Why Jack Welch was Wrong - Some thoughts on Shareholder Value

This is a copy of my comments on a LinkedIn thread.  I felt so strongly about it I thought I'd do it again...

Jack Welch was wrong. Twice.

He was wrong when he ran GE for quarterly profits, and he was wrong again when he called Shareholder Value ‘the dumbest idea’.  What he should have said was that running a company for quarterly profits is a silly idea; running a company for quarterly stock prices is a silly idea; but, running a company for shareholder value is actually pretty smart.

Go back to what Rappaport said, in the early days of the shareholder value ‘movement’.  In his book, Creating Shareholder Value, Alfred Rappaport defines Shareholder value in terms of Value.  He sets out seven drivers of value:

1. Sales growth (increase it)
2. Operating profit margin (increase it)
3. Cash tax rate (decrease it)
4. Capex % of sales (decrease it)
5. Working capital % of sales (decrease it)
6. Cost of capital (decrease it)
7. Timescale of competitive advantage (increase it).

#7 is fundamental to value – Shareholder Value is not about the next quarter’s stock price, it’s about building an enduring, profitable business.  And running any organisation in line with these value drivers can be beneficial – I’ve used the model to work with not-for-profits as well as commercial companies.  It’s not used as a strategy in itself, but as a way to evaluate potential strategies, and for that it is very powerful.

In my own book, Corporate Financial Strategy, I address head-on the issue of different stakeholders, and point out the problems inherent in running an organisation to prioritise all of their different needs.  I conclude chapter 1 as follows:

● Stakeholder management is an important part of long-term shareholder value

creation.

● Although accounting results are not necessarily an indicator of shareholder

value, companies spend much time and effort on ensuring that the accounting

results look good, sometimes to the detriment of value.

I don’t disagree with the Martin ideas and the Forbes article.  But it’s lazy thinking to misapply a perfectly useful concept and then damn it for  being wrong.