First things first: I am in favour of free market economics, capitalism, private ownership of businesses and so on. The cheerleaders for rent-seekers in The City keep pushing the propaganda that the only way to achieve this is by having companies owned by shareholders, and the shares to be traded on The Stock Exchange:
That was obvious during the privatisation of British Telecom in 1984. Only a few thousand people in the UK owned shares. Downing Street aides figured that, to sell an £8bn company like BT, people would need educating. They visited the stock exchange to discuss circulating a leaflet. The stock exchange folk suggested printing perhaps 5,000. It was shockingly complacent: the government side had in mind a first run of 1,000,000 – with more to follow.
It is because of Big Bang, and the privatisation that it was able to bear, that we now have not thousands, but millions of shareholders with a real stake in the UK. That led to a huge change in attitudes towards business, and turned us, for the first time, into a capital-owning democracy.
Meanwhile, London bounced back as the world’s top financial centre. True, many City firms were snapped up by foreign firms, including many Americans who enjoyed looser regulation here than in the US. But the key for any industry, not just finance, is not who owns it but where the jobs and value are being created. Big Bang ensured the answer was – London...
People say Big Bang created a “loadsamoney” culture that persists today. No. (big fat lie - see point 11. below) It simply allowed more people to exploit new opportunities and profit from them.
This is lies and propaganda from start to finish. All of this could have been achieved much more efficiently without companies issuing shares. The far better way would have been to adopt the building society funding model.
1. The 'assets' side of any business is what it is: buildings, plant, machinery, stocks, patents and goodwill and so on, that would remain unchanged but there is no need for the net assets of the business (after deducting liabilities and borrowing) to be split up into shares and for those shares to be owned/freely traded by investors. It is far more transparent and efficient if the net assets are financed by deposits.
2. Taking AstraZeneca at random (being the first company on the list of FTSE 100 constituents where most people would have a vague idea of what they actually do), it has a market capitalisation of £34 billion, divided into 1.27 billion shares worth currently £26.80 each. The LSE page for AZN publishes infinite amounts of detail about how the share price has changed, like the fact that those shares have fluctuated between £24.54 and £32.18 over the last 52 weeks - but nowhere does it mention the company's actual results or link to the company's financial statements.
3. If AZN were funded by deposits instead, there would be no need for any of this. The total deposits would add up to whatever AZN's shareholders' funds/reserves happen to be, which we can find out from their most recent accounts, which is $21.7 billion.
4. So if AZN were funded/owned by deposits/depositors instead of shares/shareholders:
* each shareholder would be credited with just over $17 for each share he owns and that $17 would be a very stable figure.
* That is your share of the real capital.
* The difference between the £17 (£11) per share real capital and the share price of £24 or £32 is not real capital, it is just random transfers of wealth which serve no purpose whatsoever, do not represent real wealth and certainly do not help to finance it (if anything, it does the reverse).
* The results for the first quarter of 2012 shows profits of $1.76 billion, which is a return of 8 cents for every $ invested.
* There would be no need for the directors to have a separate dividend policy, all that happens is that for every $1 you have on deposit, 8 cents is credited to you as your quarterly profit share.
5. If you are confident that AZN will continue to do well (compared to its peers) you put money on deposit with them ('buy'); or you leave your deposit + profit share untouched ('hold'); if you need cash, you can withdraw as much of your deposit + profit share as you like ('sell').
6. Sure, there may be short-term situations triggered by a bit of bad news when too many people rush to withdraw, in which case the directors can announce a freeze or limit on withdrawals, or levy a penalty charge on withdrawals, so for every $1 on deposit, you can withdraw 80 c and the other 20 c are forfeit, until the matter is resolved or the business is broken up and/or sold, but this is no worse than when trading in shares is suspended. And it is certainly far better to have invested $17 directly into AZN a few months ago and now to have $18 or $19 on deposit, than it is to have bought shares second hand for £32 which are now worth only £27
7. The upsides of this form of funding/ownership are that investors would pay a lot more attention to what really matters: actual profits, cash flows and net assets.
