The American Corporation At the End of The Twentieth Century

An Outline of Ownership Based Governance -

A speech given by Robert A.G. Monks at Cambridge
University, July, 1996

Summary

American corporations have achieved world-wide
leadership in competitiveness at the same time that
their influence over civil government has continued to
expand. Through direct involvement in the electoral
processes, financing candidates and political parties
and lobbying, American corporations have largely
succeeded in equating their interests with the public
interests and in focusing the resources of government
for the primary benefit of business. There is
substantial evidence that this process has gone too
far. At the present time the private power of American
corporations is not accountable to public or private
authority in a meaningful way. Recent indications that
government will again attempt to fill this gap compels
the conclusion that the only system of governance
compatible with a free society is one that is based on
the effective involvement of corporate owners.
Effective governance is essential to the healthy
growth of capitalism in a democracy.

1. Hegemony of the American Corporation

Scope - Private Interest Prevails

As the twentieth century comes to a close, American
corporations have once again earned acceptance as the
most competitive in the world. The Council on
Competitiveness was able to boast in its latest annual
report that growth rates in America's standard of
living, manufacturing productivity and investment in
plant and equipment had been the highest in a decade.
Even outsiders without star-spangled glasses are
reaching the same conclusion. This spring, for the
second year running, the Swiss-based World Economic
Forum ranked America as the world's most competitive
economy."1

The present success of American corporate enterprise
is a function of the belief that corporate purpose and
legitimacy are congruent with market place value. The
nuances of "social responsibility" - to other
constituencies, employees, customers, suppliers, host
communities - are considered to be appropriately
reflected in the value accorded to corporations by the
market. In other words, if a corporation treats its
employees poorly or has a sub-optimal relationship
with the communities in which its operations are
located, the market is assumed to respond adversely,
reducing the value of its stock. The notion that the
market place - the deemed ratification by millions of
beneficial owners - accurately, appropriately and
promptly reflects all aspects of corporate functioning
has the further seeming virtue of legitimating the
power exercised. This notion of a self-correcting
system has enormous appeal. It appeals to corporate
managers because it legitimates their use of
investment funds from outside sources, while leaving
them maximum flexibility to direct the corporation as
they wish. And it has appeal to everyone else because
it requires no additional attention or energy to make
it "work." It is this reliance on a sort of invisible
perpetual motion machine of market correction that
requires periodic and careful evaluation to see
whether it is working.2

America's corporate success must be examined in the
context of a country that is comfortable with growth
and change. We consider them "progress" almost by
definition. We point with pride to one moment of our
creation, when our founding fathers built into our
constitution the mechanisms for changing it. The U.S.
population has doubled in my lifetime; there are still
vast portions of the land that have never known human
cultivation; relatively free immigration persists and
the polity is generally prepared to pay the price
extracted by an international market place. As The
Economist put it: "No other rich country gives
companies quite such a free hand to lay off workers
and shift resources from declining industries into
growing ones. No other country refreshes itself in
quite the same way by continuous waves of
immigration... the special characteristic of American
business as: `a willingness to reinvent itself and a
willingness to see things disappear; an almost
intuitive belief in Schumpeterianism.3' People do not
like it... but by and large they accept it. For as
long as Americans are willing to put up with the mass
lay-offs and accompanying social dislocation, these
are incomparable wealth-creating advantages."4

This appears to be one of those periods in American
history during which the primacy of private interests
(rather than public concerns) is accepted by the
populace. The choice here is not between capitalism
and socialism, but between capitalism with a short or
long term perspective with all costs evaluated up
front, explicitly, advertently and accountably.

Legitimacy - Corporate Citizenship

In all countries, corporations are creatures of
governmental act and have no relevance or authority in
common or natural law. But in the United States
special significance is placed on the written
Constitution and laws. In the absence of a common
language, culture or value systems in a heterogeneous
population, they are as close as we come to an
expression of national culture.

Twenty years ago, the United States Supreme Court
significantly changed the nature of corporate
personhood in the bitterly divided 5-4 decision in
First National Bank of Boston v. Bellotti, 435 U.S.
765 (1977). Bellotti grants corporations the authority
to participate as citizens in the core workings of
democratic government using the shareholders' money,
without suggesting any limitation. It is still not
clear how the addition of corporate citizens - Citizen
GE - fundamentally changes the nature of American
political life.

