CHAPTER 1 CORPORATIONS IN AMERICA AND AROUND THE WORLD

WE LIVE OUR lives surrounded by corporations and their products. At home, at work, in public places, we see their brands (Coca-Cola), eat their food (McDonalds), use their products (Apple), track their share prices, and use their names as verbs (Google, Xerox). It seems that corporations rule the world.

This book makes a surprising claim: Corporations are in decline, and are reaching the end of their reign in the United States. This is surprising for many reasons. Public corporations (those that sell shares on the stock market) have been the most important institutions in the American economy for more than a century. Corporations are the biggest employers and produce the biggest part of our economic output. Most American households own shares in American corporations, and many depend on these investments to fund their retirement and their children’s college expenses. Corporations are also deeply involved in the American political system, using their economic power to promote policies that favor their interests. Love them or hate them, public corporations seem indispensable.

We tend to think of corporations as a permanent part of the landscape, like a mountain range that has always been there. But corporations are more like the palace at Versailles where King Louis held court. The monarchy in France seemed eternal, endowed by God with the authority to rule. Yet over the course of a few months during the French Revolution, the monarchy and its associated institutions fell. Things that had been taken for granted for generations—even the names of the months and the units of measure—were up for grabs.

I argue in this book that we are in a situation like that now. Corporations in many domains have outlived their usefulness, and their decline will bring about major shifts in American life, from how we earn a living to how we get health care to whether we can afford to retire.

This chapter provides the background for the rest of the book by explaining what a corporation is, why it looks different in different countries, and why they are changing. Although many people think of “corporate” as a synonym for “business,” the corporation is a very specific way of doing business, and the public corporation is a special type of corporation. We want to be clear on our terms before we dive in too far.

What is a corporation?

THE WORD “CORPORATION” calls to mind images of hierarchy, money, and power. If asked to draw a corporation, many people would sketch an organization chart shaped like a steeply pitched pyramid. At the apex would be a middle-aged white guy with a thick head of hair, clad in an expensive suit, looking something like Alec Baldwin without the smirk.

For Americans, General Motors in its heyday might serve as an appropriate stand-in for the corporation. At its peak GM had nearly a million employees, from the vast unionized workforce operating its countless factories to an enormous white-collar office staff occupying its headquarters tower in Detroit. GM was the world’s largest manufacturer, with outposts around the world making cars around the clock. When the first Fortune 500 list was published in 1955, GM was at the top. In Modern Times, Charlie Chaplin provided an indelible image of the industrial worker at a company like GM, trapped in the gears of the corporation both physically and metaphorically.

Most of us think of the corporation as a specific kind of organization. When presidential candidate Mitt Romney told a heckler that “corporations are people, my friend,” he expressed the sense that corporations are simply a group of people—sometimes very large—trying to do business together.

If you ask a lawyer, however, you will learn that a corporation is simply a legal device with a few features that are useful for contracts and financing. Corporations generally have limited liability, legal “personality,” and unlimited lifespan. Limited liability means that when people do business with a corporation, such as lending it money, they understand that it is the corporation as an entity that owes them money, not the corporation’s owners or managers. If the company goes bust, lenders can’t show up at the shareholders’ houses and start carting away their furniture. However, limited liability does not mean that corporations or their owners and employees are not legally liable for their actions. An executive who commits a crime in the name of the corporation is still a criminal.

Legal personality means that the corporation can “sign” contracts and own things, just like a person. The corporation is not just a group of people, but has its own peculiar existence separate from them. Legal personality does not mean that corporations have rights identical to actual human beings.

Unlimited lifespan means that corporations can be maintained by different people and can last indefinitely. All of a corporation’s employees and shareholders can change, but it is still the same corporation.

Corporations are useful for many purposes, not just business. Nonprofit organizations and municipalities are often legally organized as corporations. One of the most famous legal cases in history, Trustees of Dartmouth College v. Woodward, decided by the US Supreme Court in 1819, laid out the legal status of the corporation—in this case, Dartmouth College and the sanctity of its contracts. A change in personnel does not automatically mean a change in the corporation’s status or contractual obligations.

Corporations differ from other kinds of organizations and legal entities in important ways. The things that distinguish corporations determine very practical matters, such as who or what pays the taxes and who/what is financially liable or is being lent to.

