Sitting in Washington Dulles airport I am reviewing a book. Amongst its authors' claims is the suggestion that it is profit that motivates the creation of business enterprises. I have to say I disagree. My comment was:
That's a very big assumption, which in my experience is not true. It is the identifying characteristic of most surviving enterprise that they have made profit, but that characteristic of surviving businesses does not permit the assumption that the making of profit was the motive for their creation . The motive for the enterprise is very often something else: it is just frustrated if cash is not generated to deliver survival. I actually think your claim is wrong for that reason.
When it was then claimed that CSR might be a check on the profit motive I was again motivated to challenge the assumption. CSR might do the exact opposite: it might actually remind the owner that they have a duty to make profit to ensure survival on behalf of the stakeholders of the business.
I say this based on my experience of working with many businesses. The book I am reviewing is by academic authors. I am not saying who is right or wrong. But I think assumptions have to be discussed, including (perhaps in economics, most especially) that the profit motive has a special significance when satisficing is much more likely, in my opinion.
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I certainly agree with you Professor Murphy. Admittedly my experience is limited, but I know small business owners who started businesses because they are passionate about teaching music, painting landscapes, arranging flowers, drinking coffee etc. They hope to make a living doing whatever it is, but that isn’t their primary motivation. If it was they’d quickly get bored!
Absolutely
And that, not profit, is the general rule
Economics is wrong again
This reminds me of John Kay’s book Obliquity in which he cites numerous examples of companies that focus entirely on profit ( or shareholder value ) , but which aren’t necessarily the most profitable and in some cases cease to exist once they reach the point where they can no longer increase profit.
True
I had forgotten that book
“Are businesses really formed to make profit?” I think this is a very interesting question. If I look at all the tech businesses of the recent years, I get the impression that they were formed because founders were really enthusiastic about the tech in the first place. I believe that is confirmed by the fact that many of these companies actually do not make any profits. So it seems as you say: Businesses need to make profit to survive (in the long run), but while this is a necessary condition it is not a sufficient one to explain why businesses are formed.
Thanks
I agree with you really but the slant I have on it is that people do like to set up businesses for lots of reasons – to feel in control of their lives; to work for themselves rather than others and also to genuinely offer a good service/good products.
Where it goes wrong is when the financiers get involved and also the stock market.
If banks did what they were supposed to do – offer a service – then the use of the stock market to raise cash might lessen. It is the profit motive of the financing side of business that is the problem – it is not necessarily an inherent problem within business itself.
Mind you, since 2010 I have noticed a large number of friends and acquaintances who have gone solo because of expectations of being able to earn more only to find that it is much harder. But I also heard a lot of moans about interest rates despite quantitative easing.
Two little quibbles, PSR
” financiers get involved and also the stock market.”
Financiers are not a problem as long as you (as master of your own destiny) understand the proper relationship. Financiers provide cash. Or not. You don’t have to accept it on the terms offered, and if push comes to shove you don’t have to accept it all. Financiers are dangerous creatures because they don’t give a toss about your business they only care about their money. People who don’t understand the nature of that relationship are going to find themselves, and their businesses jerked about. And ruined sometimes for no good reason.
Whoop! Whoop|! Whoop! (Digression alarm.)
In the field of emergency personal loans the equation is on a whole different plane because the loan ‘shark’ (euphemism for something much more ruthless, self serving and beneath contempt)
is granted an unfair advantage by the client having bugger all wiggle room: an asymmetrical contract and doesn’t belong in this thread except to point out I don’t have my rosy spectacles on this morning.
The stock market is a bear garden (or bull ring). The theory is absolutely sound, but it is wholly distorted to the extent now (and for a long time) that it is not a safe environment for investors who might wish quite reasonably to put their spare cash towards a visionary business venture. (or something less worthy but potentially profitable) The alternative is to put in the bank and let someone else do the same thing with it and top slice your returns. You pays your money….you takes your choice. It can be great fun. It can be lucrative, but it is for playing on. It operates like the biggest casino you could wish for. ‘Caveat mercator’. With small enough stakes, that you can afford to lose. Compared with a student loan it’s a cost effective course in learning the principles of risk and reward. Applicable to everything we do and our instincts (common sense) evolved in the grasslands of the Serengeti. This disconnect applies ‘in spades’ in economics which is why Richard (and others) write blog posts that some readers find …..actually offensive. Some are pretending, but some are, viscerally, terrified by the challenge to their beliefs and natural instincts and cultural training (indoctrination, if you wish to be pejorative) They metaphorically ‘shit themselves’. It’s not ‘bullshit’ they write in response. It’s humanshit.