Corporate Power - Lobbying

An entire industry exists in Washington D.C. in order
to participate in government business. Business
effectively and persistently works to persuade the
legislative and administrative branches of government
to create new rules, or to amend existing ones, to
limit their liability or create barriers to entry for
competitors. Both political parties have spoken
disparagingly about "corporate pork" (predictably,
neither has done very much about it). "The lobbying
industry is the largest private sector employer in
Washington, accounting for fully one-sixth of the
private work force - 67,062 people. These lobbyists
were paid more than $3.2 billion in 1993, an average
of $47,679 each. By comparison, the typical American
worker earned $19,429 in 1993. In addition, the
lobbying sector generates more than $8.4 billion in
revenue every year. If the D.C. lobbying industry were
its own economy, it would be larger than the economies
of 57 countries." "The lobbying industry has grown
significantly over the past few decades by any
measure. The number of people employed in the lobbying
sector has grown from 16,721 in 1964 to 67,062 today.
To put it another way, in 1964 there were 31 people
working to influence government policy for every
member of Congress; today there are 125 lobbyists per
congressman."5

Through an amalgamation of trade policies, selective
tax breaks, and spending programs, the federal
corporate welfare state is nearing $250 billion to
$300 billion a year. This failed welfare empire should
be toppled. Because they intermingle government
dollars with corporate political clout, business
subsidies have a corrupting influence on both
America's system of democratic government and our
system of entrepreneurial capitalism." An
indispensable part of the lobbying effort is the
financing of political campaigns. The post-Watergate
"reforms" allowed corporations to establish and pay
the operating expenses for Political Action Committees
(PACs). The PACs, virtually all of which are
physically located in Washington DC, provide the
easiest and the largest source of funding not only for
incumbents but for all candidates for federal office.
There is no other way that campaign money can be
raised so quickly and in such quantity. Beyond the
direct contributions is the murky area of "soft
money."

Time Magazine recently devoted its cover article to
the power of soft money in both political parties.

Big Tobacco - $2.4 million to Republicans in 1995.

What it wanted: To block a move by the FDA to regulate
cigarettes. [The week of June 17, 1996] Dole showed
which side he's on -- "I don't think the FDA has the
authority to do what they want to do now."

Lawyers - $1.8 million to Democrats in 1995.

What they wanted: To kill a litigation-reform bill.
Clinton did veto it -- 4 days after his White House
dinner with trial-lawyer honcho Bill Lerach.

Externalities - who pays?

There is no ultimate answer as to which of the
expenses related to corporate enterprise should be
born by the company and which should be paid for by
the public. The economic consequences of achieving
standards for environmental protection, product safety
liability and industrial health are so enormous that
corporate managers will inevitably be trying to
transfer them to one public authority or another. One
might ask - why isn't it the obligation of a first
class management to use all legal means to cause
government to allocate responsibility for expenses
elsewhere? The extent to which the public pays for
particular costs in one country may be an important
element in explaining its "competitiveness" with
another country having opposite practices.

Summary

Today's American corporation is a constitutionally
empowered active participant in the political life of
the republic. Government is the source of several
critical elements of potential wealth, not only direct
contractual awards, but through the allocation of
"externality" expenses away from the corporation.
Corporations have enjoyed great success in persuading
government that "competitiveness" is the most
important national concern and that, to achieve it,
the primacy of corporate concerns need be recognized.

2. The Language of Accountability

It is widely agreed that in a free society those
controlling corporations need be accountable to
someone. We must look at our language of
accountability to understand what it says about our
underlying assumptions and further to ask who is the
appropriate party to proscribe this language.

The Myth of Marketplace Accountability

A company is held to account in the marketplace. One
of the principal elements of marketplace appraisal is
its performance as recorded by Certified Public
Accountants ("CPA"). Bolstered by the professional
education and prestige of accountants, the efforts of
self-regulatory standard setting organizations such as
the Financial Accounting Standards Board ("FASB") and
the oversight of the SEC and non-governmental
regulators such as the NYSE, "the numbers" provide a
preponderantly honest and consistent picture which is
susceptible of sophisticated interpretation. But no
one should be under any illusions that the Generally
Accepted Accounting Principle ("GAAP") numbers provide
a reliable basis for determining the absolute value of
a company. They are what they say they are - no more,
no less - a statement of financial condition based on
principles consistently applied. In recent years, the
integrity of GAAP numbers has squarely been strained
by the continuing proliferation of "restructuring"
charges. The pattern of taking a special charge to
account for unusual and non-recurring circumstances is
doubtless a useful convention. The pattern of taking
charges every year in amounts that often dwarf the
reported "earnings" makes a mockery of the whole
process.

With the violent changes in corporate condition
reflected by massive charge-offs, anomalies emerge
that illumine the limitations of the process. For
example, Westinghouse, one of the Dow Jones 30
companies in America with a seemingly sustainable
capacity to generate a billion dollars a year of cash
flow, has only a nominal net worth according to GAAP.
Stone & Webster Engineering was losing money in its
principal operating business for over five years, but
recorded profits due to an accounting convention that
permitted treatment of surpluses in its pension plan
as earnings.

