From the mid-19th century to the end of the 20th, one form of economic organisation seemed to be displacing all others—the limited liability corporation with widely dispersed share ownership. Indeed in the 1980s, partnerships—investment banks, estate agents and legal firms—converted to corporate form, enriching the lucky individuals who happened to be partners at the time, while disappointing the hopes of more junior employees (the “mezzanine layer”) who had aspired to a future share of profits. Something similar happened as mutual building societies and insurance companies also became public limited companies (PLCs). State-owned industries such as telecoms, gas, water and electricity were privatised, and even agencies such as Companies House and the Royal Mint—which necessarily remained under public control—were restructured into corporate form.
But if the 1980s was the zenith of the listed corporation, the decade also saw the emergence of a very different trend. The buyout of food and tobacco conglomerate RJR Nabisco by private equity firm KKR was at the time the largest ever takeover bid, a drama of greed and ambition that inspired a bestselling book and then a film. Since then, the number of companies with shares listed on public markets that can be bought by individuals with modest savings has fallen sharply, at the same time as private equity has grown in importance. The trend continues to gather pace. In 2020, insurer RSA, bookmaker William Hill, and telecoms provider TalkTalk have been “taken private.”
What is all this about? Is private equity another scheme for enriching financiers and executives, or a better mechanism for governing companies? A means of avoiding tax, or of facilitating long-term investment? An arrangement by which managers can function in the dark, or one which enables investors to have a better understanding of the activities in which they are placing funds? It can be all of these things, and often is.
At the same time, should we ask whether the public corporation with widely dispersed share ownership was perhaps a creature of the 20th century, whose days are drawing to a close? I think it probably was. To understand why, we need to appreciate how both business and corporate form have evolved, and how they are continuing to do so.
The history of the corporation
Corporations have a long history. The word has Roman origins. The legal doctrine of corporate personality defines an entity that can make contracts and own property, just as an individual can. The corporation has an identity that can survive changes in governance and form, and any particular individuals who might be associated with it from time to time.
When the European Convention on Human Rights was negotiated in 1949, delegates debated whether a corporation could enjoy human rights; the conclusion was that it could. Until 1965, a British company was taxed as if it were a person. More recently, the US Supreme Court has concluded that corporations have rights of free speech and religious freedom.
Many people find these extensions of corporate personality a stretch. In the US Supreme Court, the late justice Ruth Bader Ginsburg, dissenting from the upheld right of a corporation to express the religious convictions of its dominant shareholder, asked why incorporation seemed to allow proprietors to shed personal obligations while retaining personal rights. It is a good question at any time, and one that presses harder when business is finding new ways to shake off certain obligations—and while the relationship between business and society is a subject of debate.
The 20th-century money machine
Early corporations were typically municipalities, such as the City of London Corporation. The modern business corporation began with trading and colonial companies, such as the Virginia and East India Companies. These were created by royal warrant, or subsequently an act of parliament, which limited the personal liability of participants for the corporation’s debts. The shares of these enterprises could be traded—the London Stock Exchange claims to have originated in Jonathan’s, a 17th-century City of London coffee house.
In the 19th century, the construction of railways and railroads required amounts of capital beyond the resources of any particular individual or small group. Britain’s railways were funded by middle-class savings; from the parsonage in Haworth, the Brontë sisters participated avidly in the speculative railway mania of the 1840s. Initially each project required its own particular act of parliament, but in 1855 legislation made limited liability freely available to any business enterprise. Subsequently this model of enterprise was extended to mining companies, retail banks and eventually manufacturing companies. Large amounts of capital were needed to finance the plants required by modern assembly line production, and the new model was an effective way to provide the requisite finance. The combination of limited liability, a stock exchange on which shares could readily be bought and sold and the rise of a professional managerial class defined the organisations that dominate our economy today—or, at least, did so until very recently.
Corporations had always reported to their members, but Victorian company law established obligations to file documents on a public register, and such obligations were gradually extended. Today any limited company with £50,000 of share capital may become a PLC, a precondition for listing its shares on a stock exchange. This route—if taken—involves much more onerous disclosure requirements.
