Companies are one of the greatest intellectual innovations in human history. But because they are everywhere — I mean, they are the most popular vehicles for conducting business — we take them for granted. We seldom appreciate the real practical problem they address in the economy and society, and why our lives have turned out the way they did. My project in this series is to elucidate the marvel of the corporation in the hopes that a deeper understanding will yield better decisions and conduct.
In the first instalment, we explored property and ownership. If you found a cave and occupied it, would it be your property? If so, on what grounds? If you died, would that cave transfer to your kin? Again, if so, on what grounds? Finally, what would happen if someone invaded the cave? Would its ownership suddenly fall to them? Libraries have been filled on this topic, and many theories remain contested to this day. Nevertheless, we can conclude that ownership is conventional; it is made up to address the deeper instinct for entitlement. The corporation layers on top of this idea and tries to answer some of the questions related to ownership and property.
Today’s post draws on David Ciepley¹, who wrote extensively on the nature of corporations. Before diving into his work, the reader is reminded that companies are corporations and I will use these terms interchangeably. However, as Ciepley pointed out, businesses predate corporations, and not all corporations are businesses. He gives examples of monasteries, universities, and towns that take on the legal form of a corporation without necessarily being a business, strictly speaking.
Also, I think it would be effective to begin with the history of corporations before coming back to Ciepley. Therefore, today’s post will be in three parts: a) the history of corporations, b) the nature of a corporation, and c) implications.
The History of Corporations
In 1952, Germain Sicard² wrote a thesis that fell into obscurity. In it, he argues that the first corporations in history were formed in the 1300s, long before what is commonly accepted. He describes mills in Toulouse, France, that were situated along the Garonne River. They were structures built on boats and anchored to the riverbanks, with a paddle submerged underwater, turned by the river’s current. However, building them was risky because the river often flooded, which destroyed the structures.
The millers eventually pooled resources to improve the infrastructure and to build more mills. They shared expenses and created a system of consolidating revenue from various mills and other activities around the river. Over time, they created rules that incorporated the partnership, tallied each individual’s contributions, and issued transferable shares. This meant the partnership could outlive each individual while remaining intact. In other words, they began addressing the ownership and property problems we discussed in the previous post.
Fast forward 300 years, and the British were witnessing staggering riches enjoyed by the Spaniards and the Portuguese from international trading outposts. The British were burning with a rash of envy, but could only scratch it by pooling resources to fund the expeditions. Thus, the East India Company was formed, and Queen Elizabeth I granted it a royal charter. A royal charter gave the company guarantees, or certain rights and powers, endorsed by the monarch. This included the protection of its trading territory, the right to self-police, and limited legislative powers. Soon, prominent figures, merchants, and aristocrats invested in the company in exchange for a proportional share of profits and losses. The joint-stock company, which is closer to a modern corporation, was thus formed.
Competition ensued between Britain, through its East India Company, the Dutch, through their Dutch East India Company, and the Portuguese. It was much like the Artificial Intelligence race today, where substantial resources are pooled into companies. The reason companies like OpenAI and even its Chinese counterparts are able to attract such vast resources is that they are supported by their respective states or countries, similar to the royal charter that Queen Elizabeth I issued. In other words, beyond commercial interests, companies are political instruments as well, perhaps more so than meets the eye.
This brings us to a central argument made by David Ciepley: that corporations are “governmental in provenance” (p.141). That means they could not exist without the state. In the next section, I explore this idea further and then later discuss its implications for founders and entrepreneurs.
What is a corporation?
David Ciepley argues that corporations are governmental in provenance. Again, this means they exist just because the government allows them to exist. Specifically, corporations exist because of the state’s legal system and protection. In the first instance, the legal system establishes three principles:
First is the principle of asset lock-in. When assets are transferred to a corporation, they belong to it. No one, including the shareholders, can extract a corporation’s assets without a legally sound basis. This means shareholders do not own corporate assets; they own the shares of a company. By extension, the asset lock-in principle allows investors to pool resources with the understanding that no other investor can willy-nilly extract them.
Second is entity shielding. This principle protects the corporation from its shareholders’ private conduct. If a shareholder gets into debt, for example, the corporation’s assets would be shielded from liquidators. The best that liquidators could do is compel the shareholder to sell their shares, but they would have no reach into the company’s assets or operations.
