Last week’s article from Paul Lee ( where shareholders should figure in the pecking order) some good first steps towards recognition that the future of successful fund management lies in adding value through engagement with companies to enhance their commercial performance, and of course, the tools for that are governance and stewardship. This is a very different business model from that applied over the past few decades. It also means that the all too prevalent approach of merely paying lip-service to these concepts will prove costly to their adherents.
However, the arguments deployed in that article are problematic. As Paul correctly notes, Volkswagen has often cited its substantial family ownership as a contributor to its ability to resist short-term financial market pressures, but to conclude that the scandal certainly undermines that argument is simply a logical step too far. We know a great deal about how the defeat devices functioned and have some idea of the extent of the diffusion of their knowledge within VW, but to draw the conclusion of performance pressures requires knowledge of why these devices were designed and installed.
We should make no mistake, meeting the California emissions standards is not a trivial engineering problem, and would require an extensive and costly redesign of current models. There is little doubt that ‘fixing it’ in the software was the path of least resistance. The idea that this was the market at work is flawed in a fundamental manner. Breaking the law, in the hope of not being discovered, is as morally reprehensible in a market caveat emptor context as it is in an environmental setting.
The previous article errs in stating: We (shareholders) have granted management temporary control and oversight of the assets of a company. In fact, the source of the overwhelming majority of the liabilities which finance the assets of a company are other stakeholders, the creditors, suppliers and workforce. Indeed, these have priority over shareholders. The money in your bank account is your money; it is not owned by the bank shareholders.
Ownership is defined by a bundle of property rights, and the (outright) freeholder owns the title deeds conferring all of those rights with respect to this asset. Once let on a long-lease, it becomes an encumbered asset. For example, any purchaser would not have the right of use by occupation, and among other things, that restricts the universe of potential buyers. It is in this sense that shareholders own only the share certificates as there are almost always, in the modern corporation, other stakeholders in possession of some of the rights usually associated with ownership. Shareholders do not grant these rights, the company does.
The most important point is that companies are independent (legal) persons and it is as inappropriate to talk of ownership in that case as, since Wilberforce in the UK, it is talk of ownership of a natural person.
We can agree that: Well-governed companies everywhere create an environment that encourages accountable, transparent and inclusive decision-making, but the accountability is not simply to shareholders. Indeed, the historic origins of the external audit were in (private) verification of compliance with the covenants and warranties contained in corporate debt contracts.
In modern usage, governance and stewardship are young concepts; in my view, we will know they have come of age when shareholders are seen to press for equitable payment of taxes, not basic compliance with legal requirements – which of course is the market notion. In that ‘well-governed’ sentence, the most important idea is inclusive decision-making, extending our concerns to the consequences of our actions on others. The unbridled pursuit of naked self-interest is a road to ruin for both the asset management industry and their clients.
Con Keating is head of research at BrightonRock Group
