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On: 27 October 2014, At: 17:43
Publisher: Routledge
Informa Ltd Registered in England and Wales Registered Number:
1072954 Registered office: Mortimer House, 37-41 Mortimer
Street, London W1T 3JH, UK
Michel Aglietta
Abstract
Shareholder value is not a new idea. But it entails a shift in control over businesses
with far-reaching macroeconomic consequences. They are mostly apparent in the
USA. The required nancial return spurs a momentous equity price appreciation
which discourages private saving. Meanwhile, the achievement of a nancial pro tability consistently above the economic rate of return on real capital induces a rising
leverage cum share buybacks. The nancial dynamic is highly procyclical and generates a nancial fragility which questions the hypothetical advantage of private pension
funds over pay-as-you-go retirement systems.
Keywords: Shareholder value; corporate governance; growth regime; leverage;
wealth accumulation.
Introduction
I was asked to comment and draw conclusions on papers which address fundamental questions. The paper written by Robert Boyer (2000), which appears in
this issue, explores the macro-economic consistency of an equity-based growth
regime.1 The two other papers drafted collectively by Julie Froud, Colin Haslam,
Sukhdev Johal and Karel Williams (1999, 2000) take a critical view of the doctrine of shareholder value.2 In the rst paper, they investigate the impact of
restructuring, a favourite management tool, on the labour market. In the second
paper, which appears in this issue, they question the relevance of the nancial
performance criteria derived from the doctrines of efficient management.
Both approaches have a common background. They deny that nance is
Michel Aglietta, CEPII, 9 rue Georges Pitard, 75015 Paris.
E-mail: AGLIETTA@CEPII.FR
Copyright 2000 Taylor & Francis Ltd 0308-5147
147
r
r
C = K (K F) = 1 12 K + F
r
r
148
r
C F = 1 12 K
r
Let us consider now the new economic value added (EVA )3 and market
value added (MVA) problematics. Economic value added (EVA ) is net pro t
less the income generated by equity capital, were the yield equal to the cost of
capital:
149
much to do with income distribution, that is, with the claims over the global
product of factors generated by the rm.
A long time ago, Berle and Means (1932) celebrated the decline of family
ownership and the rise of salaried managers. The autonomy of managers was
closely associated with the advent of the large multi-divisional corporation run
according to the staff-and-line principle (Chandler 1962). In the US model the
power of managers coexisted with dispersed patterns of shareholding which
made it easier to separate ownership and control. In Germany and most Continental Europe, managers obtained a freedom of manoeuvre which was secured
by cross-shareholding between rms, the silent support of bankers and, in some
countries, the assent of the Treasury and (or) the Ministry of Industry.
It was not until the late 1970s that the control of the rm by its managers was
contested by principal-agent theory which was designed to rehabilitate shareholders interests (Jensen and Meckling 1976). However, the institutional
investors who professionally manage assets from large pools of contractual
savings do not draw their power from majority holdings or even from strong
minority interests. Most often they have no acquaintance with the rms whose
shares they put into their diversi ed portfolios. In erce competition with one
another, the funds usually have no individual power over corporate management.
Their in uence in shaping corporate behaviour stems from the collective
power of opinion wielded by capital markets in the new era of information technology. The nancial markets have the power to value rms publicly. This
process of evaluation takes place under the permanent scrutiny of the community of investors, because rules and standards have made it possible to abstract
from the speci cities of the rms organization. Charters of corporate governance embody the principal-agent relationship in a set of formal procedures,
require transparent information reporting, certi ed accounts and quanti ed
prospects of future pro t, so that the performance of the rms can (without
difficulty) be measured against objectives or benchmarks.
The elaborated capital-market structures and the related capacity to move
funds in liquid markets are sources of power for the institutional investors who
manage their portfolios and are themselves subjected to stringent relative performance criteria. The principle which faces corporate management is a formal
abstract code: the logic of a system of public valuation. Shareholder value is just
the norm of the transformation of capitalism which has promoted this system of
public valuation. Corporate governance is the set of behaviours which induce the
rm to maximize shareholder value.