Third is limited liability. This is the reverse of entity shielding. Under this principle, the shareholders’ exposure to the corporation’s conduct is also limited. Likewise, if a corporation falls into debt or is sued, then the shareholders would not be liable for that conduct. For example, if Apple is sued, it would mean little for its shareholders, except as it pertains to the share price.
These three principles create practical possibilities. A corporation can acquire and own assets, it can be sued, it can sue others; in other words it is a legal individual or a juristic person. However, corporations need people to run them. For this, they create internal rules that govern conduct and the deployment of resources, in keeping with the Queen’s charter that allowed limited self-legislation. Today, we call this governance. When the governance rules are flouted, internal disciplinary processes ensue and the rules are enforced. Likewise, this invokes the charter’s ability to self-police.
Historically, when companies operated outside the state’s reach, they form armies to defend their interests. Today, the may not necessarily be out of reach, but it might be inept. In South Africa, for instance, private security officers outnumber the state’s police force by 3:1. Nevertheless, when the private armies of companies were unable to defend their interests, they called upon the state for reinforcements. This is what happened in the Anglo-Zulu War: the English lost to the Zulu at the Battle of Isandlwana and returned with reinforcements from Britain.
To further demonstrate the relationship between the state and corporations, consider that Cecil Rhodes had consolidated diamond mines into De Beers Consolidated Company by 1887. Around the same time, the Cape Parliament passed the Diamond Trade Act, which prohibited the sale of rough diamonds by unlicensed persons. To this day, possessing an uncut diamond in South Africa is a criminal offence. In other words, De Beers’ interests were and are still protected by public resources, or better yet, but rules that were entirely made up. Hence, companies are legal fiction.
The Implications of Corporations
Most of us think companies are private property. We register them, work hard to build them, and create equity to enjoy or pass on to the next generation. In this regard, we are largely influenced by the Nobel laureate Milton Friedman, whose thesis was that state involvement in markets was almost always bad for the economy. He is famous for the television series, Free to Choose, where he travelled the world showcasing the relationship between the state and markets, of course supporting his stance that less government is better for the economy.
This stance has been largely overridden. Our contemporaries, like Steven Vogel³, put more emphasis on markets as part of statecraft rather than as phenomena that arise spontaneously from the pursuit of self-interest. The state and other interested parties engineer markets, and companies perform to the extent that they align with underlying policies. If we look at South African, some of the largest companies today, like Avbob, Sasol, Eskom, and Telkom, are products of statecraft more than entrepreneurial flair. Abroad, the Japanese economic miracle after the Second World War, from which we get Sony, Toyota, Honda, and others, was as much a product of statecraft than sheer entrepreneurial brilliance.
Aliko Dangote is rightfully celebrated today. But a closer look reveals a story statecraft. In the early 2000s, the administration of President Obasanjo shifted Nigeria away from import dependence. The state engineered the market through a deliberate strategy called the Backward Integration Policy (BIP), and Dangote pivoted to align himself with that policy. Of course, it cannot be assumed that when the policy winds blow in a certain direction then corporate success is a given; leadership, management and entrepreneurship remain important. However, their success is preceded by the state.
The implication for the entrepreneur or founder is that all things being equal, whoever is best aligned or positioned to take advantage of state policies, has the better chance of winning. I think this principle applies on a smaller scale as well. Small shops in the villages are affected by the local chief’s policies (in addition to local and national policies). I would add that they are affected by large companies as well. If for instance, a mine opening its doors would affect the businesses downstream, among others.
Therefore the entrepreneur is counselled to be active in state and market craft because therein opportunity and security lies. In addition, take governance seriously to increase the capacity for attracting recourses. With these two pillars, one can pursue opportunities with a greater probability of success, save for the ability to see them and mobilise resources effectively — a subject for another day.
Until next week,
Vusi.
References
- Ciepley, D. (2013). Beyond Public and Private: Toward a Political Theory of the Corporation. American Political Science Review, 107.
- Sicard, G. (2015). Origins of Corporations: The Mills of Toulouse in the Middle Ages. YALE UNIVERSITY PRESS.
- Vogel, S. K. (2018). Marketcraft: How Governments Make Markets Work. Oxford University Press.
