Editor’s Note: This post is part of an ongoing multi-part series covering the Millstein Center’s March 1, 2019 conference, “Corporate Governance ‘Counter-narratives’: On Corporate Purpose and Shareholder Value(s).”
In the more than fifty years since the enshrinement of the Friedman doctrine as fundamental business canon, the conventional view has been that the singular purpose of a corporation is to increase profits (and therefore, shareholder value) to the maximum extent possible within the rules of the game. Oxford Professor Colin Mayer (and more than 30 other academics who collaborated with him on the British Academy’s Future of the Corporation project) would like that to change.
Under the Friedman doctrine, corporations have been a source of great economic prosperity and growth, but also great inequality and environmental degradation. As companies have become increasingly focused on profits and detached from a broader public purpose, Mayer says, they have engendered in society a “profound, pervasive, and persistent” distrust of business leaders and corporations.
In his work on the Future of the Corporation and in his recent book, Prosperity: Better Business Makes the Greater Good, Mayer seeks to determine how business needs to change over the coming decades in order to address this distrust, ameliorate inequality and environmental impacts, and grapple with the many other social, political, and economic challenges we face today. Mayer presented his views at the Millstein Center’s March 1, 2019 conference, Corporate Governance “Counter-narratives”: On Corporate Purpose and Shareholder Value(s). (A full recording is available here.)
Mayer proposes an alternative, alliterative, and, to some, radical theory of the purpose of business: rather than producing profits for their own sake, “[t]he purpose of business is to produce profitable solutions to the problems of people and planet, and in the process it produces profits.” While this “counter-narrative” is certainly a significant departure from the Friedman doctrine, Mayer argues that it is hardly a novel concept. He points out that corporations were originally established under Roman law to undertake public functions such as collecting taxes, minting coins, and building infrastructure. It is only over the last 60 years that the Friedman doctrine and shareholder primacy have taken hold, and public purposes have become detached from the corporation.
The purpose of business is to produce profitable solutions to the problems of people and planet, and in the process it produces profits.
In addition to requiring companies to commit to a corporate purpose beyond profit, Mayer identifies two other underpinnings required to reconceptualize business for the 21st century: trustworthiness and values. Committing to and delivering on a corporate purpose requires reciprocal relations of trust, which result in more loyal customers, more engaged employees, more supportive shareholders and, ultimately, greater revenues and lower costs. Trustworthiness is cultivated through strong corporate values of honesty and integrity and cultures of committing to the corporation’s purpose.
To help cultivate these three fundamental elements—purpose, trustworthiness, and values—Mayer argues that there are four areas in which broad policy changes which must occur: law and regulation, ownership and governance, measurement of financial performance, and finance and investment. Mayer takes each of these sets of policies in turn, laying out the current state of each and how they need to change in order to transform the role of the corporation in society:
- Law and regulation: Currently, corporation laws are focused on protecting shareholder rights, and boards’ fiduciary duties are centered around serving the best interests of shareholders. Instead, laws should require companies to define and deliver on their corporate purposes. Similarly, while regulations now create and enforce the “rules of the game” in the traditional context of the Friedman doctrine, they should instead seek to align corporate purposes with public purposes in those companies in which it is appropriate to do so (e.g., banks and audit companies, utility providers, and infrastructure companies).
- Ownership and governance: Corporate ownership centers around shareholders (especially institutional shareholders) and their robust bundle of property rights. But corporate ownership should also be viewed more broadly as an obligation and responsibility to uphold corporate purposes, and we should recognize that there are many different types of owners that are best suited to perform that function in different circumstances (including families, foundations, employees, the state, and institutional investors). Modern governance is preoccupied with solving agency problems and aligning managerial interests with shareholder interests; instead, it should align the interests of management with corporate purposes.
- Measurement of financial performance: Firms’ performance is measured by financial performance and accounts for the use of financial and material capital. But other forms of capital—specifically, human, natural, and social capital—have become scarcer and more important in the 21st century, and as a result profits and performance should be measured net of the cost of maintaining these capitals.
- Finance and investment:
- Finance is generally viewed as a set of contractual arrangements (rather than relationships) between suppliers and users of finance. Instead, we must recognize that in order to align the private interests of companies and financial institutions with their social purposes, relationships between firms and finance providers are important both in the context of debt finance (primarily, banking relationships) and in terms of shareholder relations, and that the latter often requires the presence of block equity holders with whom relationships can be developed.
- Public policy should not favor one form of finance over another, and distortions such as the deductibility of interest payments on corporate borrowing should be eliminated.
- The private capital markets alone are often not able to provide the types of financing companies need (for instance, in the case of large, long-term infrastructure projects). In these cases, strong relations of trust between government and business are especially important, and it is critical to align the private interests of companies with the public interest by, for example, the adoption of their public licensing requirements into their articles of association or charters.
Together, Mayer contends, these four sets of policy changes will transform capitalism. Now, the firm is seen as a nexus of contracts managed by boards of directors in the pursuit of profits for the benefit of shareholders, who have a robust bundle of property rights. Under Mayer’s vision, capitalism is reconceptualized as an economic and social system which produces profitable solutions to the problems of people and planet. Rather than nexuses of contracts, firms are nexuses of relations of trust based on principles, values and a broader corporate purpose to which both corporate owners and boards of directors are committed to uphold. This new, 21st century way of doing business will help fill the growing void between market failures and regulatory effectiveness (which is quickly becoming a chasm in the wake of rapid technological change); it will address both market and government failures by transforming private self-interest into a communal interest in a common purpose.
While Mayer’s ideas seem radical to some, he argues that attitudes toward the role of the corporation have already begun to change profoundly. BlackRock’s Larry Fink and the leaders of other multi-trillion-dollar asset management firms have called for companies to commit to purposes which transcend the pursuit of profit. Corporate governance codes around the world have started to incorporate ideas of corporate purpose, and legislative proposals such as Senator Elizabeth Warren’s Accountable Capitalism Act have gained popularity.
It remains to be seen whether Mayer’s particular vision of this sea change will come to pass, but many agree that capitalism is at an inflection point. The Millstein Center convened its “Corporate Governance Counter-Narratives” conference to explore and debate these important ideas and other “counter-narratives” to shareholder primacy, and we look forward to continuing this important conversation.
(For highlights of the panel discussion on Mayer’s ideas, see this post.)