A further problem with GAAP is that it places emphasis
on traditional assets which have increasingly little
to do with the generation of income in a world
dominated by new invention and informed by the
communications revolution. "A report prepared by
Arthur Andersen for 11 large British companies states:
`In successful companies, the value of such [those not
reported on the financial statements] assets is
growing as a proportion of total shareholder value.'
Indeed; Margaret Blair, a Brookings Institution
economist, has calculated the relationship between
tangible assets (property, plant and equipment) and
total market value for U.S. manufacturing companies in
the Compustat database. In 1982, she found, hard
assets accounted for 62% of the companies' market
value; ten years later they made up only 38%. And
these were industrials."

Accounting for the Cost of Externality

While the seeming precision of numerical evaluation is
beguiling, we must pause to consider that corporations
have wide impact on the society in which they function
that extend well beyond those items that are generally
included within GAAP. Referred to by economists as
"externalities," these range from the costs of
training, medical and disability expenses arising from
work, unemployment, and impact on the environment. The
fundamental question is - will the private sector -
the corporation, its shareholders - bear the cost of
externalities or will they be born by the public? This
is a political question and it has been answered in
dramatically different ways in different countries.

In Japan the major companies do not lay off employees
in times of recession. In almost all other OECD
countries, unemployment costs are largely paid for by
public funds (some of which are contributed by
employers). In Germany, industry is required to
process all atmospheric effluent occurring as a result
of its functioning. Most other industrial countries
regulate the extent of permissible effluent, thus, in
effect, placing an "in kind" tax on the public, but
only Germany requires the private sector to be
completely responsible for its environmental impact.
The United States has developed a massive program of
employer financed retirement programs. While these are
subsidized through tax advantage, employer
responsibility for funding pensions is not the
practice elsewhere.

The Extent of Corporate Responsibility

As corporations became an increasingly large factor in
the world, difficult questions need be addressed as to
the extent and propriety of expenditures in areas that
are not ineluctably tied to profit generation. "How
far has business a responsibility to maintain the
framework of the society in which it operates and how
far should business reflect society's priorities
rather than its own commercial priorities? At this
level, companies will have to look outwards at the
changing terms on which society will license them to
carry on their activities... The definition of
responsibility moves further out of the hands of
companies at this stage, because business decisions
are like stones thrown into a pool, which is society,
and companies are asked to take account of the ripples
as they move outwards to the shore. This requires
companies to envisage the wider consequences of their
decisions and to build that awareness into their
decision-making processes."

Corporate Responsibility of Disclosure

Accounting statements can only reflect information
about corporate impact that is known. To the extent
that managements see fit to limit disclosure about
what they know or strongly suspect about the "costs"
of their functioning on society, the financial
statements will be defective. We encounter daily
newspaper discussion of the research reports of
various tobacco companies disclosing harmful impact of
smoking over many decades. Should these companies
disclose publicly this information? There are laws
which proscribe what information is required to be
disclosed. When should companies feel a compunction to
go beyond what is legally required?

There are occasions when it is plainly in society's
interest that these disclosures be made. One has to
question the utility of GAAP if the information on
which it is based is incomplete. Are the income
statements of a tobacco company misleading if there is
no reference to reserves arising out of future
liabilities suggested by the company's own research
work? The market cannot work without access to better
information than this.

Appalling damage has been done to countless American
women through the use of silicone for reconstructive
and cosmetic surgery. Dow Corning, the principal
supplier of silicone products, has paid over billions
of dollars in damages before becoming bankrupt. Will
its parent companies - Dow Chemical and Corning - be
liable for damages? If so, their own survival would be
in question. From a public policy/cost-benefit
standpoint, what is the relevance of that risk? At all
stages - from the earliest research to the most
sophisticated legal pleadings - the question of
information disclosure has been paramount. At this
point of life and death litigation, no one really is
free to say anything without causing unknown
consequences. Corporate employees are put in the
impossible position of either being silent or of the
painful, lonely and expensive choice of becoming
"whistle blowers." The concerned corporations run the
risk of further incriminating themselves. What is
clear is that this kind of situation should not
happen. It is difficult to know how to get from where
we are to where we should be, but the goal is clear:
"If companies do have any doubts about the effects of
their products on people or on the environment, they
have a duty to share their concerns with the
appropriate authorities as soon as they become aware
of them."

The Power of CEOs

A minimum requirement for a healthy governance system
is that there be a mechanism to assure that power is
in fact exercised in the public good. The problems of
concentrated private power reach the level of
unacceptability when managements use corporate power
in their own - personal, pocket book - interest rather
than in the interest of the company or its
shareholders, to say nothing of the polity at large.

