February 19, 2021
The objective of business is to make money for its owners.
You might think that’s an uncontroversial statement…
It should be the financial equivalent of claiming that rain is wet, Mt. Everest is tall, and pizza goes with beer.
But it’s not… Today, companies have a lot of objectives that have nothing to do with making, you know, money. If you’re an investor, you may find that your interests – and the return on your investment – are no longer at the top of the list of priorities of the people who run those companies.
It may be another sign of an advanced bull market – or it may be a shift in how business is run that isn’t going away.
Whose ‘Social Responsibility’?
Nobel Prize-winning economist Milton Friedman – widely viewed as the most influential economist of the second half of the 20th century – advanced the notion that the point of corporations is to make money for shareholders. He defined the “social responsibility” of business as increasing profits, in an epoch-defining opinion piece in a 1970 New York Times.
The so-called Friedman Doctrine contended that it was the job of company managers to operate businesses with the aims of shareholders in mind – “which generally will be to make as much money as possible while conforming to the basic rules of the society.” (Friedman thought that the social responsibility of charity had its place – but that it wasn’t something companies should get involved with.)
From that assumption, it was a short step to the “greed is good” era of Gordon Gekko (the money-grubbing antihero of the 1987 big screen drama Wall Street), the excesses of junk-bond king Michael Milken, and trickle-down economics of the Reagan era.
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Stock investing, and the “more money, the better” ethos that accompanied it, became mainstream. In 1997, a generation after Friedman’s original exposition, corporate lobbying group Business Roundtable explicitly endorsed the idea that the point of companies is to serve shareholders.
And on the other side of the world, the introduction of economic reforms by Deng Xiaoping in China in 1978 kick-started history’s single most successful wealth-creation event. An evolving obsession with money and profits – despite, or because of, the Chinese Communist Party – eventually resulted in a subculture so wealth- and status-obsessed that it makes the Kardashians seem like Birkenstocks-wearing, granola-eating hippies by comparison.
The Friedman Doctrine Didn’t Work for Everyone
For everyone else – the non-business-owning majority, that is – the Friedman Doctrine marked the acceleration of the widening of the income and wealth gap that’s a defining characteristic of American society today.
The United States has one of the developed world’s most unequal economies, as gauged by the Gini coefficient which measures the level of income inequality within a country. And it’s been steadily increasing – from 1980 to 2016, income inequality soared by 20%, according to estimates by the Congressional Budget Office.
As an early 2020 report by Pew Research explained…
… the share of U.S. aggregate wealth held by upper-income families is on the rise. From 1983 to 2016, the share of aggregate wealth going to upper-income families increased from 60% to 79%. Meanwhile, the share held by middle-income families has been cut nearly in half, falling from 32% to 17%. Lower-income families had only 4% of aggregate wealth in 2016, down from 7% in 1983.
Even before the enormous economic dislocations caused by the coronavirus pandemic – the U.S. labor market is 10 million jobs smaller now than it was in February 2020 – 61% of Americans said there is “too much inequality” in the U.S. (By the current standards of polarization in American society, that level of agreement is like an entire anthill agreeing on what direction to march.)
Not only – as the cliché goes – have the rich been getting richer, they’ve also been keeping more of their wealth, further exacerbating inequality. According to the Institute for Policy Studies, the richest 0.01% of Americans – that’s around 33,000 people, who have an average net worth of close to $1 billion – pay one-sixth in taxes (as a percentage of total wealth) of what they used to pay a bit more than half a century ago. That 0.01% is around 1,000 times richer than the average American, compared with 200 times wealthier previously.
Inequality, and the perception of inequality, has reached the point where some of the richest people on Earth – including Microsoft founder and philanthropist Bill Gates and investment icon Warren Buffett – have practically begged to be taxed. “I’m for a tax system in which, if you have more money, you pay a higher percentage in taxes,” Gates wrote in December 2019, suggesting a higher capital gains tax and estate tax, among other measures.
Of course, it’s hardly Milton Friedman’s fault that the net worth of Amazon founder Jeff Bezos is greater than the GDP of all but 40 countries on Earth. A lot of factors have contributed to rising inequality… like globalization, technological change, educational inequality, the decline of unions, and the decaying value of the minimum wage. But capitalism taken to its extreme – the pursuit of profits as a “social responsibility” advocated by the Friedman Doctrine – certainly shoulders a lot of the blame.
The Pendulum Swings Back
The message that it’s gone too far has sunk in… For politicians, decrying the death of the American dream, and advancing ideas on how to revive it through easing inequality, have become the dollar bill of American political discourse: Ubiquitous, and not worth much.
What that means is that the ostensibly uncontroversial contention in the first sentence of this article – that the point of business is to make money for its owners – is like saying the Pope is Protestant. Among polite company, it’s almost as impolitic as “Oriental rugs” or referring to Native Americans when talking about sitting cross-legged, to talk about profitability as the main objective of corporations.
To paraphrase Ernest Hemingway’s thoughts about how bankruptcy transpires, the change in what companies are supposed to do has happened “gradually, then suddenly.” In August 2019, Business Roundtable revised its thinking on the purpose of corporations to encompass a commitment to “all stakeholders,” which include – in this order – customers, employees, suppliers, communities, and (last but not least) shareholders.
No less a capitalist luminary than CEO of JPMorgan Chase Jamie Dimon – he of the $31.5 million paycheck in 2020 – worried that the American dream is “fraying” and pledged commitment to push “for an economy that serves all Americans.”
