Redesigning Contemporary Business Finances - Revamping Adam Smith's Concepts for the 21st Century
Rewritten Article:
How comes that so many people haven't acknowledged that American-style corporate finance has been a remarkable global success story akin to modern medical and IT advancements, for the past 40 years? This argument is presented by Donald H Chew in The Making of Modern Corporate Finance, his significant attempt to reimagine Adam Smith for the 21st century. He believes that the efficiency gains derived from finding commercial uses for new technologies by private enterprises is what ultimately funds societal benefits such as health, education, and overall well-being.
Chew, the editor of the Journal of Applied Corporate Finance, opens by detailing the problems present in the "old-school corporate finance" of half a century ago. By the late 1970s, he writes, most large US companies were conglomerates. For instance, General Mills – a breakfast cereal manufacturer – expanded its footprints to include toy manufacturers, Play-Doh, and even small submarines.
Executives of these expansive corporations held on to their positions as long as they increased earnings, without anybody questioning their cost of capital or whether their empires generated valuable returns. Towards the end of the 1970s, the S&P 500 lost nearly half its value, and two university professors wrote a paper called "Can the Corporation Survive?" – symbolizing America's struggle.
However, the 1980s seemed to put America back on track, as Japan's inexorable rise appeared to subside; the Nikkei 225, Japan's primary stock market index, reached a record 39,000 at the end of 1989 (currently around 34,000). In 1992, a group of 25 academics accused US companies of systematically under-investing compared with their Japanese counterparts. But United States continued to thrive beneath the surface, with the S&P 500 recording a total return of over 3,000 percent in the 1990s.
Chew attributes the resurgence of America's corporate and stock market fortunes to a pivotal moment in a classroom at Carnegie-Mellon University in 1957, when Merton Miller (eventually awarded the Nobel Prize) began teaching his first corporate finance class under the supervision of Franco Modigliani (also a Nobel laureate). Their aim was to transform corporate finance from an gut-feeling decision-making process to a structured theory with practical applications – implying better results. In 1958 they published "The Cost of Capital, Corporation Finance and the Theory of Investment," which laid the intellectual groundwork for the arriving storm of disruptive forces that would reconstruct America's conglomerates.
Hostile takeovers, share buybacks, and conversion of equity into debt became increasingly common – the number of US-listed companies peaked at 7,562 in 1998, and has since dropped below 4,000. Chew contends that new approaches to managing and financing companies played a role in "raising the social wealth of many – though certainly not all – American citizens."
Chew is expert at simplifying complex concepts, as evidenced by his writing, which does not introduce an equation until page 27. However, the book's structure is not conducive to building Chew's primary argument. After an engaging introduction, ten essays, each centered around the work of a prominent theorist, follow. While potentially insightful on their own, the essays redundantly weaken the book's main thesis. Instead of a conclusion that ties everything together, the book ends on a loose note with an essay on environmental, social, and governance (ESG) benefits – which feels somewhat outdated in the volatile Trump era.
The essays trigger two thoughts. First, if the 1970s marked the dawn of old-fashioned corporate finance, with the next 40 years being the era of modern corporate finance, are we now moving towards a postmodern era of corporate finance? A striking characteristic of today's top performers – Apple, Alphabet, Amazon, Meta, Microsoft, Nvidia, and Tesla – is their apparent simplicity from a corporate finance standpoint. Nvidia, for example, has four times more cash on its balance sheet than debt. The seven have created their wealth not through daunting financial engineering, but through innovation and quality products and services.
The second question is: is there anything genuinely new in corporate finance? Every major technological change – railways, electrification, the internet, AI – has led to surges in productivity and, subsequently, stock market bubbles. In early 2025, technology companies accounted for 37 percent of America's market capitalization, but railways accounted for 63 percent in 1900. As history demonstrates, technology-induced bubbles collapse, but the essential infrastructure they fund persists, such as the mighty locomotives that defined America's industrial revolution. The Magnificent Seven have entered a significant correction, shedding over $2.5 trillion in market value this year. Yet, their groundbreaking technologies will continue to shape the future.
The Making of Modern Corporate Finance: A History of the Ideas and How They Help Build the Wealth of Nations by Donald H Chew (Columbia University Press, £30/$35, 328 pages)
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- Donald H Chew, in his book The Making of Modern Corporate Finance, argues that American-style corporate finance has been a significant global success story similar to medical and IT advancements, funding societal benefits like health and education for the past 40 years.
- In the late 1970s, many large US companies, resembling General Mills, operated as conglomerates, expanding their businesses into areas like toy manufacturing and submarines.
- The inefficiencies of old-school corporate finance were highlighted by Chew, with executives retaining their positions based on increased earnings without proper consideration of their cost of capital or returns.
- The S&P 500 experienced a significant drop in the late 1970s, causing concern, but the 1980s saw a resurgence with the help of revolutionary concepts in corporate finance, such as Merton Miller's teachings at Carnegie-Mellon University.
- Modern corporate finance strategies enabled US companies to thrive, as shown by the S&P 500's over 3,000 percent total return in the 1990s. Today, technology companies like Apple, Google, Amazon, Microsoft, Nvidia, and Tesla, which have simple corporate finance structures, dominate the market with their innovative products and services.
- As the stock market corrects, it is questionable whether we are moving towards a postmodern era of corporate finance, or if the essential technologies funded by these corrections will continue to shape the future, similar to the impact of railways in the past.
