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Shareholder value and Financialization: consultancy promises, management moves Julie Froud , Colin Haslam , Sukhdev Johal & Karel Williams Published online: 02 Dec 2010.
To cite this article: Julie Froud , Colin Haslam , Sukhdev Johal & Karel Williams (2000) Shareholder value and Financialization: consultancy promises, management moves, Economy and Society, 29:1, 80-110
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Shareholder value and � nancialization: consultancy promises, management moves
Julie Froud, Colin Haslam, Sukhdev Johal and
Karel Williams
Abstract In the pages of the daily � nancial press, ‘shareholder value’ is a loose rhetoric. For business consultants who sell � nancial metrics and implementation, shareholder value is also a product and a promise that purposive management action will be rewarded. This paper begins by considering the consultant’s promise and the more guarded aca- demic responses. It then presents empirics on micro performance and the meso limits to shareholder value and argues that most corporate managements cannot easily deliver what consultants promise and the capital markets demand. The paper ends by taking a broader view of value-based management as part of a process of � nancializa- tion. If the results are contradictory and disappointing, a persistent gap between expectations and outcomes can nevertheless drive management behaviours, which change the world.
Keywords: shareholder value; � nancialization; restructuring; consultants; corporate management.
Copyright © 2000 Taylor & Francis Ltd 0308-5147
Economy and Society Volume 29 Number 1 February 2000: 80–110
Julie Froud, School of Accounting and Finance, Crawford House, University of Manchester, Manchester M13 9PL. [email protected]; Colin Haslam and Sukhdev Johal, The Management School, Royal Holloway, University of London, Egham, Surrey TW20 0EX. [email protected], [email protected]; Karel Williams, Graduate School of Social Sciences, Williamson Building, University of Manchester, Manchester M13 9PL. [email protected].
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Introduction
It is difficult to avoid confusion and ambiguity if we begin by asking what, when or where is shareholder value (SV). For SV is not so much a precisely de� ned concept with a stable place in one discourse or politico-economic system, as a rhetoric which circulates widely and a thematic which can be variably invoked as cause, consequence or justi� cation. Rhetoric can bridge any gap between expec- tations of value and results, just as thematics can migrate effortlessly from one form of capitalism to another. From this point of view, it may seem pedantic and irrelevant to ask directly whence SV came, where it goes or what it portends; hence also, the hugely different verdicts on shareholder value which has been variously characterized as epochal revolution or mere fad and quite possibly is both.
To clarify these confusions and ambiguities, this article begins by exploring the discursive and structural limits around some of the Anglo-Saxon social actors who use the language of SV, before turning to issues of more general signi� cance. It starts in the � rst section by examining the offer of a group of key intermediaries, consultancy � rms, for whom shareholder value is a product because value-based management is what they sell to corporate managers struggling to meet stock-market expectations. It then considers, in the second section, the academic responses to SV as a development that can be endorsed or resisted. The inconclusiveness of this response is set in context by an argument in the third section about micro performance and meso limits and the real gap between what corporate management can deliver, what consultants promise and the capital markets both require and create. This argument draws on, and is empirically illustrated with, data on UK companies and sectors. On this basis of argument and evidence, the � nal section of this article offers a broad but nuanced interpretation: if management can deliver less than the consultants promise, the contradictory processes of � nancialization do change the work of management under late capitalism.
Consultancy metrics and promises
If shareholder value has become the business cliché and social mantra of the 1990s, it began life as a consultancy product of the 1980s. LEK/Alcar’s one- time principal Alfred Rappaport and Stern Stewart’s co-founder Bennett Stewart were the leading boosters, through quasi-academic business texts like Rappaport’s Creating Shareholder Value (1986) and Stewart’s The Quest for Value (1991). The product has several elements that we can consider separately and in turn: the metrics including registered trademarks; the implementation and incentive packages; the guides to action and the promise that purposive manage- ment action will be rewarded.
Every consultancy � rm must have a metric of its own or so it seems. And this rule applies not only to new consultancy � rms like Stern Stewart and
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LEK/Alcar which have been built on � nancial metrics but also to long- established � rms like Boston which were previously identi� ed with strategic consultancy but now have a ‘value management practice’ (Myers 1996). So, Stern Stewart’s Economic Value Added (EVA™ ) and Market Value Added (MVA) contend with LEK/Alcar Consulting Group’s Shareholder Value Added (SVA) and Holt Value Associates’ Cash Flow Return on Investment (CFROI). Not to be outdone, McKinsey has Economic Pro� t, while Boston Consulting Group has its own version of Cash Flow Return on Investment (CFROI) and Total Shareholder Return (TSR) (see Figure 1). The international accounting � rms, such as Price Waterhouse Coopers and Arthur Andersen (1997), have also joined in with their own recipes for measuring and creating shareholder value.
There are differences between the consultants’ shareholder value packages. Some consultants, like Stern Stewart, adopt a ‘one best way’ approach and explicitly promote one metric and its associated implementation package for all clients. Others, such as Boston Consulting Group (BCG), recognize a range of measures and offer to choose appropriate metrics for individual clients (1996a: 11). A memo to BCG consulting staff, which accompanied a booklet in their Shareholder Value Management Series, explained:
You should note that the positioning in Booklet 2 is that BCG understands the entire spectrum of value-based measures and works with clients to estab- lish the most appropriate measurement approach for their culture, appli- cations, and capabilities.
(The Boston Consulting Group 1996b)
Some established � rms, such as Price Waterhouse, adopt a more eclectic approach, combining value metrics with other measures and techniques such as scorecards, identi� cation of value drivers and value chain management in ‘an approach which energizes a corporation to enhance shareholder wealth’ (Price Waterhouse undated: 2).
The metrics are powerful because they allow a ranking of performance, although, in technical terms, they are relatively straightforward, even banal. The most widely used new metric, EVA™ , for example, is a residual income measure which shows whether the � rm in one year earns more than its weighted average cost of capital. The relation of EVA™ to MVA is straightforward insofar as it is assumed that the market price incorporates expectations of future earnings and MVA thus becomes the discounted present value of future EVA™ . What the con- sultancy � rm adds to create a market-leading proprietary product is a series of adjustments to accounting measures of earnings and capital and an acronym. Stern Stewart, for example, capitalize research and development expenditure and goodwill which has the effect of in� ating the value of the company’s capital base and thereby reducing the lump of EVA™. Practically, the � ve to ten key adjustments which Stern Stewart would make in the typical case are important because they increase the proprietary element: although any corporate � nance director can calculate residual income, only Stern Stewart can make the adjust- ments which produce EVA™ .
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Julie Froud et al.: Shareholder value and � nancialization 83
CFROI: `HOLT calculates the CFROI (cash � ow return on investment) in two steps. First HOLT measures the in� ation-adjusted (current dollar) cash � ows available to all capital owners in the company and compares that to the in� ation-adjusted (current dollar) gross investment made by those capital owners. Next, HOLT translates the ratio of gross cash � ow to gross investments into an Internal Rate of Return (IRR) . . . the CFROI is directly comparable to the shareholder return investors expect to receive, i.e., their cost of capital or discount rate’ (HOLT Value Associates undated: 4).
EVAª : `EVA™ is de� ned as the net operating pro� ts after tax, minus the required rate of return on capital employed’ (Corporate Finance 1991: 34). ‘Companies have a clear directive with EVA™ to improve returns earned on existing capital, to invest in projects that earn returns above the cost of capital and to sell assets that are worth more to others’ (Milano and Schwartz 1998).
MVA: `Market Value Added (MVA) [is] the difference between the current value of a company and the total invested capital. MVA reveals how well each company has performed over the long term in using its resources to create value. . . . But it is hard to manage for MVA because of share price volatility, the difficulty in seeing the impact of decisions on MVA and the inability to measure MVA de� nitively at various levels within a company. That is why Stern Stewart invented EVA™’ (Milano and Schwartz 1998).
SVA: Arthur Andersen calculate Shareholder Value Added as ‘net operating pro� t after tax (NOPAT) less a capital charge. . . . SVA can be enhanced by focusing on its four components: revenue and expenses (NOPAT), capital (value of assets), and cost of capital (adjusted for risk)’ (1997: 5). ‘The true power of SVA-based management is that it provides a single focal point for strategic decisions, resource allocations, and performance management’ (1997: 3).
