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Is the stakeholder model dead?
Is the Stakeholder Model Dead? William Beaver
A
little more than a decade ago, many books and articles began to appear advocating the stakeholder model of the corporation. Although the model had many nuances, its most compelling argument was fairly simple: A company's financial success is heightened when its takes into account the needs and interests of its various stakeholders-employees, shareholders, customers, and so o n - - r a t h e r than focusing solely on increasing the wealth of its shareholders. The model's attractiveness to academics was obvious: It allowed for a more equitable and ethical approach to managing the corporation, while at the same time promising to enhance the bottom line. Many corporate managers probably found it enticing as well, because the concerns of groups and individuals they dealt with on a regular basis could be on something of an equal footing with an often invisible and distant group of shareholders. In fact, an earlier study did suggest that corporations can lean toward a stakeholder orientation. Wang and Dewhirst (1992) surveyed 2,361 corporate directors and found that not only were they aware of distinct stakeholder groups, but they generally placed a high importance on responding to their expectations. Moreover, some studies show a statistical correlation between financial performance and corporate social performance, or meeting the needs of stakeholders. Unfortunately, the validity of the stakeholder model may never be known, if recent history is any guide. For at about the same time the model was beginning to be discussed seriously, a series of events unfolded that rendered it largely meaningless for many in corporate America. None of
It looks like the people who hold the shares are still number one in the mind of corporate America.
8
these events had more impact than the takeover mania of the 1980s.
Hostile Takeovers Perhaps the most devastating assault on the stakeholder model were the hundreds of hostile takeover attempts that occurred during the 1980s. Hostile takeovers were often engineered by corporate raiders, w h o argued that the price of a company's stock was undervalued when compared to the assets of the firm. Hence, a higher price could be offered to the firm's shareholders, w h o had suffered at the hands of its current management. Not surprisingly, some corporate raiders cast themselves as purveyors of justice for shareholders. As Boone Pickens stated, "I am a fiduciary for the other shareholders." Of course, Mr. Pickens made no mention of a targeted firm's other stakeholders. The announcement of a takeover attempt often triggered a bidding war, which drove the price of the stock even higher. Consider the battle for RJR/Nabisco, made famous in the book B a r b a r i a n s a t the Gate (Burrough and Helyar 1990). Before bidding for the company began, its stock was trading in the $40 range. By the time the bidding ended, the price had risen to $109. In all, it has been estimated that takeovers and leveraged buy-outs (LBOs) put $650 billion into the hands of shareholders between 1976 and 1990. Although takeovers dramatically increased the wealth of shareholders, other stakeholders clearly suffered as a result of layoffs, plant closings, and restructurings. This activity created a backlash in the form of anti-takeover laws passed by 29 states. The particulars vary, but the crux of these laws allows corporate boards to consider the impact of a takeover bid on other constituencies besides shareholders. Some have argued that the passage of these laws represent a victory for the stakeholder model. Although there may be Business Horizons / March-April 1999
some truth to this, I would argue that hostile takeovers sent a very different message that corporate management has not forgotten: Focus your attention on increasing shareholder wealth, or lose your job. Moreover, although anti-takeover laws have diminished the number of takeover attempts, they still occur. Even when they do fail, a powerful message can still be sent. Consider the recent attempt by Bank of New York to acquire Pittsburgh's Mellon Bank. Bank of New York offered a 20 percent premium to market for Mellon's shares. To drive home the point, bank officials held several meetings with Mellon's large investors. When Mellon's board rejected the offer, Bank of New York accused Mellon of neglecting its shareholders. Interestingly, analysts believe the major reason Mellon avoided the takeover was because its share price had risen 68 percent over the past two years. Nonetheless, there is little doubt that Mellon's managers will be increasingly under the gun to produce, knowing that they nixed an offer that would have enriched their shareholders. As a matter of fact, some of Mellon's large investors, who favored the takeover, let it be known that it was now up to Mellon's management to demonstrate that resisting the takeover was ultimately in the shareholders' best interests.
