Senior corporate executives say they have faced growing pressure in the past five years to meet short-term earnings targets, leading to a new campaign to urge shareholders to take a longer-term outlook for stocks they own.
The heads of the Canada Pension Plan fund and international consulting firm McKinsey & Co. told a Toronto audience Wednesday they are launching a campaign to convince corporate directors and shareholders about the merits of longer-term investment strategies, arguing they give companies the room they need to grow and innovate.
Mark Wiseman, chief executive officer of the Canada Pension Plan Investment Board, says a growing number of corporate CEOs are coming to him privately to talk about plans to take their companies private because they are frustrated by the short-term focus of investors who want companies to meet quarterly earnings targets.
"They were increasingly frustrated, in the public market context, about not being about to make the 'right' long-term decisions for their companies," Mr. Wiseman said in a keynote address to hundreds of senior Canadian board members at a national conference by the Institute of Corporate Directors.
Dominic Barton, global managing director of McKinsey, told the ICD audience his firm surveyed over 1,000 global business executives about "short-termism," and 63 per cent reported they have faced more pressure in the past five years to demonstrate strong short-term performance.
He said the most surprising finding was that 47 per cent of senior executives felt their boards of directors were one of the greatest sources of pressure to demonstrate short-term performance. Mr. Barton said directors need to do more to "protect" managers from having to chase quarterly targets.
"There has been evidence of much more short-termism in the markets, and we think that is value-destroying over time," Mr. Barton said.
He said the number of companies listed on the NASDAQ market has dropped by half since 1998 to 2,577 firms, and argues part of the reason is that firms no longer want to be subject to the short-term pressures of being a public company.
Almost half of executives surveyed by McKinsey said they use a primary time horizon of less than three years when conducting a formal review of corporate strategy, Mr. Barton said.
CPPIB and McKinsey are urging companies to develop their business strategies with at least a five-year to seven-year time frame, arguing private equity funds typically have a five-year business plan for companies, and they earn an average of 3 per cent higher returns per year than comparable public companies.
Mr. Wiseman said CPPIB is looking at the idea of creating an international association of long-term global investors that would engage with companies on environmental, social and governance issues to promote long-term corporate strategies. The association could even evolve into a type of hedge fund that would see global funds with a long-term investment horizon invest together on private equity deals, he added.
At the less active end of the spectrum, he said less activist investors could also develop ways to "activate" their passive holdings. It means funds that do passive index investing could develop detailed proxy voting rules, allowing them to "activate" the voting rights attached to their shares to support long-term strategies and good governance practices.
Mr. Barton also called on boards to implement reforms, including creating committees of the board to oversee long-term strategic issues, citing examples such as Wal-Mart Stores Inc.'s technology and e-commerce board committee. He said companies also can develop models to pay directors so that they are motivated toward long-term strategy, including paying directors in share units that they must hold until they leave the board.
He also recommended companies stop providing quarterly earnings guidance and instead give investors more "narratives" about their long-term strategic plans.
Mr. Wiseman said 55 per cent of chief financial officers indicate they would forgo an attractive capital investment project today if the investment led them "to even marginally miss" their quarterly earnings target, but said studies show companies that marginally miss quarterly earnings targets do better over a longer term than those that make quarterly targets.
"In other words, managing earnings is not a value-creation strategy," he said.