Firms behaviour under corporate governance
Maximizing shareholder value entails business and nancial strategies. Froud
et al. (1999) extensively document business strategies which attempt to increase
the economic return on capital employed (P/K). An intense wave of
150
Apparent productivity
Share of pro ts
of capital
(Index 100 in 1982)
(Index 100 in 1982)
1982 1987 1993 1997 1982 1987 1993 1997 1982 1987 1993 1997
US
Germany
France
12.6 16.0 17.8 18.3 100.0 120.7 132.1 140.0 100.0 105.4 105.6 103.7
9.9 11.6 12.0 14.8 100.0 102.8 105.0 112.7 100.0 113.8 117.4 129.3
10.2 13.1 14.1 15.0 100.0 102.8 104.9 106.8 100.0 123.7 133.0 137.5
151
product lines. The impact on labour productivity is quite another matter. From
fragmentary evidence, it could be that IT equipment is complementary to, not
a substitute for, skilled labour. With a complementary production function, the
massive investment in IT created a strong demand for labour. This conjecture
goes some way towards explaining why labour productivity gains remained
rampant, while the US capital/output ratio declined substantially.
As stressed in the papers on corporate governance, restructuring spurred by
tougher price competition displays the above-mentioned effects and others that
are macro-economically signi cant. Along with the use of information technology to develop product innovation comes a shorter product cycle. The quasirents required to boost the return on capital employed are regenerated by faster
and more versatile changes in the structure of consumer demand.
New technology can exhibit a higher elasticity of supply in response to change
in demand whenever the supply of consumer products has been delivered by
using a production function which is less capital intensive and more able to shift
exibly from one variety to another. That is, a technology capable of producing
diversity at the low cost of mass production which is not possible in more rigid
and more capital-intensive production processes. In this case, it becomes possible to delay or prevent altogether the bottlenecks in supply which made prices
shoot up when demand was riding high in earlier business cycles.
Financial strategies complement restructuring and the use of information
technology in maximizing shareholder value. On top of the saving of capital
employed comes the saving of equity capital. From the previous section one can
observe that the ROE or the MVA is an increasing function of leverage as soon
as the gross return on capital employed exceeds the cost of capital. Leverage is
usually increased in aggressive nancial strategies like management buy outs
(MBOs), leveraged buy outs (LBOs) and share buy backs. There can be a reinforcing process involving leverage when increasing ROE and pro t per share
attract investors who buy shares, exerting a demand pressure on a reduced
supply, thus increasing the market price of shares. The impact on share prices
occurs because the rise in pro t per share is not fully re ected in the price of the
buy back itself. A possible explanation is the distortion of the tax system: buy
backs have a different impact on taxes than extra dividends which transfer the
rms cash ow to shareholder. Another explanation is that the actual execution
of a buy back (rather than the mere intention to buy back) is interpreted by the
investing community as a sign of managements compliance with the criteria of
corporate governance (Batsch 1999).
Questions have to be raised about the limits of the process of higher leverage,
share price appreciation and increasing nancial returns. Is it possible that the
book value of net assets could fall towards zero and correlatively that the ROE
would rise ad in nitum? Or, well before this can occur, will the cost of capital have
risen and the economic yields have decreased, thus cancelling the positive in uence of leverage on nancial return? This question directs attention towards
analysis of the behaviour of institutional investors. Leverage is conducive to
higher risk which stems from the volatility of pro ts and the probability of
152
failure (Artus 1999). In a nutshell, the result is: the higher the leverage, the wider
the volatility of the ROE and the larger the risk of failure.
In standard portfolio theory, investor demand for shares increases with the
excess expected return on shares and decreases with the volatility of this return
variable, ignoring the risk of failure.
The excess expected return on shares is:
r aK rD
= r
F
11+
F 2
D
r
F
11+
V(r )
D 2
11+
2 V(r )
F
Therefore increasing leverage should diminish the demand of the investing
community for shares! And the greater risk of failure with leverage should
further discourage the buying of shares, thus reversing or at least mitigating the
rise in stock prices.
