New Rules

By: Dr. M. Ray Perryman
Published in syndication August 21, 2019

America's largest corporations have long been focused almost exclusively on increasing shareholder value. That goal was rooted in traditional notions of market theory that purportedly held that pursuing self-interest would ultimately secure optimal outcomes. Even the architects of this doctrine, including Adam Smith, recognized many occasions where this approach needed to be broadened, and the realities of contemporary life make that point abundantly clear.

A recent statement from the Business Roundtable expands the scope to all stakeholders--customers, employees, suppliers, and communities, as well as shareholders. The Business Roundtable is an organization of CEOs of US companies which, as a group, have more than 15 million employees and generate over $7 trillion in annual revenues. These firms are major employers in every state and foster the innovation and research to promote prosperity and solve pressing problems.

The Business Roundtable's most recent Statement on the Purpose of a Corporation was signed by 181 CEOs who commit to lead for the benefit of all stakeholders. It's a notable departure from the policies of the past four decades, which promoted the idea that corporations exist principally to serve shareholders.

The new statement reflects recognition that the optimal path to long-term success requires thinking beyond stock prices. For example, short-term earnings typically move stock prices, and firms often push to maximize them. While making profits is crucial, becoming exclusively driven by quarterly results often leads to myopic decisions, such as foregoing research and initiatives that could provide returns over decades, cutting costs excessively, ignoring employee morale (and, hence, productivity), or failing to adequately address social and environmental issues that could undermine sustainability.

Many of the most profitable firms already treat employees very well (to attract and retain the best and brightest) and invest in their communities (thus building a cooperative relationship). Putting these ideas on a signed paper, however, takes them to another level.

As the Statement says, "[e]ach of our stakeholders is essential. We commit to deliver value to all of them, for the future success of our companies, our communities and our country." These are powerful words. Shareholders remain a primary focus (appropriately, as they provide the necessary capital for corporate activity), but decisions should be based on more than the next earnings announcement.

A longer-term vision and wider view of success will, over time, improve outcomes for all, including shareholders. My firm and others have demonstrated this phenomenon in numerous contexts. In many ways, it is merely an extension of the time frame over which value is maximized. While a statement isn't action and this one will no doubt face pushback from some activist investors and potentially even regulators, it can nonetheless be a catalyst for real and productive change.