Gradually, the principle was established that a listed company must make available to all information it has provided to anyone. This principle limits corrupt insider dealing and is seen as necessary to a “fair and efficient” market; but it also limits the formation of deep relationships between companies and investors. Indeed, Anglo-Saxon capitalism has often been charged with short-termism precisely because of the rhythm set by quarterly reports and frequent share sales.
The number of companies listed on the London Stock Exchange with shares available to the general public has fallen by half since its peak in 1975; and almost half of those remaining listings are now on AIM—the secondary market that was created in 1995 with much weaker supervision than that applied to the main market. The US has experienced a similar decline in the scope of public markets.
Over the last two decades, less money has been raised on the stock markets of Britain and the US than has been taken out through acquisitions for cash and “share buybacks”—the process by which a company uses its cash to purchase its own shares on the stock market. These latter transactions were generally illegal until 1981, but have since become popular with managers who enjoy “incentives” by which they stand to gain from any actions to raise the value of shares.
Although secondary issues—that is, the sale of new shares from established companies—have been revived in the last year as businesses such as hotel groups and airlines have sought lifelines from lockdown losses, the stock market is today more often a means of taking money out of companies rather than putting it in. This is one reason why business founders, who once regarded publicly listing their company as a primary mark of achievement, no longer do so. It is also a good reason why we should not necessarily bemoan companies walking away from public markets.
It is also important to recognise, though, that many entrepreneurs have simply come to resent the regulatory obligations and disclosure requirements of listing—with some justification, as you can see in the amount of tiresome boilerplate that now fills most pages of a company’s annual report. Hence the burgeoning private equity sector—investment funds that hold substantial stakes in a few companies whose activities these owners can and do monitor closely, rather than many companies for which they must rely on publicly reported information. In parallel, there is a developing market in “secondary participations”—the direct trading of unlisted stakes between funds without reference to any stock exchange.
Small investors have no direct access to stakes in unlisted companies, though they can acquire them indirectly through investment funds, which is indeed how they typically invest in listed companies, so the change here is not as great as it sounds. The lack of reported results may make it harder for small investors to monitor things, but it isn’t just changes in reporting practices that are making it harder to know what firms are really worth these days: it is far deeper changes in what qualifies as a successful firm.
General Motors as the general model
The archetypal 20th-century corporation was General Motors, and much of what is written about the organisation, law, economics and history of the 20th-century corporation is implicitly and often explicitly a description of General Motors.
When economists looked at General Motors they saw a “production function.” The company was defined by its physical capital, the plants and the specialist machinery funded by its shareholders. Output was a function of capital and labour, and capital and labour were substitutes for each other, the balance depending on the relative levels of wages and the cost of capital. The production function was scalable—if you doubled the quantity of capital and labour you would, more or less, double output. Even in the 19th century, this applied to things like steel; Henry Ford’s innovation (which his associate Bill Knudsen developed further at General Motors) was to make cars the same way. Ford’s need for hierarchy was so great that he went so far as to establish a plantation in Brazil—you can still find Fordlandia on a map of that country—to ensure that even the rubber that went into the tyres was a product of the Ford Motor Company. Similar behemoths popped up in other sectors and other countries, and soon dominated industries around the world.
But the two largest British industrial companies of the 20th century—ICI and GEC—both imploded at its end. And in 2009, General Motors itself filed for bankruptcy. That wasn’t because people had stopped buying automobiles. It was because the business model that General Motors exemplified no longer delivered either the cars that people wanted to buy or the returns that shareholders expected.
Capitalism without capital
The 21st-century corporation is different. The two most valuable companies in the world today are Amazon and Apple. If this is capitalism, it is capitalism without capital. The Great Western Railway and General Motors required not only huge amounts of capital, but capital that was dedicated to their own specific purposes. The only thing you can do with a railway line or an automobile assembly plant is run trains and make cars, respectively. But Amazon and Apple use little capital and the capital that they do use is fungible—it does not need to be owned by the business that operates with it and typically it is not. Amazon leases its warehouses and Apple its stores. Nor is there any need for “working capital” to finance stocks and deliverables in these businesses—Amazon has collected payment from you before it has paid its suppliers.
