We’ve decided I think pretty clearly that we're going to use a market system to serve the needs of the general population and we have decided that a market system is a
better, although not by any means perfect, allocator of resources to serve the common good of the society.
Now we've got to decide over what time frame, who is the society, how are we going to measure, who's going to
decide. This will go on forever, but the debate about the time frame is relevant as is in my view the debate about for whom does the corporation exist. In other words what does a corporation have as it's basic driving
mechanism and who does it ultimately need to serve in order to fulfill it's mission. It an interesting debate.
SMITH: Having raised all the key questions you’ve saved me a lot of
time. What is the Schacht answer?
SCHACHT: I think to start with the proposition that says corporations have no inherent right to exist. They exist to serve the populations that
have allowed them to exist, to give them certain rights and privileges in which they expect to get the service back, in terms of distribution of both goods and services that they exist to provide.
And I have come to
firmly believe over a long time thinking about this, that you’ve got to think about corporations as voluntary associations, where a whole bunch of different kinds of people come together to engage in an activity that
produces results that none of them could do individually. You have to say ok, fine, what does all that mean?
To me it means that you live in a, what I call a stakeholder model, and that is that there are a
variety of people who have a stake in the enterprise. They come to it voluntarily, and you have to, if you are a manager, engage in the process of management in the capitalistic system or what I prefer to call the
market system, you've got to constantly balance the very legitimate claims of those stakeholders. Because if you let them get out of balance then certain numbers of them are going to elect not to play over a period of
time. That raises the debate…
SMITH: What does that mean? Put some names and labels on that so we can understand it.
Sure, sure I will. That leads to the debate about shareholders and where do shareholders fit in this mix. Stakeholders to me, you can make your own list and people do, books are written, but in mine the preeminent
stakeholders in any business start with the customers, who you are trying to serve; the employees at all levels who gather together to give of their time and talent; the suppliers of capital, the legitimizing
institutions of the society; whether it be the local governments, the state governments, the national governments or in other jurisdictions the provinces or whatever you have; the suppliers - you can make your own
If you say that one of these is preeminent, then you've got an issue to deal with, because they will be preeminent at the expense of the others. If you start with the idea that the provider of capital has
certain preeminent rights and expectations of return, then you get into the debate about shareholder value.
And if you believe that creating shareholder value, i.e. returning your return on the capital provided, is
an essential part of your system, as I do, you have to say what kind of return over what period of time. There are those who argue that maximizing shareholder value is the only role of business and is the only way to
provide the economic returns on which our system is based. I simply…
SMITH: Do you buy that?
SCHACHT: No, I say that's an absolute
contradiction in terms. Because if you buy my construct, which many people don't, that you are trying to balance legitimate stakeholders amongst which is the shareholder, then you've got to talk about how do you balance
legitimate claims. One of the very legitimate claims are the rights of the shareholder.
I’ve come to the conclusion. in trying to think about this is the only way to maximize shareholder value over a sustained period
of time is to balance the rights of the stakeholder including the rights of the shareholder. If you maximize a short-term gain for the shareholder you, in fact, will destroy the corporation because the other people over
a period of time will say this is not for me, I will go someplace else, as they should.
So, the rights of the, it seems to me the responsibilities of management, is to be responsible to all the elements that come join
together in the corporation. The customers, if you ignore the needs of the customers, eventually they will go someplace else and your shareholder value is sub-optimized. If you ignore the needs of the employees, they
will take their labor elsewhere, as they should, and you’ve sub-optimized the return to the shareholder.
If you ignore the needs of the society on which you depend and reside, you will be soon penalized, or penalized
sooner or later, depending on your point of view. And you will either be forced to go somewhere else, or you will violate the basic conditions of trust that had been set up And you will under achieve what could be
achieved for the shareholder.
SMITH: Do you have a feeling that in our economy these days we’ve gone too far in just serving shareholders?
