Theory of Shareholder Value Equivalence

Economics is replete with Equivalence theories. The plethora of paradoxes in economic theory and more so in practice is invitation enough for one more such theory.

Ricardian Equivalence theory posits that the impact of taxes and sovereign debts on aggregate demand, interest rates etc. is identical. Like any economic hypothesis, Ricardian equivalence also is based on many convenient assumptions including the existence of inter-generational altruism. This may be a far-fetched assumption in view of the present day absence of even intragenerational altruism. But then, this is the way economic theories are built up.

Modigliani and Miller have argued that costs of equity and debt are identical. Leveraging therefore does not result in any cost advantage. However, inconvenient facts like tax implications queer the pitch.

Say's Law emphasises that supply creates its own demand. Hence, supply cannot exceed demand. It is intuitive that demand creates supply. So, demand cannot exceed supply. Ergo the supply - demand equivalence. As an aside, quantitative easing forced on central banks by global economic turmoil is an opportunity to test whether supply of even such a tempting product like money creates its own demand. Evidence so far is not encouraging.

Recently, Jack Welch derided the concept of shareholder value maximisation as a strategy. He observed that this is only an objective and not a strategy. Let us now see if shareholder value is a function of corporate action at all. Is shareholder value driven by corporate behaviour? In the absence of any empirical evidence to the contrary, it is logical to hypothesise that given a set of comparable alternative courses of action for a corporate, the choice of any particular option will not apriori guarantee any better impact on shareholder value than the exercise of any other comparable course of action. I venture to float this as the Theory of Shareholder Value Equivalence.