How is it that we observe in the US a rising leverage in the corporate sector
and an accelerating pace of stock-price increases?
The rst reason is a straightforward consequence of corporate governance. As
institutional investors have pressured rms to disgorge their free cash ow, buy
backs have become a standard management device (see Lazonick and OSullivan
in this issue). Hence the supply of shares has decreased, making a rise in prices
possible even if the demand for shares decreases with risk.
The second reason is the replacement of individuals with institutional
investors in the investing community. Individuals have actually been net sellers
in the US. But institutional investors have been net buyers as they diversify huge
portfolios of pooled contractual saving. Furthermore, institutional investors are
less risk averse than individuals for a variety of reasons: the size and liquidity of
their funds, their professional expertise and, above all, the competitive structure
of delegated portfolio management industry. Structural changes conducive to a
higher appetite for risk in a broader more optimistic nancial environment have
come with the rise in mutual funds and hedge funds relying on expectations
153
arbitrage as well as the shift to de ned contribution pension funds more eager
to take risk.
154
19815
19869
19902
19937
USA
Japan
Germany
France
UK
2.52
1.46
1.58
0.85
1.60
2.80
2.15
1.80
1.29
2.08
2.89
2.18
1.76
1.38
2.12
3.11
2.24
1.85
1.77
2.75
1980
1985
1990
1995
1997
USA
Japan
Germany
France
UK
20.7
15.6
22.3
11.4
23.0
30.0
20.2
27.5
24.7
27.0
35.2
26.7
33.3
36.7
42.4
42.7
29.6
40.5
44.3
52.1
45.0
29.2
43.3
44.4
52.6
500 index (SP500) identi ed the in uence of age structure on the priceearnings
ratio. After controlling for the long-run interest rate and for in ation, Reisen
found that the ratio of population age 40 to 60 to population over 60 was strongly
signi cant in a regression explaining the trend of the P/E ratio over the 197797
period.
The demographic trend towards ageing supports a long bull market where
stock prices deviate from the historically trendless real stock-price index. Under
demographic in uences this long bull market will be followed by a long bear
market from 20078 onwards when the institutional investors will become net
sellers. The bull market is not a speculative bubble but it results in trend overvaluation in the stock market with prices above the standard net discounted value
of future pro ts per share. This is consistent with a risk premium on the SP500
lower than its long-run average in recent years (Brender and Pisani 1999). It is
also consistent with a Tobin q, i.e. a ratio of ROE over the cost of capital, higher
than two.
However to be sustainable, pro t expectations embodied in nancial returns
must be held to be pervasive rather than transitory. Fund managers have been
accused of myopia, taking as steady pro ts the high transitory pro ts linked to
restructuring, increased leverage and devices like buybacks. This may be so. But
there is another hypothesis in the explanation that points to the macro-economic
consistency of a growth regime whereby the appreciation of equity prices is selfful lling. In this growth regime, corporate governance becomes the central institution regulating the relation between overall supply and demand.
155
In the post-war growth regime, labelled Fordism, in ation on the goods and
labour markets played a double role as both a compendium of economic tensions
and a mechanism regulating those tensions. In ation was anti-cyclical in character and ensured some matching between productivity gains and real wage
increases over the business cycle. This matching between productivity and wage
increases was essentially performed by collective bargaining, as the central institution of that age of capitalism. Whenever con icting claims on production
capacity degenerated into excess demand, unexpected in ation ensued. By
eroding real wages resulting from pluri-year nominal wage contracts or by inducing monetary authorities to tighten liquidity conditions, in ation could provoke
a slowdown which eliminated excess demand. Eventually expected in ation
ratcheted upward because a remnant of past in ation cycles was embodied into
future price expectations. But the mechanism of excess demand generation and
cancellation worked on a slowly rising trend of in ation until the oil price shock.
