by Cydney Posner
While Laurence D. Fink, co-founder and chief executive of BlackRock, has been decrying short-termism for a number of years, in his 2016 corporate governance letter to CEOs, he takes his advocacy a step further. According to this DealBook column, the letter was sent to 500 chief executives late Monday.
In his letter, Fink asks CEOs, instead of using their annual communications to shareholders to report only on the past year’s achievements, to “articulate management’s vision and plans for the future” by “lay[ing] out for shareholders each year a strategic framework for long-term value creation. Additionally, because boards have a critical role to play in strategic planning, we believe CEOs should explicitly affirm that their boards have reviewed those plans. BlackRock’s corporate governance team, in their engagement with companies, will be looking for this framework and board review.” [bold in original]
Fink envisions this framework as encompassing “how the company is navigating the competitive landscape, how it is innovating, how it is adapting to technological disruption or geopolitical events, where it is investing and how it is developing its talent. As part of this effort, companies should work to develop financial metrics, suitable for each company and industry, that support a framework for long-term growth. Components of long-term compensation should be linked to these metrics.” In addition, board review of these strategic plans “should be a rigorous process that provides the board the necessary context and allows for a robust debate.”
To overcome shareholders’ short-term perspectives, Fink argues, companies need to educate shareholders about their long-term strategies and how they intend to meet the inevitable challenges. Without this understanding, he suggests, companies are more likely to fall victim to activists with only a short-term horizon: without articulated plans, companies risk “expos[ing] themselves to the pressures of investors focused on maximizing near-term profit at the expense of long-term value. Indeed, some short-term investors (and analysts) offer more compelling visions for companies than the companies themselves, allowing these perspectives to fill the void and build support for potentially destabilizing actions.” As DealBook reports, “[a]ctivist investors are increasingly pressuring companies to return money to shareholders or buy back shares. Last year through the end of the third quarter, according to Mr. Fink, buybacks skyrocketed 27 percent over the previous year, which itself had been a record.” These practices, Fink contends, may undermine companies’ ability “to invest for the future.”
Equally interesting, Fink jumps on the bandwagon advocating that companies shed quarterly earnings guidance – at least eventually: “Over time, as companies do a better job laying out their long-term growth frameworks, the need diminishes for quarterly EPS guidance, and we would urge companies to move away from providing it. Today’s culture of quarterly earnings hysteria is totally contrary to the long-term approach we need.”
However, Fink is not among those advocating elimination of quarterly reports in favor of semi-annual reports: “To be clear, we do believe companies should still report quarterly results – ‘long-termism’ should not be a substitute for transparency – but CEOs should be more focused in these reports on demonstrating progress against their strategic plans than a one-penny deviation from their EPS targets or analyst consensus estimates. With clearly communicated and understood long-term plans in place, quarterly earnings reports would be transformed from an instrument of incessant short-termism into a building block of long-term behavior. They would serve as a useful ‘electrocardiogram’ for companies, providing information on how companies are performing against the ‘baseline EKG’ of their long-term plan for value creation.”
In addition, Fink urges companies to increase their focus on environmental, social and governance (ESG) issues, such as climate change, diversity and board effectiveness, which “offer both risks and opportunities” and “have real and quantifiable financial impacts.” Addressing these issues effectively can be “a signal of operational excellence,” he contends, and BlackRock is in the process of integrating these considerations into its investment process.
Short-termism, Fink acknowledges, is not just an affliction challenging the corporate world; public officials and other policymakers often focus too intently on the election cycle to the detriment of the long term. Policymakers, he contends, could “help support the growth of companies and the entire economy” by adopting tax incentives for long-term behavior and investment in infrastructure: “chronic underinvestment in infrastructure in the U.S. – from roads to sewers to the power grid – will not only cost businesses and consumers $1.8 trillion over the next five years, but clearly represents a threat to the ability of companies to grow,” Fink maintains. Both companies and investors have a role to play, he suggests; they “must advocate for action to fill the gaping chasm between our massive infrastructure needs and squeezed government funding, including strategies for developing private-sector financing mechanisms.”
DealBook raises the specter that presenting a multi-year strategic plan might “telegraph” plans to the competition: however, apparently in an interview, “Mr. Fink dismissed that possibility. ‘I don’t think a public discourse on how a company’s C.E.O. sees their position is going to result in proprietary secrets being revealed.’” Another challenge to Fink’s concept is the risk associated with changing plans and goals “if the market or economy change. Mr. Fink said he appreciated that argument, but contended that boards that lay out multiyear plans won’t feel locked into them. ‘Given the right context, long-term shareholders will understand, and even expect, that you will need to pivot in response to the changing environments you are navigating,’ Mr. Fink wrote. ‘But one reason for investors’ short-term horizons is that companies have not sufficiently educated them about the ecosystems they are operating in.’” Acknowledging that that might be true, the columnist still recognized the inherent challenge: “it is admittedly difficult for executives to reverse course without worrying about losing face.”
The DealBook column also suggests that more on this topic may be forthcoming: BlackRock and other institutional investors recently met with Warren Buffett “to devise a series of voluntary standards that companies should adopt, according to people briefed on the meetings. Another meeting is planned for next month.”