Laborist changes to corporate stock
Laborism would fundamentally change corporate equity, in other words the return to shareholders. The financier-owned media will tell you that Wall Street is all about making sure that people’s investment dollars go to fund the operations that create the most valuable goods and services for Americans.1 That is a lie. Most corporations in America whose shares trade on the stock exchange don’t sell additional stock to get money to invest in their company. The stock market is not supplying constant flows of new cash into corporations for them to invest in productive activities, but instead is just a market where people trade in and gamble on existing shares.
When a company is a young start-up, before its shares trade in the market, it will ask private investors for cash to fund the losses that a start-up usually suffers in its early years. Normal people, who are not “qualified investors”, are not even allowed to invest in companies at that stage. When it gets to a certain level of success, then either an existing big corporation buys it, or else it does an Initial Public Offering (IPO), selling a lot of stock to the public for cash. It uses that cash to ramp up its operations to get to its initial scale. After that, it makes money and can fund its future investment from its operations. It will issue new stock to its executives as compensation, but it does not usually keep selling stock to the market. Instead, it buys back stock from the market in order to give the illusion of earnings growth.2 So, basically a company needs money in its start-up stage when there is a high risk that it will end up worthless, and another big injection of cash when it has shown that it will be successful and just needs funds to ramp up quickly.
People who invest cash during that early, risky start-up phase (so-called angel investors and venture capitalists) deserve to earn a good return on that money if the company is successful. If there is a 90% chance that the company will fail, then they legitimately want to earn at least 10 times their investment if it is successful.3 Fine. But our system instead gives them a gigantic profit share forever. I helped write a creative investment instrument for a foreign company that instead structures the return the right way. It provides that the investor will, if the company earns a profit, get a return on each dollar invested equal to a multiple of that dollar that varies depending on how long it takes to become profitable. But that return then caps out once the investor has been compensated for taking that start-up risk, and after that the investor only receives a 5% continuing-risk return for the actual dollars invested. So, if there is a 4 out of 5 likelihood that the company will fail, and the investor invests $100, then if the company succeeds she will get something over $500 (a five-times return) on her investment, and then $5 a year (a 5% return for continuing risk) for as long as she holds the stock. The rest of the profit will remain with the company and can be used to pay employees. That is a perfectly reasonable deal for both parties. I invested some of my own money based on that deal, and I’m happy with it. I am not one of the people who are spending their time developing great new technology and products that will help the world. I’m just a person who put some of my spare money at risk to support the people doing that work until they can get it going. There is no reason to give me, as a mere supplier of cash, some large percentage of the profit from the employees’ work forever.
When a shareholder invests at the IPO ramp-up stage, after most of the risk is gone, a different return profile makes sense.4 All stock has a level of riskiness, because even big corporations like Enron or Lucent can go bankrupt, and the price may go down so that you can’t sell and get all your money back unless and until it goes back up, or the firm may not have enough earnings to pay dividends in a particular year. So, anyone buying stock can reasonably ask for some level of risk return for the actual dollars they invest. But that risk return should be at the level of typical equity risk returns for the market. Economists measure that number all the time because they use it in the Capital Asset Pricing Model (“CAPM”), and it runs at about 5%. If they invest $100, then they should get a risk return of $5 a year on those actual dollars invested, so they should be entitled to a $5 dividend in any year the corporation makes that much profit. That risk return covers both the likelihood that the company will fail, and the much more significant likelihood that the shareholder’s investment can’t be cashed out when the investor wants it, because the market prices have declined for reasons that may have little to do with the company itself.5
What about those shares that are issued to executives or start-up employees for compensation? Those should be a special class that operates more as plain deferred compensation. It makes perfect sense for executives or other employees to say “I don’t need to get all of my pay for the full value of this year’s work right now – I can let the company use it for a while to increase profits, and pay it to me later.” But that doesn’t mean they need to earn a risk return on that stock. Really, they are shedding risk rather than accepting risk. The other alternative would be that they are simply paid less in hopes of being paid more when the investment of the firm’s cash pays off. The risk they are taking comes from not being paid as much now, and they take that risk because they hope to work at high pay for the more profitable company later. If they get stock now, that’s giving them a more fixed claim to a part of those future profits, reducing their risk in case they get fired or die. So, an employee instrument that simply gives them their deferred pay on a priority basis, without interest, when the investment pays off would serve the purpose.
