Thursday, April 19, 2012

Long Term Thinking Does Exist in Corporate America!

Harvard Business School Assistant Professor George Serafeim, HBS doctoral candidate Maria Loumioti, and Assistant Professor Francois Brochet have written a new paper titled, Short-termism, Investor Clientele, and Firm Risk.  They find that companies with a short-run orientation do have more volatile stock returns and a higher cost of capital.   On the other hand, they find that we may be over-estimating the amount of short term thinking out there in corporate America.   The scholars find plenty of firms who are taking a long term perspective.   Here's an excerpt from HBS Working Knowledge's interview with the authors:

Q: In general, what relationship did you find between companies you identified as short-term-oriented, their investors, and the behavior of their stocks?

Francois Brochet: Overall, we found a positive association between the horizon over which firms communicate and the investment horizon of their shareholders. In addition, short-term-oriented firms appear to have more volatile stock returns and higher estimated cost of equity capital—that is, greater risk. While the presence of long-term-oriented investors appears to mitigate the positive association between firms' short horizon and the volatility of their stock, this does not apply to the association between short-termism and cost of capital. We interpret this as evidence that our short-termism measure captures a dimension of non-diversifiable risk in the economy. 

Q: What is the big takeaway here for investors, especially those seeking to invest in companies with longer-term perspectives?

George Serafeim: One important takeaway is that firms with long-term horizons exist! We tend to make sweeping statements and overgeneralize. While significant short-termism exists, there are organizations that have developed a long-term-oriented approach through formal (e.g., incentive systems) or informal institutions (e.g., building the corporate culture over time and employee selection).
The finding that more long-term-oriented firms have lower volatility and cost of capital has implications for capital allocation. Investors who care about the volatility of their portfolio should factor in their decisions the time horizon of the corporation. That generates a need for more data that help investors separate companies that are short-term-oriented versus long-term-oriented. Developing a robust data infrastructure that separates companies could have profound implications and incentivize companies to become more long-term-oriented.

1 comment:

Regret said...

Studies like this always remind me of the book The Halo Effect. Obviously this is a mass market book, but what do you think about their main point?