Who Owns The Corporation


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The notion of shareholders as owners is incorrect.

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  • Who Owns The Corporation

    1. 1. Who owns the corporation? Prof. dr. R. A. M. Pruijm RA
    2. 2. <ul><li>Emeritus professor Erasmus University </li></ul><ul><li>Lector Corporate Governance Fontys </li></ul><ul><li>Director Knowledge Centre Finance & Accounting </li></ul>
    3. 3. Content <ul><li>Why is it so important? </li></ul><ul><li>The corporation and its stakeholders </li></ul><ul><li>Who is in charge? </li></ul><ul><li>Shareholder’s democracy? </li></ul><ul><li>Activist shareholders </li></ul><ul><li>Conclusion </li></ul>
    4. 4. Why is that important? Who owns the corporation?
    5. 5. Who owns Microsoft? <ul><li>Market-capitalization: $265 billion </li></ul><ul><li>Employees: 80.000 </li></ul>
    6. 6. Who owns ABN Amro? <ul><li>Market capitalization: 71 billion euro </li></ul><ul><li>Employees: 107.000 </li></ul><ul><li>Who is the owner? </li></ul><ul><ul><li>Fortis? </li></ul></ul><ul><ul><li>Banco Santander? </li></ul></ul><ul><ul><li>Royal Bank of Scotland? </li></ul></ul>
    7. 7. Why is it important? <ul><li>Corporations are essential for the world economy </li></ul><ul><li>How a company operates is important </li></ul><ul><li>The purpose of a corporation is important </li></ul><ul><li>Who is in charge is important </li></ul>
    8. 8. Largest Public Companies 247 1884 22 146 Citigroup 275 66 12 46 Microsoft 358 697 20 163 General Electric 410 224 40 335 ExxonMobil Market Value Assets Profit Sales
    9. 9. What is a corporation? <ul><li>Corporation derives from the Latin Corpus a “body of people” </li></ul><ul><li>A legal entity which has a separate legal personality from its members (shareholders) </li></ul><ul><li>To undertake tasks too risky or too expensive for individuals to embark upon </li></ul><ul><li>Oldest corporation: Stora Kopparberg mining in Falun, Sweden in 1347 </li></ul><ul><li>Other examples: Dutch East India Company and Hudson’s Bay company </li></ul>
    10. 10. Stora Kopparberg share
    11. 11. Dutch East India Company share
    12. 12. Legal characteristics <ul><li>Own legal personality </li></ul><ul><ul><li>An juristic person </li></ul></ul><ul><li>Transferable shares </li></ul><ul><ul><li>Shareholders can change without affecting its status </li></ul></ul><ul><li>Perpetual succession capacity </li></ul><ul><ul><li>Continued existence despite shareholders death or withdrawal </li></ul></ul><ul><li>Limited liability </li></ul><ul><ul><li>For corporate debt, from judgments against the corporation, amnesty from criminal actions of the corporation </li></ul></ul>
    13. 13. Advantages <ul><li>For the corporation </li></ul><ul><ul><li>Easy (equity) capital </li></ul></ul><ul><ul><li>Low costs (no dividend obligation, no interest) </li></ul></ul><ul><li>For shareholders </li></ul><ul><ul><li>Limited risk (as many shares as you want, from different corporations) </li></ul></ul><ul><ul><li>Chance of a profitable investment (increase in price of shares, and possible dividend) </li></ul></ul><ul><ul><li>Easy exit by selling shares </li></ul></ul>
    14. 15. Corporation <ul><li>Publicly traded corporation, the shares of which are traded on a public market, e.g. The New York Stock Exchange </li></ul>
    15. 16. Ownership and Control <ul><li>Persons can have the right to vote or share in the profit of corporations </li></ul><ul><li>These voters hold shares of stock and are called shareholders </li></ul>
    16. 17. Ownership and control <ul><li>Control of the corporation is determined by a board of directors, elected by the shareholders </li></ul><ul><li>The board consists of executive and non-executive members </li></ul><ul><li>Executive officers are chosen by the board to manage the daily affairs of the corporation </li></ul>
    17. 18. Limited liabiliy <ul><li>Sharholders are said to have a &quot;residual interest.“ </li></ul><ul><li>Should the corporation end its existence, the shareholders are the last to receive its assets, following creditors and others with interests in the corporation. </li></ul><ul><li>This can make investment in a corporation risky; however, a diverse investment portfolio minimizes this risk. </li></ul><ul><li>Shareholders also receive the benefit of limited liability regulations, making shareholders liable for only the amount they contributed. </li></ul>
    18. 19. Agency problem <ul><li>“ Corporate governance deals with the ways in which suppliers of finance to corporations assure themselves of getting a return on their investment … the agency problem” Shleifer & Vishny ‘A survey of corporate governance’, The Journal of Finance (1997) </li></ul>
    19. 20. Agency problem <ul><li>Separation of Ownership and control Berle & Means, The Modern Corporation and Private Property (1932) </li></ul>
    20. 21. Shareholders (Principals) Firm Owners Agency Relationship Risk Bearing Specialist (Principal) Managers (Agents) Decision Makers which creates Managerial Decision-Making Specialist (Agent) Hire The Agency Problem
    21. 22. Corporate Governance <ul><li>“ The directors of such companies, however, being the managers rather of other people's money than of their own, it cannot well be expected, that they should watch over it with the same anxious vigilance with which the partners in a private copartnery frequently watch over their own .... Negligence and profusion, therefore, must always prevail, more or less in the management of the affairs of such a company?” </li></ul><ul><li>Adam Smith, An Inquiry into the Nature and Causes of The Wealth of Nations (1776) </li></ul>
    22. 23. Corporate Governance <ul><li>“ Corporate governance deals with mechanisms by which stakeholders of a corporation exercise control over corporate insiders and management such that their interests are protected. The stakeholders of a corporation include equity-holders, creditors and other claimants who supply capital, as well as other stakeholders such as employees, consumers, suppliers, and the government.” </li></ul><ul><li>John & Senbet (1998) ‘ Corporate governance and board effectiveness’, Journal of Banking & Finance </li></ul>
    23. 24. Employees Suppliers Corporation Consumers Lenders Community Shareholders Corporate Stakeholders
    24. 25. Shareholder power =
    25. 26. Large takeovers <ul><li>VNU </li></ul><ul><li>Euronext en New York Stock Exchange </li></ul><ul><li>Rodamco Europe en Unibail </li></ul><ul><li>ABN Amro </li></ul><ul><li>Stork </li></ul><ul><li>But also </li></ul><ul><ul><li>ICI door AKZO Nobel </li></ul></ul>
    26. 27. Governance debate <ul><li>Who is in charge </li></ul><ul><ul><li>Directors or shareholders? </li></ul></ul><ul><ul><li>Primacy debate </li></ul></ul><ul><li>What is the purpose of the corporation? </li></ul><ul><ul><li>Shareholder wealth maximization </li></ul></ul><ul><ul><li>Stakeholder wealth maximization </li></ul></ul>
    27. 28. Competing Models Shareholder wealth maximization Shareholders and Directors Shareholder primacy Stakeholders Managers and Directors Stakeholder theory Towards What End? Who’s in Charge?
    28. 29. Primacy debate: shareholders <ul><li>Shareholders are the owners of the company </li></ul><ul><li>The residual claims argument </li></ul><ul><li>Agency cost argument </li></ul>
    29. 30. Are shareholders the owners? <ul><li>Most common argument: Milton Friedman in 1970 </li></ul><ul><ul><li>The shareholders of the corporation are “the owners of the business’, the only social responsibility of business is to increase its profits. </li></ul></ul>
    30. 31. Misunderstanding
    31. 32. Owners? <ul><li>Legal entity without owners </li></ul><ul><li>Shareholders own stock, not the corporation </li></ul><ul><li>As owners of stock their rights are limited </li></ul><ul><li>Ownership argument is empirically incorrect, nobody owns the corporation </li></ul>
    32. 33. Residual Claimants? <ul><li>Shareholders do have an implicit contract that </li></ul><ul><ul><li>Entitles them to whatever remains after the firm has met its obligations and paid its fixed claims </li></ul></ul><ul><ul><li>According to this claim, firms should be run toward maximizing shareholder wealth </li></ul></ul>
    33. 34. Correct? <ul><li>Only in bankruptcy </li></ul><ul><li>No further entitlement, only when </li></ul><ul><ul><li>Directors are able to decide that they should receive a dividend </li></ul></ul><ul><ul><li>The firm is doing well enough </li></ul></ul>
    34. 35. Agency costs <ul><li>Directors are only human </li></ul><ul><ul><li>They have fiduciary duties to the constituents of the firm </li></ul></ul><ul><ul><li>But they also have their own interests and may shirk or even steal from the firm. </li></ul></ul><ul><ul><li>Agency costs can be reduced when one can monitor and measure an agent’s performance. </li></ul></ul>
    35. 36. Result <ul><li>Stockprice is the only measure that reflects how well directors are doing their job </li></ul>
    36. 37. Empirical evidence?
    37. 38. Lawmakers <ul><li>Law generally follows the stakeholder model </li></ul><ul><li>Corporate directors must serve shareholders and other stakeholders </li></ul><ul><li>Business world prefers the stakeholder model </li></ul><ul><li>Shareholder value is an important metric </li></ul>
    38. 39. Stakeholder theory <ul><li>Seeks to achieve a balance of risks and rewards </li></ul><ul><li>Fiduciary duties of directors will act in accordance of all the corporate constituencies, primarily for the shareholders </li></ul><ul><li>Stakeholder theory is not to challenge the supremacy of the shareholder. It is that the shareholder will be ultimately better off if they allow directors to pursue long-term objectives </li></ul>
    39. 40. Mitigating the Agency Problem <ul><li>Internal control mechanisms </li></ul><ul><ul><li>Independent directors appointed by shareholders </li></ul></ul><ul><ul><li>Audited financial statements </li></ul></ul><ul><ul><li>Performance–based compensation </li></ul></ul><ul><li>External control mechanisms </li></ul><ul><ul><li>Managerial labour market </li></ul></ul><ul><ul><li>Market for corporate control </li></ul></ul><ul><ul><li>Shareholder activism </li></ul></ul>
    40. 41. Shareholder (critical) rights <ul><li>Put items on the agenda of the meeting of shareholders for discussion </li></ul><ul><li>Appointment of non-executive board members </li></ul><ul><li>Approval of major decisions </li></ul><ul><li>Right of dismissal of all non-executive board members </li></ul><ul><li>Approval annual report </li></ul>
    41. 42. Activist shareholders <ul><li>Barbarians at the gate </li></ul><ul><li>Locusts </li></ul><ul><li>Corporate raiders </li></ul><ul><li>Only short term profit counts </li></ul><ul><li>Our companies are being robbed </li></ul>
    42. 43. Examples?