SCHACHT: I think those who articulate that are short sighted and have not thought through the consequences of what they in fact are doing or advocating. Because I believe if you maximize shareholder value at
the expense of the others required to make the enterprise work, you, in fact, will destroy the corporation and you will have no value for the shareholder.
SMITH: But a lot of
people get a quick payout - - If you talk to an Al Dunlap, Al Dunlap will say ‘I can restructure, I've got to do it in a hurry, I've got to get rid of jobs’ and the shareholder value goes shooting up. But you’re saying
guys like Al Dunlap are destroying value.
SCHACHT: If everybody did that, there would be no corporations left. That, that approach presumes there is somebody to sell to. If
everybody was taking that approach, there would be nobody to sell to, and you would not have a stock market, and you would not have a market system, you would have chaos. The society would say, soon, “No thanks, we
don’t sign up for that, that's not what we had in mind.”
SMITH: But that's not what society is doing now. What is going on is that Al Dunlap walks away from Scott Paper with a
hundred million dollars, and God knows what he is going to with Sunbeam and Wall Street loves it.
SCHACHT: There are aberrations in every society and if you are the
aberrations of society, you may enrich yourself and you may enrich your shareholders. But you are dependent upon not everybody doing what you advocate, because if everybody did what you advocate there wouldn’t be
anybody left. And that’s nonsense.
SMITH: Can anybody take a company and cut employment, sell off divisions, cut R & D, and make a company look good, in terms of stock price
in the short run?
SCHACHT: It's simple. It doesn't take any brains at all. You just go do it. And if you can find somebody…
SMITH: What's the secret to it?
SCHACHT: If you can find somebody to buy what's left, you're in great shape. But if you…
SMITH: What are the steps that you do to do it?
SCHACHT: I don't know. I wouldn't presume that that's a useful activity. Others do it and they obviously make a lot of individual
money, and they make a lot of money for the shareholders. But the debris they leave behind seems to be the unthinkable. And if everybody did this the society would revolt, as we well should. Because that isn’t how you
provide goods and services.
SMITH:You are saying that society would revolt, what you’re saying is this is bad for the company and then maybe bad for the country?
SCHACHT: I think only if it gets out of hand and I don’t think it is yet. I think you can tolerate a few people doing that as long as everybody doesn't do it. I don't think it is a useful way to do it. I
don't even think it maximizes shareholder value available in those individual concerns. You do not have to slash and burn.
You can make the adjustments required if corporations get out of balance, they get out of
whack, they get overly committed to one area, changes needs to be made. This whole idea of destructive capitalism which Schumpeter started many, many years ago is very much alive and well. In the Information
Technologies where I now reside the pace is bewildering. You are always reinvesting. You are always trying things. If that doesn't work, trying something out. You ask people to be very mobile. You go to virtual
corporations. You can do all those things. But, firing people and slashing things and selling it to somebody else that is a no brainer.
SMITH: No brainer meaning?
SCHACHT : It doesn’t take a - - Just go do it. If that's the way people want to live and if that is their value system, we can tolerate that just as long as not too many people do it.
SMITH: If too many people did it?
SCHACHT: There won't be anything left. Nothing left, who's going to buy it? That is not creating
value that is destroying value in my view. Others would disagree violently, I am sure that you’ve talked to some of them. It would be an interesting debate if you showed these two views back to back.
SMITH: We just might do that.
SCHACHT: It just doesn't work as a general practice. It just isn’t in keeping with a reasonable turnover, a
reasonable period of time and that is really maximizing shareholder value. If you are a trader on Wall Street you can move around. But if everybody is destroying value you have no place to move, eventually. Is it going
to come to that? Heavens no. Are we even close to that? No. Am I suggesting that we are likely to fall into that trap? No.
What I am saying is that those who applied that particular far end of the spectrum do
it because the rest of us aren’t going to. And if we all adopted that it would last, you know, we would have a revolution in this country, and you should in my view. Because while you are here, a market system is
tolerated by a society, and regulated in its excesses, because it will move beyond normal behavior if you allow it to.
