Should limited-liability be abolished (or pared back)?

[Francesca R]

The standard reason for limiting the liability of a company to its invested share capital is that if this backstop was not in place, few people (if any) would start businesses, and positively compensated risks—which provide many benefits including social ones sometimes—would not be taken. Opportunity would be left on the table.

Here are some arguments against limited liability:

In an ethical or holistic sense, limited liability is not real—it is an imaginary concept. It is possible to offload the risk associated with any action to someone else, or another country, or the environment etc. But it is not really possible to externalise it beyond our effectively closed system of planet earth. It is delusional to imagine that "the pieces" will never have to be "picked up". Therefore limited liability is fundamentally incompatible with a sustainable society.
Limited liability is free insurance that gives a company a free pass to take risks it will not have to pay for, and thereby rip (someone) off. Companies—like people—respond to incentives, so that's what they end up doing. Therefore limited liability is axiomatic with excessive risk taking by businesses. Worse, with these excessive risks, the business captures the positive pay-off but someone else (society) wears the negative tails. It systematically disadvantages those external to the company
Much of the financial risk associated with a business can be diversified away, same as any other risk. It could also be insured against given the appropriate pooling of claims and availability of derivatives markets. Same as other risks. Limited liability is not necessary for investors to have any hope of risk management.
There is no magic cut-off point at which people will refuse to take a risk. The implication that "if you can lose more than you put in, nobody is going to invest" is simply false. If it were true it would not be possible to explain the popularity of leverage. People will take risks that are sufficiently compensated. Entrepreneurship will not collapse in the absence of limited liability. If the expected return from a business is positive and compensates for the (true) risk, limited liability is not necessary.Some removal of the limited liability concept would be—IMO—an alternative approach to things like corporate social responsibility (CSR), which is mostly a smoke-n-mirrors sham in my view, and to over-reaching government regulation of business behavior, which is cumbersome and ineffective at the best of times no matter how correct in theory.

Any thoughts? Thanks.

[The Atheist]

Yep, I'll go along with that.

There have too many examples of LLCs which have folded, leaving all sorts of people in deep schtum. There is huge furore over here now, and has been for the past few years, over houses built since 1990 which leak and are rotting. All of the development companies went bust, yet many of the same developers are working with new companies doing the same thing again in the current housing boom. Meanwhile, homeowners have committed suicide due to stress and financial pressure of their rotting homes. link (http://www.nzherald.co.nz/section/1/story.cfm?c_id=1&objectid=10462521)

I agree that if the protection were removed, legitimate business owners need not be concerned as the risk can be off-loaded, as you suggest.

It would take some working around, but I don't believe the problems are insurmountable.

And before anyone cries "foul", think about funding providers for LLCs. Who is at the top of the list? Banks. Ever hear of a bank not making the owners of a private company liable for the debt? The banks won't allow a level playing field and I see no reason why all investors shouldn't be entitled to the same protection that banks demand.

For public companies, share owners would just factor the risks into investment anyway.

[Francesca R]

I followed you to your fifth paragraph which left me befuddled:

And before anyone cries "foul", think about funding providers for LLCs. Who is at the top of the list? Banks. Ever hear of a bank not making the owners of a private company liable for the debt? The banks won't allow a level playing field and I see no reason why all investors shouldn't be entitled to the same protection that banks demand.I'm talking about the equity investors (owners) of limited companies, not debt holders (who do not own the company, even if they have obligations from it). And I'm definitely not talking about giving them protection, but about exposing their ass to the full, true risk.

The rest of your post; yes.

[balrog666]

Complete nonsense. In fact, you don't seem to understand how or why businesses are started, let alone run on a day-to-day basis.

In particular, companies don't start up with a hundred employees and a board of directors on the first day; most start up with one or two people and plan on a lot of sweat equity. They don't even have any business on the first day, no established customers, no sales, no reputation, and probably little or no advertising. And half of them will fail with six months to a year.


1. Yes, the LLC, Subchapter-S corps, and Limited Partnerships are a real fiction but a legal distinction. They were created for very specific purposes and have proved to be a fantastic success. No one would ever start a business if they knew they could lose, not just their business, but their house, car, savings, and every other asset they have ever acquired on day-1 of business operation. Furthermore, the greater one's assets, the less they would be likely to bet it all (including those other established businesses and all the assets of all those other partners) with every new business venture.

2. Managing partners or executive officers make the day-to-day company decisions, not passive investors (or even active investors). You cannot simply have a Director's Meeting to make every decision in a real business, nor would investors/Directors be interested in being involved with any such silly idea.

3. Profits are a rip-off on society? Are you serious? Do you believe that capitalism is a zero-sum game?

4. Banks make loans; investors finance businesses. Loans are collateralized, investors take risks. Taking risks is only justified by appropriate rewards; extreme risks require extreme rewards.

5. Unlimited liability cannot be insured away or subject to rational risk analysis. Perhaps you are unacquainted with the incredibly stupid USA tort system?

Jointly-and-severally has real limits for real reasons. Good ones.

[cyborg]

Taking risks is only justified by appropriate rewards; extreme risks require extreme rewards.

This is the core of the issue.

The implication that "if you can lose more than you put in, nobody is going to invest" is simply false. If it were true it would not be possible to explain the popularity of leverage.

The popularity of leverage (or derivatives in general) is that it can give a large exposure to a market without having to actually deal in the thing itself.

[The Atheist]

I followed you to your fifth paragraph which left me befuddled:

I'm talking about the equity investors (owners) of limited companies, not debt holders (who do not own the company, even if they have obligations from it). And I'm definitely not talking about giving them protection, but about exposing their ass to the full, true risk.

The rest of your post; yes.

Sorry mate, but we're working at cross-purposes on this. I'm looking at a whole different angle - the investment side, which I think can fit into the scenario. I'm talking about protecting small investors in public companies. Junk bonds may no longer be junk if it happened.

[The Atheist]

Complete nonsense. In fact, you don't seem to understand how or why businesses are started, let alone run on a day-to-day basis.

In particular, companies don't start up with a hundred employees and a board of directors on the first day; most start up with one or two people and plan on a lot of sweat equity. They don't even have any business on the first day, no established customers, no sales, no reputation, and probably little or no advertising. And half of them will fail with six months to a year.
(bolding mine)

I'm tempted to just say "QED" and leave it at that, with your own last sentence almost covering it.

I think the point was made to Acuity rather than me, but I will suggest that he isn't talking nonsense and I do know what I'm talking about -I own several companies and am a former senior bank manager.

Obviously, this isn't something which could be brought into legislation retrospectively, but the scenario is possible and might just cut some of those 50% of losers taking other people's money with them.

Coming in with a "nonsense" just doesn't wash, I'm sorry. You don't appear to have valid arguments against it, either:

1. Yes, the LLC, Subchapter-S corps, and Limited Partnerships are a real fiction but a legal distinction. They were created for very specific purposes and have proved to be a fantastic success. No one would ever start a business if they knew they could lose, not just their business, but their house, car, savings, and every other asset they have ever acquired on day-1 of business operation. Furthermore, the greater one's assets, the less they would be likely to bet it all (including those other established businesses and all the assets of all those other partners) with every new business venture.

So demonstrably wrong, it's almost laughable. I'm beginning to wonder whether you know what goes on in commerce yourself!

Let's start from day 1 of the business:

As you rightly note, the business starts with $0 income, $0 assets and 0 customers. Someone is going to have to spend money to start the company off. That is obtained from two possible sources - the business-owner's own money, or someone else's.

If it's someone else's, that somone else will require collateral/security for the loan. If the loan fails, the security is realised. How many examples of mortgagee sales due to failed businesses would you like me to quote? A million? 2 million? It is a scenario as common as farting. Again, as you note, up to 50% fail at the start. Do you think some money-fairy funded those?

The only thing which would change is risk analysis. Nobody with any testicular fortitude is going to be put off investing, they'll just analyse it differently.

2. Managing partners or executive officers make the day-to-day company decisions, not passive investors (or even active investors). You cannot simply have a Director's Meeting to make every decision in a real business, nor would investors/Directors be interested in being involved with any such silly idea.

Wrong again. Delegation of authority wouldn't change at all. I delegate responsibility because I'm confident the person I'm delegating to will make the right decision for the right reason. How would that change? It doesn't.

3. Profits are a rip-off on society? Are you serious? Do you believe that capitalism is a zero-sum game?

Fair point this time. I'm a little ambivalent on the evil corporate greed monster being tamed, but I do accept that there is leeway for a better credo than exists at the moment. I actually doubt that the proposed change would make any difference to overall profitability. Will Micrososft makes less money because they own their liabilities as well?

No.

4. Banks make loans; investors finance businesses. Loans are collateralized, investors take risks. Taking risks is only justified by appropriate rewards; extreme risks require extreme rewards.

What extreme reward does a person climbing Mt Everest get? I think your comment show sa lck of understanding of why people take risks. The rewards are still going to be there, but they will come with a claimer back the other way if you're not careful with your investments. Looks like good advice to me.

5. Unlimited liability cannot be insured away or subject to rational risk analysis. Perhaps you are unacquainted with the incredibly stupid USA tort system?

Again, I don't know where that was directed, but I don't claim to be any kind of expert on US law. The knowledge I do have finds no problem with the idea. To hold incomprehensible laws up as a reason not to proceed says that maybe the laws are wrong rather than the suggestion. As to liability being insured against, you're completely wrong. Lloyds. London.

Unlimited liability doesn't apply either, because the liability is obviously limited to the amount of debt.

Jointly-and-severally has real limits for real reasons. Good ones.

Well, that's an excellent point, and it really backs up what I've been saying. The company and its owers would all be jointly and severally liable for the debts of the company.

Can you see how that might encourage a little more stringent due diligence?

[balrog666]

(bolding mine)

I'm tempted to just say "QED" and leave it at that, with your own last sentence almost covering it.

I think the point was made to Acuity rather than me, but I will suggest that he isn't talking nonsense and I do know what I'm talking about -I own several companies and am a former senior bank manager.

And yet, you don't understand what an "investor" is - imagine that! No wonder you are a former whatever.

Obviously, this isn't something which could be brought into legislation retrospectively, but the scenario is possible and might just cut some of those 50% of losers taking other people's money with them.

Nonsense. How can you make every stockholder pledge their entire asset base for every company they own one single share of?

Coming in with a "nonsense" just doesn't wash, I'm sorry. You don't appear to have valid arguments against it, either:

Let's see ...

[snip]

As you rightly note, the business starts with $0 income, $0 assets and 0 customers. Someone is going to have to spend money to start the company off. That is obtained from two possible sources - the business-owner's own money, or someone else's.

Or both. However, service businesses can be started with no real money, just tools and expertise. And a willingness to work.

If it's someone else's, that somone else will require collateral/security for the loan.

Utterly wrong. You fail to distinguish between a loan (from friends, from family, or from a bank requiring collateral) and an investment (from investors taking a risk - their "collateral" is a piece of the action). Go back and read my first post.

Are you sure you know how this works?

If the loan fails, the security is realised. How many examples of mortgagee sales due to failed businesses would you like me to quote? A million? 2 million? It is a scenario as common as farting. Again, as you note, up to 50% fail at the start. Do you think some money-fairy funded those?

Humm ... didn't I say that half of all new businesses fail within a year?
Not "at the start" but within a year. And many will fail owing suppliers, back taxes, and even backers. So not everyone is cut out to run a business. Do you have a point here?

The only thing which would change is risk analysis. Nobody with any testicular fortitude is going to be put off investing, they'll just analyse it differently.

Really?? If your brother asks you to invest (note: not loan - please look that up) a whole $1000 in his new septic tank cleaning business, would you do it? Even knowing that, as an "investor", you will be on the hook for every debt or liability his business incurs?

Are you willing to risk losing your house when he causes a septic tank he is cleaning to explode and kills someone? Let's say that happens on Day-2 just to keep it simple.

Wrong again. Delegation of authority wouldn't change at all. I delegate responsibility because I'm confident the person I'm delegating to will make the right decision for the right reason. How would that change? It doesn't.

As an "investor", your authority is extremely limited. What are you going to do, demand that your brother return your $1000 and erase your name from the corporate records? Good luck with that plan!

[snip - Microsoft is not under discussion, a brand new, startup business is]


What extreme reward does a person climbing Mt Everest get? I think your comment show sa lck of understanding of why people take risks. The rewards are still going to be there, but they will come with a claimer back the other way if you're not careful with your investments. Looks like good advice to me.

I see that you've never wanted to climbed Mt Everest - that's no surprise to me. Shall I guess at other things you've never wanted to do or shall we keep it "straight"?


Again, I don't know where that was directed, but I don't claim to be any kind of expert on US law. The knowledge I do have finds no problem with the idea. To hold incomprehensible laws up as a reason not to proceed says that maybe the laws are wrong rather than the suggestion. As to liability being insured against, you're completely wrong. Lloyds. London.

Perhaps you simply misunderstand this proposal. There are some bets Lloyds won't take at any price (and I know that for fact from personal experience).

But, in any case, what premium are you willing to pay to insure a business with no sales, no customers, and no free assets? What kind of premium will an insurance company demand for such exposure (even with a limit on exposure)?

Gee, do you think there might be a problem with this idea yet?

Unlimited liability doesn't apply either, because the liability is obviously limited to the amount of debt.

Wow, just completely wrong. Think back to your brother and the septic-tank explosion he caused - just who do you think is going to pay for that? You, as a partial 1/10 of 1% owner, are on the hook for 100% of all liabilities; you know, jointly and severally and "deep pockets" and all that. Wave goodbye to your house by the way.


Well, that's an excellent point, and it really backs up what I've been saying. The company and its owers would all be jointly and severally liable for the debts of the company.

That's already possible under the law if you *CHOOSE* to form a business that way. Funny, how few people *CHOOSE* to do that. Why would they?

Are you sure you know how this works?

Can you see how that might encourage a little more stringent due diligence?

Does this mean you don't invest in your brother? Or are you still on the hook even if you only "loan" the money to him?

But what if he claims you are his secret partner anyway? Can they still take your bank accounts and house? Or will you be able to hire a skilled enough lawyer to get it all back (minus costs, of course)?


And let's see what happens: 98% of all startups never happen, 99% of all successful businesses never happen, never grow, never expand, never become big businesses, unemployment soars, economies collapse! Oh, what a magnificent plan!


Except what really happens is that startups simply become more rare and costly as every single one incorporates in Bermuda or Antigua or Swaziland or where ever they need to do so to avoid your silly rules, just like all current businesses would do.

[The Atheist]

And yet, you don't understand what an "investor" is - imagine that! No wonder you are a former whatever.

What a strange thing to say. Please show where I have any trouble knowing what an investor is. I got Acuity a little confused because I changed subjects in mid-stream on him.

You do realise that "investment" in a limited liability company can be made in many different ways and that share purchase is but one of them?

Nonsense. How can you make every stockholder pledge their entire asset base for every company they own one single share of?

Simple - legislation. If you understand how joint and several liabilities work, you'll understand how it's possible. I think people would be a lot more careful with their investments.

Or both. However, service businesses can be started with no real money, just tools and expertise. And a willingness to work.

Now you're contradicting yourself. What are tools of trade but capital investment? Not to mention that unless payments start coming during the first week, working capital will be required to pay salaries. If salaries aren't taken, then that also becomes part of the capital investment of a company.

Utterly wrong. You fail to distinguish between a loan (from friends, from family, or from a bank requiring collateral) and an investment (from investors taking a risk - their "collateral" is a piece of the action). Go back and read my first post.

Are you sure you know how this works?