There has been great concern lately over the
extraordinary increase in the level of compensation
for the top executives of corporations. The present
levels of pay were unimaginable in earlier times; they
are utterly out of sync with the pay levels abroad;
management pays itself without effective overview by
anyone. In recent times, management has even managed
to dominate the national accounting system (including
the overwhelming 1994 [88-9] Sense of the Senate vote)
with the result that the preponderant portion of CEO
compensation - stock options - need not be recorded on
financial statements as an expense! This particular
situation represents a rare insight into corporate
power gone amok and we, therefore, linger for a
careful look.

"With the birth of the Roundtable, big business in
America may at last be said to have come of political
age." Big Business in America was long a clumsy,
uncomfortable and ineffective element in American
political life. Whether it was General Motors' getting
caught in the `60s hiring a private detective to deal
with the nuisance of Ralph Nader or a "real
Republican" President Richard Nixon going off the gold
standard, calling himself a "Keynseian", and invoking
wage and price controls in his first term, evidence
abounded of the impotence of the business community in
Washington DC. By the mid 1970s several of the Chief
Executive Officers ("CEO") of the largest U.S.
companies devised a new kind of organization - the
Business Roundtable (the "Roundtable" or "BRT"). Only
CEOs could participate (deputies were not acceptable
at meetings or in committee work); the organization
would have small presence in Washington; and key staff
would be provided in large by the CEO who was
designated to chair approved projects. Throughout its
brief history, BRT has enjoyed the involvement of some
of the ablest leaders in the country. The organization
has been well led and disciplined. Bruce Atwater,
former CEO of General Mills, and his staff were deeply
involved in corporate governance questions for much of
the last decade. The Roundtable represented a huge
commitment of resources by Corporate America to the
political arena when one takes into account the true
"cost" of the time of CEOs, General Counsels and other
top staff. It also meant that some of the best talent
in the country was directly committed to achieving
"big business" government agenda. Impact was immediate
and startlingly effective.

During the mid 1980s, Boone Pickens' successful "runs"
at Phillips and Gulf and Milken financed hostile
takeovers of all but the largest U.S. companies raised
consternation in corporate boardrooms. "Unable to
persuade Congress to pass legislation curbing hostile
takeovers," the BRT devised an ambitious program to
protect its members through control over the processes
of corporate governance. There is a fine line between
the public interest and a corporation's interest; the
line is even finer between the interests of the
corporation and those of its top executives. The
Roundtable conspicuously crossed this line in the
heated discussions accompanying the meteoric rise in
the pay of CEOs over the last dozen years. A very
large part of the pay of top executives derives from
the grant and exercise of stock options - the
preponderance of the hundreds of millions of dollars
paid to CEOs like American Surgical's Hirsch, Coca
Cola's Goizetta and Disney' Michael Eisner came from
option profits. Reflecting a wave of public concern
over CEO compensation, the Financial Accounting
Standards Board ("FASB") revived its dormant
recommendation that a charge be made of the "fair
value" of the option against earnings (like other
compensation expenses) at the time of grant.
Managements opposed this suggestion with a ferocity
never before unleashed with regard to any public
proposal. The Roundtable developed a comprehensive and
successful strategy to deal with this threat to its
members' compensation. In early 1992, John Reed,
Chairman of Citicorp, described as Chairman of the BRT
Accounting Principles Task Force, led the charge. He
met with FASB executives and rallied BRT members to
take suitable steps to deal with the problem:

"We need help from BRT CEOs in the following areas: 1.
Communication with and EDUCATION of your public
accountants. 2. Communication with and EDUCATION of
your compensation consultants. 3. Communication with
FASB now, before their views become solidified. We
believe these contacts would be most effective if made
by CEO's."

In plain English, Reed was asking his fellow CEOs,
personally, to intervene in relationships between
their corporation and certain of its professional
advisers so as to "educate" them, presumably, of the
consequences of their publicly expressed attitudes
about appropriate accounting treatment for stock
options. Nor did the resulting activity go unnoticed.
The journalist Alison Leigh Cowan reported in length
for the New York Times: "Corporate America is quietly
seeking to muzzle the compensation consultants who
routinely provide information about executive pay to
the business press or to regulators... Leading the
charge are John S. Reed, Chairman of Citicorp, and H.
Brewster Atwater, Jr., Chairman of General Mills, with
several other members of the Business Roundtable, an
influential group of chief executives... the pressure
tactics against the half-dozen or so firms that
routinely provide this information seem to be
working... The Roundtable scored an even bigger coup
this summer when some of its members who are clients
of Tower Perrin led that firm to conclude that it was
not in its best interest to continue helping the Wall
Street Journal prepare the executive pay survey it
publishes each spring... The sensitivity of the issue
became clear on March 31, when four consulting firms
and one accounting firm received a technical request
from the FASB asking them to demonstrate how.