There should be a better way to invest. The sort of local (or national) government bonds that Richard was promoting the idea the other week are a perfect example of a sane alternative for the prudent and socially responsible investor.
During my working life I met many a senior manager or boss or owner or chairman etc. who I classed as being a tree swinger. Does this need explanation?
Elon Musk seems to create companies in order to gain government grants. So you make a good point
Graeme,
On Elon Musk I think you are about as wrong as it is possible to be. Elon Musk is a visionary. If he’s farming government money that goes right round in a circle back to Richard’s initial theory that the money be it profit or subsidy or grant is a means to an end.
Select your drink of choice and give yourself an hour to watch this. If it doesn’t blow your mind there’s something wrong with you in my estimation. It’s one of the most inspiring things I’ve seen on screen since ….well since forever actually. And if you are not a little bit amused by the FBR and what the initials stand for …well there’s no hope for you at all.
It’s not your sound BTW that is faulty as I thought at first. Elon has a stutter. I didn’t know that.
https://www.youtube.com/watch?v=E4FY894HyF8&t=67
Although I’m coming from a free market position I think this is true. The purpose of a company or business is to produce and deliver a product or service. The profit is essentially a signal that you are getting things right, inasmuch as it means you have produced something with a greater value to the end consumers than the value of all of the inputs. Conversely sustained loss is a signal telling you that you have produced something that is worth less than the value of the inputs so overall you have reduced value rather than creating it. So businesses should be profit seeking (since that is the guide and, as you say, you need it to keep going doing what you want to do) but not profit maximising or solely aimed at profit (which is a residual anyway) as an end in itself. As another commentator says there is a lot of evidence that pure profit maximisation strategy is not the way to long term commercial success.
When in practice I turned away clients who said their main goal was to profit maximise
What they really meant, from experience, was that the meant to screw everyone, including me
“Profit maximise” is an ugly phrase and you did well to turn away clients trying to screw you. I certainly wouldn’t want to have anything to do with such people.
Good stuff, Hugh.
Steve, I think you touch on an interesting point here.
“..The purpose of a company or business is to produce and deliver a product or service…”
This is where I think privatisation of the former Nationalised Utilities was hopelessly adrift.
I think that philosophically, motivation is key to any business. And I think profit alone could arguably be a justifiable motivation; and particularly so at times when ‘jobs’ are difficult to come by for whatever reason. ‘I hate what I do, but it pays the rent’ is as valid a motive for a self employed person as for an employee.
The proper function of the utilities however is not profit. It’s provision of service. Privatisation was IMO a philosophically wrong solution (and for the wrong reasons) to the problem of badly managed industries which had been allowed to decline. Recalcitrant unions were a symptom of this loss of a sense of proper purpose.
In terms of outcomes I think that the privatisation case is ‘not proven’. When a sledgehammer is applied to crack a nut it’s going to make some sort of mess and it did, but the kernel survived.
If Corbyn and Labour get into government I hope they will have the wit to re-nationalise carefully on rather less rabid doctrinaire principles than the Tory (and New Labour) governments that privatised them.
My belief is that the profit from generating and delivering electricity is the power it provides. The cost is an overhead for society and really not a suitable subject for profit generation. I’m afraid I distrust the ability of our Westminster government (of either hue) to organise anything on pragmatic lines without making it a point scoring exercise.
You weren’t particularly seeking to make a point about the public/private sector debate, but I think it relevant because of the ‘free market’ mechanisms that you refer to. You are quite right about price and profit signals in the market place as valuable (even essential) indicators of health of an enterprise, but they just don’t work effectively in areas of endeavour which are effectively natural monopolies.
We really do need to get the right horses on the right courses. We will have a mixed economy or a shambles.
Unless I’m completely unique, which I doubt, of course profit isn’t the only motive.
I was an articled clerk with a small local firm at 17 and, being young and impressionable, perhaps too respectful of authority (others may disagree!). Although I quite enjoyed my work, I have since realised that all the different clients I met during my time with that firm helped me grow as a human being above all else.
When I qualified, I decided that I needed “proper” audit experience, a decision that led to a move to what is now KPMG in the Sheffield and then overseas, where of course I met lots more different people from very different backgrounds to those I was familiar with.
At the end of my overseas time with KPMG, not at all in line with what I had been led to believe and had naively taken at face value, that I would be welcomed back to the UK with open arms. I was not – this was my first experience of what at the time I believed to be the duplicity of one Big 4 firm.
