THE PRESSURE to meet short-term quarterly earnings numbers can cause undue market volatility, and in turn, may cause management to lose sight of its strategic business model, according to a recent US report
THE PRESSURE to meet short-term quarterly earnings numbers can cause undue market volatility, and in turn, may cause management to lose sight of its strategic business model, according to a recent US report.
This would compromise a company’s global competitiveness as well as its ability to make investments in such critical long-term focused areas as research and development and environmental controls.
Now, more than ever, there are indications that corporations and investors can work together to actively address the issue of stock market ‘short-termism’.
“Recently, economic distortions generated by short-termism have been accentuated by speculative factors and, in certain cases, less than desirable business ethics practices,” said Matteo Tonello, senior research associate at The Conference Board Global Corporate Governance Research Centre, and the author of the report, Revisiting Stock Market Short-Termism.
Several new developments make change more possible at the current time than at any time in the past, she said. Institutional investors are now, more than ever, revisiting the pay-for-performance issue, and encouraging companies to devise compensation schemes based on a more balanced combination of financial and extra-financial indicators of performance.
Another argument for change is the unparalleled process of international convergence of accounting principles, especially with regard to initiatives to design a new model of corporate reporting based on true value drivers and inclusive of extra-financial measures of performance (such as data on customer satisfaction, indicators of employees’ professional development and other intangible assets used by businesses to pursue their strategic goals).
Major empirical research projects have also reported results supporting the linkage between sustainability factors (such as environmental, social and corporate governance) and improved stock prices and shareholder value.
Tonello said short-termism is a chain composed of three major links: the corporate link, the investor link and the financial analyst link.
To unlock the corporate link, Tonello said, further studies should be undertaken regarding the deployment of intangible assets (such as quality, customer and employee satisfaction). Research should be diversified by type of industry and geographical region, so as to develop a set of sector-specific financial and extra-financial performance metrics.
Further, proposed disclosure frameworks to enhance corporate transparency on intangible assets and extra-financial measures of performance should be supported by empirical research on their application.
Research on intangible assets and extra financial measures of performance should be also based on voluntary trial programs where, in addition to filing their regular annual reports, participating companies provide financial analysts and large investors with a more comprehensive set of information on their value drivers.
To unlock the investor link, Tonello said the transition from antagonism to engagement of certain long-term investors – especially regarding long-term strategic discussions – should be fully explored. Cases should be identified where companies have successfully discussed their long-term strategies with investors and where those investors have acted to support these long-term strategies by eschewing the lure of short-term price fluctuations.
To unlock the analyst link, Tonello said studies should be promoted to identify a viable business model to profit from the sale of high-quality investment analysis regarding how to build a durable, long-term portfolio, while enterprise risk management frameworks should include a set of enterprise-wide procedures to better communicate extra-financial indicators of performance to the investment research community.