SVA: According to Alfred Rappaport, a principal of LEK/Alcar, Shareholder Value Added (SVA) is ‘the amount of value created by the forecasted scenario. While SV characterises the absolute economic value resulting from the forecasted scenario, SVA addresses the change in value over the forecast period. Recall that value creation results from corporate investment at rates in excess of the cost of capital rate required by the capital market’ (1998: 49).
TSR: `The individual investor’s and professional fund manager’s scorecard is the total shareholder return (TSR) of their portfolio. TSR is the combined capital gain and dividend yield of the stocks held in the portfolio and is usually judged in relation to the return of similar portfolios’ (BCG 1996c: 1). ‘TSR is the most useful summary measure of value creation’ (BCG 1996c: 2)
ROI, ROE, ROA, ROCE and RONA: `Return on investment is a generic term referring to the efficiency of a business in producing income (or cash � ow) in relation to its capital employed. Common accounting ROI measures include return on equity, which is net divided by owner’s equity; return on assets, or net income divided by total assets; return on capital employed, or earnings divided by book capital; and return on net assets, or net income divided by net assets’ (Myers 1996).
Note: this list is not exhaustive.
Figure 1 Consultancy metrics for shareholder value
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Considerable effort is put into boosting one � rm’s measure and knocking others as part of the process of differentiating (basically similar) products in a battle of the acronyms:
CFROIs are ideally suited to displaying long term track records, whereas a Stern Stewart-type EVA™ is in millions of dollars, heavily in� uenced by asset size, and unadjusted for in� ation-induced biases.
(Holt Value Associates Partner, Bentley J. Madden, in Myers 1996: 1)
[CFROI is] a technology in search of a problem, as opposed to a system designed to be integrated into a company’s culture in the way real people make business decisions.
(Stern Stewart partner and co-founder, G. Bennett Stewart III in Myers 1996: 1)
Cynical managers suspect the differences are exaggerated, although that too may be functional because insecure corporate managers hire more than one con- sultant to make sure they do not miss out: Monsanto hired Boston and Stern Stewart, using CFROI and EVA™ at different levels in the business (Myers 1996: 4).
All the consultants insist that they offer much more than a metric because implementation of value-based management with appropriate incentive pack- ages is presented as the key to success. This is certainly what creates the product and makes the money for the consultancy � rms because this emphasis on implementation allows them to charge out lots of hours. If the product were a metric it would be cheap; as long as the product is implementation it must be expensive because implementation requires continuous assistance by consultants over a period of time.
There are new elements in the implementation packages, particularly the emphasis on incentive packages for senior mangers and others in the � rm as well as the insistence on using value as a universal language throughout the � rm:
EVA™ . . . is not just a performance measure. When fully implemented, it is the centrepiece of an integrated � nancial management system that encom- passes the full range of corporate � nancial decision-making – everything from capital budgeting, acquisition pricing, and the setting of corporate goals to shareholder communication and management incentive compensation. By putting all � nancial and operating functions on the same basis, an EVA™
system effectively provides a common language for employees across all cor- porate functions, linking strategic planning with the operating divisions, and the corporate treasury staff with investor relations and human resources.
(Stern et al. 1995: 33)
But, if we turn from this vision of a � nancialized management system, to actions and the speci� cs about what management can do to improve � nancial results, then we � nd a fairly traditional concept of operations and a puzzlingly empty concept of strategic moves. Traditional modes of thinking are most
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obvious at LEK/Alcar which works hard to reconcile the old and the new con- sultancy so that it is sometimes difficult to distinguish between the prescriptions of the new � nancial metric consultancies and those of their precursors a gener- ation or more ago. Thus, LEK/Alcar advises management to focus on the value drivers in operations by analysing the major components of cost and identifying the controllable elements, much as consultants have been doing for the past thirty years (LEK/Alcar 1997: vol. I). And, on strategy, the second edition of Rappaport’s book is promoted by LEK/Alcar with the claim that it shows ‘why competitive advantage and shareholder value should be regarded as synergistic rather than competing objectives’ (LEK/Alcar 1997: vol. V).
The broader general concepts of management moves are hardly original or imaginative. For example, Stern Stewart’s ‘three principal ways of increasing shareholder value’ are no more than arithmetical possibilities inherent in any pro� t ratio, which can be changed by increasing the numerator or decreasing the denominator. Thus � rms can make existing assets work harder, invest in activi- ties with positive EVA™ and retreat from activities with low return on capital employed (ROCE) (Stern et al. 1998: 482). Rappaport provides a more interest- ing list of the six ways of beating market expectations. These include exploiting a leading brand name; changing the rules of competition, as when � rms intro- duce new formats such as discount warehouse; reacting quickly to change; leadership in high tech; effective downsizing as in the case of General Dynam- ics; or skill in acquisitions (Rappaport 1998: 186–7). The problems with his list are obvious. Many or most � rms do not have the brand, the intellectual prop- erty rights (IPR), the technical edge or the supply chain power; shuffling the business portfolio, outsourcing or labour stripping may work for some � rms but is unlikely to work for all. Reinvention of the business formula usually involves a risk of failure and, while divestment is guaranteed to work, it creates a smaller � rm and would typically yield better ratios but a smaller lump of pro� t.
Other critics have noted (Mouritsen 1998: 467) that the concept of the moves is such that there is a strong element of tautology and circularity about the form of this discourse: shareholder value is identi� ed with particular ratios and strat- egy becomes the corollary actions which improve the ratio by acting on numer- ator or denominator.
If the metrics and moves are hardly original, the associations around ‘value creation’ are powerful because they suggest focused, effective management delivering improved performance in the interests of shareholders. There is in all this a quasi-religious element of shareholder fundamentalism. Consultants like Bennett Stewart readily admit that EVA™ does not work if it is misapplied; his list of reasons for failure starts with ‘they don’t make it a way of life’. But this is not so much a concession as part of the consultant’s offer: consultancy is about putting expertise at the service of corporate clients who thereby avoid the mis- takes that others make.
At the same time, the consultants make positive promises which are mainly (often only) illustrated by homiletic examples and parables wherein consultant, metric and implementation save the value-destroying company just as Jesus saves
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the erring sinner. The 1997 Stern Stewart Performance 1000 for the US opens with � ve ‘recent success stories’ which all take the religious form, as in the case of Harnisch� eger Industries of Minneapolis:
The top line was growing, the bottom line was growing, but the stock price was going nowhere [in 1993] . . . EVA™ was � rst adopted as a performance measure, then in 1994 some 400 executives were put on a standard EVA™
incentive bonus plan . . . later 3,600 salaried employees were enrolled in a modi� ed EVA™ plan. . . .
When the program began, Harnischfeger had a negative EVA™ and a share price of $18. Thereafter, year by year, the company’s EVA™ grew until it was substantially positive in 1996 – the � rst year in which all business units posted positive EVA™ – and the stock reached $40 a share. Harnischfeger’s improve- ment over the three years was so rapid that it was number two on Fortune’s list of the fastest growing companies in the US.
(Ross 1998: 117)
The effects of such parables are reinforced when corporate executives them- selves endorse the product in their own words as in LEK/Alcar’s newsletter. Their fourth volume presented ‘three testimonials on the successful application of SVA and LEK/Alcar’s Value Based Management system’ in Q and A form with senior executives from companies like RJR Nabisco answering the ques- tions. The associative chain connects the consultancy � rm via metric and implementation with corporate success.
The association is reinforced by reassuring lists of blue-chip corporate clients which constitute a kind of widely circulated appeal to authority. Since its foun- dation in 1982, Stern Stewart has advised 250 corporations whose sales revenues total more than $400 billion; its US client list includes Coca Cola, AT&T, Eli Lilly, Trans America and Georgia Paci� c, Briggs and Stratton and Quaker Oats (Myers 1996: 2). Boston similarly claims 100 corporate clients and all the major consultants are having some success with European companies. Stern Stewart has recently opened a London office whose oldest client is the stores group Burton and whose largest client is Siemens (Ross 1998: 120). The list of LEK International Offices shows how value-based consultancy is going global, though encountering some resistance in Asia: this � rm has offices in Auckland, Bangkok, Brussels, London, Melbourne, Milan, Munich, Paris and Sydney.
