stakeholders – Escondido Framework

Lessons from a hospital turnaround chief executive

Queen's Medical Centre, Nottingham University Hospital — Queen’s Medical Centre, Nottingham University Hospital

I read an inspiring interview in Health Service Journal last week with the fairly recently appointed chief executive of a large NHS Trust facing a massive turnaround challenge. Anthony May, recruited last year to Nottingham University Hospital following many years as a successful chief executive of a large local authority spoke of the importance of providing the organisation with “hope” and of his visibility throughout the Trust. He also commented that the problems faced by the organisation had resulted in it spending too much time looking inwards and that it now had to rebuild relationships with its stakeholders. This resonated with my experience chairing to two NHS organisations through turnaround where I worked in support of two outstanding chief executives. A sense of hope and what I recall describing to colleagues as “something to believe in” is part of the “Dark Matter” that makes organisations more than the sum of their parts. And these are things that can only be created and communicated by a leadership team who are highly visible.

It has taken a few days for me to find time to blog about the interview. Returning to the on-line interview, I discover that it is now accompanied by a dozen or so comments from May’s colleagues. They are all anonymous (which enhances rather than diminishes their credibility) and all clearly come from within NUH. Some are very supportive. All confirm the scale of the task confronting May and the Trust. Some more sceptical, although they suggest an impatience in the delivery of the turnaround – but, as another comment points out, given the toxicity of the culture that May has come into it seems unreasonable to expect a turnaround to be completed overnight. Other comments have descended into a mudslinging between front-line and support services staff, only confirming the cultural challenge. Others display a degree of cynicism: one expresses this in a constructive tone, remarking “Always conscious a few quotes could be taken out of context but CEO needs to be careful here he doesn’t look to subscribe to the ‘great man/heroic leader’ school of management. Always implodes in due course.”

The commentators also remark on the intrinsic challenges that NUH faces because of its size, its spread across multiple sites, and its complexity. They also comment on the distraction provided by past M&A activity, regrettably something that has been, and continues to be in fashion in the NHS (many years ago I undertook an analysis that suggested an inverse correlation between NHS trust size and both financial performance and quality of care), and is consistent with most of the work undertaken in the private sector suggesting value destruction from M&A).

The delay in writing this blog piece is fortuitous. My enthusiasm for Anthony May’s comments is undiminished, but the comments highlight the challenge he faces and the need for him to sustain his effort and commitment as he has a long, hard road ahead. I wish him well.

So, what would a fair society look like? Daniel Chandler’s “Free and Equal”

Daniel Chandler was introduced to John Rawls’ Theory of Justice during his history degree at Cambridge. Although I was encouraged to write a dissertation on Les événements de mai 1968 while studying for the same degree thirty or more years earlier, Theory of Justice, only published in 1971, hadn’t made it into Quentin Skinner’s “History of Political Thought” lectures when I attended them in 1976. Instead, my introduction came at Stanford University’s Graduate School of Business a few years later. By the time that I was involved in the Britain’s short-lived Social Democratic Party in the 1980s, Rawls’ theories, particularly his rationale for a just society being one which offers the most for the least well off in society, provided a philosophical justification those who defected to the SDP from a Labour Party wedded to “Clause 4” socialism.

Chandler and I share a huge respect for Rawls. Chandler takes this to the extent that Rawls’ theories become his lodestone for examining public policy. In the first half of his book, Free and Equal: what would a fair society look like?[1] Chandler performs a valuable service by providing a readable and accessible summary of John Rawls’ famously turgid and impenetrable book, along with an account and rebuttal of Rawls’ critics and of those such as Amartya Sen (a hero and, apparently, mentor to Chandler) who have built on Rawls’ foundations. But the second half of the book, which justifies the sub-title , leaves me imagining that Chandler either wears a leather bracelet imprinted with WWRD (like members of some Christian youth groups wearing one for “What Would Jesus Do”) or lives under a banner like that raised by members of the Occupy Movement at St Pauls Cathedral in 2011.

Chandler works his way through a wide range of public policy issues, trying to apply Rawls’s view of what constitutes social justice by setting out a collection of prescriptions for addressing social and global problems, such as income and wealth distribution, the environment, and distribution of power in the workplace. The attempt is admirable, but disappointing. While conveying the impression that emotionally he is politically on the left, he is resolutely a centrist and not afraid to challenge traditional leftist positions, probably reflecting his academic move from history to politics and philosophy, so less a slave to dogma that some who take on this challenge.

