Capitalism for the Long Term

Transcription

1 Capitalism for the Long Term Featuring: Dominic Barton, McKinsey & Company s global managing director and author of the Harvard Business Review article Capitalism for the Long Term. Adi Ignatius, Editor In Chief, Harvard Business Review JULY 1, 2014 Sponsored by

2 Questions? To ask a question click on the question icon in the lower-right corner of your screen. OCTOBER 17, 2012

3 Presentation Download Link Click on the double links icon here to download the presentation materials. OCTOBER 17, 2012

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5 Capitalism for the Long Term Today s Speakers Dominic Barton, McKinsey & Company s global managing director and author of the Harvard Business Review article Capitalism for the Long Term. Adi Ignatius, Editor In Chief, Harvard Business Review JULY 1, #HBRwebinar

6 Contents 1 The rise of short-termism 2 The importance of long-term thinking 3 Shifting to a longer-term mindset McKinsey & Company 6

7 THE RISE OF SHORT TERMISM Short term pressures are escalating 55% of CFOs will reject an NPV positive investment if it means missing next quarter s earnings targets Average duration of London Stock Exchange holdings fell from 5 years in 1966 to only 8 months in Average CEO tenure has dropped to < 7 years today from 10 years in 1995, and 4.2 years for Fortune 500 CEOs Of 1,000+ surveyed C suite executives and board members, 44% use a time horizon of less than 3 years in setting strategy % say that they should use a time horizon of more than 3 years 63% say that the pressure has increased over the past five years to generate short term to results 1 Similar trends exist in the US average duration of NYSE stock holdings has fallen from 6 years in 1975 to only 7 months in 2009 Focusing Capital on the Long Term 7

8 THE RISE OF SHORT TERMISM Executives report that short term pressure is increasing, and that the board, investors and their own actions are to blame 63% of respondents report feeling increased pressure to deliver short term results Percentage of respondents, 1 n = 474 Short term pressure most often comes from directors and executives Percentage of respondents, 2 n = 474 Board of directors 47 Decrease 9 Executive team 43 Private equity investors 23 No change 25 Institutional shareholders Banks and/or debt holders Sell side analysts 15 Increased Don t know/ not applicable 2 63 Competitors Customers Regulators and/or government officials Hedge funds Retail investors Proxy advisory firms Figures may not add up to 100%, because of rounding 2 Respondents who answered other, none, or don t know/not applicable are not shown.. SOURCE: McKinsey CPPIB Focusing Capital on the Long Term survey 2013 Focusing Capital on the Long Term 8

9 THE RISE OF SHORT TERMISM Executives report that while they should be using a 3+ year horizon for strategic decision making, they rarely look out more than 4 years 79% of respondents report feeling the most pressure to demonstrate financial performance within 2 years "In your current role, over which of the following time periods do you personally feel the most pressure to demonstrate strong financial performance at your company? Percent, Total Respondents = 474 (Single response) 44% currently use less than 3 years' time horizon to assess strategic plans; 73% believe the ideal time horizon should be more than 3 4 years "When your company's management team conducts a formal review of corporate strategy, Avg years what is the primary time horizon for future strategic planning? Percent, Total Respondents = 474 (Single response) Time horizon today Ideal time horizon 1 year or less 44 1 year or less to 2 years 35 1 to 2 years to 4 years 11 3 to 4 years to 6 years 4 5 to 6 years or more years 3 7 or more years 4 11 Don t know 3 Don t know SOURCE: McKinsey CPPIB Focusing Capital on the Long Term survey 2013 Focusing Capital on the Long Term 9

10 THE RISE OF SHORT TERMISM Increased short termism is evident across the investment value chain Time Horizon 1 Pressures Savers Institutional investors Asset managers years 1 5 years 3 12 months Despite long horizon, savers increasingly allocating assets using short term performance metrics largely due to declining real returns and the end of defined benefit pension plans Most pension funds and other institutional investors are reducing their allocations to public equities and placing a greater share in passive investments Asset managers are focused on a game of relative performance while stock turnover has increased with speculation and trading replacing fundamentals Corporate boards < 5 years Boards and management have come under increased pressure from media and sell side analysts Management < 4 years CEO tenures have declined but asset lifespans have not, meaning that few CEOs last long enough to see the full consequences of their strategic decisions 1 Based on current incentive structures for most actors Focusing Capital on the Long Term 10

11 THE IMPORTANCE OF LONG TERM THINKING Long term thinking is essential for long term success Intel abandoned manufacturing memory chips in 1985 to focus on microprocessors It took P&G, Coca Cola and Walmart 8 11 years to become profitable in China 70 90% of a company s value is related to cash flows 3+ years out Apple s share price fell 25% the year the first ipod was released 86% executives agree that a longer time horizon for business decisions would improve corporate performance Focusing Capital on the Long Term 11