The texts by consultancy principals that boost SV thus combine pages of tech- nicality about metrics with curiously indecisive discussions of business policy and homiletic examples of corporate success. This is set in an interpretative wrap that presents SV as a benign revolution in corporate priorities with entirely ben- e� cial consequences for the broader society: SV will align management and shareholder interests to bene� t all stakeholders as shareholding is spread ever wider. Some of the consultants present empirics to demonstrate that pursuit of SV (via the appropriate metric, of course) will bring bene� ts to all stakeholders (SCA 1996). Similarly, Rappaport (1998: 11) observes that 40 per cent of Ameri- can households own individual stocks or mutual funds and concludes: ‘when we
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realise that the shareholders are not “them” but are “us”, the case for share- holder value becomes even more compelling’.
Academic responses: yes and no
If SV is a consultancy product, it leaves room for a variety of academic responses. Two groups can be distinguished on an intellectual basis: academic endorsers, who assimilate the language of value into their own academic paradigm through which they construct the corresponding real world processes as a positive development; and academic resisters, who reject shareholder value as a partial or inadequate misunderstanding of how markets and � rms work. The difference is as much political as discursive: the endorsers are generally much closer to con- sultancy than the resisters. In this section we develop the argument that endorsers are uncritical and the resisters are insufficiently radical.
If we consider the stock-market developments of the 1990s, especially lever- aged buy outs (LBOs) and value-based management, a small group of in� uen- tial American corporate � nance professors has played a role rather similar to that of the bishops who blessed battleships before World War I, with the ‘market for corporate control’ occupying much the same place in their thought as the ‘just war’ did in the thought of the bishops. Pre-eminent among these � gures is Michael Jensen of Harvard who has consistently supported corporate restruc- turing via LBOs, divestment, share buy backs, etc., as a way by which managers can increase the return on their capital, and has also more generally endorsed value-based management.
The market for corporate control is creating large bene� ts for shareholders and for the economy as a whole. The corporate control market generates these gains by loosening control over vast amounts of resources and enabling them to move more quickly to their highest-valued use. This is a healthy market in operation, on both the takeover side and the divestiture side.
(Jensen 1998: 352)
This position on theoretical rationale is not of course anything like as vulgar as product endorsement for any � rm or any speci� c metric, but Jensen does provide intellectual legitimation for management action, under pressure from the capital market, to create value for shareholders. The whole process of value management is also wrapped into a theoretical a priori: as assets are re-allocated between � rms, value for shareholders can be enhanced and teams of managers compete to get higher rates of return from bundles of investment projects.
More speci� c product endorsement comes from the cross-over hybrids who are consultants in the morning and academics in the afternoon and publish in books and journals, which combine authors of both kinds for an audience of students and corporate managers. If Stern Stewart EVA™ is the best known of the new metrics, that is partly because they have promoted themselves by pub- lishing with academics as well as for academics and their students. Stern and
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Chew (both partners of Stern Stewart) jointly edit a widely used collection of readings that pulls together state of the art thinking in corporate � nance. In the second (1992) and third (1998) editions there is an increased emphasis on man- aging for shareholder value: for example, the third edition contains a new section on ‘Corporate Governance’, including a review of EVA™ which explains, among other things, why it ‘is held in such esteem in the corporate world’ (Chew 1998: x). Equally important is the Journal of Applied Corporate Finance, which mixes articles by consultants with testimonials from corporate executives and contri- butions by leading academics.
On this basis it becomes more difficult to separate the consultants from the academics who fall into line around value-based management. Thus, the second edition of Stern and Chew (1992) and Kensinger and Martin (1992) both discuss how shareholder value is and can be enhanced through strategies similar to those envisaged by Stern Stewart and Rappaport in our preceding section. Or, Hite and Owers take a positive view of the challenge to the large and sprawling conglomerate from increasingly activist investors (Stern and Chew 1992: 577). Eminently respectable and independent academics are put into positions where it is difficult to be impolite about value-based management. In an ‘EVA™ Round- table’ reported in Stern and Chew (1998), the accounting academic, Jerold Zimmerman, provides broad support for EVA™ which ‘clearly has the potential to add signi� cant value in many corporate circumstances’ (1998: 497). In par- ticular, he endorses the claim that EVA™ helps to integrate internal decision making with maximizing shareholder wealth.
The resisters come from inside and outside corporate � nance and we can begin by considering the objections from within which show that many corpor- ate � nance specialists have reservations, although these usually relate to the detail of what metrics can do and the evidence on EVA™ and performance.
The residual income concept is not new because it was used by General Motors in the 1920s and General Electric into the 1950s (Bromwich and Walker 1998: 392) and its problems have been extensively discussed. From this per- spective Bromwich and Walker fundamentally question Stewart’s (1991) ‘appealing’ presentation of EVA™ as the reworked residual income measure which connects ex ante valuation with ex post evaluation to create a powerful and unique incentive system for managers (1991: 409). In their view, Stewart ignores the problematic assumptions necessary for this result, assumptions that are con- troverted in the � nance literature so that it is, in principle, impossible for EVA™
to represent everything in a single performance/incentive metric in the ways dis- cussed by its promoters. Other � nance academics have questioned EVA’s power to explain and have tested its empirical correlates with varying results. For example, Biddle et al. (1997) � nds that abnormal returns to shareholders in the US are more strongly associated with conventional accounting earnings than with EVA™ . Using UK data, Stark and Thomas (1998), however, provide support for EVA™ when they � nd that market values are more strongly associ- ated with residual income-based measures than with earnings. The empirical results so far are probably best described as inconclusive and likely to remain so
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when variables such as earnings and EVA™ can be calculated in different ways such that empirical � ndings cannot always be directly compared.
For our purposes, we can note that the end result is likely to be a gentle debate within � nance between those who support and those who critique the new per- formance metrics. Both sides of the debate are united by a shared framework which sees shareholder value as a legitimate objective and who broadly accept that performance measures which help reduce agency problems are likely to enhance shareholder wealth. Equally, the parties to this debate share a concept of the � rm as a bundle of investment projects and reduce the economy to one micro level, as the sum of the investment projects made by all the � rms. In micro terms, the capital market is the more or less exclusive focus of interest with little reference to product or labour markets.
The resisters from outside � nance present or imply different, broader (non- � nancial) accounts of how � rms work, what limits management actions at � rm level and how value is generated. Nevertheless, these resisters broadly accept the shareholder wealth objective with their arguments focusing largely on the use- fulness of the shareholder value metrics and/or on whether the approved con- sultancy moves might realize that objective.
The response from business policy or organizational behaviour specialists is different and entirely predictable. In business policy it has been led by Hamel, who made his name with an internal competences account of the � rm, which leads to a very different view of the moves managers make. In organizational behaviour, specialists like Useem argue, from a sociological point of view, that it is difficult to mobilize organizations for action to achieve objectives like SV which quickly become political and socially de� ned inside and outside the organization.
These critics tend to make one of two major critical points in arguing against the use of simple one-dimensional measures and for more complex models of the � rm and wealth creation. Thus, in Fortune in 1997, Hamel argues against the use of a single � nancial measure ‘to capture all the dynamics of corporate per- formance’. This point picks up on and relates to the long-standing Harvard- based critique of � nancial-based management as likely to produce perverse results such as short-termism, which creates incentives to reduce expenditure on research and development and discourages strategic thinking. Those who resist single � nancial measure performance-based systems are likely to prefer alternative multi-dimensional measures like Kaplan’s balanced scorecard which includes market share, quality and other non-� nancial indicators.
