Corporations, behavior, and the Law

(Mods: I think this may have a factual answer, but if not, please feel free to move wherever is best)

I have a basic – ie, about high-school level – understanding of publicly-traded corporations, so if I’m totally wrong here please don’t hesitate to whack me with a ClueBat.

It has been related to me in several places (including here, if I could just find the thread, dangit) that a corporation – or rather, the CEO and the Board – has one function: to bring revenue to shareholders.

Does this mean that, legally, they are required to do the absolute minimum necessary to retain customers, since doing more than that would negatively affect short-term revenue?

Long-term, of course, good customer service generally equates to greater profits. But are they allowed to take that into account?

In essence, I’d like to think that greed isn’t the sole purpose behind some corporate decisions. If they’re in part based on required behavior, then we (the schmucks at the bottom) have a chance at changing the requirements, and thus, the behavior. I don’t believe we can ever change greed, though.

My understanding is that either long-term or short term profit objectives are legally acceptable. The problems tend to arise in how incentives are stuctured. When incentives are structured for short-term profit, that tends to be what is achieved.

This site attributes the current situation to “corporate law as interpreted by state courts,” so I’m not sure there’s going to be a single law we can point to.

http://www.commondreams.org/views02/0419-09.htm

Also, and perhaps this is obvious, but it’s not cops who come knocking on your door and say “Hey, we caught you failing to maximize short-term profits today.” If people have experienced losses because you failed to maximize profits, you lose your position and/or get sued. If the decision was clearly good over the long term but not the short term, that would help with defending yourself in a lawsuit. The legal environment is intended to keep the focus on corporate rather than personal gain. The short-term vs. long-term issue seems like more of a side effect.

This is definitely not the case. Take Tiffanys vs WalMart. Nobody is suggesting they sack the director of Tiffanys because the employees do more for customers than they do at WalMart. Companies regularly take actions that negatively affect profit, even something as small as a company picnic.

Broadly speaking, the board represents the interests of the individual shareholders, and is responsible for protecting their investment and obtaining a good return on that investment. What that means is highly dependent on the industry.

Don’t discount greed either, it’s taken us an awfully long way. What’s great about greed is that you don’t really have to convince anyone to take the more profitable route, they’ll do it all on their own. Put a legal framework around greed to prevent gross injustices and you have a functioning economy.

What you are talking about here is the business judgment rule:

http://clrc.ca.gov/pub/BKST/BKST-EisenbergBJR.pdf (pdf page 8)

http://law.bepress.com/cgi/viewcontent.cgi?article=5078&context=expresso

http://www.professorbainbridge.com/2004/01/the_business_ju.html

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=429260

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=711122

http://www.lindabury.com/resources/Application%20of%20the%20Business%20Judgment%20Rule.PDF

As you can see from these discussions, the rule is a mushy one, and scholars debate how much review of the substance of corporate decisions courts actually engage in. That said, nobody suggests that the rule permits a plenary review of board decisions, and short-term revenue is one objective among many. The short answer to the question:

is no.