Elizabeth Warren’s recently proposed Accountable Capitalism Act (“ACA”) has ignited a lot of controversy, with supporters hailing it as the way to save capitalism, while others argue that it will destroy capitalism. In my view, while it is a step in the right direction, there is a better way to solve the problem – more effectively and with less controversy.
But first, let’s take a quick look at what the Accountable Capitalism Act would do. Most significantly, it would require any corporation with over $1 billion in revenue to obtain a charter from a newly-created Office of US Corporations. This charter would expressly require the corporate board of directors to consider the interests of all the corporation’s constituents, including shareholders, customers, employees, and the communities in which they operate.
As our friends over at B Lab have reported, the ACA would essentially require that large corporations become benefit corporations. The benefit corporation is a new type of corporation authorized in recent years by legislation in several states. A benefit corporation is much like a regular corporation except that its management is explicitly empowered to consider the interests of constituencies other than its shareholders, it must provide an annual report to shareholders based on a third-party standard, and its managers are protected from liability when they do consider those other constituencies.
Both of these solutions — the benefit corporation and this proposed new federal corporate charter – are attempts to fix what Forbes describes as a “source code error in the operating system of capitalism” – the notion of shareholder primacy.
Shareholder primacy, sometimes referred to as shareholder value maximization, refers to the idea that a corporation’s sole purpose is to maximize profits for its shareholders. It has been cited as supposedly requiring that a corporation disregard the impacts of its actions on its employees, on the environment, and on the broader community in which it operates if any of those are in conflict with the maximization of profits. And, it is believed, a corporate director or manager who acts in a way that benefits some other constituency but doesn’t maximize profits may be personally liable to shareholders.
It’s easy to see how the notion of shareholder primacy can lead corporations to act in a sociopathic way, with single-minded devotion to profit at the expense of all else. Stock-based compensation to corporate managers incentivizes this myopic focus on shareholder profit, and fear of personal liability for doing otherwise strikes fear into their hearts. Given the enormous wealth and power held by corporations, it is also easy to see how this could cause great harm to all other constituencies, including employees, communities, and the environment.
Not surprisingly, the notion of shareholder primacy has been widely criticized. The late Cornell law professor Lynn Stout, in her 2012 book The Shareholder Value Myth, explains how putting shareholders first not only harms the public, but also harms corporations and their investors. Jack Welch, the former CEO of GE, famously described it as “the dumbest idea in the world.” It is frequently cited as the main reason wages have been stagnant for the past four decades, even as the wealthy have become far wealthier.
So what is the solution? The benefit corporation and Elizabeth Warren’s proposed federal corporate charter both seek to solve the problem by creating a new type of corporation that isn’t saddled with the myth of shareholder supremacy. And yet, while I applaud the good intentions behind both fixes, they share one critical flaw: They implicitly acknowledge that shareholder primacy is the law of the land. But is it?
Those who believe it is the law of the land may be surprised to learn that the notion has never been codified into any statute; and no court has ever ruled that it is the law in any general sense. Quite to the contrary, the well-established business judgment rule explicitly protects managers of a corporation for actions taken in good faith pursuit of the corporation’s best interests – even if those actions don’t necessarily maximize profit for shareholders. It is important to recognize that there are many things that may be in the corporation’s best interests but don’t maximize profits (at least not in the short term), such as R&D, new product development, employee training, community engagement, reductions in environmental footprint, and supporting local charities.
And yet, the notion that a corporate manager’s sole obligation is to maximize profits has become so widespread that it has become the de facto standard for corporations across America since the 1990s. In other words, even though it is not the law, the widespread belief that it is the law has contributed to the concentration of wealth, the impoverishment of workers, and environmental harm – as well as reduced long-term profitability of American corporations, as we’ll see in a moment.
In this context, a solution that implicitly validates this dangerous and destructive myth of shareholder primacy is a solution that just might do more harm than good. A better solution is to explicitly reject the myth altogether, and not just for certain kinds of corporation, but for all corporations.
While this may sound revolutionary, it is not. In fact, the notion of shareholder primacy only gained widespread acceptance in recent decades; it was not always that way.