I found my way to what is now PWC as, with no prior experience, as a UK training manager with primary responsibility for developing in-house courses for all staff levels, including partners. As time passed by, I took on more responsibilities and included the training team of 12 or 13. That specific responsibility was paramount, because I depended on them and led me to become, shall we say, more assertive, when any one of my team was unfairly attacked. Unfortunately, a very senior partner made such an attack, which I addressed calmly but, ultimately unsuccessfully. When the time came to consider me for the big step up, I was left with the firm impression that I was denied that opportunity because I wasn’t “one of us”. As with KPMG, PWC had sucked me dry and spat me out, something about which I now have no regrets whatsoever.
There followed almost 4 years in Shetland with a much smaller national firm during which I added predominantly salmon farmers to those I met, another year assisting the senior partner with the implementation of a merger, and then integration into the Birmingham office as a partner. Not for nothing was the senior partner known as “the mushroom farmer”, which led me to a position with a local firm Taunton which I’d rather forget and, ultimately, to the decision to make my way independently in Minehead.
You might conclude that my career has been haphazard and/or that I have been naive and/or “difficult” along the way but I knew I had a lot of experience of a lot of different types of people and that I could adapt to accommodate almost anyone. Since my time in Shetland, I had also come to the view that a lot of people were intimidated by the oak-panelled offices, the slick suits, the obvious wealth and air of entitlement of many of the accountants with whom I had worked so I decided to operate what might be termed a low-key operation; no flash office (I couldn’t afford it anyway), no flash suits, just a simple environment in which potential clients would feel comfortable; a description of what we offer as not accountancy or taxation services but problem-solving, and charges they could afford. My reward? Most of my clients have stayed with me over long periods of time, some the full 25 years.
Having found myself completely at odds with the partnership model, the last 25 years of my life have been both the hardest and the happiest of my career. As I approach a dramatic decrease in my workload (I’m keeping some long-term clients in the hope that my brain won’t become fuddled through the absence of work), and if it’s not too presumptious to say so, I feel fulfilled but concerned about the future of this profession given its domination by the concerns of the Big 4.
To conclude this long post (for which many apologies), what motivated me during those 25 years? My enjoyment of engaging with many different types of people, finding solutions to their problems to the best of my ability and, quite simply, making enough money to be able to bring up my children and help them on their journey through life.
Thanks Nick
I can say with confidence I gave never profit maximised in any role I have had
Thanks for sharing that, Nick.
Horrible social-worker-y phrase, I know (don’t know where I picked that up) but I mean it.
How other people make a living is always fascinating to me. Perhaps because I’ve never consistently managed to do so myself.
Perhaps I can direct you to the behavioural theory of the firm
https://en.wikipedia.org/wiki/A_Behavioral_Theory_of_the_Firm
Yrs
And?
When I first saw the headline of this post I thought it was going to be about that relatively newfangled corporate notion of maximising the share price rather than the profit (those two things aren’t always synonymous of course). My next immediate thought was about “managerial theories of the firm” where corporate managers sometimes pursue strategies which can further their own self interest.
Then I read the post and realised that I was being be a bit narrow. The whole stakeholder value vs simple profit thing is a bit of an old chestnut. The Corporate Social Responsibility (CSR) can be traced backed to the ‘60’s, Stakeholder Theory in the 80’s, Triple Bottom Line in the ‘90’s, post-GFC, M. E. Porter, updated his old take on CSR and called it Creating Shared Value (CSV). Even Milton Friedman got it on the act at some stage trying to rebutt the whole thing.
The discusson still goes on as it should I suppose. There was a somewhat interesting series of commentaries debating this in the N.Y.Times recently, including this guy who is on the side of the dinosaurs:
https://www.nytimes.com/roomfordebate/2015/04/16/what-are-corporations-obligations-to-shareholders/a-duty-to-shareholder-value
The authors opposing him are listed on the left hand side of that article.
Some cynics will always say that CSR etc. is always just a PR exercise (and with some justification) but, if the company lives up to its claims and that pleases or attracts more customers, then that argument ends up becoming a circular conundrum. There is no definitive answer and once you get started on this topic it just keeps expanding. .