Downsizings and Mergers Another hammer blow to the stakeholder model was downsizings, which appear to have peaked in the mid-1990s. At that time, it was estimated that about 3,100 employees a day were losing their jobs. Firms downsized for many reasons: to compete globally and to increase productivity and efficiency, certainly--but also to boost share prices. Indeed, downsizing announcements are usually accompanied by a spike in the price of a stock. As one commentator on the subject stated, "There is no quicker way to get your stock price up than to announce plans to fire a lot of workers" (Norris 1995). Not surprisingly, research indicates that downsizings were often spurred by large investors. Of course, there is an inherent logic to downsizings---if salaries are slashed, more funds are available to shareholders. It is also interesting to note that the stakeholders who took the biggest hit from downsizings were middle-aged workers, who had built up higher salaries. Downsizing was supposed to produce a lean and mean organization, which would auger well for a company's future. However, in retrospect, the benefits seem questionable. A 1995 study by the American Management Association, which surveyed 713 firms that had downsized, found that only 51 percent reported higher profits, 20 percent reported lower profits, and just 35 perIs the Stakeholder Model Dead?
cent experienced productivity increases. Researcher Art Boudros (1997), after examining downsizings among the Fortune 100, refers to the phenomenon as the "myth of downsizing," having found little economic justification to support it. Nonetheless, downsizing became an accepted management practice. The fact that it often failed to achieve its intended ends seems to demonstrate how far corporate managers are willing to go to satisfy short-term shareholder interests. Mergers also dealt another blow to the stakeholder model. Indeed, the very premise of mergers is that shareholders will be enriched by the synergies that are created. Hence, like downsizings, merger announcements are often greeted with a rise in the stock price of the companies involved. In general, Wall Street takes a positive view toward mergers. For instance, analysts felt that the recently proposed merger between Citicorp and The Travelers Group was enough to send the Dow through the 9000 barrier. Also like downsizings, mergers usually result in layoffs. On average, about 11 to 15 percent of the workers can expect to lose their jobs when companies merge. Fairly typical was the merger between Chase Manhattan and Chemical Bank, which resulted in 12,000 employees receiving pink slips while the stock rose 12 percent. Employees may not be the only stakeholders to lose out with mergers. There is growing fear that mergers can harm customers, a concern that recently prompted the House Banking Committee to hold hearings on the subject. Members of the Committee worried that the rash of bank mergers
R.I.IJ. EIOLI)jRS
9
would dampen competition, resulting in higher fees for customers. In his testimony before the committee, Ralph Nader agreed, stating that mergers would not only mean higher fees but also branch closings in already poorly serviced neighborhoods. Besides banking, similar concerns have surfaced with the telecommunications industry. With the passage of the Telecom Act in 1996, Congress hoped to spur competition that would be beneficial to consumers. Instead, what has taken place is a series of mergers among the Baby Bells, which may stifle competition and hurt customers. As the Wall StreetJournal put it, "People are still waiting for lower phone prices and better service" (Gruley et al. 1998). Executive C o m p e n s a t i o n Over the years, a major worry of investors has been that management would pursue its own agenda at their expense. To prevent this from happening, a vehicle was needed to bond the interests of shareholders and top management. Such a vehicle emerged in the form of stock options. With stock options, CEOs are allowed to purchase stock at current prices, then have the option of selling it at a later date. Obviously, if the stock goes up, both the CEO and shareholders benefit. This phenomenon is epitomized by Disney's Michael Eisner, who has exercised several hundred million in stock options over the years. (Since Eisner took over at Disney, share prices have risen by almost 2,000 percent). There is little doubt stock options have benefitted both top management and shareholders. Compensation expert Graef Crystal (1995) estimates that CEOs of major American corporations make 187 times the pay of the average American worker, compared to 35 times in 1974, while the value of the stock market has doubled in the last three years. To be fair, paying for some type of performance does seem reasonable, since research indicates an ambiguous relationship between CEO compensation and firm performance. Yet others see a serious downside to stock options. The Institute for Policy Studies found that over the last four years, those CEOs who laid off the most workers had the highest levels of compensation. Specifically, CEOs at 30 large corporations with the most layoffs saw their pay raise 67.3 percent, compared to 54 percent for CEOs at corporations with lower layoff rates. The study concluded that stock options were the major reason for the variation in compensation, since layoff announcements usually resulted in higher share prices. Considering the questionable economic value of many downsizings, one wonders what impact stock options will have on the long-term health 10
