Tag Archives: business

RBS – My Part In Its Downfall…

Actually, I don’t think I had much part in the downfall of RBS, although I did work there for twelve years from 1994.

I am about to read an account of the bank’s collapse – Making It Happen, by Iain Martin (I also want to read Shredded: Inside RBS, the Bank That Broke Britain by Ian Fraser, but it wasn’t out in paperback when I was buying) – and I thought it would be a good idea to jot down my thoughts about RBS and its fall before I did so.

I don’t believe I have any special insight into RBS, and I don’t think I will have anything to say that isn’t already in the public domain. My job was far too lowly for that. My redundancy settlement, eight years ago, also had a clause about not bringing the bank into disrepute, but I think RBS has done a pretty good job of that without any assistance from me since I left.

DSCN5129
RBS flagship branch in St Andrew Sq, Edinburgh.

I joined RBS over twenty years ago as an analyst within a large change programme called Project Columbus, which, after a couple of bad years for the bank, was established to rethink the way the bank worked. It was Columbus which put RBS back on track and gave it the muscle and discipline to acquire NatWest in 2000, after a bidding war with local rival Bank of Scotland. (How many firms contain the name of their main rival within their own? People always confused RBS and BoS.)

Columbus refocused RBS on its customers. It brought in much better costing of its products and services – before, the bank hadn’t been able to tell how much it made or lost on each customer; it split (“segmented”) its customers into specific types, depending on the type of business (individuals – retail – and three different types of enterprises); and it established different types of specialist customer managers to meet the needs of those different types of customers, and in doing so it removed the generalist bank managers from branches.

Goodwin joined RBS in 1998, after Columbus was completed, as deputy CEO to George Mathewson. Goodwin masterminded the NatWest takeover.

By chance, I was one of the first RBS staff into NatWest. I had been at meetings in London the day before RBS took control, and, looking for people who could act as a presence, I was told to stay down in London. Three Jaguars drove a small raiding party from our midmarket hotel – there had always been a focus on cost management at RBS – to NatWest’s headquarters in Lothbury, in the shadow of both the Stock Exchange and the Bank of England. Fred Goodwin, the chief executive; Graeme Whitehead, the FD; Neil Roden, the HR director; Tony Williams, head of HR operations and systems (or something like that). And me.

(Actually, there were one or two other guys, too – I think we were six in total. All men.)

It was a symbolic occasion. Whitehead was wearing a kilt. There was little for me to do; I was secreted away in a small room, twiddling my thumbs, whilst the board directors established what there rules were.

At lunch, though, we all sat in the staff canteen, in a prominent spot; making a point. Jocks in kilts. This was a change. This bank was under new management.

* * *

Up until the NatWest takeover, RBS has been a medium sized regional bank. After it, it was (or saw itself) as a global. Before, it owned Direct Line, an insurance company, Citizens, a similar sized regional bank in north east USA, and a few other businesses. (The one that I always remember was Angel Trains, a train finance house that was spun off a few years later.) NatWest gave RBS global clout.

I believe the NatWest takeover was successful, though it probably lay the seeds for many of the problems that beset the bank later on.

RBS was a lean operation, with costs tightly controlled, and the same ethos. Fred Goodwin had earned the nickname “Fred the Shed” whilst at Clydesdale fire the way he shed costs – largely people (or alternatively, “Fred the Shred” – “shredded”). There was little fat at RBS, and there was much fat to be shed from NatWest. There were extensive wine cellars, an art collection, and lots of business units. And lots of efficiency savings to be made. RBS had a low cost/income ratio, one of the key measures city analysts and investors use to measure bank performance, and shifting NatWest’s operations to a similar C:I ratio would generate lots of profits.

The purchase of NatWest was based on cost cutting and removing duplicated services – essentially, economies of scale. NatWest, for instance, had something like twenty seven different versions of PeopleSoft (the database system used by HR departments) – which didn’t talk to each other. It was similar across other systems – there were multiple tax and accounting systems, all of which needed reconciling. Trimming the fat wasn’t difficult. (Bear in mind that there were many redundancies, too – a lot of people lost their jobs, from both NatWest and RBS.)

But relatively quickly RBS started to become as bloated as NatWest. When I joined RBS, the emphasis has been on servicing the customer-facing parts of the operation: I worked in a head office department which had cobbled together, second hand furniture in a building above a bus station; if you opened a window, you got a whiff of diesel fumes. True, this was somewhat the exception, but it made the point that we were an overhead, and what we were doing was working to make the customer-facing, revenue-generating parts of the organisation more successful.

RBS had central departments scattered throughout Edinburgh, many of them in somewhat dilapidated buildings, and it had been planned to redevelop a city centre site to house them all. After the NatWest takeover, Fred Goodwin apparently decided that something else was needed. Something out by the airport.

When Gogarburn was opened in 2005 – by the Queen – it seemed very opulent. There is an old investing adage – maybe from Jim Slater – that when a business starts investing in sparkly new headquarters, it is time to short the company. It would have been a very effective sell signal for RBS.

Gogarburn was very self contained. It had very good restaurants, a health club (with a full length swimming pool), a social club and bar, several shops, and a couple of Starbucks franchises. It had a nursery and a management school, delivering courses for the large numbers of executives it now had. It had a separate directors’ wing. There was no reason to leave.