His cv includes Harvard and the LSE, the UK Prime Minister’s Policy Unit, the Resolution Foundation and the Institute for Fiscal Studies, but his prescriptions and supporting accounts lack grounding, are uniformly derivative, and feel embarrassingly like the work I was turning out as a student politician and parliamentary researcher in my late teens and early twenties. Given his background, he can’t be blamed lacking the grounding in the real world that might have informed an approach that would be both more nuanced and insightful. His account of ownership and power in the context of the firm is particularly disappointing and falls into the trap of believing that the shareholders generally hold the power rather than the managers, and the power of different stakeholders depending on the characteristics of the particular markets in which the firm operates, may have more or less power[2]. The consequence is a very simplistic set of prescriptions, with nothing particuarly original.

I briefly found myself bothered by the utopianism that underlies the ambition for the second half of the book, but then cames across his own apology for this and explanation of the need for ambition to make the world a better place, and the value of Rawls’ ideas about justice in thinking about what constitutes “better”. I was then reminded of Lenin, writing in the fifth chapter of What is to be done? Where he cites 19^th Russian nihilist Pisarev

“the rift between dreams and reality causes no harm if only the person dreaming believes seriously in his dream, if he attentively observes life, compares his observations with his castles in the air, and if, generally speaking, he works conscientiously for the achievement of his fantasies. If there is some connection between dreams and life then all is well.”

before then observing

Of this kind of dreaming there is unfortunately too little in our movement.[3]

So, full marks to Chandler for his account of Rawls, and also the aspiration to frame practical solutions in light of Rawls theory, even if he falls well short in his prescriptions and how be presents them.

[1] Chandler, D. (2023). Free and Equal. Penguin UK

[2] Ironically, I read his objection (page 262) to John Lewis Partnership being viewed as a co-operative “because workers do not exercise full control over management” on the very day that the John Lewis staff chairman Dame Sharon White lost a vote of confidence in her past performance from the Partnership Council although she received support for her future leadership going forward.

[3] Wikipedia. (2023). Dmitry Pisarev. [online] Available at: https://en.wikipedia.org/wiki/Dmitry_Pisarev [Accessed 10 May 2023].

“…… because they still do the same thing: they primarily serve shareholders”

Dame Vivien Hunt, until this year managing partner of McKinsey’s offices in the UK and Ireland, has written in today’s Financial Times on workplace diversity and equality under the heading “Change how boards work to achieve to true diversity”.

She asks why, when one third of the seats on the boards of FTSE 100 companies are now occupied by women, “those boards still look similar……still filled with people who have the same skills carved out of similar professions, networks and university degrees.” Her explanation is that it is “because they still do the same thing: they primarily serve shareholders.”

I am pleased that one of the current leaders of the organisation where I started my professional career takes such an unambiguous and very public position strong position on both the composition of boards and their purpose. Back in the 1980s, most of my colleagues were beholden to the orthodoxy of “shareholder value” and, although there were a small number of senior non-white consultants (including Keniche Ohmae, who led the Tokyo office, and Rajat Gupta, who became an office managing partner shortly after I left and subsequently global managing partner), the firm was anything but diverse.

Dame Vivien argues that “we need to find people who represent not only our investors but everyone else – from buyers to suppliers, to local communities, to our natural environment”. Her use of language and her argument is not entirely clear here: her article could easily be interpreted as making a case for a board of representatives of stakeholders as opposed to a board that understands the broader mandate of the company and the need to take all stakeholders’ interests into account.

I have argued elsewhere against boards being composed of representatives of stakeholders. As is implicit in Dame Vivien’s article, directors should have a duty to all stakeholders, because their wellbeing of all groups is critical to the wellbeing of the company. Furthermore, in UK unitary boards composed of executives and non-executives, at the board may be the executive directors responsible for sales and marketing who should be the effective advocates for interests of consumers if they are fulfilling their role understanding and satisfying consumer needs. Similarly, executive directors of workforce and of operations should be able to represent to colleagues, who may place a primacy on the interests of shareholders and customers, the interests of the people they recruit, support, and manage. Whether or not they are full board members, most large companies employ directors of communications and public affairs (or similar) whose primary role may be to advocate externally for the company but also represent to the board the case for taking into account the interests of local communities, the environment, politicians and lobbyists.