of a firm. Whatever the case, they've provided a strong connection between top management and shareholders that other stakeholders don't have. Institutional Investors One issue overshadows much of the previous discussion: the rise of the institutional investor. At one time, these investors were largely traders, attempting to beat the market by the astute buying and selling of shares. But this is no longer the case. Increasingly, institutional investors are taking long-term and substantial positions in firms, and they demand to be heard. Michael Useem, in his book Executive Defense (1993), chronicles the rebellion by institutional investors during the late 1980s and early 1990s that helped focus the corporate mindset on shareholder well-being. Interestingly, when Useem began his study, he expected to find managers taking into account the interests of various constituencies. Instead, he found their attention riveted on shareholders. Examples abound of institutional investors flexing their muscles to ensure that corporate managers and boards are listening. The California Public Employees' Retirement System (CalPERS), the nation's largest pension fund, releases a yearly list of "corporate financial laggards" and "corporate governance targets" in which it holds stock. It then requests meetings with independent directors to discuss corporate performance and shareholder value. If improvement is not forthcoming, CalPERS will take more aggressive measures. As Kayla Gillan, general counsel for CalPERS, put it, "We are prepared to vote against a corporation's entire board and sponsor proxy proposals if needed changes are not made" (CalPERS 1997). Accordingly, CaIPERS has voted against Apple's board of directors and filed numerous shareholder proposals at other companies, including Reebok. Similarly, the Teamsters' Pension Fund regularly issues a list of "Corporate America's Least Valuable Directors." More recently, Teachers Insurance and Annuity Association won a proxy fight that replaced the entire board at Furr's/ Bishop, Inc., a Texas-based restaurant chain whose stock had plummeted in recent years. This was the first time a pension fund had been successful in replacing an entire board of directors. Institutional investors have also been instrumental in spurring downsizings, mergers, and the tying of CEO pay to various performance criteria, such as stock options. Large investors have also played pivotal roles in removing or attempting to remove CEOs at Kodak, IBM, and Westinghouse, to name a few. The message delivered by all this is obvious: Produce consistent shareholder gains on a regular basis or something will be done. Considering that fund managers are evaluated on Business Horizons / March-April 1999
a quarterly basis, such concerns should not be surprising. Moreover, the influence of institutional investors will only increase as more individuals own stock through pension and mutual funds. The Future
What does the future hold? Put simply, there is little on the horizon to suggest a change in corporate thinking. If anything, the focus on shareholders will increase. Why? First, there has been a democratization of the stock market. The number of Americans owning stock has more than doubled in recent years. In 1990, 21 percent of Americans o w n e d stock; today that figure is 43 percent, mainly through pensions, mutual funds, and 401(k) plans. Given that the stock market has skyrocketed during the same period, it is little wonder stocks have become so popular. And for many of those w h o have done well in the market, the shareholder model of the corporation is no doubt viewed as highly appropriate. For many, investment in the market is geared toward retirement. It must be remembered that an estimated 76 million Baby Boomers are beginning to look toward retirement. It should also be remembered that because of their sheer numbers, the Boomers have always had a dramatic impact on American society--from the overcrowding of schools, to sex and drugs in the 1960s, to the yuppie phenomenon. And there is little doubt that as they age, their imminent retirement will also capture society's attention. The implication, then, is obvious: If Baby Boomers are depending on the stock market to provide for a comfortable retirement, even more emphasis will be placed on raising shareholder value. A closely related and emerging issue is the privatization of social security. Though for many years the very notion of privatization seemed unthinkable, the idea now seems not only possible but popular. A Time/CNN poll ("Can Clinton Make It Fly?" 1998) found that 60 percent of those surveyed favored it. Why this change in public sentiment? Perhaps the most import:rot reason is that many people now realize social security is no longer a bargain. It is estimated that a person born in 1960 will pay $30,000 more into the system than he will ever get back. If people arc allowed to place at least part of their payroll taxes in private investments, some sense of fairness might be restored to the system Politicians have also shifted their positions. President Clinton has said he favors some form of privatization, as does Senator l)aniel Patrick Moynihan, one of social security's staunchest defenders. As a matter of fact. Moynihan has introduced a bill in the Senate that may well become the model for privatization. The bill would allow individuals to place up to 2 percent of Is the Stakeholder Model Dead?
