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Circle of Competence Issue #83


"The purpose of bureaucracy is to compensate for incompetence and lack of discipline." - Jim Collins


When Wall Street took over this nursing business, profits grew and patients suffered (Bloomberg)

I admit it, I'm a card-carrying American Capitalist. Free market capitalism has done more to lift society out of poverty than any other economic force known to man in the last 300 years. But the spirit of free markets and capitalism require actors who wish to serve customer needs in a profitable manner - in other words, there is a certain base level of ethics assumed within the system, and without it, customers are secondary to dollars, and less-than-desirable outcomes abound. In theory, competitive forces would drive customers to a better company with better outcomes, products, or services. But reality often differs from theory.

Seth Klarman gave a great speech detailing the need for business leaders to rise above bare minimum shareholder needs to think about how their decisions impact their customers and the community. While the above story clearly has evidence of political leanings, Klarman's words ring loud and clear (emphasis mine):

"With an overly narrow focus on the near-term maximization of corporate profits and share price, business leaders leave themselves vulnerable to criticism and harsh regulation. When business owners and business schools fail to regularly ask hard questions about capitalism and its impact on people of every skill set and background, we increase the chance that when these questions are asked, they will be asked by ideologues seeking to point fingers, assign blame, and make reckless changes to the system. One US senator recently unveiled the Accountable Capitalism Act, which requires corporations of a certain size to procure a federal charter that would require 40 percent of corporate boards to be composed of employees. This seems both ill-considered and unlikely to work. I doubt this bill will become law. But when capitalism goes unchecked and unexamined, and management is seduced by a narrow and myopic perspective, the pendulum can quickly swing in directions where capitalism’s benefits are discounted and its flaws exaggerated, thereby leaving its future even more clouded and uncertain. While it’s hard to see how this proposed regulation would solve the problems that I’ve raised tonight, it’s exactly the kind of proposal that business will have to contend with when complex issues go unexamined, and when character, sound values, restraint, and long-term thinking fail to gain the upper hand."

The more I study the private equity industry, the more evident it has become that a heady mixture of short term incentives, leverage, and the pressure of LP hurdle rates result in business ethics taking a backseat to financial returns. This hurts customers, employees, vendors, communities, and ultimately the capitalistic system upon which our modern economies are built. The few are ruining it for the many who operate 'above the line'. We desp