8. This is what leads to the most efficient allocation of real capital (buildings, machinery, patents etc). If another pharmaceuticals company is earning quarterly profits of 10 cents per $, then some people will withdraw money from AZN and deposit it with that other company. To finance these withdrawals, AZN will sell off or shut down its less profitable operations until the residual return on its core activities goes back up to 10 cents and it all evens out.
9. And none of this needs thousands and thousands of analysts and middlemen to manage people's savings, all creaming off their percentages. When you are deciding where to invest your savings, you just scan down the list of companies and look for those with the highest returns; assuming that most companies in each sector show similar returns, you then just spread your risk by depositing small amounts with lots of different companies to achieve diversification.
10. This would also be good for employee ownership. Instead of people earning money and then investing in shares directly, or more likely indirectly via pension funds or unit trusts etc, with all the costs, random transfers of wealth and lack of transparency, your employer could set up a deposit account for each employee and pay their salary into that (debit salary/expense, credit deposits). If you want to draw your whole salary each month, then do so. If you like the idea of taking a stake in your employer, you just draw a bit less and roll the balance forward.
11. "That all sounds splendid, Mr Wadsworth," the audience shouts "so where's the catch?" The catch is exactly the "loadsamoney" culture which the City cheerleaders deny exists. If AZN were depositor funded, it would only be a matter of time before some bright financial wizard came along and told depositors that they could make a fantastic windfall gain by converting to share capital: for every $17 (£11) you have on deposit, you will be given a shiny new share which you can sell for £27, no questions asked.
There would be no change to the net present value of the business, or of your stake in the business, but instead of you having to wait patiently for $5.44 cents (£3.40) to be added to your deposit of $17 (£11) each year, you would be able to take the next four-and-a-half years' worth of dividends all in one go (4.7 x £3.40 = £16, plus your £11 deposit = £27) by simply selling one share. Which is tantamount to saying that whoever buys your share has to wait four-and-a-half years until he actually breaks even again, and if that's not a "get rich quick" scheme I don't know what is.
12. I am still mulling over quite which policies a government could adopt to encourage all this. The knee-jerk response would be to simply retain corporation/income tax on the profits of businesses with publicly quoted/traded share capital and to abolish it for all other types of business (sole traders, partnerships, LLPs, depositor-funded, family-owned private limited companies etc), of course plc's would be free to convert to depositor-funded status if they so wished for no penalty; the shareholders just have a toss up between a higher net income in future or hanging on to their windfall gain now. The only tricky bit is how to deal with UK operations of foreign plc's, that's where you either get awful distortions or stupid loopholes.
Doesn't Cambridgeshire Nick Have Access To A Dictionary?
44 minutes ago
26 comments:
I suspect your idea could be disastrous as it could well cause liquidity problems as people rush to withdraw on bad news (penalty or not). Although to defend against that depositors would soon find that a market would be made where depositors could by and sell deposits just like a stock exchange. To me not a practical idea and with little merit.
As an ideas man I give you 10/10 on this idea I give you 3/10.
" The upsides of this form of funding/ownership are that investors would pay a lot more attention to what really matters: actual profits, cash flows and net assets." Ah ha! That seems to be a very salient paragraph. Most 'investors' aren't any such thing. They are speculators, the chief reason that we use passive funds that simply capture market rates of return. Why pay a proxy fee to someone to 'speculate' on your behalf?
Anti - always compare like with like. If there is bad news, then people rush to sell, and might lose half or two-thirds of what they paid for the shares the previous day, or share trading might be suspended. Why is having a freeze on withdrawals any worse than that?
Further, if you own shares and the company is losing money, there is f- all you can do about it, you can sell the shares, but sooner or later all the money is gone and the company shuts down. Why is it not better for the matter to be dealt with once depositors realise that they are losing a few pence per quarter or per year? That way at least they get half their money back, because they can pull the plug much earlier.
Why are people happy to pay £32 for a share and watch it fall to £24? Why is it worse to deposit $17 and watch it grow to $18 or $19?
Finally, this is not a thought experiment. it is real life - this is exactly how the Nationwide is funded (and apparently lots of businesses in the Basque area of Spain), it's much the same as the way partnerships are owned. And so on - always compare like with like and think about real life.
