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  Through the Eyes of a Skeptic
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  Margaret and Joel

“The purpose of business is to enhance shareholder value.” You can find that statement in virtually every article, book or blog concerned with economics and business. On its face, it would appear to be a reasonable statement. The challenge is the definition of “shareholder value”. If we again refer to the literature, there are many, many suggestions about how this value can be calculated (EVA – economic value added, VaR – Value at Risk, etc.). The common element to all of them is some sort of financial metric.

The basic economic principles that we all learned led us to believe in the market. If an individual or a company produced a product or a service that had value the marketplace would establish a price based on demand. The more people wanted something, the greater the value of the business that produced it. That was a happy thought and most of us left it at that and socked money into our 401K’s or bought mutual funds with good track records and assumed that someone with a more profound understanding of the market would manage our money and make the right investments. The escalating frequency of financial crises would seem to belie that thinking.

In a recent conversation with a friend of mine who is a quantitative analyst for an investment bank I learned a new definition of shareholder value. He told me, with the assurance that only mathematicians and structural engineers seem to have, that if one wanted to know the real value of a company one only need look at the value of their CDS or credit default swap. A CDS, you see, is the market’s estimation of the likelihood of a company going bankrupt. It is not simply a rating but actually a financial instrument that is bought and sold every day. My friend told me that the pricing of these estimates of financial demise are the gold standard in the calculations that he does to advise his colleagues on the advisability of a proposed investment.

The likelihood of failure has replaced the likelihood of success in establishing value. It would seem that success from a financial perspective is too difficult to calculate. Going belly-up is not only easier to envision and compute but the estimate of failure has a financial value in and of itself. One can imagine a conversation between two wealthy fellows comparing their portfolios and gloating about the remote likelihood that the companies they had invested in will go bankrupt.

What is forgotten in this orientation to value is the manner in which great companies have been built. Steve Jobs never finished college. By happenstance he took a class in calligraphy and credits the experience for the inclusion of a wide variety of fonts in the early Macs. Howard Schultz, the founder of Starbucks experienced calamity in his family when his father was injured and had to insurance – every employee of the company, even if they are part-time, has health insurance. All great companies come from the emotional drive and life experience of their founders

We may enjoy these anecdotes, but we don’t see them as having any value in the context of what a shareholder would want. The rest of the world’s emerging economies are betting on optimism, we are putting our chips on pessimism.

There’s no easy way out of this predicament. While the financial system has been propped up through injections of cash from the China and the Gulf States, the system is in no better shape than when all of the sub-prime losses were on the books. In a way, the calculation of determining the likelihood of failure is an apt measure in our current environment. There is a lot more pain coming and it will have to wash through the system before we can begin to re-define shareholder value in a more positive context.

Destruction always precedes creation. That destruction takes place in our minds when we see a thing for what it really is; the awareness can be painful but it provides clarity and the basis for the imagination to begin to work. Awareness is always the first step and the velocity of awareness is accelerating every day.