If stock was restructured this way, then pure speculation in stock would end. You would not buy a share of Nvidia in the market hoping that the price would triple, because it wouldn’t. Angel investors or venture capitalists who invested in Nvidia as a start-up would have gotten a nice return early on, and they could have sold their shares to other risk takers early subject to the same cap on value based on their actual dollar investments. Persons who invested $100 of new cash in Nvidia in its IPO would get $5 a year on those shares, and the market would price their shares at something close to a constant $100. All of the nonsense that Wall Street does would be unnecessary. A huge, well-paid Wall Street industry is all about gambling. Stock analysts perform the same basic function that is performed by people who provide data for your fantasy football team in sports betting. None of that is socially useful,6 but those people skim off a huge amount of money that could otherwise go into the pockets of employees of productive businesses. Wall Street would really, really hate it, but it would be fantastic for the rest of us. If you prefer gambling, then you could still do it on football or horse racing or the lottery, but not with our economy.
Our Supreme Court, in its wisdom, has made rulings to the effect that corporations are people who have the same rights as flesh and blood people.7 But despite a lot of loose talk in summarizing such holdings, the actual Supreme Court precedent recognizes that corporations are very much not people, but rather are creations of the state. In Hale v. Henkel,8 the Court stated
the corporation is a creature of the State. It is presumed to be incorporated for the benefit of the public. It receives certain special privileges and franchises, and holds them subject to the laws of the State and the limitations of its charter. Its powers are limited by law. It can make no contract not authorized by its charter. Its rights to act as a corporation are only preserved to it so long as it obeys the laws of its creation. There is a reserved right in the legislature to investigate its contracts and find out whether it has exceeded its powers. It would be a strange anomaly to hold that a State, having chartered a corporation to make use of certain franchises, could not, in the exercise of its sovereignty, inquire how these franchises had been employed, and whether they had been abused, and demand the production of the corporate books and papers for that purpose.
So a corporation, and likewise a limited partnership and any other limited liability entity (that is, any entity whose investors are not fully personally liable for its actions) exists only because the state allows it to be created and to have certain powers and privileges, and the state only grants that existence and those powers if the entity is “incorporated for the benefit of the public.” Traditionally, American corporate law has been controlled by the financier class, and that class has found it desirable to have corporate stock function in a way that awards all of the residual profit to the shareholders, i.e. the financiers. Of course they did; it has resulted in their getting trillions of dollars that otherwise would rightly go to the working people who produced the goods and services that generated that money. But we, the productive class, are free to determine that such a commercial entity is not in fact “incorporated for the benefit of the public,” but rather is incorporated for the benefit of financiers and to the detriment of the productive class and of the nation as a whole.
Congress may enact a law, under its power to regulate interstate commerce, that provides that no limited liability entity may sell goods or services in interstate commerce9 unless its ownership shares are structured like the equity instrument described above, so that capital gets only a limited return and the working people who produce the value get the rest. If we take the political action described later in this book, then we could make that change any time.
As with all of the changes described here, one must account for the fact that we would be transitioning from our current capitalist system to a laborist system, so there would be some messiness, grandfathering and transitioning involved in the change. Regular working people have invested part of their retirement savings in corporate stock under the current capitalist model, paying prices that reflect a value far in excess of a 5% return on the cash originally invested in the corporation. So, we need to change the system in a way that allows them to preserve their investment. That can easily be done. If one uses the IPO model, they can be allowed a 5% dividend (assuming the corporation has adequate profit to cover it10) on the market value of the stock as of a certain date. Because that value will then be frozen, being equal to a 5% return on a fixed number, further speculation in that stock will stop. The Wall Street gambling house willshut down. If the corporate operations increased in value beyond the level that covers that 5% dividend, that increase would go to the employees. This will create an instant beneficial effect, and with the passage of time and the rise of new corporations we will get very close to the pure equity model described above. This is easy.