The most popular alternative model of wealth creation is some variant on human capital theory which implies that the consultants like Stern Stewart are focusing on the wrong kind of capital. In a debate with Al Ehrbar, a senior vice president of Stern Stewart, Hamel takes this line and identi� es human capital as the builder of value in companies like Chrysler and Microsoft. Mouritsen’s (1998) critique of EVA™ concentrates on ‘intellectual capital’ and an alternative ‘technology of management’ which would mobilize intellectual resources to create long-term possibilities of growth through the development of new
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products and markets. What EVA™ lacks, therefore, according to Mouritsen, is ‘a speci� c theory of how � rms grow’ (1998: 467). In particular, it provides no assistance in developing strategies for growth under conditions of technological change and other forms of uncertainty: rather, EVA™ is based on current prod- ucts, markets and technologies (1998: 462).
Alongside these critiques, there is scope for a more radical political economy evaluation of shareholder value from several different and overlapping perspec- tives. In this respect we complement Boyer’s (2000) paper on the macro economy in this special issue, which correctly argues that the pursuit of higher rates of pro� t has variable consequences which depend on the extent and form of � nan- cialized behaviour within different macro regimes. Thus, the next section of our paper tracks the consequences and possibilities of pursuing shareholder value at micro and meso levels. For the purposes of this demonstration, our analysis accepts the metrics on the pragmatic basis that they are sold by consultants and adopted by companies. Rather than rejecting them in favour of some alternative measure or framework, it asks instead whether corporate managers can deliver shareholder value by this standard.
(UK) Management project: EVAª and MVA
Consultancy discourse works partly through tables and diagrams which drama- tize the gap between what is and ought to be for corporate management, whose position in a grid allows success to be measured and performance to be ranked. So it is with SV, where Stern Stewart’s league tables of EVA™ and MVA for the US and UK constitute the grid which dominates the � eld and identi� es winners and losers as those who respectively ‘create’ and ‘destroy’ value for shareholders. Discursively, the league table can be seen as an interpellative device that speaks to management and shareholders. It allows management to rank their perform- ance. The excellent can serve as exemplars of what is possible while the rest identify their task of improvement and status as clients in need of assistance through necessary measures including ‘surgery’. At the same time, it encourages a shareholder activism that construes ownership stakes as a lien on current or future earnings that are a purely � nancial matter. Through these two effects, the league table reinforces a new form of � nancialized competition of all against all, with considerations of corporate size, trajectory or activity consigned to the periphery of the � eld of vision.
At the same time the league table provides source material for an alternative reading and deconstruction which sustains a rather different interpretation. Thus, this section begins by focusing on large UK corporations using the EVA™
league table and differences in earnings-based shareholder value before moving on to consider the MVA performance of the same UK � rms, which depends on the market share price. On EVA™ our alternative reading of the UK league table emphasizes a series of structural limits at micro and meso levels which restrict returns and, by implication, ensure that, although the recommended moves may
90 Economy and Society
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work for some of the � rms some of the time, they are unlikely to deliver reliably increased EVA™ . On MVA our alternative reading emphasizes the connection between rising share prices and the funnelling of middle-class savings into the stock market which suggests that the creation of MVA has only a limited con- nection with management effort. It should also be noted at this point that British evidence was used because it was conveniently to hand for the authors; if Ameri- can evidence were substituted, their conclusions would be much the same.
EVA™
For the UK, the Sunday Times publishes an annual league table of performance by MVA and EVA™ as calculated by Stern Stewart for the biggest 200 � rms. Tables 1 and 2 show the performance of the top and bottom twenty in terms of EVA™, using the latest available � gures published in 1998 (27 September 1998), and comparing these with the EVA™ produced a year earlier and the MVA created or destroyed. Overall, the EVA™ results are hardly sparkling, even though 1997–8 was a good year when the economy and corporate pro� ts were more or less at a cyclical peak. Only eighty-seven of the 200 companies are cre- ators of EVA™ , with more than half destroying shareholder value. In terms of trend, there is considerable improvement on the previous year when only � fty- nine out of the 200 largest � rms in the UK created EVA™. But much of this comes from the inclusion of � nancial companies, including banks, for the � rst time in the 1998 top 200 which had previously included only industrial and com- mercial companies (ICCs). Table 1 shows the large, pro� table banks and con- verted building societies are well represented in the 1998 top twenty and have effectively pushed smaller, less pro� table ICCs out of the 200. The undisputed fact is that the majority of the largest UK � rms do not deliver any EVA™ and therefore destroy shareholder value.
This outcome can be interpreted in a variety of different ways. The com- mentary alongside the league table in the Sunday Times concludes, ‘rather wor- ryingly, that shareholders would be better off if the majority of Britain’s biggest companies were either taken over or had new management installed to improve their returns’. This is fairly predictable because those who believe in shareholder value respond like zealots who interpret failure as the cue for renewed effort, rather than cause for re� ection. If the revolution has failed to deliver what it should, the zealot’s conclusion is that it must be because the orthodox prescrip- tions have not been pressed hard enough. This is a quite startling position to take on the British economy where there has been large-scale merger and acquisition activity through contested takeovers for the past twenty years. Between 1976 and 1995, UK ICCs spent £244 billion pounds on mergers and acquisitions in 1996 prices (Froud et al. 1999). From outside the belief system, one might suppose the EVA™ results of the late 1990s in the UK suggest the ‘market for corporate control’ is not delivering.
In terms of orthodox micro-economic predictions this result is hardly
Julie Froud et al.: Shareholder value and � nancialization 91
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surprising. According to orthodox theory of the � rm: in the long run, compe- tition erodes abnormal pro� ts so that � rms in the long run earn only normal pro� ts. It is not entirely clear how this theoretical prediction about economic pro� t relates to Stern Stewart-adjusted (and post-tax) accounting rates of return in a real economy, but intuitively we would not expect most � rms to be earning EVA™ in the form of a large surplus over their cost of capital. And, as we would expect from orthodox economics, those who do earn an EVA™ surplus tend to have special case advantages just as those who do not have corresponding dis- advantages.
In the top twenty of Table 1, the winning � rms come from � nancial services, pharmaceuticals, media/broadcasting, telecommunications, tobacco and food processing. One group of these � rms in pharmaceuticals, food processing and tobacco has market-place cost-recovery advantage arising from intellectual prop- erty rights and brands. Another group in media and � nancial services has an accounting advantage in terms of capital employed, which is reduced by imma- teriality in media, broadcasting and mobile phones and by the offsetting deposits and loans on retail � nancial balance sheets which reduce the capital employed. Many of the losers in the bottom twenty of Table 2 are correspondingly dis- advantaged by their market position and capitalization: difficult product markets and large requirement for capital make positive EVA™ difficult for airlines, water and energy � rms.
As � rm by � rm analysis proceeds, so it becomes more and more difficult to sustain the putative general connection between positive EVA™ and the quality of management. Of course, even if we leave aside tired conglomerates like Hanson and BTR, the bottom twenty does include � rms whose returns have been depressed by strategic management blunders. Firms in this category would include BAT which diversi� ed outside tobacco, Nat West which dissipated the pro� ts of retail banking and Premier Farnell which made an ill-judged acquisition. But, equally signi� cant, the bottom twenty includes � rms where management’s only mistake is being in the wrong place at the wrong time. Even the Sunday Times is forced to admit that British Steel has made great strides in operating terms and is now ‘one of the world’s most efficient steel businesses’; its failure to ‘generate anything for shareholders’ relates to over-capacity in the world steel business which ‘makes it hard for any steel company to earn a return on its capital’ (Sunday Times 27 September 1998).
The league table holds analysis at the level of the individual � rm where con- clusions can quickly get lost in discussion of contingent and particular circum- stances. But if we move up a level to sectors and activities, it quickly becomes clear that sectoral affiliation exerts a large in� uence on the returns obtained. This point emerges from Table 3 which presents average sectoral rates of return for UK quoted ICCs (excluding � nancial companies). It presents data both on the conventional ROCE, i.e. earnings before interest and taxation, as well the less � attering post-tax ROCE that (in adjusted form) enters into the EVA™ calcu- lation.
