in res ponsib le an d accou n ta ble ways, taking into account the mora l and social propriety of their behavior as well as th e profitabi lity of th eir act ions. But th e specte r of relatively unconstrain ed m an agemen t ma y b e frigh te ni ng. After all, the basic operating premise of American corporat e law is th at sto ckhold ers invest th eir money an d in so doing cede con trol over the future of th eir investments to co rp o rate management. This is th e famous separation of ownership an d control th at Adolph Berl e an d Gardiner Means first observed in th eir classic book The Modern Corporation and Private Properts ( 19 32) as an em p irical matter whi ch th en got turn ed in to a vir tu e . One of th e ce n t ral problems th ey id entified - th e one th at has dominat ed corporate governance discourse in America ever since - is that of ensuring th at man agers keep faith with th e absen tee own ers of th e corporation . Berle wen t on to wri te a series of articles arguing that managers should act as trustees for the stockholders, keeping their 18 5

interests as th e touchston e for all that th ey do . H e n eedn't have worried quite so much. Be rle was writing agai nst the backdrop of th e en or mo us corporate abuses of th e 1920S, documented quite gra p h ically in th e h earings of th e so-called Pecora Commission th at was convened prior to the enactment of the series of sec urities laws p assed by Congre ss during th e 193os. But wh at we h ave thus far observed about the structure of corporate law and th e be havior of our equity mar ke ts shows, I think irrefutably, that man agers h ave every in centive to worry abo u t what sto ckhold ers think. Part of th e reason is, of course, th ose securities laws themselves, which mand at e d isclosure of material co rpo rate even ts, fin an cial info r m ation in carefu lly p rescrib ed form and at regul ar intervals, and a vigorous se t of antifraud laws. Yet as successful as th ese laws have been in providing ca pital markets with too ls to keep managers acc o un ta ble, they have be en aided by the structure and rules of corp orate governance as well, leading to what I have observed so far to be an excessive an d often d estructive focus on sto ckholder welfare . This allows managers to disregard th e enormous power they have over th e lives an d well-being of so m an y others who are affec te d by th e co rp oration. Berles atte m pts to focus managers on stockholders did not go unanswered . Hi s ar ticles were challe nge d in a se ries of pi eces by th e H arvar d professor E. Merrick Dod d , who claimed that managers were professionals and p art of th e responsibility th at went with su ch professionalism was to co nsider th e interests of all p eople upon whom man ageri al actio ns had potential impacts. His argument was, in essence , a progenitor of th e more co n te m po ra ry d eb at e th at I'v e re fle cted so far as to wh et h er management sh o uld account for th e interests of corporate stakeholders other than stockholders, an argu me n t th at is gro u n de d not on ly in th e morally co r rect notion that with power comes resp o nsibility but also in the economic observations I've fo cu sed on with resp ect to long-te r m sustainabilit y versus short-term stoc k pri ce m aximization . Be rle ca me from the ro ugh and tumble of Wall Street, where h e h ad obs erved th e most primal beh avior of whi ch m an is ca pa ble without resorting to violence. Dodd was sheltered in the ivor y tower of Cambridge, an d in many ways his id eas reflected the no tio n s of 186

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that class , notions that can be traced ba ck to su ch "best m en " as Henry Adams, John Hay, and Henry Cabot Lodge,' tha t relied upon th e breeding and values and education of a superior class to fulfill its civic responsibility, wh ether that responsibility was exercised in the pulpit, the law office, the classroom, the physician's clinic, or in business. For business was a calling too. We've long since passed the point where arguments about a better class are generally acceptable, and whi le Dodd 's ideas have a ce rtain attraction th ey can also be seen as breeding racism, an tiSemitism, c1assism, and misogyny. Bu t the core idea remains: with pow er go es responsibility. It is a bedrock notion in our Constitution ; it is a core moral id ea in our so ciet y. And in order for th e powerful to exercise responsibility in a manner th at allows us to hold th em accountabl e, th ey must be fr ee to make th eir own d ecisions. That's the argument. It is the argument that I've built so far in calling for d evices to p ermit m an agers to manage fr ee of undue short-term pressure. It 's the argument that will deprive managers of th e defense that th ey are just doing th eir job,just following orders, when in their pursuit of higher sto ck prices they make de cisions and take ac tions tha t harm others. But my argument does leave a fairl y gap ing hol e. Ifwe free managers from stockholder pressure and release the tethering of managers to stock prices, th en we risk allowing th em to serve th emselves, to satisfy th eir own interests, justifyin g whateve r th ey do as being in the long-run interests of th eir companies. As any good lawyer knows, it 's not diffi cult to co nstr uc t plausible ar guments to support almost an y action short of outright stealing. I started with the assumption th at most managers, like most peopl e, want to do th e right thing. And d espite th e stories in th e popular press about various corporate abuses, especially in the realm of exe cu tive com pensation , I continue to make th e assumption that most peopl e, most of th e time, will in fact do th e right thing. But we have two issues to address: What is the right thing (sometimes it 's not obvious) ? an d wh at do we do wh en managers clearly do th e wrong thing (like steal)? And so we must take a moment before continuing the argument to add a necessary qualification to my A BA N D O N I NG THE STOCKHOLDER

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p roposal to free up managers. We must be su re that laws and norms exist that ensure tha t in serving the corporate entity and its various constituents managers will unders tand th eir basi c obligations and face penalti es if th ey fail to fulfill th em. T here are laws already in place that are designed to do this. In add ition to th e fed eral an tifra u d an d insid er trading laws, stat e corp orations laws are full of rules co m ing under th e ge ne ra l rubric of fiduciar y duty that are designed to ensure th at managers ser ve th e corpo ra tion' s interests and not th eir own. But as much as th e structure and rules of corporate gover nan ce fail nonstockholder con stituen ts, fidu ciary law has evolved over tim e to th e point that it fails th e stoc kholders too . Judi cial rh etori c still resounds with th e high morality of fiduciar y obligation . Bu t judicial practice and the legislation th at h as followed it have for th e most part left stoc kholders without meaningful remedi es wh en go od managers turn bad (or when bad managers are selected) . Thus in order to free m an agers to beh ave responsibly an d acc o un ta bly toward th e world in which they live, we need to ensure that tight protections exist to prevent th em from using th eir n ewfound fr eedom as an exc use to rape, pillage, and ste al in th e corp o rate bastion .

PROTEC TING THE VULNERABLE

Fiduciary duty is a fairly rare animal in our law. As I noted ea rl ier, Am e rican soc ial, political, and legal phil osophy is largely b ased upon th e idea of personal au tonomy, th e notion th at we are free to d o as we like as long as we don 't unduly intrude on th e rights of others. T he way this is reflected in our law falls m ore or less into two categories. First, as is commonly noted, American law is a law of prohibition : it tells us wh at we can' t do , rath er th an wh at we h ave to do . We have few positive obligations other than to pay our taxes and serve in th e mi litary if drafted. We don't have to vot e; we don't have to rescu e oth ers in distress; we don't have to e ngage in any sort of public service (except for th e aforementioned draft). Citizens of oth er n ations have some o r all of th ese o bliga tio ns , but it is co nsidered in consisten t with our co n stitutio n ally g uaranteed freedoms to require us to do much of anyth ing. On the other h an d , it is consis1 88 5 T Rue T U R A L T R AP 5

tent with those freedoms to allow others to e nj oy th eir freedom as much as we enjoy ours. T hus we are prohibited fro m hurtin g others, from tak ing their property, from d iscr im inating on irrel evan t bas es like ra ce and ge n de r, and from interfering in ge ne ral with th eir pursuit of happiness. T his structure of a jurisp rudence of prohibitions is obv ious to an y law student an d to anyo ne else who tak es a moment to ponde r the array of our laws. T he second category, whic h mirrors the first, is private association . We can pretty much befri end whom we like, marry wh om we like (except, regre ttably, in the case of ho m osexu als) , and do busin ess with whom we like. Many of our asso ciat ions are info r m al an d don't rise to levels wh ere th ey are recognized by law. But so me of those assoc ia tions are mo re for mal, and th at is where the rubber m eet s th e corpora te road: th ey tak e p lace within th e in stitution of con tract, a series of rules and n or ms that in American societ y co m e under th e ge n eral rubric of freedo m of contract. Freedom of con t rac t m eans th at as lo ng as two parti es are e ngaging in legal activities , th ey ca n structure whateve r d eals between th emselves th at th ey like. They can sell or buy, provid e or procure se r vice s, borrow or len d , all o n terms of th eir own makin g. And if o ne pa rty chooses not to comply with the co ntract, the law backs up th e wronged p arty by ens uring th at th e bargain is kept. But it d oes not rewrite the ba rgain. T he parties are presumed to h ave wan ted th e deal to wh ich th ey agreed. Sometimes this arrangement looks un fai r. Sometimes p ri ces fluc tuate be twee n th e tim e a con tract is signed and th e tim e it is execu te d. In long-te r m sup p ly co n trac ts or loan ag ree me n ts, whi ch are a species of what is referred to as relat ional co n tract, one party might ge t hurt ba dly because the price of oil d ropped way below th e price at whi ch th e p arties co n trac te d or because interest rat es increased above the fixed rat e on the loan . Bu t courts won 't interfere with th e substance. The reason is that we assu me th e parties know th eir in te rests better th an we do, th at th e risks th ey tak e are risks the y h ave ch ose n to ta ke , and th at the ir co ntra ct is ver y much an exe rcise of th e p ersonal auto n omy we so prize. In order for this attitude to be legitim ate, it must rest on certain un derlying assumptions . And it does. T he b asic assu m p tion, one A BA N DO N I NG THE S TO C K HO L D E R

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th at p er vad es o ur mo re public co ns titu tio naljurisprudence as well , is th at most people are roughly equal- that is, they are equally able to mak e th e au to nomous choices th at result in ag reemen t. Eq uality in th e realm of co n tracts is based p artl y on kn owled ge an d info rmation (or at least an equal ability to obtain it) and partly on bargaining p ower. An d th e assu m ptio n of rough eq uality is ofte n borne o ut in reali ty. Co rporations that publicly issue b onds or borrow from banks are, like the ir lending counterparts, accustome d to the act ivity, sophisticat ed financ ially, an d re presented by compe te n t co u nsel. There are circ u mstanc es, though, even circ u msta nc es that origin at e in con tract, in whi ch rough eq ua lity is absen t. There are man y exam p les in whi ch o ne party to a re lations h ip is d ecid edly n ot equa l to the other. Parent-child re lationships co m e to mind, as do lawyerclient, d octor-pati ent, trustee-ben efi ciary, an d m an ager-eorporation. These r elationships ar e charac te rize d by circ ums ta nces in which one p ar ty has greate r knowled ge or ex pe r tise th an th e oth er an d both kn ow it , or greater power th an th e o ther, an d eac h h as willingly entered into th e relationship in that knowledge . People hire lawyers becau se of their ex pertise in an area in whi ch th e client h as limited o r n o kn owledge. They hire doctors to m ak e th em well or save their lives in circumstances in which th eir own abilities fail th em. Chi ldre n re ly upon th ei r pare n ts, altho ug h in voluntaril y, for food , shelter, education , and safe ty. Benefi ciaries rely upon trustees to manage th eir property in an h onest , prudent way. An d co r po ratio ns an d their stoc kholders re ly up on management to serve the collective interest and n o t th eir own in th e de cisions they make . T hese relati onships are betw een p eopl e wh o are , on th e one side, ex pert o r powerful an d, on the othe r, vu lnera b le to th at expertise an d pow er. Wh ether th e vu ln erable p arty has voluntarily ced ed con t ro l of hi s interests to th e powe rful p arty o r th e situatio n ar ises as a matter of sim p le fact , the risk exists that the p owerful party will in some way abuse th e trust rep osed in h er by th e weak p arty. These re latio ns h ips, whi ch we classify as fidu ciar y, are valuable. They e nable some people to benefit from the expertise of others and often p rovide a m ean s of livelih ood for th e ex pe rts. But th ey are su bject to abuse . Because the co ntrol lies in th e hands of the powerful p ar ty, it has the opportunity to take ad vantage of th e vulnerab le 19 0

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party. As a res ult, an d in order to co n trol fo r th e possibility of abuse and to provide a remedy when it happens, the law has developed an area in whi ch affir mative obligations to others ex ist: fiduciary duty. The basic premise of fiduciary duty is sim p le: th e p owe rful party, or fiduciar y, is required to act in th e be st interests of the vulnerable party. This requirement in volves m ore specific rules, like prohibiti ons agains t self-dealing an d obtaining profits by virt ue of th e fiduci ar y's position an d the injunction to perform obliga tions with care. In so me areas of th e law, thi s te lls practi cally all you n eed to know about fidu ciary du ty, and it is ri gidly enforced. Bu t corp or ate law is different.

LETTING THE FOXES RULE THE ROOST

Fiduciar y d octrine in co rpor ate law starte d o u t much the same as other forms of fiduciary law. It used to b e, rather a lo ng tim e ago, th at di rect ors an d officers wh o face d a co n flict of inte rest we re prohibited from acting upon or profiting from it upon pain of being required to di sgorge anyth ing they received from th e tran saction. It didn't m atter wh eth er th e d eal was goo d or bad for th e corporation - for exam ple, an officer could h ave sold n eeded real esta te to th e corpo ra tio n at a fair mark et p rice - h e 'd still h ave to return the profi ts to the company. The reason was sim ple: th e esse nce of a fiduciar y rel ationship is trust. It is based o n the id ea th at the vu lnerable part y can avail himse lf of th e fidu ciary's tim e and expertise and, backstopped by legal rules punishing violati ons of th at trust , be co n fide n t th at th e fiduciary co uld b e trusted . Wh e th er or n ot the transacti on was fair (or even a re ally good d eal) wasn 't the question - it was th e br each of trust th at was re levant. On ce th e fid uc iary p rofited becau se of her position, the basis for trust was go ne and that not only damaged th e rel ationship but sugge ste d th at suc h relati onships were dan gerous unless th e vu lnera ble p arty wat ch ed th e fid uc iary very carefu lly, a response that would destroy the whole efficiency of the relationship in th e first pl ace . There was an oth er reason it was se nsible to prohibit th ese tran sactions. It inheres in the concept of fairness. What is fair wh en A BA N DO N I NG THE S TOCK HO L D E R

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you 're d ealing with th e sale of property, or giving a famil y m ember a job with a salary, or taking an opportunity that might (but might not) be profitable to th e cor po ratio n? Appraisers of various kinds of assets differ notoriously in th eir estima tes -lots of markets don't even come close to the relative efficiency of the stock market. And how do yo u assess you r son's tal ents relative to those of other job app lic an ts? Kind of hard to do, esp ecially wh en blood ties are involved . In order to permit such transaction s to occur, courts would h ave to ge t into th e busin ess of p erforming suc h evalua tio n s every time a manager acted on a conflict of in terest. And courts have long professed th eir lack of ex pe r tise in busin ess m atters, whi ch has led to th e wid esp read devel opment of th e busin ess judgm ent rul e I discussed in chapter 3 . The only alternative would be to le t th e board of directors, or those m embers of th e board who th emselves had no finan cial interest in th e transaction, engage in a process designed to replicate an arm 's-length transaction by serving, in a sense, as an indep endent co m m ittee . As independent parties would , they would hire appraisers and vote (without yo ur participation) on yo u r son 's hiring. Rather a risky business, given, first , th e very clos e r ela tionship that board m embers of corp o rat io n s typically h ave among th e mselves and , second, their well-known similarity of background an d p ersp ective." But th is is precisely what corporate law has done . So let's take a tour of corp orate fiduciary duties to see how th e law has left th e stoc kholde rs at th e m ercy of directo rs.

aThe Russell Reynolds on

12 ,1 3 9

1999-2000

Board Pr acti ces Survey exam ine d dat a

directors of th e more th an

1 ,2 0 0

public co m pan ies in th e S&P

It fo und that 7 ,7 21 were independent of th e co m pan ies, meaning th ey had no personal o r professional ties, 2 ,54 1 were em ployee s of th eir co m1 500 .

pani es, and 1 ,877 were affiliate d, m eanin g th ey h ad some profession al ties to th e co m pa n ies . T he avera ge director's age was fifty-nin e , with more th an onethird falling betw een fifty-seven an d sixty-five and three-qu arters being in th eir fifties and sixti es . Only 7 percent were members of a minority gro u p, an d o n ly 9 .3 percent were women . Whil e th e study rep orts a sign ifican t in cr ease in indep endent d irec to rs, it remain s th e case th at th ey tend to be drawn from th e sam e pool of people. 19 2

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TWO KINDS OF CONFLICT

In order to understand th e di fficult legal positio n stockholders are in , it is fir st ne cessary to understand the ways in whi ch cor p o rate m an age rs can adve rsely affect corpora te an d stoc kholde r fortu nes. We b egin again with th e un derstanding th at fiduciary d u ties are design ed to protect the vulnerabl e p ar ty in a relationship fr om the fid uc iary's ab use of p ower. No w of co urse we 've already see n th e power th at stoc kholde rs can exert on m anagements' b eh avior throug h th e ordinary fu n ct io n ing of the cap ita l m arkets. But o ur look at fid uc iary duty will tak e us inside th e blac k box of th e corporation . Fiduciary du ty operates to n eutralize co n flicts of interest. T here are esse n tia lly two kinds of co n flict in corpo ra te law, vertical co nflicts and horizontal conflicts; everyth ing else is a varia tio n on th e m . Vertical co nflicts are probabl y th e easies t to u n de rstan d , and th ey provid e the background fo r th e tra d itio nal, lon g-standing rules of co rpora te fidu ciary duty. Vertical co n flicts arise wh en manage rs conduct the or dinary busin ess of the corp orat io n : m ak e investmen t decisions, sell an d buy asse ts, hire employees, co m pe nsate th emselves, an d pursu e or rej ect a varie ty of busin ess op p ortu nities . They arise, in othe r words, fr om man agers' du ties to run the co rp ora tio n o n a day-to-d ay basis. I ca ll them vertical because th at best de scribes th e relative position of th e managers and th e co rp oratio n th ey serve; th e man agers h ave p ower to wh ich th e corpora tio n, lacking p ower of its own se para te an d ap art fro m the actio ns of th e managers, is subject. It is a classic hi erarchical rela tionship an d th e refore ca n be visua lized as a ver tical lin e running from managers to the corporatio n. The kinds of h arm th at arise fro m vertica l co nflicts are basically a category th at Ar isto tle d escrib ed in th e Nicomachean Ethics as h arms to b e redressed by cor rective justice . While th ey have technical n am es like self-dealing, corpora te o pportu n ity, an d waste, in n ontechnical terms they all involve so me so rt of theft fro m the corporation by the managers. Manag ers are ab le to steal in thi s way precisely becau se of th eir posi tion of p ower over th e co rporatio n - th at 's why A BA N DO N I NG THE S TOCK HO L D E R

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th e duti es that redress th em ar e fidu ciary. Vertical con flicts are th e kinds of conflic ts that are redressed , if at all, by th e derivative suits I d escribed in chapter 5. In oth er words, although sto ckhold ers mi ght initi at e th e suit, any damages collec te d ar e paid to th e cor poration itself because it is the co rporation th at is h ar m ed when manage rs take advan tage of th ese con flicts an d steal wealth th at prope rly be longs to the corp o ratio n . Horizontal conflic ts are a re latively new development in corporate fidu ciar y law, alth o ug h th ey h ave analog s in m uch older doctrines of trust law that require tr u stees to deal fairly with multiple b en efi ciaries of a trust. T h e Aristotelian analog to th e harms caused by h o rizon tal con flicts is th e co nce p t of distributive j ustice, th e id ea of giving to eac h his d ue . Whi le vertica l co n flicts arise because of th e pow er th at m an agers h ave over th e co r po ratio n, horizon tal co nflicts com e about be cause managers or some other powerful p erson withi n th e corporate structure (like controlling stockhold ers or directors who own substantial amo u n ts of th e co m pany 's sto ck) h ave the opportu nity to favor th eir in terests as stockholders or other fi n an cial claimant over th e in terests of th e other sto ckhold ers. The laws d ealing with vertical con flicts, as th ey origin ally were conceived, derive from th e id ea that managers h ave n o legitim ate interest in th e corpo ra tio n's p roperty other th an agreed-u pon co m pe nsation. In co ntrast, in ho rizo n tal co n flicts , th e m an ager-stockh ol d er or dir ector-stockhold er or co n tro lling sto ckhold er do es in d eed h ave a legitima te interest by virtue of hi s stoc khold ings . The questio n in these kin ds of cases invo lves determining whether th e p owe rfu l stockhold er h as tak en more than his d u e, to th e detriment of th e oth er sto ckhold ers. With this broad, so mew hat overgeneralized classification in mind , let's tak e a look at th e fiduciary law th at governs in eac h category. Vertical Conf licts Le t's say a well-known oil co mpany wants to sponsor worl dwide radi o broad casts of classical music, including o pe ra, an d also run a major website for classical musi c fans . Texaco h as b een sponsorin g Metro p oli ta n Opera broadcasts for yea rs, b ut my story is hyp oth eti194

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cal and bas ed on a real case involving a co rpo ratio n in an en tire ly different line of business.! Let's also assume that Texaco 's president is married to a well-known opera singer - call h er Maria. Sh e's not J essye Norman, but sh e 's good , and sh e 's sung at th e Met as well as La Scala and other famous opera houses throughout the world, usu ally in supporting rol es. The com pany, Oilco, b eli eves th at this will distinguish it in a business that is basi call y one that sells commodities and in which brand name differentiation is therefore difficult to ach ieve. The assumption is th at a classical musi c audien ce is an elite, well-educated audience th at tends to buy big gas-guzzling cars, luxury SUVs, and th e like, and that cap tu rin g th eir business is likely to in crease profits. The Oilco board meets, and th e vice president of marketing presents th e plan, whi ch has been developed with th e aid of a famous marketin g com p any. Different typ es of musi c will be featured each night, and the website will contain interviews with a variety of classical music stars . Th e marketing v.p . names a number of p erformers who have agreed to participate, including Maria. He notes th e amo u n t of com pe n satio n to be paid to each , including th e fact that none of th e performers will re ceive more than their cu sto mary pa y per performance . The board knows that th e president is marrie d to Mari a, but h e re m in ds th emjust th e same . The p resentati on completed, the board votes to approve the show and commits 2 percent of th e com pa ny's n et revenues for th e n ext three years to th e proj ect. How do yo u solve a problem like Maria? There doesn't appear to be anyth ing wrong with wh at th e bo ard h as done . The president is well com p e nsated , and his family hardly needs the money. Maria ge ts plenty of gigs on her own, so she doesn't need the work. And sh e 's not ge tt ing sp ecial promin en ce or being p aid more th an h er normal rate . But th ere is a con flict of interest . Aft er all , no matter how straightforward this ar ra ngeme n t looks, sh e is th e presid ent's wife. So how do we know that Maria 's deal is fair to the corporation ? Remember th at th e board 's standard of behavior is based on the business judgment rule, whi ch operates to keep co urts out of business de cisions. But one exception is the case of conflicts of interest. The reason is A BA N D O N I NG THE STOCKH OLDER

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th at wh en a board acts o n a co n flict of interest , we can not kn ow for sure wheth er it was really acting in the corp oratio n's be st interest eve n though th eir actio n in cid entally h appen s to ben efit so meone else - in thi s case th e p resid ent's wife an d presumabl y th erefo re the president - or whether it is acting to give sp ecial ad vantage s to these p eople. Th e old solutio n was to prohibit th e d eal entire ly, in tec h nical legal ter ms, to m ak e it voida b le. Maria sim p ly can 't p erform or may be she can p er form fo r free, but eve n th at 's o pe n to question given the fact th at Oilco is payin g for the sh ow and it will presumab ly at least n ot hurt, ifit doesn 't h elp , Mari a's career. The id ea was th at by ac ting o n th e co n flict, th e board 's moti ves we re obsc ured, an d sin ce we can 't examine th eir heads we don't kn ow why th ey were doing it. Besid es, by acting on th e co n flict, th e board gave r eason for stoc kholders to call th eir good faith into qu estion an d th us breached their tr u st. Prohibition was see n as th e b est way to resolve am bigu ities an d to m aintain faith with th e stoc kholders. Bu t th e rule was inconvenient and , so m e think, inefficient. In th e first pl ace , earl ie r in the last ce ntu ry th ere were m an y direct o rs wh o sat on th e boards of co m panies th at did busin ess with co mp anies they r an . The cross-bu sin ess mi ght well have b een b enefici al to both corpora tions. Wh y sho uld we sto p good d eals fro m h appenin g? Besides, th ese dire ctors might bring a lot of knowledge and ex pe r tise to a co m pany, an d to p rohibit th ese tran sactions might be to excl ude th ese d irect o rs and th eir expertise from th e board . Finally, sometimes a dire ctor or manager (or hi s sisters and his co usin s an d hi s au n ts) might h ave tal ents o r property th at would be useful to th e co rporatio n; thus to prohibit d ealings b etween th em mi ght well b e to d eprive the corpora tio n of important b enefi ts. So , in thi s area, as in so m an y others th at are beyond th e sco pe of my dis cussi on, th e legal solutio n was to dispense with thi s in conveni en ce. In stead of prohibitin g th e tra nsactio n, first co u rts an d th en legislatures h eld th at self-dealing co u ld occ ur as long as it was fair to th e co rporat ion . Wh at does fa ir ness m ean ? Well , let 's tak e a look , for exam p le, at the modern d efinition in Del aware 's fairly typ ical self-de aling sta tu te (by the way, all states h ave the m ) . It b egins by telling u s th at 1 g(j 5 T R ue T U R A L T R AP 5

tran sactions are n' t voida ble becau se of co n flicts of interest if ce rtain conditions are met. The first, and essential, precondition is that th e con flict an d th e circ u mst ances of th e deal be kn own to or disclosed to all of th e direct o rs. Seems reasonable enoug h : h ad th ey no knowledge of the conflict, th e board cou ld be taken advantage of. Now o nce th e board h as kn owledge, it is fr ee to ap p rove the d eal provid ed th at a m ajority of th e disinterested directors ap p rove th e deal (r eg ardless of wh e th er the " in ter ested directors," a term that would include th e p resid ent in Oil co 's case, actua lly vote) . This holds true even if the in terested directors are too few to make up a quorum." And that' s all you n eed . Voil a! The co n flict is san itize d becau se th e board ap proved it . Neve r mind, as I p ointed ou t befo re, that th er e 's probably a close re lationship among the inside and o utside di rect ors. Never mind th e de facto p ower th at th e p resid ent has to make sure fri endly direct ors are nominated . That 's all it tak es. Now say for so me reason you can 't ge t di sinterested di rect o r approval or yo u want to be really sure that yo u' re safe. You can put th e m atter to th e stoc kholders. All the sta tu te requires is th at a majority of stoc kh olde rs ap pro ve th e deal , an d stockh olde rs are no toriously com p lacent, as we've see n. It doesn 't even require that th e ap proving stoc kholders be disinterested, so if our p resid ent h as a major block of sto ck he ge ts to vote (although case law in Delaware has d evel oped th e requirement th at th e app rov ing stoc kh olders b e indep endent) . But this isn 't h ard to meet. Look what's happened so far. If yo u p lan ri ght, the matter ne ver

hSO , for exa m p le , if a co rpo ra tio n 's bo ard we re voting o n an execut ive sto ck o ptio n plan and had ten d irecto rs, five of whom were co m pany exec u tives wh o would receive o ptions and five of whom were o u tside directors who had no a ffilia tio n with th e co m pany, th e five inte rested d irectors would be di squ alified from voting. A normal quorum of th e board would be six, o r a majority,

but th ere is no quoru m of di sinterested d ire cto rs. U nd er De laware law, if three of th e five o u tside directors ap p roved th e p lan , it wo uld satisfy th e stat u to ry test. So me j ur isdic tio ns , New York, fo r exam p le, d on't permit boar d a pp rova l o f these d eals when th ere is less th an a q uorum o f di sinterested di rectors. A BA N DO N I NG THE S TOCK HO L D E R

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has to leave th e boardroom; and if th e case is litigated, all th e board needs to do is provide mi nutes showing that it was informed and that it co nsidered en ough evide n ce to determine that th e d ea l was fair. The directors th emselves ge t to d et ermin e wh ether th ey hav e breached their fiduciary duty. The foxes are guarding the h enhouse. But what hap p e ns if for some reason yo u can't get d ire ctor or stockholder approval? Well, th e board has a defense . If a stockhold er brings a derivative suit seeking to void th e deal, th e directors will win if they can prove that th e transaction was fair to the corporation. But wh at is fair? Well, th e case of Oileo is pretty easy: we h ave a m ar ke t price fo r Maria 's services, and as lo n g as th e radio show is oth erwise a good id ea, th ere doesn 't seem to be very much danger in le ttin g it proceed. But what if a dire ctor wanted to sell a piece of real estate to the company? Fairness de pen ds on the court's resolution of a battl e of expe rt ap praise rs, eac h of whom will try to establish his own idea of a fair price. Bu t there will undoubtedly be a range. And th e more unique th e asset, th e wid er th e range is likely to be . When the co urt pi cks a number, it will almost certainly be so mew here within that range. Now look wh at 's h appen ed. If th e director were to sell th e property to a thi rd party, the third party would presumably negotiate h ard to get th e lowest price. But we can't be sure that th e corporation has don e this with its own director. So it m ay well be th at th e fair price is higher tha n o ur director could have gotte n in tough n egotiations with a third party. But that's okay because all th at is required is a fair price . If the fair price paid by the co rp o ratio n is higher th an the price the director could h ave gotten on the market (we 'll n ever know for sure) , th en th e interest ed director has made so me extra p rofit on the sale at the expense of the co rpo ration . So even wh en we apply a substantive fairn ess test to th e d ea l, we ar e, in some m easure, p ermitting managers to profit at th eir co rp o ratio n s' expense. And if they p lay their cards right and get director ap proval, th ey don't even h ave to prove fairness to a co u rt. T h ey hav e to show only that the y did th eir best to ensure that the price was fair. T hey have the power, in other words, to create for the mse lves a 1 98 5 T Rue T U R A L T R AP 5

property in terest in th e cor po ratio n wh ere non e existe d before. Tha t 's a far cry fro m fid uciary law, aimed at keeping fai th with the stockholders. T h ere are a lot of rules like th is. I've given just one important exam p le , but th ey all follow th e same basi c pattern.