That was followed by the Davos Manifesto 2020, named for the world’s rich-and-powerful meetings in Switzerland, “where lots of people who have benefited from shareholder capitalism laid down their thinking on getting rid of it,” the Financial Times explained. It called for a “better kind of capitalism” where providing shareholders with a return on investment is mentioned as the fifth – and last – purpose of companies (trailing, among other ends, treating employees with respect, viewing suppliers as “true partners,” and serving “society at large.”)
The backlash against the ideas encapsulated in the Friedman Doctrine has led to an entire generation that questions whether capitalism makes sense at all. Even though the United States is already far more socialist than many Americans appreciate, the embrace of socialism – and the rejection of capitalism that it implies – is startling… A Pew Research study in 2019 found that 50% of respondents aged 18 to 29 (that is, the rising generation of tomorrow’s leaders, economists, and policymakers) have a “very or somewhat positive impression” of socialism. That demographic is only very slightly more upbeat (52%) about capitalism.
That’s enough to make Milton Friedman stir in his grave.
The Ultimate Bull Market Luxury
But now, Dr. Friedman is doing a lot more than that… He’s escalated to rolling and thrashing in his grave.
In what might be the ultimate bull market luxury, not only are companies now retreating from the profit motive… But investors are too. Increasingly, to many people, investing is not – first and foremost – about making money.
Instead, it’s about taking a stand… messaging your beliefs… trying to right old wrongs… telegraphing your views on social justice… and putting your money where your socially conscious mouth is.
As a result, we’re seeing a pileup at the intersection of Woke Street and Main Street.
Exhibit 1: The “kamikaze capital” speculators on message-board website Reddit who, similar to the World War II Japanese suicide pilots, don’t mind if they lose their (financial) lives in trying to achieve an end. In this case, they were attempting to create short squeezes to push out hedge-fund short sellers, via message-board website Reddit – in particular with the shares of GameStop, Blackberry, and others.
Their aim? To show those hedge funds who’s boss… to “stick it to the man.” There’s no investment thesis, target price, or stock analysis. And making money, it seems, isn’t even the point. Rather, it’s speculating on the basis of a principle that is about as intellectually robust as something a petulant, hungry toddler might put together.
Exhibit 2: National Football League quarterback Colin Kaepernick took the San Francisco 49ers to the Super Bowl in 2013. But three years later, his career imploded after he began to kneel on the sideline at games while the national anthem was being played, to protest social injustice and police brutality. He spearheaded activism in sports that today is as normal as a quarterback throwing an incompletion.
Now, though, Kaepernick is hoping to get other people to put their money where his mouth is. Working with a part owner of the National Basketball Association’s Phoenix Suns team, Kaepernick is aiming to raise $287 million from investors via a SPAC – a “blank check” shell company that’s an easy way to take companies public. SPACs have raised nearly $40 billion in 131 offerings this year, and have been the hot new toy – the Beanie Babies, Nintendo Switch, the Barbie Dream Closet of money – that investors can’t seem to get enough of.
Kaepernick’s SPAC, which will be called Mission Advancement, won’t necessarily aim to make money. It’s hoping to acquire a consumer-focused company that has the potential to “generate a positive social impact,” the SEC filing for the SPAC explains. And as Forbes explains, “To make sure Mission Advancement’s board is aligned with its socially just company conscience, all directors are people of color and a majority of its members are women.”
Generating a “positive social impact” is a laudable (if vague) aim. It’s how we fight society’s ills.
But if that’s a company’s main objective, the chances are high that investors – in the traditional sense of “people who want to make money” – are going to be disappointed. The buyers of the Mission Advancement SPAC would need to feel that doing something good for society (as defined by Kaepernick) is a sufficient return on their capital. In which case, they’re similar to the kamikaze capital gang – in the way that principle (however defined) matters more than a return on investment.
Exhibit 3: ESG investing is focused on examining criteria in the environmental, social, and governance issues – as well as financial performance, stock fundamentals, and other traditional parameters – to analyze stocks.
As MarketWatch explains, “Sustainable investing covers a wide swath of investing to consider both financial return and social and environmental good. It can cover anything from reducing harmful impacts on the environment, to fair labor practices to promoting independent corporate board governance.”
And ESG investing isn’t just the investment playground of aging do-gooders. According to the Forum for Sustainable and Responsible Investment, as of late last year, nearly one-third of all money professionally managed in the U.S. (that’s including hedge funds, mutual funds, and pension funds, for starters) is investing using ESG criteria… That’s around $17 trillion. And it’s up by 42% since 2018.
Do returns matter for those investors? Of course. But how those returns are generated – what the companies do and how they operate, how they treat their employees, the impact they have on the environment and on the communities they serve – matter more. A company that doesn’t meet ESG criteria – no matter how attractive the profit margins, how strong the management, how large the market – won’t even make it onto their radar.
ESG investing isn’t a fad or a market phase… And with a far more socially aware generation increasingly taking control of capital – via savings and inheritance – it will only grow larger.
So will buying “woke” – that is, a perceived awareness of issues relating to social justice – generate a positive investment return? Kamikaze capital and Colin Kaepernick’s SPAC reflect the luxury of too much capital… of a bull market that’s searching for something – anything – to buy. It’s upended the Friedman Doctrine and changed the dynamics of how we look at an investment… and returns.
That’s for now, at least.
A sharp and sustained market decline… not the “oops, that was quick” coronavirus correction of last March, but a real bear market that wallops do-gooder investors who know only a world where stocks rise… is that the antidote to ignoring the most basic fundamentals of investing (that is… to make money)?
Perhaps. Maybe soon, we’ll even see.
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Executive Editor, American Consequences
With Editorial Staff
February 19, 2021