The UK papers last weekend were full of the sale of Merlin, the entertainment company, to Kirkbi, who already had a 29% stake in the company. They were especially focused on this comment by Sir John Sunderland,
‘Any news flow, either from the company or because of factors like the terrorism incidents in London — or indeed some fairly uninformed sell-side analyst notes — can all have quite a volatile effect on the share price, which is disproportionate for the underlying value of our company.’
This clearly irritated David Cumming of Aviva Investors, who said on Monday’s BBC Radio 4 Today Programme that he thought the remarks were ‘pathetic’ and the attempt of a management to blame others for its underperformance. And, for good measure, he added a scathing remark about management teams which thought they good get paid more if working under private equity ownership.
Hang on a minute. This doesn’t make sense.
Why is an intelligent investor like David Cumming making a blanket argument for listed company ownership over private equity? Surely the right ownership for a company will depend on the circumstances? It is part of the stewardship role of the board to judge whatever is in the long-term interests of the company. No-one can claim that being a public company is, under all circumstances, the best option. It is superficial for an investor to claim that the capital markets always fully understand every listed company.
Equally, on the company’s side of the argument, we have the chairman saying that the investment community is undervaluing the company. But if he and the board are being good stewards, why pay attention to the current share price? It is irrelevant to the factors that will determine Merlin’s long-term success.
Almost every listed company chairman or CEO I have talked to has admitted that being on the stock market leads to short term pressures. It should be possible for the chair and the CEO to resist these pressures. In practice, it can become wearing, unless the board has clearly defined its own understanding of its mandate and told investors in advance what its time horizons and priorities are.
These arguments about the respective merits of listed markets and private equity re-appear regularly without adding much to human enlightenment. What is missing is any focus on the assumptions underlying the behaviour of either. Either are compatible with good stewardship if participants truly focus on the longer term, and seek to passing on the assets they are holding to their successors in better condition.
The problem about the City is that the ownership is impersonal, and performance measurement one-dimensional, reduced to discussions about ratios and formulae rather than about leadership and stewardship.
Short-termism came to the fore in the discussion hosted last week by the Chartered Institute of Securities and Investment (CISI). This followed up the introductory meeting of the FCA’s ‘Purpose Working Group’ described in my previous blog (Purpose in financial services).
Under Simon Culhane’s skilled facilitation, the key issues soon came out. He started by showing a slide with four statements of purpose on it.Between us we soon identified the first three, which were all designed to appeal to the human purposes of business. What about the fourth, which narrowly focused on generating much more shareholder value?
It turned out to be the Lloyds Bank statement of purpose, dating back to the 1990s. That was a blast from the past. Sir Brian Pitman, the originator of the statement, was famous for benchmarking Lloyds against his competitors – not those in the industry, but the best retail companies in the world. He wanted the bank to be as good as the best in the world, and thereby generate more shareholder value. He was a very hands-on leader – in touch with his people.
In 1996, just a year after the publication of the original Tomorrow’s Company report, Sir Brian and I were both speakers at the same conference in the south of France. On the platform, we disagreed sharply. As Lloyds Chairman – and former CEO – he was saying that he inherited a business that was too sleepy and inefficient, and needed to be set much more demanding targets. Hence the ambition, stated as the company’s purpose, to double shareholder return.
My argument, by contrast was that, in future, if you want to engage your employees and win loyalty from your customers, don’t talk to them about Total Shareholder Return or Economic Value Added. This is a measure of success. It is not a purpose.
We continued the conversation over lunch. The longer we talked, the more it seemed that we were saying the same thing but in a different order. He was saying that a business needs to keep its eye on the ball, and be rigorous in measuring its return on capital. He immediately added that in order to do that the business had to have highly effective customer and employee and supplier and community relationships. He also insisted that companies needed to focus on the long term. He hated bonuses that rewarded short term performance and argued that you could only judge a bank over ten years.
The conclusion I drew from that longer conversation 23 years ago was that the way a company prioritises its stakeholders may vary. What is common to all companies is that their model for achieving success has to connect all the key relationships – rather like the way a magnet aligns all the iron filings under it. It’s a bit like scoring a home run in baseball. Some companies, like Virgin, start with the employees. Get that right, they say, link between a company’s purpose. Others like Marks & Spencer, started with the customer; get that right and everything follows. Others, like Lloyds started with the shareholder. But all the relationships had to function together to achieve results.
Yet, a generation later, that 1990s Lloyds statement looks dated.
Ordinary citizens have had enough of the apparently exclusive focus on shareholder value. Too often they have seen it being used by leaders less scrupulous than Brian Pitman as a device to boost personal rewards through boosting share price. The focus on shareholder value has degenerated into an obsession with short term shareholder value. What was once a measure of long-term returns becoming a quick win in the capital market casino. Costs were cut; jobs were slashed; relationships trashed. The relentless pursuit of profit has dragged many banks down the disastrous path to PPI.
The Global Financial Crisis arrived, and the public (who don’t particularly distinguish between retail and investment bankers) saw the economy drive over the edge of a cliff. Ordinary people suffered, and very few bankers went to jail.
As one participant at our round table put it:
‘Why is this on the agenda now? Organisations like Tomorrow’s Company have been pushing the agenda for a long time. We’ve all had vision and mission and values statements. I think it is something that is now happening in society that is leading to this debate. People out there are looking to companies to deliver a better outcome. Purpose is so emotionally engaging. Maybe we lost our moral compass?’.
Another participant liked Joe Garner’s call for ‘courageous integrity’ mentioned in the earlier blog
We talked about Handelsbanken. They have followed a steady course for decades. Their manual says to their staff ‘Always do the right things for the customer, even if it is the wrong thing for the company’. As it happens, Handelsbanken’s largest shareholder is now the Octogonen Trust, which represents the long-term interests of employees. This protects them against some of the pressures of quarterly capitalism.
Nearly every CEO and business leader around the table agreed that it was short termism that got in the way of broader purpose. It is all very well having a broader purpose but if the pressure is on to produce quarterly results, that broader purpose will soon be put under strain. So how an organisation is owned is crucial. That’s one of the reasons why one of those present had recently made the shift to employee ownership.
Listed companies with absentee shareholders are the most exposed to short-termism and the undermining of that courageous integrity.
Private equity owners who are looking for an exit within five years are also more exposed to the temptations of the quick buck.
Over to you, FCA. If you really want organisations under their supervision to stick to a clear purpose, and display it will need to start reviewing how they are owned.