12 SHIFTING TO A LONGER TERM MINDSET If institutional investors and corporate boards act in a coordinated fashion, they have the ability to re orient the system to the long term Why they can make a difference Savers Institutional investors Asset managers Concentrated decision making Top 10 institutional investors control $10 trillion in assets (15% of all global assets) Significant share of equity markets Directly or indirectly own 70% of outstanding stock in largest 1,000 US public corporations (2011) In it for the long haul Many institutional investors recognize that the scale of their investments places them in a position to help shape the company s success (and also makes it difficult to fully exit a position) Corporate boards Management Fiduciary duty Legal and moral imperative to represent the interests of shareholders, which is usually best served by a long term mindset Link between investors (IIs) and executives IIs can reorient boards, but only boards can reorient management Successful models exist Boards of private equity owned firms provide successful models for long term governance, metrics and incentives Focusing Capital on the Long Term 12

13 SHIFTING TO A LONGER TERM MINDSET There are a number of practical actions that can be taken as a group to tackle short term thinking Savers Institutional investors How they can make a difference Reorient portfolio Use a portion of new asset manager mandates to pilot a range of longerterm incentives and evaluations Engagement Set up a collaborative engagement platform and test it by engaging with companies on executives' long term incentive plans Asset managers Corporate boards Management Board focus Pay non executive directors for at least 40 days work per year Review the proportion of Board time spent on long term issues, and explore whether a long term health committee would help increase the amount Investor corporate dialogue Commit to highlight 5 long term metrics that are material to the longterm health of the business model in earnings calls and annual reports Discontinue quarterly earning guidance by 2015 Focusing Capital on the Long Term 13

14 SHIFTING TO A LONGER TERM MINDSET: INSTITUTIONAL INVESTORS Practical changes for institutional investors Define long term objectives and risk appetite (e.g., GIC maintains a 20 year time horizon for value creation) Unlock value through engagement and active ownership (e.g., Larry Fink encourages companies to work directly with BlackRock and other shareholders, rather than focusing on winning over proxy advisory firms) Demand long term metrics (e.g., Puma developed environmental and social impact P&Ls, Natura publishes sales force satisfaction and turnover metrics) Ensure board members are independent, experienced and have a long term approach (e.g., Norges Bank Investment Management maintained its long term strategy through volatile equity markets) Focusing Capital on the Long Term 14

15 SHIFTING TO A LONGER TERM MINDSET: INSTITUTIONAL INVESTORS Several large institutional investors have taken steps towards setting longer horizons for their investments The Ontario Teachers Pension Plan has been a leader in allocating capital to illiquid long term assets today 23% of its portfolio is in real assets (e.g., water utilities, retail and office building) The Canadian Pension Plan Investment Board is experimenting with innovative ideas to encourage a longer term outlook with its investment professionals (e.g., committing capital for 3 years, basing performance based payments on long term track records, rather than annually) GIC, Singapore s sovereign wealth fund maintains a publiclystated 20 year time horizon for value creation, deliberately investing up to a third of its portfolios in companies in volatile emerging Asian markets Berkshire Hathaway uses the rolling five year average performance of the S&P 500 (rather than annual returns) as its benchmark to signal its longer term focus (benchmark is less impacted by year to year volatility) Focusing Capital on the Long Term 15

16 SHIFTING TO A LONGER TERM MINDSET: INSTITUTIONAL INVESTORS The Equity Engagement Spectrum Ownership stake in company <2% 1 5% >10% Ongoing engagement Active ownership Relationship investing Continuously monitors companies both reacting to performance and providing ongoing input May build micro coalitions with other investors Works publicly or privately to persuade the board and management to change longterm strategy Tries to build microcoalitions with other investors Works collaboratively with management on long term strategy Often has board seats CalPERS screens its portfolio to identify companies that have underperformed and works with them to improve their strategy and governance Focusing Capital on the Long Term 16

17 SHIFTING TO A LONGER TERM MINDSET: CORPORATE BOARDS The role of boards in shifting to a longer term mindset Boards of directors need to Spend more time (e.g., directors of public companies devote only days per year to their duties, compared to 54 days for private equity owned companies) Focus more on long term strategy (e.g., 75 80% of directors time is spent on fiduciary issues, while only 4% of companies have a long term strategy committee) Have more relevant experience (4 of 5 nonexecutive directors of large companies lack industry knowledge) 46% of executives named their board as a significant source of increased pressure to demonstrate short term performance over the past 5 years Focusing Capital on the Long Term 17

18 Questions? To ask a question click on the question icon in the lower-right corner of your screen. OCTOBER 17, 2012

19 Thank you for joining us! This presentation was made possible by the generous support of the Chartered Global Management Accountant (CGMA ) designation, powered by AICPA and CIMA. The CGMA designation recognizes competent, adaptable professionals who combine finance and accounting with business skills to help their organizations achieve results. Learn more at JULY 1, #HBRwebinar Sponsored by

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