Breaking down companies

A basic, useful assumption in neo-classical economics is simply that companies are responsible only to their shareholders, and have the single goal of maximising profits. That serves you very well for a few years; after a while, you discover that in fact managers are capable of surreptitiously seizing control of companies that they do not own. And so you have to learn principal-agent theory — the owners are the principal, and the manager their agent — to try and work out how to get companies working properly at profit maximisation again, perhaps through tweaking how managers are compensated. 

But, in today’s world, who do companies really have to respond to? Increasingly, it's the state — whether as owner, regulator, or goon. 

Consider the question of “mandatory” corporate social responsibility, such as the government has now indicated it will introduce. CSR itself was nothing more than a boondoggle — an attempt to corral private resources to serve politicians’ objectives. In many cases, CSR money was spent on politicians’ favourite charities, or on welfare in their constituencies. In cases where no politician was directly involved, it became just another way for promoters to deny their fare share of the profits to small shareholders — the two per cent of profits mandated by CSR would go to a family-run “charity” instead. More recently, however, CSR funds are increasingly being spent essentially for undercover lobbying — on the stated priorities of the central or state government in return for favourable treatment by government officials. Who is the company working for, then?

There’s also the question of the resurgence of the state sector worldwide, whether as direct or indirect investor. Here geo-politics, domestic politics, and corporate policy can interact in sometimes worrying ways. In the United Kingdom, any move to stop Brexit is complicated by one simple fact: the Labour Party leader, Jeremy Corbyn, is not very happy with the European Union. He has always been a eurosceptic, but he has particularly good reasons at the moment, from his point of view. If and when in power, he would like to move on nationalisation — for example, the re-nationalisation of British Rail. But the primary owners of many of the railway lines in Britain today are foreign state-run railway companies, mostly from Europe. Keolis, in which France’s SNCF state railway company is a majority owner, controls three major lines out of London. A fourth of trains running in Britain — and many of its buses — are owned by Arriva, which is controlled by Deutsche Bahn of Germany. The Dutch railways are also a big player, and the Italians have just invested in the West Coast Mainline. A Labour government in the EU could correctly fear that its European partners will not look favourably on it bending EU rules in order to re-nationalise them if it is state companies that will be expropriated. 

The power of the state sector globally also complicates the notion that the owners of companies are diffuse shareholders who have an interest only in profit maximisation. Look at the state of Cathay Pacific following the protests in Hong Kong. Hong Kong’s flag carrier — the world’s tenth largest airline and among its best managed — has seen its stock tank after the government in Beijing took a strong stand against its permissive stance with regard to employees who sympathised with the protestors. Part of this is the general kowtowing to the Chinese market that any foreign company does — after all, a great deal of Cathay’s business comes from flying to mainland China, and almost all of its low-cost subsidiary Cathay Dragon’s market is in the mainland. But even so, the company might have held firm if not for the fact that a significant stake in the carrier is held by Beijing-controlled Air China. It is hard to imagine that Cathay will not take actions that further increase its alienation from its passengers if that is what Beijing wants. Would that be what a disinterested corporate entity would do in its place? Of course not. 

Some equity owners would not be displeased with the notion of state power in the marketplace — as long as it is on their side. Large pension funds and the like are overjoyed at the notion of partnering with state-controlled finance to invest in Indian infrastructure, for example. Their idea here is that the political risk in India is so immense that it is better to make sure the government is on your side, as a partner, than otherwise. That may be short-sighted, however. A government is quite happy to expropriate anyone, even a partner, if it feels the slightest pressure to do so. But the larger point is clear: at this moment, the market is not working to the assumptions of neo-classical economics. Even if internally there is a well-regulated, free and fair equity market, the power of state finance globally, of state-run companies and the continuing arbitrariness of state demands mean that companies continue to be unable to serve their actual equity owners as well as they should.