In spite of their special legal status, corporations are easy to create and destroy. You can create a corporation right now by visiting the Liberian Corporate Registry at the website http://liberiancorporations.com/corporate-entities/corporation/forms/. You would not be alone in “virtual Liberia”: Miami-based Royal Caribbean Cruises is incorporated in Liberia, as are a number of other companies that reside physically in America, which find substantial tax advantages in maintaining Liberian citizenship.

Some big businesses are not “corporations” at all. After it was sold by Daimler, automaker Chrysler—with $50 billion in revenues and 72,000 employees—was an LLC, not an Inc. An LLC is a “limited liability company,” which is a sort of legal mash-up between a corporation and a partnership. The LLC has grown to be perhaps the most widely used legal form of business organization in the US (and can be owned by parent corporations, such as Amazon Services, LLC, owned by Amazon.com, Inc.). The late legal scholar Larry Ribstein labeled the LLC and other formats “uncorporations” to distinguish them from traditional corporations and partnerships. LLCs are typically cheaper to establish than a corporation (in some states as low as $50), highly flexible, and have certain tax advantages, as well as offering limited liability to their owners.

The distinction between a “corporation” and an “LLC” or other legal form may seem trivial, but there are good reasons why LLCs have become so popular and corporations are in decline. One is regulation: When Congress wants business to behave, it often does so by passing securities laws that are only relevant for corporations listed on the stock market. The Foreign Corrupt Practices Act (aimed at preventing companies from paying bribes) and the Dodd-Frank Act (which requires companies to disclose if their products contain “conflict minerals” that could fund atrocities in the Democratic Republic of Congo) are examples that apply to listed corporations but not (in general) to LLCs. Although we will not focus on LLCs in this book, their popularity makes it clear that there are a lot of legal formats for business that are not corporations.

The corporations that we will be concerned with in this book are “public corporations,” the biggest and most visible form of organization. Most of the companies that people call to mind when they think of business are public corporations: GM, Apple, Walmart, Exxon, Coca-Cola. Public is a slightly confusing term here, because it does not mean “owned by the broad public” (like a national park) but “having ownership shares traded on stock markets.” It is “public” in the sense that the public can buy and sell shares (in contrast to, say, a partnership or family-owned company). When companies “go public” or make an “initial public offering” (IPO), they are making shares available for purchase on a stock market. At this point, if they are American companies, they are almost inevitably organized as corporations under the laws of one of the 50 states (usually Delaware, for reasons to be explained later).

For almost the entire 20th century, public corporations such as AT&T and General Motors controlled the bulk of economic activity in America. The decline of these corporations is the topic of this book.

“Corporation” and “business” are not the same thing

IN EVERYDAY USAGE, “corporate” often refers to anything having to do with business, finance, or money. Almost any business larger than a mom-and-pop store will be regarded as corporate, even if (as in the case of most McDonald’s outlets in the US) it is a partnership, family-owned business, or other form. Perhaps due to the widespread corporatization of the economy for much of the 20th century, commerce is seen as corporate unless proved otherwise.

Corporate is often used as an epithet. When we say someone has “gone corporate,” we mean that they have started wearing a suit, greeting people with a handshake, and nattering on about value added and leveraging and core competences. Music is corporate when it is soulless, slick, and overproduced. “Corporate” is the antonym of “indie” or “alt.”

But it is worth being precise when talking about corporations. When commentators worry about “corporate money” dominating politics, they often mean that wealthy people (and the shadowy organizations that they fund) have too much influence. The Koch Brothers often serve as poster children for corporate influence, even though Koch Industries—the source of their wealth—is a privately owned business, not a public corporation.

Does it really matter if a hedge-fund billionaire gains his or her wealth through an LLC chartered in the Cayman Islands rather than through a Delaware corporation traded on the New York Stock Exchange? The answer is yes. Corporations, particularly those listed on stock markets, really are different in essential ways from other ways of doing business, from how they are funded and taxed to whom they owe obligations and legal responsibilities. This is why Michael Dell and his colleagues were willing to go to great expense to take Dell Computer private (that is, to buy out all its shares and de-list it from the stock market). Public corporations face greater scrutiny and more extensive regulation than other kinds of business. Companies that need to undergo substantial restructurings, or want to avoid scrutiny, have reasons to avoid being public. Put another way, it is often easier for the government to shape the actions of public corporations than private companies. This matters for public policy and our ability as a nation to guide corporations to behave themselves.

