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Crisis of Capitalism: Shareholder Primacy or Corporate Behaviour?

by AppliedCG
Anti-capitalism sign representing the crisis in capitalism

Crisis of Capitalism: is Shareholder Primacy or Corporate Behaviour to blame, and what can we do about it?

Big business may have lost its place to politicians as the group most mistrusted by the general public in the western world, but it seems to be generally acknowledged that there are serious issues facing the capitalist giants, and even some of their smaller brethren.

So, we agree that Capitalism is facing some kind of crisis, but what exactly is the crisis and what is its cause?

We have had more focus on Corporate Governance and more regulation of company boards in the past thirty years than in the previous three hundred, but it hasn’t prevented the development of this so-called crisis of capitalism. So what are the solutions that have been proposed, and why have they apparently proved ineffective?

And finally, therefore, what should we be focusing on now, and what remedies might be available to get capitalism back on track?

The shareholder primacy debate

In a recent letter to the Financial Times, Prof Jeffrey Sachs made a strong case for multi-stakeholder management as a curb on over-powerful corporations exploiting their market power and political influence with consequential harm to society. He depicted a corporate sector in the United States which had, as he put it, “dangerously polluted the environment, captured Congress and regulatory agencies through mega-lobbying and campaign financing, cheated relentlessly on taxes, lied repeatedly to the public, weakened trade unions through market and political action, and awarded sky-high compensation packages to the CEOs”.

In a subsequent article in the same paper, Martin Wolf discussed two of the major macro-economic concerns of recent years: the perception of growing inequality in the democratic countries of the west, and the significant slowdown in productivity improvement, improvement which is necessary for continuing growth in the standard of living. He attributed blame to what he called rentier capitalism, by which he meant the development of effective monopolies in major industries, which enabled the monopolists to extract much greater rewards than would be possible in a healthier, more competitive society. The result was both excessive extraction of wealth by the shareholders and managers at the expense of other stakeholders (and society in general) and reduced investment in innovation and hence productivity (similarly impacting adversely on society).

The ability to extract super-profits and cut back on innovative investment are clearly bad for corporate sustainability in the long-term, and, coupled with exercising undue political influence, are detrimental to society in both the short and long-term.

To what extent, though, is this the result of shareholder primacy, as advocated by Milton Freedman all those years ago, and to what degree do these pressures lead to bad decision-making?

The recently retired CEO of Unilever, Paul Polman, was a well-known advocate of wider stakeholder accountability. However, the attempted takeover by Kraft Heinz forced him to modify his broader approach to keep shareholders on-side, and caused him to focus on increasing short-term profitability.

A more extreme case was Carillion, where the board continued to go after marginally profitable business and pay large dividends to keep shareholders happy when it was rapidly running out of cash. The result cost employees and suppliers dearly.

Then again, there is the issue of bad behaviour versus bad judgement.

In recent years, building company Persimmon rode the wave of a government supported housebuilding initiative and the CEO, who had agreed a very favourable compensation package, caused outrage when he collected rewards running into many tens of millions of pounds. Since the company’s success seemed to most outsiders to be primarily due to the government support package for buyers rather than any exceptional skills on the CEO’s part, this was universally regarded as very bad corporate behaviour.

A different case was Thomas Cook, where an aggressive expansion strategy was funded by excessive borrowing, and misjudgement of the pace of change in the travel industry. The result was inability to cope with the burden of debt when the market conditions turned against the company and it went bust, hitting employees and suppliers hard. In this case, management was blamed for paying itself big bonuses while making catastrophically bad business decisions.

The failure of regulation and exhortation

As we said at the beginning, there has been a huge amount of new law, regulation, guidance and encouragement over the past thirty years, directed primarily at boards of directors, particularly of larger, listed companies. And many practices regarded as normal in earlier days, which would today be totally unacceptable, have been modified or banned. However, we are still faced with the perception of a “crisis in capitalism”. And this despite Cadbury and his disciples round the (non-US) world, and SarBox and Dodd-Frank in the United States.

Similarly, bodies like the UK’s Institute of Business Ethics (IBE), founded in 1986, and the various global initiatives like the United Nations Principles for Responsible Investment and Transparency International, have all been working tirelessly to improve the behaviour and social purpose of the corporate world, but, arguably, with limited success.