I'd go further. Your post is an excellent polemic for passive investing. If you ask any of our clients they will tell you that a key message in our presentation is to get as close to the action as possible. Remove the middle man. In our case it goes me (and I still wonder just why I have a job), the fund (run by a bloke and his dog using a 'process'), the 'market'. The funds we use don't bid for stock, they publish a list of what they are in need of (to track the 'index') and wait till they're offered it. This is excellent at reducing spreads - often to nil.
I am an early adopter in most things to do with my business sector and I started using this passive asset class approach in ooooo 1998. Since then my peer group (and it's a pretty small group) are increasingly doing the same.
Got to stop ..... must do some work...
Something else has just occurred to me. This current Cult of the Equity seems to be to be entirely related to the Crony Capitalism we currently enjoy. Which in itself relates back to State economic monopoly/repression. Under true 'capitalism' (better described as Freedom, Responsibility and Markets) money would hold its value and its price. Speculation funded by gearing with funny money would not be possible / not worth it. Stocks would have a higher yield than Bonds, as they are more risky. Directors of 'quoted' companies would not be able to gear their bonuses to the share price but only to the results. And Investment banks, well they'd just be screwed.
L, you've lost me a bit with your first comment, but yes, with this corporate structure, there would be no middlemen at all. Your money goes directly into (or is taken out of) the actual business.
"Speculation funded by gearing with funny money would not be possible / not worth it."
Businesses themselves can still gear up, using borrowings with fixed return rather than deposits, so there'd be no need for investors to gear up, as we can assume that either the business itself has optimum gearing, or why would anybody lend the bank money for the bank to on-lend if you can invest directly?
"Stocks would have a higher yield than Bonds, as they are more risky."
Or in this system, deposits would have a higher yield than bonds, we have to cater for risk-happy and risk-averse investors.
"Directors of 'quoted' companies would not be able to gear their bonuses to the share price but only to the results."
Correct, several times over. And depositors who think that the directors are being too greedy would not need to wait until the AGM to have their vote ignored, they can just withdraw money en masse until the directors cave in and reduce their bonuses.
"And Investment banks, well they'd just be screwed."
There's a place for everything, but they'd be restricted to really specialist stuff where they invest their own money. Take-overs and mergers would be pretty straightforward, you just add two balance sheets together, maybe there'd be a straight cash transfer from depositors in the less profitable party to the merger to the depositors from the more profitable one, but that's easy - and more to the point, it would make it clear how much money it really is costing them.
But the key for any industry, not just finance, is not who owns it but where the jobs and value are being created.
You just need to insert the word "only" between "not" and "who" and you'd have it right, Mark.
JH, fair point.
MW - Thanks for the expansions - they were my point.
My first post was about how the 'enlightened adviser' is aware of the inefficiencies and distortions and rent seeking - all for zero investor benefit and how I (and quite a few others) have been dealing with it - within the current settlement.
There is a strong correlation between company take-overs and property speculation "Sears operated the country's largest chain of footwear shops and Clore had spotted that the value of these properties was not reflected in the share price"from "Corporate governance in Britain:is incremental reform enough?":paper by Geoffrey Owen (was on Net).
So began (in 1953) the era of predatory takeovers;sales and leasebacks by Clore initially and then others.
They were followed by the outright asset strippers who targeted firms that employed a lot of people ,had a lot of real estate but were not making the profits to keep share holders happy.Sacking the workforce and stripping out the property asset values became the name of the game in the Slater/ Walker period. (Say what you like about Clore : he was no asset stripper).
So went a lot of British Mittelstand companies ,not entirely family owned: all with BoE approval"In present circumstances the directors of targeted shoe firms have only themselves to blame if they are dispossessed by more enterprising rivals" A senior BoE official in memorandum.
DBC, yes, good point, there is a large element of rental value supporting share prices and/or triggering take-overs.
What has the sale of shares in BT to do with raising capital for a business?
The sale of shares in BT was a way to raise money for the government and to convert BT into a proper commercial enterprise rather than a nationalised quasi-business that had no incentive to be efficient (and the potential to be yet another nationalised pit of perpetual losses). The £8bn, or whatever it was, raised by the sale of shares did not go into BT's coffers, and nor should it have done. It was the purchase of the assets of BT from the government.