NowJu st Try to Get to Court As if that weren't bad en o ug h , it gets worse . As I noted, vertical co n flicts are challe nged in derivative litigatio n . Bu t there are enormous obstacl es to bringin g a deriv ative suit. A salmon swimming upstream from th e middle of th e Pacific Ocean probably h as a gr eater chan ce of spawn ing than th e average sto ckhold er h as of ge tting h er da y in co urt. H ere 's why. Derivative litigation is an in terestin g dev ice . Rememb er that th e vertical fid u ciary d uti es we 've been talking abou t, referred to in cor p orate law as the duties of care and loyalty, are owed by the board and the managers as well to the corporation itself. But boards h ave alm ost unlimited legal pow er, delegated by th e state through its corporations statute , to r un th e co rpo ration . T his creates an interesting problem. If th e board violat es th ese d uti es, who is going to sue to enforce them? It h ardly seems likely that the board is go in g to ca use the corporation to sue itself. So co u r ts d eveloped an interesting device, calle d th e d eriv ative sui t, to get around th is sticky proble m and make sure that th e duties can be enforce d . Derivative su its are design ed so that stoc kh olde rs, an d only stoc kh olde rs, ca n brin g a lawsuit in th e name an d th e righ t of the corporation , th ereby acquir ing th e chance to enforce the duties by sideste p ping th e bo ard of directo rs. I'v e d escribed this briefly before. Te chn ically, the derivative su it is actually two suits in o ne : the first is a su it by th e stockholder against th e corporation to cause it to sue a third p arty, in this case one or more ofth e directors. T he second is the actual suit by th e co rpo ration agai nst th e thi rd party. The com bination of th ese two actions, and th eir obvious ext ra ordinary nature in violating th e b asic precept th at th e board man ages the corporatio n , m ake it rathe r a co m p lex an imal. And especially because it is an exce ption to th e norm th at directors run the corp or atio n , a number of limita tio ns and conditions need to be fu lfille d before a stockholder-plaintiff is permitted to h ave h er day A BA N D O N I NG THE S T O C K H O L D E R

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in cou r t. Only on e of th ese will co ncer n us h ere: th e requirement that, prior to initiating the suit, the stockholde r make a demand on th e board. Wh at exactly is it that th e sto ckholder must demand? Sh e must demand that the board ca use the corporation to bring the lawsu it that th e sto ckhold er thinks ought to be brought. This d emand requirement serves two purposes. T he first is conc eptu al. It is, in a sense , a requirement th at the stockholder pay h omage to the board, th at sh e reco gnize th e board 's supreme au th o rity. Thus by asking the board to bring the action itse lf, the stockholder is, in effect, h ol di ng h er right to sue in ab eyance until th e bo ard makes its own d ecision, thus at least th eoreti cally preserving th e rule of board governance. The second reason is p rac tica l. It m ay be th at th e board ag rees with th e sto ckh old er an d will in fact ca use th e cor poration to brin g the suit itself. If it does, then th ere' s no need to complicate corporate law, and the stockhold er can quie tly go home an d let th e board do its job. Now this mi ght happen if th e sto ckholder thinks that the board should sue a third party - one examp le mi ght be a major customer who refuses to pay its bill, an d for some reason the board doesn't tr y to collect it . But these kinds of suits are ver y infreque n t. T he far more co mmon derivative suit occ urs wh en th e stoc kholde r thinks th e board h as screwed up . And h ow likely is it that th e board is going to receive the stockholder's d emand and say, "Yes, we've do n e wro n g, an d we shall correct o ur misbehavior or sue o urselves"? It co u ld h app en . It probably has h ap p ened . But it's not very likely. One app roac h th at co urts co uld tak e is to say th at once th e sto ckholder has made a demand and the board h as refused to accede to it, the stockholder is free to sue. They h aven 't done this, and for good reason . If sto ckhold ers were able to usu rp th e bo ard 's power whenever they didn't like what was going on, there 'd be an awfu l lot of litigation , and it would interfere tremendously with th e board 's ability to run th e co rpo ra tion , whi ch, afte r all, is one of th e thi ngs th at ma kes American corp orate law work. O n th e other h and, wh en th e bo ard is th e grou p being su ed , co m mon sense tells us that it's unlike ly to accept demand. So instead , co urts h ave deve loped rules th at de termine when de mand can be excused because 200

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th e board is th e d efendant an d wh en th e board is allowed to reject the suit even though the sto ckholder might have a point. The upshot of th ese rules is th a t it is very difficult indeed for stoc kh olde rs to h ave th eir d ay in co urt. Let's consider how Delaware does it. There 's so m e reasonable variatio n among the sta tes in the way th ey ap proach thi s p robl em , but because of Delaware 's importan ce in th e world of co rporate law it see m s like a reasonab le exem p lar. The general rule is th at the stoc kholder-plain tiff h as to m ake d emand. So th e first question is when it is that demand mi ght be ex cused be cause , say, the directors h ave a co n flict of interest in th at they're th e defendants. There' s a sim ple answer to th e question: Demand is exc used wh en it 's fu tile, that is, when it's so obvious that th e board is going to reject the demand th at th ere 's n o p oint in making th e stoc kholde r go through th e exe rcise in th e firs t pl ace. We'll see tha t even if th e stoc kholder is excuse d from making d emand, th e board still h as a d evice that may allow it to ge t rid of th e lawsuit. But fo r n ow let 's foc us on wh at it means to say th at demand is fu tile . Accord ing to Del aware law, d emand is futile wh en th e facts alleged by th e plaintiff are suc h th at "a reasonabl e doubt is create d that: (1) th e direc tors are disinterested and independent an d (2) th e challenged tran sacti on was otherwise th e p roduct of a valid exercise of business judgment. "3We can dispense with th e seco n d part quickly. A board 's decision h as to be virtu ally ridiculous - not just unreasonabl e b u t ir rati onal - to fail the secon d pa rt of th e test." So le t's look at th e firs t part. What exactly does it mean to say th at th e direct ors are n ot di sinterested o r independent? Disinterested is easy. It requires th at the directors have n o direct financial interest in the ch allen ged transaction. In order for d emand to be fu tile, it 's n ot e no ug h th at one or even a few of th e directors have a direct finan cial interest; as we 'll see in a minute , as long as th ere are some directors without suc h an interest th e board is co ns idered sufficie n tly untainted to m aintain th e demand requirement. It 's also not en ough that dire ctors are paid for their se r vices an d co uld lose th eir j obs in th e n ext elec tio n if th e su it is successfu l - eve n though directors of publi c corp o ratio ns are ge nerally well com pen sate d, the co urts don't co nside r this a di squalifyA BA N DO N I NG THE S TOCK HO L D E R

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in g inte rest. So thi s o ne is easy to m easure, an d, exce pt in su its in whi ch the plaintiff is ch alle nging th e way th e board co m pensates itself, awfu lly unlikely to result in d emand fu tility. Th ere's another way plainti ffs ca n show di rect or interest: that is if th ere are facts that create a reasonable case that th e directors, by th eir actio ns, are tryin g to en tre n ch th emselves in office . This is almost impossibl e to show in th e case of ordinary busin ess tran sactions . Wh ere it comes up is in cases of ho stile take overs an d proxy figh ts, wh ere we have a wh ole different set of r u les th at go beyond th is discussion . So what about directorial indep endence? In o rde r to show th at d irect ors are no t indep endent, the pl aintiff h as to show th at o ne or more of the dire ctors who are in terested in th e tr an sactio n (as d efined above ) co m p le te ly d ominat e th e o ther di rectors so th at th ey ar e largely d eprived of th eir ability to make up th eir own minds. This does sometim es h appen." Most directors are serious p eople th emselves, an d it would tak e an awful lot to sh ow th at th ey lack an y independence be cause of a Svengali-like in terested director. Moreover, most Am e rica n boards now h ave a m ajority of indep endent directors, who h ave n o oth er affiliat io n with the co m pany. Wh ere th at 's the case, sto ckh olde rs will n ever find demand excuse d . For, as th e Delaware Supreme Co u rt put it, "Approval of a tran saction by a majority of independent, disinterested directors almost always bol sters a presumption th at the busin ess judgm ent r u le attaches to t ran sacti ons approved by a boar d of di rect ors that are later attacked on grounds oflack of due care. " 6 In lay ter ms, this m ean s th at if a majority of th e board is co m pose d of o u tside di recto rs, n o m att er h ow th ey've b een chosen , wh at kind of relati onship they have with th e oth er directors, including the in terested director, o r h ow much in centive th ey might have n ot to rock th e boat , th e stoc kh olde r has to make demand. End of sto ry. So demand is almost n ever exc use d. But it ge ts worse . Often a stockh older-p lain tiff n eeds the tools of co u rt p ro cedure , calle d civil procedure in the trad e, in ord er to get enough information to allege the facts that would lead to demand futility. Th e trick is that yo u can' t ge t mu ch procedure until you've brough t a suit. An d yo u ca n 't bring a su it without either making demand or establish ing 202

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th at demand is futile. So why not sim p ly allege d emand fu tility, engage in som e discovery, and then alle ge your fa cts? There 's a ver y simple reason . Delaw ar e h as stymi ed yo u: if yo u bring a suit alleging demand futility an d you turn o ut to be wrong, your case ge ts dismissed be cause yo u didn't make demand and you get thr own out of co u r t! So why n ot mak e d emand just to be o n th e safe side? Becau se under Delaware law, once you've made demand, you are deemed to h ave con ce de d that demand is no t futi le - you lose you r ch ance to allege d emand fu tility!" So you're d em and if you do an d dem and if yo u don't ! (Sorry, I co uld n 't h elp it .) The n ext thing is, Wh at h appen s wh en a stoc kholde r does mak e de man d? As I n ot ed earlier, that can 't b e e no ug h to let th e stoc kholder go marching on , or else th e board 's ro le in running the co r po ra tio n would be serio us ly co m prom ised. In stead, we h ave a series of rules gove r n ing wh en th e b oard, aft er receivin g d emand, can refu se it and di smiss any sui t the stockhold er brings. There ar e two types of circ ums ta nces gove rned by sligh tly di fferent rul es: th e first is when demand is required ; the sec ond is when demand is futile . As we 'll see, if d emand is required (and what I'v e said already suggests th at in Delawar e you 're mostly stuc k with m aking d emand) , it's easy for the board to dismi ss the sui t. It 's more difficult if demand is futile, but since we 've already see n th at demand is almost never fu tile, the basi c co n clusio n is that sto ckholders can almost n ever bring d erivative su its. It 's bad en o ug h th at fiduciary duty is so weak , b u t wh at 's worse is you can 't enforce eve n th e weak duties th at exis t. If d emand is required, m ad e , an d refu sed , th e rule is sim p le enoug h: th e b oard 's decision to refu se d emand and di smi ss th e su it is resp ec ted and will b e upheld by the co urt unless it was wrongful. Of co urse thi s ge ts us into th e question of wh at wrongful m eans, and the an swer to that is sim p le too : a de cision is wrongful if in making it the directors' h ave not exercised their du ties of care an d loyalt y. In other words, as long as th ey ca n sh ow th at th ey haven 't acted irrationally and that th ey are disinterested and independent, th ey ge t to di smiss th e su it even if th e en tire board h as been sue d! So if yo u h ave to mak e demand (and we've seen why, at least in Del awar e, yo u almost always h ave to mak e demand) , you in effe ct A BA N DO N I NG THE S TOCK HO L D E R

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h ave n o chance of bringing your su it if th e board chooses to di smi ss it , as it almost always will. Wh at abo ut those rar e cases in whi ch demand is fu tile? If d em and is fu tile because no b ody o n th e board is disin terested o r independent, th e stockh old er will be allo wed to proce ed. Bu t as we 've see n, th at almost n ever h appens. Us ua lly the re are at least a few direct ors wh o are disin terested an d in dep en dent, an d th e b oard can add n ew directors who h ave n o thing to do with the lawsu it if th ere are vaca nc ies on the board after th e suit h as been brought. In eith er case, th e board , th at is, th e e ntir e board , includin g th e in terested o r dependent directors, can del egat e its p ower to a co m mittee co nsisting of th e disinte rested an d independen t di rectors. Once th ey'v e done so, th e co m mitt ee, as long as it fulfill s its duties of care an d loyalt y, can recommend dismi ssal of th e su it to th e e n tire board. The co urt will resp ect tha t d ecision if (1 ) it det ermines that the committ ee tr u ly was di sinterested an d independent an d fu lfille d its duti es of care an d loyalt y, an d (2) if th e co urt de cides (and th is step is entirely optional with th e co urt) th at dismi ssing th e su it is in th e best interests of th e co rpo ratio n - in other words, wh ether it agrees with the co m m ittee 's d ecision. So h ere 's the en d of ou r ra th er long tale. In Del awar e at least, abo u t th e on ly tim e a stoc kholder is goi ng to h ave a chance even to bring a lawsuit to enforce th e ra ther in sipid fidu ciary duties to whi ch directors are subject is wh en th at board is disqualifi ed by conflict of interest fro m ma king th e decision itself and can 't re qualify itself by using an independent co m mittee be cause th e court chooses to look at th e substa nce of its d ecision an d decid es it is wron g. Th at doesn 't h appen a whole lot. We mi ght as well n ot have fidu ciary duty at all.

Who Cares? I've spe nt a lot of time on vert ica l duties an d th eir enfo rce me nt (or n onenforcement) m ech ani sm , th e d erivative su it, for o ne major reason. Managerial stealing is not th at huge a problem. Pe tt y theft might occ u r, p etty, that is, in con trast to the corpo ratio n's ove rall fin an cial p osition. Overcompensation is a so me what greate r problem but also more visible an d thus more subj ect to public an d 204 S T RU C TU RA L TR AP S

market pressures. Some th eorists ar gu e even , and h ave been supported by courts, that we r eally don't have to worry about th ese issues at all because stockhold ers should be well diversifi ed, and whatever managers steal from on e co m p any will be offset by th e honesty and highe r p rofits of another. Bu t the key problem th at our weak fiduciary duties ca use is a lack of trust. Trust is the key to permitting a corporate world in whi ch managers take the money of abse ntee owners and have essentia lly co mplet e legal fr eedom to determin e how it 's invest ed. Of co urse it 's the rare stockholder who knows most of th e managers and di rectors of h is company, or even on e for that matter. It's not rational to trust peopl e yo u don 't know, alth o ug h over tim e yo u can develop trust by watc hing their good performance . Fiduciary law m akes trust rational, not only by setting out th e rules of th e game so ever yo ne knows what's expected of them, but also by providing a legal ba ckstop when managers breach that trust. Vertical fiduciary duties and th e m echanisms of th e d eriv ative suit hav e mostly tak en th at ba ckstop away. Trust becomes irrational, and your on ly protection is to hold a diversifi ed portfolio an d hope th at th e market punishes errant managers. T he only way the market knows h ow to do this is through stock prices. And th at returns us to the managerial focus on sto ck prices and short-term man agement. So you see how it 's all re lated. Horizontal Confl icts I've just subjected you to a substantial portion of my basic course on corp ora tion s, and I don't intend to try your patien ce very much longer with te chn ical details about co rpo rate law. But I do want to spen d a littl e tim e ta lking about the other kind of conflict that fiduciary duty d eals with , horizontal co n flicts of interest. Recall th at in h orizo n tal conflicts, the issue is not one of stealing by people who hav e no legitim ate interest in th e co rp oratio n 's wealth. Rather, th e issue h ere is how th e co rp o ra te pi e ge ts sliced up among p eople who do h ave real financial interests in the corporation: that m ean s sto ckhold ers, including m an agers who are sto ckhold ers , an increasingly important issue given the sharp rise in compensation throug h stock and stock options, prefe r red stockholders, and conA BA N D O N I NG T HE S TOCKHOLD ER

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trollin g sto ckhold ers. Of co u rse others hav e an interest too , in particular, creditors and employees, but as I've already explained , th ese p eople ar e exclude d from th e rules gov erning th e corporation . H orizo n tal conflicts present less of a problem tha n vertical conflicts, in part b ecause th ey tend to be more transparent and in p art be cause the rules designed to deal with them are more protective of stockholders than th ose governing ver tica l co n flicts. T hey also ma tter less in this con te xt because my point in this ch apte r is that freeing the directors in large public co mpanies from stockholde r con tro l will work only if we strengthen th e laws protecting stockholders from directors ' misbehavior. Horizontal con flicts ar e not about directors ' misb ehavior as such. Rath er, they almost always arise wh en th ere is a sin gle sto ckhold er or gro u p of sto ckhold ers who co ntr ol th e corp oratio n ." This presents a different situation fro m that of the kin d of corporation on whic h I 've foc used, that is, on e in whi ch directors m ay own shares but in whi ch no sin gle sto ckholder is dominant. Nonethe less, a few words on ho rizo n tal conflicts may be in orderjust for th e sak e of com p le te ness. T he distinguish ing aspect of h o rizon tal con flicts is that they present cases in whic h th e fiduciary h as a legitim ate financial interest in th e co r pora tion, usually as a sto ckhold er, but pursues th at interest in a way that gives h er benefits she doesn't share with th e othe r sto ckhold ers . For ex am p le , th e controlling stockhold er m ight own Class A com m on sto ck an d th e other sto ckholders migh t own Class B co m mon . She may cause th e board to declare a dividend only on th e Class A com m on and not on th e Class B, or might ca u se th e corp oration to repurchase the Class A but not the Class B, typi cally at a price not availab le to the other stockholders. Th e fairness test gover ns horizontal co n flicts of interest just as it does ver tica l o nes. Of course it presents the same kind of valuatio n problems as appear in th e vertical co ntext, but sinc e th e stock-A co n tro lling sto ck ho ld er isn 't n ecessar ily someone who owns a majority of th e stoc k; to be a co n tro lling stockho lder merely requires th e practic al abi lit y to el ect a majority o f th e bo ard , whi ch, for a vari et y of reason s, can ofte n be acc o m p lishe d even if th e sto ckhold er owns less than a m ajority of th e stock. 2 0 (j

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hold er clearly has preferred h ers elf, co urts seem more inclin ed to scrutinize expert valuation opinions th an they do in the vertical context. In any event, because of th e obv io us d isproportionate treatment of a gro u p of sto ckhold ers by a more powerful sto ckholder, co urts an d legislatures h ave been less easi ly ab le to find ways to privi leg e theft. T h e simple procedural d evices applicable in vertical cases won't do . T here are, of co u rse, nuances and refinements to the way courts h an dl e these matt ers, but for p rese n t p urp oses I 've said en ough ." Te nder offe rs p rese nt a special set of cases, but th e tech nicalities and de tails of tak eover law co u ld fill an en tir e book. Suffic e it to say th at tak eover law is reasonably well d eveloped at this point, an d th at while it m ay p resen t a number of proble ms of its own it does n ot cre a te a serious impediment to th e kind of board independen ce I am advocatin g. We could eas ily free the board withi n the structure of existing takeover law witho ut inc urring ser ious adverse conseq uences.

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THE DILBERT SOCIETY? AMERICA'S CORPORATE WORKERS

Am eri can corp or ate law ign ores workers. Th ey don't figure into th e structure of th e corporation or its legal du ties. But th ere is no one gro up of peopl e more id entified with a co rp o ra tio n an d more re sponsible for its day-to-day conduct th an co rp orate workers. Ensurin g co r po ra te accou n ta b ility m eans m aking the worker th e cen t ra l ac to r in th e corp ora te structure as th e only real person who can m ak e a difference. And as popular cu lture from Dagwood to Dilbert shows - backed up by man agemen t an d beh avioral stud ies an d com p arisons from co u ntries like Germany and Japan - the way workers are tr eat ed within th e co rp oratio n h as a dram ati c effec t upon th ei r behavior. Workers who are mad e to feel res ponsible an d accountable , who identify with the goals of their employer, and who are m ad e to feel like important co n tribu to rs with indep endent id eas ar e far more likely to ca re ab o ut the co rporation an d to take an interest in its behavior tha n workers who are treated as nothing more th an livin g m achin es design ed for th e p roduction of profit. As one manager put it , "Bein g at a good co m p any is like h avin g a good wife .... Wh en yo u ge t used to a ce rta in level of free do m and exc ite me n t, yo u don't want to leave." This is a feeling most workers lack, and the legal and financial structure of corp oratio n s is an important p art of th e reason. Maximizing stoc kholde r profi t m ean s tre ating the worker as an expen se. It m eans e n d owing the worker with a purpose that we have already seen do es not hav e intrinsic 208

valu e and is likely to be unrewarding. It m eans turning th e worker into something like that by which Forbes magazine ra ther obnoxiously describes itself: "Capitalist tool." If you think I'm exagge r atin g, read all th e n ew, purportedly worker-friendly scholarly lit erature whic h has rediscovered the worker as "h u ma n capita l.':" Proctor & Gamble is one of many co rp oration s to recognize recently the importan ce of making work meaningful and treating workers like people. One way it did so was by giving all employees access to its CEO to su ggest innovations and by awarding sto ck options for the best ideas. It has set up a website where employees can post th eir id eas and has dispen sed with its em p loyee rule books. Contin ental Airlines, a co rpo ra tio n previously kn own for its mal treatment of workers, is another example . It's now also abandoned its e m ployee rulebook. More important, it has made its workers part of the de cision-making process. Chairman Gordon Bethune recently considered outsourcing the ticketin g function to save money by reducing Contin ental 's workforce . Instead, h e offered th e e mp loyees an opportunity to come up with a way to reduce cos ts and save th eir jobs. They did an d not only kept th eir jobs but were treated as valuable assets, as an important part of the de cisionmaking process. At th e same tim e , according to a Ch all en ger, Gr ay an d Ch ristmas report, the boom in mergers and acquisitions in 1998 increased layoffs by 99 .8 p ercent over those in 1997 - almost 600,000 workers laid off as a result of m ergers an d acquisitions alo ne. And we 've already seen examples of CEOs like Coke 's Douglas Daft: making more an d more money as th ey lay offworkers . Former NationsBank CEO and head of BankAmerica Hugh McColl was paid about $45 mi llion in stock in addition to $3.75 mi llion in salary an d bonus in 1999, whil e ap p roximate ly 19,000 bank em p loyees were laid off as a cost-cutting measure . (By the way, BankAmerica's stock p rice dropped about 17 percent in that same year.) The CEO of GTE , Ch arl es Lee, got a $10 million in centive bonus and a $4 million "To my knowled ge th ere has been no suc h thing as human capital in thi s co unt r y since Jan ua ry I , 1863 , as e nsh rine d in th e Th irtee n th Amendment to the Uni ted States. T HE DILB ER T SOCI ET Y?

2 09

implementation and retention bonus, and h e is eligible to receive a $7 million lon g-term performance bonus in addition to stock options and pension contributions . Bell At lantic CEO Ivan Seid enb erg received a $ 14 mi llion ret ention an d im pl e m en ta tio n payment as a result of the Bell Atlantic /GTE merger. In J an u ar y 1999, GTE an no unced th at it would atte m pt to in cr ease earn in gs per share by 13 percent by reducin g expenses by $600 m illion, primarily through job cuts . When FleetBoston Financial Corp. took over BankBoston Cor p., Fleet CEO Terren ce Murray was paid $20.2 mi llion and its president, Chad Gifford, $ 15.6 mi llion. FleetBoston an n o u nce d it would lay off almost 7 p ercent of its workforce, or 4 ,00 0 workers. Some 16,000 e m ployees were laid off wh en Exxon and Mobil merged , and 10,400 afte r the Travelers / Citicorp deal.' And th e beat goes on. Despite the introdu ction of n ew manageme nt te chniques, workers remain high ly vu lnerable whi le managers profit. Besid es, largescale layoffs are on e of th e fast est ways to boost th e bottom lin e and establish a quick increase in stock prices. On average , stock prices rise 8 p ercent wh en a downsizin g is an n ou nced , alth o ugh th e eviden ce is that th is does not translate into better lon g-ter m profitability. When profitabi lity does im prove, gains are often n o t share d: witn ess th e airline industry, whi ch d emanded an d go t su bstantia l concessions from its workers during th e recession of th e early 1990S but h as yet to sh ar e its n ewfound prosperity with th em. Corporati on s co n tin ue to treat th eir worke rs not as assets but as cos ts. And why not? T hat's the way accountants treat th em. Cos ts n eed to be monitored an d con tro lle d . That 's why GM shut d own an e ntire town wh en, de spite tax co ncessions from th e town and promises not to do so, it closed its Willow Run plan t and co nsolidated operations in Arlington, Tex as. T hose workers who su rvive layoffs often are treated with suspicio n and resentment - and of co urse th ey're suspicious and resentfu l th emselves. Witness, for exam ple , th e recent introduction of th e Fool ProofTime Clock , a new device whi ch re liably clocks in e mployee s by m easuring th eir h and size. In my recen t sch olarl y work I h ave, as I men tioned in chap te r 5, called th e co rp orat e legal stru cture that results in thi s treatment ofworkers the Am erican monitocracy."And 2 10 S TRUC TUR AL T R A P S

as I hav e d emonstrated , workers who feel un trusted are not likely to be loyal, dedicated, and trustworthy themselves. T hey are, instead , likely to look out on ly for th emselves. Equally important, workers typi cally lack own ership interests in the corporations fo r which they work, except fo r the rather attenuat ed p ension fund shares dis cuss ed in chapte r 7. And we know how important ownership is to establishing fe elin gs of co m m itm e n t to the e nterprise . Finally, it can 't help but demoralize workers to know th at in 1999 th e average CEO earned 47 5 tim es th e p ay of th e average blue collar worker, with 1999 avera ge raises of 17 percent compared to average blu e collar rais es of 3.4 p ercent and white colla r raises of 3.5 p ercent." T he premise of this chapter is that th e mandate of stockholder profit maximization enc o u rages m an agers to treat workers poorly, both to th e disadvantage of the workers and of the corp or ation as a whole . I will look at two essentia l compone nts of the problem: worker treatm ent an d its effec t not only on th e individual worker but on our social and political structures as well, and the possibilities of worker own ership as a so lution. Whi le I tend to favor th e latter, it is certain ly the case that worker treatment and its co nseque nt social ills can be significantly ameliorated even within our curre n t syste m of investor ca pitalism . It is to th at e n d th at my co ncluding suggestions will be aimed .

LET MY PEOPLE GO

It may seem vagu ely odd to begin a chap te r on workers in corp orate Am eri ca with a dis cussion of a ce n tu ry-old Supreme Court opinion dealing with th e discredited doctrine of substantive due process." But L ochn er v. N ew York4 is ce n t ra l to our discussion, first , be cause it is the most famous of a series of cases de cided at the turn of th e twenti eth cen tury that establish a social policy wh ich domin at ed until temporaril y halted by th e New Deal and whi ch revived "Becau se th e doctrine itself is discr edited and n ot especially ge r ma ne to th e discu ssion I won't d iscuss it. T he point o f discu ssin g th e case here is th e soc ial philosophy th at underli es it. T HE D I L B E R T SOC I E T Y?

21 1

in th e I g80 s an d re mains with u s today; an d secon d, becau se it is based upon a conc ep tio n of th e autonomy of th e Am eri can worker wh ich still retains cu rre ncy. The case involved a challe nge to a New York sta tu te whi ch limited the working hours of bake rs (at the tim e a dangerous and unhealth y profession) to no more than ten hours a day an d sixty h ours a week. Th e Su pre me Co urt h eld th at th e law was in valid b ecause it limited th e bak ers' fr eed om of co n trac t. Aft er all, if bakers ch ose to risk ex haustio n or ill h ealth in order to m ake m ore mon ey, th at was th eir d ecision , an d th e sta te o ug h t n ot to be in th e business of interfering with con tr acts freely arrived at between conse n ting ad ults. O f co urse thi s was n onsen se. Bak e rs didn 't h ave a wh ole lot of ch oice . If the baking industry demanded that th ey work lo ng hours, th at 's what th ey h ad to d o. It is specio us to suggest th at th e bakers co uld have pursu ed an o th er trade; recall th e stu de nt I discu ssed in ch ap ter 5 who suggeste d that one made a choice to be a steelworker much th e way h e h ad chose n to go to law school. Working co n ditions for most trades at the tim e were far from optimal fr om a human point of view." The p oint, of co u rse, is the Supreme Co urt's implicit assu m ption (or, more likely, its soc ial p oli cy co ns tructio n ) that workers were full y au tonomou s in their r elations with the ir e m ployers, th at th ey were fu lly capable of n egoti ating for th emselves and, if they didn 't like the terms offered, of working elsewh ere or in a different trad e. Su ch an assum p tio n was co n tra dicte d by Adam Sm ith in hi s observatio n th at, at least as far as wage n egotiation s go, th e masters have by far the gr eater ad vantage over th e worker," I assu me th at it d oesn 't re q uire th e brilliance of Smith or a wh ole lot of evide nce to mak e th e assertion th at th e Supreme Co urt's observation was just silly, not to m ention destructive." Working-class America ns at th e tim e were hi ghl y vuln erabl e to th e whims of their employer s and had very little ch oice as to the nature an d terms of the ir working lives. Far fro m being autonomous, they we re weak an d exp lo ite d. Work er au tonomy was a myth upon whi ch th e Supreme Court was re lying , the very same myth I have ar gued is alive an d well today. The Co urt chose to assu me libe ral autono my wh ere nothing but vulnerability ex iste d . Vulnerabi lity is wh at it 's all abou t. I h ave elsewhere di scus sed in 2 12 S T R U C T U RA L TR AP S

great d et ail th e relations betw een auto n o my an d vulnerability in American soc ie ty and th e power of the latter to lead us to caring behavior. In th e con tex t of this book, vu lne rability takes on a more focu sed m eaning. Fo r wh at I dis cu ss in thi s ch apte r really is co ncer n ed about vulnerability within organizations and, to a real extent, vuln erability of organ izatio ns to th ose of wh om th ey are m ad e. According to th e Department of Labor's Bureau of Lab or Sta tistics (BLS) Household Data Survey for February 2 0 0 0 , 76 p ercent of em p loye d America ns worked for privat e industry," As of 1996, th e latest data available to me, almost 63 percent of those worked in firms of one hundred o r m ore people." If nothing else, thi s implies th at th e overwhe lm ing number of America ns wo rk for so meone else and mostly within some sort of hierarchical structure . Alth ough m an y co m pa n ies, especially in th e se rvice an d hi gh-tech industrie s, hav e flatter organizat io n al ch arts th an classic m anufacturing com p anies, th e clear implication is that alm ost everyon e has a bo ss. Alm ost 16 p ercent of em p loye d Ame rica ns work for fed eral, state, and local governments, all of which are hierarchies. Only 7 percent of Ame rica n s rep orted being self-em ploye d. Thus it is obvio us th at m ost peopl e work within organiza tio n s. Naturally people are subject to vu lne rab ilities b efore they en te r an organ izatio n, wh eth er it be civil socie ty or Micro soft. This is th e essential insi ght of Thomas Hobbes's classic state of nature, in which th e rough eq uality of all mak es eac h subj ect to th e pred ations of th e other. For H obbes the solutio n was the sta te, ruled through laws emanating from a ruler with ex traordinary enforcem ent p ower an d design ed to protect th e re lative au to nomy of eac h. But whil e Leviathan may hav e b een the cure for state-of-na tu re vulnerability, it created its own vulnerabilities, as citiz ens of th e state were su bject to th e au thority of th e ruler an d th e collec tivity. The modern corp oratio n presen ts a Levia than-like organization in precisely this resp ect. Working and livin g within an organization itself create vulnerabiliti es. Boards are vuln erabl e to tak eovers an d sto ckholder removal as well as to the disapproval of the markets. Man agers are su bject to dismi ssal by th e board or th eir superio rs. And th e lower d own on the food ch ain yo u go , the more fun gibl e th e work yo u do , the more subj ect to dismissal yo u ar e - wh ether THE D I L BE R T SO C IE T Y ?

2 13

for cause or by layoff. You are an in strument of p roducti on. An d when you' re not needed , yo u' re let go . Well , m aybe n ot th at fast. You might h ave a union to protect you, althoug h on ly 94 p ercent of p rivately em p loye d Ame rica n workers belonged to unions in 1999.'1) Or, you might say, my employer's reputati on would be hurt too badl y by p romiscu ous layoffs suc h th at it would be diffi cult to hire n ew e m p loyees, an d th at offers protectio n. Bu t reputa tion is a m arginal th ing. It didn 't stop the m assive layoffs th at occ urred in th e I 980s an d I 99 0S an d are still occ urring tod ay. Repu tation didn 't stop the last bas tions of ge n tee l overe m ploymen t, maj or New York law firms, from shocking you ng lawyers wh o tr aditi on ally hadj ob sec urity (at least until th e p artn ership decision) by laying off hundreds th e m in th e late eig hties and early nin eti es to keep partn ership draws hi gh. An d whe n times go t better at co rporatio ns and law firms alike workers came back in dro ves. To p ar aphrase Willi e Sutton, th at's wh ere th e jobs are. So relying too h eavily on re p uta tion alone is a dan ge rous thing. Feelings of vulnerability in crease th e more yo u are monitored. Wh at does it feel like to h ave so meone looking over your shou lde r all th e tim e? and looking ca re fu lly b ecaus e h e fear s th at if you don't p erform, h e will lose hi sjob? H enry Ford is quo ted as saying, "T he average man won't really d o a day's work unl ess h e is ca ug h t an d can n ot ge t out of it."! Not an attitude th at makes yo u feel comfortab le o r trusted . Wh y subject ourselves to thi s kind of vulnerability? Most of us have no ch oice. Organizations are where th e jobs are . Make no mi stak e, you co uld strike o u t on your own, as m an y h ave, to m ake your own job and your own fortun e, which of co urse h as its own vu lnerabilities , including exp osure to those with whom yo u do busin ess. Suc h soc ial vu lne rability is an in escap abl e fac t of life . My point is th at within the co rp oratio n, esp ecially the corp oratio n so directly an d unyieldingly tie d to stoc k price with the atte n dan t internal monitoring that occ urs, vu lnerab ility or at least fee lings of vuln erabi lity are enhanced. So wh at d o we d o abo u t it? Well , o ne suggestion I will n ow p ar ad oxicall y pursu e is th at we am eliorate th is vulnerability by em p loyin g a different form of vulnerability - trust - to replace the moni2 14 S T R U C T U RA L TR AP S

toring th at charac te rizes Am eri can co rpo ra te life .' ? Trust is an important social fabric, binding people in common enterprise, encou rag ing coo pe ration and gro u p goals at th e sam e time th at it lead s p eopl e to acce pt th e decision s of hi gh er au th o rities in a way that simple command does not. It helps to create feelings of dignity an d au to nomy. It also, as we will see , e n hances productivity. An d wh ere true trust reign s, th ese feelings are not th e result of so me sort of Marxian false cons cio u sness but ins tead are r eal because th e trust th at creates th em is real. Trusted workers are, in sh o rt, human workers. And tr u st in th e workplace has th e cap acity not only to mak e ri ch er working lives but to spill over into civil soc ie ty as well , en hanc ing th e co hesiveness of soc ial an d political in stitu tions. Twenty-nine years have passed be tween Studs Terkel 's classi c Working, whi ch d ocuments th e ge ne ra lly un sati sfact ory work lives and attitudes toward work of ord in ary Ameri cans, and Th omas Petzin ger's TheNew Pioneers, which reports upon his study of innovation an d en tre pre ne urial power th roughout th e America n econ omy." But de spite appearances and real , indisputable improvements, the truth for most America ns is no t a lot different from wh at itwas wh en Terkel wrote or, at some level , at th e time Lochnerwas d ecided. Th at very sam e em p loyee vu lne ra bility exists tod ay, alth o ugh it is masked by strikingly low un employm ent an d th e much-publi cized bargainin g power of the knowledge worker, especially in the hi gh-tech sector of th e ec onomy. It's easy to be fool ed into thinking th at things h ave changed. Maybe I'm ge tting old , but I recently read with some horror of th e twenty-three-year-old train ee at Salom on Smith Barney, writing o n b ehalf of all five hundred of hi s yo ung co lle agues (though at th e request of th e firm), to d emand improvements in working co n d itions in orde r to prevent a m ass exod us from investm ent banking to the hi gh-tech sector. Among the you ng asso ciates ' demands were an on-site conc ierge, more money for m eals (and we 're not talking McDonald's) , b etter laptop co m pu te rs, use of th e firm gym on weekends, a nurse room or rec room where the analysts co u ld relax, reimbursement for clothing an d othe r p ersonal items bou ght on busin ess trips, "a relaxation of th e firm 's dress code , more soc ial events and corporate cr edit cards 'wh ere th e analyst n ever sees the THE D I L BE R T SO C IE T Y?

2 15

bill ' " but ge ts th e sky mil es o r rewar d p oints or wh at ever. An d th e fir m caved - to people in their early twe n ties making an average of $ 70,000 p er yea r an d anticipating co m pensatio n in th e millions j ust five years after they 're em ploye d ! 14 Donaldson , Lufkin & J enrette has been signin g new graduates ofIvy League business sch oo ls to two-year co n tracts worth $ 7 00,000 to $8 0 0,000 . 1<> I'mjustjealo u s, yo u say? You b et I am! But th e point is th at stories like th ese an d the tales of do t.com millionaires (and billionaires) that h ave moved fro m th e fin an cial press to th e p opular press lead eas ily to th e con clusion that all is well in the world of work. Things certain ly h ave improved , at least for th e m om ent, alth ough th e co n tin u ing popul arity of Sco tt Adams 's Dilbert might su gges t that not ever ybody find s their work life co m p le tely fulfillin g. As I write, unemploym ent h as been at a thirty-year low, an d sto ries ab ound of e m p loye rs unable to hire sufficie n t workers, let alone workers of th e calib er th ey want. IG Coup led with th ese ar e stories abo u t how co rpora tio ns are att rac ting an d re tain ing em p loyee s - not all of them are as munifi cent as Salomon Smi th Barney, but th ey include in cr eases in p ay an d p erks. At sta r t-up ArsDigita, e m ployees wh o recruit ten progr ammers to th e co m pany ar e given a Ferrari . Small Offic e.com gave its forty em p loyees a vacatio n in Maui .!? An d you can ge t a Me rced es if you wo rk for Novo soft an d ex ceed yo ur go als l S or a Harley-Davidson motorcycle if yo u are one of the two em p loyees of DoubleClick to bring in th e hi ghest numb er of recru its. I!! But eve n as I write, the week of May 29 , 2 0 0 0 , th e government announced a slight in crease in unemployment figures, signaling a p ossibl e slowing of th e economy, at least in part as a result of th e Federal Reserve 's in cr ease in interest rat es. Will th e n ew age of worker power survive increasing unemploym ent? or is it sim p ly a fun ctio n of n ecessity breeding ni cen ess? H as th e average American worker be come su fficie n tly autonomous to strike the kind offree bargain s assu me d by th e L ochnercourt? O f co urse it 's h ard to kn ow. Pet er Drucke r h as id entified two classes of workers: knowledge workers, who in effect have replaced m achin ery an d m on ey as th e t rue ca pital of industr y in th e in fo rm ation ec o nomy and wh o can ta ke it with the m wh erever they go , an d service workers , who clean toil e ts an d ta ke ou t tras h and pro2 1(j S T R U C T U RA L TR AP S

vid e th e unseen, unpleasant infrastructure of th e information economy.t" Knowledge workers have real bargaining power; without th em, th eir em p loyers hav e nothing. Employers know this and hav e resorted to a vari ety of tacti cs fro m on-site ch ild care to simply being nice in order to keep th em happy.'" Service workers, who form ed at least 13 p ercent of th e em p loyed Am eri can population in 1998, don't have it a whole lot better than toilet cleaners and burger flippers ever had." The inflation-adjusted minimum wage in 1997 was $5 . 15,just 66 ¢ higher th an it was in 1954.22And whil e th e do t.com kids and investment bankers are driving Ferraris to firmpaid lunch es or b eing coddled by th e company nurse , 24 p ercent of all "full-tim e blue-collar an d service workers em p loye d by midsized and large firms did not have res t breaks in 1993, " th e most recent dat a available, nor did 51 p ercent of part-time worker s." According to the most re cen t data in the BLS National Compensation Sur vey, the average hourly earnings of a worker in private industry in th e Middl e Atlantic region (the hi gh est-earning region of th e nine us ed by the bureau) was $16-47 , and th e average hours worked was 35 .8 per week. This produces pretax earn ings of $5 89 .6 2 p er week, or, assuming a full fift y-week work yea r, annual earnings of $ 29 ,48 1.30 . The comparable figures for the lowes t-earning region, the West South Central region , were $12 .97 p er h our for 36, 4 h ou rs and an annual $2 3,605.40.24 The poverty level for nonfarm families of four in 1997 was $ 16, 40 0, and 125 percent of th e pov erty level was $20,500 .25,<1 And it 's not just that the absolute figures are strikingly low. Substanti al evide nce supports th e co n clu sio n th at, for th e p ast several

'The BLS sta tistics ma y so me wha t understate th e number of what we might co nside r ser vice workers, as it defines "service worker" to include o nly five catego ries: health , food pr epar ati on and beverage , person al , cleaning buildings an d grounds, and protectiv e services , And I'm not even talking here abo u t blue co lla r workers, who, as th e foll owin g text sho ws, aren 't doing very well either, dThe go ver n me n t tr eats persons livin g bel ow 1 2 5 percent of th e poverty level as an important indicator o f fina ncial well-being in its own right. See Statistical Abstract ofthe Uni ted Stat es, 1999, tabl e 760 , THE D I L BE R T S O C IE T Y?