payroll taxes into personal retirement accounts, while keeping social security intact. Of course, if this happens, societal pressure to produce for shareholders will only intensify. Finally, there are simply no countervailing forces that might bring the stakeholder model into vogue. Labor unions represent only about 10 percent of the private sector workers, and show few signs of rejuvenation. Much the same could be said for the consumer movement, which peaked in the 1970s. Some believe increased government intervention is the answer. Former Secretary of Labor Robert Reich, among other things, advocates higher unemployment insurance premiums for profitable companies that lay off workers and lower premiums for those that do not. Reich also wants to require firms to contribute funds for job training, and favors some type of campaign finance reform to blunt the political power of corporations that would make government intervention more probable. However laudable Reich's ideas might be, though, the simple fact is that Congress appears to be in no m o o d to increase regulations that could interfere with corporate profitability. lthough not everyone is happy with the current state of affairs, it seems fair to say that the American public does not appear to be that dissatisfied with corporate America's focus on shareholders. As mentioned, more and more people are benefitting from the stock market, and the economy remains strong. Perhaps an implicit bargain has been struck: In return for economic well-being, we have become more willing to accept such things as downsizings, mergers, and exorbitant CEO pay. And what about the stakeholder model? Beyond generating some academic interest, perhaps the best that can be said is that although corporations will not be unmindful of their other stakeholders, the latter's concerns will remain a distant second to those holding the shares.
A
References
Americ,m Management Association, SutT,e), of Downsizme, and Assistance to Displaced Workers (New York: AMA Report, 1995). 'An Anatomy of a Corporate Takeover," PBS, May 21, 198Z Art Boudros, "The New Capitalism and Organizational Rationaliry: The Adoption of Downsizing Programs, 1979-1994." SocialForces, September 1997, pp. 229-250. B. Burrough and J. Helyar, Barbarians at the Gate (New York: Harper & Row, 1990). CalPERS News, "1997 Corporate Governance Targets," (http://www.calpers.ca.gov), February 1997. 11
"Can Clinton Make it Fly?" Time, April 20, 1998, p. 26. "CEOs Get Big Bucks, Workers Get Ax," Pittsburgh Tribune-Review, December 15, 1997, p. B3. Graef Crystal, "Almost Any Way You Figure It, Executive Pay Remains Irrational," Los Angeles Times, December 3, 1995, p. D2. T. Donaldson and L.E. Preston, "The Stakeholder Theory of the Corporation: Concepts, Evidence, and Implications," Academy of Management Review, January 1995, pp. 68-91. R.E. Freeman, Strategic Management.. A Stakeholder Approach (Boston: Pitman, 1984). James K. Glassman, "The Growing Investor Class," Washington Post, April 7, 1998, A23. W. Grossman and R.E. Hoskisson, "CEO Pay at the Crossroads of Wall Street and Main: Toward the Strategic Design of Executive Compensation," Academy of Management Executive, February 1998, pp. 43-57. B. Gruley, J. Simons, and J.R. Wilke, "Is This Really What Congress Had in Mind With the Telecom Act?" Wall Street Journal, May 12, 1998, p. A1. "Impact of Big Mergers Questioned," Pittsburgh Tribune-Review, April 30, 1998, p. B3. C. Kahn and A. Winton, "Ownership, Structure, Speculation, and Shareholder Intervention," Journal of Finance, February 1998, pp. 99-129.