The present growth regime has embodied in-built forces which subdue in ation in the goods and labour markets. The much tighter competition that has
occurred with globalization is responsible for a drastic change in price determination. The price-setting formula compatible with collective bargaining in the
Fordist era was a desired mark-up over unit labour cost, this ratio being an
increasing function of the output gap as a proxy for demand pressure. In presentday capitalism, corporations have lost their grip on prices. Standard commodities are priced internationally in markets which are plagued with world-wide
over-capacity. Quasi-rents on innovative products are shorter-lived. Caught in
the vice between erce competition in product markets and high pro t requirements in nancial markets, corporate management has responded with
cost-cutting, restructuring through shedding and acquiring product lines, outsourcing and the like. Managers have been induced to indulge in high leverage
both to nance real capital and to boost their return on equity.
The compendium of tensions shows up in asset markets with respect to the
dynamics of leverage and asset price appreciation. This new dynamic is procyclical instead of being anti-cyclical. Therefore the upward stage of the business cycle can have a stronger momentum and last longer. Imbalances are
concealed in the nancial structure, depicting ambiguous indicators of fragility.
The self-ful lling macro-economic dynamic works as follows. Shareholder
value sets a requirement in nancial return which is re ected in rising equity
price appreciation. In turn, the latter is an incentive for institutional investors to
increase the share of their portfolio invested in stocks. The counterpart is an
increase in the nancial wealth of households. This increase stimulates consumption, not only out of disposable income but also out of capital gains. Realized capital gains are spent by individuals who have sold the shares bought back
by rms which transfer their free cash ow. Unrealized capital gains spur credit
demand against collateral. As a result, in the US case, the saving ratio of American households has collapsed. Firms are also contributing to the momentum of
aggregate demand. High Tobin q ratios stimulate productive investment nanced
by leverage. The macro-economic outcome is a sustained high level of aggregate
156
demand that validates the pro ts required to keep up with the requirements of
corporate governance.
This outcome is possible only because, in addition, aggregate supply responds
exibly to the impulse of demand. In the previous section we found reasons for
the elasticity of supply in the new technological paradigm of information technology and its induced restructuring of production. One might add that the high
q ratio encourages the investment demand required to embody information technology in higher productivity through management and organizational change.
This improvement does not show up easily in national accounts but is nonetheless a factor of price restraint.
One puzzle remains however, as we see in the American case. How can pay
increases remain so subdued with a tight labour market as is apparent in the US?
One reason might be the change in the structure of the labour-force and the
pro t sharing which accompanies corporate governance. Flexible production no
longer permits stable jobs sustained on an insider job market, sheltered from
competition by a set of rules that reconciled the vested interests of management
and organized labour. Unskilled labour in the service industries is precariously
employed in a myriad of micro-enterprises always in ux, starting and failing.
Unskilled service labour is in no position to claim higher wages. But there may
be bottlenecks in the supply of professionals whose skills are very valuable for
the rms which employ them (Beffa et al. 1999). For these categories of professional labour, pro t-sharing techniques mitigate potential con icts. Companies can make the most of stock-price appreciation by luring professional
employees into shareholding. What they lose by accepting lower reservation
wages, they recover in wealth accumulation.
One is left with the impression that the wealth-induced growth regime rests
upon the expectation of an endless asset-price appreciation. The dynamic is selfful lling as much as it is re exive because market sentiment induces rms and
individuals to act in such a way that expectations are ful lled. This market
sentiment is a co-ordination of expectations around a convention shared by the
nancial community: the economy has reached a new age of capitalism! Can this
convention be robust or fragile? It depends upon a heavily leveraged nancial
structure and is therefore vulnerable to market liquidity conditions, as shown in
the aftermath of the Russian crisis in SeptemberOctober 1998. Ultimately, the
central bank is the linchpin of the whole nancial structure. Only the central
bank can thwart a melting down of in ated asset prices if an unexpected shock
causes the convention to crumble and launches a contagious ight to quality.
Pensions, savings and shareholder value
A growing share of the aggregate saving of households is wage earners saving
for future retirement income. This type of saving does more than create a private
claim on the value-generating process of productive capital, bearing the risks
associated with private investment. Wage earners contractual or mandatory
157
158
159
industry, will have a bearing on asset price dynamics and subsequently on the
whole wealth-based growth regime.
Notes
1 Boyer, The conditions of a viable nancialized or equity-based growth regime: a
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