SMITH: When you use the term maximize shareholder
value, I hear real content behind the word value, and you start on the five fingers on your hand. When I hear a lot of people say maximize shareholder value I hear ‘boost stock price’, and I hear boost stock price now.
I hear it in a very short term. So what's going on is there's a very elastic term being used by people to mean very different things and implying very different corporate and social strategies.
SCHACHT: Let me try to be more precise. It seems to me that the proposition is one of continuity not of trading.
SMITH: Long-term not short-term.
SCHACHT: Longer term. Now you can also get people who never ever deliver shareholder value because they over invest in the other elements of the stakeholder model, and that doesn't work either
and they are not going to get any capital if they do that. And that’s self correcting.
So I think the definition of maximizing shareholder value is what is the highest value you can return, over, for a consistent
period in terms of earnings. I think you’ve got to separate earnings capacity from stock price. Because I think there are valuations that go on in the market place up and down, and I think what you try to do is produce
the earning capacity, increase the earning capacity of the company. That is the result of serving customers in a way that is competitively superior to others who are trying to serve the same customers.
To do that
you've got to have loyal and absolutely high skilled employees, you've got to have good suppliers, you've got to have providers of capital, you've got to have sympathetic hosts, you've got to have a reasonable tax
system, you've got to presume that you are going to have a good educational system on which you can depend. Take your pick.
Any individual corporation can ignore those for some period of time and get away with it. If
everybody ignores those, the whole system collapses. I believe that inherently the great majority of corporations either explicitly or implicitly go through this balance act everyday all day long.
SMITH: But you find people who say ‘I need to balance all these things, but the pressure from Wall Street on me and on my other senior executives every quarter causes us to do things that we really don't
necessarily think are the best judgments. We hope to even them out over time.’ Is there too much influence from Wall Street on the corporate world?
SCHACHT: You can only be influenced if you elect to be influenced. It seems to me that one of the things that the ma… - If you are going to be in the kitchen you are going to
have to expect heat and please don't complain about it. There are all sorts of pressures. There are pressures from the work force for more wages, there are pressures from the customers for more product at lower prices,
there are pressures from the suppliers for less product at higher prices, there are pressures from societies to help me with the schools, help me with the -
SMITH: But if
you look at the prevailing pressures over the last decade, in particular over the last 5 years hasn’t Wall Street had a bigger say on how corporations should be run than the other constituencies?
SCHACHT: Sure, no question. But I think the manager who succumbs to that siren song at the expense of the others, will sub-optimize the very thing he is trying to optimize. Unless you really want to go to the
extreme which is slash and burn, and sell it to somebody else.
SMITH: But why is Wall Street so strong today?
SCHACHT: I think
the great mass of capital is saying ‘we want to operate like an owner.’ But the great mass of capital hasn't yet been willing to take the responsibilities of ownership. I think that we have allowed ourselves a
short-term mentality that we darn well better re-balance -
SMITH: How has it gotten into this short-term mentality?
SCHACHT: Because we've poured so much of our pension fund, so much of our free funds, our private funds, our public funds. It wasn't too many years ago that state teachers couldn't buy stocks in their pension funds. We
have become a community of part owners. That mass of capital looking for investment opportunities has become a real force. I think it is out of balance at this particular time. I don't think it is terribly healthy. It
does bring what is called short-term, long-term pressures. But I still think the responsible managers have an obligation to lean against that wind and it can be done successfully.
We allow the system to run, to
generate the benefits of the allocation of assets through the market system. We tolerate a fair amount of pain doing that and it certainly is not as perfect. If you're going to have a perfect planned economy it would be
better. But nobody has been able to do that as well as the market , and I think that we have seen that certainly acted out in the last 20-25 years. But there are aberrations, and you try to cushion the portions of the
fallout from a market economy in a way to ease the pain for those involved in asset reallocation.
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