Whereas RBS had been part of the city, after Gogarburn opened it was apart from the city. Gogarburn was isolated, and RBS became very insular. Being in Gogarburn felt like being part of the “Truman Show”. Everyone there worked for RBS. There were no more serendipitous meetings with contacts from other firms. You only saw people from outside RBS at Gogarburn if they were there for a specific meeting. Whilst communications within RBS undoubtedly improved, a broader understanding of and communication with those outside plummeted.

It was as if RBS saw itself above all that.

(I don’t think I lasted a year at Gogarburn, taking the opportunity to leave when I was offered a redundancy package during yet another internal reorganisation, in 2006.)

* * *

There were stories that Goodwin was intricately involved in the design of Gogarburn. Many may have been apocryphal – such as one saying he had personally been responsible for sending a shipment of marble back because it was the wrong shade, or that he personally spoke to the CEO of Vodafone to get a mast put on the roof to ensure adequate mobile coverage (under threat of removing the RBS contract). Either way, it was apparent that he was involved in details of RBS, rather than delegating and letting others get on with it.

He apparently held early morning meetings – “prayers” – add which he would grill his direct reportees. Failure was not an option. Some described his approach as bullying. It certainly don’t seem to have been particularly collegiate or collaborative. I don’t imagine he was easy to work for. The watchword was JFDI – “just ffffing do it!”

This permeated the firm, I would say. People were not happy making mistakes or getting things wrong. Success at any price. Thinking too much – or at all – was seen as a weakness. Decisions were made quickly and, once made, that was that.

Success at any cost is what probably broke the firm. When Barclays bid for ABN Amro (a year or two after I had gratefully left RBS), it was seen as a risk to RBS’s dominance – it’s claim to be the biggest bank in Britain – and, as a part of consortium of other firms (Santander, which had a long standing relationship with RBS, and a Belgian insurance firm), a counter bid was made. ABN Amro would be broken up and each member of the consortium would get the bits they wanted. RBS wanted the US retail business, which fitted well with Citizens, and some of the investment banking bits.

I’m sure the figures stacked up, at first: the deal would have made sense. But then as part of its defence ABN sold its US retail arm. And more importantly, the downturn started, and kept going. Barclays had dropped out. RBS continued. And ended up paying a lot of money for lots of toxic assets. And effectively going bust, and relying on a UK government bail out.

Between 1994 and 2007, RBS made accounting profits of £55bn before tax, and £39bn after tax. In 2008, it wrote off about £47bn according to Robert Peston on BBC Radio4’s “Today Programme”. In the seven financial years 2008 to 2014, RBS has has reported total losses attributed to shareholders of, by my calculation, £49bn. Basically, RBS hasn’t made any money since 1994, despite paying billions to the government in tax and to shareholders as dividends.

* * *

Personally, whilst I believe Fred Goodwin was the driving force both of the bank and the sour deal, I don’t believe all blame for the collapse of RBS lies with him. A lot does – it was his strategy – and his hubris which pushed forward with the ABN takeover.

Wanted Poster at Holburn Station (London, UK)
From takomabibelot on flickr, used under Creative Commons licence.

But many other people need to share some – or even much – of the responsibility:

  • other executive directors – the management team – should have been up to challenging Goodwin’s behaviour, including the more bullying, trampling aspects of it. I don’t know if any doubts were expressed by other members of the management team, but they probably should have been. Except that they would probably see their jobs and salaries get bigger as a result of the takeover. Could they be objective, even if they could stand up to Goodwin? Groupthink might also have played a role: it might have been hard to break rank. No one loves a naysayer
  • the board – particularly the non-executive board members. It should have been their role to make Goodwin and the management team accountable. Perhaps they did, though they all left under a cloud following the collapse of RBS
  • other employees. It is hard to tell the boss he’s wrong. It’s harder when the response is “jfdi!” But someone must have had doubts – all those people poring over the figures in finance; all those providing management training in the brand new management school
  • shareholders. Under market capitalism as practiced in the UK, shareholders are more likely to sell a firms shares than try to engage with management about corporate strategy that isn’t liked
  • regulators. They could easily have put an end to the folly. Following the crash and the collapse of RBS, the role if regulators had been greatly changed. (Until the next crash …)

I must point out that I fall into two of those categories – though as a fairly insignificant employee and a very small investor, I believe I had little influence (but lost a lot of money!).

I believe the real issue – the blame – lies with the board, both execs and non execs. They had oversight of the strategy and the deal. When the crash came, they should have pulled the plug. RBS would have looked weak – it might even have become a takeover target itself – but it would have survived the deal. Instead, they pushed on, buying illusory assets which quickly turned to dust, taking much of the UK economy with it.

“The Dark Arts of Innovation” – Or Not?

After excellent sessions on play and improvisation, I suppose I was only setting myself up for disappointment with the third of the series of talks at the ScienceFestival that I accidentally curated for myself: “the Dark Arts of Innovation. The talk’s title hints at secret recipes or innovation-magick, but whilst interesting and engaging, on that count it didn’t deliver. There were no secret tricks or short cuts, no quick fixes – though a fair bit of common sense.

I think this in part reflects the nature of the institutions represented by the three speakers: a university, a research institute and a private sector (and privately owned) company.

Light Bulb
Image from Olga Reznik on flickr.
Used under Creative Commons licence.

