Chapter 9 – Absurdity #5 – Asset capture through founders shares

In the previous chapter we saw one form of asset capture that owners use in capitalism. We worked through the simple example of a restaurant, but the same mechanism occurs throughout the economy in millions of different situations. The steps are very simple under the rules of capitalism:

  • The owner gets a loan
  • The owner builds a building with the loan
  • The owner overcharges customers to pay back the loan
  • At the end of the process, with the loan paid off, the owner owns the building, rather than the customers who paid for it.

There is a second form of asset capture that is also common in capitalism. It involves the use of stock to concentrate wealth in a massive way. If you have ever wondered how people like Bill Gates (Microsoft), Jeff Bezos (Amazon) and Mark Zuckerberg (Facebook) become billionaires, this is the technique they use.

Nearly every company that you have ever heard of in the United States started with just two or three people. Here are a dozen examples:

  1. Google started with two guys and a couple of computers at Stanford University [ref]
  2. Amazon.com started with one guy and a business plan – “Within two months, Amazon’s sales were up to $20,000/week” [ref]
  3. Facebook started as a tiny project developed by a sophomore at Harvard University [ref]
  4. FedEx started with one guy who wrote a paper in college about his idea and then actually started the company [ref]
  5. McDonald’s started with one restaurant owned by two brothers. [ref]
  6. “Nike, originally known as Blue Ribbon Sports (BRS), was founded by University of Oregon track athlete Phil Knight and his coach Bill Bowerman in January 1964. The company initially operated as a distributor for Japanese shoe maker Onitsuka Tiger (now ASICS), making most sales at track meets out of Knight’s automobile.” The book “Shoe Dog” written by Knight is amazing if you want to hear the whole story. [ref]
  7. Apple computer started with Steve Wozniak and a very simple home computer in a wooden case [ref]
  8. Walmart started with Sam Walton and a single store he bought in Arkansas [ref]
  9. “The Papa John’s restaurant was founded in 1984 when “Papa” John Schnatter knocked out a broom closet in the back of his father’s tavern, Mick’s Lounge, in Jeffersonville, Indiana.[5] He then sold his 1971 Camaro Z28 to purchase US$1,600 worth of used pizza equipment and began selling pizzas to the tavern’s customers out of the converted closet.[6] His pizzas proved so popular that one year later he was able to move into an adjoining space.” [ref]
  10. The story of Dominos Pizza is similar. Two brothers purchased an existing restaurant called Dominick’s. One brother dropped out of the business, and Tom Monaghan made Dominos a big deal. [ref]
  11. Two friends named Ben Cohen and Jerry Greenfield started Ben and Jerry’s Ice Cream. “In 1977, Cohen and Greenfield completed a correspondence course on ice cream making from The Pennsylvania State University’s Creamery. Cohen has severe anosmia, a lack of a sense of smell or taste, and so relied on “mouth feel” and texture to provide variety in his diet. This led to the company’s trademark chunks being mixed in with their ice cream.[3] On May 5, 1978, with a $12,000[4] investment, the two business partners opened an ice cream parlor in a renovated gas station in downtown Burlington, Vermont.” [ref]

All of these companies then grew tremendously. Today [2018] Google has 72,000 employees. Amazon has 341,000 employees. Facebook has 19,000 employees. And so on.

The way that asset capture occurs in these companies is as follows:

  • The one or two or three founders form a corporation or an LLC.
  • At the time of formation, for example, a hundred million shares of stock are created out of thin air and granted to the founders. The founders own all of the shares in the company. So if there are two founders, each might receive 50,000,000 shares. If there is one founder, he receives all 100,000,000 shares of the company.
  • The founder might trade shares for money at some valuation as the company grows and needs money. The founder might take in $10 million from a venture capital firm in return for 20% of the shares. So the founder still owns the equivalent of 80,000,000 shares while the VC firm owns 20,000,000.
  • Eventually the company grows to the point where it “goes public”. It sells shares to the public in an IPO on a public marketplace like the New York Stock Exchange. The company might sell 20% of its shares for $200 million. For example, when Tesla went public it sold 13.3 million shares of stock for $17 each, raising $226 million for the company.
  • The founder still owns tens of millions of shares of the company. The founder may become a billionaire immediately at the IPO based on the value of his stock. As the stock increases in value, the founder has more and more wealth.