Failure of regulation is exemplified by the troubles of Wells Fargo, subsequent to SarBox and Dodd-Frank, and the recent comprehensive destruction of the reputation of the Australian banks despite the plaudits they received for avoiding the financial crash of 2009.

Failure of the efforts of the IBE are illustrated by the refusal, for many years, of Lloyds Bank to acknowledge the appalling treatment of the victims of fraudulent activity within the HBOS business it acquired in 2009.

Failures of good behaviour at a global level are displayed in the regular tables and corruption index published by Transparency International, founded in 1993.

Shareholder primacy on the defensive

There now appears to be an inexorable drift towards a broader interpretation of the Goal of corporations, expressed in some quarters as Purpose, which is understood to be a Social purpose, as distinct from a purely commercial, profit-driven objective.

As regular readers will know, we have long defined Goal to embrace a balanced interpretation of the aims of the key stakeholders of an organisation. As such, we would regard it as a red herring to allege that taking proper account of wider stakeholder groups is necessarily to the detriment of profit. Of course profit is the key to survival, but how much profit and how sustainably generated?

The answer is that it depends on the Goal being acceptable to all the key stakeholders, particularly customers, employees and owners. It isn’t about singlehandedly solving the world’s problems, though the social dimension is tremendously important both in the way the company is seen by the public on whose acceptance it depends, and in what it says about the morals of the people running the company.

Social responsibility is now taken for granted, except amongst a diminishing rear-guard of shareholder value diehards. We have written about ESG becoming mainstream, with the consequence that share price outperformance becomes to a degree self-fulfilling as the huge passive investing funds look for outstanding ESG performance. The remarks last year of Larry Fink, CEO of BlackRock, urging companies to pursue a social purpose beyond profit maximisation, and this year saying that BlackRock would change its hiring and potentially its compensation policy to encourage diversification, have been widely quoted. They have provoked accusations of “corporate socialism” from predictable quarters, but such criticisms ignore the fact that profit maximisation is at odds with sustainability, and sustainability depends on social acceptance.

Most recently, there has been the policy pronouncement by US Business Roundtable, which includes the CEOs of many of the top American companies, including JP Morgan, Amazon and General Motors, stating that the Purpose of a company should take account of the interests of five stakeholder groups: owners, customers, employees, suppliers and local communities. Welcome to the real world of today!

Will this really solve the current problems of capitalism?

Of course we applaud the increasingly general acceptance of the gospel we have been preaching for over twenty years. But there are still key elements missing if the objective of good corporate governance is to be achieved so that this time it really will be different, and not just a superficial fashion which doesn’t change underlying behaviour. Let’s look at some of the issues.

Adoption of Purpose

We would say that embracing broad social responsibilities is entirely correct, but has to be put in the context of a wider consensus of the key stakeholders regarding what they want from the company. Otherwise it lays itself open to charges of woolliness and a distraction from achieving success in the core commercial activity of the business.

Exhortations to behave better

There is a saying that the next financial crash occurs when all the people involved in the last one have retired. Human nature changes very slowly, and even the Ten Commandments, given to Mankind over three thousand years ago, are still not universally and comprehensively followed – ask some of our current political leaders. Exhortations are not enough.

New regulations

Previous attempts to regulate for better corporate behaviour have undoubtedly had some effect, but haven’t prevented subsequent wrong-doing. Probably it will always be necessary for society to keep playing regulatory catch-up to deal with the latest examples of corporate mis-deeds.

Metrics and measurement

One of the consistent short-comings of recent regulation is the failure to define useful metrics by which general standards of corporate behaviour can be measured. Compliance is easily gamed, as evidenced by the criticism of “box-ticking”.


Changing corporate behaviour for the better can only be achieved by appropriate sanctions, and while Cadbury’s “comply or explain” has been effective in “nudging” boards to change behaviour, it has completely failed in too many well-documented cases. As has been said in the context of the banks’ role in the great financial crash: it should not be about whether you CAN take a certain action, rather whether you SHOULD. Effective sanctions are needed to discourage bad thinking.

Achieving change

There is well-meaning preaching by bodies like Blueprint for Better Business but where are the teeth? There is an issue over how to change an underperforming CEO operating with a weak or conniving board – activist shareholders can sometimes achieve this, but how does an amorphous plethora of stakeholders make an impact?

