How to instill corporate America with the values of a family-owned business

Family-owned businesses — especially the big corporate ones — occupy an interesting place in Americans' economic thinking.

One the one hand, there's something creepily dynastic about them. In theory, a company opening up ownership of its shares to the public is supposed to be an act of economic democracy: wealth ownership to the masses. In practice, of course, wealth ownership skews grossly towards the top. But it's at least possible to imagine a world in which everything else was the same, but the wealth distribution was equitable.

On the other hand, family ownership exudes a sense of rootedness. The business sees itself not merely as a self-interest maximizing machine, but also as a human part of its local community, and acts accordingly. A New York Times piece this past Friday, for instance, profiled several family-owned corporations on the large side. The paper also talked to John A. Davis, the chairman of the families-in-business program at Harvard Business School, who laid out three qualities successful family-owned businesses share:

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As Davis said, these all boil down to good governance practices. Which raises the question: Is there a way to encourage these same principles in publicly owned companies? And maybe get us a little closer to getting the best of both worlds?

One thing we should always keep in mind when discussing corporate behavior is that the corporate form does not exist in the state of nature. Despite what free-market conservatives might tell you, it's a creation of government. How corporations work (or don't) is laid out by lawmakers, and lawmakers are perfectly free to change that design whenever their constituents feel like having them do so.

Public corporations also involve a lot of moving parts: There are shareholders, the shareholders vote for a board of directors, the board of directors selects a CEO, and the CEO runs the firm. So how all those moving parts interact, and by what rules they interact, are also laid down by lawmakers.

Enron, for instance, wasn't so much a corporation-being-evil problem as it was a failure-of-corporate-governance problem. The company was effectively raided and sabotaged by Ken Lay, its predatory CEO, because its internal checks and balances broke down. Imagine if the president of the United States manipulated Congress into giving him $100 billion out of the Social Security trust fund, then absconded with it to Argentina. Same basic thing.

So what are the problems with corporate governance, and what can we do about it?

As economist Dean Baker has observed, the relationship between CEOs and the corporate boards meant to oversee them is actually pretty cozy. CEOs often play a key role in selecting board members, who are then offered extremely generous pay packages for their seat at the table. "In effect," Baker writes, "we allow the CEO to pick a group of friends to decide how much money he should earn." The massive run-up in CEO pay over the last few decades — a uniquely American phenomenon — is pretty obviously implicated here.

Another weird quirk of corporate governance is that shareholders who are absent from votes are counted as votes in favor of whatever course of action management wants to take. Imagine if, whenever we elected a president or a congress member, any citizen who failed to show up at their polling place was counted as a vote in favor of the incumbent.

It gets even weirder when you consider corporate lobbying. Conservatives get into high dudgeon whenever unions are able to collect dues from workers who didn't vote for unionization, and then use that money to stump for particular political or policy positions those workers may disagree with. But whenever corporations use the collective resources provided by shareholders to stump for particular political and policy positions, nary a peep is heard from right-wing critics, even though some of those shareholders may well disagree with those positions.

So lawmakers should start by strengthening financial disclosure rules in corporate governance, both in terms of what is given to shareholders and what is given to the public. The fact that absent shareholder votes are counted as pro-management obviously needs to be changed. We should also institute laws that put matters like CEO pay and lobbying budgets and strategies up for votes on a regular, repeating basis so they must be re-approved by shareholders. Reformers should also think hard about other ways to strengthen the capacity of shareholders — especially smaller shareholders — to collectively organize within the corporation.

There are some external changes we could make with tax law as well. Corporate tax law, as it stands, allows debt to be written off, effectively creating a bias in favor of debt financing over equity financing. That's bad. Long-term capital gains are taxed at exceedingly low rates, presumably to reward patience and long-term thinking on the part of shareholders and investors. But they're defined as any income gain from selling capital that someone has held for a year or more. If our goal is to encourage family business–style rootedness, simply keeping your cash parked for one year before you get the benefit of the lower tax rate is absurdly short.

Finally, to be perfectly blunt, corporate profit margins are big enough these days that the CEOs and corporate boards can get away with quite a lot before shareholders start hurting. Squeezing those margins down could inspire more discipline. So stiffening taxes on corporate profits is certainly worth a try, but the best route to shrinking those margins is to increase the bargaining power of workers to claim a larger cut of the company's revenue.

CEOs and corporate boards, rather than acting as checks on one another in service to the company's interests, often become a kind of mutually back-scratching raiding party at the company's expense. The businesses profiled by the Times used the social pressure of family and institutional culture — the traditions and norms that have been passed down — to make sure the family members running the companies have their incentives and priorities in proper order.

For publicly owned corporations, we don't have the family dynamic to turn to. But we have other options for getting people to behave themselves.