The 3 C’s Model
For capitalism to work, politicians business leaders need to go back to basics and learn the three C’s.
Where Value is Stored
Value represents the amount of energy embodied in a form of capital - it’s anything that can bring about positive change. Price is value but value is not price.
Capitals make capitalism possible:
Capital is any store of value.
Value is a measure of the capacity of a capital to do work or bring about change.
Work represents the amount of “energy” required to convert one form of capital into another. Positive change doesn’t just happen. It takes work.
Money or an asset that can be turned into money is one form of capital.
There are at least 7 other forms of capital - natural, human, intellectual, social, promissory, manufactured and share capital. -
The quantity of work each form of capital can do is based on its unique properties and characteristics.
The biggest mistake business leaders make is to confuse value and money. For capitalism to work, value comes before profit.
How Value is Created
Value is created when capitals are transformed
Capitalisation describes the process of creating value by putting the capitals to their best use based on the following principles:
Capital can be changed from one form into another to produce more value, or more accurately, greater work capacity either by conversion or exchange:
Capitals can be converted from one form into another. For example natural capital in the form of timber, can be converted using human and intellectual capital into manufactured capital in the form of chair.
Capitals can be exchanged with stakeholders for their capitals. For example, the chair may be converted into financial capital and depending on its price, quality etc also into social capital in the form of brand and reputation.
Depending on the nature of the capital, a capital can be accumulated and stored for future use.
The logic of capital conversion, exchange and accumulation is called a business model.
Capitalisation generally involves loss of value in the form of "transaction costs".
Value is only created when capital is transformed into another form and the second form (the output capital) can do more work than the first (the input capital). The chair has greater capacity to do work than the the other capitals used in its creation.
An efficient conversion/exchange of capital results in greater net value ie. the capital outputs are greater than the capital inputs (including transaction costs) measured in terms of value or capacity to do work. For example, in a successful research grant scenario there is more capacity in the resulting intellectual capital to do work than in the financial capital paid for that capital.
Another common mistake is to assume that a business model describes the logic of how revenues and profit will be generated.
A business model describes the process of accumulating, converting and exchanging all forms of capital. And it doesn't follow that a business model designed to maximize financial capital will create the greatest value. From a value perspective, a business model designed to transform all capitals into profits and revenues is fundamentally inefficient. Despite an increase in financial capital, the net value position decreases when measured in terms of work capacity.
Who Creates the Greatest Value
Corporations grow by transforming capitals
The theory of capitals and capitalisation becomes the theory of the corporation. Explaining why corporations exist but how they became the apex capitalist.
The primary reason why corporations are the prime movers of capitalism is because, being legally separated from the capital of their stakeholders, the corporation’s entire existence relies on efficient capitalisation.
given the nature of capital, to maintain and sustain existence, a corporation must create and accumulate surplus capital (capacity) through efficient conversion.
The formula for determining the efficient conversion of capital is value return on value Invested or VRoVI - capitals return (measured on a value basis) minus risk divided by capitals invested (measured on a value basis) plus Coasian transaction cost.
A corporation that maintains a positive VRoVI produces the greatest value in the form of more capital if not the greatest profit. For the greatest profit may not store the greatest capacity to do the work of existence.
A corporation that expends more value than it earns in returns is doomed to fail.
Corporations “feed” on the capital of stakeholders (and vice versa), receiving and accumulating capital and value in the form of financial capital, intellectual and social capital, and rendering back to the stakeholder by way of trade, manufactured capital with less value to the corporation than that imported. Thus enabling the corporation to exist and reproduce their own existence into perpetuity.
Corporations are not money making machines, they’re are artificial forms of life.
The greatest mistake made by business leaders is to believe that corporations were invented to make money for shareholders. This ignores the independent existence of the corporation and assumes that the legal form is just a way of organising the production of goods and services for the benefit of shareholders.
This flawed assumption tends to lead to a negative VRoVI, better known as "short termism". A misguided belief that leads to the conversion and exchange capitals with a value greater than money into money. And then the transfer of that value to a shareholder for little or no return.
Logically, the net effect of the belief is that the corporation has less capacity to do the work of sustaining its own existence. It’s the corporate equivalent of “cotard’s syndrome”. Capitalising their shareholders at the expense of their own longevity and very existence. The mantra of maximising shareholder value is, in energetic terms, a death spiral for corporations and, as it turns out, society. Neo classical economics is rooted in a form of madness.
Contrast this with the belief that Corporations have existence and were granted this license by the state because when run according to the principles of efficient capitalisation nations are capitalised in the process. Guided by the laws of capitalisation a corporations best interest is to capitalise. Only decapitalising (turning things with greater value than money into money) as a last resort and even then, within the constraints of the law.
Whether by design or mistake, the logic of corporate existence, leads to money being turned into capitals with more value than money.
Efficient capitalization indirectly increases the value available to do the work of building civil society. Look what happened after the advent of the modern corporation in the 19th century. Human, social and intellectual capital grew exponentially as a by product of the corporation and its need to capitalise. Put another way, individuals and communities had greater capacity or energy to do the work of bettering their lives and the lives of others. Smith’s invisible hand is guided by a rational application of VRoVI.
Conversely, inefficient capitalization decreases the value available to society leading to greater inequality. Look at what happened in the late 20th century when, under the influence of shareholder primacy, corporations started to turn things that had a greater value than money into money. Producing the paradox of more money but less value as the other capitals are run down and exhausted for short term profit. Starving communities of the capitals required to flourish.
Take the Test
Originally devised by Stephen Bainbridge, a law professor from UCLA*, I’ve modified his hypothetical (changes in bold) to test your knowledge of the three Cs:
Acme's Limited board of directors is considering closing an obsolete plant. The board is advised that closing the plant will cost many long-time workers their job and be devastating for the local community. On the other hand, the board's advisors confirm that closing the existing plant will benefit Acme's shareholders through a planned share buy back, new employees hired to work at a more modern plant to which the work previously performed at the old plant will be transferred, and the local communities around the modern plant.
Acme Limited is an Australian Public Company
The long- time workers are research scientists from leading universities;
obsolete means sustainably profitable but less profitable than the new plant; and
the latter groups cannot gain except at the former groups' expense.
Should the plant be closed?
Find my answer here.