217

d ecades, hourly p ay in co n sta n t do llars has either flatt e n ed or declined. When th is is combined with the fact th at almost two-thirds of th e in cr ease in Am erica n gross domestic product from 1979 to 1996 went to th e top 5 p ercent of families, th e resu lt is, as Rich ard Freeman an d Joel Rogers put it in their book What Workers Want (1999), that " the level of in come in equalit y in th e U n ite d States h as skyro cketed, making th e co un try 's economy the most unequal in th e deve lo ped world. "2GT he y note , citing data fro m the Organization for Economic Coo pe ra tio n an d Developmen t, th at wh ereas th e top 1 0 percen t of American workers ea r n on average 5.6 times more than th e bottom 10 p ercent, th e co m pa ra b le proportio ns for th e European U n ion an d J a pan are 2 . 1 an d 2 4, resp ectively. William Greider an d Rober t Ku ttn er eac h co mpellingly poin t to the glo balization of cor porate production as a so urce of downward wage pressure for American workers and little improvement for lower-p aid workers in o th er countries.) 27 So much for an egalitarian so ciet y." Although life h as im p ro ved through minim u m wages, social security, un employm ent insuran ce, an d intan gibles like improved h ealth care for those who are insu red or ca n afford it, it is my thesis that th e stock-price m axim izing structure of th e American corporation will, in a time of in cr easin g unemploym ent (whi ch see ms to m e cer tain to h ap p e n ) , return us more than we care to th in k to th e old ways. It's simply in th e structure. By saying it 's in th e struc ture , wh at I m ean is th at th e monitocracy goes deep in to the corporation. T his h as a number of implications for corp ora te be h avior, implications whi ch may well be masked by worker sca rcity but whi ch are part and parcel of th e Am erican em-

"Wh ile o n average afte r-tax fami ly in come in the Un ite d Stat es in cr eased 9.5 percent from 1977 to 1994 , th e top 1 pe rcent of fami lies found th eir inco m e increasing 72 percen t, th e next 4 p er cent had a 25 percent incr ease, and it went d own from th ere , with o n ly 25 percent o f th e lowest 80 percent o f fami lies see ing any in cr ease at all (a p altry 4 p ercent) and th e r est expe rie ncin g d eclines from 1 percent to ill percent (for th e lowest quintile .) Isaac Sh api ro and Ro bert Gre ens te in, "T re nds in th e Dist ribu tion o f After-Tax Inco me ," Ce n te r o n Budget and Policy Pri ori ties, Au gus t 14 , 1997. 2 18 S TRUC TUR AL T R A P S

ph asis o n individual auto nomy an d th e lack of grou p co hesiveness, espe cially in the economic realm . The first is that in worsening econom ic times we can ex pect to see a return to r elatively p oor treatment of work ers, a reli c of Taylorism ,' accoun ting r u les, an d American soc ial attitu des. We ar e, after all , not far removed from th at age, an d I will n ext discu ss th e em bedd ed n ess of thi s way of thinking. A secon d implicati on arises fr om th is old style of m an agem ent an d that is the n ature an d func tion of tr ust associal capital n ot o n ly in en hanc ing economic efficie ncy bu t also in h elping to create a soc ie ty in whi ch people care about on e another, about economic justice, an d abo ut the qu alit y of th eir lives beyond m aking a sim ple living . Fin ally, I will di scu ss the re lation be twee n th e corporate monito cracy and broader so cial issue s, in particular, the fa te of civic vir tu e wh en th e work environ me n t is one of relative tyranny an d vulne rability. This n aturally lead s to a discu ssion of the wisd om of work er own ership an d to some suggestio ns for reform.

SOCIALISM IN THE CAPITALIST TOOLBOX

In hi s book A Pref ace to Economic Democracy (1985 ) th e political scien tist Rob ert Dahl poin ted ou t the socialis tic nature of the American co rporatio rr." an irony espe cially n otabl e in th at no thing h as come to represent Am eri can ca p italist success so much as o ur busin ess corporatio n . Dahl 's r easoning is sim p le and compelling: nothing so embo d ies th e comman d an d control ideal of soc ialism as th e hierarchical managerial structure of th e American corp or ation. A famous Am eri can law school case bo o k stu d ied by ge neratio ns of law stu de n ts d escribed th e legal str uc ture of th e corporatio n as an in verted pyramid, with ultimate power re stin g in th e stoc kh olders, del egat ed to th e b oard of directo rs, an d fro m the re to th e office rs. 'Taylo rism , th e production and man agement syste m of scie n tific man agemen t pioneered by Frederi ck Win slow Taylor, st resses th e d ifference bet ween plannin g and doing. Man agers mak e th e decisions; workers car ry th em out. T he classic Taylorist artifac t is th e assembly lin e, but as David Levin e points out, it is in heren t in th e way McDonald 's e m p loyee s, dat a e n t ry cle rks, and textil e piece workers pe r for m th eir tasks as wel l. THE D I L BE R T SO C IE T Y ?

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While co u n tle ss writers hav e su ggest ed , with some reason , th at th e real power lies with management, the theory I have detailed so far suggests that power over corp o rate behavior rests in th e capital m arkets - and that m eans th e sto ckholders, as we h ave seen th em. T he pyramid was a useful h euristic and accurate as far as corporate law goe s, for as I'v e already pointed out sto ckhold ers, directors, an d office rss are the only constituent gro up s of whi ch co rpo rate law ta kes any real no tice ." But had the pyramid been redrawn to r eflect th e reality of corp ora te o pe ra tio ns, it would h ave h ad to point deeper : it would have had to go through layers of management to middle-level em p loyee s and down to th e lowest level of corp o rate worker; fro m th e ch ief o pe rating officer to th e p eopl e wh o work in th e mail room and clean out the trash at night. Of course it could h ave been redrawn in a different ge o me tr ic form to include relationships with credit ors, supp lie rs, and custo m ers, but that's beyond the scope of my point h ere. Anyway, redrawn in this more realistic way, th e pyramid m etaphor is a good one , no t only because it correctly depicts the structure of legal power but also b ecau se, like an inverted pyramid , it shows an in creasing narrowing of focus, an in cr easing b eam that cu ts thro ugh the layers of th e corporations an d shi nes most directly o n th e p eople wh o show up fo r wo rk every d ay. Dr awn this way, th e inverted pyramid correctly depicts the monitocracy that dominates Am erican cor po rate thinking . Wh at d o I m ean by thi s? One an swer was given by David Go rd on gHe re I'm usin g th e technical legal term - not th e broad er co ncep t o f m an agers- in wh ich office rs co nsist of a presid ent, tr easurer, sec reta r y, and perhap s vice-presidents, all as set forth in th e co r po ra tio n's bylaws. T hese are people with gen era lized legal autho rity to act in ce rt ain ways o n beh alf o f th e co rpo ra tio n . T he co ncep t of m an agement is mu ch bro ad er, e nco m passing a wide ran ge o f e m ployees wh o are give n job-specific au tho rity and who run th e corporatio n on a d ay-to-day basis . "I've already m ention ed stake ho lde r statutes, abo ut wh ich th ere exists a vast body of sch ola rly literatu re . But for th e reason s I've se t forth so far as well as a number of o ther reasons, th ese have h ad n o sign ifican t practi cal effe ct o n co rpo rate law an d d on 't seem to have had mu ch effec t on co rpo rate behavior eithe r. 220 STR UC TU R AL TR APS

in his book Fat and M ean (1996) . 29 Gordon details th e extrao rd in ar y top-heaviness ofAmerican corporations, even taking account of the spate of white-collar layoffs that so horrifi ed corporate Am erica in th e ea rly 199os, claiming that wh at h e calls "the bureau crati c burden" is " on e of th e most stunning fea tures of the U .S. economy. " 30 Using BLS figures from 1994, h e claims th at 17.3 million Am eri can workers-almost as many as worked in the entire public sector, federal , sta te, and local- worked in nonproduction an d supervisory jobs. And h e found th at this en o r mo u s level of su pe r viso ry employment was sustained and even grew during the heavily publicized downsizing of white-coll ar workers in th e early 199os. Usin g th e sam e statistical base Gordon used (although a simpler and arguably more conservative me thodology), I calculate that, includin g govern me n t e m ployee s, in February 2000 at least 40 ,806,000 workers, or slightly over 33 percent of the nonagri cultural workforce, were supervisory in some way." It doesn't appear tha t things h ave improved. By Gordon's own admission, his data arguably overstate his case . The BLS statistics don't break em p loyme n t down into suffi ciently fine detail to enable one to separate what mi ght be called real managerial jobs from an employee who simply has the power to tell an othe r e m ployee wh at to do . To some exte n t thi s doesn 't matter. My point (and his) is that excessive supervision creates a managem ent style of discipline and culture of distrust that is d estructive of th e so cial fabric of th e working e nviro n men t. But if th ese data are subject to some question , th ey are not th e only information availabl e. Gordon 's data are supported, indeed amplified, in work performed by the sociologist Erik Olin Wright in his well-known Class Stru cture Su rvey, th e most recent data for whi ch are from 1991. 32 In contrast to Gordon's methodology, which relied heavily on governm ent statistics (which Benjamin Disraeli , referring to statistics in ge neral, told us ar e wors e than " lies and damned lies "), Wright and his colleagues actually surveyed workers about their jobs and the responsibilities th at went with th em. Of co urse pollsters well know that the way in whi ch questions are formulated can bias answers, as can peoples' motivations to look good. But Wright's questions were THE DILBERT SOCIETY?

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fairly pointed, for exam ple, "Do you have th e pow er to fir e anoth er employee?"and therefore seem pretty reliable . They found that 38.9 p ercent of surveyed nonfarm workers sp ent time supervising oth ers or telling th em what to do, an d that 36,3 percent claimed their jobs were supervisory or managerial." Maybe some of them did exaggera te a bit. But no m atter how yo u cut it, th at seems like an awful lot of managers. Gordon's th esis is th at the monitocracy carries with it a manage rial style h e calls th e stick, th at is, a co nfro n ta tional an d aggre ssive form of supervision in which worker co m p lian ce is obtained more by threat than by positive in centive, and that this has produced, among othe r by-products, a vari et y of social ills, fro m th e destruction offamily life to increasing income inequality. His argum ent is p ersu asive , if not indisputabl e. But whil e th ese co n clusio n s are important and imply a particular view of corp or ate accountability, they don't go to the heart of the argument I'm making. Anoth er study do es exac tly th at , as it shows th at th e Ame rica n trend of managers managing managers managing managers is only in cr easing. Mich ael Usee m 's interesting an d tim ely book Executive Defense" takes an interesting approach to th e corporate restructurings of the eighties an d early nineties by relying upon interviews with a wid e variety of so urces an d d et ail ed stu dies of seven co r po ra tio ns in seven industries. In addition to concluding that stockholderce n trism is, as a real-world m atter, th e order of th e cor po ra te dayconfi r mation of th e th eory I'v e been at great p ain s to co ns tr uc t Useem spends a sizable portion of his book analyzing what this m eans for man agers." His con clusio n is th at th e stockholder-centric ethic has penetrated de ep into the internal str uc tu re ofthe co rp o ration. For a variety of reasons he concludes th at the rise of stockholder interests gave m an agers more latitude to operat e co rpo ra te businesses as they saw fit, at the same time that their new freedom was m easured scrupulously and unforgivingly by th e market. The b asic fu nc tion of senior m an agemen t b ecam e th e hiring an d supervision of lower management, and the basic func tion of managers overall became that of m an agin g managers - all to th e e n d of increasing sto ckholder wealth . While managers were evaluated for compensation and promotion on the basis of a variety of fac tors, 222

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Useem finds virtually all of th ese to be linked in some way to "shareholder value, " which he generally treats as dividends plus capital gains p er share divided by b eginning share price ; and wh en managem en t com pe n sation was tied to shareholder valu e in this way,Us eem noted, it was the best predictor of corporate behavior. What Useem saw is not all bad. For ex am p le , skill in p eople management became a greater con cern of managers as they tried to fulfill the corporate mandate to the stockholders. And a focused conce rn with shareholder valu e en abled managem ent to cre ate incentives that motivated other managers to achieve the corporate goal. But th ere was an ominous co nseq ue nce for my arg u men t: an obsession with share prices. Useem spoke with the chief operating officer of one corp ora tio n whose com pe n satio n pa ckage was designed so tha t about 70 percent of his annual compensation was in shares of his company. "Wh en asked how often he checked his com pany's price, h e said ' every morning, ever y ni ght, an d .. . probably about ten times a day.' " Useem goes on to report that at this com p any " manageme n t obsession with sto ck performan ce was refle cted in the entry to the exe cutive office building, where the visual fie ld contained only two objects: a receptionist desk guarding th e portals an d a display p osting a number. U p da te d three tim es a day, th e posting contained the current price of th e firm 's shares. Y' " The e th ic of stockholder wealth maximization has produced real ben efits for m an agers. Sto ck options an d oth er forms of in centivebased compensation have made lo ts of executives very rich. Accordin g to one recent study, th e average co rp o rate ch ief executive officer has about $7 5 million in sto ck options. Having su ch munificen ce put away for a rainy day, th e N ew York Times concluded, " a chief execu tive m ak es more in a sin gle day than th e typi cal Am eri can worker does in a year."? The same report observes that the heads of " ne w econo my" companies averaged $7~w million in sto ck, in addition to an average annual co m pe n satio n of$27 million . But wh at has the new economy done for other workers, who on average earned $33,000 in 1999? Th e an swer appears to be what William Gr eider calls "wage arbitration, " th e movemen t of produ ction from high wage regions to lower wage regions, aided by the globalization of THE DILBERT SOCIET Y?

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capital an d product markets as well as free tr ad e ag ree me n ts imposed by ri ch nations on poorer on es." While Greider does not link this mov ement as clos ely as I do to th e profit motive, it is implicit in hi s arg u me n t th at th e searc h for hi gh er corpo ra te pro fits h as led corpor ations in weal th y nations like th e U n ited Sta tes to move jobs o ut of th e co untry an d into poorer o nes wh ere producti on cos ts are dram ati cally lower. The r esult is a worldwide co m petitio n for j obs an d wages, with the laws of su pp ly an d demand in a relatively fr ee glo ba l mar ke t tending to eq ualize wage levels at th o se co ns iderably lower th an American workers demand. Thus th e American worker b ears much of th e cos t of stoc k pri ce maximization , asj obs disappear an d wages stag nate. Challe nger, Gray an d Christmas rep orted layoff an n o u nc e men ts in 1999 running at 40 p ercen t hi gher th an in 1998. One scholar notes th at ap proximate ly 13 p ercen t of th e Ame rica n workforce was displaced b etw een 1991 an d 1993 , 15 p ercent b etwee n 1993 an d 1995, an d 12 p ercent betw een 1995 an d 1997· T hat's a lot ofworke rs put o ut ofjobs." An d accord ing to th e Ce ns us Bureau 's I 999 StatisticalAbstractoftheUnited States, th e real minimum wage in creased by o n ly 66¢ be tween 1954 an d 1997. Of co urse th e true egalita rian should ap plau d Gr eider's obse rvatio n b ecau se n ational b oundari es arg uab ly o ug ht no t to d efine human equality. Ifworke rs in p oo r co untries n ow fin d th emselves with jobs and better wages , we sh ou ld applaud this and understand that a more eq ua l worl d is no t on ly a faire r world but a m ore sta ble one as well. No t so fast. Wo rk e rs in p oor co un tries are n ot dram ati cally benefitin g from the global co m mo dificat io n of th e labor market (Ku tt ner d escrib es it as a "spot market ") but in stead are being d oom ed to stas is in a syste m whi ch , left unregul ated , will n ot bring them hi gher level j obs an d upward m obility. But for my immediat e p urposes, an d before anyo ne starts ce le brating th e final unificati on of th e wor ke rs of the world, I shou ld p oint o ut h ow unconvin cin g th is arg u ment sho u ld be to America n worke rs. Of co urse greater world equality is b etter as a m o ral m att er, or so I shall assume, and m ore stable . Bu t n otice wh o is bearing th e cost. There is n o evid en ce - quite th e co ntra ry - of a declin e in execu tive co m pe nsatio n , an d wha t I' ve already said mak es it clear that in fact the ri ch est Am ericans are co ntin u ing to get richer. And it 's n ot just the execu224 S T R UC TU R AL TR AP S

tives. To th e exte n t th at th e glo baliza tion of th e lab or market lead s to stag na n t and de creasin g American wage s, it does so in th e name of rewarding Am eri can ca p ita l. I kn ow ca p ita l in other wea lthy cou n t ries benefits too , but n on e m ore so than Am erica, an d it is upon America that th is portion of th e book is fo cused. It may be th at so m e Am erican wo rk ers will even tu ally see so m e of this reward to cap ital in th eir p en sions, assu m ing th ey p articip at e in defin ed contribution plans rath er tha n d efined b enefit pl ans. Fed eral Rese rve Board sta tistics show th at in 1998 , 54 percent of Am e rica n households participated in re tiremen t plans sp o n sored by their empl oyers, of wh ich 18 p ercent p articipated in d efined ben efit pl ans an d 33 p e rcent in d efin ed co n trib utio n plans.' But looking to your rew ards in re tirement when you find it almost impossible to make en ds m eet, as th e dat a I'v e given suggest m ost peopl e d o, is cold co mfort indeed. It would of co urse b e o ne thing if th e wealthy h ad to bear some of the burden - an d my earl ier suggestio ns on incre ased taxati on of capital ga ins would produce reven u es th at could be used for th ings like wor ker retraining, education , includin g aid to lower-income workers to se n d th eir kid s to college , an d eve n sim p le d istrib utio n or tax cu ts for lower-in come workers at levels wh ere it is n eed ed . Bu t in the current sta te of affairs , th ings seem ter ribly unfair in deed . An d it's largely as a resu lt of o ur drive to maximize sto ck prices . Maybe th is pi cture is too bleak . There might be an upside to sto ckholder-ce ntrism for em p loyee s. Pe rh ap s cor po rate managements understand th at one way to in crease profitability is to make su re th at workers are well train ed. If so, th en workers ben efit too b ecau se th eir job skills are e n hance d and the up ward p otential of th eir careers is increased . Ce r tain ly Useem b eli eves th is to b e th e case in th e m an age rial ranks. But wh at abo u t th e average guy? Things are improvin g: co rp o rate training expen ditures are up 26 p ercent sinc e 199 3, but that's n othing co m pared to cap ita l market 'O nly

II

percent of wo rke rs with in comes u nd er

of workers with in co mes be tween

$ 10,0 0 0

and

$ 10,0 0 0

$25,0 0 0

and 33 percent

particip at ed in th ese

plans, wh ile 77 pe rcent of thos e with in comes be tween $50 ,0 0 0 and did .

$ 1 0 0 ,0 0 0

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p erforman ce, an d th ere 's a long way to go before d ecent treatment of workers becomes widespread."

TRUST ME

T h e reign of th e sto ckhold er and th e monitocr acy it sustains creates another dark side fo r workers. That is the erosion and disapp earan ce of tr u st in the workp lace. Trust is im portant. I t can make operations more efficien t by cu tt ing down on th e n eed to supervise people. Bu t th en what would all th ose m an agers do? Trust is also im p or tan t in its own right, as a m ec hanism to bind p eo pl e toget h er in a way th at sustain s coo peration and co m m un ity, th ereby giving th em a sense of be lo nging and of be ing cared fo r. It also m akes th em care . Writin g for Directorship magazin e , th e con su lta n t J o rd an Lewis advises boards on th e importan ce of trust in ensuring that e m p loyees are cooperative an d, as a co nse quence, mo re p roductive; h e notes furth er th at su ch ben efi ts are felt at all levels from th e board to th e shop flo or." Strong psychological evide nce supports th e assertion th at p eople who believe th ey are tr ust ed in fact act in more trustworthy ways than people who do not. Trust crea tes trust; trust sustains trust. And mistr u st lead s n o t o n ly to alie n ation and dis affection but also to u n t rustwo r th y, even d estru ctive behavior. Adam Smith included the level of trust re quired in a p articul ar occup at ion as o n e offive factors affect ing th e wages of th e worker.f And it mi ght be arg ue d th at th e more you can trust worke rs, th e m ore you ca n p ay th em , especially if, as evide nce suggests, increased tr ust in cr eas es productivity." Trust is a multifaceted co nc ep t, but in our co n tex t I want to focus o n two aspects of it: trust that you are do ing your job, and tr u st th at your boss is treating you fairl y. Co nside r Mar y Morse , a software e ngineer worki ng fo r a company called Autodesk in Ca lifo rnia, wh ere sh e's b een em p loyed for two years. Every week or so sh e is recruited by oth er Silicon Valley co m p an ies, some offering h er mu ch greater co mpensation: one promised to m ake h er a millionaire . Morse always d eclin es th ese offers. Th e reason is simple: sh e works for a boss who is ni ce to h er, who cares about h er professional deve lopme nt an d career ideals, and who und erstands that she is an 22 (j

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individual wit h h op es, goals, an d asp ira tio ns. In co ntras t, th e inte rviewer at the co m p any that would have made h er a millionaire showed co m ple te disinterest in th e kind of work she wante d to do or at least move toward, telling h e r th at if she ca me to wo rk for th e com p any she was go ing to d o precisely wh at was assig n ed to h er. David Sulik, a su pe rin te n de nt at an Intern ati on al Pap er fac to ry, h as learned th e b en efits of b eing ni ce an d atte ntive to hi s empl oyees, a lesson that has b een stressed by hi s own b osses. As repo r te d in the New York Times, Su lik cr iticizes hi s subordi nates less, com p lime nts the m more, and ta lks with the m more fr equently. As a result, Su lik says, " I think th ey trust m e more than in th e p ast. " The res u lts of a rece nt Gallup Poll of two milli o n wo rk e rs at seve n hundred com p an ies were reported in the sam e article and co n clu de d th at both an em p loyee's productivity an d th e likeliho od of h er remaining in h er job were determined by h er relat io ns h ip with h er boss. Only 11 p ercent of e m p loyees su rveyed wh o were sat isfie d with th at re latio ns h ip said th ey we re likely to look for n ew jobs, in contrast to 40 p ercent who were dissatisfied. Em p loyers don 't seem to h ave go tten the m essage very well. Fiftysix percent of th ose surveyed felt th at the ir em p loye rs didn't really care abo ut them or the ir careers, an d 55 percent reported that they h ad no stro ng loyalt y to th eir companies." Th e message is clear: trust breeds loyalt y, and loyalt y r etains productive workers. Trust is importan t. It keeps valua b le e m ployees whe re th ey are. It cuts d own on the cos ts of supervising employees. An d it makes em p loye es wor k harder. Bu t yo u ca n 't fake it. According to th e econom ist Robert Fra n k, wh ose work fo llows th e m oral se nse th eory of Adam Smith, in o rder to b e ge n uine ly tr ustwo rthy you h ave to internalize the value of trust. The fact that th ere m ay b e p ayoff for t rustworthy behavior is im p o rt ant, but if th at 's your on ly motivation , you will b e inclined to break that trust at the margins. And as th e philosopher An nette Baier has written , trust, o nce broken , is very d ifficult to regain." Substantial psych olo gical evid ence sup ports th e co n clusio n th at tr ust is an im portant busin ess asse t. For sta r ters, hi gh tr usti ng peopl e are m ore likely to restrain themse lves, volu n ta rily to restri ct th eir own co ns um ptio n of co m m on resources, even when othersaren't THE DILBERT SO C I E TY?

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doing so. In oth er words, th ey are not out to maximiz e th eir own gain from limited resources but understand the cooperative nature of th e e n de avor and are willing to act in accordance with that understanding ." We ' ll look at what can happen wh en p eople ar e not trusting or trusted in a mo m en t. Bu t there 's more . T he psychologists Tom Tyler and Peter Degoey found th at trust mak es it more likely that people will accept the decisions of higher authorities and obey group rules. And the asto nis hi ng thi ng is that this seems to be true even wh en th ey perceive that th e d ecision maker is not e n tire ly neutral. As th ey put it, "Peo p le seemed willing to forgive surface features of rac ism and sex ism . . . if th ey felt that th e authorities involved were basi cally motivated to act in a ben evo lent manner. It was th e trustworthiness of the inte ntions of th e authorities... , no t surface features " th at d et ermined peoples ' reactions. They also found that when emplo yers co nveyed their sense of trust by treating their e mployees resp ectfull y and neutrally, employees were almost five tim es more likely to behave in a trustworthy m ann er." T hat's a fairly striking conclusion and suggests that perhaps Kant was right: th e on ly good th ing is a good inten tion . But wh ether or not that's entire ly true, it is evident that trust can substantially cut down o n supervision and lead workers to identify mo re close ly with th eir em p loye rs' interests. There 's a lot more psychological evidence supporting these ideas, but I'm no t goi ng to go through it all h ere .t" The point is that trust is im p o rta n t. It's not even that d ifficu lt to bui ld trust within an institutional setting like th e co rp o ratio n . All you have to do is care - and show it. Wh at h appens wh en, as th e monitocracy presumes, you don 't trust your workers? Sometimes the y just go sullenly about their work, doi ng what they h ave to do to get by an d n o more. But so me tim es th ey're d estructive. Th ey co n ta m ina te products, undermine their coworkers, destroy co mputer p rograms and create viruses and bugs, d efame th eir em p loyers in tab loids, and generally sabotage th e corporation s." And th eir e m ploye rs don 't set very good examp les either. According to recent surveys conducted by the Et hics Reso urce Ce n te r an d KPMG , eth ics on th e job are suffering as well. T he ce n te r's Na tional Business Ethics Survey reported that approximate ly o ne -third of the 1 , 5 0 0 public and private workers surveyed 228 S TRUC TUR AL T R A P S

claimed personally to hav e witn essed mis conduct at work, in clud in g employers lyin g "to employees, cus tomers , vendors or the public, " abuse of em p loyee s, th eft, and lawb reaking. The KPMG survey of 3,0 75 em p loyee s reported over 75 percent claiming th ey had seen employers break laws or vio late co mpany standards over the preceding six months.!" Sometimes it 's even worse . What happens if yo u can' t trust yo ur boss no t to take it out o n you if you give hi m bad news? You do n 't give him bad n ews. And this som etim es results in disaster. For nineteen yea rs, Boeing Corporation fai led to report the existence of fu el-tank d efects that seemed to be th e ca use of th e ex plosio n of TWA Flight 800 inJuly 1996. One exp lan atio n for th e nondisclosure was th e employee culture of Boeing, whic h h ad been roiled by massive layoffs."! It's not h ard to see in that enviro n me n t why you wouldn 't wan t to tell yo ur boss th e bad n ews. Trust and caring arise from worker participation. So, by the way, do es in cr eased productivity. David Levin e , in his book Reinventing the WorkjJ!ace ( 1995), surveyed the available empirical evidence, looked at sp ecific exam p les, an d co n clu de d th at substantial productivit y gain s co u ld be achieved simply by treating workers as if they mattered.t" And Freeman and Rogers have fou nd overwhe lmin g evide nce th at in effec t what workers want is to be reassured of their importance to the firm . Bu t the re is a substantia l obstacle to effec tive worker participation , and that is th e fact that e m ployee s will work harder (whi ch parti cipation ge nerally requires), sh are ideas, and cooperate with one another and m an agemen t only if th ey trust manag ement to sh are th e gains rath er than use th em to siphon off more money for themse lves or lay off workers who become less critical to the e n ter prise with increased produc tivity. There 's a lot of ta lk in th e popular an d scholarly literature abo u t worker par tici pation, but as Levin e sees it it 's not all that simple . In th e first p lac e, th e typ e of participation matters. Establishing works cou nc ils to b e informed of co rp o rate finan ces and discuss worker issues, as is common in European corporations , or simply p utting worker representatives on th e board of directors is not e no ugh . This consultative participation, as Levine calls it, not only h as no lo ngterm positive effects b ut can h ave even negative effects. It 's the kind T HE DI LB ER T SOCI E TY?

229

of parti cipation th at was fairly co m mo n in th e United States in th e eighties and nineties in the form of what were called quality circles. Levin e points out that managers liked th em because th ey gave workers th e impression th ey were being listen ed to . But as Robert Frank and Adam Smith told us, people aren't that easily fooledand n eith er were th e workers. No false co nscio usness h ere! The kind of participation that really matters is substantive particip ation : th at which involves employees in actu al work teams in whi ch th ey h ave a g re at d eal of latitude to organize an d p erform their work with very little supervision other than general directives regarding work requirements. These are th e kinds of participation th at Pet zin ger re p or te d as being so effec tive in hi s study. But, as Levine points out, substantive participation is not by itself enough; afte r all, wh en you give workers thi s kind of responsibility, you are asking them to work harder, to work in ways th at may in crease efficiency and possibly make some workers obsolete, and produce gain s that th ey personally m ay n ever see. Trust is th e glue th at binds workers to the enterprise, and it 's a crucial additive to participation.F' Wh at else do yo u n eed? Well, in the first place, Levine tells us that it's important to involve workers at higher levels of decision making. As I mentioned, thi s kind of co ns u lta tive process by itself d oesn 't res u lt in gre ate r productivity but, when combined with the substantive forms of participation , has an important positive effec t. And this makes sense in light of th e evide nce I'v e already discuss ed . Recall th e psychological evidence that people are more likely to be trustwor thy, which includes doing th eir jobs honestly an d well , if th ey beli eve th ey have good relationships with their bosses and that they are treated fairly. But you need even more. Levin e found th at in order for worker parti cip ation to in cr ease productivity, workers also needed to be assured that they were sharing in those productivit y gains.M As Levin e put it , " So me kind of sh aring of rewards from involv ement is a key ele me n t of almost all participatory systems." And, indeed , he found substantial correlation betw een particip ation an d ga in sharing. Th ere are a number of ways that gains can be shared. Employee sto ck ownership plans (ESOPs) are increasingly common in th e U nited States, approx230

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imately 9,500 U.S. co m pan ies, mostly privat ely h eld , h avin g one." Bu t ESOPs alone ar e not e n o ug h . The co m p anies th at enjoy real productivit y ga ins co m bine them with substan tive worker particip ation. Another important m eth od is to re d uce th e p ay differential between managerial and wor kers' salaries. It sh ou ld be obviou s as to why thi s is b en efi cial, but so me di e-h ard n eocl assists would view th e practi ce n egatively because it ca n b e see n as robbing man agers of the in centive to produce greater wealth for all. Of course th is arg umen t ove rloo ks th e fac t th at in centives are also n ecessar y to encourage workers to produce greater wealth for all , too. It also overloo ks th e n egative effec ts th at suc h su bsta ntial differen ces ca n h ave o n e m ployee morale. As Le vine explains it, th ere are three prin cipal benefi ts to salarydifferential re d uc tio n : it h elps foste r an atmosp he re of trust among workers; it cre ates in cen tives to work for group go als, whi ch , as we h ave see n, is a conse q uence of increased tr ust itself; an d it h elps to foste r cooperatio n . Drawin g on th e wo rk of th e famous organ izational psych ologist Morton Deutsch , Levine note s th at an y in crease in demo cr ati c an d egalita rian str uc tu res within th e organ izatio n in cr eases co operatio n an d p roductivity. In order for p ar ticipation to tra ns late in to productivity, wor kers h ave to be comforta ble th at any cri tic ism of ex isting pract ices or efficiency gains won't lose th em th eir jobs- a fact stressed by Freeman an d Rogers. In fac t job sec urity is so important th at Levin e clai ms th e re lation "betwee n lab or particip ation an d avoiding layoffs appears to be causal, not merely correlat io n al. " 5G The desire for j ob sec u rity enco urages em p loyees to monito r eac h othe r an d to sh are information. It also in cr eases th e motivati on p ro vid ed by gro up-b ase d com pe ns ation an d social app ro val within the workpl ace. No t surprisingly, Levin e found th at co m pan ies with higher levels of employee involvement offer greater job sec urity. And of co u rse th ey provid e more j ob training as well- co ns ide r the exampl e of Mar y Morse, whom I discu ssed several pages ea rlier. As to my earlier speculation th at much of th e co nte m porary improveme nt in the treatm ent of wo rk ers is at least in p art a fu nc tion of a tig ht labor market, Levin e reports th at in th e business down turn of th e late 1980 s an d early 199os , worker participation THE DILBERT SO C I E TY?