As Alan Miller, deputy principal (and responsibile for knowledge transfer) at Heriot Watt, pointed out, universities are steeped in tradition and conservative in nature; not necessarily the most innovative of institutions. Still, the Watt in Heriot Watt refers to James Watt, who whilst he didn’t invent the steam engine (that was Thomas Savery, apparently – I thought it was Newcomen, which proves that one really can learn stuff from the internet!), came up with an innovative design made greatly improved its efficiency and reduced its size, and enabled others to deploy it in many new ways – the power behind the industrial revolution.

Of course, once more the question of semantics came up. What exactly is innovation? Miller reckoned it was seeing the practical benefits of research – taking original research and creating products from it: exploiting experimental research and commercialising novelty. (As far as I recall, during my MBA the working definition of innovation we used was along the lines of seeing the potential products of new research, methods or processes, and then actually getting the product to market. Others define innovation as the generation of wealth from ideas.)

Either way, researchers are not necessarily the best innovators, and nor are universities the best at exploiting and commercialising their research. It has long been said that Britain is great at research but poor at exploiting it. Miller reckoned that Scottish universities are actually on a par with the US counterparts (a view which is consistent with this research into UK manufacturing from Southampton University). The UK parliament investigated the translation of research into commercial products last year, and produced a second report just last month. Others reckon the UK has no coherent policy on innovation. Part of the problem, I think, is whether a government can actually promote innovation specifically – they can make the economy as attractive for entrepreneurs and innovators (fat lot of success they’ve had there – though I guess they might argue the recent cut of the top rate of income tax is an effort to improve the incentives for entrepreneurs) – but I can’t help feeling that there is little governments can do to stimulate the process of innovation itself.

Heriot Watt tries to do this in various ways, though mostly by spinning off possible commercial outcomes from research into independent companies. The university doesn’t expect to to profit (though it hopes it will in the long term), but removing the removing the ties of bureaucracy and adding the profit motive seem to be beneficial.

The missing gap for me seemed to be how to identify those who were good at innvoation – clearly, not necessarily the same as those undertaking the initial research. My guess would be that most academics are motivated to a great extent by profit, but if one removes the results of their research and passes to someone else – even another (spin off) body – to commercialise, how does one recognise and reward to original researchers? Do they also profit from it?

Working out which bits of research actually have the potential also seems problematic: are there university committees assessing which bits of research might yield commercial results? Miller pointed out that the fruits of research may come a long time after the research itself – the development of transistors after WW2 relied on esoteric research into quantum mechanics decades earlier, for instance.

Fundamentally, though, Miller saw innovation as being all about people: they need to be stimulated to innovate. Unfortunately, how to actually do that doesn’t seem clear.

Lee Innes from the Moredun Institute gave some excellent examples of the way they have innovated. Firstly, they are very close to their ultimate costumers – farmers: indeed, they were established by the agricultural industry and are managed, in part, by farmers; they are aware of the issues facing farmers, and work with them on technological solutions. The profits of their innovation are channelled back into further research projects.

The institute also sifts ideas using evaluation criteria before product development and implementation – a long, and, she reckoned, potentially cruel process: you need to be willing to dump good, workable ideas if they might not come to fruition or would drain resources. “Killing the babies”, she called it.

The critical steps – necessary, even – seemed to be working in collaborative, cross-disciplinary teams, and for those teams to be small and flexible. She gave an example of a brainstorming session between the institute’s researchers and engineers from (I think) Heriot Watt where the engineers had picked up on a problem the researchers had thought of as insoluble – and a rapid diagnostic for toxoplasma is now in development. Being open to new ideas from unlikely sources seems to be beneficial – and I like the idea of innovation rising from random conversations! Spinning out potential products allows the innovators to work in flexible, dynamic, high performance teams to get the product to market – like any start up, perhaps. They are also open to unintended consequences – and exploit the novel application of them.

Promoting that sense of interdisciplinary collaboration in a high performing environment seems crucial to W L Gore. I have heard people from Gore speak before, and it has always seemed both an inspirational organisation – and completely down to earth. Gore’s Gerry Mulligan added to the passion for ideas I have seen from the firm before. It does sound like a truly innovative organisation, with a novel culture that has innovation at its core. (The first thing you see on their website is “A Commitment to Innovation Shapes Everything We Do” – quite a statement.) It eschews hierarchy and works with a minimum of bureacracy – no time sheets, for instance. Its teams are self-organising and wholly empowered; the only leaders are those who get followers (someone once said that Gore doesn’t do leadership training – they do followership training instead – though Mulligan did describe the leadership training those in senior positions get – clearly there is some recognition of hierarchy). Peers are involved in the annual review process – and are responsible for setting remuneration, too. Everyone gets 10% of time to work – or “dabble” – on their own projects.

This could also make it a harsh place to work, too – it may not be the best environment for introverts, perhaps. (I may be completely wrong, of course: if you are judged on your contribution to results by your peers, regardless of how loud you shout and how sociable you are, it could be that introverts may fly!)

It was, Mulligan said, all about the culture – and the people: without bureaucracy, hierarchy and “command and control”, innovation was able to flourish within small, flexible – and cross-disciplinary – teams based around relationships. Informal networks are key to sharing knowledge and enabling the teams to coalesce. All those conversations again…

There was long discussion about the nature of intellectual property, and who benefits from it. Gore uses patents a lot, and – in some jurisdictions – are bound to share the profits of IP with its developers (not in the UK). Mulligan described some bad experiences the firm had working with others and sharing IP, which had to be resolved in court, and felt it best to keep working relationships in house.

