We Need A New Business Mission: Maximize Value, Not Profit

Since the late 1970s, when American companies were fat and complacent, the focus of American business has been on the bottom line.

Spurred on by activist shareholders, private-equity firms, and bonuses based on stock prices, managers have become obsessed with maximizing quarterly profits.

This new focus has produced remarkable results.

Over the past three decades, big American companies have gone from having below-average profit margins to the highest profit margins in history. (See chart above).

Unfortunately, this obsession with profit maximization has come at a cost.

By focusing their entire effort on the bottom line, many American companies have reduced their value to the other constituencies that great companies serve, namely customers, employees, and society.

One result of the profit obsession, for example, is that big American companies are now paying the lowest wages as a percent of the economy in history.

This means that a record-low percentage of the vast wealth these companies have is being shared with the people who help earn it. (See chart at left).

Another result is that companies are now scrimping on capital investments, which have also dropped sharply as a percent of the economy.

Both of these efficiency initiatives help "maximize profit," at least in the near term.

But they hurt the economy.

And they also hurt our companies' overall growth rates.

Why?

Because every dime that companies pay out in wages and capital investment becomes revenue for other companies.

Rank-and-file employees at American companies--Walmart employees, for example--are also American consumers. They spend nearly everything they earn buying food, clothes, gas, houses, entertainment, and other products and services. This money then becomes profits and wages for companies that provide thoseproducts and services. And so on.

The problem in the American economy right now is not that there isn't enough investment capital. There's plenty of it. (There's so much of it, in fact, that some companies don't even know what to do with it: Witness the massive cash mountains building up at companies like Apple, Cisco, Google, Bank of America, JP Morgan, et al.)

The problem is that average American consumers are over-indebted, under-employed, and broke.

And these consumers account for a staggering 70% of the spending in the U.S. economy.

To restore the economy to health, we need to persuade our companies to balance their priorities--to share more of their wealth with the employees who help earn it.

More broadly, we need to persuade our companies to focus on creating value for all of their constituencies, not just shareholders.

Specifically, we need to persuade our companies to pay people more.

The can do this by aiming to earn a reasonable profit, not a "maximized" one.

And they can then reinvest their excess profits in creating more value for their other constituencies, namely customers, employees, and society.

Importantly, it is very much in companies' self-interest to pay employees more.

If companies pay people more, they'll increase loyalty, reduce turnover, and get better employees. This should reduce training and hiring costs. By increasing customer satisfaction, it should also increase revenue. By paying employees more, companies will also put more money in the hands of American consumers, who will then turn around and use it to buy products and services from American companies. So the companies will help accelerate the growth of the economy as a whole. And as the economy grows, so will the companies. This, in turn, will help create more long-term shareholder value.

In short, to restore our economy and society to health, we need a new corporate mission in America.

We need to stop maximizing profit and start maximizing value.