Her underlying argument for diversity on boards is compelling, not for the purposes of representation but because a genuinely diverse board “brings diversity of thought, skills and experience that will lead to better decision making”. However, better decision making also depends on boards understanding their purpose of their companies, which is the sustainable creation of value for all those the company engages with, by producing goods or services more efficiently than would be possible in the absence of the company. The purpose of the company is not the creation of shareholder value: shareholder value is the necessary return provided to shareholders in return for their investment and the sustainable creation of shareholder value is the result of serving the interests of all stakeholders.

I was thrilled to read Dame Vivien’s piece and pleased to see her continued work championing diversity in business. But, notwithstanding my concern about some of the logical flow and detail in her argument, I was even more encouraged to see her set out the case that genuine diversity on boards will not be achieved until shareholder primacy is consigned to the waste bin.

Role of stakeholders in purposeful business

The second session in the British Academy Future of the Corporation – Purpose Summit took place earlier this afternoon, with a focus on the role of stakeholders in purposeful business. The proposition in the Escondido Framework that what most people call stakeholders should be thought of as customers of the firm is at odds with conventional stakeholder theory, but for the purpose of this review I will talk about stakeholders as conventionally understood.

Some of the richest material in the session came from Victoria Hurth from the Judge Institute, although perhaps I reach this conclusion because the language she employs comes closest to that used in the Escondido Framework model of the firm. She framed her introduction to the session by talking about the relationship of corporate purpose to stakeholders being one in which the role of the market is to mediate the pressures from stakeholders. She also talked about tapping the wisdom of shareholders to give meaning to the purpose of the company, which may be another way of looking at the Escondido Framework view that the organisation exists to resolve the symbiotic needs of the stakeholders. She wrapped her introduction with an argument about need for diversity on boards to help with a paradigm shift away from a shareholder value driven model of the firm to one driven by purpose in the service of stakeholders – but without demonstrating the logic behind her argument. There may well be plenty of meat underlying her assertion, but today she did not have the time to make this part of her case.

Frances O’Grady, from the TUC, made the case for hearing the voice of the workforce on the boardroom, referring back to Theresa May’s proposals for changes to corporate governance and the subsequent review that I contributed to and commented on in 2016 and 2017. She explained that she is agnostic about whether worker representation should be in the context of a unitary board or a two tier board following the model in some northern European countries. She also argued for a change to directors’ duties, by implication beyond those set out in Section 172 of the Companies Act requiring them to take account of all stakeholders, to require more focus on the long term.

Dan Labbard, CEO of the Crown Estate (an organisation whose roots go back to 1066 and William the Conqueror) addressed the question of whether a focus on purpose creates additional risk to the corporation. He argued that a focus on purpose equips the corporation to recognise and then organise to address risk, in contrast to a primary focus on profit. He build on this argument by encouraging organisations to proactively go out to their stakeholders with a purpose led strategy, rather than merely responding to stakeholders, and to look at risk through a stakeholder perspective.

Jim Snabe chairs two of Europe’s biggest corporations, Siemens and Maersk. He framed his concerns around the impact on companies of globalisation, technological change and the climate crisis. He argued for leadership anchored in corporate purpose, which describes as explaining why your organisation exists. Leading two companies with two tier boards, he is an enthusiast for this model, explain that the “management board drives the bus” while the supervisory board “sets the GPS”. He sees four roles for the supervisory board: ensuring the strategy is correct by asking the right questions; ensuring that the strategy is aligned with the United Nations strategic development goals; promoting the next generation of leadership; and defining success in terms of addressing the needs of all stakeholders.

Colin Mayer opened the responses to questions by observing that it is difficult, notwithstanding the variety of means that can be considered (different board structures, consultative bodies, citizen juries), to capture the views of stakeholders. (for the Escondido Framework perspective, visit the section of this site addressing governance and some of the relevant earlier posts).

How is business adopting purpose around the world?

The British Academy’s Future of the Corporation – Purpose Summit is an important contribution to developing our understanding of what business is about, and a subject at the heart of the Escondido Framework. Possibly as a result of the selection of speakers, this afternoon’s opening felt a bit like a vehicle for Colin Mayer’s view of the world, particularly for those in the audience who stayed on for Mayer to answer the questions posted during previous hour – (including his final response, in answer to the question that I had posted “Is purpose the answer to the questions “why does this business exist?” and “what do we do that creates value for customers, employees and suppliers?”, which was an emphatic “Yes”).