The corporation as a type of legal entity came into existence as a means of achieving social purposes. The Hudson Bay Company, for example, was chartered in 1670 for the purpose of promoting trade, not for the purpose of enriching shareholders. Early corporations did pay dividends to their shareholders, but that was because investors needed some incentive to invest the capital that corporations needed. The dividend was a means to an end; it was never the primary purpose.
Shareholder primacy as we know it only came into prevalence in the 1980s and 1990s. Milton Friedman, probably its most famous proponent, preached that a narrow focus on maximizing profits would lead to improved corporate performance. And yet, history has shown otherwise. Author and economist James Montier has compared average corporate performance during what he terms the era of managerialism (1940 to 1990 – that is, before shareholder primacy took hold) and the era of shareholder primacy; and he has shown empirically that the single-minded focus on profit in recent decades has led to lower corporate performance. He points to several mechanisms for why this is so, including reduced funding for research and development (because more of a corporation’s profits are paid out to investors), lower employee satisfaction (because compensation is reduced and because their idea of the purpose for why they are there has become confused), and more focus on short-term results rather than long term results (because both corporate lifespans and manager tenures have gone down).
Black Rock, the biggest private asset manager in the world (with over $6 trillion under management), understands this, perhaps better than anyone. Its CEO Larry Fink penned a letter this past January to corporate CEOs explaining that it is time for all companies to make “a positive contribution to society.”
So how do we bring about a repudiation of the myth of shareholder primacy? It would be nice if there was a Supreme Court case confirming that shareholder primacy is not and never was the law of the land. That would lay the matter to rest. But it is unlikely that a case of that sort will work its way through the appellate process and reach the Supreme Court. Another solution would be for state legislatures to amend their corporation laws to explicitly state that managers will not be liable for actions taken in good faith after balancing the interests of all the corporation’s constituencies.
But we should remember that the pickle we are in is not because of bad laws, but because of widespread, albeit mistaken, beliefs about the law. In other words, it is a cultural problem. That being the case, there are ways in which we can all help bring about the demise of the shareholder primacy myth without waiting for any laws to change. We can write about it and speak about it. We can remind corporate managers that they can and should consider the interests of all constituencies. Business owners and managers can ensure that their own businesses adopt a more balanced perspective. We can include an express statement of corporate purpose in charter documents for our legal entities even if they are not formally organized as benefit corporations.
Running a business is never easy, and raising capital is typically even harder – made more so because investors have come to expect that shareholder primacy is the law of the land, and some work hard to insert priority rights to protect the financial investments they manage. While that may lead to quicker short-term profits, it does not lead to a healthy company. Our collective challenge is to help investors and corporate managers to understand that a balance must be struck that honors intellectual capital, human capital, stakeholder capital, and financial capital. When any one of those takes precedence, there are unintended consequences that damage the entire ecosystem of capital.
Circling back to Elizabeth Warren’s Accountable Capitalism Act, I note that it includes some other excellent ideas. For example it would:
- Require that at least 40% of the board of directors of these new US corporations be elected by the corporations’ employees – thus putting more control in the hands of those who care most deeply about the corporation’s purpose.
- Restrict sales of company stock by its directors and officers for three to five years – which is intended to better align their interests with long-term shareholders rather than short-term shareholders.
- Prohibits US corporations from spending any money on lobbying without 75% approval by both its board of directors and its shareholders.
Yet even if the ACA does not actually become law, our hope is that it furthers a very important conversation about the role and purpose of corporations in our economy. We can no longer take bad ideas for granted as simply the way things should be. We need to envision a better way.
Naturally, nothing here should be considered legal, investment, or tax advice. If you would like to like to discuss capital raising or entity structuring with one of us at Cutting Edge Capital, click here
by Sydney Boral | September 14, 2018
The Pioneer Valley of Massachusetts is beautiful during this time of year. The arrival of autumn signifies to the rich agricultural economy that it’s time for harvest. For PVGrows and their partners, it’s also a season of celebrating three years since the launch of their investment fund.
