This paper explains and evaluates ?Reclaiming Shareholders Power? an article that appeared in Financial Analysts Journal for May-June 1997 edition. This article was written by Victor F. Morris, which gives the readers an overview about shareholders power and a conduit proposal.
This critical analysis consists of several sections : introduction, relevance of article to course content, analysis of the logic and completeness of the author?s argument, analysis of the strengths and weaknesses of the article, logical basis of agreement or disagreement with the key issues in the article, and a brief conclusion. Bibliographic support was obtained from Internet sources and the text book for MC 556. Moreover, this article is well organized, and supported by facts that shareholders are trying to improve their power in a company by making some changes in the company.
In one corporation there is a separation between the owners and the management, and the owners in the stockholder?s meeting elect all of the company?s directors. After all of the directors have been elected by the stockholders, the company?s directors would pick managers to help the directors to run the company on a daily basis operation. The purpose of a company to hire managers is to give the stockholders return on their investment and create stockholder wealth maximization in the future. The stockholder wealth maximization usually reflects on the company?s stock price in the market. The higher the company?s stock price in the market, the wealthier the stockholders, because of the capital gain that is reflected in the stock price.
However, this article of ?Reclaiming shareholder power? written by Victor F. Morris illustrates that the owner of a company should have more power than the managers within a company. The author of this article argued that a corporation has a lot of power since a company controls all of its retained earnings by not distributing all of the company?s income to the shareholders. Thus, he also comes up with a conduit solution that could reclaim shareholder power where the retained earnings have to be distributed to the shareholders, and by doing so, a double taxation can be avoided for the company?s earnings.
Relevance of the Article to Course Content
The article ?Reclaiming shareholder power? is directly related to the Management of Finance course, MC 556. This article describes subjects we have already discussed in the class such as maximizing shareholders wealth, dividend, depreciation, and distribution to shareholders. The syllabus also explains that by the end of this course we have to understand the ethical issues facing the financial institutions at this moment. We also have to understand that managers within the organizations must satisfy the stockholders? return on investment. Because the stockholders always consider an opportunity cost where they can invest elsewhere and earn enough money as a return on their investment. This article mentioned who should take control and have the power to determine the direction of a company.
Logical Analysis of the Author?s Presentation
The author of this article argued that shareholders should have more power in determining the direction of a company. He also wants a solution of how to get a balance between shareholders and the company. This article gives some solution such as the conduit solution to apply in the organization to make shareholders have enough power in a company. Under the conduit solution, the author explains that all of a company?s benefits should be distributed to the shareholders according to what they have invested in a company. By implementing the conduit solution, the author also mentioned that a company?s earnings would not get a double taxation since he also mentioned in the article that people pay taxes not corporation. If all of a company?s earnings were distributed to shareholders, the shareholders would receive more money that distributed through dividend. The company?s earnings would be taxed based on the individual?s taxes not company?s taxes. Moreover, the conduit solution would avoid what the author believes and what happens today as a double taxation. However, management within the organization do not like what the author mentioned as the conduit solution. Because companies would be forced by shareholders to distribute the company?s earnings through a dividend pay out. The company?s retained earnings are part of the company?s capital structure. If retained earnings should distribute to shareholders, the company?s cost of capital would be high and the internal rate of return would be less. As a result, the company?s management would disagree with the conduit solution because they would lose their power within the company.
The author?s argument is logical in terms of maximizing shareholders? wealth and power. However, the author fails to see from the company?s stand point and the company?s capital structure. Although the conduit solution that the author represented above in terms of maximizing shareholders? wealthy is important to consider, the author should also understand the purpose of holding money for a company. The company can use retained earnings for speculation, investment, and precautionary as to make company has a lot of power.
Analysis of the Article?s Strengths and Weaknesses
1. This article is effective in describing shareholder power that leads to maximizing shareholders wealth. This article also gives an overview of how shareholders would get power within the organizations.
2. The author does not only give his own opinion, but he also provides some hard facts that help readers understand the content of the article. The author also gives other people?s opinions in this article which is good, because by supplying outside opinions, it helps the article look strong and seem more credible.
3. The author is qualified to write about this topic since he is a certified financial analyst that knows a lot about the situations.
4. The article is not too wide or too narrow, since the author was focused enough on the topic and he also gives solutions to consider.
1.The author only writes the problem from the shareholders? stand point. He just wants to increase the wealth of the shareholders without considering what is going to happen with companies if the conduit solution is exercised.
2.The author seems to have other purposes in writing this article so that the readers think that the author is right about what he presented and argued in this article.
3.The author only gives the negative impact to the shareholders about what currently happens in the company and he also blamed the current tax law that have been applied to the company?s earnings.
Logical Basis of Agreement and Disagreement
The author of the article was trying to bring back the shareholders power within the organizations, but managers within organizations would not feel comfortable with this issue. This argument seems to be logical if we look at it from shareholders stand point of view. The author of this article gave a good explanation about the conduit solution that would benefit to shareholders. He tried to give clear picture about the conduit solution and how it would benefit shareholders. The author explained that management should not always authorize the company?s retained earnings, since shareholders were able to get such retained earnings and invested to the most profitable investment. But, management may not like such ideas.
According to Robert Monks and Nell Minow, people who run a company should consider shareholders? accountability within the organization (1996). They also mentioned that ?corporate stakeholders and constituents benefit most when management devotes its loyalty, energy, and competence to maximizing the value of the enterprise?. However, we have to realize that in one company both management and shareholders should get same or equal benefits. There should be some sort of balance in getting benefits for both management and shareholders in one company and that would benefits the stakeholders and the whole society.
However, from this article, Peter Rona who is an unknown writer that the authors brought into their article was disagreed with the author of the article. He said that, only the management and the board would benefit in managing a company, and shareholders should have nothing to do with it. From his statement above, Rona believed that the board and the management are people who really understand about the company since they understand what happens in the organization. Thus, shareholders should not be involved in managing the company since they do not understand the situation in the organization.
In conclusion, different from the article above, the conduit proposal may not be such a good idea for a company. Because, the conduit proposal would only benefit the shareholders themselves without considering the board and the management within a company. The conduit solution would also make people within the organization reluctant and have no energy to operate a company in a good way. They would feel that shareholders only think about themselves without regarding the people who make them wealthy as a result of the company?s performance that leads to the high price of the company?s stock in the market. However, maximizing the shareholders value is so important to consider since it?s the purpose of a company.
Moreover, management within the organization whose understand the company?s performances not shareholders, and management know how to allocate its money. The company also need capital from the retained earnings to get a return from its own cost of capital without using outside sources that can increase the company?s cost of debt. Finally, from a legal perspective, if shareholders have power in the organization, that would be considered a sole proprietorship in term of power and distribute the money.
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