Neither company has ever raised any significant amount of equity capital from outside investors—for each, the total is less than 0.01 per cent of the value of the business. And neither will ever need external capital—Apple, bizarrely, has issued bonds for tax reasons, although it has less need of cash than any business in history. Like Amazon, it earns far more cash than it can ever use in its business, and cash is the only significant asset on the balance sheet of these companies.
It is no surprise if companies that no longer need external capital approach the stock market not as a means of raising capital, but of rewarding investors. And not only through share buybacks. The purpose of initial public offerings—which were traditionally to draw in serious investment—is today often to reward early employees and give venture capital funders an opportunity to realise value for their investments.
We can bemoan the use of the public markets to line managerial pockets, but there is no point expecting 21st-century companies to have a 20th-century hunger for capital investment or the 20th-century relationship with the markets that went with it. Scale and capital no longer have the significance they did. If you built another Chevy assembly line, you would have twice as many Chevys. But if you built another of Apple’s Cupertino campuses, you would not have twice as many iPhones—in fact, it is not clear what you would have, or what the people working there would be doing. Apple’s output is not a function of the capital and labour that Apple applies. Apple is a co-ordinator and facilitator, not a manufacturer. Apple only designs its products.
In 2020, Apple moved much of the supply of processors for its products away from Intel. This reflects the company’s current strategy of “owning and controlling the primary technologies behind the products we make.” But read that carefully: this is not about building a new Applelandia. The new Apple chips are designed in conjunction with TSMC, which manufactures them in the TSMC factory in Taiwan. And “the products we make?” There are assembly lines putting together Apple products, of course. But in Asia; the principal factory making iPhones and iPads is at Shenzhen in China, owned and operated by Foxconn. And the largest supplier of components is Apple’s principal rival, Samsung. The iPhone did nothing new; rather it put together capabilities—phone, music player, camera, navigation aid and so on—in a new and attractive way. In that, it acted as a metaphor for the corporation that created it.
Amazon looks somewhat more like the businesses of an earlier era. But here also, take a more careful look. The model is scalable, to a degree—witness the transition from online bookseller to “the everything store.” The Prime van that just drew up outside your door probably does not belong to Amazon, nor the friendly driver work for Amazon—the company’s logistics operation is basically a franchise, and delivery is also a target for automation. Only a few of the millions of customers who have been supplied by Amazon through the lockdown realise that the main profit engine of the company is not selling them books or other deliveries, but the technology that underpins the retail business. Amazon Web Services provides the technology platform for myriad other businesses (it was also the means of ascent for Andy Jassy, the man who has just been announced as the replacement for the company’s founding boss, Jeff Bezos).
Like Apple, Amazon is co-ordinator and facilitator of the economic activity of others. And these companies are not the most extreme examples. The two billion “users” of Facebook and Google are also the (often unwitting) “manufacturers” of marketable products. Airbnb and Uber provide nothing except intermediary services.
Some might plead that businesses now comprise intangible rather than tangible assets. But what are these intangible assets? Apple and Amazon develop software, of course, but software worth a trillion dollars? There is the Apple brand. But if I bought the right to label my products (whether my computer, my record label or my fruit) as Apple, I would not have bought anything much unless I also had the capabilities in product design and innovation that have made the Apple company a profitable business, and the delight of its customers which it is today. These capabilities will need to evolve constantly if Apple is to remain a profitable business tomorrow. You buy from Amazon not because it is Amazon but because you know it delivers.
The value of Apple and Amazon lies in these capabilities, and much the same story could be told of Microsoft or Facebook or Google. Or Prospect magazine, the University of Oxford, the BBC or Mercedes. The brands undeniably have value, but that “brand” is essentially a description of the capabilities of the organisations that carry these names and would quickly disappear without them.