Whereas the discourse of consultancy typically focuses on exceptional � rms,
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average performance is generally much more interesting for social science. If we take the post-tax ROCE, the pattern of sector- and activity-related variation reinforces our alternative reading of the EVA™ league table. The top � ve sectors with post-tax ROCEs of more than 15 per cent are broadcasting, pharmaceuti- cals, tobacco, media and food manufacturing which bene� t from property rights, brands and immateriality. Conversely, the bottom � ve sectors with post-tax ROCEs of 10 per cent or less are hotels and pubs, water, construction and build- ing materials. Most � rms pay corporation tax at a rate of around 30 per cent, and they therefore appear to perform much better if we consider the less exacting and long-established pre-tax standard. Virtually all sectors achieve a pre-tax rate of return above the 12–13 per cent level that � gures as the imputed cost of capital in 1990s texts by Rappaport and others. The cynical interpretation of this is that
Julie Froud et al.: Shareholder value and � nancialization 95
Table 3 Return on capital employed (ROCE), by sector, 1997
Sector ROCE (pre-tax ROCE (post-tax ROCE less 12% and interest) % and pre-interest) % nominal cost of capital %
Broadcasting 57.1 33.8 21.8 Pharmaceuticals 49.0 23.3 11.3 Tobacco 30.6 23.3 11.3 Media 24.0 16.5 4.5 Food manufacturers 23.8 15.9 3.8 Retailers – general 22.6 13.2 1.2 Electrical equipment 22.2 8.9 –3.1 Telecomms 21.3 14.2 2.2 Engineering-motors 19.4 10.1 –1.9 Engineering 18.9 10.5 –1.5 Leisure 18.9 10.0 –2.0 Speciality chemicals 18.7 11.2 –0.8 Diversi� ed industry 18.5 12.5 0.5 Aerospace/defence 16.1 9.3 –2.7 Retailers – grocery 16.0 12.2 0.2 Electricity 16.0 11.9 –0.1 Chemicals 15.2 10.1 –1.9 Distributors 15.0 10.7 –1.3 Brewers 14.2 7.7 –4.3 Building materials 14.0 9.4 –2.6 Pubs and restaurants 13.9 9.2 –2.8 Construction 13.8 9.8 –2.2 Water 12.0 10.2 –1.8 Hotels and catering 5.6 7.6 –4.4
Sources: Datastream/ICV Notes 1 Figures used for 1997 accounting year end. 2 The sample comprises 339 companies, with a total market capitalization of £479bn in 1997, and
representing 45 per cent of the total Industrial and Commercial Companies (ICC) capitalization in 1997.
3 The fourth column subtracts a nominal 12 per cent cost of capital from the post-tax ROCE to show the excess return on capital.
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sectors, like car retailing, which cannot easily make this level of return must leave the corporatized PLC sector which, at any moment of time, consists of that subset of economic activities which can meet the return requirements of the stock market. If returns are sectorally governed, raising the hurdle rate would only expel more � rms and activity from the corporatized sector.
Hence, we would return at this point to a form of accounting activity analy- sis which uses PLC-type accounts to explain how cash generation (and thus dis- tributed earnings for shareholders) are variably constrained in different activities, as illustrated in Table 4. The basic idea is that suppliers and the inter- nal workforce make predictable � rst and second claims on each pound of sales revenue; what is left after meeting these two claims could be loosely termed ‘cash’. It is not exactly cash as measured by a corporate cash � ow statement but, except in cases like construction where payments are irregular and lumpy, our ‘cash’ will usually be much the same. The loss of precision is justi� ed because the two claims and residual analysis highlight distributive con� ict and limits on returns to different stakeholders. The purchase/sales ratio and the labour share of internal costs re� ect market and productive constraints. These ratios vary in cross-section between activities and provide a basis for differentiation; but typi- cally over time, at least in the medium term over a decade or so, the ratios within an activity are stable and resist the efforts of management to shift ratios and increase the cash residual.
The arithmetic is fairly straightforward. The purchase to sales ratio (P/S) shows the proportion of sales revenue paid out to suppliers: for grocery retail- ers who simply sell the products of other companies this is over 80 per cent; while for water utilities who receive their raw material at little cost the P/S is under 40 per cent. After paying external suppliers, the next claim that must be met is the internal workforce and again the labour costs’ share of internal costs (LSIC) varies between activities. In manufacturing, labour costs account for 65 per cent of the internal costs, whereas in pharmaceuticals labour takes a lower share of the fund available for internal purposes. The P/S and LSIC together determine how much cash is left after the two largest claims on business rev- enues. A cash-generative business like water combines low purchases and labour costs and yields a cash residual of 41 pence in every pound which is available for other claims on the business, by way of interest, dividends, tax and reinvestment. But cash generation in most businesses is spoilt by some combination of a high P/S and/or a high LSIC. In grocery retailing, for example, high purchases and middling labour costs yield a residual of just 6 pence for every pound of sales revenue.
Meso accounting ratios cannot explain and do not govern the capitalist economy because the causal arrows run the other way from expanded repro- duction, accumulation and macro regime through product and labour-market variables. But the observed stability of the activity ratios suggests that manage- ment effort to change ratios and increase the residual cash yield from each pound of sales revenue will usually have disappointing results. And it also explains why most � rms are attracted by sales revenue growth because this increases the lump
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of pro� t. Increased sales revenue can be obtained by organic growth, if market position and the product market allow, or by acquisitions in similar or unrelated activities. If we see acquisitions from this accounting point of view, takeover becomes the constrained manager’s way of buying increased sales turnover and it would hardly be surprising to � nd that it had variable and often disappointing results. While acquisition has been an effective strategy for the likes of Rentokil which has achieved growth rates of 20 per cent until very recently, as we explain elsewhere, corporate restructuring has not generally been a straightforward recipe for success (Froud et al. 1999).
The accounting analysis so far has been cast entirely in operating terms. Any consideration of capitalization in the balance sheet and of market valuations only reinforces the gloom about management’s capacity to generate higher rates of return. Some activities, like water supply or pharmaceuticals, start with con- siderable advantages in terms of their operating ability to generate cash. But, this advantage is neutralized when capital is issued as � rms are � oated or change hands; or turned into a double-edged thing by stock-market valuation of the company. Water would be a good example of the � rst effect because this sector combines phenomenal operating cash generation with a miserable sectoral rate of return. When water was privatized, the British government obtained the best price it could by ramping up the issued share capital (and thus Treasury receipts) to the point where all the operating cash could only just service the issued shares and the pre-tax ROCE is no better than 12 per cent. Pharmaceutical companies are a good example of the second effect. This sector again is highly cash gener- ative but capital intensity, i.e. balance sheet capital per pound of sales revenue, is high despite the immateriality of the activity and pharmaceutical companies trade at fancy price–earnings ratios. Thus, for those who have bought shares in the past year or two, the rate of return on purchase price through distributed earnings will be 5 per cent or lower and pharmaceutical management must then pay much attention to keeping the share price going and ensuring MVA.
Before turning to analysis of MVA we would however make one � nal point about divestment, downsizing, shrinking the � rm and the corporate sector. The one management move that can infallibly improve pro� t ratios is divestment of activities with poor rates of return accompanied by handing back cash to share- holders. Unilever, a value-creating � rm which � gures as number eight in the EVA™ top twenty, provides a good example. Unilever sold ICI a bundle of speciality chemicals businesses with worse operating ratios and more exposure to cyclicality than its branded groceries and detergents. Unable to � nd acquisi- tions with the right ratios at a sensible price, Unilever proposed handing back enough cash to shareholders to repurchase between 5 and 10 per cent of its equity (The Observer 13 December 1998). This works at the single-� rm level to improve pro� t ratios but fairly obviously this does not grow Unilever or the cor- porate sector as whole. The corporate lump of pro� t will be exactly the same unless one assumes that ICI management can transform the purchased busi- nesses. That seems unlikely because ICI bought into speciality chemicals as a way of getting better ratios than in its existing untransformable bulk chemicals
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businesses which it, in turn, wanted to sell and did � nally did pass on to Hunts- man, a privately held, unquoted American company. This looks like a game of corporate pass the parcel, which offers few bene� ts to shareholders because pro- ductive realities are not transformed and real growth is not being obtained. Unless new activity moves into the corporate sector from the government or per- sonal sectors, this kind of restructuring offers the prospect of a smaller corpor- ate sector with a reduced capital base.