It was a pity that technical difficulties meant that it was impossible to hear the opening contributions from Mayer or from Stefan Oschmann, CEO of Merck, and that Ashley Grice, CEO of BrightHouse (a creative consultancy owned by the Boston Consulting Group, not to be confused with the bankrupt business that used to rent consumer durables to cash strapped households in the UK) had a false start and when she resumed once the technical problems had been addressed, spoke thirteen to the dozen presumably being anxious that she would run out of time.

Grice is her own worst enemy, or her delivery and articulation of the importance of corporation purpose risks undermining what I think is her core message. The technical problems today may have been part of the problem. However, her claim to have been part of a movement born in 2003 sounded a little bizarre, failing to recognise those who have been ploughing this furrow for many years, including people like Colin Mayer, and also Mark Goyder from Tomorrow’s Company whose name cropped up among the questioners in the chat box. No-one can doubt her passion, even if her references to the bionic company were puzzling. The most compelling part of her message was the value of purpose as something to engage the people in the company, because people need to find meaning in their work and their organisations, which (I am paraphrasing here) means they benefit from doing something worthwhile.

Alan Jope, CEO of Unilever, brought the session alive. He is a Unilever lifer, and comes across as a worthy successor to Paul Polman not only as a leader of the company but also as an advocate for a view that companies exist for a purpose rather than for profit, and that making profit serves the purpose of the company (in that without profit companies do not have investors or access to capital and, of course, if the chief executive fails to keep the investors happy they will be replaced as chief executive). He remarked that “companies without a purpose risk foundering on the rocks of moral bankruptcy” and told us that the purpose of Unilever reflected a founding mission “to make cleanliness commonplace and lessen the load on women” that had been updated to the 21^st century as “making sustainable living commonplace, improving livelihoods and respecting and protecting the environment”. Jope’s commitment to corporate purpose is expressed in three beliefs: that brands with purpose grow; companies with purpose last; and people with purpose thrive. He concluded by observing that collectively we have two big problems to address: inequality in all its forms and climate change, and that business has to play its part in addressing these.

The final speaker was the shadow chancellor of the exchequer, Annaliese Dodds. Following Alan Jope, with his clearly articulated and well structured case for corporate purpose, was a hard act, but she made a competent fist of the challenge. However, she did not manage to display the clarity of vision of what the corporation is about that Jope managed in his contribution or Colin Mayer provided when answering questions. In common with many others, she blurs boundaries and does not have a clear model in mind that allows her to express why governments have a role to play in regulating and on occasion supporting private businesses. I hope she did not intend to convey the impression that hitherto different industries were of different social worth (with ones that make or grow stuff at the top) and she had only come to recognise the importance of business such as logistics, retailing and social care as a consequence of the Covid-19 crisis. As someone who has worked in distribution and retailing, now works in an industry adjacent to social care, I know that the organisations that I worked in had purpose and that we created value for society!

The session ended with a short Q&A, in response to questions posted in a chat box. It was depressing to see how many questioners struggle with idea that purpose and profit have a symbiotic relationship. However, it is that very lack of understanding that justifies the efforts of those who are trying to deepen the popular understanding of the way that businesses actually work. I was disappointed by Colin Mayer’s response to a question about charities in which he failed to recognise how much charities have in common with businesses that trade for profit, in the equivalence between the way that charities have to satisfy their funders and the need of “for profit” businesses to satisfy their investors. But, as mentioned earlier, he rescued himself with a clear articulation of purpose in the answer to the question planted by this commentator.

Is Capitalism Killing America?

I was stopped in my tracks this morning by an email from the Stanford Graduate School of Business with the subject line “Is Capitalism Killing America?”. It is not the sort of thing that the world’s top business school (at least that was how it was rated forty years ago when I was there) normally sends to its alumni.

The key feature in the email newsletter was an article with the subheading “Young & Rubicam Chairman Emeritus Peter Georgescu says it’s time to end the era of shareholder primacy[1] which reviews Georgescu’s new book Capitalists Arise! End Economic Inequality, Grow the Middle Class, Heal the Nation (Berrett-Koehler, 2017). Georgescu, a fellow Stanford GSB “alumn”, is looking to chief executives to think about how, and for whom, they run their companies.