M. Murray, "Amid Record Profits, Companies Continue to Lay Off Workers," Wall Street Journal, May 4, 1995, p. A1. M. Murray and S.E. Frank, "Bank of New York Withdraws its Bid for Mellon," Wall Street Journal, May 21, 1998, p. A3. Floyd Norris, "You're Fired (But Your Stock is Way Up)," New York Times, September 3, 1995, Sect. 4, p. 3. L.E. Preston and D.P. O'Bannon, "The Corporate SocialFinancial Performance Relationship," Business and Society, December 1997, pp. 419-429. R.B. Reich, "The New Meaning of Corporate Social Responsibility," California Management Review, Winter 1998, pp. 8-17, W. Taylor, "Crime? Greed? Big Ideas? What Were the '80s About?" Harvard Business Review, January-February 1992, pp. 32-45. "U.S. Economy Is Neither Leaner Nor Meaner for Investors or CEOs," (http://www.house.gov/demo), 1996. M. Useem, Executive Defense (Cambridge, MA: Harvard University Press, 1993). J. Wang and H.D. Dewhirst, "Boards of Directors and the Stakeholder Orientation," Journal of Business Ethics, February 1992, pp. 115-123. M. Weidenbaum and S. Vogt, "Takeovers and Stockholders: Winners and Losers," California Management Review, Summer 1987, pp. 57-68.
J. Lublin, "Irate Shareholders Target Ineffective Board Members," Wall Street Journal, November 16, 1995, p. B1. N.L. Meade, R.M. Brown, and DJ. Johnson, "An Antitakeover Amendment for Stakeholders," Journal of Business Ethics, November 1997, pp. 1651-1659. M. Miller, "Rebuilding Retirement," U.S. News & World Report," April 20, 1998, pp. 21-23.
12
William Beaver is a professor of social science at Robert Morris College, Coraopolis, Pennsylvania.
Business Horizons / March-April 1999
A
little more than a decade ago, many books and articles began to appear advocating the stakeholder model of the corporation. Although the model had many nuances, its most compelling argument was fairly simple: A company's financial success is heightened when its takes into account the needs and interests of its various stakeholders-employees, shareholders, customers, and so o n - - r a t h e r than focusing solely on increasing the wealth of its shareholders. The model's attractiveness to academics was obvious: It allowed for a more equitable and ethical approach to managing the corporation, while at the same time promising to enhance the bottom line. Many corporate managers probably found it enticing as well, because the concerns of groups and individuals they dealt with on a regular basis could be on something of an equal footing with an often invisible and distant group of shareholders. In fact, an earlier study did suggest that corporations can lean toward a stakeholder orientation. Wang and Dewhirst (1992) surveyed 2,361 corporate directors and found that not only were they aware of distinct stakeholder groups, but they generally placed a high importance on responding to their expectations. Moreover, some studies show a statistical correlation between financial performance and corporate social performance, or meeting the needs of stakeholders. Unfortunately, the validity of the stakeholder model may never be known, if recent history is any guide. For at about the same time the model was beginning to be discussed seriously, a series of events unfolded that rendered it largely meaningless for many in corporate America. None of
It looks like the people who hold the shares are still number one in the mind of corporate America.
8
these events had more impact than the takeover mania of the 1980s.
