Owners versus Professional Managers

Many people wail about the ITC scandal.Who would have thought that such top class professional managers would behave like the most crooked Iwnias? If professionals behave like this how can they claim to be superior to owners who siphon crores out of their companies?’

This is a good occasion to review the old debate on professionally managed companies versus owner-managed ones. But first note that Calcutta business circles have long known that ITC’s top managers are not paragons of virtue and ITC has been nicknamed Insider Trader Corporation. Today, excise duly evasion, share manipulation. FERA violations and embezzlement all stand revealed as part of ITC operations.

Scrap the notion that all owners are crooks and all professionals are honest. Some owners like Tata and Bajaj have relatively high standards. And some professional managers have sucked companies dry.

The news has particularly chairman K L Chugh that he was a patriotic swadeshi champion warding of an invasion by BAT, the foreign group which owns 32 per cent of the company’s equity. BAT wanted to increase its slake in ITC and get rid of Mr Chugh not only because he opposed the parent company, but because his export deals smelled fishy.

Now ITC is famed for marketing skills. Mr Chugh used his marketing savvy to sell financial institutions the notion that he would convert ITC into an Indian multinational, which would export Indian brands of cigarettes and conquer markets hitherto monopolised by western multinationals.

Now. this was a confused notion. A multinational is an entity that has production centres in many countries, not one that merely exports to many countries. But Mr Chugh marketed his confusion so well that he was hailed as a swadmhi saviour.

However, it soon became evident that ITC was better at marketing confusion than rice. It created shell companies abroad with dubious NR1 partners, siphoned off money and deposited it in Swiss bank accounts. A true multinational opens production centres abroad. ITC’s idea of going multinational was to open shell companies and Swiss bank accounts.

It bungled the export of rice and lost enormous sums. Now, when a company famed for marketing cannot export a few tonnes of rice without losing crores and violating FERA regulations, you have to ask—is this incompetence or criminality? Surely nobody honestly wanting to export goods needs to open shell companies and Swiss accounts. The lesson is clear. Beware of managers claiming to do fancy things in the name of patriotism. Too often the beneficiaries turn out to he the patriots themselves.

What light does the ITC episode shed on the issue of owners versus professional managers? First, scrap the notion that all owners are crooks and all professionals honest. Some owners, like Tata and Bajaj, have relatively high ethical standards. And some professional managers have sucked companies dry (remember Bird-Heilgers).

In a country with corrupt politicians and insane regulations, it is impossible for any business, whether run by owners or professionals, to survive without paying some bribes or breaking some rules. Any company claiming to be lily-white is a liar. And if managers make black money to pay politicians, they find it difficult not lo pocket some themselves.

So some observers acknowledge this, but still claim that embezzlement in professionally managed companies is far less than in owner-run ones. They say owner-run cigarette companies in India started massive excise duly evasion, but got away with it: that ITC managers found themselves losing out to crooks and so decided on a subtler form of duly evasion that kept the money in company accounts rather diverting it to private pockets.

The latest investigations show that ITC managers skimmed off a few millions. But say their supporters, this is chicken feed compared with the enormous sums siphoned out by some owners. Marketmen say that when an owner starts a project, he over-invoices the machinery to such an extent that he gets back his entire investment in black money even before the project commences. So, they say, owners are much bigger crooks than bent managers.

Owners say this line of argument is grossly unfair. The money they siphon off in this fashion is typically used to provide the promoter’s contribution in a new venture. So what looks like massive embezzlement is really a way of getting around stupid regulations and tax laws, and expanding the country’s industrial base to the national benefit. On the other hand. money siphoned off by professionals is more likely to be wasted in conspicuous consumption.

This debate will go on forever, and I can only say it is irrelevant. The case for professional managers rests on relative competence not relative honesty.

First-generation entrepreneurs are clearly talented. But the children who inherit their empires may be mediocrities, so over time many such businesses will be run by second-raters. On the other hand. professional managers rise to the top on the basis of merit they compete fiercely with each other, and lesser ones fall by the wayside. No mediocre son of a professional can inherit his post.

There are exceptions. Some sons of industrialists are brilliant, some mediocre managers manipulate their way upwards. But on the whole, top professionals will necessarily be more talented than owner-inheritors.

Some businessmen say all their sons have MBAs, and so are as well qualified as professional managers. Sorry, this is not so. An MBA merely qualifies you to apply for a job at the bottom of a company. The Economic Times rejects job applications from some MBAs. I am glad business scions are getting a good education, but this does not automatically put them on par with a professional manager who has risen to the top.

The debate does not end here. Owners have a personal stake in a company, professional managers do not. And this personal stake can galvanise even a second-rate businessmen to beat a rival company headed by professionals. This has been demonstrated in several countries. And this is why western companies now offer their top managers share options, to give them a sense of ownership, which is vital for top performance.

India needs to make space for both owners and professional managers. Both professional managers have advantages and disadvantages and we need an appropriate mix of the two. How do we achieve this? I personally favour an inheritance tax of 20 per cent, rigorously enforced. I oppose wealth tax, which penalises first-generation entrepreneurs who have already paid income-tax. They deserve to enjoy the wealth they have created. But their sons inherit wealth which they have not created, and this represents a huge and unwarranted bias in favour of those without proven talent.

Some sons of industrialists are brilliant, some mediocre managers manipulate their way upwards. But on the whole top professionals will necessarily be more talented than owner- inheritors.

The right way to reduce this bias is an inheritance tax. This is no socialist anachronism, it exists in many capitalist countries. In India, this tax has had a chequered history, and actual collections have always been minuscule. I see no reason why we should collect less inheritance tax than European countries do.

What do you think?