Curing myopic CEOs requires playing long game
Companies focused too much on short-term results badly underperform rivals with more distant horizons
Feb 13, 2017
By Tom Buerkle
NEW YORK (Reuters Breakingviews) - Corporate myopia may be on its way to a cure. A new study from McKinsey finds companies focused too much on short-term results badly underperform rivals with more distant horizons. It's just correlation not causality, but the research is a compelling start. Persuading investors might in time convince American boardrooms.
Companies, pension funds and other stakeholders have long decried the excessive focus of financial markets on the here and now, but have struggled to prove their point. If nothing else, the consulting firm's research, conducted in cooperation with FCLT Global, a nonprofit organization that advocates long-term decision making, takes the important step of trying to figure out just how to determine what long term means.
By parsing five factors involving earnings, investment and quarterly targeting, McKinsey discovered that bosses who took a long-term approach delivered faster revenue and profit growth than their peers between 2001 and 2014. Researchers also attempted apples-to-apples comparisons within industries like autos and technology to weed out any sector biases.
There's a danger in going too far with some of the conclusions. For example, it sounds a little too precise and hopeful to calculate that if all companies had performed the same as the leaders in its so-called Corporate Horizon Index, that the U.S. economy would have grown 0.8 percentage point faster a year and created more than five million additional jobs.
Even so, there are some early signs of potential returns. More fund managers are banging the long-term drum, including the Investor Stewardship Group launched last week by BlackRock , the California State Teachers' Retirement System and others.
This early evidence has much to overcome, however. Some two-thirds of executives surveyed by McKinsey said pressure to meet quarterly targets has increased over the past five years. The ranks of aggressive investors have been growing and attracting more capital for their activist campaigns. Greater volatility in a world of geopolitical unrest may reward energetic traders over value investors. In short, a victory for the long term will require a long game.
- Companies that take a long-term approach to growing their businesses expand revenue and earnings faster than rivals, according to a study released on Feb. 8 by the McKinsey Global Institute in cooperation with FCLT Global.
- Among the 615 non-financial large and midsize U.S. companies included in the research, ones that took a long-term approach generated 47 per cent more revenue and 36 per cent more earnings between 2001 and 2014. The group also increased R&D spending by nearly 50 percent more.
- The study focused on five areas – investment, earnings quality, margin growth, earnings per share growth and quarterly targeting – measured using the following five criteria, respectively: a ratio of capex to depreciation; accruals as a share of revenue; the difference between earnings growth and revenue growth; the difference between EPS growth and true earnings growth; and the incidence of beating or missing EPS targets by less than two cents.
- Companies managed for the long term grew their market capitalizations, on average, by $7 billion more than their short-term peers over the period, and added nearly 12,000 more jobs, on average.
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