PROFESSOR John Kay is right to try and tackle a culture of short-termism that some listed companies can get caught up in, as set out in his government-backed review of the financial sector.
The downsides of short-termism are easy to identify: if investors focus too much on short-term returns, boards are left preoccupied with the share price at the next quarterly trading statement, rather than on investment to drive growth for the long-term. And both investors and businesses are broadly agreed that a stronger focus on long-term performance would be a good thing. But shifting a culture of short-termism will require behaviour change by both parties. There is no silver bullet to achieve this – at least none that Kay has uncovered in his 100 plus page report, which includes a package of sensible recommendations.
So what should be done?
First, culture change can be best achieved by high-quality engagement between boards and investors. This needs to move beyond corporate governance box-ticking to genuine engagement on strategy. Companies will certainly welcome efforts to get over this hurdle. The government and regulators can do their bit to nudge behaviour in this direction through measures in the Stewardship Code and the introduction of good practice statements, as suggested by Kay. Codes and the culture of comply or explain have worked well in the UK, and are better at driving behaviour change than legislation and deeper regulation.
Second, the government should take away some of the perverse incentives that fuel short-term behaviour. Kay is right to recommend that it should stop the carousel of quarterly reporting and short-term earnings updates, which are onerous and distracting for companies, and add little value for most investors.
Third, the incentive system for both companies and investors should reinforce long-term performance. For companies, executive pay should always be linked squarely to good performance over a meaningful period of time. But it is for individual companies to decide their own pay strategy, with engagement from investors. The government should be wary of adopting Kay’s recommendations on pay in their entirety. A one-size-fits-all approach to pay and long-term incentives doesn’t take into account individual company circumstances and could discourage investor engagement over pay strategy – which would be a retrograde step.
Finally, it’s worth remembering that the equity markets in the UK are a force for good in the economy. New and further issues on the stock exchange raised over £15bn in the past financial year.
A shift in behaviour, towards a longer-term outlook, along the lines outlined by Kay, could also help with the big picture. Too often today, big business is seen as bad business. But institutions acting responsibly with a stewardship mindset, not box ticking exercises, will help to strengthen the reputation of business.
Matthew Fell is director for competitive markets at the CBI.