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Sunday, March 13, 2011

Business must take longer view or stand by to bury capitalism


Special to The Japan Times

HONG KONG — Big business must get rid of its stock market-driven fixation with short-term results and institute deep and far- reaching reforms if it wants to ensure the survival of capitalism. This plea comes not from an isolated academic in an ivory tower but from Dominic Barton, global managing director of the McKinsey consultancy group, writing in the flagship journal, the Harvard Business Review.

McKinsey itself has recently come under fire after the U.S. Securities and Exchange Commission charged its former managing director Rajat Gupta with insider trading, although the charges do not seem to relate to the time he was with McKinsey.

On the question of capitalism, Barton raises the right concerns, not least because the Great Recession of 2008 and its aftermath of cutbacks and high unemployment have increased public antagonism toward business.

In his article "Capitalism for the Long Term," Barton steers away from how to restart growth, and makes a root and branch examination of the nature and goals of capitalism itself. He calls for a "shift from what I call quarterly capitalism to what might be referred to as long-term capitalism." The fundamental challenge is "rewiring the fundamental ways we govern, manage and lead corporations. It's also about changing how we view business's value and role in society."

He lays out what he calls three elements of the shift in attitudes:

• Get rid of the short-term quarterly view and look to a long-term vision.

• Look to serve all stakeholders in the business and not merely shareholders in seeking to maximize corporate value.

• Strengthen the board management of the company.

Barton adds that the choice is to undertake reforms or face the wrath of government driven by an angry public. Reforms will also strengthen capitalism: "They will unleash the innovation needed to tackle the world's grand challenges, pave the way for a new era of shared prosperity, and restore public faith in business."

Much of what Barton advocates makes eminent sense. His worldview is informed by broad experience of advising business, public sector companies and nonprofit organizations over 25 years in America, Asia and Europe. The problem is that making the prescription is relatively easy; taking the medicine and getting it to work is more difficult.

The tyranny of short-termism still rules for the most part. Barton points out that companies like Toyota and Hyundai went through many teething problems to establish their ascendancy. Indeed, Toyota's rise took decades. Early Toyota vehicles had so many problems that a Japanese cartoon described a stalled truck as being "in Zen meditation."

Intel took the bold but "wrenching" decision to abandon its core business of making memory chips to start producing microprocessors, and became leader of the multibillion dollar industry.

Apple's iPod also had a tough first year, when only 400,000 devices were sold (out of 275 million to date) and its share price fell by 25 percent.

Back in the 1970s the average holding period for U.S. equities was seven years; today it is seven months. Moreover, hyper-speed traders, who may hold shares for only a few seconds, now account for 70 percent of U.S. equities trading. Markets twitch and typically respond almost to every passing breeze of rumor.

BBC World television's business correspondents visibly cheer when stock markets go up and look glum when they go down, taking a simple child's mind view of markets.

Barton pleads with the major providers of capital, pension funds, insurance companies, mutual funds and sovereign wealth funds, which together hold $65 trillion or 35 percent of the world's financial assets, to pursue their obvious interest in long-term value creation and eschew shortsighted practices.

His second imperative is to disseminate the idea that serving stakeholders is essential to maximizing corporate value. Too often, Barton says, a false choice is offered: Are you a champion of shareholder value or a fan of the stakeholders? By "stakeholders" he means employees, suppliers, customers and creditors, and the communities in which the companies work and the health of the environment.

Barton also urges radically improved corporate governance. Lessons from successful family-owned companies, he says, suggest: "The most effective ownership structure tends to combine some exposure in the public markets (for the discipline and capital access that exposure helps provide) with a significant, committed, long-term owner.

"Most large public companies, however, have extremely dispersed ownership, and boards rarely perform the single-owner proxy role. As a result, CEOs too often listen to the investors (and members of the media) who make the most noise. Unfortunately, these parties tend to be the most nearsighted ones. And so the tyranny of the short term is reinforced."

He offers three prescriptions for better ownership-based governance: (1) more effective boards whose members will take their jobs more seriously, spending 30 to 36 days a year instead of the current 12 to 20 days, to serve as the agents of long-term value creation; (2) more sensible pay for CEOs to reward them for their achievements in adding to long-term value; and (3) a redefined shareholder democracy.

His suggestion that it is time for new rules to counterbalance high churn rates in shareholdings — as in France where some companies give two votes to shares held for more than a year — shows the gap between his sensible ideas and harsher reality. Would differently weighted shares be accepted? Would they work?

CEO pay continues to rise astronomically above that of ordinary workers, and a boss, even after getting sacked because of evident failure, still gets a multimillion dollar payoff. High unemployment in the United States coincides with record corporate profits and a corporate cash glut.

Barton does not tackle the baneful influence of big financial conglomerates and how they took the world close to financial meltdown. Even the Bank of England governor has complained that big financial companies felt free to gamble with other people's money.

Trust in business in the U.S. and Britain is only 45 percent, slightly up from all-time lows. Trust is higher in China at 61 percent, in India (70 percent) and in Brazil (81). Days of reckoning may be at hand.

Kevin Rafferty, based in Hong Kong, is editor in chief of PlainWords Media.


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