Wednesday, September 2, 2009

Should shareholders own companies?

Business Times - 02 Sep 2009



SHAREHOLDERS own companies. That is what the law says, but when it comes to big listed corporations, most of these owners don't take much care over their property. Lord Myners, the UK City minister, is the latest to complain about this cavalier approach.

Mr Myners' previous suggestions for reform - selling votes, and offering extra votes to long-term holders - don't address the main problem: Most shareholders these days can't or won't think like owners. But his latest proposal - to have more non-voting shares for apathetic investors - is a sensible acknowledgement of the reality that most equity investors make bad owners.

Small private investors generally don't know enough about business and finance. The professional portfolio investor looks only a year or two ahead, and the constant struggle to outperform peers leaves almost no time to worry about individual holdings. Pure traders rarely look more than a few weeks ahead. Even activist investors are often just looking for a quick turn.

Ideally, equity investors might somehow be prodded to take a more active and long-term interest in management. But it is hard to see how that can happen without draconian changes in capital markets: Ending the cult of relative performance and imposing multi-year minimum holding periods.

But something less radical could work even better. Why not admit that absentee equity investors of large publicly traded companies shouldn't generally be treated as owners in the first place? That seems to be the thinking underpinning Mr Myners' idea that many shareholders could choose to disenfranchise themselves by investing in B-shares.

The attribution of ownership to common shares is something of a historical accident. It can still work well for small companies run by their controlling shareholders. But for big companies, common shares are best seen as one of many types of capital. Bondholders and lending banks provide other types of financial capital. Workers bring human capital. Governments and communities offer social capital. There is no good reason to give equity holders absolute priority over all the other capital providers, in the broad sense of the term.

The responsibilities of ownership are best handed to management. Top managers often say that 'shareholder value' is their only or their ultimate concern. That may be true in some theoretical sense - especially if they are talking about shareholder value a generation or two from now. But in practice, the managers spend most of their time trying to serve and balance the needs and desires of many constituencies.

Shareholders are certainly one of them, and should be more important than, say, former workers. But equity investors typically focus on strong quarterly earnings and pleasing patter. Those are usually less important than such other management - or rather ownership - responsibilities as big investment decisions, keeping key workers on board, meeting environmental regulations and ensuring that there is enough cash to keep up with debt payments.

Managers overall do a good job in working for all capital providers. They are certainly better placed to run companies day-to-day and quarter-to-quarter than any outsiders, including the so-called owners. Even when it comes to company-shaping decisions - major investments, acquisitions or being acquired - managers are better placed than anyone else.

As long as markets are liquid, most shareholders will prefer to sell than to try to change companies. That's probably a sensible use of their time, since it's hard to believe these outsiders could add much value to corporate decision-making, even if they tried.

If you want someone to oversee the managers, it should not be the shareholders but the board of directors. Board members aren't generally as short-term in their thinking as the shareholders who usually rubber-stamp their election. A well-chosen board can offer managers outside perspective, relevant experience and even ethical guidance. True, few boards are good at standing up to domineering chief executives. But that's the nature of collaborative enterprises. No system of corporate governance will ever be perfect.

Mr Myners' notion of creating voting and non-voting shares could help address one of the main weaknesses of the current system: That it is too hard to change incompetent boards. If only half the shares carried votes and the prices of voting and non-voting shares were not much different, it would take roughly half as much money to influence corporate direction. That lower threshold could reduce complacency.

In any case, corporate reformers should leave indifferent shareholders alone. For anyone who is serious about improving the oversight of companies - and protecting the long-term interests of shareholders - the board of directors should be the first port of call.

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