Absolutely, but it seems highly unlikely that you do. Where the funds come from is irrelevant - see above. Obviously, one would hope that terms on a family loans & investments are friendlier than ones from a financier or VC partner.

Humm ... didn't I say that half of all new businesses fail within a year?
Not "at the start" but within a year.

Don't be pedantic. The first year is the start.

Really?? If your brother asks you to invest (note: not loan - please look that up) a whole $1000 in his new septic tank cleaning business, would you do it? Even knowing that, as an "investor", you will be on the hook for every debt or liability his business incurs?

My brothers - no. There are other people I'd happily do it for.

Are you willing to risk losing your house when he causes a septic tank he is cleaning to explode and kills someone? Let's say that happens on Day-2 just to keep it simple.

Two words: due diligence. Learn about it.

I see that you've never wanted to climbed Mt Everest - that's no surprise to me. Shall I guess at other things you've never wanted to do or shall we keep it "straight"?

And you've climbed it how many times?

Disingenuous to a fault.

Perhaps you simply misunderstand this proposal. There are some bets Lloyds won't take at any price (and I know that for fact from personal experience).

Correct! Those dodgy propositions then become the entire responsibility of the business owners. I have no problem with that.

But, in any case, what premium are you willing to pay to insure a business with no sales, no customers, and no free assets? What kind of premium will an insurance company demand for such exposure (even with a limit on exposure)?

Gee, do you think there might be a problem with this idea yet?

Not even slightly. Remember - due diligence.

Wow, just completely wrong. Think back to your brother and the septic-tank explosion he caused - just who do you think is going to pay for that? You, as a partial 1/10 of 1% owner, are on the hook for 100% of all liabilities; you know, jointly and severally and "deep pockets" and all that. Wave goodbye to your house by the way.

Fortunately, as I noted, I'd be very careful to ensure that if I invested in that business, sufficient insurance and public liability cover was held.

That's already possible under the law if you *CHOOSE* to form a business that way. Funny, how few people *CHOOSE* to do that. Why would they?

Are you sure you know how this works?

Argument by caps? Cool!

Instead of telling me that "few" people choose to work that way, why don't you find some statistics which show how many that few is? ;)

Does this mean you don't invest in your brother? Or are you still on the hook even if you only "loan" the money to him?

Nope, It means that I'd make very sure where my money was being invested. Hey, which is exactly what I do!

But what if he claims you are his secret partner anyway? Can they still take your bank accounts and house? Or will you be able to hire a skilled enough lawyer to get it all back (minus costs, of course)?

Ah, the old reductio ad absurdum! Haven't had one of those for ages.

Well. When my brother referred to the secret partnership I'm in with him, I'd tell the secret police to find the evidence of the secret funds having either been withdrawn or paid to the secret business, via the no-doubt secret bank account. ;)

And let's see what happens: 98% of all startups never happen, 99% of all successful businesses never happen, never grow, never expand, never become big businesses, unemployment soars, economies collapse! Oh, what a magnificent plan!

Which boils down to having a philosophical "why not" discussion on the internet where you and I disagree at whether something is possible or not. Or, you could try and evidentiary approach and show me why it couldn't work.

If you managed that, I'd gladly admit that the premise is impossible. As someone whose entire life has been spent in business and finance, I can see it being workable.

Maybe if you owned a company and watched both your own and others money be tipped down the drain while the company owner still drives a brand-new Mercedes, you might feel differently. Or, maybe you agree that Chapter 11 bankruptcy is a moral and sensible idea - using federal tax money to prop up investments of [usually] the elite?

Except what really happens is that startups simply become more rare and costly as every single one incorporates in Bermuda or Antigua or Swaziland or where ever they need to do so to avoid your silly rules, just like all current businesses would do.

Repeating the point won't make it right, you know.

[Francesca R]

Complete nonsense. In fact, you don't seem to understand how or why businesses are started, let alone run on a day-to-day basis.Sigh . . . great start. Is this line for the purpose of bolstering your ego online or something? I offer that nobody in the discussion needs verbiage like this other than you so could you dispense with it?

They were created for very specific purposes and have proved to be a fantastic success.So much so that there is no downside, and nothing to improve? Is that your implication? If not what is your point?

No one would ever start a business if they knew they could lose, not just their business, but their house, car, savings, and every other asset they have ever acquired on day-1 of business operation.
No entrepreneur would ever risk everything? Nobody ever has? Are you sure you want to say this?

Managing partners or executive officers make the day-to-day company decisions, not passive investors (or even active investors). You cannot simply have a Director's Meeting to make every decision in a real business, nor would investors/Directors be interested in being involved with any such silly idea.Relevance?

Profits are a rip-off on society? Are you serious? Do you believe that capitalism is a zero-sum game?Please read the post again as you have drawn a wholly incorrect inference. Free insurance in the form of limited liability, written automatically by society to a company, is a rip off.

Banks make loans; investors finance businesses. Loans are collateralized, investors take risks. Taking risks is only justified by appropriate rewards; extreme risks require extreme rewards.If the risk of every start-up is "extreme", then who exactly is taking it and what is their reward? Be specific, such as your brother's septic tank scenario.

Unlimited liability cannot be insured away or subject to rational risk analysis.Really? So if I sell you a call option on XYZCo (my sister's nuclear waste disposal venture), your upside is infinite and my liability is unlimited. You'll pay me infinite money for this? Or you'll allow me to default if your profit is above a certain level because it's simply not rational? OK!

So in conclusion: What is your rebuttal of repealing limited liability status (to any extent)? All I see is "nobody would take the risks" (which is false) and "the current system works" (see my point above) and "It couldn't work any other way" (unproven)

PS: @ The Atheist: For me it's "she"; "her"; "hers", but no worries (mate).

[The Atheist]

PS: @ The Atheist: For me it's "she"; "her"; "hers", but no worries (mate).

Oops! I'll get that right next time.

[Francesca R]

The popularity of leverage (or derivatives in general) is that it can give a large exposure to a market without having to actually deal in the thing itself.Leverage can give you unlimited liability. Any time anyone in the FX market sells (for example) Brazilian real (BRL) 10 million forward for South African Rand (ZAR), their downside is theoretically uncapped. So is the downside of the bank they trade with. Yet many people and firms make rational decisions to do just this, they calculate the value-at-risk, and at almost any time they can find someone else to take the other side if they want to close out the exposure.

This is but one tiny example. Unlimited liability is traded across the world all the time.

[fxm]

Limited liability is free insurance that gives a company a free pass to take risks it will not have to pay for, and thereby rip (someone) off.

Limited liability does not protect a company, nor is it free. It protects the owners of the company from losing more than they have invested in that company. There is still loss involved (so it is not free), and the company itself could still be destroyed if something goes wrong.


Therefore limited liability is axiomatic with excessive risk taking by businesses.

This seems to be saying that all corporations engage in excessively risky behavior. This sounds like an overstatement. Excessive by whose definition?


Worse, with these excessive risks, the business captures the positive pay-off but someone else (society) wears the negative tails. It systematically disadvantages those external to the company

Isn't this rather pessimistic? If a business is successful, it is because it has created something of value to its customers. Isn't that also a positive payoff to those outside the company? And don't the owners of the company lose something if the business is not successful?

What problem are you trying to solve with this proposal, exactly? It sounds like you are trying to come up with a system in which everyone always behaves for the good of society as a whole. Is that even remotely realistic? Can you provide evidence that the corporate form of business really has a net negative effect on society?

[madurobob]

Y'all are having an excellent conversation - I almost hate to butt in and ask a few questions. But, I'll risk it... ;)

Nope, It means that I'd make very sure where my money was being invested. Hey, which is exactly what I do!
Really? Have you really done such due diligence across your entire stock portfolio - including those owned through mutual funds - to be able to state unequivocally that you've adequately managed your financial risk to a point that you'd be "safe" in a world with no limited liability? Hats off to you - I find that amazing.

some removal of the limited liability concept would be—IMO—an alternative approach to things like corporate social responsibility (CSR),
Can you expound on this?

I suspected that some of the disagreement here was that The Atheist was talking about reigning in LLCs while balrog666 was focused on C corps and how asinine it would be to do away with limited liability for those shareholders. But, you statement about CSR makes me wonder where you really wanted to go with this.

I fully agree that LLCs have gotten out of hand. I can understand the need for medical LLCs, and they are insured to the gills already anyway. But, many other LLCs out there should rightfully be partnerships with joint/several liability. Or, as you may be suggesting, a new corporate chapter where shareholders bear more risk.

However, I think shifting liability to shareholders in C corps would be a recipe for disaster. Would I ever be able to qualify for a mortgage if I owned a share of C corp stock? How would the mortgage company assess the risk? Wouldn't Bill gates single share of BOBCO stock be worth far more than mine in the event of a corporate catastrophe, even though we both paid the same price and receive the same benefit for our shares? Is that fair to Bill?

I could go on, but it would get even more ridiculous. So, are we talking about eliminating liability to C corp stockholders, or something more targeted at LLCs?

[The Atheist]

Really? Have you really done such due diligence across your entire stock portfolio - including those owned through mutual funds - to be able to state unequivocally that you've adequately managed your financial risk to a point that you'd be "safe" in a world with no limited liability? Hats off to you - I find that amazing.

No, I didn't mention "safe". The key is to ensure that the risks are manageable and quantifiable. I don't think risk can be removed, but it can certainly be managed.

[Francesca R]

Limited liability does not protect a company, nor is it free. [B]It protects the owners of the company from losing more than they have invested in that company. There is still loss involved (so it is not free), and the company itself could still be destroyed if something goes wrong.Agree 100%. The point beyond which the company loses its capital is freely insured. If you don't think that's protection, try asking any business if they would be indifferent to doing without limited status.

This seems to be saying that all corporations engage in excessively risky behavior. This sounds like an overstatement. Excessive by whose definition?Since they are not liable beyond the limit, there is insufficient disincentive to expose themselves to downside risk beyond the limit of liability. Imagine a thought experiment in which you removed all limited status. One poster above has already sounded an alarmist proposition that "98% of startups will never happen". I don't agree with that at all, but it sounds like all sides agree that less risk will be taken. Ergo, limited status encourages excess risk. Can you argue the reverse of this?

Isn't this rather pessimistic? If a business is successful, it is because it has created something of value to its customers. Isn't that also a positive payoff to those outside the company? And don't the owners of the company lose something if the business is not successful?Sure; doesn't negate any of my arguments though.

What problem are you trying to solve with this proposal, exactly? It sounds like you are trying to come up with a system in which everyone always behaves for the good of society as a whole. Is that even remotely realistic?No. I don't have a problem (in theory) with a business acting against society's interest as long as it is not able to externalise the risk onto society as well. The problem you ask about is the excess risk of business decisions being worn by society (yet taken by company officers). I had hoped that much was apparent from the OP. Do you understand what I am talking about with this?

Can you provide evidence that the corporate form of business really has a net negative effect on society?No and I never argued it was a net negative. But that does not mean it is not amenable to improvement.

[madurobob]

Since they are not liable beyond the limit, there is insufficient disincentive to expose themselves to downside risk beyond the limit of liability... ...all sides agree that less risk will be taken. Ergo, limited status encourages excess risk. Can you argue the reverse of this?

I think we all agree that less risk will be taken by investors under a regime that removes limits on liability to stock holders. I'm not convinced that translates into less risk taken by the corporation nor does it follow that limited status encourages excess risk, but rather that risk is a function of liability. What does excess risk mean? This concept has to be defined before we can argue what drives it.

Can you explain what would make the corporation make different decisions on risk under unlimited liability to shareholders? Couldn't you argue that the corporation might be willing to take on more risk knowing that risk passes to the shareholders and that Bill Gates owns some of the stock? In fact, would Bill Gates owning some shares lower the risk to the insurance company and thus lower the insurance premiums or the level of insurance carried?

Corporate officers are criminally liable for negligence, breach of fiduciary duty, etc... under a variety of laws that vary by country. SARBOX is a good example in the US. These laws are designed to personalize the risk to the key corporate decision makers. The possibility of jail time is an excellent deterrent and probably better than the knowledge that the shareholders may have to pay for your mistakes as a corporate officer. I don't think shifting financial risk to equity investors is a good substitute because those investors rarely have any influence on day-to-day decision making at the corporation.

[Francesca R]

some removal of the limited liability concept would be—IMO—an alternative approach to things like corporate social responsibility (CSR)Can you expound on this?
CSR is an idea (and a movement) that has gained considerable traction, but I believe that it changes nothing about the axiom that a well-run company should and does pursue profits for its shareholders above all else. There is no mandate to CSR—it does not create a "debt to society" in corporations where there was not one before, and it engages no mechanism to encourage the service of public interest above profit. It boils down to a PR exercise: CSR will be trumpeted and practised if it is good for business, but this has always been true.

We are left with the issue of how to make sure that business best serves society, or rather; does not harm society, or still rather (my take on this); does not have the ability to harm society without bearing the appropriate risk of having to compensate society.

Some say no special effort is necessary in this regard—leave corporations with the sole incentive to earn profits and the public interest will take care of itself, because business interests will always be fully aligned with public interests. I disagree.

Some say CSR fixes it. As above, I believe it achieves nothing.

Some say it is the job of government to regulate business and rig the incentive structure so that business interest and public interest are aligned. I agree—but it is far too tall an order for most governments to be completely effective, and such incentive-rigging may suffer inefficiency, corruption, and unwanted side-effects.

I consider part of the cause of misaligned business and public interest is due to limiting a company's exposure by default to big negative outcomes. It is an legal construct to do this. There are reasons for limited liability being an institution. But granting such status for free, on demand, to a business as standard? I simply wonder if this should now be recognised as going too far.

The fundamental principle here is: The exposure to extreme negative outcomes of business actions cannot be eliminated from society altogether. Some body (group) has to accept it. That's fine, as long as those accepting it are aware and fairly compensated for assuming the risk. With limited liability being granted for free, the risk goes to society without their participation being voluntary and without the compensation being fair (voluntarily agreed).

So far this is not an argument about how to change the system. It's a suggestion that the system should be changed to something other than it is; namely into a system where the risk of imposing a cost on society (generating an outcome contrary to society's interest) is differently, and more fully, accounted for.

[Paul C. Anagnostopoulos]

There is no magic cut-off point at which people will refuse to take a risk. The implication that "if you can lose more than you put in, nobody is going to invest" is simply false.
I have no problem losing more than I put in, but I certainly don't want to lose everything. In fact, I'm not sure I trust someone willing to lose his own, his family's, his friends', and his investors' entire lives starting a risky venture. If he thinks so little of them, what does he think of his customer?


Limited liability is free insurance that gives a company a free pass to take risks it will not have to pay for, and thereby rip (someone) off.
Wow, do you think this is the typical scenario?

~~ Paul

[Francesca R]

I have no problem losing more than I put in, but I certainly don't want to lose everything.Me neither. But I would take the risk if it was sufficiently compensated, just as I will risk death by venturing onto a city street if I want to post a letter.

In fact, I'm not sure I trust someone willing to lose his own, his family's, his friends', and his investors' entire lives starting a risky venture. If he thinks so little of them, what does he think of his customer?I don't follow you here. What has happened here to make this guy less "trustworthy"? You seem to be saying "If someone does not need to worry about absolute calamity" . . . [not because it is less likely but because society will underwrite the scenario] . . . "then I trust their judgement. If they do have to worry about absolute calamity and still think the venture has a good reward/risk prospect, then I don't trust their judgement"

Are you saying no business venture would make financial sense if downside is uncapped and unless it is underwritten by someone else then only mad-asses would take business risk?

Wow, do you think this is the typical scenario?No. Do you think it happens though?