MVA
If the EVA™ � gures are mainly bad news, the MVA results appear to be more favourable, which is immediately good for shareholders whose returns come more easily in the form of share-price appreciation than they do in terms of favourable pro� t ratios. Tables 1 and 2 include a ranking in terms of MVA. If more than half of the top 200 � rms destroy EVA™ , only seventeen out of the 200 biggest companies destroyed MVA and thus, by this measure, more than 90 per cent of Britain’s top companies are creating shareholder value. The implication of course is that, as Table 2 shows, many British companies with negative EVA™
have positive MVAs and the correlation between EVA™ and MVA is less than perfect.
This result is not too paradoxical in orthodox � nance terms if we remember the share price re� ects expectations of the future which are factored into the MVA. Thus, several major British companies have poor current pro� t records but better prospects which already in� uence the price. The paradox is clearest in the case of Shell which is described in the current Sunday Times league table as Britain’s ‘most successful company’. Shell is in bottom position on the EVA™
200 as the company which destroys most value by this measure; yet Shell is at the top of the MVA 200 table because the market can make judgements about ‘the true value of reserves’ which enter into its price. If this explanation works for some companies like Shell, it is hard to imagine that investors believe that the future is going to be different from the past in tired PLCs like Granada or British Airways which both managed respectably positive MVA despite negative EVA™. In this case it is very difficult to avoid the conclusion that much of the MVA re� ects the effects of what the Sunday Times describes as the ‘longest and most sustained bull markets in history’ (27 September 1998).
When the market as a whole is rising strongly, even fairly average companies that struggle to create EVA™ can create positive market value. And, as Table 5 shows, the stock-exchange index has risen unsteadily but strongly throughout the 1990s during which ordinary share prices have typically doubled. Table 5 shows that in 1997, the year on which the Sunday Times MVA � gures are based, the market rose by 19 per cent on the 1996 level, securing the largest relative and absolute increase in the 1990s. In this context only managements which make massive strategic blunders, suffer dramatic reversals of fortune at the end of a trajectory or operate in disaster activities will destroy MVA. Throughout much
Julie Froud et al.: Shareholder value and � nancialization 99
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of the 1990s, the rising tide has lifted most of the boats in a way which has very little to do with the positive effects of purposive management action and mani- festly runs ahead of the growth of corporate output or any technical transform- ation inside the real economy.
Indeed, this is part of our current economic problem in both Britain and the United States where the stock market has risen in a way which eases the creation of MVA on the long upswing. But the ever-present threat is one of unsustain- ability and instability when the bubble bursts resulting in a massive and sudden destruction of MVA. Over the period 1975 to 1998, the UK stock market has risen further and faster than the US stock market where the index has increased from 100 to 1,203 (Economic Report of the President February 1999). A consider- ation of the resulting change in British price/earnings (P/E) ratios suggests the precariousness of current stock-market prices. The British stock market of the 1970s was overshadowed by a nasty market crash and pro� ts crisis for corporate business: in 1975 the ratio of share price to earnings in the UK was only half of the 10.9 times in the US. By 1998, though the British upswing of the 1990s was much more muted than in the USA, the UK’s P/E ratio of 24.7 was much closer in relative terms to the US value of 28.6 and both were at heady levels.
100 Economy and Society
Table 5 UK stock-market index and yields
Year Stock Exchange index Earnings/price ratio Price/earnings ratio (yield)
1975 100 19.3 5.2 1976 102 15.4 6.5 1977 147 16.5 6.1 1978 163 16.5 6.1 1979 175 16.6 6.0 1980 200 18.1 5.5 1981 237 12.1 8.3 1982 243 12.3 8.1 1983 320 10.1 9.9 1984 369 10.6 9.4 1985 458 10.4 9.6 1986 580 9.2 10.9 1987 814 9.0 11.1 1988 646 11.7 8.6 1989 857 10.8 9.3 1990 840 11.7 8.6 1991 922 8.7 11.5 1992 963 8.1 12.4 1993 1105 6.5 15.4 1994 1154 6.1 16.4 1995 1220 6.3 15.8 1996 1360 6.1 16.4 1997 1616 4.7 21.2 1998 1732 4.1 24.7
Source: Datastream/ICV; UK Financial Statistic s, ONS, London, various years
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What these ratios mean is that, whereas in 1975 it would take a little over � ve years’ worth of earnings attributable to shareholders (including those distributed as dividends and those retained by the business) to repay investors at the pre- vailing share price, by 1998 the market price is equivalent to almost twenty-� ve years’ worth of earnings. It is of course difficult to determine a normal range of P/E variation. On historical evidence in Britain and the USA, a P/E ratio of between six and thirteen might be considered a normal range which both allows for cyclical � uctuations in the real economy and for moderate in� ation. The rise to a twenty-� ve times plus ratio by the late 1990s implies expectations are on a steeper trajectory than the real economy and an increasing disconnection between current realities and market prices. Even if this is not a bubble, investors are now painfully exposed to market downturns in a world where share prices can go down as well as up. Over the bull market, shareholder returns have been increasingly found through share trading in a generally rising market rather than through operating to create earnings distributed as dividends.
The extraordinary growth in market value partly re� ects an increase in the volume of funds as middle-class savings seek returns on the secondary market for issued securities, where the volume of securities is limited. If this sustained imbalance between domestic demand and supply for issued securities is a safe- guard in the medium term because it will drive up prices after any crash, in the short term it may only increase the disconnection between market price and management effort.
Just as a variety of social and economic changes are encouraging and com- pelling individuals to make their own pension provision, in the UK case, the bull market and the expectations of capital gains that this creates has encouraged a diversion of savings out of safety-� rst bank and building society deposits and into market-linked (and often tax exempt) schemes like PEPs, TESSAs et al. Table 6 shows that, while the total value of household assets has more than doubled in real terms between 1975 and 1995, � nancial assets have become rela- tively more important and house property less important. The £1,159 billion value of residential buildings in 1995 was comfortably exceeded by investments in secondary securities of £1,342 billion if we add together direct investments in company securities and indirect investment via insurance and pension funds. The real value of households’ insurance and pension funds has been increased more than � ve-fold over twenty years by ever larger � ows into such funds. The surplus of life assurance and pension funds, after meeting bene� ts paid out and administrative charges, increased from £27.7 billion in 1990 to £43.3 billion in 1996 (The Blue Book 1997: 84).
While these middle-class savings patterns increase demand for equity, domes- tic issues of new shares have not kept pace, thus helping to increase MVA for many � rms. Restructuring in response to the shareholder value imperative may actually serve to reduce the supply of equity for investment as companies buy back shares, switch from equity into debt (as the consultants and � nance aca- demics recommend) and sell off parts of their activities via MBO and MBI. In the UK the supply of equity was reduced by £30 billion in 1998 via buy backs,
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while in the US share buy backs led to a ‘retirement’ of some $158 bill of equity. This development is particularly striking because, at a comparable point in the last cycle, companies were eager to issue new equity to take advantage of their own high share prices (Financial Times 13–14 March 1999). Thus shareholder value may contribute to an increasing disjuncture between the real economy and the � nancialized superstructure (see also McGoun 1997).
What’s going on? Financialization and the work of management
On the basis of the argument and evidence so far, we can now turn back to some of the big interpretative issues that were raised by our opening question about what, when or where is shareholder value. This is the point at which business and management research so often disappoints by assertively proposing one- dimensional accounts that re� ect simple a priori about the secret of success and which � atter management agency by presuming that management can both understand and change the world, in a way which re� ects intention and capa- bility. It is not easy to do better because, in any kind of intellectualism, adding quali� cations and context so often diminishes broadly based understanding. But we shall try to combine interpretation with subtlety by building the analysis of � nancialization and its implications for management in a series of steps which both serve to establish the distinctiveness of what is now going on and the dangers of premature schematicism.
