Friday, December 12, 2014

The Shareholder Value Myth

James Montier wrote an interesting paper about how chasing shareholder value as a firm's number one priority is a terrible idea. The paper didn't make any convincing arguments to me, as Montier both made misleading statements and tried to establish causes and effects between things with complicated relationships. Here were my issues with the paper:

1) Montier breaks up S&P 500 return into periods inclusive and exclusive of the shareholder value maximization trend, and concludes that chasing shareholder maximization results in worse performance. Not only is there more than one factor that goes into, say, a couple of decades of S&P 500 returns, his chart ignores valuation changes (per the small print). But valuation changes have everything to do with expectations. If managers are clearly doing what's in the interest of shareholders, their companies will see higher multiples than companies that don't. For example, companies like Aberdeen International or Taitron Components deserve their poor valuations. For Montier to ignore this when calculating returns seems misleading.

2) Meanwhile, he ignores that returns on capital are at very high levels during the era of shareholder value maximization, which supports the high market multiples he appears to believe are irrelevant. This also means that we are getting more from our resources, which is good for society!

3) He makes arguments about how firms chase EPS as an argument that shareholder value maximization is not good for either the firm or society. I don't think anyone argues that short-term EPS is the same thing as maximizing shareholder value. Maybe a distinction needs to be made between long-term and short-term shareholder value, so that people don't confuse shareholder value and short-term EPS growth.

4) He draws links between adoption of shareholder value as a priority and resulting aggregate under-investment, suppressed wages and inequality. Nothing he showed demonstrated a link between the two in my view. In fact, he also suggests chasing shareholder value maximization has resulted in overpaying management. So chasing shareholder value results in suppressing wages for groups for which you'd like to see higher wages, and increasing wages for those whose wages you'd like to see reduced? Got it!

5) He shows anecdotal evidence between IBM (focused on the shareholder) and Johnson & Johnson (focused on the consumer). Since Johnson & Johnson had better results over the period, its priority was obviously superior. This is nonsense, as many factors determine firm results. To boil it down to relative mission statements is really reaching, in my opinion.

6) I don't think the focus on the shareholder and the customer/society are exclusive. If your priority is the shareholder, you *should* focus on your other stakeholders because by creating great experiences for them, you will increase shareholder value. Maybe Montier's problem is that firms seek to increase shareholder value in the wrong way, e.g. by focusing on the short-term or taking share away from other stakeholders. I do agree that firms sometimes don't go about generating shareholder value in the right way, but that doesn't mean the goal is wrong.

7) I've read a lot of intelligent stuff from Montier, so I suspect that he chose to make this argument only for some publicity. He calls shareholder value maximization "the world's dumbest idea". There are a lot of dumb ideas out there...if you're calling shareholder maximization the *dumbest* of them all, you're probably being sensationalist.

1 comment:

Anonymous said...

Nice article. Intelligent criticism is always interesting to read.

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