The building society model is all very well for a business like a building society which is an intermediary between savers and borrowers. Unlike a manufacturing or trading company it does not have to throw money at plant or stock before it earns a penny. All it has to do is lend to a low-risk customer and it is ahead of the game as soon as it starts.
For a manufacturer the start of the business is a very different proposition. Money has to be put into plant and raw materials without any possibility of a return until stuff is made and sold. Share capital is a very good way to start such a business because the money "invested" is all available without there being any chance of the company being called upon to repay. Subscribing shareholders take a chance, they win or they lose. The company might succeed or it might fail, but it is able to operate without risk of its plant and raw materials having to be sold to repay an "investor" who has decided to back-out.
Manufacturing businesses certainly can be funded on the basis that their plant and stock might have to be sold at any time - every partnership is in that position. However, the very reason limited liability companies exist is because the partnership model was restricting enterprise.
People wanting to try a new idea in the market were not always prepared or able to risk all they had by borrowing against their personal guarantee, they wanted to share the risk so that failure hurt not only them but also those who put up the money. Equally, they gave away the chance of retaining all the profits, they had to share profits with those who put-up the cash.
That others decide to gamble on the value of those shares is neither here nor there to the company itself. And those gambles have little if anything to do with the value of the company's capital assets at any given time.
You are absolutely correct to suggest (as you do in the title but not in the article) that the market value of shares in a company is not the same as the capital value of the company itself but that is a fatuous point. Of course they are not the same. Share market values include the gamblers' premium on the company's capital value increasing in the future - in many cases decades into the future.
TFB: "The sale of shares in BT was a way to raise money for the government and to convert BT into a proper commercial enterprise rather than a nationalised quasi-business that had no incentive to be efficient"
You really don't know what you are talking about, do you? Yes, it was a good idea to privatise it, yes, this raised money for the government selling the assets etc.
This does not mean that the government had to sell "shares", does it? The government could have sold "the assets" to a business funded by deposits, wouldn't it?
That business would still be privately owned, independent, blah blah blah.
MW / DBC R. Thinking about your posts, surely LVT sorts out the property on the balance sheet problem? And wouldn't LVT encourage businesses to use their property (aka 'land') assets better?
BTW Locally Robert Maxwell took over and asset stripped Ransomes and Rapier - a successful manufacturer of draglines and mixer trucks - based on the value of the land, undervalued in the balance sheet vis a vis housing, and the pension fund, which had a surplus.
I can't help thinking that the land value was distorted by easy mortgages and its under-taxation. This seems to be an LVT issue?
TFB/MW Personally, I never though the sale of BT to 'us' was correct, as 'we' already owned it. It was a taxpayer asset. But who is 'the taxpayer'? Clearly not those on the state payroll, as they are paid by 'taxpayers'.
It was right to de-nationalise it but the equity / ownership might have been redistributed to us FOC somehow.
L, yes, there are a lot of other issues which LVT sorts out.
As to nationalisations, in theory the govt could dish out free shares, but actually selling off for close to market value is still best, because people take much better care of things if they've had to pay for them.
Some countries dished out free shares and all that happened was that oligarchs snapped up the shares for pennies in the following months from firt-time punters who didn't know what they were doing.
MW - My thoughts exactly re oligarchs and free shares.
@Lola
Right precisely why we needed LVT back then,and now and for always.Geoffrey Owen in his paper on Corporate Governance (still on Net)makes the cryptic comment"Another stimulus to take-over activity was the 1948 Companies Act which obligted companies to make a fuller
disclosure of their assets and profits".Reading between the lines ,it seems likely that Clore and probably his legal adviser Stainer sussed out that Trueform (Sears) and Freeman Hardy and Willis (with whom Sears were probably merged by now) owned 900 High Street shops between them ,which Clore sold and leased back to an insurance company.Would guess that previous to 1948, companies were not reporting or under reporting any asset values .So the Act served as an invitation to disaggregate property values from the value of turn-over and profit and led ultimately to the Slater/Walker firestorm of asset stripping.(Clore seemed loth to sell property and started his own property company which I think was Galliford's(?).Not an asset stripper as such).