102 Economy and Society
Table 6 Composition of household assets (1996 real prices) (� gures in £ billion at year end values)
Year Residential Total UK Equity in All other Total Total buildings tangible company insurance � nancial � nancial assets
assets securities and assets assets pension funds
1975 576 733 100 156 365 621 1,354 1980 704 888 85 235 361 680 1,568 1985 904 1,056 106 471 469 1,046 2,101 1990 1,409 1,569 205 642 594 1,441 3,010 1991 1,329 1,470 231 701 607 1,538 3,009 1992 1,208 1,338 246 769 631 1,647 2,985 1993 1,216 1,352 298 962 658 1,918 3,270 1994 1,183 1,322 303 885 659 1,847 3,169 1995 1,159 1,291 344 998 690 2,032 3,323
Source: UK National Accounts (The Blue Book), ONS, various years Notes Other tangible assets include agricultural land and buildings, ships, forestry, aircraft, vehicles, etc. Other � nancial assets include notes and coins, treasury bills, gilts, unit trusts, overseas securities, etc.
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We begin by proposing a schematic, descriptive contrast of change in two successive periods: in a � rst approximation, what is going on can be represented as a change in the form of competition, from 1980s productionism to 1990s � nancialization. If ‘� nancialization’ also � gures in Boyer (2000), it is here used in a different and provisional sense so that it is only part shared, and is immedi- ately quali� ed by our argument. In the next stage, the idea of � nancialization as epochal change is challenged by the observation that the segmentation of econ- omic activity and national institutional differences limit the operation of � nan- cialization as an immanent economy-wide principle. This point is reinforced by the argument that � nancialization is not a realizable project, because the empir- ics on EVA™ and MVA discussed above suggest that, in most product markets, corporate managers struggle to create the value required by the capital market. On this basis, we � nally present an alternative account of management action after � nancialization, which emphasizes the gap between expectations and out- comes, a gap which however also drives management behaviours that change the world.
We can begin with binary, schematicism about recent times. In a � rst, pro- ductionist period, corporate business was working through an era of (partial) globalization, which started in the late 1970s as companies moved beyond tra- ditional national or regional bases. In stereotyped form this 1980s process involved:
� a new competition of process and product, especially in cars and consumer electronics where the results were highly visible;
� pressure through the product market, especially by American consumers who (by virtue of their combined purchasing power) made � rms winners or losers;
� a challenge for management which was represented in productionist, physi- cal terms; ‘lean production’ was about better factories with lower build hours, less inventory and higher quality;
� a leading role for Japanese companies such as Toyota whose practices were much discussed and widely imitated and transplanted.
By the late 1990s, corporate business is entering a second period of (spread- ing) � nancialization which, in stereotyped form, involves:
� a new universal competition of � nancial results with the returns on invest- ment in one � rm explicitly compared against all others, regardless of product and sector, such as in the Stern Stewart league tables of MVA and EVA™ ;
� pressure through the capital market by American and other shareholders via buy, sell and hold decisions;
� a challenge for management which is represented in narrow � nancial terms; the requirement for EVA™ and MVA is about current and projected cash returns on investment;
� a leadership role for Americans companies after a reversal of fortune so that, for example, Ford and the big American component companies now lead the world’s auto industry.
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From this schematic point of view, � nancialization denotes a new form of competition which involves a change in orientation towards � nancial results but also a kind of speed up in management work. If competition is a process that encourages the employment of military metaphors, the shift from production- ism to � nancialization represents a change from campaigns of position and attri- tion in the product market, to campaigns of movement with elements of surprise as concentrated forces are deployed in the capital market. The new forces of the capital market, via investment institutions and professional fund managers, are generally much more mobile and rapidly threatening than the old forces of the product market via retailers and consumers.
Except in cases where intellectual property rights are used to sustain large price premiums (as in ethical pharmaceuticals), it is very unusual for a � rm to lose product positioning, brand identity and all its market share overnight. Con- sumers are generally conservative creatures whose preference is often for the same again, so that the capacity to deliver in much the same way can be the basis for corporate success or at least the avoidance of disastrous failure. Financial investors with a value mentality can be altogether more � ckle creatures who expect more of management and sell on a herd basis when expectations are dis- appointed. Consider, for example, the British market’s change of sentiment on Marks and Spencer in 1998 when pro� ts faltered. Although its ROCE of 21.3 per cent was sustained in 1998, the British stock market revised expectations quite radically and Marks and Spencer shares fell from £6.27 to £3.79 between March 1998 and March 1999.
The idea of � nancialization as the new kind of competition captures elements of what is going on and has a certain ‘that’s it’ plausibility for corporate man- agers. This schema appeals strongly to senior managers who often struggle with external requirements without understanding the structural limits of high labour costs, capital requirements or saturated product markets; and must always try to motivate others by at least appearing to plan for emergent reality. As for consultants and business school researchers, they would � nd this kind of schematicism congenial because they produce interpretations and recipes for success which generally � atter management agency and presume that manage- ment can both understand and change the world in a way which realizes inten- tion and capability. It is, therefore, important to deconstruct binary schemas about periods and processes so as to bring out the elements of contradiction and incoherence which are suppressed by contemporary schematicism. In the para- graphs below we argue that � nancialization does connote important real changes, but is not an immanent, economy-wide principle and (in its present Anglo- American form) is not a coherent, realizable project for management. Paradoxi- cally, that may make � nancialization more important in the work of management insofar as management struggles to deliver the undeliverable.
Financialization is not an immanent principle because its spread is limited by structural barriers within, and by institutional differences between, national economies. Even the UK and USA could not be characterized as � nancialized economies. In the UK, for example, only half of the GNP is corporatized and
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only part of the corporatized sector is organized into PLC companies which include many minnows as well as the giants that dominate the FOOTSIE 100; the personal sector and government each separately accounts for 25 per cent of GNP. Massive transformation would be required to extend the corporatized sector by recon� guring the rest so that it has 13–15 per cent post-tax rates of return. If ambitious rate-of-return targets are imposed on business, it is just as likely that the corporate sector will shrink as it loses activities like motor retail- ing which cannot generate a return. It is sobering to note that the massive UK privatization programmes of the 1980s created many new quoted PLCs but did not increase the corporate sector’s share of GNP because activity like manu- facturing was leaving just as fast as the utilities were joining the corporate sector.
The � nancialization of other national economies (outside the UK and US) is possible but only when a series of national conditions are met and institutional resistances are overcome. These preconditions include: � rst, the existence of value-oriented investors (of domestic and/or foreign origin) making the appro- priate calculations; second, a throw weight for value investment so that it can in� uence market sentiment and corporate conduct through mechanisms such as hostile takeover; third, management prerogatives which allow labour shedding for rapid cost reduction. In relation to these conditions, the different advanced economies can be ranged along a continuum: at one extreme position, in Japan, none of the conditions are met and, at the other extreme, in the USA and UK, all three conditions have been clearly met for the past couple of decades. Equally, as Morin’s (2000) analysis of the French case shows, it is possible for countries to move rapidly along the continuum as conditions change. Inhibitions on labour shedding may remain but, in less than a decade, the French system of cross- shareholdings has broken up with the abdication of domestic players and the arrival of foreign American shareholders; and, partly in consequence, contested takeovers have become a reality for France’s top companies as with the BNP/Paribas/SocGen counter-bids.
These quali� cations and cautions about structural and national limits do not imply that � nancialization does not matter in the UK and USA, or that � nan- cialization will be con� ned to the US and UK. If we consider the issue of the global spread of � nancialization, we can expect considerable changes in the next ten years because distinctive national institutions act as bulwarks against the process only insofar as structural values and the macro regime allow cost recov- ery which meets the standards of existing non-value investors. As Jürgens et al. (2000) demonstrate, change is limited in the German case where the pillars of national corporate governance (bank � nance, industrial co-determination and productionist management) are still standing. But, it is also true that German manufacturing consistently operates with a very high labour share so that it generates cash only when high levels of capacity utilization are maintained, as they have been through the 1990s. The real test will come when the German economy turns down cyclically, pushing output below break-even point, and dis- appointment encourages investors to reformulate their expectations. It would be unwise for management in countries with public pension systems, bank-based
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� nance systems and committed shareholders to rely on such institutional pro- tections when they cannot guarantee cost recovery that meets existing norms. And if cost recovery is ignored, as in Britain in the early 1970s or corporate Japan since 1991, the adjustment is delayed only up to the point when major companies cannot repair their balance sheets and exhaust their borrowing limits.