[Paul C. Anagnostopoulos]

I don't follow you here. What has happened here to make this guy less "trustworthy"?
He's willing to trash lives to follow his dream.


You seem to be saying "If someone does not need to worry about absolute calamity" . . . [not because it is less likely but because society will underwrite the scenario] . . . "then I trust their judgement. If they do have to worry about absolute calamity and still think the venture has a good reward/risk prospect, then I don't trust their judgement"
You got it.


Are you saying no business venture would make financial sense if downside is uncapped and unless it is underwritten by someone else then only mad-asses would take business risk?
Not no business venture, but certainly many. Do you want to spend 1.2 billion to bring a new drug to market with the possibility that everyone who invested that money---many people---can have their lives trashed? Do you think there are enough people who would trust your judgement with their lives?


No. Do you think it happens though?
Sure, but so does every other bad thing.

~~ Paul

[Loss Leader]

The concept of limiting an investor's liability for a company's actions to no more than the sum of his investment is probably one of the most important factors in the growth of capital, technological innovation and building of infrastructure in the history of the human race. I would place it side-by-side with fractional reserve banking in its impact on the gross standard of living of the entire species.

Remember, the individual who actually takes an action can never be relieved of his liability. If Bob owns stock in Coca-Cola and a coke truck hits and kills a pedestrian, Bob may have to pay that pedestrian up to the value of his stock. But if Bob owns stock in coke and is driving the truck that kills a pedestrian, he will be liable up to and including all of his assets.

I just cannot see a way of convincing people to invest in corporations they then have no say in except to offer them a cap on the risk they are taking.

[Francesca R]

He's willing to trash lives to follow his dream.Does not follow. The dream is the same whether investor liability is limited or not. So is the probability of a huge loss. Either way he enters the same risk. The only difference is who picks up the pieces. With unlimited liability there is full consent on the part of those who bear the risk.

Not no business venture, but certainly many. Do you want to spend 1.2 billion to bring a new drug to market with the possibility that everyone who invested that money---many people---can have their lives trashed? With full consent to the risks and voluntary participation (I do not force investors to invest), their investment decision is . . . theirs.

Do you think there are enough people who would trust your judgement with their lives?Yes.

Do you trust the judgement of the thousand or so car drivers that pass within 5 metres of you at speeds of 50km/h with your life? (I will have to think of another analogy if you live in the forest)

[Francesca R]

I think we all agree that less risk will be taken by investors under a regime that removes limits on liability to stock holders. I'm not convinced that translates into less risk taken by the corporation nor does it follow that limited status encourages excess risk, but rather that risk is a function of liability. What does excess risk mean? This concept has to be defined before we can argue what drives it.Excess risk means risk that would not be taken if the company was fully exposed to it, but which may be taken if the company knows it is taking the risk on behalf of society ("someone else")

Can you explain what would make the corporation make different decisions on risk under unlimited liability to shareholders? Couldn't you argue that the corporation might be willing to take on more risk knowing that risk passes to the shareholders and that Bill Gates owns some of the stock?I doubt it. Logically it would be more willing to take externalised risk over internalised risk. The choice between "your invested assets are on the line if this goes bad" and "your invested assets and then some are on the line if this goes bad" seems clear to me, for the same "if this goes bad" scenario.

In fact, would Bill Gates owning some shares lower the risk to the insurance company and thus lower the insurance premiums or the level of insurance carried?Yes, Bill Gates could probably engineer cheaper insurance than Joe Schmo, because of Bill Gates' ability to pay. Bill Gates may be a more favoured investor as a result. Fine.

Corporate officers are criminally liable for negligence, breach of fiduciary duty, etc... under a variety of laws that vary by country. SARBOX is a good example in the US. These laws are designed to personalize the risk to the key corporate decision makers. The possibility of jail time is an excellent deterrent and probably better than the knowledge that the shareholders may have to pay for your mistakes as a corporate officer.I'm not sure about this ranking of incentives you outline. Jail time did not deter Jeff Skilling, yet the balance of financial greed/fear (as an investor) did motivate him. It is quite hard to go after executives for negligence (Would you agree that there are many more cases of acknowledged corporate negligence than there are culpable and convicted company executives?). I suspect that re-rigging the greed/fear equation for stockholders—and not just those who are also CEO—might be better

I don't think shifting financial risk to equity investors is a good substitute because those investors rarely have any influence on day-to-day decision making at the corporation.Agreed on your last point, but executives' incentives are to increase shareholder value first and foremost. Curtailment of limited liability introduces downside for shareholder value that is more compatible with social interests (usually greater downside). I offer that this will influence executive behaviour.

[Paul C. Anagnostopoulos]

Does not follow. The dream is the same whether investor liability is limited or not. So is the probability of a huge loss. Either way he enters the same risk. The only difference is who picks up the pieces. With unlimited liability there is full consent on the part of those who bear the risk.
Whether the dream is the same is irrelevant. The guy is risking the total welfare of his family, friends, and investors based on his view of his own infallibility. I don't trust that he is infallible. I want some protection against his fallibility and the capriciousness of litigation.


With full consent to the risks and voluntary participation (I do not force investors to invest), their investment decision is . . . theirs.
I didn't suggest that under the scenario you describe we should outlaw investing in startups. I simply said I don't trust people.


Do you trust the judgement of the thousand or so car drivers that pass within 5 metres of you at speeds of 50km/h with your life? (I will have to think of another analogy if you live in the forest)
No, but I have no choice. And to protect my family against my own possible bad driving, I buy insurance. Perhaps we could have startup insurance?

I don't mean to say that no one would invest under the scenario you describe. But I have more trust in someone who protects me against his own possible mistakes or bad luck, if he has the choice. Would Buffett invest in a risky startup after the first time he was sued to within an inch of his life? No, because he would have no more money to invest. Would Gates invest? No, because he just watched Buffett get screwed.

~~ Paul

[Francesca R]

The concept of limiting an investor's liability for a company's actions to no more than the sum of his investment is probably one of the most important factors in the growth of capital, technological innovation and building of infrastructure in the history of the human race. I would place it side-by-side with fractional reserve banking in its impact on the gross standard of living of the entire species.Agreed, but I think (i) it can be improved upon and (ii) there are additional priorities for society that may be under-catered for by this concept.

I just cannot see a way of convincing people to invest in corporations they then have no say in except to offer them a cap on the risk they are taking.Why? How did anyone convince Bob to drive that van? He will have known up front that he could not exercise sole discretion over whether he hit a pedestrian or not. Part of that risk was beyond his ability to control. Yet he got behind the wheel.

[Loss Leader]

Why? How did anyone convince Bob to drive that van? He will have known up front that he could not exercise sole discretion over whether he hit a pedestrian or not. Part of that risk was beyond his ability to control. Yet he got behind the wheel.


I have no idea what you mean by this. How did Bob not have sole discretion over whether he hit a pedestrian? What part of that risk was beyond his ability to control?

Bob is only ever liable for the harm he causes that he could have prevented with due care. If Bob hits a pedestrian for reasons over which he has no control, he is not liable for the damage done to the pedestrian.

[Francesca R]

Whether the dream is the same is irrelevant. The guy is risking the total welfare of his family, friends, and investors based on his view of his own infallibility. I don't trust that he is infallible. I want some protection against his fallibility and the capriciousness of litigation.I "want" it too. However logically I tend to think that blanket free liability limitation is incompatible with an ethical society. Can you make an argument that it is compatible?

I don't mean to say that no one would invest under the scenario you describe. But I have more trust in someone who protects me against his own possible mistakes or bad luck, if he has the choice.I wouldn't say I trust someone more that way, but if he has the choice then the self-interested choice is something of a no-brainer (although unlimited partnerships also exist ). But it isn't so much the starter-upper who is protecting you, society is.

Would Buffett invest in a risky startup after the first time he was sued to within an inch of his life? No, because he would have no more money to invest. Would Gates invest? No, because he just watched Buffett get screwed.I contend that Buffet would invest if the reward/risk was attractive enough to compensate for the risk. Just because the negative tail of the risk distribution is no longer borne by society does not mean nobody will ever be interested any more.

I can take a leveraged position in a financial derivative and there will be a scenario where I could lose my house and all my assets. If that happens as soon as the market price moves one tick the wrong way, then I'm very foolish, but if it only happens if the market price declines 99.9999999% then it's fine. Probability, not possibility, is the basis of risk assessment.

[Paul C. Anagnostopoulos]

I "want" it too. However logically I tend to think that blanket free liability limitation is incompatible with an ethical society. Can you make an argument that it is compatible?
Way too complicated an issue for me. I'm thinking about the practical aspects. But doesn't the potential danger of a new drug win out over the possibility that no one would produce it at all?


I contend that Buffet would invest if the reward/risk was attractive enough to compensate for the risk. Just because the negative tail of the risk distribution is no longer borne by society does not mean nobody will ever be interested any more.
Just wait until some folks really get screwed. The lawyers would go for the deep pockets until there was nothing but a hole left at the bottom. The next guy to come along would be pretty gun-shy, I think.


I can take a leveraged position in a financial derivative and there will be a scenario where I could lose my house and all my assets. If that happens as soon as the market price moves one tick the wrong way, then I'm very foolish, but if it only happens if the market price declines 99.9999999% then it's fine. Probability, not possibility, is the basis of risk assessment.
The market is not controlled by lawyers and litigants.

~~ Paul

[Francesca R]

Just wait until some folks really get screwed. The lawyers would go for the deep pockets until there was nothing but a hole left at the bottom. [ . . . ] The market is not controlled by lawyers and litigants.There seems to be an implication in this that the law is especially beastly to to big businesses and comes down too much in favour of society. Corporations get legged over repeatedly and Jill Public wins too often.

Is that what you think? Who do you think hires the brightest team of lawyers on this playing field?

[Loss Leader]

There seems to be an implication in this that the law is especially beastly to to big businesses and comes down too much in favour of society. Corporations get legged over repeatedly and Jill Public wins too often.

Is that what you think? Who do you think hires the brightest team of lawyers on this playing field?


I don't see any such implication and I don't think one is necessary for Paul's point to be valid. Corporations do injur people, they do get sued and they do lose. Whether this is too widespread or not widespread enough is irrelevant. Once an investor knows that he is personally liable for the behavior of a corporation that he cannot control, he would have to be insane to put any money into it. He would have no way of knowing whether the corporation was actually behaving prudently and no way of forcing it to reform its behavior.

Either that or you would create a whole new class of strawmen - dirt poor individuals who take a small fee to hold stock in trust for some rich guy.

Laws already exist that allow the law to pierce the corporate veil for undercapitalized corporations. A corporation that does not maintain appropriate funds and insurance may well create a situation where its major investors actually are personally liable. Since those laws are already in place, there seems to be no purpose to attacking the concept of limited liability.

[Paul C. Anagnostopoulos]

There seems to be an implication in this that the law is especially beastly to to big businesses and comes down too much in favour of society. Corporations get legged over repeatedly and Jill Public wins too often.
I don't know whether the law is especially beastly now, but I think I can assure you that, if given half a chance, everyone would have it in for Big Corp.

~~ Paul

[Thanz]

The real problem with getting rid of limited liability for corporations has less to do with ngligence lawsuits or environmental concerns and more to do with normal business debts. Investors don't want to be on the hook for business losses that a business racks up. If a business goes under, the shareholders lose their investment. That is a risk that they can analyze and assess, If, however, the investor will also be on the hook for all of the unpaid bills of the business, that is a risk that is harder to assess. And that uncertainty will drive up the price of capital to businesses. An investor who may be willing to invest $500,000 for 25% of a business with limited liability may want 50% of that same business if he also has unlimited liability.

Getting rid of limited liability will limit the pool of available capital, and positively destroy the primary stock markets like the Nasdaq and NYSE.

[fxm]

[bold=me]Agree 100%. The point beyond which the company loses its capital is freely insured. If you don't think that's protection, try asking any business if they would be indifferent to doing without limited status.

It is not insurance, but an exchange. The shareholder has no say in the day-to-day running of the business. In exchange for this, he or she is not held personally liable for what the company does.

The company itself is not insured. It can be sued, it can go bankrupt, etc. The officers of the company, who *are* charged with its day-to-day operation, can also be held liable for actions the company has taken.

This is a valuable protection for the shareholder, not for the company itself.


Since they are not liable beyond the limit, there is insufficient disincentive to expose themselves to downside risk beyond the limit of liability. Imagine a thought experiment in which you removed all limited status. One poster above has already sounded an alarmist proposition that "98% of startups will never happen". I don't agree with that at all, but it sounds like all sides agree that less risk will be taken. Ergo, limited status encourages excess risk. Can you argue the reverse of this?

Please define what you mean when you say "risk" and "excess", as I suspect there are cross-purposes at work.

To an investor, "risk" mean "risk of losing what I've invested" (or worse, risk of losing more than what is invested). In general, investors expect to be paid more in exchange for taking on more risk. Eliminating the limited liability provision for shareholders would substantially increase the risk of stock ownership, so investors would expect a much higher return on their investment (or possibly, more direct control of the company) in exchange for that risk. I think other posters have already mentioned likely outcomes in the economy due to this.

I get the sense, though, that you are positing that corporations engage in other kinds of "excessively risky" behavior -- in the sense of risk to the environment, society, etc. Is that the kind of risk you are referring to? If so, then I don't think eliminating limited liability would have the desired effect, mainly because I don't think corporations (or, more accurately, the people who own them and work for them) engage in unethical behavior at a rate that is any higher than other groups of people. I'd be happy to review any evidence, studies, references, you might have that could change my mind on that, though.


...I never argued it was a net negative. But that does not mean it is not amenable to improvement.

Sure, although, this seems rather drastic.

[balrog666]

This thread does seem to getting a little more interesting.

Yes, the effects would be very different for startups, established businesses, and major international corporations.

But I think the effects of such a proposed law would negative in the extreme and, frankly, I can't think of a single good thing that would be likely to result.

For the moment, I will ignore the giant corporations of the world who can reincorporate in another state or country on a whim (e.g., News Corp, HP, Boeing, Haliburton, et al). After all, that only costs a little money and time and, voila, you an operate under a new set of rules for your own protection.
_____________________

It seems to me that the advocates here are tending to concentrate their arguments on the decisions of CEO's and direct owners and the ramifications of corporate debt. And I think that's almost meaningless here. Although I will admit that the idea that, as a stockholder, every single lawsuit against this company will directly, and explicitly, include me and my assets as a prize pig to be contended over to be somewhat disconcerting, to say the least.

The point to consider is that in any business, the workers are human - they make mistakes, they can clown around, and they can occasionally deliberately throw a monkey wrench into the works and you simply can't control 100% of them, 100% of the time. And therein lies the rub, that some people will get injured or killed from somebody screwing up, somebody disobeying the rules, or even deliberately causing an accident (anybody remember how all those unions actually got organized and how they enforce their monopoly?). And that is where the unlimited liability lies for any company.

How many of you have not seen films of auto accidents involving commercial vehicles, truck tires or rims exploding, trucks run wild in pseudo-car chases, or even engines falling off of aircraft? Unlikely, yes, perhaps even rare. Something similar happening somewhere? Yes, and on a daily basis.

And insurance companies won't cover some kinds of accidents, they won't necessarily agree to pay even if an incident is covered, they may not decide to pay for years, and sometimes insurance companies go broke and seek the protection of bankruptcy courts. And, even if they choose to meet their obligations in a timely manner, there are always limits to their coverage. I have personal experience with every one of those options and, in my opinion, most insurance companies are simply extortionists, aided and abetted by state regulators.