Jeff Bezos of Amazon recently reached $100 billion in wealth through this process. [ref] Think about what would happen if this wealth was spread around. Amazon has on the order of 500,000 employees on Jan 1, 2018. If the wealth of Jeff Bezos was instead sent to the 500,000 people doing the actual work, each employee would be $200,000 richer. For any “normal person”, $200,000 is a gigantic amount of money. It is nearly enough to pay cash for the average American home. With half of workers in the U.S. making $32,000 or less per year, it represents 6+ years of wages. Instead, all of that wealth is ridiculously concentrated in a single person because of the “rules of capitalism” currently in play.

Public IPOs are fairly rare events. Still, there are thousands of people who have become billionaires through this process. And there are millions of companies using stock to concentrate wealth in the founders and executives to a lesser degree.

Why?

Why does the founder get all of the stock? Why, for example, don’t all of the employees share the company’s stock? Amazon has hundreds of thousands of employees – why does Bezos get $100 billion? Because the rules of capitalism are wired to give all of the value to the founder initially. There is nothing that requires the founder to give stock to employees or customers, so founders typically hoard the stock for themselves. This mechanism explains how people like Bill Gates (Microsoft), Jeff Bezos (Amazon), Mark Zuckerberg (Facebook) and many others become billionaires, even though it is the hundreds of thousands of employees doing the actual work.

Think about the absurdity of this situation. Bill, Jeff and Mark are single people. They could do zero work once they have enough employees (and they often do) yet they still retain all of their stock, which they can sell whenever they wish to convert the stock into cash. When a company like Microsoft has 100,000 employees, the contribution of the founder has become meaningless, yet the founder owns most of the company’s assets and value, which are generated by the employees. As we saw in the previous chapter, all of the money for the assets comes in fact from the customers, who contribute all of the money through inflated prices to purchase the assets.

The utter absurdity of this situation is exemplified at Walmart. Sam Walton, the founder, is now dead. Obviously he is doing nothing for the company, but his stock still exists. So his children inherited all of his stock, and they now receive $3 billion per year in dividends. They did absolutely to deserve this stock, except for the fact that they popped out of the womb of Sam Walton’s wife. That $3 billion given to them every year is created by jacking up the prices at Walmart and stealing the money from Walmart’s customers.

This is how capitalism is wired. The absurd injustice of this system is incomprehensible.

Is it fair to say that the founder of a company or a CEO (e.g the CEO of Nike) is doing essentially nothing? The CEO of Nike is not sewing together any shoes. He is not designing any shoes. He is not designing or making any of the machines that help make shoes. He is not transporting shoes. He is not planning the company strategy (hundreds of employees do this). He is not monitoring the company finances (there are hundreds of people who do this) or the company’s technology (ditto) or the company’s operations (ditto). The thousands of other employees in the company are doing all of the actual work. If the CEO dies, it has no consequence. He is easily replaced. As an example of how easily replaceable CEOs are, take Steve Jobs at Apple – one of the most famous CEOs in history. Steve Jobs died on October 5, 2011. He was quickly replaced by Tim Cook, and Apple never missed a beat. Why? Because Apple has over 100,000 employees. The contributions of any one person are insignificant in that context, and therefore any one of these employees is easily replaced, including the CEO.

The new economic system we design to replace capitalism must eliminate the absurd asset capture mechanisms, and the resulting concentration of wealth, that occur today in capitalism today. We must eliminate the absurd extraction of wealth happening through corporate executives.

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