I was moved by Warren Buffett’s recent piece in the Wall Street Journal. He wrote, in a straightforward way, what I have believed for some years – and what more and more Americans clearly believe. The dominance of finance and the irrationality of the casino that Wall Street has become, and continues to be, creates serious risk and potentially major damage to the US economy. The casino is increasingly dangerous to the future of the United States and, indeed, the rest of the world. It is the source of increasing instability and irrationality in the capital markets. There has to be a better way.
The article raised a question.
“Does Berkshire Hathaway, or any major company for that matter, really need to be listed on a major stock exchange?”
Initially the question seemed a bit strange but, as I began to think it through, it gained real substance. That occurred after a conversation with a friend who is on Wall street. When I asked the question, his response was, “You won’t have a stable market without the market.” I found this a strange response and the follow exchange was even stranger:
- Me: How do you determine the value of a company?
- Him: I don’t the market does.
- Me: And, what is that market?
- Him: It is that which determines the value of a company.
- Me: You do know what a tautology is? (Hint: the saying of the same thing twice in different words)
Now I believe that a variation of the question is one that all major corporations should be asking.
“Why does any major corporation need to be listed on a major stock exchange?”
Well, the next logical question is obviously, “What is the alternative?” The answer, only made possible with advancing technology, is that a company could establish and maintain a private exchange for their shares and debt instruments.
The private exchange would be bound by all SEC regulations and other requirements. The company would file the same forms and be subject to the same oversight. But it would manage the exchange.
There are several major advantages to a company that sets up such an exchange:
- First, and foremost, it could regulate the trading of shares and shut down many of the “speculative” tendencies of Wall Street. As an example, it could insist that an investor hold shares for at least six months before being able to sell them. It could also prohibit certain speculative activities and regulate the types of instruments that could be used to trade interests in its shares.
- Second, the corporation would have far more knowledge about who owns shares. The investor list would be its property.
- Third, the corporation could manage the sale of additional shares or the buyback of existing shares through the private exchange. The cost savings of this alone would be substantial in an era when companies are regularly buying back their shares.
- Fourth, such an exchange would dis-intermediate those who specialize in managing transactions between buyers and sellers. The company would maintain the market and manage the transactions. Investment bankers and hedge fund managers, who have in the past traded on insider information or engaged in deceptive practices, would be shut out of the process.
The interesting thing about this option is that it allows a company to seek services from Wall Street in areas that are useful while shutting down the casino tendencies of the various exchanges, traders, hedge fund managers, etc. By removing all the frothing, a company would establish a much more orderly market in its shares while still being able to access the capital-generating capabilities of the Street.
There are two more benefit of this approach that are worth mentioning. I recently watched the shares of Microsoft drop substantially because of news unrelated to the company’s value or performance. The Talking Heads kept referring to the precipitous drop in the price of oil as a principal reason that a major company lost a substantial percentage of its market cap. This struck me as bizarre. How could Microsoft, as a company, be worth substantially less because of a drop in the price of oil? Wouldn’t a lower cost in commodities benefit the company?
The answer became clear. Money was hysterically being shuffled around to cover shorts and shift positions. The short answer to my question was, “only the irrationality of the market would support such a drop in market value.”
Finally, a company could establish a new basis for setting the value of its shares. – the actual increase or decrease on the value of the company not of its shares. In other words, the value of the company would be established by dividing the total economic value amongst the shares rather than totalling up the value of all the shares as established by the irratonal process that is the market. It could break the “most recent quarter” stranglehold that the Street has on management, the stock price and compensation packages. Management would be more free to make long-term commitments as the focus on the short-term became less dominate
By shutting down the casino, a company would establish a much closer link between the value of its shares and its value as a company. A private exchange could insulate the company from the irrationality and hysterics that tend to drive the exchanges. The relationship between a company and its shareholders would be based upon the performance of the company and the value it generates.
I won’t pretend that this idea has been fully fleshed out but I have come to the conclusion that it is worth serious consideration. I can see no reason why a major US company needs to be listed on any of the public stock exchanges. As technology advances, I expect the idea of private exchanges will catch on and eventually become the dominant way that major corporations maintain relationships with their shareholders.
© Earl R Smith II, PhD