So, when you do your "due diligence" and invest in a company, you are not just staking your assets on the CEO and the critical decision makers but on every single one of the employees, every single day, for as long as you own a piece of the company - and let's hope they don't discover something rotten after the fact, when you have already escaped with your profits (in the USA you will still have liability as a matter of law if it happened on your watch) or you could lose everything on an investment you don't even own anymore.

Now, in a company like Microsoft, with 40 billion dollars in the bank, that may not matter much, but in any small or medium sized company it's critical. Even if you are in the right and can prove it, hiring a battery of lawyers and experts and contending such a matter for years can cost a ridiculous amount of money, time, and resources that you cannot afford to throw away and that you will never, ever recover (ain't no loser pays in the USA). You may choose invest there but I won't. And I strongly suspect that Bill Gates and Warren Buffett won't either.

Now, just touching on startup costs, does anybody remember Hillary's statement (with respect to requiring all businesses to provide health insurance for all workers), "I'm not responsible for every undercapitalized business!" Does anyone think that this proposal going to be any better for encouraging startups? Remember, half of current employment is in small businesses - screw up that engine of entrepreneurship, employment, and economic growth and you will have a recipe for a new depression. Sounds like bad news to me.

So, can anyone demonstrate a real positive benefit from this proposal to weigh all this against? Oh, and please make it one from real life, not Fantasyland or some Greenpeace-inspired utopia.

[Loss Leader]

So, can anyone demonstrate a real positive benefit from this proposal to weigh all this against? Oh, and please make it one from real life, not Fantasyland or some Greenpeace-inspired utopia.


I suppose the advantage would be that such a law would immediately arrest almost all investment and growth in whichever nation adopted it. We would all return to a simpler agrarian lifestyle (after the famine and riots killed 80% of the population) and every day would be RenFest day forever and ever.

[quixotecoyote]

I suppose the advantage would be that such a law would immediately arrest almost all investment and growth in whichever nation adopted it. We would all return to a simpler agrarian lifestyle (after the famine and riots killed 80% of the population) and every day would be RenFest day forever and ever.


Woot! De-dev FTW!

[Francesca R]

Once an investor knows that he is personally liable for the behavior of a corporation that he cannot control, he would have to be insane to put any money into it.You think investors—as a group—cannot control company behaviour? Not at all or not enough? If "not enough", is that something that cannot be changed, at all? Why do you write off the ability of company owners to control what paid executives do with their money? Do you not believe that the market influences, constrains, and governs executives' actions?

Since those laws are already in place, there seems to be no purpose to attacking the concept of limited liability.Is it ethical for society, rather than the company, to be automatically liable for all losses after the owners' invested assets are gone? Why?

[Francesca R]

I don't know whether the law is especially beastly now, but I think I can assure you that, if given half a chance, everyone would have it in for Big Corp.I'm not assured of that. The potential prize for successful negligence suits is already high even if you only have the market value of the company to go for. I would not forsee a wholesale taking-to-the-cleaners of quoted companies at all.

[Francesca R]

Investors don't want to be on the hook for business losses that a business racks up.Of course they don't want to be. That isn't an issue. Why should they not be on the hook and who should be on the hook for these losses?

If a business goes under, the shareholders lose their investment. That is a risk that they can analyze and assess, If, however, the investor will also be on the hook for all of the unpaid bills of the business, that is a risk that is harder to assess.How hard to assess would it be? The value of liabilities to creditors of a company is something that has to be audited by law.

And that uncertainty will drive up the price of capital to businesses.Indeed it will. If the risk is greater then investors will demand higher compensation for it. Currently that excess risk is borne by society with no compensation for it. Is that right?

Getting rid of limited liability will limit the pool of available capital, and positively destroy the primary stock markets like the Nasdaq and NYSE.For what reasons other than those I have responded to already?

[Francesca R]

It is not insurance, but an exchange. The shareholder has no say in the day-to-day running of the business. In exchange for this, he or she is not held personally liable for what the company does.Beyond the limit of liability, the shareholder passes that liability to society. What does society get out of that? Nobody has given authority in day-to-day running of the business to society. It's not an exchange.

Please define what you mean when you say "risk" and "excess", as I suspect there are cross-purposes at work.From my post 24 above: "Excess risk means risk that would not be taken if the company was fully exposed to it, but which may be taken if the company knows it is taking the risk on behalf of society ("someone else")"

To an investor, "risk" mean "risk of losing what I've invested" (or worse, risk of losing more than what is invested). In general, investors expect to be paid more in exchange for taking on more risk. Eliminating the limited liability provision for shareholders would substantially increase the risk of stock ownershipYes. Is this ethically wrong?

investors would expect a much higher return on their investment (or possibly, more direct control of the company) in exchange for that risk. I think other posters have already mentioned likely outcomes in the economy due to this.Is your argument against it based only on practicalities, or can you argue against it on principle?

I get the sense, though, that you are positing that corporations engage in other kinds of "excessively risky" behavior -- in the sense of risk to the environment, society, etc. Is that the kind of risk you are referring to? If so, then I don't think eliminating limited liability would have the desired effect, mainly because I don't think corporations (or, more accurately, the people who own them and work for them) engage in unethical behavior at a rate that is any higher than other groups of people.I disagree with that. Corporations (and those managing them) respond to financial incentives. People and collective groups of people respond to a broader range of incentives, and act on the basis of (ethical and other) values.

I'd be happy to review any evidence, studies, references, you might have that could change my mind on that, though.I recommend this book (http://www.amazon.co.uk/Corporation-Pathological-Pursuit-Profit-Power/dp/1845291743/ref=sr_1_1/202-3671740-6275019?ie=UTF8&s=books&qid=1189788078&sr=1-1) as a reasonably good study of the subject, although it does not recommend curtailing limited liability as a solution. It is not my objective to show that companies are running rampant risks for society to clean up (they are not), nor to argue that "capitalism is bad" (it isn't) or that overall society gets a bad deal (it doesn't). But the OP is concerned with society not getting the deal that it should.

[Thanz]

Of course they don't want to be. That isn't an issue. Why should they not be on the hook and who should be on the hook for these losses?
For the reasons in the rest of my post. The people who are on the hook are the corporation itself, and whatever assets it may have. Sometimes personal guarantees are given by some owners. I don't see how "society" in general is on the hook.

How hard to assess would it be? The value of liabilities to creditors of a company is something that has to be audited by law.
It is not just current liabilities, but all liabilities into the future as long as you are a shareholder. So, much more difficult to assess.

Indeed it will. If the risk is greater then investors will demand higher compensation for it. Currently that excess risk is borne by society with no compensation for it. Is that right?
What excess risk is borne by "society"? What do you mean by that? In reality, the risk is borne by the creditors of the company. Those creditors know that they are dealing with a limited liability company, and can govern themselves accordingly. IF they are a large creditor, they can lend on a secured basis. If they are a supplier, they can deal on a COD basis.

For what reasons other than those I have responded to already?
For the reason that people don't like to buy a pig in a poke. Any country that tries to do away with limited liability companies will see a mass exodus of companies and capital.

[Francesca R]

The people who are on the hook are the corporation itself, and whatever assets it may have. Sometimes personal guarantees are given by some owners. I don't see how "society" in general is on the hook.The "corporation itself" is owned by the investors. You've already said that investors are not on the hook beyond their invested capital. "Society" is on the hook if the losses are bigger than that, by which I mean creditors, customers, employees, the public and the environment, to name some of it.

It is not just current liabilities, but all liabilities into the future as long as you are a shareholder. So, much more difficult to assess.I don't know what you mean. If a company has not incurred a liability yet, then there is no liability. By "liabilities" I mean all liabilities incurred even if payable in the future.

What excess risk is borne by "society"? What do you mean by that? In reality, the risk is borne by the creditors of the company. Those creditors know that they are dealing with a limited liability company, and can govern themselves accordingly. IF they are a large creditor, they can lend on a secured basis. If they are a supplier, they can deal on a COD basis.It is not just creditors; see comment above. Do you think that a company is only able to impose a cost on creditors?

For the reason that people don't like to buy a pig in a poke. Any country that tries to do away with limited liability companies will see a mass exodus of companies and capital.So your argument against is regulatory arbitrage? That is a practical reason against a government offering reduced or no limitation on liability while other governments keep it. Any argument about why the idea is wrong in principle, specifically, ethical principle?

[Thanz]

The "corporation itself" is owned by the investors. You've already said that investors are not on the hook beyond their invested capital. "Society" is on the hook if the losses are bigger than that, by which I mean creditors, customers, employees, the public and the environment, to name some of it.
Creditors, employees and customers all know that they are dealing with a limited liability company and can take whatever precautions they feel are necessary. The public? I'm unsure how any costs are borne by the "public" at large. The environment? The majority of businesses and/or business failures have no direct impact on the environment.

I don't know what you mean. If a company has not incurred a liability yet, then there is no liability. By "liabilities" I mean all liabilities incurred even if payable in the future.
I buy a share of corporation X on January 15. On March 3, they embark on an ill advised marketing plan and incur huge expenses. Under your regime, I am now personally on the hook for not only my investment (which I always knew I could lose) but also the huge expenses, which I did not and could not have known about on January 15, and which I had no control over.

It is not just creditors; see comment above. Do you think that a company is only able to impose a cost on creditors?
If a company goes belly-up, it is usually creditors left holding the bag. Shareholders lose their investment, but that is it. Employees will lose their jobs, but that would also be the case if there was not limited liability. The people to whom the limiited liability really makes a difference are the creditors.

So your argument against is regulatory arbitrage? That is a practical reason against a government offering reduced or no limitation on liability while other governments keep it. Any argument about why the idea is wrong in principle, specifically, ethical principle?
Informed consent. People know what they are dealing with when they contract with a limited liability company.

[Francesca R]

Under your regime, I am now personally on the hook for not only my investment (which I always knew I could lose) but also the huge expenses, which I did not and could not have known about on January 15, and which I had no control over.Is there a contradiction here? You could not have known what the company would do, so how can you bear the full cost of it? Yet creditors, employees and customers "know what they are dealing with", so caveat emptor?

Point taken about (small) investors not being able to control companies, but creditors, employees and customers have even less control than owners.

Informed consent. People know what they are dealing with when they contract with a limited liability company.That's a defence of limited liability (and a good one), not an argument why unlimited liability is no better in principle. And you would know what you were dealing with if you invested in an unlimited liability company too, so informed consent can equally support either regime.

If a playing field is not level, and players know it is not level, then informed consent applies, but that doesn't level the playing field. Do you think unlimited liability is a less level playing field than limited liability and why? This is the crux of the issue.

I'm unsure how any costs are borne by the "public" at large. The environment? The majority of businesses and/or business failures have no direct impact on the environment.If the environment is impacted then that is the same as saying the public is. What relevance does "the majority" have? (What evidence about the majority do you have?) For the ones that do, why is the appropriate amount of compensation zero?

[Thanz]

Is there a contradiction here? You could not have known what the company would do, so how can you bear the full cost of it? Yet creditors, employees and customers "know what they are dealing with", so caveat emptor?
Not quite. It is about defining the amount of the risk. For a creditor, the amount of the risk is the amount of the money lent. For an employee, the risk is not having that job. For a customer, I suppose the risk is not having an order fulfilled properly. But in each case, there is a defined risk that each party is taking, which can be seen upfront. Not so for the investor who will have unlimited liability. That is an undefined risk.

Point taken about (small) investors not being able to control companies, but creditors, employees and customers always have less control than owners.
Employees have more knowledge and more control than some owners, especially in a widely held business. Creditors too can have more control, if they have security.

That's a defence of limited liability (and a good one), not an argument why unlimited liability is no better in principle. And you would know what you were dealing with if you invested in an unlimited liability company too, so informed consent can equally support either regime.

If a playing field is not level, and players know it is not level, then informed consent applies, but that doesn't level the playing field. Do you think unlimited liability is a less level playing field than limited liability and why? This is the crux of the issue.
Unlimited liability is less level in that it allows everyone who deals with a firm to put a box around the amount of their risk except for the equity investor. I am not convinced that other problems with negative externalities (such as environmental issues) would be any better under an unlimited liabilty regime.

I think that practically speaking, if you get rid of limited liability you will essentially get rid of equity financing. All capital investment will be by way of debt instruments. By current definitions of bankruptcy, each business will be perpetually teetering on the edge of it.

[Thanz]

If the environment is impacted then that is the same as saying the public is. What relevance does "the majority" have? (What evidence about the majority do you have?) For the ones that do, why is the appropriate amount of compensation zero?
The "majority" has relevance if you are trying to come up with rules of general application. You do not want to design your rules to address a problem of the minority if it will punish the majority.

Further, who said anything about zero compensation? Companies get dinged with (and pay) costs of environmental clean up all the time.

[Francesca R]

Not quite. It is about defining the amount of the risk. For a creditor, the amount of the risk is the amount of the money lent. For an employee, the risk is not having that job. For a customer, I suppose the risk is not having an order fulfilled properly. But in each case, there is a defined risk that each party is taking, which can be seen upfront. Not so for the investor who will have unlimited liability. That is an undefined risk.I come back to the question: Who should have this liability? It is not the case that every risk incurred by a company has an outer limit. Nobody wants to be exposed beyond a limit—fine. But who should be and who is and what is their positive payoff in return?

Employees have more knowledge and more control than some owners, especially in a widely held business. Creditors too can have more control, if they have security.It's the shareholders money that everyone is doing stuff with. Should governance not rest with them?

Unlimited liability is less level in that it allows everyone who deals with a firm to put a box around the amount of their risk except for the equity investor.Yes, but the equity investor doesn't "deal with the firm"; she owns it. Again, all well and good for her if you allow her to draw a bottom line under her risk, but if you do that (as limited liability does) then where does the tail risk go?

[Loss Leader]

You think investors—as a group—cannot control company behaviour? Not at all or not enough? If "not enough", is that something that cannot be changed, at all? Why do you write off the ability of company owners to control what paid executives do with their money? Do you not believe that the market influences, constrains, and governs executives' actions?


Investors cannot control company behavior sufficiently for them to risk being personally liable for the company's actions. Let's return to Bob driving a truck for the Widget Company and smashing into a pedestrian. As one of a million stockholders, I can perhaps influence who is on the Board of Directors, who is the CEO and large decisions like that.

Perhaps Bob's driving record shows half a dozen suspensions and a DWI. Somebody at the Widget Company should have found that out before hiring him. If he gets in an accident, the Widget Company will be liable for giving him a truck to drive. Can I as an investor make sure that the person hiring drivers makes sure to check their driving records? Of course I can't. I can't call the personnel office or stop by to check that they're doing their jobs right. As one in a million investors, I probably can't even find out the name of the person responsible for hiring Bob.

And there is absolutely no practical way to give me any control or even any information about those day to day decisions. Yet by your formulation, I would be personally liable up to and including all of my assets on earth for the actions of the person who hired Bob and for Bob himself.


Is it ethical for society, rather than the company, to be automatically liable for all losses after the owners' invested assets are gone? Why?


That's not the way it works. The individuals who actually did the negligent or criminal acts are always personally liable up to and including all of their assets. So are the Directors and Officers of a corporation. If a company is underfunded or if it is not run according to strict rules, the law can pierce the corporate veil and find major stockholders personally liable.

Consider Enron. Many stockholders were Enron employees who held stock in their 401ks. When Enron went bankrupt, all of the officers and directors were held liable. Ken Lay and Skilling had to pay massive sums far in excess of their stock holdings. But should the employees who were forced out of jobs and had their 401ks decimated actually have to forfeit their homes so that "society" doesn't bear the costs?