Would financiers be able to avoid this change by buying up corporations and liquidating them, running the corporate operations as their personal business? In theory they could if they had large enough fortunes, but then they would be personally liable for the corporation’s actions in every state in the union and in every foreign country. One need look no further than to the recent troubles of PG&E, Hawaiian Electric, or 3M to see that having personal liability for the activities of even a boring utility or a well-reputed corporation can be a very scary thing. If you had a billion dollars, more money than you or your family could ever spend, would you risk losing all of it just to try to turn it into two billion? Laborists will want to make some reforms to the bankruptcy laws to ensure that this is not an attractive option for financiers. Ensuring that in a Chapter 11 bankruptcy the owner would be entirely wiped out and that the operations would be carried on by and for the benefit of the employees (with anyone investing new money doing so under the new form of equity) would help. If it became apparent that other tweaks were needed due to the creative activity of scofflaw financiers, they could be made and the abuses could be stopped.
The financiers also claim that Wall Street influences corporate management to do a better job of running their companies. Anyone who has been involved in corporate management knows that is ridiculous. Wall Street drives stupid, inefficient behavior.
Wall Street focuses on earnings per share. If you reduce the number of shares by buying some back, earnings per share increases faster than actual earnings do. Corporate CEOs are rewarded for that.
Wildcat oil wells have about a 10% chance of success, on average, and that is about as risky as business investors get. I had a friend whose father was a wildcatter at Spindletop when she was a girl (she still wore a silver oil drill pendant that Howard Hughes gave her). While her father was waiting for a well to come in, he would start playing cards, and by the time the gusher started he had already lost his profits in the game, so she was working as a secretary. Wildcatters had that gambler mentality. Most investments have a higher probability of success.
Of course, some companies do IPOs when they are still pretty risky. The type of investment interest I described above allows you to account for such situations. You just set the initial premium return for a particular share of stock for whatever level of risk exists at the time of the investment.
For a typical company with a credit rating of BB, the likelihood of default on its bonds over 1 year is about 0.2%, and the total likelihood of default over 5 years is 2.8%. A 0.56% annual return would cover that 5-year risk even if you assume that every time a company defaults on its bonds the shareholders are wiped out, which isn’t true. But the likelihood of not being able to sell your stock for 100% of what you paid a year from now is more significant. The observed 5% equity risk return covers both elements, plus a risk premium to account for the fact that unstable income is not as attractive as stable income, unless you just like gambling. Under laborism, both the liquidity risk and the risk premium should shrink, because we will take the wild speculation swings out of the market. Prices will be more stable.
Again, the mouthpieces of the financier class say that Wall Street is a wonderful and necessary thing because all that activity ensures that money flows to the investments that are the most valuable to the economy, but that’s poppycock. The shares trading on the market are not new money. Those investments were made years or decades ago, and now the shares just change hands between gamblers, or are sold by carny hucksters to unsuspecting rubes. Useful investing generally ends with either the venture capital stage or the IPO.
See, for example, Citizens United v. FEC, 558 U.S. 310 (2010).
201 U.S. 43 (1906).
This would then likewise apply to foreign groups. If their corporations did not fit this model, they would have to set up a US subsidiary that did. Other aspects of laborist policy would ensure that competition with foreign-based sellers would not be a problem, and neither would US capital flight. The US has a unique ability to do this.
Currently, the S&P companies have a median price to earnings (PE) multiple of 15, meaning that they could cover a dividend of 6.7% of their price. Investors in companies with a higher multiple would have to hope that the company profits in fact grow to the level that the PE multiple suggests the market expects. Any investor who buys a high-PE stock is taking that risk today, so one can’t complain about that aspect.