Man Without Qualities

Thursday, May 02, 2002

What Europe Can Teach Uncle Sam I:
The Meaning of Success

The Guardian has an article, What Europe Can Teach Uncle Sam, which is worth reading if only as a collection of arguments popularly used by some who believe they see what advantages European society has over America's. The Guardian describes the article as “the second extract from his eagerly awaited new book, [in which] Will Hutton reveals why the American economic miracle is not all it seems.” But the article alone is so sprawling that it merits some substantial unpacking. This post is the first.

Mr. Hutton begins with a paean to Volkswagen, which he describes as organized from top to bottom in ways that “according to the predictions of American conservatives” should have rendered the company “down and out.” The features Mr. Hutton finds most noteworthy in this respect are a highly unionized workforce, an upper management not given many stock options, a major public shareholder (Lower Saxony at about 19%) and, described as most important, Volkswagen’s "shareholders voting rights are limited to 20%, so the company can neglect to promote shareholder value, allowing it to become schlerotic and uncompetitive.” How significant are these factors to what Mr. Hutton sees as Volkswagen's success?

Mr. Hutton clearly views Volkswagen as a successful company. As a preliminary matter it would be nice to know what Mr. Hutton is using as a measure of corporate “success.” He does not even mention earnings. He instead writes admiringly of “market share” in a manner that suggests that Volkswagen is successful because it has large market share in Europe and even a little bit in the United States. (Market share in Europe seems especially important to Mr. Hutton because some of it was taken from American companies.) Being “the most internationalised car company in the world" counts for him as a measure of success, as does having “revived” a near-bankrupt Czech car company. Volkswagen’s “engineering prowess and innovativeness” also seems to count.

Mr. Hutton’s standards of corporate “success” have an odd similarity to the weird measures of value used by the more suspect technology analysts who once hyped e-commerce companies during the dotcom boom and are now in deep discussions with various law enforcement authorities. As one financial journalist described the dotcom valuation phenomenon: “Out went traditional methods used by securities analysis that prized earnings. In came freewheeling measures of worth, like revenue growth, Web site traffic and even customer ‘share of mind.’”

But it is hard to see why such freewheeling dotcom measures of value and success should be taken any less seriously than Mr. Hutton’s favored measures of market share, internationalization, ability to revive moribund foreign competitors and engineering prowess and innovativeness – at least if these measure don’t result in higher EARNINGS. The dotcom experience is worth noting here because in the most painful ways it taught many millions of ordinary investors the dangers of allowing false economic visionaries (“Bezoids?”) to talk them into abandoning earnings or profits as the best measure of corporate success. Indeed, one can almost see Mr. Hutton regarding Enron with admiration because it has moved up to fifth on the Fortune 500 list following the utter devastation of its stock price, a devastation that his approach seems to regard as unimportant.

Perhaps Mr. Hutton disfavors earnings as a measure of success because they have a rather direct link to the “shareholder capitalism” Mr. Hutton disfavors. Earnings are what is left over after a company pays its expenses. Earnings are therefore pretty much what is available to pay dividends on company stock – and over time that pretty much determines the stock’s price. In the United States one often – perhaps normally – sees a company’s stock price used to measure of corporate success. That’s especially true when some (but by no means all) American conservatives are talking, although it’s more generally true for equities fund managers all over the world. But Mr. Hutton's point is that “shareholder capitalism” isn’t what Europe’s success (or, apparently, Volkswagen’s) is about. But then what IS success about for Mr. Hutton?

Share price is not the only possible measure of a company’s success or even size. For example, the concept of “enterprise value” – essentially a company’s debt plus its equity – is often used to measure the overall value of a company. Debt and equity are just ways of financing a company, and the actual value of the company should be the sum. This approach might be suggested by the Miller-Modigliani Theorem, which says that absent tax and bankruptcy effects the enterprise value of a company with a fixed business plan is not changed solely by its debt-equity mix. But Mr. Hutton surely wouldn’t be any happier with the success of a company being measured by how its creditors and shareholders prosper than he would with a focus on shareholders alone. Creditor welfare is no more coupled to market share, internationalization, ability to revive moribund foreign competitors and engineering prowess and innovativeness than is shareholder welfare. For that matter, the same may be said of the welfare of the company’s employees, and the welfare of the people in the towns and cites where the company has facilities. "Stakeholder capitalism" theorists normally write about a company's employees as "stakeholders" whose welfare should be considered in corporate governance - and German corporate law reflects that concern by mandating employee representation on a company's "supervisory board." But Mr. Hutton's criteria don't seem to do that.

In fact, there appears to be NO identifiable group of actual, living human beings whose welfare has a clear relationship with any of Mr. Hutton’s suggested badges of corporate success. In his excitement, Mr. Hutton seems to be advocating a curious kind of stakeholder capitalism that forgot the stakeholder. Mr. Hutton's capitalism also diverges from basic principles of European corporate law. Perhaps he means to suggest that Volkswagen is so far gone by conservative American lights that they think it should just be dead - and therefore incapable of any activity whatsoever. But surely Mr. Hutton can't believe that, since even American capitalists know that state owned companies in communist countries didn't all just collapse, and those companies were organized much worse than Volkswagen. Goodness, even the American postal service doesn't just collapse! And if the point is that by conservative American thinking Volkswagen should be dead, then why this odd mix of crtiteria? Why not just say "some people still work at Volkswagen, you know" or "some people have heard noises coming from inside a Volkswagen building, and lights go on in there at night." No, Mr. Hutton has chosen his criteria as badges of corporate SUCCESS - of vital existence, not just continued existence.

In short, it seems that to defend the European way, Mr. Hutton has omitted both the Europeans and their law.

Next time: Finding the people and the law Mr. Hutton forgot.

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