The SEC approved the mark-to-market accounting practices that helped Enron falsify its financial position. The federal government actually approved of the way Enron accounted for its money. California deregulated power supply, allowing Enron to manipulate the power grid for its own profit. The people of California and the US voted into office the people who allowed Enron to behave deceptively. Why shouldn't society bear that cost? "Society" helped cause that cost.

Can you give me a single example of when a single stockholder out of a million publicly traded shares should be held personally liable instead of spreading that cost evenly over the entire market?

[madurobob]

The "corporation itself" is owned by the investors. You've already said that investors are not on the hook beyond their invested capital. "Society" is on the hook if the losses are bigger than that, by which I mean creditors, customers, employees, the public and the environment, to name some of it.
You and I appear to have some equivocation on the meaning of "the corporation". I think I have read your posts as using "the company" to include stockholder "owners". I see the corporation as something separate from and mostly outside the control of its stockholders. "Ownership" of a corporation is something very different than that of sole proprietorships or partnerships. As others have pointed out, that difference (limited liability) is necessary to offset the lack of control.

Excess risk means risk that would not be taken if the company was fully exposed to it, but which may be taken if the company knows it is taking the risk on behalf of society ("someone else")
The company - separate from the stockholders - is fully exposed. It is subject to complete liquidation and even criminal charges against key decision makers. Just as I am fully exposed when I drive. If I am negligent and cause harm I risk losing everything - even my life in some jurisdictions. I cannot be made to pay more than I have or will earn in the future, yet I risk causing more damage than that every time I drive. Society has tacitly agreed to accept that risk by allowing me and everyone else to drive without unlimited insurance.

I agree that there are hypothetical situations where a corporation can cause more financial harm than it is capable of covering, but in practice this risk is fairly well mitigated through insurance and legislation. Can you offer some real word examples of actual financial damage offloaded outside of the corporation?

Finally, others have touched on this point but not come right out and said it: there are times when it is acceptable to impose some small risk on society in general where there is a much larger societal benefit at stake. There are very clear societal benefits to shareholder limited liability - Loss Leader covered this earlier. Whatever minimal risk is borne by society pales in comparison. As an example I suggest our criminal justice system that requires such a high burden of proof that some guilty walk free (OJ?). The risk is very real, but is outweighed by the greater benefit of not recklessly imprisoning the innocent.

[Loss Leader]

There are very clear societal benefits to shareholder limited liability


Without question. Don't forget that corporations were just about invented to explore and settle the world. The pilgrims who landed at Plymouth Rock were employees of the London Virginia Company. Even seeming government endeavors are really corporate triumphs. Would we have landed on the moon if the shareholders of North American Aviation had been worried about being personally liable for any failures of the Command/Service Module? Limited liability and fractional reserve banking are the bedrock on which our infrastructure is built.

[Mashuna]

We're abolishing limited liability for shareholders? Hmm, those index tracker investments have suddenly started looking a bit too risky for me. If you'll excuse me, I'm off to put all my money under my matress instead.

[Thanz]

I come back to the question: Who should have this liability? It is not the case that every risk incurred by a company has an outer limit. Nobody wants to be exposed beyond a limit—fine. But who should be and who is and what is their positive payoff in return?
The corporation itself is fully exposed for all of its assets. What you want to do (or at least proposing) is that the shareholders also be exposed for all of their assets as well. Which leads to disproportionate liability on the basis of individual wealth, regardless of share holdings.

Society in general does not have a risk here. Certain individuals may; there may be environmental concerns; but I don't see the difference between an environmental disaster where the corporation has insufficient assets and the sole propreitorship where the owner has insufficient assets from a public/environmental perspective.

It's the shareholders money that everyone is doing stuff with. Should governance not rest with them?
Ultimately, it does. But they exercise it indirectly through electing the Board of Directors, who hire the executives, who hire the employees. The VP of marketing has more effective control and knowledge than the dude who owns a few hundred shares of a widely traded public company.

Similarly, creditors with security can take steps to take over the operation of the business if their loan goes into default.

Yes, but the equity investor doesn't "deal with the firm"; she owns it. Again, all well and good for her if you allow her to draw a bottom line under her risk, but if you do that (as limited liability does) then where does the tail risk go?
Equity investment in a firm is very much dealing with it. What tail risk are you talking about? First and foremost, the liability lies with the firm itself. You just can't get at the personal assets of the owners. Once the assets of the firm are exhausted, you are out of luck. Just as if you had to go after the sole business person - once that person's assets are gone, you are out of luck. Should you be allowed to go after their family for their assets?

[Loss Leader]

You just can't get at the personal assets of the owners.


It's important to note that in certain instances, you can. In cases where the corporation is undercapitalized or the corporate form is being abused, you can pierce the corporate veil and go after the major shareholders personally.

So, the law already allows for unlimited liability for the big decision-makers. Thus, I'm not sure what more good trashing the entire concept of limited liability is supposed to do.

[balrog666]

It's important to note that in certain instances, you can. In cases where the corporation is undercapitalized or the corporate form is being abused, you can pierce the corporate veil and go after the major shareholders personally.

So, the law already allows for unlimited liability for the big decision-makers. Thus, I'm not sure what more good trashing the entire concept of limited liability is supposed to do.

Yes, it's true that in matters of criminal misdoings among directors you can piece the veil, so such remedies already exist and this proposal adds nothing.

But this proposal would extend that remedy to trivial matters and frivolous lawsuits. Do you really want to hire a lawyer every time some environmental group sues GE?



And, again, I note that you are talking almost exclusively in terms of major corporations while I maintain that the largest impact would occur on small businesses, particularly startups. Those points remain unaddressed while you debate the merits of how many angels can dance on the head of a corporation that can run away beyond your jurisdiction or buy as many legislators as needed to exclude them from any such proposal.

[Loss Leader]

And, again, I note that you are talking almost exclusively in terms of major corporations while I maintain that the largest impact would occur on small businesses, particularly startups.


I'm not sure if the largest impact would be on small businesses. They tend to be owned by the same people who operate them and to have bank loans instead of investors. Medium-size LLCs that, say, own several office buildings would be about the average business that would be affected. It's a bad idea for those businesses as well. It's just a bad idea all around, really.

[marting]

I'm not sure if the largest impact would be on small businesses. They tend to be owned by the same people who operate them and to have bank loans instead of investors. Medium-size LLCs that, say, own several office buildings would be about the average business that would be affected. It's a bad idea for those businesses as well. It's just a bad idea all around, really.

Well, as bad an idea as it is, it would be entertaining.

Imagine something like the Dow-Corning meltdown from breast implants that results in bankruptcy and unsettled liability. Suddenly one would have the spectacle of a stock dropping from say, $100/sh into negative numbers. One would have to PAY someone to buy the stock and assume the liability. Suddenly large numbers of poor people would have income. An investor could "sell" a poor person stock for a less negative amount since they wouldn't have deep pockets. Talk about redistribution of wealth!

[Loss Leader]

Well, as bad an idea as it is, it would be entertaining.

Imagine something like the Dow-Corning meltdown from breast implants that results in bankruptcy and unsettled liability. Suddenly one would have the spectacle of a stock dropping from say, $100/sh into negative numbers. One would have to PAY someone to buy the stock and assume the liability. Suddenly large numbers of poor people would have income. An investor could "sell" a poor person stock for a less negative amount since they wouldn't have deep pockets. Talk about redistribution of wealth!


I believe I mentioned earlier that the system would probably create some new strawman - poor people paid a small fee to hold stock in trust for rich people. That or all of the sudden we'd all be living like Kelly McGillis in Witness.

[marting]

I believe I mentioned earlier that the system would probably create some new strawman - poor people paid a small fee to hold stock in trust for rich people. That or all of the sudden we'd all be living like Kelly McGillis in Witness.

Hmm. Interesting idea. I'll go back and read the whole thread. The concept is unworkable though because the value of stock would become tied to the current owner due to the risk to the owner's wealth. It would make trading unfeasable.

Crazy concept overall.

[madurobob]

Exactly. My current "net present value of expected future cash flows" as a valuation tool would be thrown under the bus. The risk of huge negative cash flows would drive the valuation to zero absent a few hyper-rich stokholders.

[Francesca R]

Good posts Thanz, Loss Leader and madurobob. I'll work on replying tomorrow, though I may be running out of road . . .

[Loss Leader]

Good posts Thanz, Loss Leader and madurobob. I'll work on replying tomorrow, though I may be running out of road . . .


Who cares? Your avatar is great.

[Francesca R]

Who cares? Your avatar is great.Er . . . thank you. (I mean, . . . it's me :blush:)

[Francesca R]

The individuals who actually did the negligent or criminal acts are always personally liable up to and including all of their assets. So are the Directors and Officers of a corporation. If a company is underfunded or if it is not run according to strict rules, the law can pierce the corporate veil and find major stockholders personally liable.Agreed, but there may be no criminal act that results in a company failing and owing more than it has.

Can you give me a single example of when a single stockholder out of a million publicly traded shares should be held personally liable instead of spreading that cost evenly over the entire market?Not a single stockholder, all the holders of a company's stock. I don't know what you mean about "spreading the cost evenly over the whole market". If the company can't pay up, costs are unevenly spread (unless it's the taxpayer)

So, the law already allows for unlimited liability for the big decision-makers. Thus, I'm not sure what more good trashing the entire concept of limited liability is supposed to do.The OP was not only for trashing the system. Is there enough allowance, beyond criminal liability, to which I think you refer here?

[Francesca R]

You and I appear to have some equivocation on the meaning of "the corporation". I think I have read your posts as using "the company" to include stockholder "owners". I see the corporation as something separate from and mostly outside the control of its stockholders. "Ownership" of a corporation is something very different than that of sole proprietorships or partnerships. As others have pointed out, that difference (limited liability) is necessary to offset the lack of control.Is limited liability simply a cover for lack of control though? I tend to think it is more about encouraging a positive climate for capital investment and ehtrepreneurship. Which is a laudable aim, but may sometimes be "too generous"

Finally, others have touched on this point but not come right out and said it: there are times when it is acceptable to impose some small risk on society in general where there is a much larger societal benefit at stake. There are very clear societal benefits to shareholder limited liabilityI would agree with this. It is a "tacit bargain" that shareholders have limited liability in return for society enjoying the positive externalities of business and trade, I suppose. My OP question was really about whether the terms of the bargain are absolutely appropriate, or should be re-struck.

[JoeEllison]

I think all of these fictional entities should be eliminated. Of course, I'm also in favor of an abolition or paring back of the stock market, so you should take that into consideration.

The entire system is broken beyond repair thanks to these sorts of sleight of hand maneuvers. The risk should absolutely be held by those who have the most to gain. Currently, the system is set up so that the risk is shoveled onto the weakest members of our society, while the people who profit most carry little or no risk burden.

[The Atheist]

Good posts Thanz, Loss Leader and madurobob. I'll work on replying tomorrow, though I may be running out of road . . .

I don't think so at all.

There's probably a good case to limit the exercise (your "paring back") for publicly listed companies.

The problem with limited liability for me is in the private sector anyway. I can provide several large lists of companies which have folded, leaving lots of creditors high and dry while the directors of those folded companies continue on in their Mercedes and BMWs. One of my friends had his own company shut down thanks to a loss incurred in this fashion and he's by no means alone in that consequence. Most of the cases I know of companies which have collapsed (including my friend - all eggs in one basket) have been about poor business decisions, maybe even unconsciously under the umbrella of limitation, where others have ended up paying for those mistakes.

At a private company level, I don't think the case to reduce or remove limited liability has yet been shot down. I agree that investment conditions would change to some degree, but I don't believe it's as big an issue as people have suggested. The chance of massive liability revolves around public liability and people should be insured against public liabilities in any business transaction. Because it's such a basic rule, I'd be comfortable with that being passed on if people are too dumb to ensure they're insured.

I think it's simply a strawman to suggest that new rules would be made overnight, so those arguments are irrelevant. As with any enormous change, it has to be fed in slowly.

[Loss Leader]

Can you give me a single example of when a single stockholder out of a million publicly traded shares should be held personally liable instead of spreading that cost evenly over the entire market?

Not a single stockholder, all the holders of a company's stock.



But holding a single stockholder liable really is what you're implying:

You want to remove limited liability and make each stockholder personally liable for the behavior of the corporation. Imagine this - I own 100 shares of TransMadeUpCo. Bill Gates holds 100 shares of TransMadeUpCo. The officers and directors of TMUC absolutely blow it for everybody. They rob and steal and lie and destroy the environment while bankrupting their company. They cause losses totalling ten billion dollars. Then, they convert all of their money to cash, burn it, commit mass suicide and all die paupers.

Those who have been harmed by TMUC seek to hold the stockholders personally liable. They have to sue each and every stockholder and in each and every suit each and every defendant gets to force them to prove that TMUC was negligent and that they should be liable. Who do they sue? Do they spend all that time and money to sue me and put a lien on my Toyota Camry?

They'd be insane. Instead, they find the richest stockholder and sue him. They sue Bill Gates and win one trial instead of millions. They get all their money from one guy.

Your system makes the richest stockholder responsible for the debts of the company. The rich wouldn't be able to buy stock. The poor wouldn't be able to afford stock. Suddenly the country looks a lot more like 1807 than 2007.

[Francesca R]

They have to sue each and every stockholder and in each and every suit each and every defendant gets to force them to prove that TMUC was negligent and that they should be liable.I wouldn't envisage something like individual lawsuits where you pursue each shareholder through the courts, but something more akin to group shareholder insurance. As has been mentioned some companies need a level of insurance to carry on, and in some cases (EG a bank) the state provides some insurance. These are ways of partly removing liability limitation, or rather, getting compensation for the potential liability from everyone up front.

I don't necessarily mean replicate and extend insurance, but not your scenario of seeking legal redress one by one

[Loss Leader]

I wouldn't envisage something like individual lawsuits where you pursue each shareholder through the courts, but something more akin to group shareholder insurance.


So now you want to pass the risk on to the shareholders of the insurance company.

Look, TMUC just went down the tubes causing a billion dollars in damages due entirely to the knowing bad acts of its officers and directors.

Why would an insurance company offer insurance against willful misconduct that it can't control. My homeowners insurance will pay me if lightning strikes my house and burns it down but they won't pay me if I take a match and purposefully burn down my own house. Insurance is based on probabilities and purposeful malfeasance has a probability of 100%. If I could pay $2,000.00 for $500,000.00 worth of guaranteed money, I'd burn my house down the second it became worth less than $500k.

So the insurance company for the stockholders has even less control over the corporation than the stockholders do. It can't even vote for the Board of Directors. It certainly can't oversee the TMUC's day-to-day operations. But the insurance company is going to be liable for the willful misconduct of TMUC?

Why would any insurance company offer that policy? Why would anyone invest in any insurance company that did offer that policy?

There's just no way around the fact that limited liability is the best trade-off to encourage investment.

[Francesca R]

Why would an insurance company offer insurance against willful misconduct that it can't control.I don't mean insurance against "willful misconduct". For that I don't see any alternative to seeking restitution from the perpetrators individually, and if it is not available, then judicial punishment.

There's just no way around the fact that limited liability is the best trade-off to encourage investment.There may be yet :)

[madurobob]

No. It makes much more sense to simply have legislation, like SarBox, that forces adequate disclosure of financial risk.

In a properly efficient market stock prices represent, by definition, the discounted present value of expected future cash flows from a given share of stock.

So, if the corporation properly discloses its risks the efficient market takes this into account and excess risk translates immediately into lower stock prices because those risks translate into a likelihood of lower future cash flows. Extreme risk drives the price to zero and effectively kills the corporation. Sine no corporate stakeholder wants to kill the corporation or drive stock prices down the corporation is motivated to contain risk. This is one reason corporate decision makers often receive a sizable chunk of their compensation in company stock.