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d ecreased . Ga ins th ere are, but th ere is always co nce rn for th e bottom lin e. Un less worker participation and th e treatment of worke rs as assets rath er th an costs are in stitutionalized - th at is, unl ess we can tak e our eyes off our corpora tio ns ' stock p rices " every morning, every night, and probably ten times a day" -it see ms unlikely that these ga ins will last. An d n ot on ly will th at be h armful to workers as p eopl e; as we h ave seen, it ca n also hurt long-term produc tivity. It 's n otjust th e worke rs who n eed trust in orde r to be both m o re productive and happier people. Trust is required at th e board level, at hi gher m an agement levels, an d throug hou t th e co rpora te str uctu re . In th e first pl ace , th e hi gh e r up trust exists in th e organizatio n, th e better it will be modeled for th ose lower down .t? It 's hard to ex pe ct middle m an agers an d pl ant workers to trust one anoth e r if th ey see no thing but co m petitio n and co n troversy at th e top. And as I made clear earl ie r in ch apter 5, tr u st is required at th e level of th e ca p ita l m ark ets as well. It 's h ard for a board of di rectors to instill tr ust wit hin an organization if th ey themselves believe they are not trusted. Of co u rse as I also pointed o ut, th is is precisely wh at o ur co rporate st ructure leads them to b eli eve . The r elative abse nce of tr u st in the workplace is an understandable an d possibly ine vita ble co n sequ ence of o ur mon itocracy. Cooperative corp orate systems like those ofJapan and Germany exhibit su bstan tia lly hi gher levels of trust throu ghout the co r po ratio n, an d th e et hic of cooperation is p er vasive fro m th e shareholder level down to the sho p floor.5 HWe ll, you might note , th ese are co u n tries in wh ich coope ra tio n is a cu ltu ra l n orm , at least m ore so th an in th e U nite d States. You migh t also ar gu e th at tr ust in th ese soc ieties tends to be exclusionary -you h ave th e problem of the in -group an d the o ut-gro up . An d of co urse you 'd be righ t, altho ug h as Tocqueville ob ser ved and as is still the case, America is a nation not on ly of individuals but of a co un tless variety of o rgan izat io ns to whi ch p eo pl e willin gly give the ir time an d energy. Altho ug h civic coo p eration has declined in America , th e root of it h as always existed ) But indi-Fo r a det ailed d iscussion, see my Stacked Deck: A Stary of Selfishnessin ica. 2 32

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A me1~

vidualism always seems to grab pride of plac e, and p erhaps no more so th an in business, where we seem to be lieve that a different ethic prevails. Jordan Lewis reports that at Motorola, " internal friction was so rampant for so lo ng that staffers labeled th e company 'a federa tion of war ring tribes .' " I guess at least there was teamwork within th e trib es. But Lewis's exp lanatio n lays th e blam e on individualism. As h e writes, "Underlying these troubles was a practi ce of emphasizing independence and entrepreneurial machismo over interpersonal stren gths in selecting people as busin ess h eads. t" ? Perhaps "business is business." Bu t if we believe that to be the case, we are foo ling ourselves. Ifbusiness is busin ess, it is so b ecause we hav e artificia lly con str uc te d a different eth ic aro u n d busin ess than around our dai ly lives outside of work. While I be lieve that th is is true to some d egr ee, I am also co ncer ne d th at th e Am eri can e th ic of autonomy, whi ch I described in the be ginning of this book as having reached a pathological state, is even more pronounced in th e business are na. But as th e ex am p les Lewis e n u me ra tes an d th e evidence I have presented show, we can cooperate if we want to . Trust is th e glue of th at coo pe ra tio n , an d it's not on ly h ealth y for business; it's healthy for our so ciety as well.

CIVIC VIRTUE BEGINS AT WORK

Monitocratic management h as serious n egative consequences for Am eri can soc ie ty. For m ost of th e first eigh teen or twenty-two years of their lives, most Americans are in school, learnin g in traditional classrooms run by th e teach er. Although lesson s in demo cra cy and civics are taught and older students are offered su ch opportunities for institu tional participation as re latively au tonomous student gover n me n ts an d clubs, school life tak es pl ace within a fairl y sheltered institutional environment. When we graduate to work, most of us en ter, at least as a matter of th e statistics we've seen , th e Am eri can monitocracy. Our work su ccess, indeed, our job security, depends more or less upon doing what we 're to ld and makin g our bosses h appy, whi ch includes m aking th em look good to their own bosses. Promotion is com petitive , and compensation depends upon how well you p lay the game . While the corporate conT HE DI LB ER T S O C I E TY ?

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formity of th e I 950Ssee ms largely behind us, co n fo r m ity co n tin ues to play an importan t role for most Am ericans. And that means doing th e job yo u 're told as well as you can, a j ob d et ermin ed in creasingly by co r po ra te efforts to maximi ze stoc k p ri ces. What does this mean for our broader soc ie ty? Probably quite a lot , but th ere are two aspects up on whi ch I'd like to focu s. Th e first is the ethic of th e work e nviro n me nt; th e secon d is th e op port u n ity to b ec ome a full y p articipating m ember of society. I' ve already discu ssed th e eth ic at so me length . Let m e sim ply add here Schumpeter 's observation th at the rationality of th e profit m oti ve an d self-in te rest, whi ch h e sees as independent of ca pitalism , is stretc hed by ca pitalism thro ug h accoun ting practices an d me asuring things in units of money. The result is th at numerical valuatio n winds up affec ting ca pitalist soc ie ty's view of life, includin g things we ge nera lly think of as being immea surable, lik e aesthetics an d sp irituality/" If th e corp ora te watchword is wealth in th e fo r m of higher stoc k pri ces, th en th e e m ploye e 's ro le eth ic is wealth as well. Re call the com p any that posts its sto ck price at its door th ree times d aily. Workers arriving at th at j ob h ave no doubt as to wh at th eir purpose is. It is n ot to mak e th e best p roduct th ey can o r to provide the best serv ices availab le. It is to m aximize corporat e p ro fit. One of th e most co ntrov ersial areas in whi ch this effe ct can now b e seen is m an aged h ealth ca re by privat e co rpora te h ealth providers. I h ave no doubt physician s have always bee n co nce rned with their in come , judgin g at least by my doctor 's improved finan cial well-be ing ove r th e yea rs as a result of my an d others' illn esses. But d octors are professionals, and presumably m oney is n ot th e on ly draw to their profession; my do ctor is also a humane an d caring m an wh o tak es th e tim e to unde rstand an d treat m e as a person an d in corporates that understanding into hi s treatm en t. Co rp oratio ns are, as we h ave see n, art ificial co nstr uc ts with artificial purposes. An d th eir emp loyees, including th e d octors who wo rk for th em , are ch arged with fu lfillin g that corp orate purpose . Now I don't wan t to go over board . Obvi ously if the doct ors in a given managed care co m p any co nsiste ntly provide b ad tre at me n t, p atients will ch oose o th er provid ers an d profits will dry up . But the 234

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probl em is n ot a p articul ar co m pa ny or even th e parti cul ar individual s who suffer be fore other health care co nsum ers get th e message. The problem is th at all m an aged care co rp orations hav e th e same in centive to maximize profit whil e co m pe ting for th e sa me pool of patients. As a re sult, one can expect th e quality of health care or at least th e time an d atten tio n given to eac h patient to diminish . And a study by research ers at H arvard an d Public Citize n concluded exactly that." I But th e probl em involves mo re th an just th eo r y. You see, h ealth care professionals employed by managed care companies have stro ng in centives to cu t co r ners on th eir tr eatment in orde r to en hance th e bottom lin e. If a doct o r p ro vid es care that is n ot covered by th e plan and not approved by the managers, the doctor will n ot be p aid for hi s se r vices. Particip ating d oct ors are also su bject to "gag clauses," whi ch preclude th em from informing patients of treatm ent options not covered by th e plan but availab le from other provid ers. Con t rac ts betw een m an aged care co m pa n ies an d d octors often include clauses that award bonuses if care cos ts are kept below a specifie d amou n t or that withhold a p orti on of th e doct or's fees an d return it to em p loyees who keep costs b elow a sta te d target . Needless to say, whil e they might originate in a legi timate realization th at h ealth care cos ts have go ne o u t of co n trol owing to excessive treatment, th ese perverse in centives to save money can and often d o com p ro m ise th e quality of ca re . Cyn th ia H erdrich went to h e r doct or at th e Ca rle Clin ic, an HMO in Ur ban a, Illinois, complaining of abdominal pain . This o rgan izatio n gave its d octors a share of th e an n ual profits. Rath er than immediately d et ermin e th e ca use of H erdri ch 's p ain , h er d octor d elayed te sting for eigh t da ys until tests could be performed more in exp ensively at th e clini c. H erdri ch 's ap pe n d ix ruptured.v? Jacob Howard was born with a vascular malformation of whi ch hi s p ediatrician was aware. Noneth el ess, wh en J acob 's m other calle d th e do ctor to inquire abo u tJacob 's high fever, th e d octor refuse d to authorize her to take him to the emergen cy room (whi ch authorization was required for reimbursement) but to wait un til morning, wh en th e d octor could see him during n ormal hours. Th e n ext day, J acob di ed .?" Pa trick Sh ea h ad a family his tory of h eart dis ease , THE DILBERT SO C I E TY?

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whi ch h e described to hi s d oct o r in a visit foll owin g a busin ess trip during whi ch he had suffer ed sever e ch est pain . Over the course of severa l visits, Sh ea rep orted feelings of di zzin ess, sh o rt breath , chest p ain s, an d muscle tin glin g. Th e d octor d ecid ed it was unnecessar y to refer him to a cardiologist, although Shea did n o t kn ow th at th e m an aged care co mpany of whi ch th e doct or was a m embe r offered its d octors fin an cial in centives to keep specialist referrals d own . Several month s later, Sh ea di ed ofa h eart attack." Th ese are th e ba d cases. I'm sure th ere are ways in whi ch managed care is very ben efi cial and reduces health care costs - or at least th e Ame r ica n Assoc iatio n of H ealth Plan s, the trad e o rgan ization for th e ma naged care indust r y, thinks so.?" The important poin t for my purpose is what th e corp or ate goal of profit maximization does to e m ployees like d oct ors. It rep laces a professional e th ic, indeed a p rofession al purpose, of p atient care with a go al of stoc k price m aximization , a goa l em be dde d in the very compensation str u cture used in th e managed care indust r y. Few jobs have th e life and death implications a physician fa ces. But if d oct ors are being turn ed into profi t m achin es, im agin e th e effec t on workers who do n ot tak e professional oa ths an d wh o are far removed both from the consumers th ey ultimately serve an d the conseq ue nc es of th eir beh avio r on th ose co nsum e rs. It d oesn 't tak e much to imagine a profit-conscious, cost-conscious worker at GM d eciding not to in stall a cheap safe ty d evice o r cutting co rners in order to save costs an d speed p roductivity; or hi gh er-level m an age rs behaving in similar ways. As with managed care co m p anies, consistently poor products o r serv ices might lead consu me rs to shy away from so me co m pan ies . But the systemic e m be dde d ness of th e stoc k price m aximization eth ic suggests, as it does in h ealth care , an overall lowering of th e level of qualit y an d for o bvio us reaso ns : if ever yo n e is co ncer n ed about stoc k price , the co m p any that in curs the add itio nal tim e or cost to produce b etter qu alit y will be punish ed by th e ca pital m arkets. It might ultimat ely b e favor ed by th e p roduct markets, but tha t's a longer-ter m proposi tion . In the me an time , a rising m arket lowers all stan dards , an d the com p any th at t ries to rise ab ove the tide risks some p eri od of com petitive disad vantage rela-

2 3(j S T R U C T U R A L TR AP S

tive to th e rest of th e fleet. Perhap s it co u ld survive th at p eri od . But p erhaps not. What manager wants to ta ke that risk? So th ere' s a lot m ore than simply ni ce tr eatm en t of workers at sta ke. The et h ic of stoc k p ri ce m aximizati on h as th e ca pacity to put us in harm 's way wh en we most need he lp from corp oratio n s. If it can turn d octors' in centives, im agin e wh at it ca n do to wo rk ers wh o are n ot professionally swor n to anothe r goal. It ca n lead to un safe cars, unreported aircraft: defec ts, devasta tin g pollution. Wealth is n ot a value . By making it th e p redomin ant, if n ot the on ly, value in our cor p orate structure , it has the cap acity to infect our other valu es as well. But th ere 's another pro bl em. Think of all Americans leavin g school and joining th e co rp orat e workforce . Think of th e m spendin g abo u t h alf th eir waking h ours in sid e th e in stitution Rob ert Dahl described as the most soc ialistic in th e world. More than that, h e also pointed ou t the importance of eco n o mic fair ness to su staine d democr acy. Wh at d oes ou r curre n t situatio n imply fo r soc ie ty? Despi te th e su ccess of American political democracy, it 's hard to im agin e th at it will lon g co n tin ue in an enviro n me n t of sus taine d econom ic in equalit y. Wh en I u se th e phrase "econom ic in equality" h ere, I m ean more than just the extraord inary in equali ty of incom e an d wealth dist ributi on s to wh ich I ea rlie r referred; I m ea n mo re than dis tribution of economic re sources . I mean power over econ omic resources as well. That p ower is n ot just th e ab ility to in vest an d re de p loy ca pital: it is th e p ower to put that ca pita l to use in the workplace . It is th e opportunity to take th at capital an d make of it some th ing m ore valuable th an wealth. O f co urse, as I'v e noted ea rlier, re tu rning p rofi t to ca p ital investors, to stockholders, is critically important in orde r to sustain busin ess, the eco n o my, an d th e overall Ame rica n sta n dard of livin g, altho ug h of co urse this d oesn 't an swer the question of h ow corporate profits oug h t to be sp lit up with in soc ie ty.'" But as o ur foray into workplace p articip ation shows, it is vitally important to th e qu ali ty of America n life, in cludin g economic life , th at workers show up each day with purpose and power. Eco nom ic democr acy includes giving workers choices an d giving workers p owers.

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Dahl was as co nce rne d with economic distribution as with economic and p olitical participation. I have elsewhe re writt en about di stribution ; my co ncern h ere is with p articipation. As Sch u m peter p oin ted o ut, democracy an d ca pitalism aren 't n ecessaril y in sep arable."? Cap italism, in its sim p lest d efinition, see ms to require so me for m of privat e p rop erty an d so me for m of m arkets.k The co ncep ts are p robably e n de mic to ca p ita lism; th e forms th ey tak e are n ot fixed , as hi story an d contemporary exam p les d emonstrate. The Sca n d inav ian soc ial d em o cracies ope ra te under economic systems different from th e German model , in whi ch soc ia l welfare is importa n t but greate r em p hasis is pl aced on worker p articip ati on in the corporate system ; the German in turn d iffers fro m th e Briti sh model, in whi ch an Am eri can-style co rp orate cap ita lism co exists with a su bsta n tial degr ee of soc ial welfare.v'' An d all differ fro m th e m odel in so me South east Asian nati ons, in whi ch au th ori tari an p olitical rule an d th e repression of b asic freedoms coexist with relatively un fettered econom ic life . Democracy, in its modern form , is abo u t universal political particip ati on. It re q u ires a m easure of lib erty an d a m easure of equality. I reali ze th at both of these working de fin itio ns are gross ove rsim p lificatio ns . Bu t the p oint is clear enoug h. There is no reason to th ink th at pri vate ownership an d free marke ts are absolu te ly n ecessary to political liberty and equality excep t to the ex te nt that, as J ohn Rawls so famous ly o bse rve d, so me d egree of econom ic wellbe ing is surely n ecessar y as a p ractical matter to p er mit peop le to p ar ticipate in the political process." and th at, as Mich ael Walzer

'A d am Pr zeworski, ec ho ing Adam Sm ith and to some extent Locke 's theo ry of property rights, ad ds to thi s th e definitional req uire ment th at " th e op tim al di vision of la bo r is so advanced th at most peo ple p roduce for th e needs of o the rs. " Przewo rski , Democracy and the Market: Political and Economic R eforms in Eastern Eu rope an d L atin America (Ca m bridge: Ca mbridge University

Press, 1991 ), 101 . Wh ile th e insig h t th at ca pita lism d e pends o n a we lld evel oped labor market is interestin g, I question wh ether it is esse n tial to d efining ca pita lism o r merel y an o u tgrowth of a system of pr ivate pro pe rty and free ma rkets.

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has shown , modern life to a large d egr ee wrongly co n flate s money and power. ?"But that's it. If we h ave an econ om ic system - and modern Am erican corporate ca p ita lism is as good a can didate for this as an y - in whi ch participation is limited to those with capita l or ready access to capital, and th e amount of cap ita l th at one has determines th e ex te n t of one 's participation, then a significant proportion of the population is robbed of its abi lity to participate in economic life other than as con su me rs, whi ch hardly seems like a ro le d esign ed to fost er human freedom and dignity. Because Americans spend about h alf of their wak in g ho urs working with in th e capitalist system, th e effec t of th at particip ation has to hav e a su bsta n tial effec t on activiti es in th e rest of th eir lives. If, as Dahl pointed out, American workers are train ed in com m an d and co n t ro l, and th eir fu ll and eq u al participation in the political and so cial community is voluntary and on their free time, it seems likely th at th e training most of us receive is not in parti cip ation but in ob edien ce. It 's diffi cu lt to be a cog in a wheel from nine to five and then arrive h o m e ready to become an active an d e m powere d citizen in th e political process. It seems that one of the most important co n sequ enc es of the way we structure work is to rob us of our fee lings, if not th e reality, of political autonomy, our feelings of equal lib erty to tak e part in civic life. T he kind of division of labor that orders people into fairly distin ct, if not immutab le, class structures th at p ermeate Am erican socia l an d institutional life also robs us of th e p articipation of a vast number of hi ghly tale n ted people, people whose talen t is unrecogniz ed because of circ u msta nce an d class structure." Although th e American system of universal education (however gro ssly unequal) and theoretically op en opportunity is less stratifying in th eory than European an d Asian models that track ch ild re n into professional and vocational educations at an early age, it is far from perfect. It denies th e rea lity that talent, whi le p erhaps u ndeveloped and latent, exists in abundan ce throughout th e workforce . Adam Smith, who was right about so ma ny things, noted this at the same time he ap p lau de d th e in cr eased productivity brought about by th e division of lab or :

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T h e difference in natural talents in different m en is, in reality, mu ch less th an we are aware of; and th e very differe nt genius wh ich ap pears to d istingu ish men of d ifferent professions, wh e n grown up to m aturity, is not upon many occasions so much th e cause, as the effect of the division of lab our. T he differe n ce be tween th e most dissimilar ch aracte rs, between a philosoph er and a com mo n street porter, for example, seems to arise not so much fro m nature , as fro m h ab it, custom, an d education.. .. By n atu re a philosoph er is not in ge n ius and disposition half so different from a street porter, as a mastiff is fro m a gr eyh o u n d , or a greyh ound from a span iel, or th is last from a sh ep h erd's dog. 72 I don't know much about do gs, but Smith's point about p eople seems obviously right. Not everyo ne can b e a nucl ear physicist . But our co ntemporar y corporate cap ita lism h ardl y leads most people to , as th e Ar my ad puts it , "be all [th ey] can be." Train a m an to be a porter, and a porter h e be comes. Train a man to be a p hi losopher, an d th at is what h e will be . T h e point, of course , is not th at we should all b e philosoph ers (or p orters) , bu t r ath er tha t we should understand what it m eans to say th at a man is a porter or a phi losoph er, what it m eans for a man to be a porter or a p hilosopher. T here is no reaso n why in train in g the porter we can not train him to d evel op hi s natural tale nts in a way th at mak es his work more m eaningfu l, no reason th at h e ca nnot be allowed to em p loy his natura l talents to use as m uch d iscretion as possible in his work, an d n o reason why em p owering him to d o so will not raise h is self-resp ect and work fulfillmen t as well as his sense of pl ace in th e co m m u nity. Worker em power me n t through worker involvement h as th e capacit y substantially to ch ange the equation . If workers are active p articipants in defi n ing th eir own go als, in structuring th eir own j ob s, in making th eir workplaces so me th ing of th emselves an d th ei r own , the effect on the p oli tical process is likely to be h ealthy. Worke rs who are people at work are more likely to b e citize ns at home . Aft er all, At h enian d emo cracy was o n ly for th e leisured class, that gro up of p eopl e who not only had th e tim e to participate in the process but whose lives were lives of self-det ermination . It was on ly 240

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th e idi ot of thi s class wh o removed hi mself from co m m un ity life, who failed to participate in politics and civic affairs. Nonparticipatin g workers are idi ots in th is original Greek se nse to the ex te n t th eir lives in th e wo rkplace are overde term ined - becau se we m ake the m so . Can we expect more of th em in civil and political life ? And if we, by t raining if n ot by p oli cy, di senfran chise suc h a sub sta ntial proportion of o u r p opul ation , can we t ruly call ourselves a democr acy? Ca p ita lism an d d emocracy m ay no t be n ecessary bedfell ows. Bu t ca p ita lism d on e badl y ca n d estroy d em o cr acy.

GIVING THE WORKERS THE STORE

One approach to resolvin g the problems I' ve discussed in th is chap te r is to mak e workers owners. T he legal scholar J eff Go rdo n usefull y p oints o u t that em p loyee ownersh ip tak es a variety of forms, from p ar tn erships to stock own erships to ESOPs an d worker coop era tives, am ong oth ers, an d th at it is h elpful to think of th em as being arrayed along a spectrurn .?" And as Pe ter Drucker argues in The Pension Fun d Revolution, worke rs largely have become own ers of Am eri can busin ess through th e e n o r mous amou n ts of their co llective wealth invested in pension pl ans. Whil e hi s point is well tak en an d whil e I agree th at some p ensions are begin ni ng to wield their power, th ey are doing so largel y for the purpose of in creasing stoc k prices, a goal not likely to ame lio ra te the problems I 've id en tifie d . Moreover, much of th e activism e ngaged in eve n by th e lab o r unions is aimed at removin g devi ces designed to make co m p an ies tak eover proof, thus making th em eas ier targets. While it is e n tire ly possibl e th a t thi s migh t in cr ease aggr egate worker wea lth, one h as to wonder wh ether, given the ch oi ce , the average worker wouldn't ra th er avoid being ax ed in a tak eover th an h ave a littl e m o re in hi s retirement fund . In any even t, th is is not th e kind of owners h ip th at is likely to mak e workers fee l em powered . It may b e p ositive as a m atter of economic dis tribution , but it has little co ns equ enc e as a matter of th e poli cy con cerns I'v e ra ised . The kind of owne rsh ip represented by p en sion money is p assive gr o up own ership; eve n if the fund is activist, th e in vestor-worker remains at two levels of remove from THE D I L BE R T SO C IE T Y ?

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th e actio n an d h as n o real p ower to exercise a voi ce . An d th e p ension truste es are th emselve s le gall y obligated to look after the financial well-b eing of th e plan for its ben efi ciari es. Not a formula for e m power me n t an d p arti cip ati on. ESOPs have become popular over th e past several decades, partly as an an tita keover d evice (th ey are co n tro lle d by m an agementappointed trustees) but also as a m eans of giving workers a direct stak e in the ir companies by leaving a portion of the ir fu ture wealth to be d et ermin ed by th e co m pa ny's p erform an ce. The number of ESOPs in th e U n ited Sta tes grew from two hundred in 197 4 to ten thousand in 2000 , ap p roximate ly 10 p ercent of th ese in public corporatio ns .' ESOPs own abou t $ 26 2 b illio n in co rporate asse ts; fifteen hundred of the co m p anies sp o nsorin g ESOPs are majorityowned by th eir em p loyees an d five hundred are fu lly owned .?? Like p en sions, ESOPs are a form of co llec tive owners hip . Bu t worker p ar ticipation is not a natural co n seque nce ofESOPs, cer tain ly not at th e sho p floor level an d not eve n at th e hi gh er level of co rp o ra te governance like the election of directors. ESOP stock is held in trust for th e workers, an d trustees tend to be appoin te d by man agement. Thus, whil e as a m atter of econ o m ic distribution an d worker in centive ESOPs may b e b enefici al, they don't really solve the problem of worker p art icip ati on. Another alternative form of worker ownership is th e worker coopera tive, in whi ch each worker is both an owner an d a particip ant in th e b usiness. The mo st fa mous an d successful of these is the Mondragon cooperative in Spain , as reported by William Foote Wh yte an d Kathleen Kin g Wh yte in th eir book M aking M ond ragon: Th e Growth and Dyn arnics of the Worker Cooperatiue Complex. Mondragon gr ew from one cooperative of 23 workers in 1956 to 19,50 0 workers in mo re th an one hundred coo ps an d relat ed organizations in the late 198 0s . Bu sinesses ranged from the manufacture of kit ch en equ ip m e n t, electro n ics, an d machin e tools to printing, 'Even if ESO Ps were a good answer to th ese problems, thi s number is di scouragin g, for it is the publicly held co rpora tion th at is at th e me rcy of th e cap ital ma rke ts and d rive n to th e sto ck pri ce maximizati on e th ic far mo re th an th e pri vately held corpo ratio n need s to be . 242

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metal sm elting, and shipbuilding, along with a central cooperative bank and a social security cooperative. While Mondragon suffered its problems, the example of such a substantial and successful experiment in worker ownership and democracy is striking. Each worker had his own capital account, but the rule was one person, one vot e. Whil e worker cooperatives are notorious for turning th eir workers into traditional capitalists who then go on to employ substantial numbers of nonowners in their businesses, Mondragon kept th e number of nonowner workers to 10 percent. Worker coo peratives are known to be very industry-specific thro ugho u t the rest of the developed world (the American plywood industry comes to mind), but Mondragon was a well-diversified, far-flun g industrial conglomerate. Even in Mondragon, however, worker participation was limited. Workers th ere e lec t representatives to th e supervisory boards of th e individual firms comprising th e larger enterprise as well as to a social council that deals with worker concerns. Industry groups are gov erned by a high er co unc il appointed by th e managers of the constituent firms . And each Mondragon cooperative is required to be affiliated with th e Mondragon central bank. Fin ally, the disposition of profits is carefully restricted by a set of rules that govern th eir distribution .?? So even in the exemplary success story, worker particip ation in governance is limited , although it is clear that the fact of worker ownership and participation provides substantially greater empowerment than that possessed by a GM line worker. Mondragon's worker-owners sought profits. And for th e most part, th ey received th em. But th e ch o ice of th e coo pe r ative form reflects, in the Wh ytes ' words, "the ch o ice ... not simply between acceptance or rejection of the profit motive . The choice may be between con side rin g th e pursuit of profits as th e sol e or primary driving force or considering profits as a necessary limiting condition -a m eans to other e rid s."?" Of course that's what I've be en talking about, and Mondragon to a large ex te n t exe m plifies th e means-to-an-end choice. Dahl observes that, as an economic matter, "se lf-govern in g e n te r p rises hav e a greater resili ency than American corporations."?" And Przeworski surveys the evidence that shows worker cooperatives have higher worker productivity and better THE DILBERT SOCIETY?

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ec on om ic distribution th an th e tradition al form of co rpo rate organi zation.?" Mo ndragon is not unique. Whi le worker coo pe ratives may not be th e dominant form of business organi zation in most industri alized countries, they are no t insignificant. Italy has a cooperative sector th at e m ploye d 42 8,000 workers in I 1,000 firms in 1981 ; in 1986, th ere were 1,300 coope ratives in Fr an ce with 34 ,000 e m p loyees; an d during the p eriod 1976-81 , so me 14,000 cooperatives em p loyin g 223,000 peopl e were create d in th e Euro pean Comm un ity?" In 1994 , a report showed that th ere were more than 53.7 million coop m embers in th e European Co m m un ity, over h alf of whom were p articipants in other industri es.!'" T here 's a large literatu re on worker ownership debating th e extent to whi ch it in cr eases p roductivit y o r profitabilit y or both , wh ere it most effec tively does so , and how stable suc h busin esses are."! I'm not going to ta ke th e sp ace to r eview it h ere . Suffic e it to say that worker ownersh ip, at least in th e Mondragon se nse, is unlikely to be come a part of th e American economy an y time soon, however b en efi cial it mi ght be . Far m ore promisin g at the moment are attempts to include workers as p art of th e co rpora te calculus in a way that recognizes them as vital an d important resources. Doing so will n ot on ly mak e wo rk more rewar d ing but will also change th e equation th at depresses the wages of workers and promotes th eir gen eral soc ial disenfran chisement.P It is to th at e n d th at my suggestio ns are aime d . Before ge tting to them , le t me dispel one other myth . Workers, it is ofte n said, don't want th e resp onsibility of m aking decisions. Th ey tend to b e risk averse and fear th e p ersonal an d fin ancial r ep ercussions of b eing wrong. There may be so me tr u th to th is. But as Freeman an d Roge rs suggest, pe rh ap s it is more correct to say that workers do wan t participation if they can be give n so m e assu ra nce th at th ey will not be fir ed or mi streated b ecau se th ey h ave dared to cr iticize authority. Work ers tak e risks every d ay, in so me occ up atio n s, the risk of sever e injury or de ath. It's silly to think that workers ca re m ore abo u t their j ob s than abo ut th eir lives, even if ch oice or circ u mstance leads, or forces, th em to ta ke dangerous

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lin es of work . Th e kind of risk th at participa tio n re prese n ts is a risk that workers will b e given the appearan ce of freedo m without th e reality. Remember th at under th e m onitocr acy on e of th e fu nc tio ns of th e work er is to m ake hi s b oss look good. No rati onal wo rk e r wou ld risk suggestin g a change that would eith er show up hi s boss an d thus in cur th e boss's en m ity or res ult in adverse co nse q uences. Of co u rse the re will b e cases in whi ch workers, j ust like managers, mak e mi stak es, an d fin ancial co nse q uen ces will resul t. Bu t su re ly th e re ar e ways of co nstrain ing th e risks to preven t worke rs fro m exp osing the ir en tire welfare when they seek to innovate. We have don e th a t for stoc kholde rs th rough limited liability an d for m anagers an d d irect ors th rough d irecto rs' and officers ' liability in suran ce and statu tes that absolve them fr om finan cial co ns eq u ences for n egligen ce . If we can protect di rect o rs an d m an agers becau se we th in k th ey n eed leeway to tak e risks with out risking themselves, su re ly we can d o the same for workers. U n der suc h a r egime, it's h ard to im agine why worke rs would fear p arti cip ati on.

THE VALUABLE EMPLOYEE-THE VALUED EMPLOYEE

My principal proposal to m ake th e worke r ce n tra l is to ch ange the acco u n tin g rul es to treat em p loyee s as asse ts ins tea d of liabili tie s. Treating workers as assets has a number of implications, including better treatme nt an d higher p ay. This has both busin ess and social be nefits. Th e business b enefi ts are clear: corpora tio ns that treat workers as valu ab le are more likely to produce more skilled, better train ed , an d happier workers. As a soc ial m atter, th ey are mo re likely to in vest m ore in th eir workers, too , including the investm ent in the ir p ay, a fact which might b egin to ame lio ra te th e dram ati c ga p between executive com pe n sation an d wo rk e rs' wag es and, in addition, reverse th e present trend toward eve n gr eate r in equality.All of th ese facto rs may lead to greater worker particip ation in th eir corporatio ns - impro vin g wo rk er skills an d treating workers as value d members of the co rp or ate co m m u nity may e ncou rage m an age rs to invite wo rk er input into all levels of r un n ing th e busin ess. Finally, treating the worker as a valuab le m ember of

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th e corpora te co m m u n ity is also likely to have th e positive effec t of in creasing th e sati sfaction of work and creating the environment of civic virtu e with whi ch Dahl was concer ned. My suggestio n for accom p lish ing th ese goals is to change th e tax laws and the related accounting rules to require co rp or ations to ca p italize workers' salaries abo ve a stip u lated amoun t. Obviously some portion of an individual worker's co m pensatio n would properly b e ta ken as a current expense, b ec au se it would refl ec t the worker's monthly (or quarterl y or an n ual) co n tribu tio n during th at finan cial reporting period. The precise amoun t of compensation to b e ca p ita lized co uld b e developed eithe r on a co m panywide or an industr ywide b asis refl ecting the average co m pe nsatio n for wo rkers. All cap italized com p e ns atio n would be car ried as an asse t on th e balan ce sheet an d d epreciat ed over time. Th e d epreciati on p eriod co uld b e d et ermined in a number of ways. For exam p le , it co u ld b e m ea sured as th e aver age tenure of an e m ployee within a given co rp oration o r industry. If mo re uniformi ty seem ed de sirable, tax regulations cou ld sp ecify a uniform depreciati on p eri od based upon sim ilar kinds of statistics fo r workers in various industries or classes of occupati on." The de tails bec ome complex. Wh at, for exam p le, sh o uld we d o if an em p loyee who se "ex cess " p ay h as been capitalized leaves before th e end of th e d eprecia tion period? One possibility would be to require th at the amou n t of undepreciat ed pay be tak en as an ex"'De te r min ing th e depreciati on peri od by some classificati on of job within an indust r y has th e di sad vantage o f ign oring th e possibiliti es of j ob sh ifting and promoti ons to different job classificati on s within a given co r po ra tio n . T h is mi ght have th e perverse ellec t o f di scouragin g promoti ons from wit h in if it diminish ed th e allowed depreciati on peri od , alt houg h I sus pect th at th e aggreg ate numb ers of such promoti ons am o n g d iffere n t classes of j ob from yea r to year wo uld not be all th at sign ifica nt . No ne th eless, th e risk is st ro ng en o ugh th at I would pr efer to see depreciati on periods se t with o ut regard to j o b ca te go ry. It co u ld become a probl em if Am erican co rpo ra tio ns began to ad o p t work models like th at in J ap an , where e m ployees are regul arl y sh ifted am ongj o bs; bu t th e issue co u ld be revisited if the Am er ican workplace were to change in th at directi on .