Hostile Takeovers Perhaps the most devastating assault on the stakeholder model were the hundreds of hostile takeover attempts that occurred during the 1980s. Hostile takeovers were often engineered by corporate raiders, w h o argued that the price of a company's stock was undervalued when compared to the assets of the firm. Hence, a higher price could be offered to the firm's shareholders, w h o had suffered at the hands of its current management. Not surprisingly, some corporate raiders cast themselves as purveyors of justice for shareholders. As Boone Pickens stated, "I am a fiduciary for the other shareholders." Of course, Mr. Pickens made no mention of a targeted firm's other stakeholders. The announcement of a takeover attempt often triggered a bidding war, which drove the price of the stock even higher. Consider the battle for RJR/Nabisco, made famous in the book B a r b a r i a n s a t the Gate (Burrough and Helyar 1990). Before bidding for the company began, its stock was trading in the $40 range. By the time the bidding ended, the price had risen to $109. In all, it has been estimated that takeovers and leveraged buy-outs (LBOs) put $650 billion into the hands of shareholders between 1976 and 1990. Although takeovers dramatically increased the wealth of shareholders, other stakeholders clearly suffered as a result of layoffs, plant closings, and restructurings. This activity created a backlash in the form of anti-takeover laws passed by 29 states. The particulars vary, but the crux of these laws allows corporate boards to consider the impact of a takeover bid on other constituencies besides shareholders. Some have argued that the passage of these laws represent a victory for the stakeholder model. Although there may be Business Horizons / March-April 1999
some truth to this, I would argue that hostile takeovers sent a very different message that corporate management has not forgotten: Focus your attention on increasing shareholder wealth, or lose your job. Moreover, although anti-takeover laws have diminished the number of takeover attempts, they still occur. Even when they do fail, a powerful message can still be sent. Consider the recent attempt by Bank of New York to acquire Pittsburgh's Mellon Bank. Bank of New York offered a 20 percent premium to market for Mellon's shares. To drive home the point, bank officials held several meetings with Mellon's large investors. When Mellon's board rejected the offer, Bank of New York accused Mellon of neglecting its shareholders. Interestingly, analysts believe the major reason Mellon avoided the takeover was because its share price had risen 68 percent over the past two years. Nonetheless, there is little doubt that Mellon's managers will be increasingly under the gun to produce, knowing that they nixed an offer that would have enriched their shareholders. As a matter of fact, some of Mellon's large investors, who favored the takeover, let it be known that it was now up to Mellon's management to demonstrate that resisting the takeover was ultimately in the shareholders' best interests.
Downsizings and Mergers Another hammer blow to the stakeholder model was downsizings, which appear to have peaked in the mid-1990s. At that time, it was estimated that about 3,100 employees a day were losing their jobs. Firms downsized for many reasons: to compete globally and to increase productivity and efficiency, certainly--but also to boost share prices. Indeed, downsizing announcements are usually accompanied by a spike in the price of a stock. As one commentator on the subject stated, "There is no quicker way to get your stock price up than to announce plans to fire a lot of workers" (Norris 1995). Not surprisingly, research indicates that downsizings were often spurred by large investors. Of course, there is an inherent logic to downsizings---if salaries are slashed, more funds are available to shareholders. It is also interesting to note that the stakeholders who took the biggest hit from downsizings were middle-aged workers, who had built up higher salaries. Downsizing was supposed to produce a lean and mean organization, which would auger well for a company's future. However, in retrospect, the benefits seem questionable. A 1995 study by the American Management Association, which surveyed 713 firms that had downsized, found that only 51 percent reported higher profits, 20 percent reported lower profits, and just 35 perIs the Stakeholder Model Dead?