If the corporation hides its risk and goes belly up due to excessively risky behavior, key corporate decision makers are on the hook personally. They can lose all their assets and their freedom. This should be adequate motivation to contain corporate risk and to fully disclose all risk.

I don't see how shifting the risk to the lowly common stock holder helps.


I can provide several large lists of companies which have folded, leaving lots of creditors high and dry while the directors of those folded companies continue on in their Mercedes and BMWs. One of my friends had his own company shut down thanks to a loss incurred in this fashion and he's by no means alone in that consequence. Most of the cases I know of companies which have collapsed (including my friend - all eggs in one basket) have been about poor business decisions, maybe even unconsciously under the umbrella of limitation, where others have ended up paying for those mistakes.
Exactly why we should not shift risk to common stockholders! Did these creditors lose more than they invested, or did they go bankrupt because they over leveraged their investment that went sour? If not, why should stockholders risk losing more than they invest?

[Lucifuge Rofocale]

I'm giving more tought everytime to this idea and I find it excellent in some aspects.

I'm sure that there shouldn't be any limitation on liability, but the full burden of all misconduct in any company belongs, of course, to the ones that do the actual damage.
So my claim is that, the liability should be enforced to their employees in full (they were the ones doing the misconduct, of course, and the Nazy " I was just following orders" is not an excuse). All the employees in a corporation should be completely liable for any damage.
Also, a quote just caught my eye: "There is no such thing as a free lunch". So my take is , supposing a company creates jobs and reduce poverty in an area, reduces crime, educates exployees at companies costs, or remodeled a poluted area, then society as a whole should give rewards to the corporations. Those benefited citizens should be taxed to give the money to the corporation.

[Francesca R]

Also, a quote just caught my eye: "There is no such thing as a free lunch".I would say there is such a thing as a free lunch as you describe it here. Gains from trade and positive externalities are those "free" lunches because somebody is made better off without making anyone worse off. The other side of the coin are "losses from trade" (these are what my OP was about) and negative externalities.

I firmly believe that overall the positives outweigh the negatives. I raised for discussion whether the "tacit bargain" that this means allow the negatives to happen uncompensated was correct or not.

[Lucifuge Rofocale]

No, not yet. let's compensate the positives, there is no reason to avoid it.

[Francesca R]

You're saying that a company should capture the full value of positive externalities, via government side-payments?

[balrog666]

No, not yet. let's compensate the positives, there is no reason to avoid it.

Yes, yes, an equally absurd suggestion.

[Loss Leader]

No, not yet. let's compensate the positives, there is no reason to avoid it.


And, on the flip side, how do we punnish a company for the negatives? When GM closed factories in Flint, Michigan and opened them in Mexico, it literally killed a city. It wasn't just the workers who lost their jobs but all the people in all of the stores and industries who serviced those workers. And GM didn't even transfer that wealth to some other town (in the US or not) because the factories they opened in Mexico paid far, far less than in the US. The workers did the same job for less money and had less money to pump into their own economy.

So if we compensate a company for helping an area, how do we punish a company for hurting an area?

The answer is that we don't. It's a silly, silly idea all the way around.

[Francesca R]

And, on the flip side, how do we punnish a company for the negatives? When GM closed factories in Flint, Michigan and opened them in Mexico, it literally killed a city. It wasn't just the workers who lost their jobs but all the people in all of the stores and industries who serviced those workers. And GM didn't even transfer that wealth to some other town (in the US or not) because the factories they opened in Mexico paid far, far less than in the US. The workers did the same job for less money and had less money to pump into their own economy.

So if we compensate a company for helping an area, how do we punish a company for hurting an area?I'm in agreement that we should not do either. But GM closing an operation is removing a positive externality not creating a negative one.

[balrog666]

I'm in agreement that we should not do either. But GM closing an operation is removing a positive externality not creating a negative one.

But, somewhat more importantly, GM closing an operation that is losing money is removing a negative internality.

[Loss Leader]

But, somewhat more importantly, GM closing an operation that is losing money is removing a negative internality.


Since every single thing we do in life is a one-time experiment, there is no way whatsoever to judge what would have happened if the action had not been taken. Thus, there is no way to measure the extent to which an action was "positive" or "negative." I point to everyone's favorite example of everything: the Holocaust. Without it there would be no Israel, no world recognition of the destructive power of hate, no Oscar for Roberto Benigni, no Loss Leader, etc.

Any attempt to translate positive externalities into a dollar award is fatally flawed from the inception.

[Lucifuge Rofocale]

Since we all agree on my second point (wich was, of course, that it will be ridiculous to compensate in one side leaving the other unnatended) what do you think of the first one?


I'm sure that there shouldn't be any limitation on liability, but the full burden of all misconduct in any company belongs, of course, to the ones that do the actual damage.
So my claim is that, the liability should be enforced to their employees in full (they were the ones doing the misconduct, of course, and the Nazy " I was just following orders" is not an excuse). All the employees in a corporation should be completely liable for any damage.

[madurobob]

Well, corporations would immediately form partnerships with themselves as GP and all employees working for the partnership rather than the corporation. problem solved.

But actually, the way many companies are treating SarbOx your scenario may not be too far from reality. I work for a fortune 100 company, and have a few friends in others. In all three of these corporations ALL people in the management chain, from first line to CEO, have to sign a quarterly statement that they know of no illegal transactions and no risky activities that merit reporting. Most managers pass this down to their direct reports so the effect is everyone signing a SarbOx statement quarterly. In theory, if the corp goes belly up a la Enron whoever is found to have lied in their quarterly statement is criminally liable.

[The Atheist]

Exactly why we should not shift risk to common stockholders!

Note that I did specify "private companies".

Did these creditors lose more than they invested, or did they go bankrupt because they over leveraged their investment that went sour? If not, why should stockholders risk losing more than they invest?

The stockholders, in the vast majority of private companies are the ones whose decisions create the losses.

I own three companies and would have no issues with accepting personal responsibility for decisions I make which one or other company implements. I also can't honestly see why anyone else would. If your intention is to run an honest business, why wouldn't you put your money where your mouth is?

Have a think about it this way, from a supplier view:

(true story with names changed to protect the innocent)

XYZ Ltd is the major supplier of a range of specialty foods to the NZ market. It has operated successfully for over 30 years and is a respected name and company with a solid credit rating. Asset base in the balance sheet, about $2M.

It makes the decision to expand, purchasing a new factory & plant, spending some $3M on the project, funded entirely by bank loans. The bank's security is a mortgage debenture and mortgage over every asset of the company, including intellectual property.

The big day arrives and the company commences production at its new site. By this stage, typical little extra costs have been added in and the company has very little working capital available.

How is that working capital provided to enable the company to pay wages and other immediate costs?

By using the income and not paying creditors when due.

When those creditors see an overdue bill to a company they've done business with for 30 years, they don;t become too concerned.

Meanwhile, back at XYZ Ltd, things aren't going well.

Thanks to grossly overestimating the amount of expansion the market will stand, the plant is only running at about 50% capacity - it has managed to almost triple costs while increasing income by a fraction. Even within the first couple of months, it's obvious that the company is in deep, deep ****. The directors, thinking they can weather the storm, cut costs, staff, etc and hope that the product growth will catch up to their now reduced expenses. Technically the company is insolvent*, but nobody outside of the company suspects this yet, although suppliers are becoming interested as the average age reaches 2.5 months.

Two months later, it's obvious to the owners that they've blown their load and that the company is doomed. No bills have been paid and the average supplier debt age is now 4-5 months. The total runs to a couple of million, in amounts ranging up to $100k.

The bank winds it all up, escaping with a small excess, all of which is used to pay arrears of wages. The directors shudder at the quirks of fate and move on. The directors are a husband and wife who live in Auckland's wealthiest suburb in a house worth approx $2M. They each drive near-new European premium cars and their children attend expensive private schools. Their lifestyle has changed not a bit.

The creditors all wrote off their complete debts, creating a negative impact on hundreds of other companies.

There is no question that the directors acted in any way other than properly. A pedant could argue that they had a responsibility to notify the company's insolvency, but if that happened every time a company was in a technically insolvent position, most companies wouldn't exist.

In the case of these directors, their personal investment in the company was zero - the company had been given to them by the bloke's parents. His parents' initial investment was negligible, starting the business in their kitchen in the 1960s and growing with demand, from working capital.

There is no redress whatsoever available to the suppliers.

Who risked whose money?

Why should the directors not be personally liable?

This is not an unusual scenario - and I could certainly list a dozen of similar size, scope and blamelessness [in its loosest meaning].



*Meaning that current assets are well outweighed by current liabilities - it cannot meet its bills when due.

[Thanz]

I own three companies and would have no issues with accepting personal responsibility for decisions I make which one or other company implements. I also can't honestly see why anyone else would. If your intention is to run an honest business, why wouldn't you put your money where your mouth is?
Really? Have you given a personal guarantee to each of the three companies' creditors? Why have you incorporated them at all? Do you just love double taxation?

In the case of these directors, their personal investment in the company was zero - the company had been given to them by the bloke's parents. His parents' initial investment was negligible, starting the business in their kitchen in the 1960s and growing with demand, from working capital.
Wrong. Their investment in the company is whatever equity had been built up over the years. They may not have pulled other cash out of their pocket, but that is not the same as no investment. You said that the company started it's spiral with assets worth $2 million. Without knowing what debt they had at the time, I can't say how much equity they had on the books, but I'd say it is at least a million. That is not "zero".

There is no redress whatsoever available to the suppliers.

Who risked whose money?
The suppliers risked not getting paid what they were owed.
The bank risked the amount of the loan
The owners risked the amount of their equity.

Who was made whole? On your scenario, only the bank. And if you do away with limited liability, all capital financing will be by way of debt instruments.

Why should the directors not be personally liable?
Because everyone contracted on the basis that they would not be liable.

[madurobob]

Who risked whose money?

Why should the directors not be personally liable?

Everybody risked their own investment, especially the directors who had built this up from their own kitchen a generation earlier.

I cannot make an informed decision on whether the directors should be personally liable because I don't have enough information. If they lied, cheated, etc.. to get others on board with the obviously risky venture, then yes, they should have some liability. If, however, everyone acted in good faith, then everyone is at risk for what they invest. No-one is at risk for more than they invest. Just as stockholders should not be at risk for more than they invest.

[balrog666]

What a silly little story. Does it have a point?

It appears that you are simply offended, for some yet to be determined reason, that the owners weren't punished enough for the poor implementation of their business plan and should have lost their house, cars, and jewelry, in addition to the 2 million in equity in their business.

Whereas, if you passed the change in liability into law, the house (and other assets) would have been in a safe little trust and nothing would have turned out any different.

[The Atheist]

Just curious of the naysayers here.

Are any of you actually in business?

[cyborg]

Or for that matter investors in capital.

[Loss Leader]

Just curious of the naysayers here.

Are any of you actually in business?


Am I am naysayer, according to you?

In any case, I am in business albeit a professional service business so not much in the way of capitol. I am, however, the lawyer for some nice sized businesses which are owned in all manner of forms.

And I do have quite a bit of money in the market - over four hundred thousand American cents.

[balrog666]

I currently own (or am a partner in) several businesses and have started and owned a few more previously - none has ever failed, gone broke, or defaulted on any loan, debt, supplier, or other liability. I am also an investor in a few more remote businesses and a stockholder in too many to count.

And, as an owner, I have been sued for millions of dollars on just such frivolity as I described in my posts above. On the day any such nonsense as this proposal goes into effect, my name will not be anywhere on any corporate paperwork on any of them, although little Juan in Spain or Swaziland will have his name on a trust that owns a corporation in Australia that owns ... none of which will ever be traced to me.

[The Atheist]

Am I am naysayer, according to you?

Don't think so, no. I was referring to the very recent ones.

In any case, I am in business albeit a professional service business so not much in the way of capitol. I am, however, the lawyer for some nice sized businesses which are owned in all manner of forms.

And I do have quite a bit of money in the market - over four hundred thousand American cents.

You remind me of Steed in The Avengers, who became a halfpenny millionaire.

[The Atheist]

Really? Have you given a personal guarantee to each of the three companies' creditors? Why have you incorporated them at all? Do you just love double taxation?

Nope, I haven't given guarantees, it's just me.

Double taxation doesn't apply.

The suppliers risked not getting paid what they were owed.
The bank risked the amount of the loan
The owners risked the amount of their equity.

Can you not see the difference between those three?

B & C chose to enter into a risky investment.
A did not.

What a silly little story. Does it have a point?

Yes.

That you miss it suggests you missed it.

That you chose that response suggests that further discussion is pointless.

Suggestion taken.

[balrog666]

Can you not see the difference between those three?

B & C chose to enter into a risky investment.
A did not.




You are mistaken once again. Unless the suppliers were fools, they had a contract to supply the business which specified quantities, schedules and payments. Without that, or a personal guarantee, they freely undertook whatever risks ensued.

Perhaps you just don't understand how businesses are supposed to operate?

[madurobob]

Just curious of the naysayers here.

Are any of you actually in business?
I guess this includes me...
Sort of. I own two small services companies, a few rental properties, have almost as much as Loss Leader in equity investments, and manage $2B of revenue and its direct cost & expense for my corporate overlords.

But, honestly, before your posts here I hadn't really considered the issue to any real depth. While I think its crazy to remove limited liability from typical stockholders I did mention in an earlier post that I believed S corps and LLPs were abused and allowed to be set up where there was no real benefit other than shielding partners from liability in what rightfully should be a partnership.

So, we may have some common ground in what you are calling the private sector.

[The Atheist]

I guess this includes me...

Cheers.

Yeah, the way I'm looking at it is as I think it should be - a discussion subject on a forum. There is zero chance of it happening anywhere in the world, but we do seem to agree that the system can be used negatively as it stands right now.

[Francesca R]

Yeah, the way I'm looking at it is as I think it should be - a discussion subject on a forum. Same goes for me. My angle is "what can be improved about the current system" and to take it from there. It is to be expected that much of the reponse to any idea is to challenge it.

However I also gather that most participants believe that there is very little at all suboptimal about the present system, and/or there is nothing that can be done about what it suboptimal

[balrog666]

Same goes for me. My angle is "what can be improved about the current system" and to take it from there. It is to be expected that much of the reponse to any idea is to challenge it.

However I also gather that most participants believe that there is very little at all suboptimal about the present system, and/or there is nothing that can be done about what it suboptimal

Depending on your viewpoint, the current system is a few hundred, or a few thousand, years old and many variations have been tried. Most failed, usually because they overlooked the inventiveness, capriciousness, and stubbornness of human nature.

And I don't think it is a matter of being suboptimal but of being a compromise solution to multiple goals, both societal and individual.

Squeeze the system here and it will ooze out over there. Too much regulation and business moves offshore, overtax CEO salaries and they get paid in backdated stock options, overtax cigarettes and a black market forms, overtax booze and people brew their own, overtax wages and people work off the books, increase arbitrary environmental restrictions and people start ignoring the rules in the first place, arbitrarily restrict land use and people simply do it out of sight, etc. etc. etc.

And change liability laws and people will simply change ownership networks. It can't work, won't achieve anything useful, but it will drive up current corporation costs and kill startups outright.

[Loss Leader]

And change liability laws and people will simply change ownership networks. It can't work, won't achieve anything useful, but it will drive up current corporation costs and kill startups outright.


At the very, very least, it would create a new legal specialty and increase any startup costs by a few thousand dollars. Every single corporation would have to jump through some pretty complicated hoops with trusts and shareholder agreements and stuff.