PVGrows is a network of agricultural businesses, consumers and stakeholders that are committed to the “sustainability and vitality of the Pioneer Valley food system.” They are dedicated to the growth of connections within the surrounding community. We worked with PV Grows when they chose a direct public offering (DPO) strategy to set-up an investment fund. We caught up with PVGrows Fund Coordinator, Rebecca Busansky, to reflect on what her team has learned during their DPO and what they are planning next.
What is the mission of Pioneer Valley Grows Investment Fund?
The mission of the PVGrows Investment Fund is to build a food system that supports thriving farms and provides healthy food to all residents.
Why did you choose to do a direct public offering (DPO) to raise capital for the fund?
We believe in the importance of democratizing capital. We created a community fund so that the community that cares deeply about sustainable agriculture and local food could invest in their values. We opened it to accredited and non-accredited investors so that a wide audience could participate in mission-driven investing. Our borrowers’ customers are also our investors in many cases.
In October 2018 you’re celebrating 3 years since the fund launched. What have been some of the biggest highlights/ successes during that time?
We are very proud that we have raised over a million dollars and invested in 25 local farm and food entrepreneurs over the past three years. Our borrowers represent a wide range of the food system – hard cider made from local apples, a wild mushroom farmer, a port-a-potty company that services farms to meet the Massachusetts GAP standards, and much more. We also have a handful of borrowers coming back for a second or third loan from PVGIF. Our investors are also a range – we even have a church and a private school investing in PVGIF.
How much have you raised and how long did it take to raise that amount?
We have raised just over $1 million dollars in the past three years. We are celebrating this accomplishment and ushering in the next phase of PVGIF which is to raise an additional $1.5 million in investments.
What were some of the challenges you faced and how did you overcome them?
Developing a strong pipeline of potential entrepreneurs was a challenge we faced when we first opened our doors. We worked hard to outreach and leverage our partnerships to spread the word about the PVGIF. The other challenge is that the majority of potential borrowers are in need assistance with getting finance ready and/or the business side of farming and food. We had strong partnerships, so that was a benefit to being able to provide the technical assistance necessary.
We also learned a lesson from taking investments at the beginning. Since it took a while to make loans and disburse funds to entrepreneurs, we ended up paying interest to our investors and losing some money in the process. In retrospect, investors should have pledged their investments at the start.
What were your favorite aspects of the DPO process?
Could you share 3 pieces of advice for other groups considering a DPO?
– Take more pledges especially on the larger investments in the beginning.
– Make strong partnerships, provide lots of business assistance for your borrowers.
– Get good legal advice!
How do you hope to see PVGIF grow in the next few years?
We are starting to finance smaller projects and figure out ways to reach further into disadvantaged communities to help all of our communities create a stronger food system.
How can people get involved/ support you and the companies in which the fund has invested?
To learn more about the PVGrows Investment Fund, go to pvgrows.net/investment-fund. We have information for potential borrowers and investors available on our website. For questions, email Rebecca Busansky at email@example.com.
If you’re interested in direct public offerings or transitioning your business into a worker-owned co-operative, fill out our contact form here or email us at firstname.lastname@example.org.
A big welcome to Sydney–our new Communications and Operations Associate! She’s a Bay Area native and UCSB alumnus. Her background includes stints in social enterprises and impact organizations including working on campaigns to prevent child exploitation and developing and managing youth ministry programs. She will be Cutting Edge’s lead on communications and client outreach including leading our social media, digital content and events and working with our partners to multiply our reach and impact through targeted collaborations. Sydney can be contacted at email@example.com.
Seventeen years ago a small pickling company called Real Pickles, based in Greenfield, Massachusetts, became dedicated to changing the food system. Owners Addie Rose Holland and Dan Rosenberg practice traditional fermentation using only produce sourced from local family farms. Their pickles are a representation of how they operate their mission driven business — with meticulous care.
Part of Real Pickles’ vision to change the food system included transitioning their business into a worker-owner co-operative to actively support their workers and demonstrate a working model for other food businesses to follow.
Twelve years after Real Pickles was founded, Addie and Dan began the process to worker-owned co-operative by evaluating capital raising strategies to successfully make the transition. They chose a direct public offering (DPO) strategy (that Cutting Edge Capital structured and advised on), finding that a community capital raise aligned with their mission to build up community.