Capitalism is an endangered economic system, Georgescu says. He cites by economist William Lazonick, who studied S&P 500 companies from 2003 to 2012 and discovered that they routinely spend 54% of their earnings buying back their own stock and 37% of their earnings on leaving just 9% of earnings for investment in their business and their people.

“Innovation is the only real driver of success in the 21st century, and who does the innovation? Our employees. How are we motivating them? We treat them like dirt. If I need you, I need you. If I don’t, you’re out of here. And I keep your wages flat for 40 years,” says Georgescu, who points out that growth in real wages has been stagnant since the mid-1970s.

Georgescu continues by noting that the lack of investment in business and their people feeds back into demand, undermining sales growth. With median household income in the US less than 1% higher today than in 1989: “There’s no middle class, and the upper middle class has very little money left to spend, so they can’t drive the economy. The only people driving the GDP are the top 20% of us”. 60% of American households are technically insolvent and adding to their debt loads each year. In addition, income inequality in the U.S. is reaching new peaks: The top layer of earners now claim a larger portion of the nation’s income than ever before — more even than the peak in 1927, just two years before the onset of the Great Depression.

Georgescu blames the ascendency of the doctrine of shareholder primacy.

“Today’s mantra is ‘maximize short-term shareholder value.’ Period,” he says. “The rules of the game have become cancerous. They’re killing us. They’re killing the corporation. They’re helping to kill the country……..

“The cure can be found in the post–World War II economic expansion. From 1945 until the 1970s, the U.S economy was booming and America’s middle class was the largest market in the world. In those days, American capitalism said, ‘We’ll take care of five stakeholders,’. Then and now, the most important stakeholder is the customer. The second most important is the employee. If you don’t have happy employees, you’re not going to have happy customers. The third critical stakeholder is the company itself — it needs to be fed. Fourth come the communities in which you do business. Corporations were envisioned as good citizens — that’s why they got an enormous number of legal protections and tax breaks in the first place.

“If you serve all the other stakeholders well, the shareholders do fine,” he says. “If you take good care of your customers, pay your people well, invest in your own business, and you’re a good citizen, the shareholder does better. We need to get back to that today. Every company has got to do that.”

It’s refreshing to hear this from one of the grand old men of the commercial world in the United States. But in his critique of “shareholder value”, he fails to single out the principal beneficiaries, the chief executives and top management teams themselves (including our fellow business school alumni) who have exploited the system to cream off an ever increasing share of the rewards in salaries, bonuses and options, all the while failing to invest in productive assets, innovation, securing long term positions with customers and local communities, and in the people who work in the companies themselves.

[1] https://www.gsb.stanford.edu/insights/capitalism-killing-america?utm_source=Stanford+Business&utm_medium=email&utm_campaign=Stanford-Business-Issue-122-10-1-2017&utm_content=alumni

Timeless themes in Galsworthy’s “Strife” (1909)

My mother in law and I have resolved the problem of the deadweight loss of Christmas (Joel Waldfogel, American Economic Review, December 1993) by giving each other a night out at the theatre, accompanied by her daughter/my wife. Whether last night’s trip to see “Strife” at the Chichester Festival Theatre was her gift to me or mine to her doesn’t matter, it was a great production and my first exposure to John Galsworthy’s insightful exposure of the fallacy of mindless short term focus on shareholder value, the importance of recognising the constraints on the firm of public opinion, and the pressures on the trade union to serve its long term interest over the pressures of the interested parties in the immediate dispute. Furthermore, themes on hand around corporate governance, the tension between external directors and a dominant shareholder chairman, and on the other (in the context of the current junior doctors’ dispute and the tensions within the British Medical Association) between the professional leadership of the trade union and the intransigent leader of the local workers’ committee, have a resonance in 2016 every bit as powerful as they may have had when the play was first performed in 1909.

Wikipedia provides a useful synopsis:

The action takes place on 7 February at the Trenartha Tin Plate Works, on the borders of England and Wales. For several months there has been a strike at the factory.

Act I

The directors, concerned about the damage to the company, hold a board meeting at the home of the manager of the works. Simon Harness, representing the trade union that has withdrawn support for the strike, tells them he will make the men withdraw their excessive demands, and the directors should agree to the union’s demands. David Roberts, leader of the Men’s Committee, tells them he wants the strike to continue until their demands are met, although the men are starving. It is a confrontation between the elderly company chairman John Anthony and Roberts, and neither gives way.

