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Whose business is it anyway: Exploring corporate ownership

Whose business is it anyway: Exploring corporate ownership


Who should own the corporation and should the framework for economic activity be owned by anyone, asks Godfrey Rehaag

The 'corporation' or public limited company dominates the lives of most of us in the Western world; it consumes our daily energies, provides our livelihood, and helps generate the goods and services upon which we all depend.

In devising its structure today, we'd come up with some framework to co-ordinate the various participators into a coherent whole, with the control and rewards somehow apportioned according to the value of the current input. But that didn't happen in the 16th century, when liquid capital was in short supply, while labour, skills, and even enterprise were abundant in the market place. In those social and economic conditions, capital was considered the 'prime mover' of business undertakings, and the model reflected this.

The traditional corporation was deemed to exist for the exclusive benefit of the share capital provider, who actually owns it, so that all the other participants (those providing labour, management or any other supply than capital) are considered to be outsiders to the corporation. In contractual terms, the capital provider is the master, all the others are servants. And that is how it remains today.

Ownership of the corporation gives permanent control of the undertaking and the right to its profits. In other words, the undertaking exists to benefit a single participator at the expense of all others instead of being a means of rewarding each according to the value of their inputs. The result is that, far from being a balanced vehicle for the mutual benefit of all those taking part, the corporation is a device intended to benefit those with capital at the explicit cost of those without it. This can have no other outcome than to increase economic inequality, even if all parties do benefit to some extent along the way.

The philosophy underpinning the traditional model has long been questioned, and a number of alternative models (with workers, suppliers, or customers as owners) have been put into practice, some with real success; but the idea that the business framework needs to be permanently owned by one of the parties to it (whoever they may be) has not been properly challenged.

That a corporation should be a mere chattel belonging to those who provided the initial share capital is not only outdated, but plainly wrong. It is a lop-sided view of modern economic activity. It provides the wrong incentives, often rewarding those who have nothing further to contribute, while squeezing those who do. It requires extensive corporate governance regulation to adapt it to modern social norms, and to make it work. Shareholders fail in their supervisory role, feel uninvolved in the business and become little more than casino players. Employees are not structurally involved in any way, so never feel part of the business. Directors have conflicting incentives and often become a 'one party state'. And having corporate economic activity measured by a return on capital rather than on value added to the market (i.e. economic growth), means that the measure of success is the extent of inequality generated.

The fundamental argument in favour of the traditional model has always been the assertion that 'it works'. Its supporters maintain that the capitalist corporation has been instrumental in producing the greatest growth of economic activity in history. Now, whether it was indeed the corporation or perhaps the free market, plus the rule of law, and the institution of private property, with which it is often conflated, is a moot point; but certainly with the increasing impact of globalisation (which multiplies the harmful effects without local constraints) it can now be seen that the capitalist corporation is a major source of economic inequality, and as such has now a destructive effect on social cohesion.

In practice, a modern corporation might grow as follows: an individual devises a brilliant idea that's capable of making a lot of money, so he gives himself shares in a new company. The same probably goes for someone who puts up the initial risk capital. These people then control the company through their shares and get the benefit of any residual profit. It's not long before the company needs further critical people, who are then given further additional shares in the company. Without these individuals, the company would not exist; the company takes a while to succeed; therefore they ought to be given all the subsequent profits. That's how the traditional structure works.

Our first observation is that, although some financial backers are certainly needed to invest initial capital, mostly the people who come up with the ideas, the really valuable people, don't actually put in much cash. The same goes for the key staff who are later given share incentives. They have to pretend they've invested capital in order to be given a 'slice of the action'. This pretence is an admission that those giving the most valuable contribution (whatever it is) deserve the most rewards. We'd agree with that. So why do we still equate shares with the capital providers? Why persist with a legal structure that has to be routinely bent to make it work? Instead, we could split the 'equity' of the company (i.e. the shareholding power) away from the provision of capital, and then make further improvements, such as less permanent and more flexible shares. This brings us to the next point.

In general, once shares have been issued they can't be cancelled, so any contributor who deserves shares at any point then acquires a permanent interest in the business. Of course, additional shares may be issued again and again, but the older ones remain. This is a problem because the contribution (for which the shares have been issued) doesn't usually have the same permanence as the share: it rarely lasts to the end of the company's life, while a share does. Every corporation moves on, and while the historic contributions of Mr Rolls and Mr Royce may now be redundant, the business still labours for Rolls' heirs and descendants as permanent owners and beneficiaries (of the older shares) for the life of the corporation. Shares have an artificial permanence that outlasts life itself. It should be self-evident that a share in a business should last no longer than the benefit of the significant contribution for which it was given.

The gig economy with innovative platforms for enterprise (such as Uber and Airbnb) demonstrate clearly that the provision of capital alone is far less relevant than enterprise in the form of ideas '“ yet these new platforms also demonstrate how outdated the traditional corporate model is, with its requirement for someone to own the framework. For example, the profits of Uber are reserved exclusively and permanently for those who came up with the idea, with none being shared among the body of drivers who actually provide the vehicles and do the driving. Those persons (without whom the business would never be any more than a paper idea) have to fight through the courts to get even the national minimum wage for their efforts, while the person with the idea becomes worth billions.

It does matter that the framework is flawed, beyond the mere issue of fairness. It matters because it does not generate the sort of economic growth (namely one that is broadly shared) that is worth having for a modern society. It does not provide the right incentives for all those taking part, nor provide them with real rewards, so is not sustainable in the longer term (for example, in the case of Uber, the drivers not being encouraged to invest in better vehicles and better service for the longer term) and by creating extremes of inequality it damages social harmony.

By having permanent shareholders, the corporation operates like the game of Monopoly: because profits only ever go those with capital (with the most going to those with the most), the endgame is inevitable '“ a single massively successful winner, and misery for everyone else. That is no way to organise the most important social interaction in the Western world, as it can only result in ever-increasing gross inequality.

English law has for decades recognised the 'quasi-partnership' that exists between participators in a smaller corporate enterprise '“ effectively overlooking the external rigidity of the traditional corporate framework as an artificial and misleading device. We are conditioned to think from the perspective of shareholders rather than the business itself. As a company becomes established and successful, its cost of capital should fall, so that more of its profits are available to reward those making it all work. With the traditional corporation, the opposite happens '“ the cost of capital rises with the increasing success of the company, so that as capital becomes at less risk, the other participators have to pay more for it. The workers, suppliers, even customers have to be squeezed more and more to preserve an ever-increasing share price.

There is absolutely no fundamental principle '“ philosophical, economic, or practical '“ why the providers of a single contribution should permanently deserve all the rewards, or own the framework within which economic activity takes place. The social circumstances of economic activity have changed dramatically since the 16th century, and a more flexible framework is required. The existing model doesn't provide business with what it needs, it offends current social norms, and it promotes increasing inequality. The traditional corporation is as outmoded as the idea of owning slaves, or of treating wives as chattels. It is no longer fit for purpose.

Godfrey Rehaag is a chartered accountant and business adviser who has made a special study of the corporate model

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