For once I think you’re being too narrow
My real point is that this about much more than big business
Maybe,
But big business is where the big problem is. Consider this US example:
“Most large businesses buy their corporate charters from the state of Delaware. And the law of Delaware is clear about corporate purpose. The chief justice of the Delaware Supreme Court, Leo Strine, put it simply in a recent law review article: “Directors must make stockholder welfare their sole end.” In cases where directors have acknowledged sacrificing shareholder interests for other groups, Delaware courts have found those directors violated their fiduciary duties.”
https://www.nytimes.com/roomfordebate/2015/04/16/what-are-corporations-obligations-to-shareholders/its-law-but-it-shouldnt-be
I have been a small businessman myself. I knew many other small business people and never met one who felt that maximising profit was their primary purpose. But then again, that’s anecdotal and my experience was limited.
But bug business theory is an extrapolation from micro theory and my point is that it’s wrong
Yeah,
I suppose the problem with the micro mob is that they equate maximising utility with maximising profit, with the main reason for that being that profit is the only form of utility that they can quantify.
The simplifying assumption once again simplifies reality right out of the process before they really get started. The misuse of maths in social sciences is too often all too obvious.
I agree
Their response would be that what I describe is all they describe and yet we know that in practice it is not
Richard,
Well, I wish to write something on this; but from left-field.
I was born in a family business. I also spent my whole life in businesses and industry, more by accident than design (but not the family business). I now do what I consider to be much more interesting things.
There are as many reasons for starting a business as there are businesses; or more accurately, people. I doubt if many business-starters could explain fully why they did it, or do it; some of the most important things we do are unconscious.
There are businesses; then there are corporations: the Big Beasts of the Global Corporate World. Corporations are different. Corporations attract people for very different reasons from business start-ups or family businesses. Corporations are not for the imaginative, the creative, the individualist, the whimsical, or the querulous – the kind of people that might just create a business; successful or not (in most cases; I must stress here that ’absolutes’ are solely for Hegelians, and I am not a Hegelian).
Corporations attract very different people to the people who start, or run ‘businesses’. The professions typically attract the kind of people who ‘fit’ well in Corporations. If I may say, Richard I consider you an honourable exception to the general rule; I hope you do not object to my opinion.
Corporate industry marches to the beat of a different drum. Corporate managers are perhaps best described as apparatchiks (most of them could have operated equally well in Soviet Russia). Corporate managers believe in formulae. The quantum is everything. ‘Profit’ is sovereign but corporate managers are not actually interested in profit; corporate managers are interested in bonuses and careers. Corporate managers believe in the “theory of the firm”. Corporate managers believe in brands. They are ideologists.
I leave it with you ….
I agree with you
I always find it amusing and bemusing that people like Big 4 partners, who have spent their entire lives cosseted in an extremely safe career structure, think they are ebtrepreneurs
Likewise those like the new CEO of HSBC, appointed after 28 years in the bank at an extortionate salary required to ‘attract new talent’
These people would not understand entrepreneurial risk if they ever saw it
I am most interested to hear that. I know someone who is a big 4 accountant, currently earning £800k or so who keeps telling me he had to work really hard to get where he is and that less than 3% of people who join such firms make it to partner and since no-one gives away money he’s sure the firms who pay his fees do so for a good reason.
Thanks for exposing that this is all twaddle. I can’t wait till I get the chance to tell him what a safe cosseted carreer he’s had. All that now baffles me is why more people don’t do it. Who wouldn’t want a safe career earning £800k. After all you could always give away most of it. Think of the good they could do!
Good stuff, Hugh.
I turned the chance down
a) Because the money was not a priority
B) Because there were more important things to do in life
C) Because of the grounding boredom that would have been involved in doing it
I am replying to Mr H Jarce,
May I suggest that you think less about the self-promotion, the advertising tropes, the preening self-esteem of those involved involved in the discipline (and the esteem of society which they are anxious both to claim and to take for granted, and which itself tells us quite a lot), and think more about what it is they do, and what is likely to make for success in that environment. It isn’t difficult.
I am often reminded of the ‘people’ advertising to which the corporate world is prone; suggesting that what ‘they’ want from entrants is bold and independently-minded people, original thinkers, the imaginative; the exceptionally clever. I find it hard to take this seriously, for it is borderline risible. Not only does this characterisation of the discipline not seem to me plausible, given what they actually do (much of it a formal and elaborate ritual performance deemed to be socally reassuring, but more like some mediaeval guild – I deliberately exaggerate, but you catch the drift), and given the framework of regulated thought to which they (should) defer; but to me all this puff has never fitted with the typical people I have ever met in that environment (including those at a senior level): you just have to look, listen and form your own judgment of what you actually see.