Changing Corporate Behaviour

Discussion about corporate behaviour tends to focus on ethics, and, indeed, an ethical approach to business is the first of our Five Golden Rules of good corporate governance. But people also talk about lack of morality, and we need to consider carefully what we are aiming to achieve here if we want to change corporate behaviour.

As Prof A. C. Grayling notes in his History of Philosophy, ethics is derived from the Greek ethos, meaning character, that is, what sort of a person one is. Morals is derived from Cicero’s use of the Latin mores meaning customs or etiquette, so morality is about our actions, duties, obligations.

So a company’s expression of its ethics is about what it believes in (or says it believes in). The morality of its directors and employees is about their actions and the conventions by which they operate in practice.

Thus in seeking to improve corporate behaviour, we need to focus not on expressed ethics (or Purpose) – what they say they BELIEVE, but on corporate morality – what they actually DO from day to day in practice.

Some years ago, I was talking to an old friend who was working in a top-level role at the World Bank, assisting with the approval of loans to developing countries. His examinations included an assessment of the extent to which their governments had adopted the Cadbury corporate governance framework, and his frustration was that the legal experts had usually put in place the necessary regulations, but implementation was sketchy to say the least.

So the increasingly widespread acceptance of a more holistic approach to corporate responsibility is a great improvement, but the same flaws are likely to emerge in implementation. There needs to be an appropriate set of metrics, measurement of performance, transparency, and probably, therefore, independent certification.

And the need for TEETH to deal with egregious behaviour.

A possible Corporate Behaviour Assessment Model

In recent years, bodies such as the Institute of Chartered Secretaries and Administrators (ICSA) , Institute of Directors (IOD), International Corporate Governance Network (ICGN) and Trades Union Congress (TUC ) have called on the UK Government to set up a new regulatory body to police corporate governance better and look after interests of wider stakeholder groups. A particular focus has been on executive pay, but also about potentially applying regulatory force to private companies.

Is this a good idea?

We might observe here that, just as the Institute of Chartered Accountants in England and Wales (ICAEW) kicked off corporate governance regulation with Cadbury and developed the more detailed ramifications (Greenbury, Turnbull etc), while ignoring the wider aspects of a holistic approach and stakeholder concerns, its largest members made fortunes out of subsequent compliance work. Meanwhile egregious corporate behaviour continued and spectacular collapses still happened.

Is it too cynical to think that the Chartered Secretaries Institute, having missed out first time round, is now rebranding itself the Governance Institute and trying belatedly to jump on the bandwagon?

Company Secretaries have a key role in governance, but we need a radical extension of thinking here regarding corporate behaviour, not a land grab.

There is indeed a case to be made for professionalising the corporate governance monitoring field, but it must be based on a sound approach addressing the issues raised above in regard to changing corporate behaviour.

Our suggested approach would be something like the following:


A mandatory regulatory requirement for a regular external survey of corporate behaviour along stakeholder lines

  • industry-based regulation and standards
  • not new company law.

Reporting system for Boards

A social media based system to provide boards with continuous, on-going information necessary to fulfil their corporate behaviour obligations; this system to be mandatory, providing:

  • designated surveys and their interpretation
  • available for an independent Inspector to check and to use in interviews.

Inspection process

An independent Corporate Behaviour Inspectorate to regulate a process of inspection of boards on their corporate behaviour performance based on:

  • interviews with directors to test them on their knowledge of the on-going survey results
  • auditing the surveys which the company has carried out
  • checking the effectiveness of the social media system being used

This could be delegated to industry regulators, accredited by the Inspectorate.

Metrics and measurement

Companies required to publish the results of the corporate behaviour surveys, which would rank performance according to standard market research techniques:

Level 1: Publish and explain:

  • but not required to take any further action

Level 2: Publish audited results and explain:

  • companies’ boards are interviewed by the Independent Inspectorate
  • surveys are “audited”
  • companies signed up to Level 2 are relieved from significant regulatory compliance requirements (to be determined) as a quid pro quo

Incentives and sanctions

Companies’ industry rankings would:

  • benefit their brand value through good performance, and hence their share price and company valuation
  • damage their brand value through bad performance and hence lower their market valuation.

On a large scale, pressure to improve corporate behaviour, as exercised by a focus on the day to day actions of companies, and reinforced by demonstrable industry efforts to support this would do a great deal to improve the public’s view of the capitalist world.

And projection of concern for the public interest as a significant stakeholder would help keep politicians off the back of the business world.

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