The financial world used to have a diversity of corporate organisational forms – listed company partnership, mutual. Most partnerships and mutuals became listed companies, a change that was not usually for the better.There were once three main types of corporate organisation in the financial services industry – the public company, the partnership and the mutual.
Most commercial banks were listed public companies, since only equity markets could provide the capital needed to give security to their deposit base. Most bank shares offered high, stable yields appropriate to a utility. In many respects such equity resembled subordinated debt: the better off customers of the bank were generally well represented on the share register. This structure was destroyed in 2008, when companies such as Citigroup and Royal Bank of Scotland lost almost all their value and most bank dividends ceased.
Partnerships dominated riskier activities such as market making and investment banking, a structure that ensured tight internal control of competence and conduct. All the personal wealth of the senior managers was on the line and knowledge of that had a salutary effect on behaviour. The architects of a financial disaster could not expect to walk away as rich men and leave others to bear the costs, the outcome that caused so much justifiable public anger in 2008-09.
Mutuality was common in retail financial services. Such businesses were better able to build and retain the trust of small customers. Stock exchanges and commodity clearing houses were also usually mutuals, since the structure was well adapted to the provision of common services and the policing of self-regulation.
Organisational variety was almost extinguished in the final two decades of the last century. The conventional wisdom was that any form of business organisation other than the public limited company was an anomaly, a relic of a bygone age. The most common explanation for this belief was that the plc was uniquely well placed to make acquisitions and could make imaginative use of share options for senior executives. The observation was factually correct, but its consequences would prove disastrous.
Yet that argument was little more than rationalisation. The claimed superiority and historic inevitability of the public company provided legitimacy for the conversion and flotation of partnerships and mutuals. Such conversions enabled the goodwill of these businesses to be monetised for the benefit of those who had the good fortune to be partners and customers at the time. The amounts of money released were very large. Some partners of Goldman Sachs walked away with hundreds of millions of dollars. The Halifax Building Society distributed shares to its members worth about £20bn. The conversion process generated massive fees for investment banks, which could be relied on to act as cheerleaders. These banks had pioneered the procedure themselves, with Lehman leading the pack in 1982.
The predictable consequence was that the partnerships and mutuals which had become listed companies ceased to behave like partnerships and mutuals and behaved like listed companies. They assumed more risk and controlled it less effectively. The short-term orientation of the public company, ever more fixated on quarterly earnings reports, encouraged them to emphasise transactions over relationships. Public trust in the financial services industry declined.
In most cases people who invested in the newly converted businesses discovered that the value once inherent in the business could not in practice be translated into returns to outside shareholders. Few of them proved good long-term investments, Goldman Sachs excepted. In general, the conversion process destroyed the goodwill it sought to realise. Halifax members who retained their conversion shares find them worth little today.
Partnerships and mutuals increase their capital slowly and organically. This feature is both a strength and a weakness; today we are better placed to recognise the strength. But the resources so casually dissipated cannot easily be restored.
In looking to the future of financial services, we should learn a lesson from an unhappy episode in the past. Business behaviour is the product of the structure of corporate organisation in which it takes place.