On the back-end, holding shareholders personally liable (or their insurance companies) would require a whole other level of lawsuits. Each and every shareholder has the right to have you prove your case against the company anew.

I can't even begin to wonder what would happen to mutual funds that buy and sell stock every single day. How liable is a person who held Enron for two years and sold six months before the collapse? How liable is a person who bought Enron one day before the collapse? How liable is a person who bought Enron at 11:15 a.m. and sold it at 3:35?

[Francesca R]

Squeeze the system here and it will ooze out over there. Too much regulation and business moves offshore, overtax CEO salaries and they get paid in backdated stock options, overtax cigarettes and a black market forms, overtax booze and people brew their own, overtax wages and people work off the books, increase arbitrary environmental restrictions and people start ignoring the rules in the first place, arbitrarily restrict land use and people simply do it out of sight, etc. etc. etc.

And change liability laws and people will simply change ownership networks. It can't work, won't achieve anything useful, but it will drive up current corporation costs and kill startups outright.In other words: the [money-making] system works by its own inherent rules; and attempts to impose changes will by subverted by an inexhorable return to the natural steady state?

I don't agree with that. Incentive-structures can be changed. Within them, agents respond to the incentives. You're implying that incentives can't be changed. Also that the agents involved will do anything (including break laws) to get back to some natural state. And what is this natural state to which the system strives to return if you squeeze it?

[Lithrael]

Complete idiot posting in your discussion warning.

Has it been tried, to only marginally increase liability? For example, you are liable not only for what you currently have invested in the company, but also for whatever the company has ever paid out to you? It seems like that would turn the pressure off the startups, at least.

[balrog666]

In other words: the [money-making] system works by its own inherent rules; and attempts to impose changes will by subverted by an inexhorable return to the natural steady state?

The pursuit of money (or power or freedom or drugs ...) is what it is, an individual human motivation. The current system harnesses that motivation to promote the good of society (expanded employment, increased productivity, an improved standard of living, universal education, etc). But if you take away the potential to be compensated for risks, you lose the thing itself.


I don't agree with that. Incentive-structures can be changed. Within them, agents respond to the incentives. You're implying that incentives can't be changed. Also that the agents involved will do anything (including break laws) to get back to some natural state. And what is this natural state to which the system strives to return if you squeeze it?

Yes, it comes back to human nature and applied psychology. Legal incentives can be changed; personal motivations can't (Note: this is not an absolute rule, simply a general statement of common human behavior).

And no, agents will not do anything to restore the status quo. Most will simply quit playing the game or move to somewhere else where they can re-engage. Others will go underground. And some might choose to break the law deliberately.

You have to consider who entrepreneurs are and what motivates them (outside of Silicon Valley). Most new entrepreneurs aren't youngsters with bright ideas of how to change the world but solid middle-aged people with an idea of how to do things better or a desire to work for themselves or build personal equity for their themselves or their families. Tell them that must risk everything they own (literally) to open a new business and 99% of them will choose not to put their family's future at such risk.

Another consideration is that there are a great many businesses (particularly small businesses) that are simply marginal enterprises, doing nothing but providing the owners and a few employees with a job. This idea would require the owners to restructure their lives with personal assets held by one party and the business owned by another, a certain recipe for extensive fraud and lawsuits (and that sure would make all those divorce settlements a little more interesting, wouldn't it?)

[balrog666]

[snip]
Has it been tried, to only marginally increase liability? For example, you are liable not only for what you currently have invested in the company, but also for whatever the company has ever paid out to you? It seems like that would turn the pressure off the startups, at least.

Certainly that would be a smaller step than that proposed here and minimize the impact on startups but ...

how do you count what's paid and who does the counting? Will it only be profits? Dividends? Wages? Reimbursed expenses? If the business supplies me a car, will that count somehow?

I'm just pointing out that it's also easier to get around and would encourage extensive tax fraud.

I still think that "if it ain't broken, don't fix it".

[JoeEllison]

The pursuit of money (or power or freedom or drugs ...) is what it is, an individual human motivation. The current system harnesses that motivation to promote the good of society (expanded employment, increased productivity, an improved standard of living, universal education, etc).

That's not actually true. The current system seems to stand against an improved standard of living and the good of society. There's an inherent false assumption that what is good for the corporation is always automatically good for society. It is a widespread belief, and it is dead wrong.

[madurobob]

Complete idiot posting in your discussion warning.

Has it been tried, to only marginally increase liability? For example, you are liable not only for what you currently have invested in the company, but also for whatever the company has ever paid out to you? It seems like that would turn the pressure off the startups, at least.
Interesting concept,but if you're talking purely about dividends this sort of rule could have the effect of dampening dividend payouts - a very real problem today.

Corporations are in business to make and sell whatever widgets they make. They are not in the business of hoarding cash - stockholders can do that on their own. So, when a corporation has too much cash on hand they should pay it out as dividends. But, if dividends come with additional risk to the stockholder, they may prefer the corporation do something else with the cash... maybe something more risky than it would otherwise do.

[The Atheist]

Complete idiot posting in your discussion warning.

Has it been tried, to only marginally increase liability? For example, you are liable not only for what you currently have invested in the company, but also for whatever the company has ever paid out to you? It seems like that would turn the pressure off the startups, at least.

That's actually not a bad scheme. (especially for a completely idioic one!)

I'm quite sure there's a good compromise answer somewhere and that's headed in the right direction.

[balrog666]

That's not actually true. The current system seems to stand against an improved standard of living and the good of society.


You would prefer a purely agrarian society? Or, perhaps, Mongolia?

There's an inherent false assumption that what is good for the corporation is always automatically good for society. [snip]


Really? Gosh, I've never heard that strawman before.

[Lithrael]

Interesting concept,but if you're talking purely about dividends this sort of rule could have the effect of dampening dividend payouts - a very real problem today.

Corporations are in business to make and sell whatever widgets they make. They are not in the business of hoarding cash - stockholders can do that on their own. So, when a corporation has too much cash on hand they should pay it out as dividends. But, if dividends come with additional risk to the stockholder, they may prefer the corporation do something else with the cash... maybe something more risky than it would otherwise do.

Ah, clearly I am not really understanding this. I thought the problem here was that of stockholders making pots of money from stocks in LLC's that then collapse and though they lose current invenstments, they have made a bunch of money anyway. Is it more an issue of people directly involved in the business?

Wouldn't the stockholders' dividends and their stocks both be at the same risk with that system? Of course the stockholders would want to do something else 'risky' with the money from the dividends, since it would still be at risk even though it was not actively invested, but I thought that people who make a killing investing already spent a lot of time reinvesting profits. Unless businesses are really so bad that someone with a diverse portfolio still risks losing all their past profits, I don't see why it couldn't work.

I hate to be like that guy in the teaching thread going 'why don't we just show kids videos all day.' I respectfully understand I don't really know what I'm talking about, and thanks for responding to help me get it.

[madurobob]

The problem is that all corporations are LLCs- the real estate corporation with three stockholders and the multinationals with many thousands of stockholders. Dividend payouts are a problem with the latter since corporate officers often feel they have to have a huge "war chest" just in case (or to plunder sometime in the future for their personal benefit). Corporations exist to allow many people to pool resources to do something they could not do individually. Hoarding cash is something they could all do individually.

The problem outlined in the OP is not that shareholders make pots of money, but that corporations pass risk off to the public in general by virtue of the limited liability ownership via stock. Making shareholders also liable for all cash flow ever received on the stock is an interesting topic to explore, but for the multi-nationals it will only acerbate the problem of corporate cash hoarding.

On the small corporate scale - LLPs and S Corps in the US - your proposal may in fact be a good idea. At the large multi-national scale I think it would create more problems than it fixes. For instance, what happens if I sell all my IBM stock the day after I receive the dividend check? I am no longer a stockholder, so I have no more risk in the company. Does the dividend risk from dividends I received pass to the new stock owner? What happens when the corporation re-purchases its stock?

Again, at the multi-national level I think your proposal would simply make corporations more hesitant to declare dividends (because shareholders know that all dividends they've ever received are at risk and so put a lower value on dividends in general-they'd rather have capital gains upon sale of the stock). Instead the corp would hoard unneeded cash or plow it back into investments they otherwise would have considered superfluous or overly risky.

At the LLP/S-corp level your proposal would effectively make these corporate forms much more like partnerships where partners are individually liable. I think I like that idea.

[Loss Leader]

In a world with unlimited liability for stockholders or just liability to the extent of all stock and dividends ever received, tell me why this would not work:

Bob, Dave and I have money to invest. We form a corporation, BD&I, with the sole purpose of investing stockholder money and distributing dividends to the stockholders. We each own one share and we each contribute one million dollars. We hire a manager with the express instructions to invest our money in whatever he thinks will make a profit and distribute dividends without ever telling us what he is investing in or letting us sway his opinion in any way. For ten years, he does so. He sends us dividends on our one share each (tied to dividends made by the investments) of one million dollars each and, at the end of ten years, we dissolve the company and sell the company's stock. We each get back two million dollars. Our manager dies the next day penniless (having had a horrible lolipop addiction all those years).

It turns out that for almost the entire ten years, half the money invested and half the dividends received came from one company - THE NORNE STUPID ANAGRAM COMPANY.

The next day, the SEC descends and all hell breaks loose. The heads of the company, Lilling and Skay, are arrested. NORNE has been defrauding everybody for over ten years. The stock goes to zero. In the end, the company's misdeeds do damage of twenty billion dollars.

Now, under the new plan, everyone who made dividends off the company while it was committing a misdeed is liable for those dividends and must return them. The government comes to me but I say, "Hey, I never received a single penny in dividends from ENRON or NORNE or whatever I called it. I received dividends from BD&I. Go get your money back from BD&I." The government tries but BD&I no longer exists, was dissolved before the NORNE crisis came to light and has no assts.

The government can't hold the manager of BD&I liable. He did nothing wrong. He invested in a stock that made money without any knowledge of any wrongdoing. It can't hold BD&I liable because the company has nothing. It can't hold me liable as a stockholder of BD&I because I didn't take a risk on NORNE, the manager did. I didn't even know BD&I had invested in it. I didn't choose to have any liability. And, while I might be liable for BD&I's misdeeds, I can't be liable for misdeeds of a company I never owned stock in. In any case, I don't have any NORNE dividends; I have BD&I dividends and those aren't subject to this government recall.

It would seem to me that this very simple system would defeat the entire premise of expanding limited liability. Of course, the only people who couldn't afford such a scheme are the middle class investors who aren't rich enough to form their own BD&I and hire their own manager. So the rich escape liability, the poor were never in the market to begin with and the middle class gets screwed.

[balrog666]

It would seem to me that this very simple system would defeat the entire premise of expanding limited liability. Of course, the only people who couldn't afford such a scheme are the middle class investors who aren't rich enough to form their own BD&I and hire their own manager. So the rich escape liability, the poor were never in the market to begin with and the middle class gets screwed.


It was ever thus.


;)

[madurobob]

Ah, clearly I am not really understanding this. I thought the problem here was that of stockholders making pots of money from stocks in LLC's that then collapse and though they lose current invenstments, they have made a bunch of money anyway. Is it more an issue of people directly involved in the business?
I've been lumping all corporate forms as "LLC", but a true "Limited Liability Company" is, IIRC, really just a partnership with limited liability to all partners/owners. I'm not sure, but I think there is a limit on the number of owners (like the 100 owner limit for S Corps).

Removing limited liability from an LLC basically turns it back into a general partnership - not a workable plan. Removing some limitations may be a good way to control risky behavior of the managing owners, but would be difficult to implement. In fact, if you only changed liability to the extent that all net income from the LLC would always be at risk you've still turned the LLC into a partnership for the vast majority of LLCs. Most LLCs are are setup by groups of professionals and not owned by speculative investors. Income from the LLC is the owners primary source of income.

So, if adjusting liability for LLC owners generally turns the LLC back into a partnership, we're really not accomplishing anything. Why not simply limit when and where an LLC can be set up in lieu of a partnership? I think I mentioned this in my first post. Over the past couple of decades we've allowed a lot of LLCs to set up where we would have seen partnerships. Eliminating all that partnership joint and several liability may be great for the LLC owners, but I agree with Acuity that this shifts risk to the community where the LLC operates.

So why not simply limit LLCs to certain industries?

[Francesca R]

The pursuit of money (or power or freedom or drugs ...) is what it is, an individual human motivation. The current system harnesses that motivation to promote the good of society (expanded employment, increased productivity, an improved standard of living, universal education, etc). But if you take away the potential to be compensated for risks, you lose the thing itself. Agreed on all that. But "take away the potential to be compensated for risks" is a strawman. To remove or scale back limited liability is to take away (some of) the immunisation from negative risk.

Yes, it comes back to human nature and applied psychology. Legal incentives can be changed; personal motivations can't (Note: this is not an absolute rule, simply a general statement of common human behavior).Yet, legal incentives facing corporations are confined to making as much profit as possible within the law. As such a corporation's motivation is a good deal narrower than general human motivations are. Do you accept that the single-minded motivation to make money is a legal construct for companies, not a holistic replication of human motivation? It is what I am questioning as being a "natural steady state" (that one coud not hope to force divergence from.) In fact, I see it as itself a divergence from underlying human motivation (and incidentally, proof that this can successfully be done)

And no, agents will not do anything to restore the status quo. Most will simply quit playing the game or move to somewhere else where they can re-engage. Others will go underground. And some might choose to break the law deliberately.What about those that will still play the game because they think it is still the most profitable thing to do? Why do you think that this group has nobody in it? Assume that the costs of those alternatives can be raised, if only for the sake of argument.

You have to consider who entrepreneurs are and what motivates them (outside of Silicon Valley). Most new entrepreneurs aren't youngsters with bright ideas of how to change the world but solid middle-aged people with an idea of how to do things better or a desire to work for themselves or build personal equity for their themselves or their families. Tell them that must risk everything they own (literally) to open a new business and 99% of them will choose not to put their family's future at such risk.I think this "risk everything they own" argument is a weak strawman too. It is not the possibility of a cataclysmic negative tail to the risk distribution that matters—it is the probability of an outcome in that tail. If the probability is very low then the severity of the outcome does not dominate the way you repreatedly assert it does.

[Francesca R]

Interesting concept,but if you're talking purely about dividends this sort of rule could have the effect of dampening dividend payouts - a very real problem today.

Corporations are in business to make and sell whatever widgets they make. They are not in the business of hoarding cash - stockholders can do that on their own. So, when a corporation has too much cash on hand they should pay it out as dividends. But, if dividends come with additional risk to the stockholder, they may prefer the corporation do something else with the cash... maybe something more risky than it would otherwise do.I don't follow that. If a company "hoarded" a dividend then its market value (share price) would merely incorporate the value of the unpaid dividend. There would be no incentive whereby paying out to the holder increases the holder's risk compared to not paying out.

In addition, with no/less limitation of liability on owners, the company should be less inclined to do "something more risky than it would otherwise do", not more. That's the logic behind the OP.

[Loss Leader]

I don't follow that. If a company "hoarded" a dividend then its market value (share price) would merely incorporate the value of the unpaid dividend. There would be no incentive whereby paying out to the holder increases the holder's risk compared to not paying out.


Of course paying out the dividend increases the holder's risk. If the company pays out the dividend, then the holder gets it and spends it. When the government recalls the dividend, the holder doesn't have it anymore. The government has to take it from the holder by repossessing his car or seizing his bank account with his rent money in it. If the company hordes the dividend, the holder never has to worry about losing his car or apartment.


