The profits before purpose movement led by economists Jensen, Meckling and, most famously Milton Friedman, believes that:
corporations have no existence
having no existence they have no utility
having no utility they have no purpose other than to maximise profits
But these keystone ideas are also the movement’s most vulnerable and fragile premise. Remove them and the foundations of neoclassical economics collapse.
For decades, lawyers and legal academics have given neoclassical economists cover for their profit maximizing theories by arguing that corporations do not exist in law. Underwriting a dominant form of corporate governance where maximizing value and profits are one and the same. In the process, becoming the handmaidens of an insidious form of global decapitalization. A world awash in money that can not buy back that which was destroyed in its one eyed pursuit.
They are wrong to argue that corporations don’t exist and value means profit.
Using reason and the descriptive power of thermodynamics, I argue that lawyers should take their inspiration from science to discover the corporation and the unrealised purpose of corporate law.
From the outset I should make clear that the law and science approach I advocate has very little in common with law and economics and the maximize shareholder profits mantra that has dominated corporate law, management and governance for the best part of fifty years. Nor do I believe in stakeholderism.
The shareholder vs stakeholder debate argues false opposites. Grounded in the same ethical model and denial of the corporation they sit closely together and not apart.
My work sits in a different plane altogether.
From theory of Value to theory of THe Corporation
Theories of corporate law and governance are expressions of theories of value.
In the Anglo American model of corporate law, the ontological status of the corporation and its purpose is a reflection not of legal principle, but of economic theory and the subjective theory of value - For individuals who exist, value is determined by preference not the inherent power of a thing. For corporations that do not exist, value is profit.
I argue for a theory of corporate law grounded in an objective theory of value that is inspired by the science of change.
The work of progress and civilization takes energy in all its forms - physical and social. Value is that which is transferred to do the work of prosperity. In short, value is another word for socially useful energy that can be stored and used in the future to do work and bring about positive change.
Accordingly, the measure of a thing’s value is not its price but its concentration of power. If a given form of capital can do more work than another form, is has more value.
Based on the new science of value it is possible to formulate a theory of the corporation founded on the idea that the the modern corporation is a type of energy structure. An incorporeal engine that transforms capitals to exist and in the process is capable of supplying the world’s need for abundant social useful energy.
The purpose of corporate law is to liberate useful energy to enliven the planet.
I argue that corporations are granted social license to exist because when directed to realize their best interest, these entities are capable of increasing the dissipation of value (energy) throughout society in unimaginable quantities.
But the legal engineers of the modern corporation, being ignorant of the science of value, have created value sinks. Engines that blindly transform useful capitals into less useful capitals in the pursuit of profit. Leaving the world with less value to do the work of progress and civilization. In the name capitalism, the world has been de-capitalized over the best part of 50 years.
From Theory of the Corporation to Theory of Value
In a thermodynamic sense, the legal concept of incorporation is equivalent to disequilibrium. Limited liability is another way of saying that corporation is a low entropy open system that is not in equilibrium with with its surrounding. The separation of the corporation’s capital from its surroundings defining it as an independent entity. And like other low entropy open systems, a corporation avoids equilibrium (deregistration in law) by sourcing value externally and storing energy in the form of the capital.
To understand this approach I use a sequence of scientific metaphors (or perhaps even homologies). Each metaphor providing the basic concepts and language necessary to move to the next level of understanding. - Physics, Engineering and Life Science
Physics
The first three metaphors describe the basic principles of the science of objective value. Think of them like discoveries in physics that went onto make innovation in engineering possible.
Energy - value equates to socially useful energy. In physics its called exergy. In economics its called value. In corporate law it’s called interest. Energy is the universal metaphor and measure of equivalence.
From a value as energy perspective, value is objective. Value can do a quantity of work when transferred through a transcaction or process to bring about change.
To put this in context, when the legislators call on directors to act in the best interest of the corporation, directors are being asked to exercise their powers and discharge their duties to ensure a corporation has the greatest potential to do work or bring about change into the future.
Energy Stores - Value like energy can be stored. The capitals we associate with intergrated reporting - human capital, intellectual capital, financial capital natural capital etc are to the science of value what magnetic, chemical, kinetic energy is to the science of energy.
