Tom Rollins: the economist’s argument against shareholder first-strategy

This article by Steven Pearlstein is a good synopsis of management based on shareholder value. He describes the history, ecosystem and proponents, its critics and possible future:

What I found most interesting was the intellectual argument from an economist’s point of view against shareholder first-strategy, as formulated by Tom Rollins:

“at the foundation of all microeconomics are voluntary trades or exchanges that create “surplus” for both buyer and seller that in most cases exceed their minimum expectations. The same logic, he argues, ought to apply to the transactions between a company and its employees, customers, and owners/shareholders.

The problem with a shareholder-first strategy, Rollins argues, is that it ignores this basic tenet of economics. It views any surplus earned by employees and customers as both unnecessary and costly. After all, if the market would allow the firm to hire employees for 10 percent less, or charge customers 10 percent more, then by not driving the hardest possible bargain with employees and customers, shareholder profit is not maximized.

But behavioral research into the importance of “reciprocity” in social relationships strongly suggests that if employees and customers believe they are not getting any surplus from a transaction, they are unlikely to want to continue to engage in additional transactions with the firm. Other studies show that having highly satisfied customers and highly engaged employees leads directly to higher profits. As Rollins sees it, if firms provide above-market returns—surplus—to customers and employees, then customers and employees are likely to reciprocate and provide surplus value to firms and their owners.”

Or as Nick Hanauer says about that train of thought in a recent article on Politico:

The thing about us businesspeople is that we love our customers rich and our employees poor.”

Not coincidentally, several large companies have done extremely well who succeeded at becoming “platforms” which create larger surpluses for customers, employees, suppliers and partners, and owners.

For example Google (compared to traditional advertising and market research companies) provides a larger surplus for companies who advertise and at the same time for users, making it easier to find things, people, places, documents etc. Their business model is more inclusive, thereby fostering a larger ecosystem.

PS A slightly longer version of Pearlstein’s article was published in a Brookings Institute paper: