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    How CEOs Can Fix Capitalism
    How CEOs Can Fix Capitalism
    How CEOs Can Fix Capitalism
    Ebook141 pages2 hours

    How CEOs Can Fix Capitalism

    By Harvard Business Review Press

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    About this ebook

    The financial crisis of 2008 and the Great Recession caused a crisis of public confidence in business and American-style capitalism, with its focus on maximizing shareholder value. Corporate leaders understood that reform was needed and that they needed to commit themselves to the dual goal of producing benefits for society and their firms’ bottom linesto creating shared value.” But the specific actions they could take to bring about this change were less clear.

    This ebook offers some of the freshest thinking today on practical measures that businesses can implement to create shared value. Originally published in an online forum hosted by Harvard Business Review, it offers valuable advice about how CEOs, other senior executives, and boards of directors can work together to engage stakeholders in new ways, change their companies’ values, build healthier relationships with investors, revamp incentive systems to create long-term value, and develop stronger succession plans.

    The authors of this collection of short articles include current or former CEOs, such as Howard Schultz of Starbucks and Dominic Barton of McKinsey & Company, and an array of prominent academics and other thought leaders, including Roger Martin of the University of Toronto, Jeffrey Pfeffer of Stanford, and Alfred Rappaport of Northwestern.

    Its editors are Raymond Gilmartin, the former CEO of Merck and, until recently, an adjunct professor at Harvard Business School, and Steve Prokesch, a senior editor at Harvard Business Review who previously worked at the New York Times and BusinessWeek magazine. In their introduction, they offer five specific recommendations on how CEOs can restore public faith in capitalism.

    HBR Singles provide brief yet potent business ideas, in digital form, for today's thinking professional.
    LanguageEnglish
    PublisherHarvard Business Review Press
    Release dateJul 9, 2013
    ISBN9781625271426
    How CEOs Can Fix Capitalism

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      How CEOs Can Fix Capitalism - Harvard Business Review Press

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      Introduction

      by Raymond V. Gilmartin and Steven E. Prokesch

      In the wake of the financial crisis of 2008 and the Great Recession, there has been a growing backlash against the corporate focus on maximizing shareholder value that has prevailed for 25 to 30 years. People from all walks of life—including a number of prominent CEOs—have insisted that business leaders should take a broader perspective and place a greater emphasis on creating value for society. But that has raised a major question: How, exactly, can companies change the way they are managed and governed to bring this about? 

      To try to answer that question, Harvard Business Review hosted an online forum called The CEO’s Role in Fixing the System. We organized it and invited CEOs, academics, and consultants to make concrete recommendations. This ebook contains their responses. While these contributors do not always agree, their articles contain much practical advice and food for thought.

      We have long had concerns about how CEOs, in their quest to maximize shareholder value, were managing their firms. Well before the financial crisis and the Great Recession, we were disturbed that corporate leaders were being handsomely rewarded and celebrated for downsizing and outsourcing, acquiring or merging, and hitting quarterly earnings targets at the expense of long-term growth. Any of these actions can be necessary under certain circumstances, but they seemed to have gotten out of hand and often appeared to be taken without regard to their destructive consequences for employees, communities, and the survival and long-term value of the firm. We believed it was important to understand why this behavior was becoming more prevalent and to develop ideas about what might be done to change it. 

      The premise of the HBR forum was that CEO behavior was undermining public support for capitalism and confidence in a market-based economy. The key assumption at the outset was that the focus on maximizing shareholder, rather than societal, value was the underlying reason. But many of the contributors to this ebook make a provocative argument that this explanation is off the mark. The real issue, they say, is CEOs’ preoccupation with the near-term performance of the stock price, not the focus on shareholder value per se. CEOs confuse the stock price with the firm’s value and act in ways that are intended to manage the near-term stock price but actually erode the firm’s long-term value. It is these actions that are often detrimental to society.

      Three factors have reinforced CEOs’ obsession with stock price and short-term earnings: Incentive systems that heavily rely on options, the widespread belief that investors value short-term performance over long-term investments, and the recruitment of CEOs from outside the firm who lack a commitment to the long-term survival of the firm and its values. 

      Given this additional insight into CEO behavior, the question is, How can CEOs place greater emphasis on the long-term and demonstrate their sense of responsibility for the positive or negative impact of their actions on society? The following is a set of recommendations for CEOs and their boards that we arrived at by integrating the contributions of each of the participants in the forum. We believe they offer a way that CEOs can restore public faith in capitalism.

      Whether you make shareholder value or societal value your priority, keep your focus on maximizing long-term free cash flow to build the firm’s value, and the stock price will follow. Shift the emphasis away from maximizing the current stock price and short-term earnings per share. Through metrics, make it explicit within your company that this objective cannot be achieved without providing societal benefits and properly managing the value relationships with all stakeholders.

      Harness the power of your business to solve social issues in ways that benefit your business and society simultaneously; in other words, to create shared value. Social issues for which your company is being held responsible or which are constraints on your business—such as lack of access to medicines or environmental issues—cannot be resolved with charity and philanthropy. The more effective approach is to engage, often with other organizations, to provide solutions and create opportunities.

      Develop close relationships with investors and provide them with information, metrics, and signposts that go beyond financial measures to indicate the strength of your company’s fundamentals. The goal is to attract large investors who are likely to be long-term holders of your stock and, at the same time, protect the company against short-term activist investors who might try to force the company to act in ways that would be detrimental to its long-term health.

      Shift the emphasis of your management incentive system from increasing the near-term stock performance to improving the operating fundamentals that create long-term value. The forms of equity compensation, holding periods, and performance metrics are all candidates for reassessment. Financial measures are important, but you should keep in mind that they reward past performance. Measures such as employee engagement, innovation, and societal impact are indicators of future performance and the creation of long-term value.

      Ensure the development of a CEO successor from inside the company. A CEO who comes from within the firm is more likely to be successful at building its long-term value and more likely to have a strong commitment to its survival and values than a CEO chosen from the outside. Pay particular attention to the candidate’s values and character in addition to his or her professional skills. Culture and company values are a major determinant of responsible societal behavior.

      A Note of Appreciation

      We thank the authors of the articles in this ebook. Their ideas and recommendations generated a thoughtful discussion in the online forum about the purpose of the firm and its role in the creation of value for society. Their articles challenge the conventional wisdom and are provocative. Many of their ideas are backed up by practical examples of companies that have been successfully implementing them. Taken together, the recommendations in this ebook can bring about a dramatic change in how companies are led. 

      A Synopsis of the Chapters

      Here’s a chapter-by-chapter synopsis of what the contributors to the forum have to say. 

      Chapter 1: A New Set of Beliefs for CEOs

      The CEOs of many major corporations are relying on a flawed set of beliefs to guide their decisions as they lead their organizations. Raymond V. Gilmartin, the former CEO of Merck, offers an alternative set of beliefs about shareholder value, investor behavior, incentives, corporate responsibility, and CEO succession that he believes will help restore public faith in business and its leaders. Jeffrey Pfeffer, of Stanford University, says that CEOs not only need a new set of beliefs, they need the courage of their convictions to act on those beliefs. He gives examples of CEOs who have defied conventional wisdom and resisted doing what everyone else is doing or what they are expected to do. These courageous CEOs both knew and did the right thing for the long-term well-being of their enterprises.

      Chapter 2: Creating Value: What Should Be the Priority?

      Michael J. Mauboussin, of Credit Suisse, and Charles M. Elson, of the University of Delaware, contend that increasing shareholder value over the long term should still be the number one goal of business leaders. But since a firm’s value cannot be maximized unless it is addressing societal needs, they add, there is no conflict between creating value for a broad set of stakeholders and for shareholders as well. They say the problem is that some CEOs make the mistake of confusing the maximization of shareholder value with the maximization of the near-term stock price, which leads to short-sighted behavior—for example, taking actions that compromise the firm’s long-term value in order to meet investors’ quarterly earnings expectations.

      Others advocate that the creation of societal value should be the top priority. Mark R. Kramer, of FSG, introduces the concept of creating shared value by harnessing the power of business to solve social problems and, by doing so, opening up new opportunities for growth and profitability. S. Sivakumar, of ITC, describes how his group has made societal value creation the primary purpose of its business by building into its business model solutions to the problems of poverty and a scarcity of natural resources in India. Marjorie Yang, of Esquel, reports how her Hong Kong–based firm is successfully integrating the pursuit of growth and profitability with the values and interests of its stakeholders in the garment industry.

      Michael E. Raynor, of Deloitte Consulting, offers a third point of view with his argument that the corporation’s survival should be the business leader’s priority. Such a focus would deter management from seeking to maximize the wealth of any one of its major constituencies—customers, investors, employees, and

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