In addition, with no/less limitation of liability on owners, the company should be less inclined to do "something more risky than it would otherwise do", not more. That's the logic behind the OP.


Some "risky" ventures: the airplane, television, personal computers, vancomycim ...

[Francesca R]

Of course paying out the dividend increases the holder's risk. If the company pays out the dividend, then the holder gets it and spends it. When the government recalls the dividend, the holder doesn't have it anymore. The government has to take it from the holder by repossessing his car or seizing his bank account with his rent money in it. If the company hordes the dividend, the holder never has to worry about losing his car or apartment.I still don't see the difference, unless it's simply that if the company is hoarding the cash then the holder can't get her hands on it (though she could easily borrow against it). If the company puts the cash in the bank then it is reflected in the share price and is still claimable to meet liabilities of the business. The owner's return and risk are identical.

[Loss Leader]

I still don't see the difference, unless it's simply that if the company is hoarding the cash then the holder can't get her hands on it (though she could easily borrow against it). If the company puts the cash in the bank then it is reflected in the share price and is still claimable to meet liabilities of the business. The owner's return and risk are identical.


Assuming 6% interest rate, compounded monthly:

1. Today, the company pays a dividend of $100.00. I take it, go out to dinner with my wife, have a good meal and the $100.00 is gone. If I hadn't gotten the dividend, my wife and I would have eaten in that night for $20.00 total.

2. Today, the company pays a dividend of $100.00 and holds it.

In five years, the government wants the dividend back. At 6%, compounded monthly, the government wants $134.89.

In scenario 1, I do not have $134.89. Not only that, but the $100.00 I did get isn't even worth $134.89 to me; it was actually worth $20.00 to me and I consumed it. It's gone. In scenario 2, the company pays the $134.89 and the story is over.

Is my risk the same in both scenarios? Which one would I, as an investor, rather? For that matter, why would I invest money if I can't actually consume the income it produces?

[Jaggy Bunnet]

Complete idiot posting in your discussion warning.

Has it been tried, to only marginally increase liability? For example, you are liable not only for what you currently have invested in the company, but also for whatever the company has ever paid out to you? It seems like that would turn the pressure off the startups, at least.


In very broad terms, and with an important exception, that is a principle of UK company law.

Dividends can only be paid when the company has reserves (normally retained earnings) which means it is solvent. Such dividends cannot be recovered in the event of later insolvency.

However if dividends are taken out when the company has no or insufficient reserves (even though it may still be solvent at the time the dividend is paid as it has assets in excess of liabilities) then such dividends are potentially recoverable by creditors in the event the company becomes insolvent.

To widen it to include all dividends seems fraught with problems - how far back can you go? What if you took no salary but paid yourself an annual dividend once you knew what the profits were - should the whole amount be liable to be clawed back or just the amount above a "reasonable" salary? What about former shareholders - are they still subject to a clawback even though they no longer own any shares? If not, what is to stop shareholders selling the shares to a friend to avoid any clawback in the event things go wrong?

[Francesca R]

[Snippity-snip]So you are differentiating by assuming that money not paid to you (even if yours) is not given object-permanence by you. OK.

[Loss Leader]

So you are differentiating by assuming that money not paid to you (even if yours) is not given object-permanence by you. OK.


If I can't use it, it has no value to me. If I can use it, its value is consumed. Any system that allows it to be "called back" defeats the entire purpose of investing. This is fine so long as you are willing to have your life look and feel exactly like Weird Al's video for Amish Paradise. Otherwise, the system appears unworkable.

[Francesca R]

If I can't use it, it has no value to me. If I can use it, its value is consumed. Well that position would leave investment with no purpose at all . . . ?

[Jaggy Bunnet]

Well that position would leave investment with no purpose at all . . . ?

There is only no purpose due to the fact that it is never "safe" to consume the income as there is always the risk it will be reclaimed.

What value would you place on your salary if you could be required to repay it (that is the full gross amount, before any deductions) to your employer's creditors if the business went bust?

[Francesca R]

What value would you place on your salary if you could be required to repay it (that is the full gross amount, before any deductions) to your employer's creditors if the business went bust?Well, rather less than now. But probably more than zero, assuming the alternatives are crime or starvation. What about you?

[madurobob]

I don't follow that. If a company "hoarded" a dividend then its market value (share price) would merely incorporate the value of the unpaid dividend. There would be no incentive whereby paying out to the holder increases the holder's risk compared to not paying out.
Not exactly. Revenue and profit growth from operations makes stockholders and analysts happy and drives the stock price up because expectations of future cash flows increase. But, interest on cash is not related to ongoing operations and does not have nearly as much of an impact on stock price. Corporations with too much cash on hand are often the target of hostile takeovers because the potential new owners know they can leverage future earnings growth and pay out a large cash dividend with the cash on hand. Kirk Krekorian made a fair amount of money doing this.

So, if under the new rules paying dividends adds risk to stockholders, the stockholders would prefer the corporation invest that money in some new venture - probably one with lower returns than they would otherwise agree to.

In addition, with no/less limitation of liability on owners, the company should be less inclined to do "something more risky than it would otherwise do", not more. That's the logic behind the OP.
All things being equal, yes. But its the difference in risk with the corp holding the cash compared to transferring it to the stockholders that is the problem. If we make it more risky to transfer it to stockholders then the corp will hold on to it and use it for something less risky than transferring it to stockholders, but perhaps more risky than the corp otherwise would find acceptable. Stockholders will wait to get their returns as capital gains when they sell the stock since cap gains come risk-free.

[Thanz]

Nope, I haven't given guarantees, it's just me.

Double taxation doesn't apply.
Do you own three companies or do you run three businesses as a sole propietorship?

Can you not see the difference between those three?

B & C chose to enter into a risky investment.
A did not.
Sure they did. They sold to the business on credit. They continued to sell on credit when payments started to get late and piling up. They didn't have a gun to their head to sell to the company, or to give them credit terms.

[Loss Leader]

Well that position would leave investment with no purpose at all . . . ?


Exactly. The only purpose of investing is to make money I can consume. If I always have to keep it in reserve against the chance that it might be "called back," I have no reason to consume it, thus I have no reason to invest it.

Only if I'm free to consume my profits do I have a reason to invest. Now, I might stand the chance of losing my investment but at least I don't have to worry about repaying money I've already used up.

[Jaggy Bunnet]

Well, rather less than now. But probably more than zero, assuming the alternatives are crime or starvation. What about you?

And if you had an alternative that gave you less income but no risk of it being reclaimed?

[Francesca R]

Exactly. The only purpose of investing is to make money I can consume. If I always have to keep it in reserve against the chance that it might be "called back," I have no reason to consume it, thus I have no reason to invest it.It is not necessary to have total certainty that a [currency unit] consumed can never be owed again in the future. As I have said rather a few times, the probability that it can be claimed matters, not the possibility.

[Francesca R]

And if you had an alternative that gave you less income but no risk of it being reclaimed?Not fair. Your turn to answer next :)

[Loss Leader]

It is not necessary to have total certainty that a [currency unit] consumed can never be owed again in the future. As I have said rather a few times, the probability that it can be claimed matters, not the possibility.


So you only want to wound the world economy, not kill it. I'm sure the man and women waiting for drug companies to develop a cancer vaccine are appreciative.

[Jaggy Bunnet]

It is not necessary to have total certainty that a [currency unit] consumed can never be owed again in the future. As I have said rather a few times, the probability that it can be claimed matters, not the possibility.

Really? You didn't ask me the probability of your salary being reclaimed before deciding that it would have less value to you.

If you were right, that would have massive implications for the insurance industry - people insure for low probability risks all the time at a price that exceeds the expected cost. Seems like the possibility is pretty important after all.

[Jaggy Bunnet]

Not fair. Your turn to answer next :)

It's value would drop to a very large extent, possibly to the point where it was no longer worth working.

Same thing would happen with investment which would be overall negative for the economy.

[Jaggy Bunnet]

Can you not see the difference between those three?

B & C chose to enter into a risky investment.
A did not.

A most definitely did. They chose to sell on credit instead of for cash. That is a conscious decision and that decision carries risk.

If they did not want to take that risk, they could have required payment upfront or on delivery, the fact they chose not to means they were willing to take the risk of supplying the stock in advance of payment.

[Francesca R]

Really? You didn't ask me the probability of your salary being reclaimed before deciding that it would have less value to you.If the probability is higher than zero, the value of the salary is lower. The magnitude depends on the probability not the direction, and I answered on the direction.

If you were right, that would have massive implications for the insurance industry - people insure for low probability risks all the time at a price that exceeds the expected cost. Seems like the possibility is pretty important after all.And yet, they sometimes walk outside to post a letter (when they could opt not to do this) knowing that it is possible they could be killed in the process.

[Francesca R]

And if you had an alternative that gave you less income but no risk of it being reclaimed?Maybe my level of risk tolerance / utility curve would be such that that alternative had a better net present value. Maybe it wouldn't. It's rather hard to tell in the abstract.

[Sefarst]

This is carried over the Presidential Election forum at the request of Francesca.

In an ethical or holistic sense, limited liability is not real—it is an imaginary concept. It is possible to offload the risk associated with any action to someone else, or another country, or the environment etc. But it is not really possible to externalise it beyond our effectively closed system of planet earth. It is delusional to imagine that "the pieces" will never have to be "picked up". Therefore limited liability is fundamentally incompatible with a sustainable society.

I don't understand what you mean by "in an ethical or holistic sense, limited liability is not real" because limited liability is just as "real" as the ethics you are citing. What are ethics if not generally agreed upon ideas in society to make that society run smoothly? In the same way, limited liability is a financial and legal concept that makes society run smoothly. You seem to be suggesting that responsibility exists in an objective sense and must always "fall" on somebody. I don't agree with that. Responsibility is only relevant in the specific contexts of human society.

Limited liability is free insurance that gives a company a free pass to take risks it will not have to pay for, and thereby rip (someone) off. Companies—like people—respond to incentives, so that's what they end up doing. Therefore limited liability is axiomatic with excessive risk taking by businesses. Worse, with these excessive risks, the business captures the positive pay-off but someone else (society) wears the negative tails. It systematically disadvantages those external to the company

Now I very much don't agree with this point, but you and I might have different concepts of limited liability (I don't know the laws pertaining to it where you live), but the company does not get a "free pass" and neither do the individuals. Limited liability simply prevents certain members of a company from getting wiped out after a lawsuit.

All people have limited liability to a certain extent. Imagine for a second that I am dirt poor and in some way damage you or your property. However, I am protected from a lawsuit by virtue of the fact that I don't have anything you can take. Every individual is protected from liability up to the extent of his/her assets.

Much of the financial risk associated with a business can be diversified away, same as any other risk. It could also be insured against given the appropriate pooling of claims and availability of derivatives markets. Same as other risks. Limited liability is not necessary for investors to have any hope of risk management.

Again, this seems a little vague to me. I assume you're talking about the limited liability of stockholders here. Are you suggesting that stockholders should be legally liable for the actions of the company?

There is no magic cut-off point at which people will refuse to take a risk. The implication that "if you can lose more than you put in, nobody is going to invest" is simply false. If it were true it would not be possible to explain the popularity of leverage. People will take risks that are sufficiently compensated. Entrepreneurship will not collapse in the absence of limited liability. If the expected return from a business is positive and compensates for the (true) risk, limited liability is not necessary.

You've yet to explain why all people should be legally liable in a company?

[Loss Leader]

In an ethical or holistic sense, limited liability is not real—it is an imaginary concept. It is possible to offload the risk associated with any action to someone else, or another country, or the environment etc. But it is not really possible to externalise it beyond our effectively closed system of planet earth. It is delusional to imagine that "the pieces" will never have to be "picked up". Therefore limited liability is fundamentally incompatible with a sustainable society.


That only makes sense if you're prevaricating on the meaning of "limited." Nobody is suggesting that "limited" liability means that somehow the entire cost of an action is magically being reduced. The phrase means only that an investor's direct personal liability to repay individuals for a corporation's misdeeds is limited to the value of his/her investment. That the investor might share some diluted portion of the externalities of corporate malfeasance is axiomatic.

If I invested $20.00 in Union Carbide in 1984, I might have to lose that $20 when the company killed 20,000 people, even though the cost of the disaster was later pegged at $470,000,000.00. If I invested $20.00 and lived in Bhopal, I would obviosly have shared the poor health and death with all the other residents of Bhopal whether they invested or not.

[drkitten]

That only makes sense if you're prevaricating on the meaning of "limited." Nobody is suggesting that "limited" liability means that somehow the entire cost of an action is magically being reduced. The phrase means only that an investor's direct personal liability to repay individuals for a corporation's misdeeds is limited to the value of his/her investment. That the investor might share some diluted portion of the externalities of corporate malfeasance is axiomatic.

If I invested $20.00 in Union Carbide in 1984, I might have to lose that $20 when the company killed 20,000 people, even though the cost of the disaster was later pegged at $470,000,000.00. If I invested $20.00 and lived in Bhopal, I would obviosly have shared the poor health and death with all the other residents of Bhopal whether they invested or not.

I think, although it's hard to be sure, that the original poster was suggesting that the existence of limited liability makes it easier for you as an investor to walk away from your share of ethical and moral responsibility for the Bhopal disaster.

If it weren't for your $20 (and the twenties of others like you), Union Carbide wouldn't have been in a position to be able to create the disaster in the first place. Your $20 was used, at best irresponsibilty, to cause harm to thousands. Obviously, you wouldn't have spent twenty dollars in that way directly, but the intervening corporate shell made it possible for someone to spend your twenty for you in that way.

If you were directly responsible for the actions of the corporations you invested in (beyond the simple money you invested), you would almost certainly keep closer tabs on the companies in which you invested. Corporate irresponsibility would be greatly reduced, because every UC investor would be wanting to make sure that everything was done as safely and as "by the book" as possible.

Of course, this would also mean that no company would ever be able to do anything, with thousands or millions of back-seat drivers insisting on second-guessing every decision. It also means that many fewer companies would exist in the first place. It's a stupid idea all around. But I think it's based, not on a misunderstanding of "limited" but on a solid understanding of a stupid, Luddite, anti-corporatist political view.

[Loss Leader]

I think, although it's hard to be sure, that the original poster was suggesting that the existence of limited liability makes it easier for you as an investor to walk away from your share of ethical and moral responsibility for the Bhopal disaster...


Your interpretation of the quote in the OP makes sense to me.

[balrog666]

[snip]

Again, this seems a little vague to me. I assume you're talking about the limited liability of stockholders here. Are you suggesting that stockholders should be legally liable for the actions of the company?

You've yet to explain why all people should be legally liable in a company?


Yes, that is what he is arguing. :boggled:

And, yes, he has yet to justify it in any meaningful manner. :rolleyes:

[Thanz]

If it weren't for your $20 (and the twenties of others like you), Union Carbide wouldn't have been in a position to be able to create the disaster in the first place. Your $20 was used, at best irresponsibilty, to cause harm to thousands. Obviously, you wouldn't have spent twenty dollars in that way directly, but the intervening corporate shell made it possible for someone to spend your twenty for you in that way.

In most cases, this isn't quite true. Unless you bought your stock directly from Union Carbide in some sort of public offering, they didn't get any of your twenty dollars. They got some sort of money from whoever purchased the stock initially. But, by the time you buy the stock on the NYSE, it may have changed hands multiple times. Your twenty isn't connected to money that UC got in any real way.

[Francesca R]

This is carried over the Presidential Election forum at the request of Francesca.Thanks for reposting that and apologies for the delay in responding. You make good points and I am going to concede this discussion and my line of thought on it. Participation appreciated. :)