"The difference between the £17 (£11) per share real capital and the share price of £24 or £32 is not real capital, it is just random transfers of wealth"
No. It is the market's view of the future value of the company, of future changes in the company's assets. It's all very well taking the accountant's view of all this and saying that the only value is what's written in the books. But that necessarily takes no account of the future, only of the past and the present.
For example, you might have a badly run company whose share price goes up when a really good manager takes over as chief executive. The balance sheet hasn't changed, but the company's prospects have.
yur proposed system seems ok but the crucial test is against where other schemes go wrong.
So...I was a member of the Chelsea Bulding Soc. A happy member. It was not at all go-ahead. Very middle-of-the-road - the 10k I had there was my risk-free investment per the CAPM. Then activists came along and forced it to sell to some institution or de-mutualise or something. what in your regime would stop something similar from happening? Or, the real question, would your method stop such short-sightedness? There was a brief period of "capital gain" followed by a long period of capital ouch.
Funds for change or expansion. 100 years ago, Beechams was a major pharmaceutical conpany. It merged into Smithkline. Then merged into Glaxo....and my shares have benefited from the changes. But since I place more store by dividends, the dividends have also increased. Ecomomies of scale I guess. How does a mutualised model let that happen, if you deem it desirable?
Just how does corporate governance work in your new world,and does the principal-agent problem get solved min a better way?
My experiences with mutual societies suggests not.
AC::No. It is the market's view of the future value of the company, of future changes in the company's assets."
Yes, the share price is the NPV of all the future dividends plus break up value. But whether you own shares or a deposit, the NPV of all your future dividends plus break up value is exactly the same. It's just that with deposits, you have to be a long term investor, with shares, you can do a "get rich quick" and take four-and-a-half years' dividends in one fell swoop by selling out to a bigger fool, who in turn hopes to sell on to an even bigger fool.
"For example, you might have a badly run company whose share price goes up when a really good manager takes over as chief executive. The balance sheet hasn't changed, but the company's prospects have."
So what? With a deposit-funded business, there is even more pressure on the manager's to run the business properly because the only way to get the most out of your investment is to have the company run properly and making real profits.
G: "Or, the real question, would your method stop such short-sightedness? There was a brief period of "capital gain" followed by a long period of capital ouch."
Ta for anecdotal. As I said at para 11, the get-rich-quick crowd will always win out. Which is why I have changed my mind about corporation tax - it would be retained at 30% for companies with shares, and scrapped for deposit funded companies (see para 12). If today's shareholders want to rip off future investors, then they'll have no moral objection to the government ripping them off.
"How does a mutualised model let [mergers] happen, if you deem it desirable?"
Companies funded by deposits can still merge, you just add two balance sheets together (with an adjustment if one business was much more profitable than the other), and smaller businesses can be bought for cash. Building societies used to merge quite happily without shares being issued.
"Just how does corporate governance work in your new world, and does the principal-agent problem get solved in a better way?"
Instead of shareholders voting at AGMs, depositors vote at AGMs and/or they can threaten to withdraw all their deposits. Sure, directors can put a short term block on withdrawals, but this will be considered very bad form indeed and will usually lead to management being replaced.
Does this solve the principal-agent problem? Slightly yes, but not completely, I never claimed that.
TFB, I see your point, but it could be simply answered by having initial deposits unable to be withdrawn for a period, say five years, or possibly more, if the board of the new company think it's going to take that long to get into profit. This would discourage those who are only looking for a quick return on their money, but isn't that a good thing?
"And none of this needs thousands and thousands of analysts and middlemen to manage people's savings, all creaming off their percentages."
Which is precisely why it will never happen.
B, don't worry. TFB just doesn't have a point worth rebutting. The only people prepared to put money into a new business would be those who are happy not to withdraw their deposits for a few years while it gets going.
Which is exactly what happens in real life with new businesses. Once the business is up and running, the owners are free to sell it for cash, merge it into a larger business, attract new deposits at a premium if they so wish, so that they can withdraw their original stake + accrued profits + share of premium paid in by late arrivals etc.