    43. 44. Who are shareholders?
    44. 45. Profile <ul><li>Most of them are foreign investors: 75% </li></ul><ul><li>Most of them are institutional: 70% </li></ul><ul><ul><li>Banks </li></ul></ul><ul><ul><li>Insurance companies </li></ul></ul><ul><ul><li>Pensionfunds </li></ul></ul><ul><ul><li>Hedge funds </li></ul></ul>
    45. 46. Example <ul><li>87% institutional investors </li></ul><ul><li>13% private investors </li></ul>
    46. 47. Large investors 2% 41% Stichting Prerente Aandelen 0,3% 6% Aegon 1% 8% Aviva 1% 5% Eureko 0,3% 6% Kempen Capital Mgt. 1% 7% Fortis 5% 3% UBS 2% 10% ING Voting rights Holding
    47. 48. The loyal shareholder? Institutional: Holding period 15 months Private investors: Holding period 7 months ABN Amro shareholders: Holding period 13 months
    48. 49. In Perspective 7 months 2006 2 years 1992 7 years 1960
    49. 50. Long-term investment? No. Shareholders are short-term investors
    50. 51. What is a shareholder? <ul><li>Short-term investor </li></ul><ul><li>Focus on short-term profit </li></ul><ul><li>Consider companies as a commodity </li></ul>
    51. 52. Implications <ul><li>Principle of “Shareholder democracy” completely gone </li></ul><ul><li>Employees pay the bill </li></ul>
    52. 53. It is all about profit
    53. 54. Shareholder democracy? <ul><li>Tourists don’t vote! </li></ul><ul><li>Gamblers don’t own the casino! </li></ul>
    54. 55. Active voting? Only 40% of the shareholders are present at the annual shareholders meeting of the largest Dutch companies
    55. 56. Trend <ul><li>Hedge funds like the activist shareholder approach </li></ul><ul><ul><li>cheap with a good chance off rich profits </li></ul></ul><ul><ul><li>They will not restrict themselves to relatively small investments </li></ul></ul><ul><ul><li>Example: Stork (more than 40% controlled by hdge funds) </li></ul></ul><ul><li>Sovereign wealth funds </li></ul><ul><ul><li>They become large shareholders, driven by (strategic political) interests (3000 billion dollar) </li></ul></ul><ul><ul><li>Example: Barclays, Citigroup, Merrill Lynch </li></ul></ul>
    56. 57. Result <ul><li>New playing field </li></ul><ul><ul><li>Limited number of investors with large holdings, and no longer many investors with small holdings </li></ul></ul><ul><ul><li>They will dominate in the decision making process without any obligation to buy the company </li></ul></ul>
    57. 58. A shift in power
    58. 59. More companies went bankrupt through mismangement than by activist shareholders Ruud Pruijm But
    59. 60. Conclusion <ul><li>Nobody owns the corporation </li></ul><ul><li>Balance between stakeholders is in danger by increasing shareholder’s dominance </li></ul><ul><li>Short-term approach will be prevalent, there are no long-term shareholders anymore </li></ul><ul><li>In the end, the employees will pay the bill </li></ul>
    60. 61. CV Prof. Dr. R. A. M. Pruijm CPA is management-consultant, interim-manager and professor emeritus Accounting Information Systems at the Erasmus University Rotterdam. He was recently appointed as part-time lecturer Corporate Governance at the Fontys Professional University. He is a well-known expert in corporate governance, corporate social responsibility, and business ethics. Corporate governance is a generic term that describes the ways in which rights and responsibilities are shared between the various corporate participants, especially the management and the shareholders. Corporate governance is about promoting corporate fairness, transparency and accountability. Corporate social responsibility is about open and transparent business practices, that are based upon ethical values and respect for employees, communities, and the environment, designed to deliver sustainable value to society at large and to shareholders. For over 30 years Professor Pruijm has been speaking to top level business executives and organizations all over the world. He is author of numerous books and articles, and is a regular guest on radio and television. As an independent observer and thought-leader he is frequently consulted by the press, politicians, and business leaders. Office: Kievit 12 -113 5111 HD Baarle Nassau Tel. 013 – 507 03 41 Mobile 06 547 36 391 E-mail: [email_address]