If we can expect spreading � nancialization, that does not, however, imply homogenization and convergence of outcomes, because institutional investors are not all the same and a � nancialized world is likely to contain many different kinds of institutions whose time horizons and requirements for cash are likely to be different. The venture capitalist or predatory break-up specialist have different time horizons from the pension fund or insurance company with pre- dictable medium-term in� ows and out� ows. The de� ned bene� t pension fund attached to a large � rm has a different mode of operation than the de� ned contri- bution fund. The UK and the USA have created their own monsters in the form of mutual funds, pension funds and insurance companies whose professional mangers mobilize domestic savings. Other national capitalisms have the option of admitting American funds and/or creating their own institutions whose behaviour may be different.
A second quite distinct limit on � nancialization is established by the appar- ent contradiction in the UK and the USA between the ROCE, which the fund managers of the capital market require, and what corporate management can deliver from most product markets. If this contradiction endures and is repro- duced elsewhere as � nancialization spreads, the implication is that, in its present Anglo-American form, � nancialization is not a coherent, realizable project for corporate management. It is especially important to register these limits of 1990s � nancialization if we remember how 1980s productionism was widely misinter- preted to feed the social myth of management as a purposive agent which can deliver substantially improved performance.
In 1980s accounts of the Japanese and Japanization, consultants, business school academics and too many social scientists overestimated the power of management’s productive intervention and factory control. The emphasis on the physical in all the 1980s stories always involved elements of exaggeration: the Japanese could never build a car in half the hours of a US assembler, as Womack et al. (1990) contended. It also involved errors of omission when a large part of the Japanese advantage derived from high utilization, long hours, favourable exchange rates and the resulting low dollar wages (Williams et al. 1995). Most 1980s observers underestimated the importance of these structural advantages whose determining in� uence has been empirically demonstrated by Japanese under-performance in the 1990s. The importance of structural considerations was vindicated by yen appreciation after the Plaza Accord, even before the Japan- ese economy turned down with the end of the Hesei boom. In the case of Ameri- can � rms like Caterpillar, it also became clear that the effective removal of Japanese competition did not restore pro� tability: Caterpillar’s enemy was not the worker in Komatsu’s factory but the construction � rm purchasing executive in a saturated and cyclical product market (Froud et al. 1998).
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If, in the 1990s, we overestimate the power of � nancial intervention, we are simply repeating the old mistake about the effectiveness of management inter- vention in a new context, when the challenge is no longer Japanese build hours or quality but American investor expectations. On the evidence so far in the UK and USA, management intervention for higher returns has limited efficacy because the current period of � nancialization is distinguished by a massive con- tradiction between capital market expectations of increased returns, which spread easily, and constraints on what corporate management can deliver as earn- ings which, at best, rise slowly because of activity characteristics and product market limits.
On the British evidence reviewed in this article, management action to deliver increased pro� ts and EVA™ will generally produce limited improvements given activity characteristics and structural limits in the product market; with merger and acquisition a risky way of beating the limits where organic growth is not possible, because there is always the risk of overpaying. In another paper (Froud et al. 1999), we have produced a more elaborate analysis of single-� rm trajec- tories which emphasizes the importance of growth (by organic means or by acquisition) as a way of managing this contradiction: if the ratios cannot be improved, the lump of pro� t could instead be increased. That paper also intro- duces an argument about economic levels which suggests the delivery of SV is governed and limited, not only at the sectoral level, but also at macro level. Boyer’s (2000) paper in this special issue develops this argument by taking up the challenge of conceptualizing the different macro outcomes where an increased pro� t requirement can have variable consequences for labour, accord- ing to the extent and form of � nancialization, with the rise of the worker/share- holder. However, in our view, it is unlikely that any emergent macro regime will dramatically change cost recovery possibilities. The circumstances of the 1990s in the UK and the USA were already broadly favourable to pro� tability so that only global monopoly and corporate price setting power in most product markets could plausibly produce a general rise in ROCE.
The UK and US evidence also shows that, when managers deliver less share- holder value than investors expect in increased earnings, investors can do the rest for themselves by bidding up the market price of ordinary shares. This development takes us into a world of � nancial system risk and potential recession in the real economy, where corporate management may not be heroic principal but instead injured bystander. If management’s inability to deliver increasing EVA is covered by rising share prices which deliver MVA, the whole process is underwritten by savings � ows, rather than shrewd productive invest- ment or the installation of better management teams. The institutional circuits, which direct savings into the stock market and create MVA through pressure of funds on a limited supply of securities, may also create a � nancial bubble whose bursting would have major consequences for corporations in the pro- ductive economy. In the US case, the euphoria produced by the long bull market has reduced savings and fuelled consumption, so that any major correction would probably sharply reduce household demand. And it would do so in an
Julie Froud et al.: Shareholder value and � nancialization 107
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economy where monetary policy was being set so as to contain � nancial crisis, not sustain the real economy.
When all these quali� cations have been entered, the consultants’ promises and the academic endorsements of shareholder value can be set in perspective. The promise of SV rests on a fallacy of composition and a paradox of levels of the classic kind that Keynes criticized in the General Theory, when discussing how wage cuts might bene� t one or a few � rms but would not work as an economy- wide principle of action for all � rms (except under extreme and unrealistic con- ditions). The homiletic examples in the consultancy literature obscure the central point that management actions and corporate positions that work to deliver shareholder value for some � rms will not work for all. Corporate successes within one sector are in some cases achieved at the expense of failures elsewhere; and, in more cases, the management actions or performance of successful � rms rest on special case advantages which cannot be copied or will not produce equally large bene� ts for all who imitate.
These problems need not concern the consultants selling value management to the individual � rm. In reality many � rms that buy the standard consultancy product will not raise EVA™ and will do no better or worse than the market in MVA terms. This will not affect demand for consultants’ services any more than the futility of dieting undermines the demand for slimming books; demand is underpinned by the power of the ideal of thin bodies and fat pro� ts, reinforced by the contrast with the stubborn reality of fat bodies and mediocre pro� ts. In both cases, demand does not depend on any realistic expectation that the result will usually be achieved through a speci� c practice of dieting or management.
If SV most probably ends in disappointment, that does not mean it does not matter because the contradictory, incoherent and unrealizable project can have large implications for the role of management in large corporations. As in life more generally, so in management, a persistent gap between expectations and out- comes can drive a whole series of behaviours which do change the world. Speci� c- ally, the gap between investor expectations and what management can deliver, changes the role of management under late capitalism which must now oversee:
� new forms of competition based on capital-market not product-market per- formance, which rework the balance between productive, market and � nan- cial goals within many � rms;
� new answers to the old question about what/who the � rm is for because the � rm is for the shareholders, a position which becomes signi� cant when stake- holder interests diverge as they do in difficult product markets;
� endless restructuring with important consequences for corporate workforces who are � rst in line because labour is the largest controllable element of cost;
� concentration through horizontal merger in many product markets where national combines become regional and � nally global, in an attempt to reduce expense, even if market power cannot be obtained.
As for the impact on the day-by-day work of management in large corpora- tions, higher pro� t requirements in Britain and America have so far resulted in
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a general cheapening of the work of management. Remember, most large cor- porations more or less cover their cost of capital and neither make nor lose large sums of EVA™ ; and they do this in a world of ceaseless activity where they make gains only to lose them again, typically through ceding lower prices in the product market. Thus, the day-by-day work of senior management becomes the pursuit of the almost attainable in a world where the difference between success and failure is much smaller than most people suppose. So even in blue-chip com- panies, whose managements once built factories and market share, operating management becomes an endless series of cheap � nancial dodges: this year’s target is met by ending the de� ned bene� t pension scheme, which saves labour costs, and next year’s dodge is leasing the trucks so that the capital appears on somebody else’s balance sheet. This work is punctuated and interrupted by major restructurings and changes of ownership where it is the � nancial engi- neering which is crucial: what will the capital base of the combined � rms be and how many workers can be sacked after merger? It is ironic that some of the aca- demic endorsers of SV claim that it is partly about putting the bad old con- glomerates behind us because in terms of management practice it is about making everybody like Hanson.
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Julie Froud et al.: Shareholder value and � nancialization 109
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