This gives you every incentive to leave your money is as long as possible - unless another business is offering higher returns, but that is the whole point. A deposit-funded system funnels capital towards the most profitable uses.
If there is a good investment opportunity (like getting a 32% return on cash deposited with AZN) then people will always be willing to invest.
Mark, sorry, but this really doesn't work.
You say, "the share price is the NPV of all the future dividends plus break up value". But the key point is that the NPV of all the future dividends is UNCERTAIN. The market price of the shares represents the collective view of investors about that.
In your system, with that great new manager coming in, everyone piles into AZN and puts money on deposit with them. Suddenly they have "loads of capital". They have, in fact, just become a sort of bank.
In any case, pretty fast, a third party will decide to put money on deposit with AZN themselves, and then sell rights to the deposit and its dividend stream. Those rights are exactly like shares - except that you have introduced another middleman.
You say, "none of this needs thousands and thousands of analysts and middlemen to manage people's savings, all creaming off their percentages. When you are deciding where to invest your savings, you just scan down the list of companies and look for those with the highest returns"
That's not right. That would be similar to buying shares now based purely on the current dividend return. The value of the future dividend stream (or the future growth in shareholders' funds) depends on your view of the future earnings and is uncertain. That uncertainty means a need for analysts and middlemen to manage people's savings.
AC: "the key point is that the NPV of all the future dividends is UNCERTAIN. The market price of the shares represents the collective view of investors about that."
Yes it is uncertain, what does that have to do with anything??? You are doing the usual diagonal comparisons and ignoring real life, why come here to spout sub-Thatcherite crap?
Imagine, sole trader is running an unincorporated business. He does not know what future profits will be, the value of the business is uncertain, but there is a value.
Next day, he transfers the business to a limited company. He still does not know what future profits will be, but there is a value.
The limited company is not worth more than the business in its unincorporated state.
"everyone piles into AZN and puts money on deposit with them. Suddenly they have "loads of capital". They have, in fact, just become a sort of bank."
Jesus wept, literally, do you have no imagination? Do I have to spell out everything to you?
Once AZN have got enough spare cash, they can put a block on new deposits, or they say they will only accept $1 new deposit if the depositors pays a 50 cents premium.
Even if AZN simply accepts all deposits willy-nilly and puts them in the bank, then the return on the money in the bank will be a lot lower than what it was earning from making stuff, so the average return to its depositors will go down, thus becoming less attractive to investors, thus there is a natural upper limit.
"a third party will decide to put money on deposit with AZN themselves, and then sell rights to the deposit and its dividend stream."
Yet again, you have no grasp of real life. Building societies were funded by deposits. Di you ever hear of somebody selling a building society deposit? Why would anybody "buy" a building society deposit when they can put the money on deposit themselves.
In any event, this ridiculous contention completely contradicts your previous ridiculous intention, and they are both wrong anyway.
"That's not right. That would be similar to buying shares now based purely on the current dividend return."
Wrong yet again!!!! Because the share price is buy and large a function of the dividend, so the dividend yield as a % of share price will be fairly similar across different companies. That gives you absolutely no indication of which company is genuinely creating most wealth for a given asset base. It does not direct money towards profitable activities because what you pay for your shares doesn't even go to the company.
With depoist-funded-companies, the only thing you are paying for (possibly plus a premium if there is an investor stampeded into certain companies) is your share of the asset base and you make a decision based on which company has the best actual real life return on money invested.
"That uncertainty means a need for analysts and middlemen to manage people's savings."
Wrong yet again!! The uncertainty is always there and analysts cannot reduce it!!
If you put $1 with AZN in the hope it will continue to credit you with annual profits of 32 cents for ever more, then you are a fool. You hope that it will be more than this, but accept that it might be less. That is uncertainty. These analysts, who couldn't run a whelk stall do nothing to reduce the overall risk in the system because they can't, nobody can. All they know is shoving bits of paper round.
For sure, if you are lazy, you can ask other people to do the allocating for you, separate topic, and yes, the basic rule of spreading your money round a bit is always good, but experiments show, if you invest in thirty different companies at random, you have reduced inherent risk to a bare minimum.
Post a Comment