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pense in th e year th e e m ployee leaves. This cou ld hav e a punitive effect on corporatio ns that experience high tu rnover, but precisely because of that effect it m ight en co urage corporations to cr eate work enviro n me n ts an d provide fin an cia l in centives th at induce employees to stay. It's not obvious to m e that th is approach is as easy to implement as one in whi ch d epreciation co n tin ue d over th e stated period re gardless of turnover (and this latt e r approach would be co nsistent with th e co ncept of taki ng an average worker's tenure as th e depreciation period to begin with), but I favor th e form er approach p recisely because it creates greater incentives for manag ers to fo cus o n th e welfare of workers and to e n co ura ge th em to remain with th e com pany as well. Anoth er se t of issu es, whi ch I'v e im p licitly raised , is whether m easu remen ts should be on a co mpanysp ecific, industry-specific, or n ational basis. I prefer th e co m panyspecific approach be cause it most dire ctly internalizes the costs of hi gh worker turnover to corpora tions that p ro vide less desirable workplaces. The corpora tio n th at h as lo n ger-te n u red workers will have a longer period of depreciation and consequently less effect on th e bottom lin e. A re lated issue concerns the treatment of undepreciated compensation in th e event of layoffs or p lant closings. Here again, I favor an ap proach th at requires all undepreciat ed co m pe nsatio n to be taken as an expense in the yea r of termin atio n . While this would make even n ec essary layoffs and p lant closin gs more ex pe nsive, it would h elp to ensu re th at th ese even ts occ ur on ly wh en th e m arginal be nefit fro m the m exceeds th e margin al cos t. As a result , we cou ld expect to see work er displacement fo r th e purpose of transferrin g wea lth from workers to sto ckholde rs occur less frequently and thus only in circ u mstances in whic h economi c necessity di ctat es. If th e require m en t of immedi at e expensing of undepreciat ed amounts wou ld unduly burde n a company, we might want to allow for ap p ea l m ec hanisms for companies that believe th ey h ave legitimate reasons for layoffs or plant closings. But su ch an accounting change wou ld go a long way to di minish mu ch of the promis cuous worker displacement we 've seen over th e past several decad es. Capitalizin g workers' salaries wou ld also make it easier for corpo-

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rati on s to ra ise wages with out havin g to worry abo u t immediat e adv erse effe cts on stoc k prices . Wage premia, whi ch would help to att ract and ret ain th e best workers, would h ave less impact on a corporatio n's bottom lin e an d th erefore on its stock pri ce th an under the present syste m of treating them as cu r re n t expenses . The fac t th at a co m pany p ays higher than average wages co uld th en itself b e seen as a signal of management's co m mitme n t to th e long te r m an d might even have a positive effec t on stock prices. Wh at is true for co m pe nsatio n would also be true fo r worker training costs. Capitalizing su ch expenses and allowing depre ciatio n over a given period would e nco urage m an agers to in vest in worker training an d well-b eing. The issues are less complex th an capitalizing com p ens at io n, but the salutary result is th e same . In o rde r to e ns u re th at my suggestio n is effec tive with resp ect to lower-level workers, we might want to have different rules for executive compensation , d efined eithe r as ce r ta in types ofjob categories or salary categories. The di sproportional amoun t of pay th at executives already receive might, in so m e co rp orat io ns, lead my reform to p rovide instant co rpora te ben efit s with out much n eed to adj ust worker sala ries . Th ere are severa l ways to hit th e target. One would b e to disallow d epreci ation in corporations in which the ra tio of hi gh est-to-Iowest paid employee excee ds a certai n amou n t. Thi s mi ght en courage exe cutives in su ch corp orat io n s to in crease worker p ay to adj ust th e ratio or, so me what less likely, to cap their own p ay. Th e pro blem thi s ap proach creates is that it may lead so me co rporations simply to forego th e com p ens at io n depre ciation, thu s deprivin g th eir workers of th e ben efits my p roposal see ks to ac h ieve. An oth er and, I think, b etter approach would require so me add itio nal chan ge s. Firs t, Congress should rep eal th e law limi ting the d eductibility of execu tive salaries over $ 1 milli on. It sho u ld be re placed with a law requiring th at all exe cutive pay-probably over a reasonab le sta te d amount, say $ 1 50,000 or so me othe r ca ppe d am o unt th at we co u ld b ase, p erhap s, o n wh at we co ns ider to b e an appropriate execu tive-to-worker pay ratio - is to be ta ken as a curre n t ex pe nse , that is, none of it would be ca pitalized. Th e result would b e that excessive execut ive co m pen satio n , no t worker co m-

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pensati on , would adverse ly affec t ear n ings per share. At th e same time, I'd sugges t that the law not permit an y exe cutive com pen sation above th at am o u n t as a tax d eduction. Thus, execu tives that overpaid th emselves would h arm th eir co m pa n ies in two ways: first, by diminishing earnings per sh are and , sec o n d, by creating a busin ess ex pense with out a tax advan tage to softe n its blow. We still h ave to worry about stoc k options. My proposal creates at least as gr eat a risk as does current tax law that exe cutive pay would sh ift to stoc k op tio ns . This wouldn't be a bad thing if it didn 't car ry with it the problems that options curr en tly do, the problems we look ed at in chap te r 5 . The way to prevent suc h dil emmas brings us ba ck to th e way I suggeste d th at we deal with excessive trading . Amend the tax laws so th at sto ck issued pursuan t to executive option pl an s would be punitively taxed if th e execu tive sold th e stoc k in to o short a p eriod . It is reasonabl e to ex pect executives, esp ecially exe cu tives who are richly rewarded with a piece of th e corp orati on , to h ave a long-term h ori zon for th e corpo ra tio n an d th eir contrib ut ion to it. Thus we could impose , say, a 75 percent tax on stoc k so ld within five yea rs of exe rcising the o pt io n, with a sliding scale reducin g it to normal cap ita l ga ins taxes afte r p erhaps ten yea rs. There are other det ail s to co ns ide r h e re, too . Do we want to exempt th e estates of exe cutives who die before the favorable tax rat e kicks in ? o r do we want to require th e estate to co m p le te th e h olding p eri od to give executi ves every p ossibl e in centive to look to the lon g term? What about managers who are fired during th e punitive tax peri od? Sh ould it d ep end upon th e reason th ey're fired (unsati sfact ory p erformance) ? And what if managers sell th e com p any during th e punitive tax p eriod? Should th ey b e presumptively subjecte d to un favorabl e tax treatment with an opportunity to appeal by sh owing the economic valu e of the sale for the business as a going co ncer n? o r sh ou ld th e p eriod au tomatica lly terminat e? These are important questi on s, but th e n eed to resolve suc h details doesn't detract from the soundness of the basi c idea. Wh at sho u ld be clear fro m thi s chapte r is that much of o ur soc ial, p olitical, and econ o mic well-being d ep ends upon the co n di-

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tion of America n workers. T hese suggestio ns go di rectly to th e problems I've id entified. They r equire a shift in our thinking about worke rs as well as so me crucial legal m odification s. An d th ey're n ot with out so me risk, fo r th ere may be unin tended adverse co nse quences. Bu t the cu r ren t syste m doesn 't work very well for an awfu l lot of h ardworking people, even in tim es oflow un employm ent. It 's importan t to o ur future as a n ation to tr y so me th ing n ew.

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III

AMERICANS

ABROAD

CAPITALISM , SOCIALISM , AND DEMOCRACY

I be gin this tr an sition from analysis of the flaws of the American corporate system to a brief examination of other systems with a tongu e-in-ch eek nod to th e great ec o no m ist Joseph Schumpeter. For I certainly lack the space, tim e, and insight to fu lly engage in the kind of study of th e relat ions among ca p italism , socialism, an d d emocracy that he did . I do think it is important, however, in order to place in context what has co me before and to set th e stage for my co n clusio n, to re flec t upon th e rel ati on betw een ca p ita lism an d democracy and th e re lation of both to the corporate system . For if you remember nothing else, remember that ca pitalism is a manysp le n dored thing, that ca pitalism and d emo cracy are not cote rminous (and that we therefore need to consider what our goals in th e world are an d why) , an d th at co rp ora te ca p ita lism done our way is by no means the on ly workable form, as China and Sin gapore demonstrate. Adam Smi th, who might be considered the ur-theorist of modern ca p ita lism, was himself appalled by co rp ora te ca pita lism, although for reasons that may no t be as relevant today as th ey were in his tim e.' These are issu es whi ch h ave been at th e for efront of internatio nal consideration sin ce at least the fa ll of the Berli n Wall and the collapse of com m u n ism . Th e most immediat e impetus, of co urse, was to attempt to advance th e economies of form erl y co m m u nist countries, to h elp them ac hieve economic independence from the 253

former Sovie t U n io n, an d to bring th em into th e ca p italist fram ework en compassin g the Americas , Western Europe , and much of Asia. This is n ot th e pl ace to tak e the m easure of that process, whi ch is still go ing o n; n ei th er will I assess other developments, suc h as th e stunning and cu lturally insensitive failure of attempts to impose th e America n co rpora te syste m on Ru ssia, th e syste m of Czec h vouc he r privatizati on whi ch led to th e tran sfer of much of Czech industry to foreign hands, the suc cess of Po land in fits and sta rts, or the rath er in vari ant m arch toward ca p ita lism of Hungary. But it has been more th an a de cade n ow, ever ybody more or less agrees that cap italism of so me form o r forms is indeed to be th e o rde r of th e d ay, an d so I will b egin by taking th e h egem ony of ca pitalism as a fait accompli and a desirable one at th at. I'v e already spe n t so me tim e o n th e fun da me n tal d efinition s of ca pitalism an d d emo cr acy. Most p eople would agree that cap ita lism r equires some form of privat e property an d some form of m arkets, althoug h th e p arti cul ar ownersh ip an d m ark et forms are n ot fixed. Some theorists have added th e system of labor th at acco m p anies ca p italism as a d efinitional point. The econom ist Ada m Pr zeworski, in his stu dy of th e tran sition economies an d p olities of Europe, suggests that capitalism includes th e ex iste n ce of a labor m arket sufficien tly specialized th at most p eople produce "for th e n eed s of others," th us adding a neoclassical aspect to th e basi c d efinition ." Sam ue l Bowles an d H erbert Gintis also include lab or as p art of ca pitalism, b ut in ra ther a di fferent way. They p oint ou t th at one of th e most overlooked aspects of cap ita lism, at least from th e perspective of liberal th eory, is th at ca pitalism is as much a syste m of e mpl oym ent as it is of exc hange. As th ey put it, in a way that is importa n t for our discu ssion , "T h e capitalist e n te rp rise exists precis ely as a syste m of au thority within a syste m of m ark ets.">In so doing, th ey explicitly con n ec t th e economic system of cap italism with p olitics, th us bringing it fro m th e private realm in whi ch modern econom ic th eory locat es it to th e political realm, in whi ch a more realistic view of the world would sug ges t that it , or cer tain ly corporate capitalism if n ot ca p ita lism simpliciter; bel on gs. In any eve nt, nobody reall y doubts that ca pitalism and p oli tics affect o ne another. Even Schumpet er, who saw modern d emocracy 254

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as a "product of th e cap italist process," beli eved th at d emocracy and socialism could coexist, and that th ere was no inevitable conn ection betw een capitalism and democracy." So th e question to be co nside re d wh en we, as Am eri cans, look at the rest of th e world is, Wh y do we care what th e rest of the world looks like? Obviously th ere is a deep an d important preliminar y question as to wheth er we hav e an y right to influen ce the rest of the world , but I th in k we 're he avily enough involved to allow th e assumption that, at least as far as we think o ur own in terests are concerned, the question is off the table. I also want to avoid th e important discu ssion of th e n ature of human rights an d o u r rol e in assuring th ey exist throughout th e world. There is, it seems to me , a perfectly legi timate question of wh ether eac h nation should be allowed to d et ermin e for itself wh at human rights appropriately co nsist of and what th e nature of its society should be . I hardly mean to suggest by this th at I 'm agnostic on th e nature of human rights. Torture, murder, ge n oc ide, misogyny, bigotry, oppression, and intolerance are not th ings th at I find especially att rac tive. But th ere are , I suppose, degr ees, an d if were honest with ourselves we will ad m it that there are even de grees in the United States. Certainly th er e are theocratic states like Iran and sta tes in whi ch th ere is an esta blished re ligio n, d e facto if n ot d e jure, in which much of what defines the rights and roles of people is determined by a coll ective beli ef in reveal ed truth. Un less we are prep ar ed to in sist th at all m embers of th at soc ie ty are pl agued by false consciousness, their belief in such tr uths leads to institutional, political, an d soc ial struc tures th at are distinctly divergent from those of m odern liberal soc iety. And, as I noted, the U n ited States contains subcultures which deny the premises of modern liberal society. Th e Ch ristian right, for exa m p le, would like its valu es to dominate socie ty, and Hasidic Jewry simply wants to separate from society to b e fr ee to practi ce its cu ltu ral and religious norms. Who 's to say wh eth er th ey are right or wrong? We won't know until th e final da y of reckoning. Meanwhile , liberalism requires tolerance , at least within limits, an d it see ms as though that tol eran ce ought to extend to the interna tional sph ere as well. As modern liberals, however, we believe th at one of the principal C APIT ALISM , SOCI ALISM , A N D DEMOCR AC Y

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ways basic human rights as we understand th em can best be p rote cted is through democratic syste ms of gover n m en t. And whil e d emocr acy, like ca pita lism , is vario usly d efined , among its salie n t an d, it seems to m e, invariant characteristics are th e eq ual righ ts of all citiz ens to p articipate in th e processes of selec ting a government an d the basic lib erties n ecessar y to for m o ne's id eas abo ut wh at co ns titu tes go od gove rn me n t. It 's diffi cult to op p ress p eople wh en they are e m powere d to ch oose their own go ver n me nt, an d when th e govern me n t is answerable to th e m . It 's too easy, th ough, to con n ate democracy and cap italism . Liste n ing to public an d p oli tical discourse in the Un ite d Sta tes with regard both to domestic an d to worl d affairs, o ne mi ght be p ard oned for believin g tha t o ur economic su ccess (if we leave aside our di stributional probl ems) is o ur very reaso n for being. " It's th e econo my, stu pid, " mi gh t well b e ta ke n as the sign al Am eri can watchw ord of faith. An d even if we are cap abl e of th eoreti call y an d intell ectu ally se parating th e two realms, o ur politics are , as a p racti cal matter, so bound up with our system of corp orat e cap italism th at to separate th em would ap pear to p ose th e same challe nge as undoing an ome let. Wealth is n o t a value. We ten d to forget that o ur lives are n o t lived for th e sake of money, an d even if th ere are th ose wh o , co nsis te n t with the liberal tradition of self-determination , cho ose to beli eve that it is, it is hardly eithe r an att ractive or a co nstruc tive goal fo r o ur soc ie ty. Robe rt Dahl writes, "De mocracy requires n eithe r o pulence nor th e material standards th at to d ay prevail in ad van ced industrial co u n t ries. It requires in stead a wid espread sense of re lative economic well-b eing, fairness, an d op portu n ity, a co n d itio n d eriv ed no t from ab solu te sta n da rd s but from p erceptions of rel ative adva n tage an d d ep rivati on .?" We are indeed a ca p ita list soc ie ty. Cap italism, h owever, provide s no t the en ds but th e means for our lib eral d emo cr acy. As we h ave seen fro m o ur foray thus fa r into America n corporate ca p italism, those very d emocrati c values of fairness , opportu nity, and relative equality remarked upon by Dahl are seve re ly j eopardized by the m ean s as th ey threat e n to swallow the en ds, ifnot to mak e th eir attain me nt impossibl e. While Dahl r eferred broadly to ad van ced industri al co untries, it 2S(j A M E R I CA NS A B ROA D

is n ot th e case th at all advanced indust ri al co un tries treat m at eri al wealth as th e end , at least in an ywhere near the de gree that Americans do." The Ge r man co nstitutio n, to ta ke just one exam p le, sta tes th at " p ro p ert y imposes duties. It s use shou ld also serve th e publi c weal.'?' While I will, in th e following pages, have occa sion to descr ibe h ow ca pital m arkets an d particul arl y th e effec t of Am e rica n cap ita l ar e p erverting this asp iratio n, it is clearl y th e case th at German corporations an d corp orate actors h ave long b eli eved that th eir prin cip al purpose is to produce goods an d se r vices th at better soc ie ty and that soc ial welfare and worker welfare are fundamental justifications for co r po ra te wealth.jap an ese co rpora tio ns, altho ug h unde r the same kinds of co n tem porary pressu res, h ave understood one of their primary purposes as being to provide employment for J ap an 's p eople. Needless to say, th ese func tio ns are very different fro m m aximizin g stoc k price, an d whil e co rpor atio ns in all co u ntri es re co gnize th e ne ed to profit in order to fulfill th eir goals, th e very differen ces in goa ls imply a much mo re co ns tra ined view of means, even given the importance of profi t. Mich el Albe rt divid es th e co r porate world into th e Rhin e m odel , in whi ch h e includes J ap an ese co rpora tio n s as well as co n tinen tal corporations, an d the n eo-Am erican model. One of the ways h e distin gui sh es th em is by suggesting th at " the n eo-Am eri can model is based on individual su ccess and short-term finan cial gain ; the Rhin e model . . . e m phasizes collective success, co nse ns us, an d long-term co ncerns.'" Foll owin g thi s, one mi ght think it ap propri"It is also no t the case th at all mat e riall y wealthy co un t ries treat de mo cra cy as a goal. Gre ide r notes th at Singapo re's p er ca pita in come exce eds th at of Great Britain 's, yet that co un t r y is gove rned by a hi ghly re pressive regim e . A~ h e puts th e issue , "Th e id eol ogical co nfusio n with in ca p ita lism poses a cr ucial question abo ut th e nature of globa l co nve rgence: Will nati ons grav ita te toward civil d em ocracy someth ing like Ame rica 's or will th ey decid e in stead th at success in th e marketplace requires th e productive efficien cy of a regim e more like Sing apo re 's?" Gr eider, On e World, 3()-37. Wh ile th e foll owin g pages q uestion Gr eider 's assu mp tio n th at so me form of co nverg ence seems in evitable , at least with respect to th e n ature of co rpo rate ca p italism , his point is well taken an d reminds us th at , afte r all, th ere we re producti ve efficiencies in Nazi Ge r ma ny as well. CA P I TA L IS M , SOC IA L IS M , A N D DEM O CR AC Y

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ate to understand Ame rica n ca pitalism as individual ca p ita lism, an d European and Asian capitalism as collective cap italism . Of co urse th is would b e an oversimplifica tion , as Euro peans an d Asians (as well as Latin America ns an d Afr ica ns) h ave an inte rest in th ei r own su ccess and well-b eing, but the over simplification cou ld be ex cused as a m atter of em p hasis. But it's n ot j ust ove rsim plifica tio n . For whil e Am eri can cu lture an d Am erican cap ita l m arkets are, for all the r easons I 've discuss ed , wildl y individualistic, th e Ame rica n corporate cu lture is aggregative. It is th e most powerful fo cal point for wealth and work in the world . As a conse q ue nce, on e might think of th e Ame rica n co rpora te ca pitali st syste m as b eing in one se nse intrinsically co llec tive. After all, th e La tin origin of th e word "corp orate" is "to make in to a body." One might arg ue, th erefore , th at th e co rpora tio n is intrinsically co llec tive, intrinsically co m m u nal. Well, if yo u' ve staye d with m e to th is point yo u know th at , alth ough th e re is truth to thi s agg regatio n with resp ect to th e co rpo ration's position in th e broader world , it is also tr u e that what goes on within the co rpo ra te st ruc ture beli es that co m m unality. But th ere 's more. You see , by in corporating an d thus creating an individual out of m any, we h ave e n dowed o ur corp orate actors with all of th e p ower an d rig h ts with wh ich we en do w ou r citize ns , th e very people whom Smi th contemplated as being at the core of a more individualistic co rp ora te syste m, an individualistic syste m th at worked p recisely b ecau se th e actors are peopl e an d are en dowed with all of th e moral autonomy I' ve ar gued has be en stripped from th e co r po ra tio n . T he co rpora tio n is indeed a co llec tive. But as Bowles and Gintis put it, "T he mo st p owerful form of co llec tive organization in contemporary capi talism - th e modern busin ess corpora tio n - is st rip pe d of its co m m unal sta tus in lib eral th eory. It is ignored in neoclassical economics, treated as a quasi-individual in law, an d co ns ide re d ' p rivate ' in public di scourse. Its sta tus as a form of soc ial powe r is th e reb y obsc ured an d its reality as th e ter rain of class con flict is systematically slighted.?" Not quite. In fac t co n te m porary n eocl assical econom ics, by d econ str ucting the co rp oration in to a system of marke ts organized within the shie ld of limited liability, has to so me ex te nt attem p te d 258

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to cor rect for thi s by restoring individual actio n within th e corpo ration . But it is a fiction and fails to describe the reality be cause it adopts for its maxim th e same goa l of wea lth maximization th at we h ave attrib ute d to th e co rporatio n . In so doing, it re ifies econ o m ic actors, that is, people , in exactly th e way I have claimed th at we have reifi ed th e co rporatio n. It thus d enies th e co m plex humanity of people, as it does th e co m p lex soc ial an d political aspects of th e corporation. Bec au se the corp oration itself is artificia l an d b ecause we h ave given it privileges, it will n aturally tend to o bsc ure thi s humanity unless we con scio usly understand it to be co m p osed of people an d there fo re to co llectivize all of th e m otivati ons an d interests of peopl e, rather than to treat it as a thing th at e m bo d ies a sin gle human ch aracter. In o ther words, th e American corp orat io n, in stead of being m ad e in ou r im age , h as remade us in its im age. This inv ersion has important soc ial implicati ons. Th e difference in the corp orate models th at exist thro ugho ut th e rest of the d evelo ped an d d eveloping world is th at th ey sta rt with th e rec og n itio n that th e corp oration is a human affair with human actors, human aims, an d human en d s. They privilege, even within th e co rpora tio n, th e r elationships that we h ave stripped from th em by leavin g its conduct to th e capital m arke ts. America n corp orate capitalism is th e aggregatio n of collec tive eco nom ic power with out th e temperin g influen ce of collective human power. It is a cap italism that, as we h ave see n, left to its own d evices, ca n ou tpace u s as citizens in a demo cracy. And as we shape o ur in stituti ons, so they shap e us. Th e shape th at we have taken from our corp orat e capitalism is th e shape of rati onal eco n o m ic acto rs, each m aking th e maximizati on of wealth our go al. In stead of co n t ro lling it, we hav e allowed it to contro l us . And in so doing, in ta king away our pow er to direct th e cor poratio n to improve our socie ty, we h ave d evoted o u r soc iety to improving the corp oratio n , and that, as we have seen in America , m ean s in cr easin g our wealth. We h ave taken th e collec tivity, th e soc ie ty, an d mad e it monolithi c in a way th at oth er ca pitalist cu ltures h ave not. We have crea ted a risk that cap italism will thrive at th e exp en se of demo cr acy. In co ns id ering th e valu es we ex port to th e rest of th e world, we must co nsider wh eth er we ar e exp orting our corporate capitali st system for the sake of democracy or democCA P I TA L IS M , SO C IA L IS M , A N D DEM OCR AC Y

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racy for th e sake of ca p ita lism. If th e latte r, it see ms likely th at democracy will not long last. In a democracy, the stat e is, however imperfectly, u s. It refl ects our h opes an d dream s, is an agg regate of o ur individual attem p ts to live lives of valu e an d m eaning. In American cor p orat e cap italism, th e economy is the stoc k-p rice maximizin g corpo ra tio n . If we pe rmit o ur ca pitalism to dominat e o ur d em ocr acy, it is th ose lives of m eaning we are sac rificing. O th er capitalist countries understand th is. Vacl av H avel famously proclaim ed th at th e Czec h economy would be " capitalism with a human face ." The very fa ct that he felt the need to de scribe the brand of ca p ita lism to wh ich h e aspire d in that way suggests how inhum an the d ominant world ca pitalism -America n ca p ita lism has be come . No t surprisingly, when the Czec h Republic looked to reform its co r po ra te law in a ca p ita list tradition , it turned not to th e Am eri can model , but to th e Ge r man. Not surp risingly,wh en Am erican advisors p ersu ad ed Russi a to ad op t Ame rican-style corp o rate law, th e Ru ssian economy tanked.vj apan , bowin g to p ressures fro m Am erican capital, has loo sened the system of life time employment, whi ch h as resulted in maj o r soc ial dislocati on. An d West European d emocracies, also yie ld ing to the might of Am erican ca p ital, are ex pe rie n cing the introduction an d proliferation of d evices like the h ostile tak eove r, with all of its socia lly disto rti n g conse quences, th at are inimical to th e valu es of co m mu n ity that ch aracte rize these soc ieties. Th ere are a number of d an gers in our ex portatio n of America n corp or at e capitalism thro ugh th e power of our cap ita l marke ts. One is th at our p roteges mi ght best u s. In th eir fasc inating book Chaos and Governa nce in the M odern World System, Giovanni Arrighi an d Beverly J. Silver draw p arallels betw een th e seventeen th-ce ntury co llapse of Dutch co m mercial rul e to th e financ ial h egemony of En gland and th e twen tieth-ee n tury co llap se of En gland to the "O f co ur se there are co m p lex reasons fo r this, in cludin g a legal syste m and m arket syste m th at were in ad equat ely devel oped to rel y upon a law th at so heavily de pe nded upo n self-regu lating and tr an spar ent ma r ke ts. Bu t th e gross inse nsitivity to a cultu re of aut hority and collec tive d ep e nde nce led to the creatio n of a syste m th at was an tago nistic to co re Ru ssian valu es. 2(jO AM E R I CA NS A B ROA D

Am eri can ce n tury. On e of th e signal hallmarks that th e e n d was near for each of the economically dominant nations was the excess of investment capital with insufficient domesti c opportunities, leadin g to th e investment of that cap ital abroad, whi ch en able d th e next-dominant country to expand and overtake the former. 10 The recent dram ati c in cr ease in Am eri can investment abroad p arallels these earlier developments, and while Arrighi and Silver mi ght not have a complete explanation for ch anges in financial lead ersh ip , this factor h as som e real ex planato ry for ce . Th e more we instruct the rest of the world in our me thods through our capital, the more we compel th em to ado p t our system in order to hav e acc ess to our investments and th e more likely it is th at we will find our future prosperity becoming dependent upon a power that has not yet rea ch ed its asce n da nc y. There is another risk . The ch eeta h population is dyin g out and can be saved, ifat all, only through science.The reason is that cheetahs are, as a result of inbreeding, more or less ge netically uniform . If one cheetah becomes infected with a deadly disease th at it is un abl e to fight, th e chances are good th at all cheeta h s will dis ap pear. So it would be if th ere were a uniform world system. When J apan and th e res t of Asia suffered economic decline in the 1990s , th e Am eri can economy did not co llap se becau se o ur system differs from theirs. When th e Russian economy failed, we were able to sustain our own. In the even t that we reshape th e world in our own im age, we run th e risk of th e chee ta h: fin an cial collapse in on e region could well lead to th e downfall of others. Fin ally, th ere is a more human risk. Although travel an d co mmunication have tended to homogenize world cu ltu re , that is, make it like ours, one of th e glories of th e world still is the diversity of ap p roac hes to life from co un try to co u n try. We ben efit an d learn from such variety. It is precisely that diversity that led to the development of our federalist system of government and is th e rall yin g cry of con ser vative fed eralist s in th e U n ite d Stat es today. To th e extent that we destroy that diversity, to the extent that we homogeniz e ec ono m ic systems to th e sam e d egree th at we are homogenizin g culture, th e opportunity for each nation to learn and improve through experimentation is lost. That is a serious risk indeed. C APIT ALISM , SOCI ALISM , A N D DEMOCR AC Y

2() 1

AMERICA RIGHT AND WRONG :

GROWING U.S. ECONOMIC IMPERIALISM

The N ew York Tim es re cently reported at len gth on th e war of attrition bei ng waged agai nst European business by American takeover artists and oth er cowboy ca p italists. Operating in cu ltures in whi ch patient capital and responsible management lo ng have been th e rule, cultu re s in whi ch th e e th ic of au to n o my is b alan ced by notions of individual and so cial responsibility, these U .S. businessmen, according to the Tim es, aim " to cut cos ts, increase profits and then sell o u t." And why Europe? Because "yea rs of co rpo ra te downsizin g and ot her measures have mad e it hard er today to squeeze new savings out of alr eady-lean Am erican companies." Lean? - or an orexi c? Te lecom Itali a abandoned p lans to spin off its wireless division. An gry sto ckhold ers co m plaine d th at th eir rights were being violated. And who were these an gry sto ckholders? American ins titutions in th e main, demanding th at stock prices be maximized. The ch ief investment officer at our old fri end TIAA-CREF went so far as to write a le tt er to the Italian government complaining that mi nority stockhold ers were being tak en advantage of and threateningly predi cting th at th e cre d ib ility of th e en tire Italian sto ck m ark et would be damaged . Maybe he was right. But the hand of stock-pricem aximizing Am eri can ca p ita l was all over th e d eal. As one report put it, "The juggernaut known as the glob al market is responsible, in several ways, for expanding shareholders' power in Europe . So

much of America 's fore ign in vestm ent ca p ita l h as poured into eq u ities in Western Europe - nearly $ 1 trillion .. . that Am eri can reverence for share h older valu e an d share holde r rights h as in evitabl y influenced th e att itu des an d pri oriti es of in vestors an d co m pa n ies alike. " ! While this com me ntat o r suggeste d th at co m p lete co nvergenc e of Eu ro p ea n an d America n for ms was unlikely given th e stro ng European sta ke holde r orie n tatio n, the pressure of Ame rican capital is increasin gly h ard to resist. On e of the most kn owled geable o bservers of co r po ra te financ ial structure , Caro lyn Kay Brancato, re cently wrote , "T he ec on o mic power an d co rpo ra te gove r nance influen ce of US investors in glo ba l m ark ets is [sic] undisputed. US institutio n s co n trol th e largest p roportion of glob al in vestment."2And she 's go t th e numbers to ba ckit up . According to th e l nst itutionalln vestrnent Report sh e prep ar es fo r th e Co nfere nce Board , Am eri can in stitu tional in vestor fin an cial assets were over " ten times th ose of France an d Ge r many an d almost fo ur times th ose ofJa pa n ." America n instituti on al assets co m p rised 66 .8 p ercent of the total in five maj or economies." She further no tes th at TIAA-CREF itself "represen ts much of th e sto ck market ca pitali sation of so me Asian co u n t ries ."4 While 49 .2 p ercen t of Am erican in stitu tions' equ ity in vestm ents were m ad e by p ension funds, incl udi ng h eavy parti cipa tio n by TI AA-CREF an d by sto ckholde r value activist CaIPERS, money managers co m prise a large and fastgrowing segme n t as well. An d thi s cap ital is hi ghly co ncen tra te d . Six ty-six pe rcent of for eign eq uities h eld by America n in vestors toward th e end of 1999 were owned by th e twen ty-five larges t American p en sion fun ds in vesting in internati onal sto ck, an d " th e lar gest 20 active eq u ity man agers with interna tional h oldings h ave portfolios . . . [r epresentin g] sligh tly more than 67 p ercent of . .. total for eign eq uity in vestm ents h eld by all U.S. in vesto rs in 1998. " a Am eri can influence is further co m pou n d ed by the dramatic gro wth of eq uity issued by fo reign co rporatio ns in th e Un ite d Sta tes."Ame rican ca pital is a m aj or exp or t, an d its push to unlock stockholder value throu ghout th e world is very powerful indeed. "Bran cato notes d ifferences in tur nove r rat es from a relatively low 16 perce n t for indexed funds to ove r 95 percent for agg ress ive grow th fund s. A M E R ICA RI GHT A ND W RO NG

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A report in th e Economist in April 2000 analyzed th e trend of European corp or ation s toward de conglomeration . Big, powerful European co nglomerates were being broken up by th eir managem ent. Wh y? Th e Economist reporter exp lained it as rati onalizin g businesses tha t were built for growth and stab ility and applauded th e m ove. Wh at did h e m ean by ra tio nalizatio n? Maximizin g stoc k prices. As th e reporter somewhat ar rogan tly put it , "At long last , th e m essage is sinking in .?" H e ap p lau de d the r estructuring of Siemens, whi ch aime d to d est ro y "the co m pany's cu ltu re of co m placency an d conc en trat e on finan cial performance, installing a former investm ent banker as fin an ce ch ief. Some 60% of top managers' p ay h as b een linked to targets for re tu rn on capita l." The former World Bank chief economistJoseph Stiglitz recently co m me n te d o n th e disaster th at h as been th e priv ati zati on of East European economies. H e co n traste d th e approach of what h e calls "sho ck th erap y," which be came the m ethod of choice and was largely push ed by th e Un ite d Sta tes an d "international fin an cial ins titu tions " (presumably including the World Bank and the IMF) , with th e "gra d ualist" m ethod advocate d by "specialists in the stu dy of th ese cou n tries an d co m p arative econ o m ic syste ms , an d th ose who b elieved there was more to a market eco n o my th an 'free markets.' "7 Th e economic an d id eological impe rialism of American advisors resulted in a disaster in Russia, where an American-style co rp orate law was push ed , ad opted, an d failed, failure elsewhe re, an d a false start in th e Czech Republi c, whi ch initially ap peared to be one of the bright spots for privatization ." Is ca p ita lism specific to ce r tain cu ltu res? It d oesn 't see m SO . h Poland an d Slovenia m oved at th eir own pa ce and , d espite so me setbacks, have been re latively successfu l in th eir tran sitio n to capitali sm .? But perhap s th e brand of ca p ita lism th at a n ation ad op ts is more cu lturally specific than Americans are willin g to admit. As Stiglitz put it , "T he failure of th e tran sition is not a fa ilu re of ec onomic th eory, but it is a d amning indi ctment of th ose who rely on "At least if wh at we mean by ca p ita lism is so meth ing o ther tha n th e very specific idea, put forth by Max Weber, of acq u isition for its own sake .

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simpl e textbook models or naive id eology."!" At least th e advisors were thinking and well intentioned. Capital markets don't think. The id eology of th e Am erican fr ee market system is, as I discussed in th e beginning, bas ed upon th e tenets of Enlightenment liberal philosophy taken to extremes. Whether or not we have perverted th at philosophy, however, it is not universal. It is, historically, a pe culiarly An glo-American doctrine .!' In his fascinating book American Ex ceptionalism, Seymour Martin Lipset claims that th e full developm ent of lib eral philosophy is uniquely American. '? Enli ghtenment attitudes in France, most notably in the philosophy ofJeanJ acques Rousseau , stressed an id entifiable common will. German policies of soc ial solida rity developed an d were implemented by O tto von Bismarck and , while take n to ex tremes that led to disastrous conse q ue nces, h ave remain ed intact in a more co nstr uc tive way as Germany has reformed. Strong family ties, apparent in the ownership structure ofItalian corporations, characterize Italy. And it h ardly n eeds noting th at th e An glo-Ameri can (r eally Scottish) Enlightenment was no part of East European or Asian culture or, for th at matter, th e cu ltu re s ofAfri ca or Latin Am eri ca." Yet it is this brand of market cap italism , based on th e primacy of individual choice, individual autonomy, th at we are exporting to the rest of the world. It 's n ot terribly h ard to p redict th at , even if th ere is so me move toward convergence, it is a convergence tha t is unlikely to last, at least without ca usin g some serious d amage to other cu ltu re s and ec o nom ies. And if it d oesn 't last, th ese cultures may pa y a very h eavy

' O ne co m me n ta to r interestingly notes th e divid e in Easte rn Europe between co un t ries th at have more successfully moved to ca p italism and th ose th at have not as co r re spo nd ing to th e divid e betw een th ose who were historically under H ap sburg rule -with its "tradition of ed uca tion , ad m in istra tio n and co m me rce, backed by a middle-class th at look ed west" - and th ose "wh ose history is bound up with Byzantium and Orthodoxy." "E uro pe : Flickers of Eco no m ic Light," Th e Economis t, Se pte m be r 5 , 1 ~H) 8 , 4 7. Leavin g aside th e whiff of cult ural superiority implicit in th e co m me n t, one notes th at th e point d oes suggest tha t th e successfu l introduction of ca p italism d ep ends at least in part on sens itivity to tradition al and cult u ral norms.

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pri ce in th eir atte m p t to ret ain or regain th eir cultural integrity in the wake of potentially sig nific an t social di slocation. O th ers h ave ob served th e tr end toward cu ltu ra l co nve rge nce in th e m edia, product ma rk ets, an d in creasin g world taste for American popular culture .!" My point is that th ere is a deeper aspect to th e culture th at is e m be dde d in o ur very style of ca pitalism, a culture th at we h ave th e pow er to push in light of th e stre ngth of our capital marke ts, but a cul ture we sh o uld b e wary of exp orting and others sh o uld be wary of acce pt ing. As Lip set puts it, "[The Ame rican Creed 's] emphasis on individualism threatens tr adition al forms of co m m u n ity, m oralit y, an d th us h as hi storically p romoted a p articula rly virule n t strain of greedy behavio r," !" an atti tude whi ch does not characterize much of the res t of th e world. The problem is th at ca pital m arkets are in creasin gly d omin ating th e will, if n ot th e p ower, of foreign gove r n me n ts and cultures to r esist. " Do we reall y want the world to look like us? Maybe Te lecom Itali a's min ority stoc kh olde rs were being hurt. And maybe big, diversified co nglo m erates are not a good idea. Ce r tain ly Ame rica n m an agers h ave decid ed th at they' re n ot . Maybe a form er investment b anker will turn o ut to b e a good man ager for Siemens' sta ke holde rs an d for Ge r man society as a whole, alth o ug h one sus pects th at th e choice of an investm ent banker res u lts from a de cision to maximize sto ck prices . Bu t th e relevant point for our purposes is th e em p hasis on stoc k price maximization , an em phasis clearl y res ulting from the pressu res of America n ca pital. Corporations built for gro wth and stabilit y may not re turn the hi ghest profit to ca p ita l. But th ey d o maintain em p loyme n t; th ey do co n tin ue to p rovide th e goods and se r vices on whi ch co ns u me rs depend. And wh at one com me n ta tor see s as a " cu ltu re of co m p lace ncy" can also be see n as a culture of com m u n ity an d coo peratio n in co n tras t to the hi ghly individualistic cu lture of both American managers and workers reported by Lip set.!" It is possibl e, is it no t, th a t the desir e to maximi ze stoc kholde rs' wealth is not a universal valu e? Nor is it at all clear that th e drive to maximize sto ck price is effec tive. We 've already see n th e ex te n t to whi ch th at pursuit in a globalized ca pital market h as damaged the prosp ects of Am erican workers. As Jeff Faux an d Larry Mish el writ e , th e gr eat est increases 2(j(j A M E R I CA NS A B ROA D

in in com e in equality during the I 980s an d I 990S occ urre d in th e stro ngest adherents to th e Am eri can way, th e Uni te d Sta tes and Great Britain . Moreover, while soc ial safe ty n ets h ave protect ed th e displ aced in other ca p ita list econom ies, p overty grew by 2 -4 perce n t an d 5.4 p ercent, r esp ectively, in these co u n tries from 19 79 to 1991. Faux an d Mish el point o ut that globaliza tio n of the stoc k p rice drive h as n ot on ly diminish ed Ame rica n wo rk ers' in comes b ut h as do ne littl e to improve overa ll inc ome growth an d productivity. They co mpare th e re lat ively stagnan t 197 0S an d th e booming 1950 S an d 1960s to th e 1990S and find th at per cap ita in come gro wth in the latter peri od was actually so me what less th an in th e seventies an d considerably less than duri n g the growth spurts of the fifties and sixties. As I have arg u ed, th e diminution in wor kers ' co m p e ns atio n h as been to th e ben efit of ca p ita l. An d th e p ower of th e glo ba l cap ita l m arkets h as given cap ita l gre atly in cr eased bargaining pow er over lab or. Faux an d Mish el fin d th at Am erica n prod uc tivity growth h as be en the same "s luggish " one p ercent during the 198 0s and 1990S th at it was during th e seventies, an d th ey cite OEeD figures to show th at U .S. productivity is no b ett er th an that in Ge r many, Belgium , Fr ance, Italy, an d th e Netherla n ds .l? Europe offers fres h ne w bloo d , an d American investm ent bankers and buyout specialists like Goldman Sach s, Morgan Stanley, Lehman Brothers, an d KKR h ave p articip at ed in some of the biggest European acq uisition fights, in cludin g Banque Na tionale d e Paris' atte m p t to buy Paribas and Societe Cen erale an d Olivetti 's bid for Te lecom Itali a. T h e n ew h ostile activity in Euro p e, catalyzed by Americans, led Business Week to predict at least a $ 1 trilli on m erge rs an d acqu isitions busin ess o n a co ntine nt long kn own fo r co rporate stability. These cor porate guns lingers have been me e tin g so me resistan ce fro m Europ ean execu tives raised in cu ltu res that em p h asize respons ibility and schooled in lon g-term , hum an e, res po nsib le Europe an corporate practices. But it ap pears that the Am erican way is winning, aide d by th e fea r of tak eover, sto ck ma rk et e nvy, an d th e allure of gargan tuan , Ame rica n-style executive salaries . (N ot lost o n th em are suc h exam p les as Mich ael Eisner, wh ose 199 8 payyear AM E R ICA RI GHT AN D W RO NG

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amo unted to $575.6 m illion , and even Margaret Wh itman , hired as eBay In c.'s CEO in February 1998, who finis hed the year with $43 mi llion fo llowing the company's ini tial public offering.) Legal "reforms " that make tak eov ers easie r and strength en minority sto ckholder r ights have been adopte d in Italy and Germany and are b eing conside re d in Fran ce."

WATCH ON THE RHINE

It won't come as any surprise to readers that bas ica lly two mode ls of corporate capitalism dominate th e West ern world ." T h e first is th e model I h ave been describing throughout this book, th e An glo American model, whic h, with some legal and cultural variation, charac te rizes th e corp o ra te ec o n o m ies of th e Anglo-American world; the second is th e West European model. (In speaking of an Anglo-American mo d el, I recognize that England and Ca nada, for exam p le, h ave more far-re ac h ing social welfare progr ams th an th e United States and th at Australia has a stronger lab or tradition, fea tures th at am eliorate th e h arshness of th e system in those co u n tr ies. Su ch differen ces have led Michel Alb ert to distinguish the American system from that of the rest of th e English-speaking world and term it a "nco -Ameri can model ." Nevertheless, I will refer to th e "Wh ile it might a ppea r o n th e face of thin gs th at minority stoc kholders ' rights ar e a good thin g , m an y Euro pea n corpo ratio ns are charac te rized eithe r by own ers h ip of a co n tro l b lock in the hand s of founding fam ilies (It aly, Fran ce , Ge r ma ny) o r by banks whi ch e ithe r own sha res o ut righ t o r act as d epositories for sto ck ho ld ers and have the power to vot e th e shar es (Germ an y.) There is no d oubt th at thi s limi ts th e power of min ority sto ckholders. But th e minority sto ckho lde rs weren't co m plain ing until Ame rican ca p ital becam e minority sto ckholders in th ese co un tr ies, presumab ly becau se th e stab ility o f th e owne rsh ip structure provid ed social ben efits like co rpo rate survival an d continued em ployme n t.

"I hope J ap an ese read ers will forgive my inclusion of th eir ec o no my (b ut not necessari ly th eir cultu re ) as part of the West ern wo rld , for surely west is th e princip al o u tlo o k of th e J ap an ese ec o n omy. And includingJap an as a West ern co rpo rate sta te is not unpreced ented. See Mich el Alb ert, Capitalism us. Capitalism. 2(j8 A M E R I CA N S A B R OA D

An glo-Ameri can model becaus e , for my purposes of analyzing disparate corporate systems, the two are more alike than they are different, even if important socia l differen ces make th e British, Australi an, New Zeal and, an d Canadian models less d amagin g to th eir societies.) IH The Anglo-American model is one in whic h corporations are run for th e sake of cap ita l, with bo ards of directors an d managements that are h eld directly responsible to cap ital, primarily through a series of laws and practice s th at attempt to ensure board independen ce from m an agem ent (and from labo r, too, for th at matter) and prohibit management from serving itse lf at the expense of capital. As we have see n , th ese laws are relatively in effective in en fo rce me n t, if n ot in symbolism. This model is ch aracterized also by tran sp aren t capital markets to which corporations are responsible for providing informati on an d rough ca p ita l m arket equality en sured by laws prohibitin g fraud and insider trading. Although this litany of laws might suggest that th e Anglo-American model is a hi ghl y regul at ed on e, th e realit y is th at co rp o ra te law does relatively little as a governance matter. Most of the work is don e through fed eral regu lation of ca p ita l m arkets an d tak eover markets, whi ch themselves provide little regulation be yond th e (ver y important) requirements of disclosure an d th e prohibition aga ins t fra ud . Th e very str uc ture of th e model , n ot to m ention th e norms whi ch have come to govern it, demands stock price maximization as th e corp orate goal. The West European model is, at lea st tr aditionally,rather dissimilar from th e Anglo-American. I borrow Albert 's term "th e AlpineRhin e model " of Germany, Switzerl and, an d Scandin avia (in whi ch he includes th e Japanese model) to refer to it. I will casually use it to refer to th e rest of Western Europe as well, for whi le Sp ain, France, an d Italy h ave unique differen ces, th ere is com m o nality in th e social and societal aspects of the model, which clearlyjuxtapose all of th em with the Am erican tradition of in vestor capitalism. And whi le th ere are con side ra b le vari ations am o ng th e co rp o rate laws of th e countries that u tilize some form of this model - French boards and m an agers, for exam p le, are selected in a m anner very unlike German ones, and the J apanese method differs from both of th ese - I b elieve th at the tech n ical legal characteristics of these corporations A M E R I CA RI GHT A ND W RO NG

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are less important than th e social and cultural for ces that hav e shaped them. The clearly distinguishing feature of countries which adopted th e Alpine-Rhine model is that all of th em treat th e corporation as serving social goals b eyond simple sto ck pri ce m aximization, and all of them are situated in cultures in which cooperation an d com m u n ity are highly prized. I !! This is a matter as much of ownership structure as oflaw, with substantial bankholdings ch aracterizing German corporations, heavy government involvement in Fr an ce, strong family own ership in Italy, an d th e famous system of crossholdings known as keiretsu in Japan . Under the pressure of Am erican capital, law reform effo r ts under way in th ese countries are atte m p ting to break th ese co nce n tr ate d owne rsh ip str uc tu res and make them look more like the American, regardless of th e n egative aspects of th at structure. Albert, envisioning an ultimate battle of capitalisms throughout th e world and predicting the ultimate success of the " m o re efficie n t," "more equ ita ble " Alpin e-Rhine model, notes, "Each of these models [the neo-American and Alpine-Rhine] belongs to the lib eral ca p ita list family by right, yet eac h car ries an inner logic whi ch con trad icts the other. The battle may ultimately com e down to a confrontation be twe en whole value-s ystems, an d on its ou tco me will be decid ed th e an swers to suc h issu es as th e individual 's place within the company, the function of the marketplace in socie ty, and th e rol e of law and authority in international ec o no m ic affai rs."20 Precisely so . Yet it appears that Albert, writing in 1993 , was too optimistic , at least in th e shor t term. Wh at I h ave shown so far unmistak abl y su gge sts the in creasing dominance of the American model. In order to explore this further, we must dis tinguish be tween claims abou t legal an d str uc tu ral differen ces between kinds of co r po rations and attitudinal differences. While I have been at great pains to point out that th e legal structure of th e Am erican co rp oratio n is a m ajor, if not th e major, facilitator of th e eth ic of sto ck price m aximization , I have been careful to emphasize that this approach itself is a conseq ue nce of Am eri can social thought an d att itu de an d th at it is law and structure whi ch make it possible . Indeed, even in th e

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U n ite d Sta tes, th e law an d st ruc ture predate th e att itu de, eve n if th e latter is implicit in the former and even if the attitude can be traced to our earl iest d ays as a n ati on. There are marked legal di fferences among th e world's corporations, but th ere is so m e debate over how important they are in terms of creating stoc kholder power over corporate man agers an d, as a derivation of th at , ca p ita l p ower. For whil e issu es lik e th e m ann er in which the board is ele cte d an d m an agement is ap p ointed an d th e str uc ture of th e board an d m an agem ent gro u ps suggest real divergences in atti tude , for th e most part board ele ction is a stoc kholde r matt er." Co nse q ue n tly, o ne mi ght ex pect th at all co rporat e systems in whi ch th e ultim at e res id ual powe r lies with th e shareholders would exhibit th e same typ e of atti tude toward sto ck price an d stoc kholde r welfa re . As I hav e so far suggeste d, they don't . One rea son may be th e ext ent to which corporations in a given system rely upon equity mark ets for th ei r ca p ita l. In Germany, wh ere , despite a co m p lex language th at cr eates new words out of multiple roo ts, no word ex ists for "stockh old er value," banks, n ot stoc kholde rs, are the principal so urce of ca p ital. Co rporatio ns an d b anks form web s of cross-stockholding in J ap an.22 This m ay b e ch anging, especially in Germany with th e enormous in flux of Ame rica n ca pi ta l in to th e German sto ck market and th e substan tial merger activity it has ge nera te d . Moreover, as a result perhaps of cross-bo rde r m ergers suc h as th at of Daiml er-Benz with Chrysler, German corporations as well as other foreign corp or atio ns are in creasingly availin g themselves of Ame rica n ca p ita l markets. To th e ex te n t th at things are changing, it is ap pare nt that legal st ruc ture alo ne is n ot an impedim ent to a co rp orate attitu dinal shift: toward stoc kh olde r valu e. More important th an law, pe rh ap s, is ownersh ip st ruc ture . As I' ve n ot ed, Am erican cor p o ratio ns, at lea st the r elatively lar ge Ame rica n co rporatio ns with whi ch we h ave been co ncer ne d, tend to be characterized by a se para tio n of ownersh ip an d co n trol. T hat is, stoc k is fairl y wide ly dispersed in the hands of far-fl un g in vestors, an d whil e th e rise in in stitutio nal ownersh ip I di scu ssed in chap ter 7 h as had some effect o n th is by co nce ntrating owners h ip , we have

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seen that, for th e most part, institutional sto ckholders co n tin ue to behave in the relatively passive way tha t American stockholders always hav e, thus suggesting no gr eat ch ange from th e norm. But not all corp ora te systems h ave dispersed own ership structures. Quite the contrary, in fact. Rafael LaPorta and his coauthors con d uc te d an exte n sive and d et ailed survey of th e own ership structure of corp oration s in twenty-seven wealthy co un tries and co ncluded th at , in both large and medium public corporations, widely dispers ed own ership is quite rare. In fact, th e German model of ownership concen trated in banks is rare, too . Far more common in th ese countries is a system in whi ch families or th e state own controlling inte rests in th e m ajor co rp o ratio ns. Thus th e Am e ri can model as an ownership model, and as a structural and normative model, is relatively un common.F' As La Porta and his colleag u es see it, the corp or ate ownership structure in various countries is not unrelated to law. But the specific laws th at th ey find co r re lative with own ership structure are laws governing minority stockholder rights. Not terribly surprisin gly, th ey find th at co ncen trate d own ership is greatest in those co un tries whi ch provide weak legal prote ction for minority sto ckholders an d leas t prominent in countries that provide strong min ority stoc kholde r rights. (Th ese rights include n ot on ly th e right of each share of each class of stock to be treated equally, but also, an d perhaps for th ese purposes most important, eq ua l rights to hav e access to con trol premia in th e ma rk et for co r porate con trol. In blockholding countries, control blocks tend to be sold privately, an d minority sto ckholders remain as a so rt of perman ent ca p ita l, at the mercy of con tro lling interests.) And La Porta et al. do not see any likelihood of ultimate convergence upon an American-style model, lar gely becaus e of th e intractability of en tre nc he d co n t ro llin g corporate interests.s! Interestingly, the countries with weak minority sto ckholder protections principally ar e those whose legal system is bas ed on civil law, whil e th e cou n t ries with strong protections are those whose legal system is based on common law, whi ch of co urse are the anglo ph o n ic co un tries. I don't want to car ry th e point too far, but not unexpectedly minority stockholder protections appear in countries which lay 2 72 A M E R I CA NS A B ROA D

greate r e m phasis on individual autonomy. Aft er all , to say that minority stockholders have important righ ts in a system in whic h almost all sto ckhold ers ar e minority sto ckhold ers is to say that th e individual sto ckholder m atters, th at th e system is d esign ed for him . In socie ties that p lace a greater stress on the co llectivity, on the com m u n ity (and in wh ich, p erhaps not coinc ide n tally, sto ck own ership is most h eavily co nce n trate d ) , it shouldn't b e terribly astonishing to see th e individual subordinated to th e common good by a re lative lack of righ ts. This of co urse puts th e best sp in on th e pi cture .' It implies tha t concentrated ownership makes for stable own ership , and th at allows th e cor po ra tio n to b e run in th e longterm interests of the worke rs, th e co ns u mers, an d th e soc ie ty. An d it is also no surprise to see that these ownership structures tend to co r re late with co u n tries th at h ave greate r soc ial welfare program s and provide greate r downside protecti on tha n th e an glophonic

'To put a no ther sp in o n it, La Porta a nd h is co lleagues found th at th o se co u nt ries wh ich provided greater sto ckholder prote cti on h ad larger ca pital market s a nd greate r access to ex te rnal (tha t is, foreign ) ca pita l (both d ebt a nd eq u ity) , a nd th at co m pa n ies with hi gh e r ca p ita liza tio n ra tes a lso had fa ster gro wing eco no mies . T hese stoc kho lder p rote ct ions ge ne rally co r relate d with wh et he r a co u n tr y's laws were based o n co m mo n law (the anglo p ho n ic co u ntri es) o r civil law (most o f th e rest o f th e world) . Rafae l LaPorta , Floren cio Lope z-de-Silanes, Andrei Sh le ife r, a nd Robert W. Vishny, "Legal Determinants o f Ex te rnal Fin ance ,".f. Fin. 52 ( 199 7) : 1 13 1. Fau x 's numbe rs suggest th at American productivity gro wth has in fact not been sig n ifica n tly greate r, if at a ll, th an the a ng lophon ic co u n t ries in rece n t years despite la rge r ca pita l market s. Moreov er, LaPorta' s find in gs are not co nclus ive o f th e issu es I raise in thi s bo ok, eve n if th ey a re co r rec t. Whil e he a nd hi s co lleag ues specu la te th at we ll-devel oped ca pital market s mi ght have so me relati onship to trust (wh ich I will tak e up la ter ) , it may we ll be th at m ore d evel oped co r po ra te soc ial values in civil law co u n t ries lim it mi nority stoc kho ld er p rote cti ons in favo r o f th e greate r sta bility a n d gro wth th at relatively in vu ln erable protect ions agains t ca pita l m arke ts a llow. In o ther wo rds, wealth maxi mi zat ion m igh t not be a valu e in suc h co u n tries, a nd th e sac rifice o f m inority stoc kh o lder interests co uld we ll be th e price th ose socie ties are willing to pay in o rder to maintain a greate r commu na l a nd soc ial co ns c ie nce withi n th e ir co rpo ra tio n s, particularly with resp e ct to issu es o f e m ployme n t a nd the me aning o f wor k. A M E R I CA RI GHT A ND W RO NG

273

co un tries in whi ch th e model of wid ely dispersed sto ckholding exists. Corporations that have concentrated ownership are , whatever th e law - unless it is simply co nfiscato ry - r elatively take over-pro of, an d m an agement in su ch firms h as less fear of b eing ousted b ecause of poor stock price performance than that in corporations ruled by ca p ital markets . Th e dark sid e, of co urse , is that co n tr olling sto ckholders, esp eciall y in countries with weak minority stockholder protections, are able to divert corpora te resources to th emselves, to th e ex clusio n of minority stockholders. In th e academic literature on comparative corp orate governan ce , this is gen erally d ecri ed as a bad thing, and , from th e p ersp ective of th e Am eri can corporate syste m , it is. But it need not be viewed as necessarily bad , at leas t when "side paym ents," or bribes, in co m mon parl an ce , m ad e by managers to co ntrolling sto ckholders are kept within reason. For while suc h prefere n tial treatment might well divert some wealth from minority sto ckholders to con t ro lling sto ckholders , it is possible an d not at all unreasonable to regard tho se payments as the price of a system whi ch prizes valu es of stability an d con tin uity over maximizing returns to sto ckholders. If indeed th ese structures ar e more stable, th ey are so both because of th e wagon-circling effect of controlling interests an d because minority stoc kholde rs are ade quate ly, if n ot maximally, compensated. Controlling sto ckholders may ver y well ac t as r eal own ers, with broader notions of co rp o rate success, than th e Am eri can stoc kholder we saw in chapter 6 . And if min o rit y stockholders are willing to accept adequate , and not maximal, comp en sation , it presumabl y is becau se th ey, too, valu e th e soc ial result of a syste m of stable , long-term co rp o rate owners h ip. It is tr u e that minority stockholders in many of these cou ntries (Germany, it see ms, in p arti cul ar) are beginning to become restless and more demanding of rights and value . But that is a fairl y re cent d evelopment-remember, th ere's no German word for "stoc kholder valu e ") - roughl y cote r m in o us with an d surely d eriving from the extraordinary growth in American equity investmen ts abroad . There was n o great outpouring of minority stockh older sen tim en t abroad until Am eri can cap ital b ecame involved. This book is not the place to go into an extensive ex amination of 274

A M E R I CA NS A B ROA D

com p arative international cor po rate law or of th e legal systems of nations and the advantages and disadvantages of their structures over that of th e United States. For what I hav e said so far should make th e point clear: th e overwhelming pow er and influen ce of American capital are changing everything, creating nearly irresistible pressures on corp ora te systems throughout th e world to replicate th e U.S . model for the ben efit of Am eri can investors. To th e extent that I am right in claiming that th e American system disse r ves even American investors in a society in whi ch at a minimum it accords with social and cultural norms, however distorted, it is a short step to con clu de that th e ex p o r ta tion of Am erican corporate ir resp onsibility serves n obody's long-term interests. It is time th at we stop to look at what we are doing, at home and abroad , curb our desir e for ever more wealth at th e ex pe nse of a h ealthy world , an d de velop more con sid ered and sustainable approach es to reform.

A M E R I CA RI GHT A ND W RO NG

275

CONCLUS ION

Th e sta te of Ame rica n corporate ca p ita lism is th e p roduct of a structural and a legal system grounded in a uniquely American tradition an d su ite d to th at tradition. Th at system , h owever, whil e conc ep tu ally so un d and co nsiste nt with our democratic ideas of power and responsibilit y, h as gone seriously awr y.T he fau lt lies with nobody in particul ar an d everybody in ge nera l. Fo r th e system has grown and deve loped in a way that reflects not careful, considered pl anning, but instead th e unthinking for ces of a relatively unconstrained cap ital market . It is both our benefit and misfortune th at th e corporate structure is highly sensitive to these market pressures: ben efit becau se wh en m arket ac to rs are th oughtful an d co n trolle d and corporations are res trained by considered so cial policy, th ey are ex treme ly efficie n t at allo cating resources in ways that lead to th e p roduction of desirabl e go ods and services; mi sfortun e because our personification of the corporation and our consequent unwillin gness to regu lat e it allow selfish an d unrefl ective ca p ita l markets to take the p lace of co nsidere d policy making . The result has been no t policy, but reaction, and reaction by boards and managers who are con straine d both by law an d human instinct to bow to th ese pressures rather than to resist them . T h e conseq uence has been for Am erican co rp oration s to develop a wid espread, ifnot universal, fo cus on th e short term, a focus aimed at raising short-term sto ck prices at the expense oflong-term pl anning , a focu s whi ch results in an unsustainabl e rush to m ak e money now rather than to p lan for th e future, a fo cus th at results in the displace m ent of the costs of that short-term vision on workers,

th e enviro n me n t, cre d itors, su p plie rs, co ns u me rs, an d en tire co mmunities, a focu s whi ch indeed has affe cted the way we th in k about o urse lves an d our soc iety an d thus h as perverted an d threat ens to overwhelm o ur d emo crati c tradition an d h as led to th e pursuit of individual gain over th e de sire for greater societal well-being. These are results th at n o thoug h tfu l p erson sho uld wan t, an d yet eve ry th oughtful person is trapped in the dil emma of foregoing econ omic b etterment for the sake of principle or going alo ng for the ride. Gove rn me n t largely h as forsa ke n its ro le as solving this co llective action problem through re gulation , and business leadership is as ca ug h t up in th e cycle as the rest of u s. The str uc tu re is not intrinsically bad, but its oversensitivity to th ese pressures h as led us to a bad p lace . Nobody is in ch arge. T he solutio ns I h ave suggeste d are not to change th e st ruc tu re excep t ar ound the edges. Ce n tr alize d co rporate management is part of its great efficie n cy. Bu t the unconstrain ed corp o ra te ability to p ro fit any way you ca n leads to immoral an d ir resp onsibl e behavior. And the structural roles we have created for corporate managers allow th em to d en y accou n ta bility, to fa ll b ack o n the old defen se th at th ey are only foll owin g orde rs. Nobody doubts that lo ng-ter m manag ement is b ett er than shortterm management, th at fo regoi ng some wealth today will brin g greater, more sustainable wealth tomorrow. Nobody doubts that long-term man agement leaves greate r ro o m for resp onsibl e an d accoun table be havior, p reventing p ro blems like environ me n ta l de gradation and economic inequality instead of leading to th e much mo re cos tly soc ial alte rnative of cleaning up th e m esses afte r th ey've b een made. Long-te rm m an agemen t is b etter for all of us, from the wealthiest executive to th e j anitor who swee ps the factory flo or. How d o we cu rb th e p ower of the market? How do we ensure long-term m an agement? I h ave m ad e a number of proposals, most of whi ch are aime d at overcom ing our collec tive actio n probl ems by crea ting in centives for co m m u n al restraint. Bu t the most important solutio n is n ot legal; it is n ormat ive. At a tim e wh en o u r professions - m edicin e, law, and even tea ching (with the introduction of co rporate sponsors into classroom instruction) - h ave remad e th emC ONCLU SI ON

277

selves ever more in th e model of profit-maximizing business, it is time that we tu rned to business as a profession. It is tim e that we fr eed corporate managers to do th e right thing, to provide ex ac tly th e kind of ec on om ic lead ersh ip th at our co rpo ra te ca pitalism id eally leaves it to business leaders to provide. It is not some thing that we ca n fairl y ex pect th em to ach ieve in a leg al system th at treats th em with distrust, that assumes that the y will steal or slack off if not constantly watched or pressured by mar kets. I t is not so m eth ing we ca n fairly expect th em to achi eve if th ey are co n st ra ine d by structu re and markets to focus on the bottom line h ere and now in order to keep th eir jobs an d e nsure th eir own welfare and that of th eir families. It is some th ing we can fairl y expect only if we free man agers to do what it is they do best - manage our business economy - an d fr ee th em with th e kn owled ge th at we will hold th em acco un tab le for the means they ch oose to accomplish that end. It is something we can achieve only if we free them from th e need to be slaves to th e market, to be chained to th e bottom lin e. Freedom. Freedom to behave in accordance with the lib eral id eal. Freedom to act as a n atural human being, situated in so ciet y an d in a moral an d eth ical environment that allows all of us to make our choices and th at hol d s us to account for the choices we make. Freed om th at co mes o n ly if we br eak with th e n oti on th at co r po rations are people, and instead demand th at they be run by people . The only alte r n atives I see ar e our even tual self-destr uc tio n or extensive regul ation of busin ess by govern men t. Neither alt ern ative is attractive . It's time to change our attitude toward corporations so th at th ey behave like us, in stead of allowing ourselves to beh ave like th em.

278

C ONCLUSION

NOTES INTRODUCTION 1.

For an analysis of the development of th e e thic of stockhold e r value, see Allan A. Kenn edy, Th e End

ofShareholder Valu e: Corporations at

the Crosslloads (Cam-

bridge : Pers eus Publishing, 2000 ) . 2.

Gre tchen Mo rgenson, "A Co m pa ny Worth More than Spa in ?" New York Ti mes, December 26, 199 9, sec. 3, p . 1.

3. Jo hn Tagilabue , "Res isting Those Ugly Am eri can s: Co n te m p t in Fr an ce for U.S. Funds a nd In vestors," N ew York Times,Janua r y 9 , 2000, sec. 3, p .

I.

4- Judith Mille r, " Glo ba liza tio n Widens Rich-Poor Gap , U.N. Re po r t Says," N ew York Times,July 13, 1999 , A8; Uni ted Na tions ' Hu man Deuelopment Report 19 99

(Oxford: Oxford Un iversity Pr ess 1999) .

5· Uni ted Na tions' Hu man Development Report 199 9 · 6. Short -te rrnism in Ame rica n corpora te life is a su b ject ofl ively deb ate . On e of my princip al go als h er e is to e xp lain how short-ter rnism is stru cturally embed ded in o ur econ o mic life . For a n eco no m ic ana lysis of the short-ter mism of Am er ican business, see Michae l E. Porte r, Capital Choices: Changi ng the W lY A merica Invests in Indu stry (Wash ing to n : Co unc il o n Co m pe titivenes s, 199 2) .

Porter's study was supported by th e Co un cil on Co m pe titiveness a nd th e H arvard Busin ess School, a nd h is co nclus io ns are e ndorsed by th e co u nci l. See also a summar y of th ese co nclusio ns in Mich ael E. Porter, "Ca pi tal Ch o ice s: Chang ing th e Way Am erica In vests in Industr y," in Studies in Int ernat ional CorporateFin ance and Governa nce Systems: A Comparison oj the United States, [apan , an d

Europe, ed . Donald H . Che w (Ne w York: Oxford Un iversity Pr ess, 199 7) . See also C. K. Pra halab ad , " Re th in king th e Primacy of Sha rehol der Value ," in the sam e volume for a cr itiq ue of th e sh ort-te r rnism implicit in th e sto ckholder ma ximizati on norm. 7. Gre tc hen Mo rge nson , " Inve sting's Longti m e Best Bet is Bein g Tra mpl ed by th e Bu lls," N ew York Tim es, J an uar y 15, 2000, AI . For more informati on on h igh turn over ra tes, see Rob ert

J.

Shi ller, Irrational Exuberance (P rincet o n :

Princeton Un iversity Press, 2000), 39 . 8. See Terrance Odean , " Do In vestors Trade too Mu ch ?" Amenmn Economic Review , forth coming; Brad Barber an d Terran ce Odean , "Trading Is H azardous

to You r Wealth : The Co m mo n Stoc k Perfo rm an ce of Ind ivid ual Investors," http:/ / www.gsm .u cd avis.cdu z' odean / pap ers / returns.html. 9. C. K. Pra halah ad ar gues in favo r of a model focu sing on "co rp o rate value

added " whi ch ba lan ces stoc k pr ice a nd stoc kho lder value wit h the demands of a variety of ot her corporate constituents inc lu di ng suppliers, em ployees, cre dito rs, a nd custo me rs. Prahala bad , " Re th in king Sha re ho ld er Value ." 10 . Robert Lever ing and Milto n Moskowitz, "T h e 100 Best Companies to Wo rk Fo r," Portun e,Jan uary 10 , 2000, 82; Shelly Bra nch , "T he 100 Best Co m panies to Wo rk For," Fortune,Janu ar y II .

I I ,

1999, 118.

Floyd Norris, "Visio n s: Powe r; Economic Thin kin g Finds a Free Mar ke t," New York Times, janua ry 1, 2000, E4; Russell Reyno lds Associat es, "Toward A Co m-

mo n Standard : 1999 In te rna tio n al Surv ey of In stitu tional Investors" (reporting wor ldwid e tr end toward ad o pting the stockho ld e r value maximiza tio n no rm an d th e in cr easin g d esire of German an d j apan ese in stitu tional in vestors to inst ill Am er ica n-style co rpo ra te gov er nanc e in th eir co un t ries); La ur a M. I-Iol son , " Ca n Europe Learn to Love Am e ri cans at th e Gat e ?" Ne w York T imes, April 25, 1999 , sec. 3, p . I ; Roger Co e hn, "Big Busin ess in Lin e to Ge t

Lar ge Tax Cut from Schroder," N ew Yrn-ll Tim es, Februa ry 10 , 2000, AG (d escri bing use of German tax cut to develop Am er ica n-style sh areholder cu ltur e) ;JcfI'rey N. Gordon , "Pathways to Co rpo ra te Co nvergence? Two Steps on th e Road to Sh ar e hold er Cap italism in Germany: Deutsch e Tel ekom and Dai ml e rCh r ysle r," 5 Colu m. j. Eur. L. 2 19 ( 1999) (noting likel y pressure to sharehold er-centric model in Ge r many as a re sult ofth e Daiml e rCh r ysle r merger) . Some legal aca dem ics, apparently wit ho ut m uch hard evidence , describe the battle as already over, th e victo r y go ing to th e for ces of Am er ican-style corporate law. H e n r y H ansman n an d Reini e r Kraakm an , "T he End of Hi story fo r Co rpo rate Law," Yale Law Sch oo l Law an d Econom ics Wo rking Pape r no . 235, j anuary 2000. 12. Leo n H adar, "Amer ica , Am e r ica ," Bu sin ess Tim es (Singapore) , December 3 1, 1999 , 19 · 13. Carolyn Kay Bran cato, "Build ing o n Sand," 35 Asian Busin ess 8 (Aug . 1999 ) ; Co nfe re nce Board , Institu tional Investment Report: International Patterns oj Institutional In uestment (Conference Boar d , Ap ril 1999 ) .

14. Norris, "Visio ns: Power"; Ho lson , "Ca n Europe Learn ?" ; Pa t rickJ. Lyo n s, "A Global Vo te fo r U.S. Style of Corporate Openness," New Yor!{ Times, May 9, 19 99 , sec. 3, p . 4 · 15. Sec, for exa m ple, the inter est in g ar gnment made by form er Monsanto CEO Rich ard Mahon ey in "Sh are h o lder Value : Sorting O ut th e Voi ces," 2 19 Direc-

torship 1 (Ma rch 2( 00). I

G. See, e .g., Sch iller, Irrational Exub erance; Mich ael Usee m, Investor Capita lism: How Mon ey M anagersA re Changing thePace of Corporate Am erica (New York: Basic

Boo ks,1 9 9G). 17. Mich el Albert, a promin en t French exe cu tive, has mad e this poi nt q ui te well, 280

N OTE S T O P A GE S 7-13

at lea st with resp ect to n on -An glo co un tr ies, in hi s book Capitalism us. Capitolism: Ho w America \- Obsession with Individual A chievement and Short-Term Profit Has Led It to the Bli nk ofCollalJ.le (New York: Fo ur Walls Eight Windows, 1993 ) . I have

also arg ue d th at American s understand th is, too , in Stacked Deck: A Story of Selfishness in A merica (Ph ilade lp h ia: Temple Un iversity Pr ess, 199 8 ) .