The speakers also felt that Scotland and the UK more generally had become risk averse: failure is a dirty word. Instead, they thought we ought to celebrate failure. At Gore, when a project closes because it fails, they have a party to celebrate. Of course, we can learn from failure – but to really learn, we need to share the knowledge of the failure. Researchers don’t publish details of experiments that fail, only those that succeed.

Condensing down what was said into that all elusive recipe for innovation, then…

  • small…
  • open…
  • collaborative…
  • flexible…
  • cross-disciplinary…
  • high performing…
  • empowered…
  • self managed teams
  • minimal bureaucracy
  • unafraid to fail
    And know when to stop!

But you still need to instill all that into your culture – and work with people who are creative innovators. Whoever they are.

Post Script. Whilst I have been writing this, my mind has kept returning to the Centre for Creative Collaboration, which I used to visit frequently when I was in London. C4CC acted (and, I presume, still acts!) a space promoting many of the themes of innovation that the speakers at this talk covered – particularly the open discussion and conversation. C4CC was set up in partnership with several of London’s higher education institutions, but is largely independent of them. Perhaps could be a model – only one many possible, mind – for incubation of innovation.

“More Like People”?

My working life has been spent with organisations, in one way or another. (And of course my life before that: schools and universities are organisations too…) I love exploring the way organisations work – what makes them tick. That is why, believe it or not, I loved auditing: auditors dig into organisations, discovering the real processes and structures that enable to them to function. (Clue: it isn’t what managers tell you. And it doesn’t have anything to do with shareholders!)

When talking about organisations – something I do often – I repeatedly find myself describing them as dysfunctional. I don’t think that I have come across or worked in an organisation that couldn’t work better in one way or another, from multinational banks to small, two-man operations. I have long wondered why this is. It isn’t that people in the organisation don’t know this: one thing consultants learn very quickly is that what they tell their clients is very rarely news: organisations know what’s wrong, even if they need someone from outside to help them articulate it.

Their processes could be better, their communications could (almost always) be improved, their structures changed to help the business. Hierarchy and structures get in the way rather than enable, and people in organisations know the work arounds – big and small – to get things done.

(A caveat: “could be better” is a value statement: the corollary has to be “better for whom?” Customers? Employees? Managers? Owners? The wider population? The environment? These groups may not be exclusive, but better for one may very well not be better for all.)

Organisations could be – well, better organised. They are dysfunctional.

I have only one answer. Organisations are made up of people, not processes; people make the organisation work. And people are dysfunctional.

Despite the idea that organisations are separate from people, it is people that are the organisation. We pretend they aren’t. We even pretend that organisations are people!

The thing is that whilst some organisations behave as if they were psychotic, most large organisations’ dysfunctionality works in peculiarly non-human ways. (Small organisations’ dysfunctionality is just like the people behind the organisation!) The veil of incorporation lets everyone in an organisation hide behind the processes, hierarchy and bureaucracy that lets the organisation continue to believe they are “rational”.

Liam Barrington-Bush started a campaign to counter this and humanise organisations, “#morelikepeople“, and he’s developed some of his ideas into a book, “Anarchists in the Boardroom“. (I should declare an interest: I’ve known Liam for quite a while, we’ve discussed his ideas many times, I was involved in focus groups around his book, and I read early drafts of a couple of chapters; he and I agree on much, and probably disagree on more!)

Liam’s focus is on not-for-profits and social enterprises, but I think his ideas are relevant to all organisations. Broadly, Liam reckons (amongst other things) that new media – particularly social media – can act as a counter to the rigid hierarchies and management processes that twentieth century industrialisation created. This is a topic has interested me for a long while – Benjamin Ellis covered it particularly well in a one day conference at Cass Business School three years ago.

Using collaborative tools to develop self-organising structures and flatter structures would clearly have an impact on the nature of work and business; if large organisations were able to embrace them, they might become flexible and responsive.

More likely, I feel, is that small organisations – already more flexible than large, and often unencumbered by rigid structures and processes – that are likely to adapt faster to social media, perhaps becoming more openly networked rather than hierachical.

(Liam is using crowd sourcing to publish his book – itself an interesting example of the changing nature of business in a new, social and collaborative world; he is still looking for supporters.)

John Kay on Bankers’ High Salaries.

John Kay, economist and chair of the Government review of equity markets and long term decision making [PDF; and it’s long!], was speaking to the Edinburgh University Business School, ostensibly on “Why are financial services so profitable?”, but essentially discussing remuneration in financial services. (This may because the answer to the original topic is a quick “they’re not!” – profits from the boom years were wiped out in the crash of 2007 and the ongoing global financial crisis: the profits were illusory).

Remuneration is of course a hot topic. The EU is developing proposals to cap bonuses; bankers’ salaries and bonuses regularly feature in the news.

The standard economic model of wages is that workers receive the same as their marginal unit productivity (I think!). The article in Wikipedia explains it better than I could… A big problem with this model is that it is very hard for organisations to know what the marginal productivity actually is. In large corporations through to the smallest business employing people, whilst the theory might say this is how wages are calculated, my guess is that actually no one knows. What is the marginal productivity of a waiter, a bar tender, a bank teller – or the CEO of a major company?