cent experienced productivity increases. Researcher Art Boudros (1997), after examining downsizings among the Fortune 100, refers to the phenomenon as the "myth of downsizing," having found little economic justification to support it. Nonetheless, downsizing became an accepted management practice. The fact that it often failed to achieve its intended ends seems to demonstrate how far corporate managers are willing to go to satisfy short-term shareholder interests. Mergers also dealt another blow to the stakeholder model. Indeed, the very premise of mergers is that shareholders will be enriched by the synergies that are created. Hence, like downsizings, merger announcements are often greeted with a rise in the stock price of the companies involved. In general, Wall Street takes a positive view toward mergers. For instance, analysts felt that the recently proposed merger between Citicorp and The Travelers Group was enough to send the Dow through the 9000 barrier. Also like downsizings, mergers usually result in layoffs. On average, about 11 to 15 percent of the workers can expect to lose their jobs when companies merge. Fairly typical was the merger between Chase Manhattan and Chemical Bank, which resulted in 12,000 employees receiving pink slips while the stock rose 12 percent. Employees may not be the only stakeholders to lose out with mergers. There is growing fear that mergers can harm customers, a concern that recently prompted the House Banking Committee to hold hearings on the subject. Members of the Committee worried that the rash of bank mergers
R.I.IJ. EIOLI)jRS
9
would dampen competition, resulting in higher fees for customers. In his testimony before the committee, Ralph Nader agreed, stating that mergers would not only mean higher fees but also branch closings in already poorly serviced neighborhoods. Besides banking, similar concerns have surfaced with the telecommunications industry. With the passage of the Telecom Act in 1996, Congress hoped to spur competition that would be beneficial to consumers. Instead, what has taken place is a series of mergers among the Baby Bells, which may stifle competition and hurt customers. As the Wall StreetJournal put it, "People are still waiting for lower phone prices and better service" (Gruley et al. 1998). Executive C o m p e n s a t i o n Over the years, a major worry of investors has been that management would pursue its own agenda at their expense. To prevent this from happening, a vehicle was needed to bond the interests of shareholders and top management. Such a vehicle emerged in the form of stock options. With stock options, CEOs are allowed to purchase stock at current prices, then have the option of selling it at a later date. Obviously, if the stock goes up, both the CEO and shareholders benefit. This phenomenon is epitomized by Disney's Michael Eisner, who has exercised several hundred million in stock options over the years. (Since Eisner took over at Disney, share prices have risen by almost 2,000 percent). There is little doubt stock options have benefitted both top management and shareholders. Compensation expert Graef Crystal (1995) estimates that CEOs of major American corporations make 187 times the pay of the average American worker, compared to 35 times in 1974, while the value of the stock market has doubled in the last three years. To be fair, paying for some type of performance does seem reasonable, since research indicates an ambiguous relationship between CEO compensation and firm performance. Yet others see a serious downside to stock options. The Institute for Policy Studies found that over the last four years, those CEOs who laid off the most workers had the highest levels of compensation. Specifically, CEOs at 30 large corporations with the most layoffs saw their pay raise 67.3 percent, compared to 54 percent for CEOs at corporations with lower layoff rates. The study concluded that stock options were the major reason for the variation in compensation, since layoff announcements usually resulted in higher share prices. Considering the questionable economic value of many downsizings, one wonders what impact stock options will have on the long-term health 10
of a firm. Whatever the case, they've provided a strong connection between top management and shareholders that other stakeholders don't have. Institutional Investors One issue overshadows much of the previous discussion: the rise of the institutional investor. At one time, these investors were largely traders, attempting to beat the market by the astute buying and selling of shares. But this is no longer the case. Increasingly, institutional investors are taking long-term and substantial positions in firms, and they demand to be heard. Michael Useem, in his book Executive Defense (1993), chronicles the rebellion by institutional investors during the late 1980s and early 1990s that helped focus the corporate mindset on shareholder well-being. Interestingly, when Useem began his study, he expected to find managers taking into account the interests of various constituencies. Instead, he found their attention riveted on shareholders. Examples abound of institutional investors flexing their muscles to ensure that corporate managers and boards are listening. The California Public Employees' Retirement System (CalPERS), the nation's largest pension fund, releases a yearly list of "corporate financial laggards" and "corporate governance targets" in which it holds stock. It then requests meetings with independent directors to discuss corporate performance and shareholder value. If improvement is not forthcoming, CalPERS will take more aggressive measures. As Kayla Gillan, general counsel for CalPERS, put it, "We are prepared to vote against a corporation's entire board and sponsor proxy proposals if needed changes are not made" (CalPERS 1997). Accordingly, CaIPERS