You’ve rumbled me
What I was really told a long time ago at Peat Marwick (now KPMG) was that I would make it to partner if I kept my nose clean for long enough and worked very hard without questioning why
I took that to be an invitation to apply for a P45
Marco,
“But big business is where the big problem is. ”
Maybe you’d like to explain that to the thousands of new business start-ups that don’t survive to celebrate their first anniversary. I’m sure they’ll find it a great comfort 🙂
Perhaps you would be willing in a spare millisecond to write out and post the list of big businesses you know of that were not once small. 🙂
We hired Peat Marwick in the 1980’s as our firm’s accountant. It was a disaster; they didn’t understand our ( small ) business from the day we hired them to the day we fired them . They talked in an accountancy jargon which delivered nothing to us of use or advantage ; we would spend a whole day in our offices in a meeting with them and be no wiser at the end of it than at the beginning . And then the fee invoices started to roll in . After eighteen months we fired them and offered them a small percentage of the outstanding fees on a take it, or leave it basis and they took it. It was a lesson learned; these firms exist – and now much , much more so – to ‘ look after ‘ big business . It’s a symbiotic relationship and the fact that there are now a ‘ big four ‘ firms of accountants ( who also do much else ) is no surprise , the writing was on the wall back in the eighties . These are now very entrenched positions and they go right into the heart of government and big business and something very radical backed by a lot of people with clout will have to emerge to dislodge them .
They’re aggressive;y marketing to small businesses now
God knows why: they have not a clue what they are about
I agree that profit is not the only consideration in any enterprise.
But any serious enterprise – social or commercial – that does not make a serious attempt to make a profit, surplus, whatever you want to call it, is doomed in the long run. A few problems and if there is insufficient ‘fat’ to see them through the bleak times, it can be fatal unless there is a bottomless pit from somewhere.
I include social enterprises and charities in this. They are vulnerable to lean times too, and need surpluses. There may not necessarily be shareholders to receive the profits. But they still need profits in the long term to go back into the objects of the enterprise.
So they have k generate a surplus
But that’s not profit maximising is it?
“..But any serious enterprise ….. that does not make a serious attempt to make a profit, surplus, whatever you want to call it, is doomed in the long run…”
I don’t think that’s something one could easily argue against Tom Leonard.
But there are some pretty massive players who make their profit in curiously un-competitive and heavily subsidized markets. US arms giants for example must need to play some serious mind games to persuade themselves they are part of functional market culture. Within their own territory they are basket cases burning vast heaps of taxpayer largesse. CBA? Nah! CBA.
On the global and international scale I believe they generate huge flows of ‘profit’ much of which if I understand the system flows from dollar dominance as default global currency. This is the sort of economic/financial jiggery pokery I can hold in my head for just as long as I have the words on the page in front of me. Sometimes.
On taking office one of the few things Donald Trump seems to have been able to actually achieve was to shovel an extra $50 billion at ‘defence’ industry contractors.
I find it difficult not to get annoyed when these sort of big beasts start to whinge about high tax burdens on their ‘hard earned’ wealth.
The value of ‘goods’ or I might say ‘bads’ that these companies produce far outweighs any rational consideration of financial profit. One might suggest that the entire finance industry seems to fall into that ‘too important to fail’ category as we have all been made painfully aware in the past decade.
There are many business models out there. I think as soon as you think you’ve got a ground-rule pinned down you’ll find a business that flaunts it. With considerable success.
No, that’s what I said at the top of my comment.
But it is a pretty high priority for survival if nothing else.
Not arguing with the comments raised regarding professional firm’s certain salaries against the uncertain profits of the market, but I’d focus more on the profits of the market. To me, the main reason we have so many problems/issues with the free market is that we no longer have businesses set up, like the old Quaker ones were, to profit over the long term. They might only accrue 2/3% in a bad year, 5/6% in a good year, but they kept running year on year & the founder could, with a grateful sigh, hand that business down to his or her children.
The business model now is:
1 buy X Ltd with a 100% unsupportable loan from Bastard Bank Plc (BBP)
2 Set up A Ltd as topco to X ltd
3 Dividend all X ltd’s assets to A ltd to partially repay BBP
4 Realise that, without assets, X ltd is loss-making
5 Transfer X ‘s business, goodwill & IP to Z ltd, a Co incorporated in Macau & also a subsidiary of A Ltd
6 Pay virtually nothing to the unfortunate workforce of X ltd. Reassure them that they are lucky enough to live in a welfare state that will support the unemployed.
7 If anyone tries to tax you on the profits of Z ltd, move to another haven.
That I fear is far too true for comfort
We domn’t do much engineering now, but we sure as heck do too much financial engineering