Why ditching quarterly reporting won't solve short-termism

The problem isn't talking to shareholders, it's how we measure CEOs.

by Adam Gale
Last Updated: 05 Sep 2017

Quarterly reporting is decidedly out of fashion. Only 57 of the FTSE 100 now issue these trimonthly updates, down from 70 last year, according to the Investment Association. The trend is even more advanced in the FTSE 250, with two-thirds no longer issuing them.

This appears very positive. After all, quarterly reporting goes hand in blistered hand with that dreaded 21st century disease, short-termism, which is often cited as a cause of our productivity slump.

(It’s decidedly suboptimal if those collectively in charge of allocating society’s resources choose to sacrifice prosperity tomorrow for a quick buck today. In business, this can take the form of lower or poorer quality investments, excessive cost-cutting and the manipulation of deals to make targets, rather than generate long-term value).

Before you pick up your pitchforks and demand the remaining companies ditch their regular market updates, however, you might want to consider one little thing. Quarterly reporting is not, actually, the cause of short-termism.

What causes short-termism?

Short-term decisions are usually made when leaders' incentives are aligned to short-term goals. If a CEO’s pay, reputation and future career prospects are defined by their company’s EPS over the last year, or their ability to meet quarterly profit targets, they are unlikely to pursue the most prudent long-term strategy. If they expect to move on after barely a couple of years anyway, then doubly so.  

Quarterly reporting can exacerbate this problem, by creating more pressure points to distract the boss, but it does not cause the mismatched incentive structures in and of itself.

Indeed, quarterly reporting can play a valuable role in keeping CEOs honest (sometimes literally), maintaining management discipline by keeping investors in the loop. It’s the board’s job to hold senior management to account, but for investors to hold the board to account, they need up-to-date information.

The idea that quarterly reporting is harmful is based on the assumption that investors are inherently short-termist in their outlook, which is not true. McKinsey, for instance, classifies some 75% of American shareholders as long-term investors. The figure is only likely to get higher – institutional investors are becoming ever more powerful as ageing populations swell pension funds.

The widespread problem of short-termism has rather more to do with volume. No, not volume of trades or shares, volume as in decibels. While many long-term investors keep quiet, either because they follow passive funds or because they have too many holdings to have a detailed opinion on individual stocks, analysts make a lot of noise – and they’re amplified by the media.

Perhaps because sell-side analysts are incentivised towards short-term gains, their loud messages often echo those concerns. And as the stock price fluctuations necessarily reflect the views of those willing to change their position based on short-term considerations, the market appears to back them up.

So what can we do to tackle short-termism?

Both managers and investors know that the value lies in long-term thinking. Employees do too – there’s little job purpose or security to be found in chasing quick wins. But to banish short-termism, we need boards to amend leaders’ incentives accordingly.

This could include linking pay to long-term performance (say, five years rather than one), not sacking bosses who miss an earnings target or two and, crucially, ensuring that we choose the right metrics for success.

For instance, when George Buckley became CEO of 3M in 2005, he said the income statement looked great but the company was slowly dying, because it wasn’t replacing its old products anywhere near fast enough:

‘Every company has measurements you can look at that will tell you the likelihood of a good or bad future,’ Buckley told MT recently. ‘We used a metric called the new product vitality index, a measure of sales from products introduced in the last five years. When I got there it was 8%. We needed it to be 15%, just to replace our core business. When I left it was about 33%. That’s what the real story of my time was.’

Even the simple fact of having a commitment to long-term goals and articulating that to investors can make a big difference. Just as short-term investors will pile onto short-term businesses, long-term investors will gravitate towards the companies that think the same way. It can be a virtuous circle.

If you have that, it doesn’t matter whether you report quarterly or not. In fact, if anything it’s a good thing because you’re providing more information and context for investors about how recent events connect to the big picture.

If you’re stuck in short-term land, and quitting quarterly reporting can be a sign of your new commitment to the long-term, then it’s probably a good idea. Go for it. But unless you are serious about fixing the larger problems of incentive structures, ditching the three-month report will be a cosmetic change at best.

Read next: How to solve a problem like executive pay

Image credit: Baer Tierkel/Flickr 


Find this article useful?

Get more great articles like this in your inbox every lunchtime