has voted against Apple's board of directors and filed numerous shareholder proposals at other companies, including Reebok. Similarly, the Teamsters' Pension Fund regularly issues a list of "Corporate America's Least Valuable Directors." More recently, Teachers Insurance and Annuity Association won a proxy fight that replaced the entire board at Furr's/ Bishop, Inc., a Texas-based restaurant chain whose stock had plummeted in recent years. This was the first time a pension fund had been successful in replacing an entire board of directors. Institutional investors have also been instrumental in spurring downsizings, mergers, and the tying of CEO pay to various performance criteria, such as stock options. Large investors have also played pivotal roles in removing or attempting to remove CEOs at Kodak, IBM, and Westinghouse, to name a few. The message delivered by all this is obvious: Produce consistent shareholder gains on a regular basis or something will be done. Considering that fund managers are evaluated on Business Horizons / March-April 1999
a quarterly basis, such concerns should not be surprising. Moreover, the influence of institutional investors will only increase as more individuals own stock through pension and mutual funds. The Future
What does the future hold? Put simply, there is little on the horizon to suggest a change in corporate thinking. If anything, the focus on shareholders will increase. Why? First, there has been a democratization of the stock market. The number of Americans owning stock has more than doubled in recent years. In 1990, 21 percent of Americans o w n e d stock; today that figure is 43 percent, mainly through pensions, mutual funds, and 401(k) plans. Given that the stock market has skyrocketed during the same period, it is little wonder stocks have become so popular. And for many of those w h o have done well in the market, the shareholder model of the corporation is no doubt viewed as highly appropriate. For many, investment in the market is geared toward retirement. It must be remembered that an estimated 76 million Baby Boomers are beginning to look toward retirement. It should also be remembered that because of their sheer numbers, the Boomers have always had a dramatic impact on American society--from the overcrowding of schools, to sex and drugs in the 1960s, to the yuppie phenomenon. And there is little doubt that as they age, their imminent retirement will also capture society's attention. The implication, then, is obvious: If Baby Boomers are depending on the stock market to provide for a comfortable retirement, even more emphasis will be placed on raising shareholder value. A closely related and emerging issue is the privatization of social security. Though for many years the very notion of privatization seemed unthinkable, the idea now seems not only possible but popular. A Time/CNN poll ("Can Clinton Make It Fly?" 1998) found that 60 percent of those surveyed favored it. Why this change in public sentiment? Perhaps the most import:rot reason is that many people now realize social security is no longer a bargain. It is estimated that a person born in 1960 will pay $30,000 more into the system than he will ever get back. If people arc allowed to place at least part of their payroll taxes in private investments, some sense of fairness might be restored to the system Politicians have also shifted their positions. President Clinton has said he favors some form of privatization, as does Senator l)aniel Patrick Moynihan, one of social security's staunchest defenders. As a matter of fact. Moynihan has introduced a bill in the Senate that may well become the model for privatization. The bill would allow individuals to place up to 2 percent of Is the Stakeholder Model Dead?
payroll taxes into personal retirement accounts, while keeping social security intact. Of course, if this happens, societal pressure to produce for shareholders will only intensify. Finally, there are simply no countervailing forces that might bring the stakeholder model into vogue. Labor unions represent only about 10 percent of the private sector workers, and show few signs of rejuvenation. Much the same could be said for the consumer movement, which peaked in the 1970s. Some believe increased government intervention is the answer. Former Secretary of Labor Robert Reich, among other things, advocates higher unemployment insurance premiums for profitable companies that lay off workers and lower premiums for those that do not. Reich also wants to require firms to contribute funds for job training, and favors some type of campaign finance reform to blunt the political power of corporations that would make government intervention more probable. However laudable Reich's ideas might be, though, the simple fact is that Congress appears to be in no m o o d to increase regulations that could interfere with corporate profitability. lthough not everyone is happy with the current state of affairs, it seems fair to say that the American public does not appear to be that dissatisfied with corporate America's focus on shareholders. As mentioned, more and more people are benefitting from the stock market, and the economy remains strong. Perhaps an implicit bargain has been struck: In return for economic well-being, we have become more willing to accept such things as downsizings, mergers, and exorbitant CEO pay. And what about the stakeholder model? Beyond generating some academic interest, perhaps the best that can be said is that although corporations will not be unmindful of their other stakeholders, the latter's concerns will remain a distant second to those holding the shares.
A
References
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William Beaver is a professor of social science at Robert Morris College, Coraopolis, Pennsylvania.
Business Horizons / March-April 1999