business success – The Sense of Fairness blog

A merchant ship, carrying a mix of cargo on behalf of different business concerns, gets caught in a storm. It’s a bad one, and the ship, and all hands, are at risk. The captain must act. To save the crew, ship, and the bulk of its cargo, the captain orders that some cargo be thrown overboard. The ship becomes more manoeuvrable, and less low in the water, and it is saved. The storm passes, and it continues to its port, off-loading the remaining cargo at profit.

What happens to the merchant whose cargo was thrown into the waters to save the rest and the ship? Its loss has enabled the saving of the rest, and the profits that come from the (at least partially) successful voyage?

Since antiquity, the answer to this question has been the same, so it doesn’t matter if our ship is a Roman corbita, Portuguese carrack, Dutch fluyt, English tea clipper or a vessel today. The so-called ‘rule of general averages’ is applied, and the merchants that benefit from the success of the voyage need to share profits to make the cargo-loser whole. And by ‘whole’ that means the value of the goods at the destination, not on embarkation, i.e. giving the benefit of the successful voyage that their loss enabled.

The core of this rule is equity, or fairness: the voyage is a shared endeavour and the jeopardy is a shared one. Informally, it becomes a partnership where risks need to be shared fairly – though the sense of partnership is only triggered if the captain needs to take such a drastic decision. By granting the captain full discretion, the merchants allow him or her to take the decisions that give the voyage the best chance of overall success, and enable him or her to exercise professional judgement to deliver that result.

A fascinating academic article draws an analogy between this granting of discretion to someone who can exercise professional judgement over the success of an operation to the role of the board of directors and management of a company, and an analogy between the rule of general averages and the governance need to exercise judgement over how the fruits of business success are shared among the stakeholders who share in that endeavour. Called, perhaps inevitably, Captains of industry? Value allocation and the partnering eﬀect of managerial discretion, the article suggests that corporate law could benefit from more of a similar sense of equity (or fairness). Company directors have fiduciary duties to promote the success of the company (the English law formulation is acknowledged in most markets, and is a proper understanding of US law too – or at least how US law was historically understood). This implies a need to seek a fair balance of the interests of stakeholders, as that is what will promote long-term business success. The analogy comes largely in thinking through the equitable sharing of that success. The paper doesn’t argue that the general averages model should be adopted, but rather shows that it is a helpful reframing allowing us to see more clearly how modern corporations are often run. Essentially, it points out that modern management and boards often display a failure to be fair.

For the academics, the first benefit of the analogy is in thinking about any particular sacrifices that stakeholders may make which operate to the benefit of the company. This, they suggest, might give rise to a similar sense of quasi-partnership that the captain’s cargo sacrifice triggers in general averages. The example given is staff undertaking specialist training that is relevant only to that particular business, but it is also relevant to consider any time that workers spend that exceeds the expectations of their job description. Certainly, workers who do work beyond their contract (which is many) tend to feel that they have some right to better reward or treatment over time as a result of such actions. As the academics say: “the rule of general averages makes us realize that some stakeholders can be affected by decisions taken for collective purposes, without being considered as general averages. It thus questions whether these impacts are treated in a fair way.”

The core of the argument is that at least some stakeholders should be seen as corporate partners in the business endeavour, and that their interests need to be fairly considered and balanced alongside shareholder interests in setting strategy and delivering operationally. Thus: “our analogy calls for a solidarity rule to share the impacts of managerial decisions on ‘partnered stakeholders.’ In practice, this rule would require ex ante that any strategy designed by corporate leaders must achieve a balance between employees and shareholders. Management should also be required to report on how they integrate fairness into their strategic thinking.” One specific example that the authors posit is that workers laid off to preserve the company through difficult times might be given a financial instrument that enabled them to participate in the upside should the company not only recover but prosper in the future.

That discussion reads (to this reader at least) as though the authors are going a little further than their own strictures about the limits to the value of the general averages analogy that they themselves set – but it is all the more thought-provoking as a result.

There may well be aspects of this work that we should jettison, but it does seem to me that the overall cargo offered by the article’s thinking could be valuable if safely brought to harbour. Its active consideration of fairness is clearly attractive for this blog, but also the emphasis on businesses as effectively partnerships between stakeholders – certainly when they are successful this is how the best companies feel – and the need for boards to find a fair balance between the interests of different stakeholders are all elements that chime with earlier posts and with a sensible understanding of where long-term business success lies.

Captains of industry? Value allocation and the partnering eﬀect of managerial discretion, Segrestin Blanche, Armand Hatchuel, Ken Starkey, 2020. Management & Organizational History, 15:4