Kay discussed three different economic theories to explain real remuneration patterns and income distribution, each of which comes from different economic and political assumptions.

The first is that what may be perceived as excessive wages reflect political power and rent seeking. Economic rent the amount paid for a resource in excess of the amount to get that resource into productivity. In the example Kay used, the amount that Wayne Rooney is paid by Manchester United is probably far more than the minimum that Wooney would need to be paid to get him to play football: the difference is because ManU have to pay this excess to stop him moving to another club, who might pay more: in an open market, those other clubs bid up the price. (Kay may have been a little premature on this specific point, though the principal stands…)

The economic power in this case is with Rooney; similarly, successful bankers can threaten to move to another employer – or even another country. They could work anywhere – they have highly transferable skills – and their employers might worry that if they don’t pay their high salaries, they would lose access to the bankers’ skills. (I am not so sure that this threat is a problem now that much of their success has been proved to be illusory.)

The second model Kay covered is what he called “the estate agent problem”. The economics of estate agency is, according to Kay, curious: the rate of fees is generally static, with competition not acting to drive down prices. Estate agents generally charge the roughly the same fees as their competitors. This is because users want to pay for the best service; no one want to pay for an ok, but cheap, estate agent (let alone a bad but dirt cheap agent!), since the benefit accruing from paying a bit more for an excellent agent would far outweigh the cost.

Banks therefore pay for the quality they perceive they receive. They don’t want to pay for a mediocre performance when they believe they can pay a bit more and get excellent performance. Similarly, no board of directors is going to hire a CEO or MD they believe to be average: they will all want the best, and their recruitment firms will help – and bid up the price. But it is doubtful how much difference CEOs can actually make. Luck has an awful lot to do with their success or failure, as do the people they hire.

(Recruitment agencies and remuneration consultants have a lot to answer for, too. All firms want to be seen to be good payers – management roles, at least: job ads often describe roles – firms – as “top quartile pay”; I don’t think I have ever seen a role described as “bottom quartile pay”, though of course 25% of jobs, and firms, must be! Remuneration consultancies produce regular reports showing the market rate for specific jobs, which firms expect to have to pay to get the people they want – and the market rate inflates each year as firms adjust their rates to stay with the market.)

The third issue Kay identified is that of “bezzle“, a word coined by J. K. Galbraith to describe the undetected amount of corporate fraud. Before the fraud is discovered, the victims believe themselves better off than they are. Prior to the global financial crisis, we all thought we were better off than we actually were, because of those non-existent banking profits. As someone said (attributed to Nassim Nicholas Taleb), “we borrowed from the future, and now the future wants it back!”

Until a fraud is discovered, we are all better off! (Kay has writen about the global financial crisis in terms of the bezzle.)

The asymmetric information between financial institutions and their customers – that is, just about everyone – and between fraudsters (call them bankers, fund managers… people who are claiming their bonus for no special performance) and institutions are able to make excess profits. Until of course they get found out. Clearly, even though they have been found out, a great many still think they are worth it.

There was a discussion about how better to align reward and performance – locked-in long term share options, maybe – and perhaps a more apposite debate on the kind of people we want running our companies. This last is important. The traders who do the jobs in banks may do so precisely because they are attracted to the high risk, high return environment. Whilst we might benefit from people with less risky approaches, they are unlikely to be attracted to those jobs. Similarly, the CEOs we appoint might actually be wrong for the job – but less aggressive, flamboyant people aren’t going to apply. And what board would appoint a wall-flower against an alpha male bull? Maybe we get the management we deserve.

I’m not sure if any of this really explains extravagant remuneration and the bonus culture that has been laid bare by the crisis. Maybe it is simply greed, and people gaming the system: trying to get as much as they can.

Internships

On Wednesday I had a debate on Twitter about internships. Liz Cable tweeted

I tweeted my immediate reaction (well, thought about it, and edited it down to 140 characters, thought better of sending it and then changed my mind – as one does…):

And hence I got into a friendly discussion with Liz, and also with Doug Shaw, who joined in. (As an aside, this kind of discussion emphasises some of the values of Twitter: we clearly hold different viewpoints, but are able to engage with each other and debate a topic back and forth. In 140 characters…)

I was surprised by strength of my reaction, and thought I’d set out my reasons hear.

Fundamentally, it stems from a belief that if one is engaged in productive work, one should be paid for it. We have laws protecting workers from exploitation – including setting a minimum wage. (Which isn’t much.) Using interns to do “real” work – tasks which an organisation would otherwise have to pay someone to do – is exploiting them. And, because of those laws, illegal.

If firms couldn’t use interns, they may need to hire more employees, paying them real wages at the minimum wage or above.

Only those who can afford to work for (more or less) nothing can be interns. They are therefore the realm of the privileged, increasing inequality and reducing social mobility.

I also think internships teach some of the wrong lessons. If someone’s first experience of a working environment is exploitative, exploiting others appears to be ok. Indeed, by allowing this exploitation, society is implicitly making it ok. And yet we bemoan a lack of business ethics as a cause of some of our economic ills.

I can understand why young people want to do internships: in a tough job market, anything that can demonstrate skills, determination and ambition – anything that might make a CV stand out from the crowd – will be pursued.