18. Seym o ur Ma rtin Lips e t a nd Gabri el Salma n Len z, "Co r r u p tio n, Cultu re, an d Mark ets ," in Cu ltu re Matters: Ho w Values Shape Human Progress, ed . Lawrence E. Har rison a nd Sa m uel P. Hun tin gt on (New Yo rk: Basic Book s, 20()(» , 11 2. 19. On this point, see th e followin g ch apte rs in H arrison a nd Huntington , Cu ltu re

Matters: Ronald In gleh a rt , "C ulture a nd Dem ocr acy," 80; Mari an o Gro don a, "A Cu ltural Typology of Economi c Development," 44; Michael E. Porter, "Att itudes, Values , Beli efs, a nd th e Micro economics of Prosp erity," 14 . 20 . David Landes, " Cultu re Mak es Almost All th e Differ en ce ," in H ar rison a nd Huntington , Cu ltu re Matters, 2 . CHAPTE R 1. AMER ICAN LIBE RALISM AN D THE FUNDAMENTAL FLAW I .

Aaron Bern stein, "Too Mu ch Co rpo ra te Power? Bu sin essWeek Onl ine, Se pte mber 11, 2000.

2.

I exp lo re d th is cultu ral co n tex t in co n siderably more det ail in Stacked Deck: A Story of Selfishness in A merica (Philadelphia: Temple Un iversity Pr ess, 1998) .

3. Co nsta nce L. Hays, "C oc a-Co la to Cu t 20% o f Em ployees in a Big Pullback ," N ew York Times,Januar y 27, 2000 , AI . 4 . J ohn Doe v. Unocal Corp., 96 3 F. Su pp . 880 (S. Dist. Calif. 1997) .

5. Linda Werth eimer a nd Dani el Zwerdl in g, "La n d ma rk Lawsuit Against U .S. O il Fir m Unoca l Stemming from Its Operati ons in Myanmar," Na tio nal Public Radio, A ll Th ings Considered, Ma rch 10 ,2000 . 6. Ther e is evide nce that some corporat ions, in th ei r d ecision making abo ut wher e to invest, a re paying more a tte n tio n to human righ ts ab uses, but clea rly th ere is a lon g way to go. Alison Matil and , "H uman Rights Weigh H eavie r with In vestors," Fina ncial Times, Apr il 6, 20 00, 15.

7. "J udge Slash es More th an 3 Billion Doll ar s fro m GM Pu nitive Dam ages Award ," Agen ce Fran ce Pr ess, August 27, 1999.

8. For a n exp an de d d iscuss io n of th is po in t, see Elizabet h Wol gast, Ethics oj an Artificial Person (Stanford: Stanford Un iver sity Press, 1992). 9 . HB Koren uaes Investment s, LP v. M arriott Corporation, 199 3 WL 25 74 22 (De l.

Ch .); PPM America, In c., v. M arriott Corporation; 853 F. Supp. 860 (U .S. Dist. Md . 1994 ) · 10. David Cay John ston, " Co rp o ratio ns' Taxes a re Falling Even as Individuals ' Burden Rises," N ew York Tim es, Februar y 20 , 20 00,

1.

NOTES TO P A GES

14 - 2 8

28 1

11. Stating th e form ula is easy. Plugging in re al n um ber s is difficult. I've mad e som e sug gestions as to h ow to go about th is in Stacked Deck.

CHAPTER 2. THE PERFECT EXTERNALIZING MACHINE

I . Lawrence E. Mitch ell , "Tr us t and Tea m Productio n in Post-Capitalist Soc iety, 24 1 Corp. Law 869 ( 1999)· 2. See also Rob ert Kuttner, Every thing fo r Sale: Th e Virtues and Limits

'1 M arkets

(Ne w Yor k: Alfre d A. Kno pf, 199 7) (d iscussing no rm s of civility as a publ ic good) , 66 -67 . 3. Patricia McLagan and Ch risto Ne l, Th e Age oj Part icipation: N ew Governance[or the WorkfJla ce an d the HfrJrld (San Fran cisco: Ber rett-Koeh ler, 1997 ), xiii.

4 . Leverin g an d Moskowitz, " 100 Best Co mpa n ies," suggest that imp ro vem en ts in e mp loyee tr ea tm en t by Am erica n co rpo ratio ns ar e u nli kely to sur vive an in crease in th e un employmen t ra te, at least to th e ex te n t that th ey ex ist now. See also Ku ttn er, EverythingforSale, 74 -77 . 5. Albert, Capitalism vs. CafJitalism, 75 . G. Co n tras t some wha t Mich ael Usec m 's arg u me n t, th at to some ex te n t th e idea th at sto ckho lders wan t sho rt-ter m pri ce maxim izatio n is used as an exc use by und erperfo r m ing m an agers (alt hou gh qu estion what " und er perfo r ming" means ). Use ern , Investor Capi talism, 78 -79 . Whi le Usee m h as a point, h is arg ument largely supports mi n e. 7. For mo re exte nded ana lysis of this asse rtio n , see Lawren ce E. Mitchell, "Close Corp oratio ns Recon sid ered ," 63 Tulan e L. Rev. 114 3 ( 1989 ) . 8. Richard A. Posner, "T he Eth ical an d Politica l Basis of th e Efficiency Norm in Co mmon Law Adjudication," 8 Hofstra Law Review 487 ( 1980) . 9. Ro nald H . Coas e, "T he Pro blem of Social Cos t, 3 J. Late and Econ . I ( I9Go) . 10 .

Ypsilant i v. General M otors Corporation , 506 N.W. zd 556 (Mich . Ct. App . 1993) .

11. T heresa Gabaldon, "T he Lemon ad e Stan d : Feminist an d Other Refl ection s on the Limi ted Liabilit y of Co rpora te Sha reho lders ," 45 \!rind. L. Rev. 1 ( 1992) . 12. Brian Reid an d Kimb erlee Millar, " Mutua l Fu nd Assets an d Flows in 1999 ," 6 1 Investment Company Institu te Perspective, Febr uary 2000 (as to tota l m utu al fu nd

investments) ; Social Investm en t Fo ru m , 1999 Report on Socially Respon sible Investing Tren ds in the Uni ted Stat es, November 4 , 1999 (as to do llar s invested in all

design ated soc ial respon sibility fun ds, inclu ding th ose that em ploy o n ly shareho ld er advo cacy, thos e tha t employ only social screen ing, those that em ploy bo th , and co mm un ity investm ent fu nds, all of which ar e d iscu ssed in mor e detail in cha p ter 5) . Also , as to total do llars in vested in mutu al funds, see Margot Roosevel t, " Ho w Gre en Is Your Money?" Time, Oc to ber 16, 2000, and as to amo u nts invested in soc ial responsibilit y fu nd s, see Ro b Wh er r y, "T h e Clea ns an d th e Gree ns ," Forbes, Ju n e 12, 2000. 282

N O T ES T O P A GE S 3 6 - 6 4

CHAPTER 3. CORPORATE PSYCHOLOGY 101 I .

The following arg umen t is bas ed in portion Lawren ce E. Mitchell, "C oope ration and Co ns tra in t in th e Mod ern Corpora tion: An In q uir y in to th e Ca use s of Corporate Imm or ality," 73 Texas L. Rev. 477 ( 1995) .

2.

Kuttner, Euerythi ng for Sale, pa ssim .

3. Perhaps th e lead ing con tem porary philosophical arg u ment to th is effe ct is Micha el J. San del, Liberalism and the Limits ofJu stice (Cambridge: Cambridge University Press, 198 2) .

4- National Public Radio , Fresh A ir, Februar y 23,2000. 5. Lon L. Fuller, "Two Prin cip les of Human Associati on ," in Voluntary Associations, ed ..J. Roland Pinnoch an d John W. Ch apman (New Yo rk: Ath erton Pr ess, 19 ( 9) ,1 , 6.

CHAPTER 4. IS WEALTH A VALUE? I.

Ronald Dworkin , " Is Wealth a Value ?" 9J. Leg. Stud. 191 (1980) .

2.

See , for ex ample, Lawren ce E. Mit ch ell, "Understandin g Norms," 49 Un iversity

ofToronto Laurjournal i rrj

(1 999) '

3. Claude S. Fisch er et aI., Inequ ality by Design : Cradli ng the Bell Curve Myth.(Princeton : Princeton Un iversity Press, 1996) . 4 . Rob ert A. Dah l, A Preface to Economic Democracy (Berke ley: Un ivers ity of California Press, 1985) . CHAPTER S. CORPORATE MANAGERS I .

Kenn ed y, Th e End of Shareholder Value, 5 1.

2.

Blasius Indu stries, I nc. v. Atlas Corp ., 564 A. s d 651 (Del. Ch . 1988) .

3. Prahalabad, " Re th in king Sh ar eholder Value ," 4.26 U.S.C. Sec. 16 2(m ) (19 94 ).

5. David M. Schizer, "Executives and H edging; The Fragi le Legal Foundation of In centive Co m pa tibility," 100 Colum . L. Rev. 440 (2000) . 6. Rich ard H . Wagner an d Catherine G. Wagner, " Rec en t Developments in Exec utive, Directo r, an d Emp loyee Sto ck Co m pe nsatio n Plans : New Co ncern s for Corporate Dir ectors ," 3 Stan .J. L. Bu s. and Fin . 5 (1 997) · 7. Sp ecia l Repor t, "T he Pack age that Laun ched a Doz en Lawsuits, Bu sin essWeeh Onl in e, Apri l 17, 2000 ; Nation al Public Radio , M orning Edition, April 13, 2000

(in terview ofJ en nife r Reingold by Bo b Edwards) . 8. Donald E. Co n lo n and Dani el P. Su llivan , " Exam in ing th e Act io ns of Organ izations in Con flict : Eviden ce from the Delaware Court of Ch an cer y," 4 2 A cad. of

Mngmn t.] . 3 19 (1999) ' 9. See Lewis v. Vogel5tein, 699 A. zd 327 (Del. 1997) . The Vogelstein ca se is par-

ticu larl y astonish ing in that the court essen tially held th at the d irectors d idn 't NO T ES T O P A GE S 66 - 1 1 1

28 3

need to di sclose th eir valuati on of the o p tio ns to be gran ted in see king stoc kholder ap prova l because th ey wer e theoretically difficult to value. The co ur t thus ignored th e obvio us practical fact th at th e d irecto rs had to have had some sense of th e potential value of th e options in deciding to gra n t them to th emselves in th e first p lace, an d also th e obvio us legal fac t th at if th ey didn't , th ey wer e violatin g th ei r duty of ca re to the corpora tion . 10. Although h e rec ognizes some impe rfec tion s in cap ital mark ets, this is principa lly the basis up on whi ch Nobe l laureate Mer ton Miller d efends th e stockholder valu e m aximization norm. Merton H . Miller, " Is American Corpora te Gover na nce Fat ally Flawed ?" in Chew, Stu dies in Governance Systems. Miller h as good reason to be inve ste d in th e th eory of effic ien t cap ital markets . See also Pet er Bernstein, Capi ta l Ideas: Th e Improbable Origi ns

ofM odern

Wall Street (Ne w

York: Free Press, 199 2), for a discu ssion o f Miller 's ro le in th e d evelopm ent of modern fin ance th eory. 11. Sh iller, Irration al Ex u berance, 18(). Shill er canvases a var iety of ex p lanatio ns for thi s phenomenon but finds non e of th em cons iste n t with th e conclusion th at th e stock market is elfic ien t. 12. Kutt n er, Every thing Jor Sal e, 197- 201 , sho ws h ow ma rke t sho rt-te rmism res ults in underprodu ction of research an d development. 13. Rich ard .J. Mahoney, "Sh are holde r Valu e : Sortin g Ou t th e Voices," 2() Directorship : (March 2( 00 ).

14 . Nati on al Scienc e Foundati on , Na tional Patt erns oj R and D Resou rces: / 999 Dat a Up date, http:/ /www.nsf.go v/sbe / srs /nsfo0 3o() /start.htm!.

15. Kenned y, Th e End of Shareholder Valu e, ()4-()5 , n otes a number oflead ing Ame rican co rp orations which h ave in creased th eir sto ck p rices at th e expe n se of th eir resear ch and development ex pen d itures . I ().

Por ter, "Ca pita l Cho ices ," 7. See also J am es M. Po terb a and Lawren ce I-J. Summers, "Time Horizons ofAm erican Finns: New Evidence from a Survey of CEOs ," in Por ter, Capi ta l Choices.

17· Kuttner, EverythingJor Sal e, 198, 199. 18. I'm not alo ne in thi s beli ef. App ar ently man y co rpora te CEOs agree. Porter, "Capi tal Ch oices ." 19. For ag ree me n t o n thi s p oint, see Ca ro lyn Kay Bran cato , lnstitutional Inuestors an d Corporate Governance: Best Practices for In creasing Corporate Valu e (Ch icago:

Ir win Professional Publishing, 1997) . 20. David M. Go rdo n , Fat and M ean: Th e Corporate Squeeze ofWorking Americans an d the Myth of iHanageri al ''Down sizi ng '' (New York: Free Press , 199()) .

21 . Rob ert Putn am , M aking Democracy Wilrk: Civic Trad ition s in M odern Italy (Princeton : Prin ceton Un iver sity Pr ess, 199 3) . 22 .

L ewis v. VrlgeL,tein, 699 A. z d 32 7 (De !. Ch . 1997).

284

N O T ES TO P A G ES

115- 2 7

23. Mar tin Lipton and Steven Rosenb lum , "A Proposal for a New System o f Corporate Governance: The Q uinq ue n n ial Election of Directors," 58 U Chi. L. R ev. 18 7 ( 199 1) . CHAPTER 6. TRADITIONAL STOC KHOLDER S 1.

Un ite d Sta tes Depar tm en t of Co m mer ce , Statistical A bstract oj the Uni ted States 1999, tables 839, 842, 843. T he figu re for n ew issues ex clu des , amo ng other thi ngs, sto ck issued in e mployee sto ck plans and sto ck sold abro ad . T he aggrega te number m ay be slightly overst at ed because the statistics break out stoc k fro m o p tions and ot her deri vatives for th e exch anges b ut no t fo r the NASDAQ.

2. Correspond ing values were $ 123 . 11 billion , $52 2.85 billion, $ 1.99 trill io n , and $2 1.37 trilli on . Dat a fo r 1997 co me from th e 1999 Statistical A bstract ofthe Uni ted States. All ot her data have been comp iled fro m

2000

Securit ies Indu stry

Fact Book (New York : Secu rities Ind ustry Association, 2(00).

3. 19 85 Statistical A bstract oJthe Uni ted States, tab le 856.

4- In vestm ent Company In stitu te and Secu rities Industr y Association, "Eq uity Own ers h ip in Amer ica" (Fall 1999) , 13. 5. A fascin atin g, if somewhat un critical, int ellectual hi stor y of th e developmen t of modern fin an ce th eor y is Pet er L. Bernstein, Cap ital Ldeas: Th e Impr obable Origin s of M odern YVrIlI Street (New Yo rk : Free Press, 1992) .

6. J ohn Bu r r Williams, The Theory

'1 In vestment

Value (Cambr idg e: H ar var d Un i-

ve rsity Press, 1938 ) . 7. Eu gen e F. Fam a, "Efficie n t Capital Mark et s: A Review of Theory an d Em pirical Work," 25 ). Finan ce 383 ( 1970) 8. Peter L. Bernstein, "A New Look at th e Efficient Marke t Hypoth esis," 25 Jou rnal

ofPortfolio M anagement

I

( 1999); Pat rick]. Rain es an d Charles G. Leather s,

"Veblen ian Stock Markets an d th e Efficient Mark et s Hypoth esis," 19). oj PostKeyn esian Econo mics 137 (1996 ); David Dreman, "An In efficient Mark et ," Forbes, March 28, 1994 , 146 ; Burto n Malk iel , "T he Influen ce of Co nd itio ns in

Fin an cial Mark ets on th e Tim e Horizon s of Bu sin ess Man agers: An In ter n ation al Co mpariso n ," in Porter, Cap itul Choices; cr. Mert on H . Miller, "T he H istor y of Fin an ce, 25 .J. Portfolio M a nagemen t 95 ( 1999) (sup porting th e th eor y in a ver y mod est way but no ting th at substan tial emp irical eviden ce weigh s against it. It migh t be not ed th at Mille r, a 1990 No bel Laur eate , has a substantial p ers on al and pro fessio n al inve stment in th e th eor y) ; see also Pet er Coy, "T h is Alc hemy May Yield Real Go ld ," Bu sinessweek On lin e, April 17, 2000 (re po r ting on a study d one at MIT sugg est ing th er e might be at least modest validity in th e use of th e widely mocked charting techniqu e [or " tech n ical ana lysis"] for pred ictin g stock p rice movem en ts) . 9· 1999 Securities In du stry Fact Book, 47· N O TES T O P A GE S

12 9 - 4 4

285

10. Data ar e bas ed on an estimate d U.S. po pulat ion of 27 5 m illion in d ivid uals and 10 2, I 18 ,600 h ou seh olds. United Sta tes Bur eau of the Census, Curren t Popu lotion Reports. I I .

Investme n t Compan y In situ te and Securities In dustr y Association, " Eq uity Ow ne rsh ip in Am er ica" (Fall 1999 ) , 5.

12. Laura Co hn , "Day Trad ers ' Power Grows, " Businesswedi, May 1,2000, 36 . 13. Lawren ce E. Mitch ell , "T h e H um an Corporation: Some T houghts on Hume , Smit h , a nd Bu ffett ," 19 Cardozo L Rev. 34 1 ( 1997) . 14. Fred Block, Postind u strial Possibilities: A Critique ofEconomi c Discou rse (Berkeley: Un iversity of California Press, 1990 ) . Bran cato also id entifi es a n umber of ways in which co rporations are trying to acco u n t fo r lo ng-te r m investments in ways that are more evaluative than cur re n t acco unting co nve n tio n permits. Bra ncato, Institutiona l In vestors. 15. Block, Postindu strial Possibilities, 189 . 16. See Kuttner, Everything for Sale, 109 , 162 -63, lor dis cussi o n of Tobi n tax . See also J ames Tobin , "A Pro posal for Inte r n a tio n al Mo n et ar y Refo r m ," 4 East ern

Eam.] . 153 (1978) ;J am es To bin, " O n Limiting the Do main of Ineq ual ity," 13

J. Law and Econ. 26 3 ( 1970)

(proposin g redistributive taxation for th e purpose

of providi ng rel ative eq ua lity of essen tial goods a nd services) . 17. T his last id ea was suggest ed to m e by th e co nsulta n t a nd form er busin ess executive H arol d Porosoff,

CHAPTER 7 . THE NEW S T O C K H O L DE R I .

Co nfe re nce Board , In stitut ional Investment Report: Turnover, Investment Stra tegi es, and Ownership Patt erns (2000) (noting that third-quarter dropoff in 1999 in

perc e n tage of in stitu tion al shareholdi ngs in dicates "a stro ng in crease in equi ty own ership by ind ividuals.") , 5. 2. Ib id ., table 20 . 3· Ibid ., 25· 4 · Ib id ., 7· 5. Porte r, " Capital Cho ice s," 9. 6. Social Investme nt Forum, 1999 Report on Socially Responsible Investing Trends in the Unit ed Sta tes. T he Social Investmen t Forum re ports tha t almost te n times

more socia lly invested assets wer e invested in pr ivatel y ma naged sepa rat e acco unts th a n in m ut ua l fun ds . 7. Ib id . See also www.domini.com and www.ca lvertgroup.com . 8. Bran ca to makes careful, p ersuasive distinctions a mo ng them. Spac e lim itations pro h ib it me from thoroug h ly evalua ting h er cat egories, b ut I believe that , even with h er distin ctions amo ng lo ng-te r m a nd short-term in stitutio ns, th e textua l poi nts still h old . She also ech oes Reichhelds in te resting suggestion 286

NO T ES T O P A GE S

14 7 - 6 8

that co rpo ratio ns work to cultiva te th e kind of sto ck ho ld er they wou ld like to attract, a poi nt I think is valuable bu t beyon d the scope of my analysis. See Bran cato, l nstitutional In oestors. 9. As to investment go als, the evidence is mixed. Rich ard A. J o h n so n and Da niel W. Gr ee n ing , "T he Effects of Co rpo ra te Governa nc e a nd Institu tio n al Ow ne rsh ip Typ es o n Corporat e Socia l Respo nsib ility," 42 A cad. oj Mngmnt. J. 564

( 1999) (concluding that inves tment managers ' behavio r had no significant effect o n ce rtain dim ensions of co rpo ra te socia l pe rfo rman ce but th a t pu blic pension fu nd behavior di d); Keit h C. Bro wn , W. V. Harl ow, an d Laur a T. Starks, "O f To urn ame n ts and Temptations: An Analysis of Mange ria l In ce ntives in th e Mutual Fund In d ust r y," 5 1 J. Fin . 85 ( 1996) (concluding th at investme n t managers cha ng e th eir behavior on the basis of short-term performance ince n tives and suggest in g that th is co uld be "effe ctively ch ang ing man ager ial o bjectives from a lo ng-ter m to a short-term process"). As to legal regimes, see Tamar Frankel, Th e Regulation oJ M oney Managers (Boston : Litt le , Brown , 19 78, as supplemen ted) (with respect to investm en t advisors and m utual funds).

10. Conference Board, Inst itutional Investment Repor', G. 11. Confer en ce Board, In stitu tional In vestment Report, 5. 12. Useem , Investor Capita lism, provid es evidence whi ch largely supports this point. 13. Shi ller, Irrational Ex u berance. 39, re p o rt s it as hi gh as 78 per cent in 1999. 14. Conference Board , In stitut ional I nvestmen t Report, ta bles 1, 3; Brancato, Institutional In oestors, 27.

15. Useem , In vestor Capitalism, 3 1.

IG. Investme n t Co m pany Institu te, Mutual Fund Fact Book (2000 ed itio n ), 70- 7 1. 17. The age of th irty-six is given by Cindi Fukami of th e University of De nve r Busin ess school, qu ot ed in J e rd Smith, "Peo p le Power : Co n sulting Resear ch Finds Compani es that Invest in Wo rke rs See H igh er Sto ck Prices," ROc/IY M outain N ews, May 28, 2000, re lying up on da ta in Jefl'rey Pfeffer, Th e H u man Equation: Bu ilding Profits by Putting People First (Bost on : Harvard Business School

Press, 1998) ; twenty-eig ht is the age given by money manager Charles Allmon , in Don Baude r, "Fear -Dri ven Mon ey Is Fue ling Marke t's Climb ," San Diego Union-Tribune, Jun e 7, 1998; forty-fo ur is the age given in a survey performed

by Morn ingstar, In c. "Fund Exp er ie nce," Orlando Sentin el Tribune, Febr uary

28, 1999· 18. Po rt e r points o ut that "the performance of U.S. money managers is typically evalua te d based on q ua rt er ly or a n n ual appreciation re lative to sto ck ind ices, an d they th us seek near-term apprec iat ion of th eir shares, hol d ing stock for an average of only 1.9 yea rs." Po r te r, "Capital Ch o ice s," 9. See also Kuttner, Everything Jor Sale, 160-6 1, quoting Ro bert Sh iller: "The goal for a portfolio man-

ager is to be right in the short r un if he wants to be around fo r the lon g r un ." NO T ES T O P A GE S

1 6 8-7 0

287

19. Russell Reynold s Associates, Toward a Common Standard: 1999 Int ernational Survey of I nstitu tional I nvestors, 3.

20 . In add itio n to th e mate rial discu ssed in the tex t, see Kuttn e r, Euerythi ngfin.Sale, 187; Useem , Investor Capitalism, 55- 56. 2 I . Reynolds 2000 Survey. 22. Russell Reynolds, 35 . 23 . Russell Reynolds Associates, Corporate Governa n cein the N ew Economy: 2 00 0 Int ernat iona l Survey ofInstitu tion al Investors, 2 1- 22.

24 . In 1975, 3 2 p er cent of work ers with em ploye r plan s particip ated in a d efin ed con tribu tio n plan and 87 per cent p ar ticip ated in a defi n ed ben efit plan . By 1995, 8 1 percent of covered work ers h ad defin ed cont rib uti o n p lan s. http:/ / www.urban. org/ retiremen t! rep orts/ 4/ re tirep4 ·h tml. 25. Sam uel B. Gr aves and Sandra A. Wadd ock, " In stitu tiona l Own er s and Co rporate Social Per form an ce ," 37 A cad. o[!vIng mnt.]. 1034 ( 1994 )· 2(). Richard A.Joh nson and Dani el W. Gree n ing , "T he Effects o f Co rpo ra te Govern an ce an d In stitut ion al Own er ship Types on Corpora te Social Per form an ce,"

4 2 A aul. ofM ng mnt.]. 564 ( 1999) . 27 . It h as been hi ghl y su ccessful in its inf o r m al letter writing to corporations. Willard T. Carle to n , J ames M. Nelson, an d Michael S. Weisbach , "T he Inll uence of th e Institu tion s on Corporate Govern an ce Through Privat e Negot iation s: Eviden ce fro m T IAA-CREF," 53 ]. Finan ce 1335 ( 1998 ) . No ne of th e letters deal with social issu es; th ey deal rathe r with issues of cor porate governance. 28 . Investor Respon sibility Resea rch Ce n ter (IRRC) , lRRC Corporate Governa nce Bulletin 8 (Novembe r 1999-J an uar y 2( 00) ; http:/ /www.tiaa-cref.o rg /site-

lin e / p ro xyefforts.html; J oh n A. Byrn e , "T he Teddy Roosevelts of Corp orat e Govern ance, " Bu siness Week, May 3 1, 1999, 75. 29 . Investor Respon sibility Research Center, Social Issu es Reporter's Checklists of Shar eholder Resolu tions,

19 9 5 - 2 0 0 0 .

To be fair, an d as I will late r note , T IAA-

CREF usu ally m akes its proposals more informally than through th e sh areh older prop osal mechan ism created by securities law, but non e of th ese in formal cont ac ts involved socia l issues. 30. Betty Liu , "Ne w York Pension Fund Calls fo r Coke Sett le men t," Finan cial T imes, March 3 1, 2000, 29.

3 1. Available at its web site, http:/ /www.ca lpers-governan ce .or g / alert / fo cu s. 3 2. Audrey Y. William s, " Pensio n Investor Ta kes Heat O ff First Un io n ," Charlotte Observer, Februar y 26 , 20 00 . ("C aIPERS m eets with th e companies on its list

and pu sh es fo r govern ance refo r m to imp rove stock pri ces.") T he re is som e qu estion whethe r th ese effort s succeed. Com pare Carlet on et a!., "In fluen ce of the In stitutions o n Co rpo ra te Gover nan ce " (find ing some positive correlatio n 288

N O T ES T O P A GE S

171 -7 9

between T IAA-CREF' s le tt e r-wr itin g ca m pa ign a n d sto ck pri ce pe rfo rman ce) with Bar r y Rehfeld , " Low-cal Ca IPERS," Instiiutional I nuestor (March 199 7), 4 I (" Th e re is ac tually scan t evide nce tha t Ca IPERS - o r, for that matte r, a n y shareholder ac tivist - has prod uced significant stock gains in targeted com pani es through stan d ard corpora te governa nc e actions ") . 33 . IRRC, Corporate Governance Bu lletin , Proponent s Subm it In novative Proposals for 2000

(November I 999- January 2(00),

I ;

IRR C, Corporate Governa n ce Bu lletin,

Binding Bylaw Amend ment s to Ma rk / 998 Shar eholder Resolut ion Ac tivity (O ctober-

Dece m be r 19 9 7), 3· 34 . IRRC, Corpora te Gouernance Bu lletin , Proponents Subm it Innovative Proposals [or 2000

(November I 999-:Januar y 2(00) ,

I.

35 . Ji n n y St. Go al', " Labo r Force ," lnstitu tion al Inuestor (March 199 G) , 97 . 36 . Stewar t] . Schwab a n d Ran d all S. Thomas, " Rea lign in g Corporat e Gov ernan ce: Shareho lder Activism by Labo r Unions, " 96 M ich. L. Rev. 10 18, 101 9- 20 ( 199 8). 3 7. www.d ornin i.com . Mo st in vestm e n t advisors an d mutual fun ds do n ot d isclose th eir voting re cords, a ltho ugh the re is a c ur re n t SEC proposal to require th em to do so . Barry B. Bu rr, " O n e Fo rm of H id d e n Assets Could be Forced into View," In vestment N ews, May

I,

2000, 3G.

38 . "Do m in i So cia l In vestm e n ts Pu bl ish es Fifth Annual Pro xy Vo tin g Gu id e lin es a nd Soci a l Scr e en ing Cri teria ," B usiness Wire, March 30 , 2000. 39 . Investm e n t Co m pan y In stitu te, Mutu al Fund Fact Book (2000 e d itio n ) , 69 , 71 . 4 0. Br an cat o , Inst itu tional In vestors. 4 1. Ilyan a Po lyak , " Pac kage s ln ce n rive-H eavy, Study Finds: Asset Managers Paid to Pe rfo r m ," Investment N ew.I,J u ly 19 ,1 9 99 , 3. 42 . Be atrix Payne , " Pe n alty System: J. Sainsbury Pla ns to Ch arge Man age rs th a t U n de rper fo r m," Pension s and Investments, J an u ar y 24 ,2000, 4 . Se e also Floyd Norris, "W h en the Marke tin g De par tm e n t De cid es H ow to In vest," N ew Yorh Tim es, May 5 , 20 00 , C I .

43. AIMR and Russe ll Reyn olds Associates 1999 Investment iVIan agemen t Compensa tion Survey.

44 . Lin d a Sakelaris, "Wh o Makes Wh at: Compensation Story Is in th e In ce ntives; T he Little Extras - Lik e Sto ck Optio n Eq uity Ownership - Mea n a Lo t," Pensions and In vestments, May 3 , 1999.

CHAPTER 8 . ABANDONING THE STOCKHOLDERS I .

See , ge ne rally, Lawre n ce E. Mitch ell , "The Gentleman Scholar in Po litics" (H onors th esis, Willi a m s Co lle ge , 19 78 ) ; H e nry Ad ams, Th e Edu cation ofH enry Adams (Boston : H o ugh to n Mifflin , 191 8 ) ;John G. Sproat, Th e Best M en: Lib eral Reformers in the Gilded Age (New York : Oxford Universit y Press, 19( 8 ) . NO T ES T O P A G E S

1 8 0- 8 7

289

2.

Bayer o. Bemn, 4 9 N .Y.S . 2d 2 (5 . C1. (94 4 ) .

3· Aronson v. Lewis, 47 3 A. zd 805 (De l. 19 84 ) . 4 . In re Carematk Int em ation al Inc. Derivat ive Li tigation, G98 A. zd 959 (De l. Ch .

19 9G) ; Kam in v. A merican Ex/ness Compa ny, 3 83 N .Y.S . sd 807 ( 197G) (whi le this is a New York case , th e sta n da rd o f bu sin essjud gm ent is p re tty m uc h th e same as in Del awa re ) . 5. Se e]oy v. N orth, G92 F. zd 880 (z d Cir. 19 8 2) .

G. Groboto v. Perot, 539 A. z d 180 ( 1988) .

7. Grimes v. Don ald, G73 A. s d 120 7 (De l. 199 G) . 8. Fo r more , see Lawrence E. Mitch ell , " Fa ir n ess and Tr us t in Co r porate Law," 4 3 Dulw LJ 4 25 ( 199 3) . CHAPTER 9 . THE DILBERT SOCIETY ?

I . Debora Vran a, " 1998: Review an d O u tlook; Corpo rate Marriages: No t All Bliss," Los Angeles Times, Jan ua ry 2, 199 9 , C I (Ba nkA m e rica a n d Cha lle n ger Gray an d Christmas report o f layoffs); Au drey Y. Will iam s, "Execu tive Pay Is Lik ely to be an Issu e a t Ban k of Ame r ica 's Ann ua l Mee tin g ," Char lotte Observer, Ap ril 2 1, 2000 (BankAm e rica m erge r) ; "Be ll Atlan tic Pro xy Stat ement," Ap ril 14 , 19 9 9; New Yorl< Times, Jan uary 20 , 19 99 (Be llAtlan tic /GTE m e rger ) ; Ro ss Ke rbe r, "Flee t Boston Pa id Executives Millio ns in Me rge r," Boston Globe, March II , 2000 (Flee tBoston / Bank Bo ston Me rger ) ; T im o th y L. O ' Brie n , " Citigro u p Says It Will Cu t 10,400 Jobs," N ew YO/Ii Times, De cember l G, 1998 (Citigro u p layoffs) ; Robert D. H er sh ey,Jr., "Exx o n Mo bil Plan s to Cu t Payroll by I G.o oo J obs," N ew Yorl< Times, Dece mbe r I G, 1999, C I (Exxon Mo bil layofis) .

2. Se e Lawrence E. Mi tch e ll, "Tr ust an d Tea m Pro ductio n in Post-Capitalist Socie ty," 24 1 Corp. L 8G9 ( 1999) . 3. J e nnifer Rein gold, "Exe cu tive Pay," Bu siness Weel<, Ap ril 17, 2000. 4 · 19 8 U.S. 45 , 25 S. C1. 5 39 , 49 L. Ed. 9 3 7 ( 19 05) ' 5. For a general disc ussion , see Camille Gue rin-Gonzales and Ca rl Strikwerd, ed s., T he Politics

ofImmigran t Wrnlwn: La bor A ctivism

and Migration in the Wrnlrl

Economy Since 183 0 (N ew York: H ol m es and Mei er, 199 3 ) .

G. Adam Sm ith , An In quiry in to the Na ture an d Causes

ofthe Wealth ofNations (In di-

an apolis: Lib erty Class ics, 19 8 1) , bk . 1, ch ap . 8 , pt . 1. 7. For ea rlier and sim ila rly b rill iant ins ights of th e Su p reme Co urt, see CO/J/mge v. Kansas, 23G U.S. 1, 3 5 S. C1. 240, 59 L. Ed . 441 (19 15) , an d A llgeyer v. Louisana,

I G5 U .S. 578, 175. C1. 427 ,4 1 L. Ed 832 (1897) .

