From the CFA Institute:
Shareholder Value Maximization: The World’s Dumbest Idea?
If you agree with the economist John Maynard Keynes that “ideas shape the course of history,” then you ought to agree that the history of modern business and finance has been shaped by one influential idea: that the job of a company’s management is to maximize shareholder value. But according to James Montier, a distinguished investment professional and behavioural finance writer, shareholder value maximization is “a bad idea.” He believes it has not added any value for shareholders and has contributed to such major economic and social problems as short-termism and rising inequality.
Montier made his case against shareholder value maximization when delivering the closing keynote address at the 2014 European Investment Conference in London, a video of which can be viewed below. In his characteristic iconoclastic style with a generous use of ironic humour, Montier labeled shareholder value maximization, the way Jack Welch, the former CEO of GE, had once described it in 2009, as “the dumbest idea in the world.”
An Academic Opinion without Much Evidence
Montier said that the idea of shareholder value maximization didn’t come from businesses but rather originated as an opinion in academia and was unsupported by much evidence. It is most directly traced to an op-ed written by economist Milton Friedman in 1970. Over the years, academic research papers on the subject, such as those by Michael C. Jensen and William H. Meckling (PDF) and Jensen and Kevin J. Murphy (PDF), have made it inseparable from the alignment of incentives. That is, top management of companies should be offered financial incentives (e.g., stock ownership and call options) to align their interest with maximizing the stock price.
The idea of shareholder value and incentives then worked its way into practice. Montier gave the example of Business Roundtable (BRT), an association of CEOs of major US companies. He said that in 1981, the mission of BRT referred to making quality goods and services, earning a profit, and building the economy, but by 1997, it became firmly focused on shareholder value.
Failing Shareholders
Montier claimed that shareholder value maximization has failed the shareholders — its intended beneficiaries. Despite enormous increases in compensation of CEOs and a rising proportion of financial incentives through stock ownership and options, shareholders are not better off. To illustrate this point with a case example, Montier compared the return performance of IBM, which switched its focus to shareholder value maximization, to that of Johnson & Johnson, which retained its credo (PDF) emphasizing responsibility to customers, employees, and communities. Montier showed that during 1971–2013, the stock of Johnson & Johnson had indeed outperformed that of IBM....MORE
