In 1903, Henry Ford founded his eponymous motor company and quickly cornered the U.S. auto market. The company steadily grew and began distributing significant profits to its shareholders. From 1913 to 1915, it paid out over $30 million, almost $1 billion in today’s dollars. The following year, the distributions stopped. Henry Ford announced that the company was doing so to benefit the community, not its shareholders. It would keep the cash to spread the benefits of Ford’s industrial system and improve the lives of as many as possible. The Dodge brothers, minority shareholders in Ford Motor, sued to reinstate the distributions. The Michigan Supreme Court sided with the Dodges, spelling out the “shareholder primacy” view of corporate governance: Corporations should be operated in the interest of and for the profit of their shareholders.
Shareholder primacy has prevailed ever since, though the argument has never ended. Its alternative, “stakeholder capitalism,” is an outgrowth of Ford’s vision, according to which corporations should be run to benefit all those potentially affected by their activities, including employees, customers, suppliers, communities, and the environment. Support for stakeholder capitalism has largely sprung from the mouths and pens of academics and progressive activists.
On the 2020 presidential campaign trail, Joe Biden energetically joined the chorus, declaring: “The idea the only responsibility a corporation has is with shareholders [is] an absolute farce. They have a responsibility to their workers, their community, to their country. That isn’t a new or radical notion.” At the end of February, his administration doubled down on the proposition that corporations should be used to advance his desired social policies, this time via government mandate.
The $280 billion CHIPS Act was adopted on a bipartisan basis in 2022 to strengthen the domestic semiconductor industry and reduce the country’s dependence on foreign suppliers. Its passage represented a huge win for Biden. But that was not enough. The administration is using the Act to implement the social policies it failed to enact through the normal democratic process.
On February 28, Commerce Secretary Gina Raimondo announced that her department, which administers the distribution of funds under the CHIPS Act, would give preference to projects that benefit workers and communities, particularly “underserved and economically disadvantaged communities,” presumably at the expense of shareholders. These benefits include things such as transportation and housing assistance. Recipients of funds will also be required to provide high-quality child care to those who build or work at the new facilities, to pay construction workers wages set by unions, and to refrain from stock buybacks, even if doing so is in the interest of the company’s owners. Companies receiving more than $150 million must pay the federal government a portion of their pro-fits exceeding certain amounts. None of this was in the legislation. None of it will strengthen the domestic semiconductor industry or reduce the country’s dependence on foreign suppliers. All of it provides benefits to “stakeholders” at the expense of shareholders.
The recent surge in populism and a growing suspicion of big business has expanded the group advocating the stakeholder-capitalism model. Politicians across the ideological spectrum, from Elizabeth Warren to Marco Rubio, assert that shareholder primacy is harmful to society, and that corporations must pursue a higher purpose. An increasing number of high-profile business executives have joined in. In August 2019, the Business Roundtable, an association of over 200 CEOs of America’s leading companies, reversed its long-held position that corporations exist primarily to serve shareholders, adopting a much broader conception of corporate purpose by declaring that corporations should deliver value to all of their stakeholders.
Stephen Bainbridge, a professor of law at UCLA and a widely regarded corporate-governance expert, has added to the debate with an important new book, The Profit Motive. Bainbridge says the Round Table’s about-face motivated him to mount “an unabashed defense of the proposition that the purpose of the corporation is to sustainably maximize shareholder value over the long-term.”
The book is both descriptive and prescriptive. The first half addresses whether current corporate law requires (or even allows) a corporation’s management to benefit anyone at the expense of its stockholders. Most stakeholder capitalists argue that this is a false dichotomy—that this approach maximizes value to shareholders as well. Larry Fink, the CEO of Blackrock, the world’s largest asset manager, has declared that “profits are in no way inconsistent with purpose—in fact, profits and purpose are inextricably linked.” But if this were true, stakeholder capitalism would be superfluous. Under a shareholder-primacy regime, managers are required to take these actions, so there would be no need to change the system. If stakeholder capitalism means anything, it means overlooking the interests of shareholders at some points.
Of course, shareholder primacy doesn’t preclude consideration of the effects of corporate action on others, as long as this consideration is ancillary to the primary goal of shareholder well-being. For example, treating employees well makes it easier to attract desirable employees, and treating customers fairly can lead to increased business. It would be ludicrous to prohibit an action simply because it would benefit other constituencies as well as shareholders. Indeed, as Bainbridge points out, if Ford Motor had asserted that it had halted distributions to reinvest profits for the benefit of its shareholders, the company would likely have won the case.
In the second half of his book, Bainbridge addresses the “ought” question, arguing flat out that shareholder primacy is preferable to stakeholder capitalism. He notes that even if societal benefit were the goal, most corporate managers don’t have the requisite knowledge, experience, or skills to resolve complex political decisions. He echoes a point Milton Friedman made in a seminal article on corporate purpose: Corporate managers are experts in running companies, not in determining what actions are most likely to contribute to attaining societal goals.
Even managers with the requisite expertise would find it impossible to balance the competing factors necessary to account for the varied interests of a firm’s constituencies. Bainbridge illustrates this point with a hypothetical: A company has an obsolete plant. Management considers closing the plant and transferring the work to a new plant in a different community. Doing so would harm the original plant’s workers and community but benefit the company’s shareholders and creditors, as well as the new plant’s employees and community.
Not only do the interests of different constituencies conflict, but the interests of individuals within each category may conflict as well. How should a corporate board juggle these incompatible interests? Under a shareholder-primacy norm, the answer is simple: Close the plant. Stakeholder capitalism provides absolutely no guidance. At the very least, the lack of a standard would allow managers to pursue a course that advances their own interests while pretending to balance the competing interests of various stakeholders. It is surprising that stakeholder capitalists, who often have a strong distrust of those running big business, ignore this point.
Finally, there is the question of whose values should be used to make these decisions. In a democracy, the social policies to pursue, and how to pursue them, should depend on the political process, not on the whims of company managers or executive-branch officials. Bainbridge argues that stakeholder-capitalism advocates are often statists seeking to stage an end run around the democratic process when it has denied their policy preferences. The Biden administration makes his case. Much of the social policy imposed by the administration under the Chips Act was in the Build Back Better bill it could not get passed. That doesn’t matter to Raimondo, who explained to the New York Times, “If Congress wasn’t going to do what they should have done, we’re going to do it in implementation” of the CHIPS Act. Why should an executive-branch official use shareholder resources to subvert the will of the people expressed through their democratically elected representatives?
If I have any quibble with Bainbridge’s book, it’s that he could spend a bit more space making the positive case for shareholder primacy. It’s not that he doesn’t make the case at all. It’s just that he spends the bulk of his argument cataloging the many defects of the alternative. But shareholder primacy isn’t just preferable in relation to the flawed model of stakeholder capitalism. It’s the best corporate-governance scheme conceivable, fostering the efficient allocation of resources, providing incentives for growth and innovation, and nurturing economic and political liberty. It is a system that has raised living standards and reduced poverty across the globe to an almost unimaginable extent. We tinker with it at significant risk.
But my quibble is minor. Bainbridge has provided an enthusiastic and well-reasoned defense of shareholder wealth maximization, one that has become increasingly necessary as attacks against the norm have increased. I hope it’s not too late.
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