8. Un ite d Sta tes Depa rtm e n t of Lab o r Bur e au of Lab o r Statistics, Employment and Earnings, March 2000, tab le A-7. The H o useh ol d Da ta Survey is a survey of

individual s a n d thus reli es up on se lf-re porting. 290

N O T E S T O PA G E S

1 95- 21 3

9 . Un ite d States Ce ns us Bur eau, Stat istical A bstract of the Uni ted States, table 8 78 ( 1999)· 10 . Un ite d Stat es Department of Lab or Bureau of Labo r Stat istics " Da ily Lab or

Repor t," j an uar y 20, 2000. I I . Q uot ed in David 1. Levin e, Reinventing the WOIJljllace: How Bus iness an d Employees Can Both Win (Wash ing ton , D.C.: Brookin gs Institu tion Pr ess, 199 5 ) , 10 . 12. I will dis cuss trust in more detail later in this cha p ter. For more ge n eral dis cus-

sio ns of trust, see Fran cis Fuk uyama, Tru st: Th e Social Virtu es an d the Creation

of

Prosperit; (New York: Fre e Pr ess, 199 5 ) ; Martin Ho llis, Trust Within Reason

(Cambridge : Cambridge University Press, 1998) ; Rod eri ck Kram er and To m R. Tyler, eds., Trust in Organizations: Frontiers of Theory and Research (Thousand Oaks , Ca lif.: Sage Pu blicatio ns, 1996) ; Christel Lan e an d Reinhard Bachman , Trust Within and Between Organ izations (O xford: O xford Un iversity Pr ess, 199 8) ; Barbara A. Mistzal, Trust in Mod ern Societies (Cambridge : Polity Pr ess, 199 6 ) ; Matt Ridle y, Th e Origins of Virtue: Hu ma n In stin ct and the Evolu tion of

Cooperation (New York: Viking Pr ess, 199 7) ; Ad am B. Seligman, Th e Problem of Trust (Prin cet on : Prin cet on Un iversity Press, 19 9 7 ) . 13 . Studs Terkel , Working: Peojlle Tal!{ About Wnat They Do All Day and H ow Th ey Feel About What Th ey Do (New York: Pantheon Books, 197 4 ); Thomas Pet zing er,jr., The New Pioneers: Th e M en an d Women W7!o Are Transforming the Workplace and

Marketplace (New York: Sim on an d Schuster, 1999 ) . Petzinger do es not beli eve th at th e change s he describ es h ave yet overt aken the Am eri can workplace , noting that "conformity an d comp liance remain the unwritten rule at many maj or Ame rica n co rpo rat io ns, perhaps most " (24) . 14 . Patrick McGeeh an , "At a Wall Street Firm, juniors' Voices Roar," N ew York Times, April 8 , 20 00 , AI . 15 . Pau l Sween ey, "Sh aring in th e Boun ty: Dot-co rns an d HyperCompet ition H ave

Raised Wall Street Compe n sation Levels to Unprecedented H eigh ts, But Will It Last? In vestment Derden Digest,june 12,2 0 0 0 . 16 . Dean Fou st, "Wooing the Worker," Bus in ess Week, May 22 ,2000. 17. Denise Ge lle ne , " Gee kdo m Is Awash in Perks ," Los Ange les Tim es, May 23 , 2000. 18 . "Free Mer ced es-Benz , Pets at Work , an d Playrooms are the New Perks at High

Tech Companies, According to Deloi tte and To uc he Survey," Busin ess Wire, jun e 20 , 20 00 . 19 . Michael Skap ink er, " Begging for Work ers: T h e Unwritte n Co ntract Binding

Loyal Employee an d Caring Employer -Shatter ed by Downsizing in the 1990S- Has Given Way to Fier ce Co mpe titio n for Foo tloose Stall'," Finan cial Times,june 13 , 2000. 20 . Peter Dru cker, Post-Capitalist Society (New York: Harp erbusiness, 199 3 ) . Similar NO T ES T O P A GE S 2 13 -

17

29 1

id eas ca n be found in the so mewhat b reathl ess David Lim e rick and Bert Cu nnington , lWanaging the N ew Organ ization: A Blu eprint f or Networks and Strat egic A llian ces (Sa n Fran cisco :J ossey Bass, 1993 ).

2 1. Am y Zipkin, "T he Wisdom of Thoughtfu ln ess: In T ight Lab or Mar ke t, Bosses Fin d Valu e in Being Nice," N ew York Ti mes, May 3 1, 2000 , C r , 22.

Stat istical A bstract of the Uni ted Stat es, 1999 , tab le 70 2 (n um be r of service work-

ers) ; table 705 (in fla tio n-adj us te d m inim um wage) . 23. Dian e E. Lewis, "Wo rking It Out," Boston Globe, No ve m be r 29, 1998 (rc porting Bureau of Labor Statisti cs) . 24 . Un ited Sta tes Dep artment of Lab or, Occup at ional Compensa tion Sur vey, Occupationa l Wages in the Ea st No rth Centra l Division, 199 7, table

I,

Su m mary, by Geo-

gra p h ic Ar eas. As defin ed by the BLS, earn ings incl ude " the st raigh t-time hourly wages o r salaries p aid to e m ployees . Th ey includ e in cen tive pay, co st-o fliving adj ustmen ts, an d hazard pay. Excl ud ed are premium pay for overtime, vaca tio ns, a nd hol id ays; nonproduct ion bonuse s; a nd tips ." 25. Stat istical Abstra ct ofthe Uni ted States, 1999, table 76 2. 26 . Richa rd B. Free man an d J oel Roge rs, What Wmlw :\' Want (I th aca: Co rn ell Un iversi ty Pr ess, 1999 ), 13. 27. William Gre ide r, On e lIlirld, Ready or Not (Ne w York: Sim on a nd Sch us ter, 199 7 ); Ku ttn e r, EverythingforSale, 9 1. 28. Da h l, A Preface to EconomicDernocracy. 29 . David M. Gordon , Fat and M ean: Th e Corporate Squeeze oJ Worhing American s an d the lWyth '1 1Wanagerial "Down sizing " (New York: Free Pr ess, 1996 ) .

30 . Ibid ., 33. 3 I . Bureau

'1 Labor Stat istics E mployment and Earn ings Report, March

20 00, table A-7.

3 2. Erik O lin Wri ght, Class Coun ts: Compa rative Studies in Class A na lysis (Ca m bridg e: Ca m br id ge Un iversity Pr ess, 199 7) . 33 . Ib id . 34 . Mich ael Usee m , Executive Defen se: Shareholder Power an d Corporate Reorgan ization (Ca m bridg e : Har vard Un ivers ity Press, 1993 ). 35. Ibid ., 127. 36 . Ibid ., 118. 3 7. David Leonhart, " Re po r t o n Exec utive Pay: In th e Options Age , Risin g Pay (a nd Risk) ," N ew Ymh Tim es, April 2, 2000. 38. Greider, On e World, 5 7 . 39 . Mich ae l M. Wcinstcin , " Eco no mic Sce ne: Crea m in Labo r Ma rke t's Ch ur n; Wh yJ o b Losses Ar e Rising Am idJob H u n ters' Nir van a," New York Tirnes,July 22 , 1999, c .. 40. Step ha ni e Armour, "Trai ni ng Tak es Front Seat a t Offi ces: Wo rk e rs Ben efit Iror n Hi gh-Tech Learnin g Boom," USA 1()(lay,J anuar y 19 ,1 999. 292

N O T ES T O P A GE S 2 1 7 - 2 6

4 1. J o rd an D. Lewis, "Tr usting Co mp an ies Deliver More Sha re ho lder Valu e ," 26 Directorship s (March 2( 00). 42 . Smi th, Wealth

ofNa tions, bk. I , chap.

I,

x.b.

43. "Re tain ing Your Valued Em ployees," Strategi c Fin an ce, O ctob er

I,

1999 ; Bru ce

Sh uta n , "T hey' re Crrrrea tl To Reviewer, Solid Ben efits Link Best Places to Work ," Employee Benefit N ews, Apr il 1, 1999 ; Paul Osterm an , "Work Reor gani zation in an Era of Restructuring: Tr ends in Diffu sion an d Effects on Employee Welt~l re , "

53 In d. an d La b. Rei. Rev. 179 (2000) .

44- The stories of Mor se and Sulik are re p orted in Zipk in , "The Wisdom of Thou ghtfuln ess." 45 . Rob er t Frank, "A Theor y of Mo ral Sen time nts," in Beyond Self-Interest, ed .J ane

J

Mansbridge (Ch icago: Un iversity of Ch icago Press, 1990 ); Annette Baie r,

"Trus t an d Antitrus t," in Ethics an d Personality: Essays in Mora l Psychology, ed. J ohn Deight (Ch icag o: Uni versi ty of Chicago Pr ess, 199 2) See also Mit ch ell , "Trus t and Team Production " ; Lawrence E. Mit ch ell , "Trust.Con tract.Process, " in Progressive Corporate Law, ed . Lawrence E. Mitch ell (Boulder: Westview Press, 1995) . 46. J ack R. Gibb, "Clima te for Trust For ma tio n ," in '1:Crouj' Th eory an d Laboratory M ethod: Innova tion in Reedu cation, e d , Leland P. Bradford et al. (N ew York:

Wiley, 1964 ), 279 . 4 7. Tom R. Tyler an d Pet er Dego ey, "Trust in O rgani zation al Authorities: Th e Influen ce of Moti ve Attribution s o n Willin gn ess to Acce pt Decisions," in Kram er an d Tyler, Trus t in Organ izations, 334 . 48 . But if yo u 're interest ed see Mitch ell, "Tr ust an d Team Produ ction." 49 . J ennifer Laabe , "E m ployee Sabotage: Don' t Be a Target," 78 Worlqorce 32 (July 1,1 999 )· 50 . Kirsten Downey Grims ley, "O ffice Wrongd oing Co mmon: Stud ies Fin d Eth ics O fte n Take Back Sea t to the Bottom Lin e ," Washington Post,Jun e 14, 2000, E2. At the same tim e , th e National Business Ethics Survey fo un d a sha rp drop in pr essu re on worke rs to beh ave u neth ically and a substa ntial in crease in corporat e eth ics train in g. 5!. David Ign atius, "Wha t's Wrong with Boeing? Washington Post, No vemb er 3, 1999 , A35· 52 . Levin e, Reinventing the VVorhj,lace. Gregory Dow and Lo uis Putterman also fin d empirical evide nce suppo rt ing hi gh productivity in labor-man aged firm s, by which th ey mean corp orat io ns tha t go well heyond th e more modest dis cu ssion of parti cipati on by workers th at I am d iscussing in th e text to corporatio ns tha t are ma naged by th e workers th emselves. Gregory Dow an d Loui s Pu tterman , "Why Cap ital (Us ua lly) Hires Lab or: An Assessm en t an d Proposed Expl an aN OTES T O P A GES 226-29

293

tion s," in Employees an d Corporate Governa nce, ed . Mar garet M. Blair and MarkJ. Roe (Washington: Brookings Institution Press, 1999 ) , 26 . 53. A similar ob servation is mad e in T h o mas A. Koch an , Har r y C. Katz , and Rob ert B. McKersie, Th e Transformation ofAmerican Industrial Relations (New York: Basic Books , 1986) , 175. 54 . Levin e , Reinvent ing the Work/Ilace, 4 8 . 55 . Scott H ays, "O wn ership Cult ure s Create Un ity," VVorlljorce, February 1, 1999. 56. Levine , Reinvent ing the Work/Ilace, 56 . 57. Lewis, "Trusting Compani es Deliver More Shareholder Valu e, " 4 . 58 . J on ath an P. Charkha m , Keeping Good Company: A Study of Corporate Governance in Five Cou ntries (O xford: Clar endon Press: 199 4 ) .

59 . Lewis, "Tr usting Co m pa n ies Deliver Mor e Sh ar eholder Value ." 60 . Joseph Schum peter, Capitalism, Socialism, and Democracy, 3d ed. (New York: H arper Torch books, 1950 ) , 123. Michel Albert picks up on this th eme , noting th e way tha t Am eri ca 's parti cular brand of capita lism wind s up makin g a commodity of ever ything from wages an d housing to ed ucation an d even, to some exte n t, reli gion. Albert, Capi talism V.I. Capi talism,

10 2 .

6 1. Sh er yl Gay Stolberg, "Report Says Pro fit-Makin g H ealth Plans Dam age Ca re, " N ew York Times, July 14 , 1999, A 18; David U. Himmelstein et al., "Q uality of

Car e in Investo r-Own ed vs. No t-For-Profit HMOs," 282 [ournal of the A merican M edical Asso ciation 159 ( 1999) · 6 2. Linda Green hous e , " H .M.O. 's Win Cr ucial Ru lin g on Liabi lit y for Doctors '

Acts ," N ew York Tim es,June 13, 2000,A l. 6 3 . H otoanl u: Sasson , 1995 WL 58 1960 (E.D. Pa. 1995) .

64 . Shea v. Eisensten, 107 F. 3''' 6 25 (1997) . 65 . "Savings Du e to Managed Ca re ," American A ssociation

ofH ealth

Plans R esearch

Brief (O cto ber 1999 ) ; see also "Q uality of Care and H ealth Plans : Snmmar ies

of Ind ivid ual Studies," American Asso ciation

(1 H ealth Plans

R esearch Brief (April

2(00 ) (sur veying lite rature and con cluding that " the cu mulative research shows a pattern of largely positive find ings abo ut quality of care in h ealth mainten an ce or gan izatio ns") . The resea rc h b rief d oes not d istin guish between for-profit an d not-for-profit plan s. 66 . Dah l agrees but q uesti ons wh ether as a pri or q uesti on stoc kho lde rs are entitled to the mon ey th ey in vest in th e first place , a qu estion beyond th e scope of this book. Dahl, A Preface to Economic Democracy, 80 . 67 . While Schum pet er saw dem ocr acy as an ontgrowth o f capita lism, he saw no reason why d emocracy couldn't ex ist in a socialist economy. Schumpeter, Ca]» italism, Socialism, an d Dem ocracy.

68. For an in-d epth dis cu ssion of th e di fferences among th e vari ons systems , see Albert, Cap italism us. Cap italism. 294

NO T ES T O P A G ES 230 -38

69 . J o hn Rawls, A Th eory ofJ ustice (Cambr idge: Belknap Pr ess, 1971 ) . 70 . Mich ael Walzer, Spheres of Justice: A Defense of Plura lism and Equ ality (New York: Basic Book s, 1983) . 7 1. For a more ex te n de d di scu ssion of thi s point, see Mitch ell , Stacked Deck. 72. Smith, Wealth of Nu tion s, bk .

I,

cha p .

I,

pI. ii.

73. J effrey N. Go rdo n , " Em ployee Stock Own ersh ip in Eco no m ic Tran sition s: T h e Case of Un ite d an d th e Airl in e Ind u str y," in Blair an d Ro e , Emp loyees and Corporate Governance, 3 17- 18. See H en r y Han sm ann , Th e Oumership of Enter[m se (Cambridge : Belknap

Pr ess, 1996 ), for a broad d iscussion of th e differen t

forms of fir m ownersh ip . 74 . http:/ /www.th e-esop -em pl own er.o rg /pubs/ sta ts.htm l. Altho ugh th e n umber of ESOPs is growi ng , the number of part icipan ts is declining bec aus e ESO Ps are far more co m mo n in smaller, closely held co rpo ratio ns. wysiwig:/ / 279 h tt p:/ / www.nceo .org / library / eo pstat.h tml. 75. Han sm ann , Oumership

ofEnterprise,

99- 10 1. On Mondragon, see also H an s

Wien er an d Rob er t O akeshott, Worker-Owners: M ond ragon Rev isited (Lo ndo n: An glo-German Foundat io n, 1987). 76. William Foote Wh yte and Kathl ee n King Whyte, M aking M ond ragon: The Growth and Dyn am ics '1 the WiTker Cooperatioe Complex (Ithaca: ILR Press, 1988 ) , 7.

77 . Dah l, A Pref ace to Econom ic Democracy, 13 2. 78. Przeworski, Democracy an d the M arket, 126 . 79. Dow and Pu tterman , "v"'h y Ca p ita l (Usually) Hires Labor," 22- 23. 80 . European Uni on Stat istical Report on Cooperatiues ( 1994 ) .

8 1. Just for star te rs, see H an sman n , Oumership ofEnterprise, Blair an d Roe , Employees and Corporate Governance, and th e wid e ran ge of so ur ces cited in eac h .

82 . Amo ng Smith's five com pone n ts of wage determinat io n is " th e agr eea bleness or disagreeablen ess" of the occupation , a facto r whi ch is det ermined not only by th e na ture of the work b ut also by the way th e worke r is tr eat ed . CHAPTER 10. CAPITALISM , SOCIAL ISM, AND DEMOCRACY I .

Sm ith particul arl y d isliked cor porations becau se of th e fact tha t in hi s time th e gran t of a corp orate cha rte r almost invari ab ly carried with it a right to a monopoly as well, an assoc iatio n whi ch was clearly broken in th e Un ite d States in th e Charles River Brid ge ca se: Cha rles R iver Bridge v. W ITTen Bridge, 36 U.S.

(I I

Pe t.) 4 20 ( 1837) . For a con tem po rar y ind ictme n t of co r po rate capitalism, see David C. Kort en, When Corporations Ru le the W lrld (West H art ford : Kum ari an Press, and San Fran cisco : Berr ett-Koeh ler Publicatio n s, 1995) . 2. Przewor ski, Democracy and the Ma rket, 10 1. 3. Sam uel Bowles and H erber t Gin tis, Democracy and Cap italism: Pr operts, CommuN O T ES T O P A G ES 238 - 54

295

n ity, an d the Con tradi ctions oj M odern Social Th ough t (New York: Basic Book s,

19 86 ). 4 . Sch um pe ter, Capi ta lism, Socialism, an d Democra cy, 296- 9 9. 5. Dah l, A Preface to Econo mic Democracy, 46 . See also Rober t Frank, Luxury Fever: IMly Mo ney Fails to Sa tisfY in an Em oj Excess (New York : Free Pr ess, 1999) ;

Sch iller, Irrational Exubera n ce. 6. Q uot ed in Charkham, Keeping Good Compa ny, 10. 7. Albert, Capi ta lism vs . Capi talism ,», 8 . M erriam Webster\- Collegiate Di ction ary.

9. Bowles and Gin tis, Democracy a n d Cap italism, 16 . 10. Giovan ni Arrighi an d Beverl y Silver, Chaos a nd Governance in the M odern YVtirld System (Minneap olis: Un iversity of Minnesot a Pr ess, 1999) .

CHAPTER II. AMERICA R IGHT AND WRONG I .

Hilar y Rosenbe rg, "T he Shareho lders are Restless in Eur o pe," N ew YOlk Tim es, December 12, 199 9 , sec. 3, p . 4-

2. Bran cat o , Bu ilding on Sand, 8. 3. Co n fe re nce Boar d , In stitutional Invest ment Report: Intern ational Pattern s oJInstitu tional l nuestment (April 2(00) .

4 . Bran cato , Bu ildin g on Sand. 5. Confe re nce Board , In stitutional In vestmen t Report: Intern ational Patterns ojIn stitutional In vestmen t.

6. Matthew Valencia, " Euro pean Bu sin ess: Old Do gs, New Tri cks," Th e Econo mist, Ap ril 29, 2000, 14. 7. Joseph Stiglitz , " For Economists, No Tim e To Par ty," N ewsweek, Special SUjJjJlemen t, Facing the Fu tu re Issu es

2000,

December 1999- Febr ua r y 2000, 58 .

8. For a rep ort on th e Czec h Republic's proble ms with privatizatio n , see Sab ina Newm an an d Mich elle Egan , "Be tween Ge r ma n an d An glo-Saxon Ca pitalism : Th e Czec h Fina ncial Marke ts in Tran sition, 4 N ew Political Economy 173, July 1999. For a sugg est ion th at th e Czech Rep ublic is beginning to overco me its problems, see Oonagh Leighton , "A New Dawn ," Cen tral EurojJerln, J un e 19 9 8 , 20 . 9. O n Poland , see Karen Lowr y Miller, "An Eastern Star Look s Dim mer," Bu sin ess Week, Apr il 19 , 1999 , 50 . Stiglitz men tion s both Polan d an d Sloven ia as excep-

tions. 10 . Anoth er comme n tato r di sagrees, tracing the success o r failur e of th e ad o p tion of mark et refor ms to th e willin gn ess of parti cul ar co un tries to ac ce pt th em : "Too man y p eo p le wh o sho uld kn ow better are calling Ru ssia 's ca tastro p he a failure of cap italism - whe n in fact it is a fail ur e of Ru ssia to ado p t cap italism ." Ka thryn H an es, "T he FDI Play in Ce ntral Eu rope ," Global Fin an ce, December 296

N O T ES T O P A G ES 2 5 5 - 6 5

1998 , 44 , Comments like th is sugg est to me at best a failure to apprec iate the variety offorms capitalism can take an d the cultural sensitivity to those forms, and at wors e a stunning arrogan ce that proclaims o n ly on e form of capitalism to be right, the very attitude Stiglitz criticizes. I I .

For very thoughtful critiq ue s of the hege mony of En lightenment liberalism , see Alasdair MacIntyre , After Virtue (Notre Dam e : University of Notre Dam e Press , 1981 ) ; id., Wlwse [ustice? Wllich Rationality? (Notre Dam e : University of Notre Dam e Press, 1988) .

12.

Seymour Martin Lipset, American Exceptionalism: A Double-Edged Sword (New York: W. W. Norton , 1996) .

13. J erry Mander and Edward Goldsmith, Th e Case Against the Global Economy and Fora Turn Totoard the Local (San Francisco: Sierra Club Books, 1996 ) . 14. Lipset , American Exceptionalism, 268. Lipset do es see mu ch good in th e Am erica n Cree d and character, an d in fact it is h is thesis that the negative aspects of th ese are simply the flip sid e of th e positive asp ects . 15. Greider, On e World.

16. Lipset , A merican Ex ceptionalism, 25, 234 . 17. Jeff Faux and Larry Mishel, "In eq uality and th e Global Economy," in On the Edge: Li ving with Global Cap italism, ed . Will H utton and Anthony Giddens (Lon don :jonathan Cap e , 2(00) ,93. 18. Albert, Capitalism V.I . Capi talism, 15 - 18 .

19. Ibid ; Ch arkham , Keeping Good Company. 20 . Albert, Capitalism V.I. Capitalism, 19. 2 1.

See ge ne rally Ch ar kham , Keeping Good Company ; KlausJ. Ho pt and Eddy Wymeersch, Comparat iue Corporate Governan ce: Essays and Materials (Berlin and New York: Walter de Gruyter, 1997) . T he pri ncipal exce p tion is th e German model, which un de r ce r tain circumsta nce s allows em ployees in corp orations of at least five hundred workers to elect one-third of the supervisory board and em ployees in cor poratio ns o f at least two thous and work ers , ha lf th e members of the supervisory board in a system in which th e supervisory board functions in a gen eral oversight capa city and th e man aging board (whi ch is ap pointed by th e supervisory bo ard) actu ally en gages in th e man ag ement of th e com pany.

22.

Ch ar kha m, Keeping Good Company.

23. Rafa el La Porta, Flor en cio Lop ez-De-Silan es, and Andrei Shleifer, "Co rporate Ownership Around the World, " 541 Fin . 47 1 (1999)· 24. For ot her argume nts that co nverge nce is not likely to occu r, see William W. Bratton an d J osep h A. McCah er y, "Comparative Corporate Governance and th e T heory of the Firm: The Case Against Global Cross Referen ce," 38 Col. I Trans . Law 2 13 (1999) ; Stefan Wagstyl, "Cr u mbs from th e Tab le : The Fashion-

ab le Belief that Co ntinental European Compa nies ar e Paying Mo re Attention NO T ES T O P A GE S 26 5 - 72

297

to th e ir Shareh o ld ers is Only Slowly Be coming a Realit y," Finan cial Times, September 25, 1996 (quoting former consultant Ann Simpson: " It is arrogant to assu me th at A me rica n a tt itu d e s will p revai l"). At th e same tim e , it is h ard to ignore le gal change s in con tin e n ta l co u n t ries th at are working tow ard an Am erican-style model in in cr easing minority stockhold er prote cti ons a n d ea sin g tak eover restrict ions. Andre a Me lis, " Co rp o rate Go ve rnan ce In Italy,"

Corporate Governan ce: An International Review (Bla ckwe ll,

2(00)

However, as I

mak e cle ar in th e text, eve n iflegal " re fo r m s" d o o ccu r, co rp o ra te b eh avio r is as much a m atter of attitude as it is of law, and a cu lt ura lly sensitive understandin g o f th e issu e d o es n ot lead to th e p redicti on th at th e Am erica n m ode l, even if it is ad op te d wholesale in th e r es t of th e world , n e cess arily will lead in th e lo n g term to Ameri can- sty le ca p ita lism . In fact , on e reasonable fear is th at to th e e xte n t th e legal libe ra tio n p erm its for eign co rp o ra tio n s to ac t like ou rs, they will cause significant social dis loc ations to which we m ay be acc usto m e d but to whi ch o th e rs are n ot; back lash is likely to ari se in cu ltures tha t pri ze community over th e pursuit of individual wealth .

298

NO T E T O P A G E 2 72

INDEX

AFL-CIO pension funds , 180-1

Coc a-Co la Co m pa ny, 20 - 2, 37, 4 1

AIliedSign aI, 28, 37

Compensation , executive; limi ts on ,

Am eri can Law Institu te, Princip les of

109; stock o p tio ns, 109-1 1

Corporat e Governan ce, 69-70,

Con flicts of interes t. See Fiduciar y duty

104n

Constitue ncy statutes , 104- 5

Aq u inas, Thomas, 68, 75

Co n tinen tal Airl in es , 209

Aristotle, 68, 75, 156, 193-4

Corporations: artificial existence, 4 2-

Assumptio ns unde rlying thesis , 11-

3; fo rm and cu ltu re , 258-9 , 267-8;

14 Autonomy, 3 1- 2; morality a nd, 72 ;

forms of ownership, 272 -5; human e n terp rises, 259; law based o n mis-

po sitive fun ct ion, 3 2; restraints

trust, 124-8; legal per sonhood, 42 ;

upon , 3 1

lib e ralism an d , 4 1-5; limited liabilit y and (see Limited liabil ity) ;

Berk sh ire H athaway, 116 , 122 - 3,

maximizing sto ck price, 43; moral

153-4 Berl e , Ado lp h, 124, 185-6

vulnerab ility of, 212 - 4; p erson-

Buffett, War re n : investment horizon,

116, 132 ; loyalty of capital, 153- 4; own ers h ip theory, 122-3

ce n te r, 45-8, 67- 9; o rganization al hood co n trasted with , 44; Rhine model, 257 , 268-7 2; trust and (see Trust) ; wea lth as goal, 90-4 Culture, ro le of in co rpo ra te e th ics,

California Publ ic Emp loyee Re tire-

14- 16

ment System (Ca IPERS) , 5n, 178-

80, 263 Cap italism : co nver ge nce of, 265 pas-

Day traders, 135, 149-51 Democracy: defined , 256; effec t of

sim ; danger s of exp orti ng Am er i-

m eritocra cy on, 237; effec t of

can form , 260 - 1; defi n ed , 238,

wea lth on, 237 ; rela tionship to cap -

254; relationsh ip to democracy,

itali sm , 237-8, 254- 5 , 256- 7,

237- 8,2 54 - 5,25 6 -7,259- 60; uniq uen ess of Am eri can form ,

259-60; worker par ticipation an d,

265n ; various forms, 257- 8, 260, 26 4- 5 Caring im p ulse , 38- 40; otherness an d , 39- 40; vulnerability a nd , 39 Co ase , Ro n ald , 56 , 57 n

239-4 1 De rivative litiga tio n , 199- 204 Dir ectors : busin essj udgment rule , 68,

105; co nstitue ncy statutes, 104-5, 220 n; d uty of care , 101 ; d uty ofloyalty, 10 1, 19 1- 2, 194-9; m istrust

299

Directors: (continu ed)

General Elect ric, 98

of; 124-8, 232; qu inq uennial elec -

Ge n eral Mo tor s, 25 - 6, 37, 40, 57 - 8

tion s, 129-3 2; self-perpetuation,

Gilligan , Caro l, 66 , 71 n , 74 n , 75n

119 , 129; takeovers, 10 7- 9

Graham, Benj amin , 14 1

Dodd, David , 14 1 Dodd, E. Merrick , 186

Ho bbes, Thomas, 30

Dr ucker, Peter, 159

Hu me , David , 32 , 39 , 43, 123

Dwork in , Ron ald , 74n In co me in eq u ality: global, 2- 3; in Earnings per shar e, 115 Efficien cy, economic: bargaini ng pow er an d , 59 ; freedom of co ntract, 59 ; portfolio d iversificat ion as, 6 1; stock markets and, 112-5 Equity ma rkets : fun ction of, 136;

Un ited States, 36, 2 15-8, 237 Individ u alism , 33; perversion of; 36 In stitu tion al investors: compensatio n of managers, 18 2- 4 ; conce n tration of, !tl5-6; concerns 01', 17 1-2; for e ign co nce n tr ati on of, 263; for eign

ownership of, 14 7; primary mar-

in flue nce of, 262 - 3; growth of,

kets , 136- 7; sec ondary markets ,

169- 70; ho ldings , 165; managers ,

137- 8; specialists, 149 - 50; sp ecu la-

170 ; pension funds an d corporate

tion and, 139-40, 149-50

governa nce, 174-8 2; ro le in cor porate governan ce , 165, 170-4 ;

Fiduciary d u ty: explained , 188-91 ; fairn ess and , 196-9, 206-7; horizon tal co n flict, 193-4 , 205 -7; trust

socially responsible, 16 7-8, 181 - 2; turnover rat es, 169 ; types of, 168 In tel Corporation, 115

and, 190-1 , 205 ; verti ca l co n flict, 193- 4 , 194-9; vuln erability and , 190- 1 Fin an ce th eory: bet a, 143; cap ita l

J oh n Deere, 155 Kant, Im man uel , 32, 33, 72 , 75, 228

asse ts pricing model (CAPM), 14 2-

Keyn es,J ohn Mayn ard , 139

3; d ividend dis count model , 140-1 ;

Koh lber g , Lawren ce, 66 , 71

earni ngs, 14on ; effec t on stockholde rs, 144- 5; efficient ca p ita l

Levi Strauss and Company, 50

ma rkets hypothesis, 143- 4 ; fund a-

Levi tt , Arth ur, 136

mental valuation , 141; legal mo del

Liberalism : autonomy, 3 1- 2; balance

of sto ckholders and , 145-5 2; port-

ofliberty and eq uality, 34- 5; core

folio theory, 141- 2; takeovers and, 14 6 Fin an cial reporting : bro ad er appro ach es, 158-61 ; length en ing

theory, 30; corporation s and, 4 1-5; eq ua lity and , 30; ind ividualism and , 33; liber ty an d, 30, 33; perversion

pe riod s of; 13 2- 4 , 157 ; workers,

01',4 1 Limi ted liability: combined with sto ck

revised acco u nti ng for , 245- 50

price maximization, 54 ; corporat e

300 IN DEX

co n traste d with ind ividual, 54-6;

Proctor & Gam ble, 209

cost-be ne fit analysis an d , 57;

Pro fit maximizat ion, 6 7 n

defin ed , 53; effec t of el im ina tio n , 6 2, 65 n ; efIiciencyan d, 59, 6 1-2;

Rawls,joh n , 30, 74 n

ex te r na lization an d , 56; liberalism

Reich eld , Fre derick, 50

an d , 60; per son al respo n sib ility an d, 63- 5; rel at ionship to auto nomy, 53- 4 , 63- 5 Llewellyn , Karl , 74 n Lor sch ,j ay, 118

Selfishness surp lus , 36 Sm ith , Ada m , 3 2, 4 3, 5 1, 2 12, 227, 23 0 Sta te Farm , 155 Sto ckholders : apa thy of, 15 I ; collec-

Market cap italizatio n defined , 2n

tive ac tio n p roblem s, 132-4 , 156 ;

Markowitz, Har r y, 14 1

der ivative litigatio n and, 101 ;

Marr io tt Corporatio n , 26 -7, 37

own ers hi p myth , 119- 24 ; right to

Marsh all.joh n , 42

sell sha res, 10 7; speculators, 133- 4 ,

Mean s, Gardiner, 124 , 185 Mill,joh n Stuart , 33

149-51 ; votin g rights, 99 Stock pri ce maximi zati o n: civic virt ue

Mond ragon coo pe rati ves, 242 -5

an d , 93-4 ; cor p or ate re sp onsibility

Monitocracy: civic virtue an d , 233 -

an d , 4 , 9; effec t. of legal r u les o n , 4 ;

4 1; defin ed, 2 10; effec ts of; 2 18-

expor t of eth ic, 7-8; managerial

22; vers us coo pe ra tive systems, 232

o bsession wit h , 223-4; m orality of,

Morality: auto no my and , 72 ; co n-

90 - 4 ; purpose of corpora tion , 4 ;

strai nts on, 67 - 8, 75; con ting en t

resear ch and develop men t and,

morality, 69 ; cos t of, 70, 87; d eo n-

117- 8; short -te r m ism an d , 4-5 , 52

to logical, 72; d evelopment of, 7 1; free do m an d , 73-4; ir relevan ce of

Taylor, Fred erick Winslow, 5 1, 2 19

fram ewor k, 73 ;justification of e nds,

Tax es: cap ital gains r eform , 16 2-4;

68, 82 - 3, 88; organiz atio nal, 78-

corp ora te evasion, 28 -9

8 2; pr ocess and, 75 ; pr ofessio nal,

T IAA-CREF, 174 n , 175- 8 , 26 2- 3

76 - 8; pursuit of wealth as, 84 -90;

Tr ading volu m e, 139-40; NASDAQ,

ro le m orality, 76-8; utilitarian ism ,

73 n

135; NYSE, 135 Trust: be hav io ral effects, 50 , 226- 33; effe ct of monitocracy o n , 226-33;

Organ izatio ns: legitimacy of go als, 82 ;

fidu ciar y d ut y as sustaini ng, 205 ; in

types 01', 78- 82

coo perative systems, 232 ; mistrust

Own ershi p, 119- 24

and corpora te law, 124- 8 (see also

Piage t,jean , 66 , 71 , 74 , 7 5 n , 156

ies of, 22 7-8; wo rkers and , 214-5

Fid uciar y d u ty) ; psychological studPigo u , Arthur, 56

Tur n over rat es, 5

Pr esent value , 114 n INDE X

30 1

Un ited Stat es Su pre me Co ur t, 42,

mer ge rs o n , 209- 10; effect of sto ck price maximization on, 208 - 9,

2 11- 2 Unoca l, 22 -25, 3 7, 40

223 - 4; effe cts of glo ba lization 0 11 , 22 4-5; knowledge vers us service ,

Walzer, Mich ael, 92

2 1(J- 7; minimum wage, 2 17; mi s-

Wealth: as value , 84-90, 256

tr ust of, 2 10; owne rsh ip of e n te r-

Web e r, Max , 35

prise , 241 - 5; participation in

Welch,J ack, 98

go verna nce, 229-3 2; pen sion par-

Workers: bar gaining power of, 2 12;

ticipation, 225 - 6 ( see also Trust);

civic virtu e and , 233-4 1; co m pe nsati on ra tios, 2 I

302 INDE X

I,

2 18; effect of

revised acco unting fo r, 245-50; wages, 2 17-8