After five years of settling into the success of their direct public offering, Real Pickles co-owner Addie Rose shared with us where they are now and how they got there.
What is Real Pickles?
Real Pickles is a worker-owned co-operative on a mission to build a better food system. We make traditionally fermented pickles, sauerkraut, kimchi and other vegetables that are nourishing and rich in probiotics. We source all of our vegetables from family farms in the Northeast and sell our products only within the Northeast region.
When did you begin your first raise?
We started our first direct public offering (DPO) community capital raise in the spring of 2013. The purpose of the raise was to finance our transition to a worker co-operative.
What was your goal amount and how long did it take to reach it?
Our goal was $500,000.00 and we reached it in less than 2 months!
How did you network and market to raise capital?
We started planning our networking and marketing efforts several months before the offering was approved for release. We attended many events to maintain a high awareness of our brand, and practiced a carefully-crafted message. Connections with like-minded partner organizations, including our regional Slow Money chapters and other businesses with investor connections were important for spreading the word. After twelve years in business, Real Pickles enjoyed strong community support, and we were able to leverage our years of networking and marketing to reach out to our community for this raise. See this resource for more information on our process.
What was challenging about the direct public offering process?
Initially, we were expecting to work with a local attorney that could support us through the legal process of setting up a DPO. After many discussions with local firms, it was clear that we’d need to work with someone who had specialized knowledge of the securities regulations and process, as well as the interest in working with a small business (with limited resources). We were introduced to Cutting Edge Capital and found our match!
What was your favorite aspect about the DPO process?
It was heartening to see how excited people in our community were to invest locally. Many people in our area are committed to local eating and shopping, but there aren’t many opportunities for local investing. The popularity of our raise demonstrated that there is an appetite for this kind of community investment opportunity!
What are the longstanding results of the capital raise? And what have those results allowed Real Pickles to accomplish?
Our capital raise allowed Real Pickles to transition to a worker-owned co-operative, with all of the anticipated benefits to our employees and our larger community (see here, here, and here). In addition, we gained a fantastic group of community investors, many of whom were longtime customers or suppliers, who as investors are now even more committed to our business and our mission!
Discuss the expansion of your team and the growth of your business.
Since our transition to a co-operative, we have doubled the number of worker-owners on our team (from the founding five worker-owners) and our business has continued steady growth. The new energy and ideas that new owners bring is welcomed by everyone. We feel that our business is stronger than ever, and that our team is well-prepared to guide our business into the future.
Back row, L to R: Kristin Howard, Tamara McKerchie, Heather Wernimont, Andy Van Assche, Brendan Flannelly-King. Front row, L to R: Annie Winkler, Addie Rose Holland, Lucy Kahn, Katie Korby, Dan Rosenberg.
Why did you choose the cooperative structure?
The purpose of our conversion was to demonstrate an alternative model for a growing natural foods business that keeps ownership local, supports our employees, and protects our strong social mission into the future (see here).
Have you noticed more interest or response to direct public offerings in general in your own community after Real Pickles’ success with a DPO?
There has been a lot of interest in community capital raising since our DPO. In fact, our neighbor Artisan Beverage Co-operative made a similar raise within a couple of years after ours – as well as CERO in Boston. Many other business owners have reached out to discuss possibilities. It is great to see that this method of community investment is gaining momentum.
Share three key pieces of advice you have for business owners looking to go the direct public offering route.
- Partner with your community to build a strong network and campaign. Make sure you are tapping into any existing “buy local” or Slow Money organizations.
- Take time to prepare before your raise. Be sure to craft your messages carefully and have your materials ready to go, so that you can focus on needed networking and communication with investors.
- Carefully consider the minimum share price to make it accessible (the most exciting part of a DPO!!) and yet maintain your investor pool at a manageable size (we ended up with 77 investors, which feels just right for us!).
What are you most excited about for the future of Real Pickles?
I’m excited for more and more workers to become owners at Real Pickles, and I love to see our workers practicing the art of ownership. Our business is in good hands for a future of smart growth, meaningful jobs, and partnering with our community to build a better food system!
If you’re interested in direct public offerings or transitioning your business into a worker-owned co-operative, fill out our contact form here or email us at firstname.lastname@example.org.