After the meeting, Enid Underwood, daughter of John Anthony and wife of the manager, talks to her father: she is aware of the suffering of the families. Roberts’ wife Annie used to be her maid. She is also worried about the strain of the affair on her father. Henry Tench, company secretary, tells Anthony he may be outvoted by the Board.

Act II, Scene I

Enid visits the Roberts’ cottage, and talks to Annie Roberts, who has a heart condition. When David Roberts comes in, Enid tells him there must be a compromise, and that he should have more pity on his wife; he does not change his position, and he is unmoved by his wife’s concern for the families of the strikers.

Act II, Scene II

In an open space near the factory, a platform has been improvised and Harness, in a speech to the strikers, says they have been ill-advised and they should cut their demands, instead of starving; they should support the Union, who will support them. There are short speeches from two men, who have contrasting opinions. Roberts goes to the platform and, in a long speech, says that the fight is against Capital, “a white-faced, stony-hearted monster”. “Ye have got it on its knees; are ye to give up at the last minute to save your miserable bodies pain?”

When news is brought that his wife has died, Roberts leaves and the meeting peters out.

Act III

In the home of the manager, Enid talks with Edgar Anthony; he is the chairman’s son and one of the directors. She is less sympathetic now towards the men, and, concerned about their father, says Edgar should support him. However Edgar’s sympathies are with the men. They receive the news that Mrs Roberts has died.

The directors’ meeting, already bad-tempered, is affected by the news. Edgar says he would rather resign than go on starving women; the other directors react badly to an opinion put so frankly. John Anthony makes a long speech: insisting they should not give in to the men, he says “There is only one way of treating ‘men’ — with the iron hand. This half-and-half business… has brought all this upon us…. Yield one demand, and they will make it six….”

He puts to the board the motion that the dispute should be placed in the hands of Harness. All the directors are in favour; Anthony alone is not in favour, and he resigns. The Men’s Committee, including Roberts, and Harness come in to receive the result. Roberts repeats his resistance, but on being told the outcome, realizes that he and Anthony have both been thrown over. The agreement is what had been proposed before the strike began.

Missing from the synopsis are some of the more subtle themes in Galsworthy’s text, including the recognition by Harness of the reality facing the company (that it will not survive if the strike continues and the men’s jobs are on the line) irrespective of Roberts’ concern for a wider struggle against “Capital”, John Anthony’s arguments about the primacy of the bottom line and his duty not to compromise, and the concern of the majority of the directors of the company for public opinion (and their personal reputations).

“Irresponsible behaviour in big business” – “Unacceptable face of capitalism” remastered?

A new wind is blowing down Downing Street. The leadership of the Conservative Party has skipped back a track, with a generation born in the 1960s whose ideas were shaped by the Thatcher era replaced by one born in the 1950s that emerged into political consciousness in the years of Heath, Wilson and Callaghan. The young Theresa Brazier – later to become Mrs May – was studying for her A levels when the first of these branded Tiny Rowland as “the unacceptable face of capitalism”.

Tiny Rowland was engaged in a battle with his own non-executives at Lonrho at the time, dismissing them as “Christmas Tree Decorations”. Theresa May is now sharing the popular outrage at the conduct of Sir Philip Green and Mike Ashley and calling for changes to address “irresponsible behaviour in big business”, in particular to protect the interests of employees and to challenge excessive executive pay. It is interesting to compare the targets of the two prime forty three years apart: Heath was criticising the chief executive of a company whose non-executive directors were standing up to him, whereas Theresa May’s challenge is to behaviour exemplified by a former chief executive who owned, or rather whose wife principally, owned the company, and a second chief executive who is a majority shareholder but who appears to have the chairman and board in his pocket.

Mrs May’s pronouncements, aided by such high profile cases as BhS and Sports Direct, help to change the climate. But is this sustainable, and are the solutions being canvassed the right ones? Philip Augar, writing in the FT on 22^nd August, noted

In her last major speech before entering Number 10 as prime minister, Theresa May eerily echoed remarks made by the former Labour premier Tony Blair 20 years earlier: “Transient shareholders are not the only people with an interest when firms are sold or closed,” she said. “Workers have a stake, local communities have a stake, and often the whole country has a stake.”

Mr Blair, in a speech delivered in Singapore shortly before he took power, asserted that it was “time to assess how we shift the emphasis in our corporate ethos . . . towards a vision of the company as a community or partnership in which each employee has a stake”.

Augar went on to point out that “what had promised to be a defining philosophy for New Labour was scarcely heard of once he was in office”. Admittedly, section 172 of the 2006 Companies Act did shift the ground by requiring directors to:

have regard (amongst other matters) to—

the likely consequences of any decision in the long term,

the interests of the company’s employees,

the need to foster the company’s business relationships with suppliers, customers and others,

the impact of the company’s operations on the community and the environment,

the desirability of the company maintaining a reputation for high standards of business conduct, and

the need to act fairly as between members of the company.

Nonetheless, Augar’s point about lack of delivery is well made, given precisely the types of issue that the new prime minister has declared that she wants to address.

Her ambition to reform corporate governance is admirable. But are they right solutions? The FT reports today (25^th July):

The prime minister’s allies say that a package of measures to improve corporate governance are being drawn up and will be published in the coming weeks.

Mrs May this month promised to broaden the pool of non-executive directors, so that they were no longer drawn from “the same narrow, social and professional circles as the executive team”.

“If I’m prime minister, we’re going to change that system and we’re going to have not just consumers represented on company boards but employees as well,” she said.

The idea is opposed by some corporate leaders, who fear that “worker directors” would end up being selected by trade unions. Mrs May’s team say they would act as a deterrent to the “appalling” working practices adopted by Sports Direct, which were heavily criticised by MPs this month.

Mrs May’s reforms are also expected to include a requirement for more transparency on pay, including making shareholder votes on corporate pay not just advisory but binding. “Pay multiple” data would also be published to show the gap between a chief executive’s pay and those of workers.

The new prime minister has also talked about toughening competition law to protect consumers and a further crackdown on corporate tax avoidance and evasion. “It is not anti-business to suggest that big business needs to change,” Mrs May said at the launch of her leadership bid.

There is some very good stuff here, including ideas about widening the pool of non-executive directors, but a lot more thought is required about how this should be done, and what would be the most effective way of ensuring that what is done addresses the problems identified. For example, appointing a token employee director may be a less effective way of addressing the need to represent employee’s interests than having an effective workforce or HR director on the board whose job it to take into account the need to meet the needs and desires of all the workforce, and couple this with greater protection of employee rights, not least around working conditions and pensions.

“Shareholder value ……. the biggest idea in business” – Really?

The Economist has published a useful analysis of the place of “Shareholder Value” in contemporary thinking about business and the firm (Shareholder Value: the enduring power of the biggest idea in business*, The Economist, 2 April 2016).

The article describes the evolution of the idea that the purpose of the firm is to maximise shareholder value, its primacy first in the Anglo Saxon world, but its pervasiveness today globally wherever commerce is practised. It also cites the objections to capitalism of a society that sees corrupt and failing businesses and widening social inequality.

It describes the challenges faced by Shareholder Value. The first that is it

“is a licence for bad conduct, including skimping on investment, exorbitant pay, high leverage, silly takeovers, accounting shenanigans and a craze for share buy-backs, which are running at $600 billion a year in America”

but the Economist then argues that these are essentially perversions of Shareholder Value:

“These things happen, but none has much to do with shareholder value. A premise of “Valuation” is that there is no free lunch. A firm’s worth is based on its long-term operating performance, not financial engineering. It cannot boost its value much by manipulating its capital structure. Optical changes to accounting profits don’t matter; cashflow does (a lesson WorldCom and Enron ignored). Leverage boosts headline rates of return but, reciprocally, raises risks (as Lehman found). Buy-backs do not create value, just transfer it between shareholders. Takeovers make sense only if the value of synergies exceeds the premium paid (as Valeant discovered). Pay packages that reward boosts to earnings-per-share and short-term share-price pops are silly.

“Outbreaks of madness in markets tend to happen because people are breaking the rules of shareholder value, not enacting them. This is true of the internet bubble of 1999-2000, the leveraged buy-out boom of 2004-08 and the banking crash. That such fiascos occur is a failure of governance and human nature, not of an idea.”

The second is the challenge of the stakeholder model:

“that firms should be run for all stakeholders, not just shareholders. In a trite sense the goals of equity-holders and others are aligned. A firm that sufficiently annoys customers, counterparties and staff cannot stay in business.”