I can definitely see why companies want interns: a cheap supply of labour; and potentially seeing able candidates perform in a working environment must be better than more formal interview processes. The major benefit will accrue to shareholders: those firms using interns will make more profits (none of which go to the interns).

It is of course not this black and white. Interns are, I’m sure, willing: they want the experience. But the power in such a relationship is so skewed towards the firms that willing or not, it is still exploitative.

I can’t reconcile where voluntary work fits in to this, either. I have done voluntary work at different times in my career, and it can be rewarding for both the worker and organisation they volunteer for. But I think the power in this relationship is much more toward the volunteer.

I’m not the only person who thinks like this. The Guardian website describes internships as “institutional exploitation” and “a scandal” – as does the Daily Telegraph’s website (the latter referring specifically to internships with MPs in Parliament). The website JobMarketSuccess outlines many of the objections I’ve expressed.

None of my criticism of internships is directed towards Liz: I’m sure she is trying to do the best those for whom she needs to source internships, and I have no doubt she, the organisations she works with, and any interns placed would work in an ethically fashion.

Entrepreneurs and Scottish Independence: a debate.

The Entrepreneurs Club at the business school held a debate (jointly with MBM Commercial, a legal practice) about independence and businesses.

There were five speakers (plus Bill Jamieson in the chair, who recommended this report by ICAS on taxation and independence): J.P. Anderson; Gavin Gammell; Jim Mather; Ian Ritchie; and Ian Stevens. Of these, one was vehemently pro-independence, one vehemently pro-Union and three uncommitted but, I felt, leaning pretty much towards the Union’s camp. This surprised me somewhat – it made the panel feel pretty much unbalanced (albeit in a way that I strongly agree with). Could they really only find one business person who favours a “Yes” vote? (Also, why no women and no minorities?)

The two who felt very strongly both appealed to largely emotional arguments, in ways that, judging by the questions following the speeches, didn’t go down particularly well with the audience. The pro-Union speaker talked about the shared history of the Union, our strength as part of a large nation, and the fear of economic collapse under independence. The pro-independence speaker talked of England (and, specifically, London) creaming off capital and talent, how it was time for Scotland to stand on its own two feet, and how Scotland had to find its own destiny. His speech was painfully low on detail, and frankly jumped all over the place – though I will admit that I was never likely to be convinced by his emotional appeals.

The key issues for the three uncommitted-but-leaning-Union seemed to be

  • the damage caused by long periods of uncertainty (for a minimum of two years until the referendum, and in the case of a “Yes” result, perhaps another five whilst all the details are decided and the Union is unravelled), particularly regarding
    • relationships with EU and NATO
    • the currency
    • taxation
  • access to capital and markets
  • risks to funding research and education (specifically, Scottish institutions receive more from funding bodies on the basis of their research projects than a per capita share; and Scottish universities currently charge fees of English students which they would be unlikely to be able to do under independence, since they can’t charge students of other EU nations)
  • regulation, particularly of financial institutions (an independent Scotland could not afford to be the lender of last resort for either RBS or the HBoS arm of Lloyds, both of which might therefore need to be headquartered in England)
  • the role and size of the public sector in Scotland

Neither those for nor against independence were able to come up with a “business plan” for their outcome – indeed, one of the weaknesses of the Unionist argument seems to be the inability to produce a positive message for the Union: I agree we’re “Better Together“, but where are the positives of the Union (as opposed to scare stories)?

The crux of the debate came down to the inability of the “Yes” campaign to provide answers to many questions, so that people don’t know (and won’t know by the time of the referendum in two years’ time) what they’ll actually be voting for. Not their fault, necessarily (though the SNP government has been woeful in its obfuscation), but clearly critical for the key “don’t knows”.

The results of the poll at the end of the debate were:

77% vote No

Pretty categorical: 77% of attendees voted “No”, out of 115 votes cast (which means about 35 people, or 23%, couldn’t be bother to vote Or, more positively, a 77% turnout!).

Thoughts on “Shareholder Value”…

A couple of weeks ago, after yet another corporate tax avoidance wheeze came to light, I was having a Twitter-based conversation with Steve and Gordon about “shareholder value” – specifically, whether the need to maximise shareholder value was dictated by company law. (The answer, by the way, is – predictably – “it depends”. More on that later!) It echoed something that economist Robert Shiller said when he spoke at he spoke at the RSA last May – he said something like the pursuit of shareholder value was so enshrined in (US common) law that social entrepreneurs needed new legal forms of organisation structures to do what they wanted to do – otherwise they could be sued for failing to maximise shareholder value. (I wasn’t convinced by Shiller’s argument that a new form of company was needed, at least within the UK.)

These exchanges made me question the concept of shareholder value: my background in finance meant that I took shareholder value for granted – a no-brainer: it was the orthodoxy when I was training, over twenty five years ago (that’s the late 1980s, in case you can’t do the maths!), and again, fifteen years later when I did my MBA. It struck me as being good to review my understanding of shareholder value.

“Shareholder value” – there are many definitions, but this one seems simplest:

the value that a shareholder is able to obtain from his/her investment in a company. This is made up of capital gains, dividend payments, proceeds from buyback programs and any other payouts that a firm might make to a shareholder

– is the be all and end all of management. It stems from the separation of ownership of an limited companies by shareholders from the management of those companies – the principal-agent problem. By focusing on shareholder value, managers should align their interest with shareholders.