Corporations look different around the world

HOW IS THE corporation like breakfast? The question sounds cryptic, but consider the range of foods that count as breakfast around the world. In Sweden, it might be smoked fish and dark bread. In Korea, soup and rice. In France, a croissant with preserves. In Israel, fresh salads and fish. In Switzerland, muesli and yogurt. In Canada, pancakes and maple syrup. And England’s hapless citizens are forced to eat sausages, eggs, and baked beans first thing in the morning.

Other than being the first meal of the day, “breakfast” seems to mean wildly different things around the world. Calling a meal “breakfast” provides surprisingly little information about what kind of food will be served, and only slightly more information about when it will be served. The same is true of the corporation. Although we might expect some basic similarities among the world’s corporations, we would be wrong, as even the most successful industrial economies host quite different kinds of corporations.

Start at the top: What should the board of directors look like? Boards of directors oversee the broad operations of the corporation and are ultimately responsible for its activities and performance. Given the globalization of financial markets, one might expect best practices in corporate governance to be fairly standardized for the world’s largest corporations. Yet in the US, a corporate board typically contains roughly 10 members—the Chief Executive Officer, Chief Financial Officer, and eight unaffiliated outsiders. For instance, GM’s board has only one insider and eleven outsiders, comprised largely of retired CEOs. In Japan, a board might have twice as many members as in the US, with a large majority being company insiders. At Toyota 12 of the 15 directors are current or former executives of the company. German corporations are legally required to have half of their supervisory board elected by the employees, to ensure that labor is represented in corporate decision making. This is true at Daimler, where 10 of the 20 board members are elected by employees. And China’s Geely Automotive board includes eight executive and six nonexecutive directors.

In short, even among the world’s four largest and most successful economies, there is no shared standard for how the board of directors should look, even within the same industry. The same is true all the way down: Like breakfast, corporations look very different around the world.

Countries also differ greatly in their number of stock market-listed companies, and even in whether they have corporations at all. We tend to think of the corporation as an unstoppable invasive species, spreading like bamboo, but in some sense it is more like an orchid, requiring very specific conditions to thrive. Half of the world’s economies do not even have stock markets, which rules out the possibility of public corporations. Of those economies that do have stock markets, half have had them for less than 30 years. The collapse of the Soviet Union left former communist countries with the problem of how to transition from government ownership to privately held ownership on a massive scale. Thus, in a brief period, stock markets erupted all over Eastern Europe thanks to “mass privatization,” in which marketable shares in state-owned enterprises were handed over to the public. The People’s Republic of China had no stock market from the Revolution in 1949 until 1990; the Shanghai Stock Exchange is now one of the largest in the world.

Yet corporations are neither necessary nor sufficient for economic vibrancy. Countries can have vibrant economies with few corporations, or they can have weak economies with many corporations. Thailand had 613 public corporations in 2014, according to the World Bank. Germany, whose economy was almost 10 times larger than Thailand, had only 595. The Netherlands, birthplace of the modern stock exchange, had 130. Vietnam, a more recent convert, had 305. It is, in short, entirely possible to have strong, export-oriented economies with few corporations. On the other hand, a large corporate sector is no guarantee of economic vitality.

Corporations look the way they do because of their country’s history and institutions. Corporations grow up at different points in a country’s development. American corporations emerged during the railroad era and developed with manufacturing firms around the turn of the 20th century, when there was a lot of uncertainty about what a corporation ought to look like. Through trial and error, they came to look the way we know them today. In contrast, Korean corporations developed in the 1950s and 1960s and were able to draw on proven models from other countries. Korea adapted the corporation to its own particular needs over a number of years, guided by a broad agenda of economic development after the Korean War. In contrast, former Eastern Bloc economies adopted entirely new formats of corporate economy more or less overnight with the breakup of the Soviet Union. In some cases, this was successful; in others, it was disastrous, as the officials responsible for managing the transition from communism to capitalism found it to be an opportunity for looting on a world-historical scale. Dynastic fortunes were created overnight, but it would be hard to see this as a triumph of free markets.

Just as local architecture is shaped by the traditions and raw materials of a region, corporate structures are shaped by aspects of the economy and society. Scholars have found that five broad factors are particularly important for shaping the kinds of corporations and other businesses a country gets, and why corporations look so different around the world. These factors include how the labor market works; how critical financial markets are to funding businesses; how product market competition is encouraged or regulated; the organization of the education system; and the character of the social safety net, including things like health insurance, unemployment insurance, and pensions.