The Economist then goes on to describe the difficulty finding an objective to replace shareholder value, including risk of potentially unintended consequences of placing too much emphasis on specific stakeholder, for example by protecting employment to the point that a company goes under. It then concludes that “For these reasons shareholder value—properly defined—will remain the governing principle of firms” but with the qualification that “shareholder value is not the governing principle of societies. Firms operate within rules set by others.”

The Escondido Framework turns a lot of this thinking on its head. Maximising shareholder valuation is not an absolute objective: rather the management of a company need to deliver sufficient shareholder returns, including the prospect of returns, to secure the capital the company requires and to satisfy shareholder that they would not be better off using such influence as they have in the financial instruments they hold to replace them with other managers. This is fundamentally no different to the task they face setting terms of employment to secure the necessary workforce, and designing products and services and setting prices to attract and retain customers. The Escondido Framework also argues that other, non-financially mediated markets have also to be considered, to keep regulators on-side and to maintain a favourable climate among the public at large who may ultimately influence the behaviour of governments or even do such perverse things as consequence of their alienation as to cast votes to leave a continental economic union that underpins the welfare of the economy.

One of the underlying conclusions of the Escondido Framework is that shareholder value is not the governing principle of firms. This is a descriptive not a normative statement. Firms are managed to keep shareholders of management’s backs. Inefficiencies in capital markets and corporate governance result in perverse and/or satisficing behaviours by managers in relation to shareholders, as evidenced by the lack of control of executive salaries and value destroying M&A activity. Firms that are successful in the long term in terms of market presence, satisfying customers and being places that employees report as attractive places to work, whose standing and reputation with the public helps reduce pressure for adverse regulation from government, happen also to be those who are successful in providing returns to shareholders over the long haul that attract long term investors who, like Warren Buffet, manage to generate superior returns. The deal works this way round, not the other way!

*The authors regrettably seem unaware that Jack Welch once described Shareholder Value as “the dumbest idea in the world” – see blog post 10th April 2010

Marketing, not just about consumers

At some point in the late 1990s, I wrote a short piece for Word on the Street, the Brackenbury Group’s client newsletter, which demonstrates one of the core propositions behind the Escondido Framework very clearly. The relationship between the organisation and all its “stakeholders” is at its heart a marketing relationship:

Marketing is too important to be left to the marketing department. Marketing departments address only the consumers of the products or services that a company sells to those it thinks of as its customers. But the truth is far wider than this.

Companies should apply the marketing way of thinking in all the markets in which they operate. This means not just the “downstream” market, but also to the “upstream” markets: funding, labour, bought in goods and services. The company is marketing an investment opportunity to its shareholders and debt providers. It is marketing careers and contracts to existing and prospective employees. It is providing opportunities to its suppliers with markets and channels to other markets.

The marketing mindset involves understanding the differing needs of differing customer segments, thinking about how to adapt your offer to meet the needs of your target customer and then doing it consistently, understanding the trade-offs they make between different attributes of the product or service you provide – of which price is only one dimension, determining where you can achieve an advantage over your competitors. It also includes what most non-marketing people understand as “marketing”, communicating these benefits to customers in ways that lead eventually to a profitable sale.

In most companies, marketing activity occurs sporadically in the functions that face “upstream”. Presentations are given to investors and financial PR consultancies are returned to put a positive gloss on results. Advertisements are placed, glossy brochures and upbeat web pages prepared, and roadshows taken round campuses to attract prospective recruits. Invtitations to tender and requirements lists are circulated, and subscriptions taken to web-exchanges as part of the sourcing process, whether for services, real estate, or components and real estate.

But in few companies does marketing explicitly underpin the way in which directors and managers in finance, HR, buying and purchasing, IT, property approach their responsibilities. They need to think about their “customers” in the same way that their downstream facing colleagues do about the people or businesses that are customers for the products and services the company sells. Applying tried and tested approaches from the downstream markets to the upstream markets to dealing with the financial markets will yield precious basis point reductions in the cost of capital and reduce paranoia about awkward investors or even takeover. In HR policy, it will reduce total employment costs – not just outlays on wages and salaries, or even improved retention, but also through enhanced productivity. And in purchasing it will translate into competitive advantage through lower total costs of supply, higher service and priority treatment.