I still think this is simply stating the bleedin’ obvious: managers of a firm should manage the firm in the interests of the owners (the shareholders). It is the same for all employees – if you behave in a way that is detrimental to the company whilst performing your duties, you are likely to be sanctioned.

In financial decision making, maximising shareholder value is often synonymous with maximising the net present value of future income streams – calculating the discounted cash flows of a company. That is essentially how the market prices of share are estimated (and they go up and down as the market reassesses those future values). Allegedly.

This gives a relatively simple way to estimate shareholder value, and companies regularly assess new projects to maximise shareholder value.

The duties of directors to act for the advantage of shareholders is set out in the UK Companies Act 2006 (and previous versions of it, too!). But CA 2006 goes beyond its predecessors by establishing “enlightened shareholder value”. Section 172 of the CA 2006 states

(1) A director of a company must act in the way he considers, in good faith, would be most likely to promote the success of the company for the benefit of its members as a whole, and in doing so have regard (amongst other matters) to—
(a) the likely consequences of any decision in the long term,
(b) the interests of the company’s employees,
(c) the need to foster the company’s business relationships with suppliers, customers and others,
(d) the impact of the company’s operations on the community and the environment,
(e) the desirability of the company maintaining a reputation for high standards of business conduct, and
(f) the need to act fairly as between members of the company.
(2) Where or to the extent that the purposes of the company consist of or include purposes other than the benefit of its members, subsection (1) has effect as if the reference to promoting the success of the company for the benefit of its members were to achieving those purposes.

So whilst the company is to be run for the benefit of its members [shareholders] (s172.1), it requires a long term view (s172.1.a), consideration of employees (s172.1.b) and other stakeholders (s172.1.c and d), and maintaining a reputation for high standards (s172.1.e). Shareholders come first, but clearly CA 2006 reckons that the best way to maximise the benefit for shareholders is through its relationships with others. And, though I’m not a lawyer, I reckon that s172.2 means that the directors have discretion to do things other than in the immediate interest of shareholders for a longer term benefit. (Like making contributions to charity, perhaps?)

In the US, corporate law is set at a state level; for historic reasons, though, the small state of Delaware has over 50% of company registrations, and they are determined by Delaware General Corporation Law ((DGCL). This doesn’t set out directors’ duties, which are governed instead by common law.

The key ruling seems to be Dodge v Ford Motor Co (1919): Henry Ford wanted to expand production the company (of which he was the major shareholder) for the benefit of employees and customers – cutting prices in the process. (A strategy of going for growth and market share at the expense of profits.) The Dodge Brothers objected, and the court ruled in their favour:

A business corporation is organised and carried on primarily for the profit of shareholders. The powers of directors are to be employed for that end.

Shareholders have primacy.

This might seem unequivocal, but of course it isn’t. There is a huge amount of discretion for directors.

In public companies shareholders will have a huge range of objectives. Some may want a stream of dividends to supplement their income now; some might want future capital growth; some might simply want to have a say in what a company is doing (like protester at BP’s AGM). The CA 2006 covers this in s172.1.f – “the need to act fairly as between members of the company”.

But most shareholders are shareholders because they want some form of their wealth to increase through income or capital growth. The UK stockmarket was, in 2010, owned 11.5% by individuals, 41% by financial companies and institutions (pension funds, unit trusts, insurance companies and banks) and 41% by “rest of the world” (overseas financial companies and individuals). Anyone with a pension plan or investment has a direct or indirect investment in listed public companies.

Those financial institutions are increasingly measured by their relative, often short term performance: fund managers (the people managing the share portfolios of those unit trusts, pension funds and insurance companies) are measured on their quarterly performance, and so they assess the shares in those portfolios on quarterly performance as well. Focussing on “shareholder value” allows them to do this.

Additional focus on shareholder value has come from the rise of shareholder activism – particularly from hedge funds. Activist shareholders are nothing new – the Dodge brothers in Dodge v Ford were activist shareholders: they wanted to influence the company’s strategy in a particular direction.

There is no time-frame for shareholder value, which is what makes it rightly subjective: focus on the short term profit, like many hedge fund managers, and you’ll stuff future value. Focus on customers, employees, suppliers and (erm…) the broader community – focus on relationships, if you will – and your business will grow for the future but perhaps at the loss of those short term gains.

For instance, Starbucks may have maximised its current shareholder value by legally minimising its corporation tax liability, but at the expense of its reputation once the story broke and, if customers act on this knowledge and choose to buy someone else’s coffee, future profits.

I know which I prefer.

“Caring Capitalism”?

There was a bit of an unintentional theme running through a couple of events and conversations I’ve been to over the past few weeks regarding the future of capitalism and corporations, and then last week Ed Miliband’s speech at this year’s Labour conference continued his emphasis last year on “predatory capitalism“.

Miliband was talking about aggressive capitalism which he saw as damaging the economy, and I doubt anyone could really disagree right now.

Last month I went to a talk on “caring capitalism” – perhaps the antidote to Miliband’s “predatory capitalism”. Focusing on social enterprise – as the speakers pointed out, a broad term with no real definition (though Wikipedia has a go) – as a means to create a more just society, a few different models were explored: though frankly none of them seemed particularly new.

