(James Saft is a Reuters columnist. The opinions expressed are
By James Saft
Feb 22 In a world in which most investment
managers are paid to be short- or medium-term in their thinking,
companies taking the long view prove the best bet.
This is one of the central ironies, not just of a delegated
investment system, but of the economy itself: patience pays but
is not usually rewarded.
Unilever, a company long regarded as particularly
focused on the long term, rejected last week a $143 billion
offer from fellow food giant Kraft Heinz, in part,
according to published reports, because it feared it would be
forced into short-sighted cost-cutting.
That may well have been wise, at least based on a reading of
a discussion paper released earlier in February by the McKinsey
Global Institute think tank which found companies taking a
long-term view outperform in everything from financial
performance to job creation. (here)
Looking at 615 nonfinance companies between 2001 and 2015
the study devised a 'Corporate Horizon Index' in an attempt to
capture which firms were playing the long game and which bending
with the changing winds.
A total of 164 firms made the cut as 'long term,' and from a
shareholder's point of view, the results were pretty good.
“Long-term companies exhibit stronger financial performance
over time. On average, their market capitalization grew $7
billion more than that of other firms between 2001 and 2014.
Their total return to shareholders was also superior, with a 50
percent greater likelihood that they would be top decile or top
quartile by 2014,” according to the study.
Interestingly, although the long-term cohort got hit harder
by the fall in equity markets during the financial crisis, their
share prices recovered faster.
Overall, short-term focus as measured by the study has risen
since 2001, a point which accords, at least superficially, with
widespread concerns over the level of investment and a
widespread corporate preference for financial engineering over
It is a common observation that while most fund and company
managers live and die quarter by quarter, the vast majority of
investors are managing their savings for the distant future.
HOW TO PICK A LONG-TERM COMPANY
The study rated firms on five measures:
First was the ratio of capital expenditure to depreciation,
a good guide to investment.
Second was accrual compared to revenues, which can tip which
companies are displaying earnings which reflect underlying cash
flow and which may be using accounting to flatter themselves.
Third was the difference between earnings growth and revenue
growth, which can reveal which firms are growing margins in an
unsustainable way in order to make their numbers.
Fourth was a measure of how often firms 'barely' make their
earnings-per-share targets or just miss them, again a good
marker of who is managing the business and who is managing Wall
Fifth was the difference between earnings per share growth
and gross earnings growth, an indicator of how aggressive firms
are being in buying back shares to boost EPS.
As ever, correlation is not causation but the long-term
results of the 'long-term' cohort were a heck of a lot better
than the rest.
Over the time of the study average company revenue grew by
47 percent more at long-term firms compared to the rest, average
earnings by 36 percent more and economic profit by 81 percent
more. Important to note that these results were relative to
industry peers with similar opportunities, operating in similar
markets, so this is not simply an exercise in picking winners
from secular change.
If all firms had done as well, U.S. market capitalization
would have been 4 percent higher at the end of the period, a
gain of more than $1 trillion.
And for you secular stagnation worriers out there, the
economic impact of wider long-term management could also be
huge. The long-term firms created more jobs and more output.
“The potential value that could have been unlocked had all
U.S. publicly listed companies taken a long-term orientation
exceeded $1 trillion over the past 10 years, or 0.8 percent of
GDP per year on average,” according to the study.
All of this needs much more study, but the potential
implications are huge.
My guess is that what we are seeing with short-term
management is the result of how managers, at fund firms and at
companies, are paid. If you are rewarded with share options and
continued employment for meeting your 'numbers' or for sticking
close to the pack as fund manager that’s what you’ll do.
If you want long-term rewards you have to reward long-term
(Editing by James Dalgleish)