The modern organisation is defined by its capabilities, not its “owners”—because in what sense could anyone “own” these things? These capabilities are the collective intelligence of teams within these organisations: problem-solving abilities founded on accumulated knowledge and experience—some codified, some tacit—and embedded in the social relationships that, taken as a whole, define the corporation. That is what is happening at Cupertino and in Amazon Web Services. Or in the Googleplex at Mountain View, or in the pharma labs that have successfully competed to develop new vaccines, or at the fast-growing online bank Monzo, or at Facebook.
This sort of account does not describe what goes on within the Foxconn factory or the Amazon “fulfilment centres,” which provide scant fulfilment to harassed employees. But such routine jobs are prime targets for replacement by robots and represent a steadily diminishing part of employment in developed economies. The Foxconn factory is in China and in a decade or two it will have migrated to what is today a poorer country still, raising local productivity and competition for labour, which will—we should hope—help more people to experience the rising living standards of southeast Asia.
“A paradox of the last 40 years is that as capital has become less important to business, the finance sector has swelled”
Still, businesses like Apple and Amazon will only ever be a part—although the most exciting and innovative part—of the 21st-century economy. We will always need an underlying infrastructure—a transport network, electricity and water supply, a payments system. And since we are still a long way from an artificial intelligence that is empathetic, there are many services as varied as personal care and education that are not amenable to full automation: few would wish to celebrate with dinner served by a robot.
McDonald’s can routinise standardised offerings because it operates at the low end of the market, but like its competitors it nonetheless largely operates through a chain of franchisees, reserving for itself—just as Apple and Amazon do—activities that are primarily those of product design and negotiating supplies. Even at the less-glamorous end of 21st-century capitalism, then, the General Motors model of integrated production and repetitive manufacturing doesn’t have much to offer.
The finance paradox
A paradox of the last 40 years is that, as capital has become less and less important to business, the finance sector has grown in size and especially remuneration. The explanation—an argument I developed at greater length in my 2015 book Other People’s Money—is that the modern finance sector, and especially the parts of it that have grown most rapidly, is less and less related to the needs of the non-financial economy. This has occurred to an extent that almost defies belief, as the once and future commuters to the City of London and Canary Wharf spend their days trading with each other.
The finance sector retains two key roles in modern corporate life. One is search—the need for fresh capital for business investment. But this is now mainly relevant not for big capital projects, but for new companies that simply need to fund operating losses until they achieve profitability. The other is stewardship—supervising incumbent management’s competence and integrity, and acting when necessary to effect changes.
At private equity’s too-frequent worst, existing businesses are acquired with the aid of mountains of too-cheap tax-favoured debt, assets are sold and short-term profits are enhanced at the expense of the long-term health of the business. The company is then flipped back onto the public markets—as with Burger King, Debenhams and Hilton—or into the arms of another—listed or unlisted—corporation. The primary purpose, and often consequence, is to generate excessive returns for the private equity professionals.
But private equity at its best can be very good at fulfilling those key functions of search and stewardship. If TalkTalk really does need to find the right investors for, say, laying miles of fibreoptic cable that will only pay back over decades, or else genuinely requires stewarding through a particularly tricky period of technical change, it is conceivable that a private equity model could help. And it is by focusing on search and stewardship that we can also find the right path to the broader future.
The public equity markets about which we still hear so much are really the phenomenon of a different epoch of businesses that dominated western economies from the mid-19th to late-20th century. Today, we should look for asset managers who are educated in business strategy rather than the financial economics that they continue to learn, and who build concentrated, focused portfolios of companies they know well. And in these regards private equity provides the template.
In parallel, though, it is time to finally end the era defined by Milton Friedman’s assertion that “the social responsibility of business is to maximise its profits,” in which executives were urged exclusively to pursue the maximisation of “shareholder value” (as if anyone knew how to do that in a radically uncertain world). The Friedman doctrine was always a dangerously misleading caricature of how businesses worked and thrived, but it’s doubly so in a world where the deepest roots of success lie in a strong collective commitment to solving important problems.
Business has lost political legitimacy and public trust by pandering to an account of itself that is both repulsive and false. The corporation is necessarily a social institution, its success the product of the relationships among its stakeholders and its role in the society within which it operates. Whether “public” or “private,” the fundamental shift needed is to recognise that modern role of business.