For Helen Chambers and Mary Duffy, a social enterprise is one which exists specifically for social purposes, working within a commercial, for profit model – with a commnon principle “to do good”. Two specific organisations – Haven Products and Rag Tag ‘n’ Textile – were used as examples though the latter is a registered charity (and hence a not-for profit – although presumably just as many charities run retail, for profit operations, it does too). Both these organisations work largely for the benefit of their employees, providing opportunities to those who might otherwise not find employment.

Other objectives for social enterprises include working for the benefit of employees more generally, suppliers (such as fairtrade), the environment, and the wider community.

Whilst social enterprises might explicitly have such objectives, I can’t help thinking that most commercial corporations implicitly act in a similar fashion: a business which works against customers, suppliers or the community should not prosper, at least in the long term: if you work against customers, they will move (that’s what competition is about). Many commercial, profit-seeking organisations make large donations to charity – including banks such as the near-collapsed RBS. The rising interest in corporate social responsibility has focused investors, managers, employees and other “stakeholders” on organisations’ governance, ethics, ways of working and their internal and external relationships. (Much of this may be mere window dressing, though…)

Much of the talk was about social investment. It sounded like a wall of philanthropic finance was pouring into a small, undeveloped and fragmented sector: this could distort the economics and lead to imperfect allocation (one of the things markets are supposed to be good at – though the economic crisis has clearly dented that particular claim). But the amounts of money are still chickenfeed compared to the amounts spent by governments.

Nor is philanthropy anything new – Andrew Carnegie distributed his large wealth, endowing libraries, museums and universities; other “robber barons” such as Frick, Rockefeller and Vanderbilt did the same. Indeed, contrite financiers such as Michael Milken have tried to make amends through charitable donations and work, though the rich have long been using the gains – ill-gotten or not – to buy forgiveness.

Most social enterprises are small: perhaps it is easier of small organisations working outside the usual constraints of (non-social) investors “to be good”. Certainly large, international corporations seem to suffer from much of the criticism – perhaps because they are further from their suppliers, customers and communities: and of course one of the main advantages of large organisations – the ability to leverage economies of scale – means that someone, somewhere is paying more or getting less than smaller firms.

I still believe that outside a few industries – tobacco, arms and extractive industries, perhaps – all businesses benefit from “doing good”, if they want returning customers. Perhaps some organisation structures are better fitted for this than others – cooperatives, employee-owned firms or mutuals, perhaps. With businesses focused on customers, employees and suppliers, all organisations would be “social enterprises”: exploitation of one or oanother of these key groups would be to the detriment of the business.

Or what am I missing?

Trying to Understand the Financial Crisis…

Some time back, someone shared a new acronym with me: GFC. For those, like me, not in the know, this is apparently the hip shorthand for the global financial crisis – the economic mire that engulfs us all. It has been going on, more or less, for five years now, with every indication that it will get worse. It is its evolution from a banking crisis to a sovereign debt crisis – at least within the Eurozone – that gives me my optimistic outlook. I’ve been trying to write this post for ages, but every time I do, the story gets bigger and and seem to be constantly changing. It still is.

I have written this in an attempt to understand how we got here. I must stress that, whilst I have taken a couple of classes in economics, I am not an economist. I am sure I am missing large chunks, and I look forward to being corrected by people who have a greater understanding of these matters than I have.
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The Fallacy of “Security”: anything but…

I’ve had two recent experiences involving organisation processes in the name of “security” that were deeply insecure and added no value – and no security – at all.

The first was in my local supermarket. I wanted cash-back in a debit card transaction. The cashier printed off the receipt, asked me to sign it to authorise the transaction – which I did – and then handed the signed receipt back to me to dispose of anyway I liked.

This process added nothing. In other supermarkets, I have been asked to sign the stores’ copy of the receipt – in which case they then have evidence that I authorised the transaction and had accepted the cash. This presumably formed part of those organisations’ audit trail – though I never believed that any supermarket retained a paper copy of the transactions, relying instead on their electronic systems. (I’ll happily be disabused of this.)

But for my local supermarket to get me to sign the receipt and then hand it back to me makes no sense whatsoever. It is, frankly, bonkers. I can only assume that the cashier was incorrectly completing the process, or the store management had instigated a process without understanding why or what outcome they wanted. Instead, they just held up the queue a little.

[Edit: Joanne Jacobs has pointed out that by the shop making me sign my receipt, they may be protecting themselves against my returning with the receipt and claiming I didn’t receive the money. This is true – although by getting me to sign the receipt before I’ve received the money, it is still open to abuse by the check-out person…]

The other experience involved my bank. I called them to arrange payment of my tax bill. The operator asked for my phone number, which I gave them. And today I had a phone message from my bank saying that the payment hadn’t been made because they wanted to check that it wasn’t fraudulent. Aside from the unlikely scenario that a fraudster would be paying a tax bill – I mean, really! – my bank phoned the number that someone they thought might be a fraudster had given them to check that person wasn’t a fraudster. Their security check involved information that I imagine anyone determined to pretend to be me would be able to find out. (Though it is a good idea to keep a lot of that kind of stuff hidden on Facebook!)

I completely accept the need for security, but having “security” processes that do anything but provide security is dangerous: if my bank actually believes that what they do is providing them and their customers security from fraud, then they really do have big problems.