In the US, for instance, corporate employers after World War II provided health insurance and retirement security, which has resulted in workers dependent on particular employers and created expenses for firms that they do not bear elsewhere. American corporations have elaborate human resource functions to deal with these requirements, and an army of bureaucrats to regulate them. In Denmark, on the other hand, the national government assures access to health care and retirement security regardless of employment status, making it less costly to start up new businesses, and less risky to work for them.

Efforts to transfer practices or institutions from other countries are often doomed to fail because they require a supporting “ecosystem” to work. “Why can’t you be more like Germany, with its thriving export-oriented manufacturing sector?” German manufacturing firms benefit from a strong vocational education system that trains skilled workers for entry-level jobs; a tradition of labor-management collaboration; family ownership coupled with bank financing rather than market financing; a long-standing orientation toward selling on global markets rather than just domestic markets; and a well-established social welfare system that encourages employees to invest in skill development. Just as it’s hard to grow coffee in Canada because of its soil and climate, it’s hard to grow German-style manufacturing firms in the US because we do not have the right institutional ecosystem for German-style firms. Notably, a handful of German firms like BMW are attempting to replicate parts of their traditional ecosystem (such as vocational training) in exotic places like South Carolina.

The corporation in America

TO A GREATER degree than almost any other country, the United States has had a corporatized economy for generations. From early in the 20th century, corporations controlled most of the nation’s economic assets and employed the bulk of the labor force.

Individual corporations dwarfed the size of other social institutions. In 1910, US Steel’s assets were far larger than the federal government’s annual budget. By 1930, a mere 200 corporations controlled half of the nation’s corporate assets. Commentators at the time stated that corporations were more similar to nation-states than to traditional family-owned businesses. When GM’s CEO (and later Secretary of Defense) told Congress in 1953 that “what was good for the country was good for General Motors, and vice versa,” it was not meant arrogantly or sarcastically. The health of the economy and the health of the largest corporations were inextricably tied. To a great extent, particularly after World War II, the largest corporations were the economy.

But if the corporation is the foundation of the American economy, we need to be concerned. GM had about as many employees in 2015 as it did in 1928, which was just one-fourth of its size in the 1980s (see Figure 1.1). Its total North American workforce today is about as large as the number employed at Ford’s famous River Rouge plant in the 1930s.

An optimist might suggest that those jobs have simply shifted to other, growing industries, such as computers and electronics. Yet according to the Bureau of Labor Statistics, employment in the computer and electronics industry has actually shrunk dramatically since 2000, dropping 750,000 American jobs (see Figure 1.2). Telecommunications and information services? Nope: They had one million fewer jobs in 2013 than in 2000 (see Figure 1.3).

In fact, the number of public corporations has collapsed in recent years. In 2012 the US had less than half as many public corporations as it did in 1997 (see Figure 1.4). As we will see, this is not simply due to consolidation and mergers. Westinghouse, ITT, Eastman Kodak, Circuit City, Blockbuster, Borders, Lehman Brothers, Washington Mutual, and many other household names are gone (or mere stubs of their former selves), and they are not coming back.

This book argues that the corporation is not an eternal institution but a transient one, at least in the long sweep of history. Corporations survive if they have an economic rationale and their revenues can cover their expenses. They are not supernatural beings like vampires (their unlimited lifespan notwithstanding). If they can’t cover their costs, and there are better ways of doing what corporations did, they will eventually die. If Netflix, with 2,000 employees, can provide videos more cost effectively than Blockbuster, which had over 80,000 employees in 2004, then Blockbuster will perish. As we will see, the winner need not be a corporation, or even a for-profit business: If the nonprofit Wikipedia does a better job than Encyclopedia Britannica, then the 240-year-old institution will close (unless it finds a sugar daddy indifferent to profit). There is no crying in baseball, and there is no sentimentality in the corporate world.

The major claim of this book is that the public corporation fit well with the requirements for doing business in the 20th century, but it is an increasingly bad fit for 21st-century business. Corporations are tools for getting things done under particular circumstances, like monarchies, or diesel trucks. Although we might treat the corporation with reverence as a social institution, like the church or the family, it is primarily an economic institution, and one whose time—at least in many domains of economic life—may have passed.