And like stores of energy, the amount of value (the work a capital can do) stored within each form of capital is different because each form of capital has different characteristics. For example, value correlates to rates of exhaustion (entropic change in science). Intellectual capital tends to store higher value because the amount of value does not exhaust through use and may increase. Financial capital tends to exhuast through use. Between the two, intellectual capital is capable of storing more value.
Thermodynamics - value can be transferred between stores of value called capitals. Value is released (created or destroyed) when one form of value is transformed into another eg. financial capital transformed into human capital through the process of remuneration.
There is an undiscovered science of value creation that examines capital dynamic processes - the entropic change associated with various forms of capital, the relationship between forms of capital and the efficiency of transforming one capital into another.
Law and economics argues that value is created when something is turned into money. Law and science says, only if the money can do more work than that which was sacrificed in its creation.
Capital dynamics provides a theoretical framework for understanding integrated accounting and reporting.
Technology
An engine is a technology designed to convert one form of energy into another. A business model is an incorporeal engine designed to convert one form of capital into another.
Law and economics teaches that the most efficient engines turn all capitals into money at the lowest cost.
Law and Science explains why this is inefficient. Turning capitals with a higher concentration of value into lower value financial and share capital results in less available value. Turn the neo-classical wheel and there is less and less available socially useful energy available to the corporation and society. A thesis that can be used to explain everything from social inequality to the collapse in the life expectancy of corporations.
Life Science
The final two metaphors draw on the relationship between energy and life to draw parallels with value and corporate law.
If value is energy, I consider whether corporations can be analyzed as a type of energy structures that employ corporeal engines to grow.
Living systems - Are corporations are energy structures that share a common goal with living systems? To source energy/value from their surroundings to survive through thermodynamic/capital dynamic processes.
Corporations are arguably thermodynamically alive. Animated by a series of fundamental legal principles that separates the corporation from its surroundings and supplies legal mechanisms to survive and grow - ontologically real but legally artificial.
For a corporation, interest is another word for value. And sourcing value is the key to maintaining existence.
Dissipative Open Systems - corporations are capable of creating value efficiently and distributing or dissipating that value throughout civil society.
Applying the theory of dissipative open system, I contend that corporations have a social purpose but without social responsibility. A law and science approach can be distinguished from both shareholder and stakeholder shools in that it is not based in duty ethics. It is much more closely aligned with virtue ethics and the idea of self interest rightly understood.
A dissipative open system theory of corporate law argues that the purpose of corporate law is nothing less than to facilitate the creation of energy structures that obliquly energize and enliven society. Contrast this objective with the small minded purpose of corporate law promoted by neo-classical legal scholars - “to enables entrepreneurs to transact easily through the medium of the corporate entity, and thus lowers the costs of conducting business”.
Unfortunately, the law has a blind spot for the concept of energy. The “new” science of thermodynamics is still new to the law and unheard of among practicing commercial lawyers. There will be a learning curve if science and law is to challenge the economics and law movement. Primary school students are taught the basic ideas about energy, secondary schools students learn thermodynamics and biological systems and so on. Likewise, there is a very clear and patient sequence to understanding the relationship between value, the modern corporation and the social purpose of corporate law.
However, by connecting the science of energy to the legal concept of the corporation, we open the door to:
new ways to think about corporate law and corporate governance:
why corporations exist
what is the purpose of corporate law
What is an interest, for the purpose of corporate law
to whom are directors duties owed
what is a corporations role in society
understand the energy/value sucking flaws in the shareholder and stakeholder models that decapitalise society.
But it all starts with two key concepts - value is objective (though as you may discover relative) and corporations are real (although artificial). These two ideas locate my work in a different quadrant to both shareholder and stakeholder perspectives or theories. The assumptions are fundamentally different. What makes sense in one quadrant defies reason in another.
Make no mistake, you cannot begin to understand law and science without challenging the twin assumptions that corporations are fictions and value is subjective.
The following table locates my work in law and science among the many theories of the firm.
If you doubt the relationship between theory of value and theory of the corporation note the common beliefs discerned among these various shareholder theorists. This is no co-incidence.
If you’re wondering what this all means in practice read “Social Purpose Without Social Responsibility” or try answering the bainbridge hypothetical. These are gateway essays to ideas touched on here.
The one thing you will learn is that treating corporations as a fiction whilst simultaneously believing in the assumptions of neo-classical economics is a deadly combination. Turning things that can do more work than money into money is fools alchemy. More money in the hands of shareholders but less value throughout society to do the work of thriving.