Building Long-Term Value in a Short-Term World

Alfred Rappaport

Essential Messages

1. Short-termism destroys

2. Incentives matter

3. There’s a better way

2

Financial Crisis of 2007-9

Public sector culprits– Congress– Federal Reserve– Government bailouts

3

Financial Crisis of 2007-9

Private sector culprits– Homebuyers– Appraisers– Lenders– Credit-rating agencies– Corporate boards– Investment banks– Institutional investors

4

Corporate Short-Termism

• “Talks” shareholder value• “Walks” quarterly earnings

5

Pay-Performance Disconnects

• Annual performance plans• Multi-year plans• Non-financial performance incentives• Standard stock option plans• Restricted stock grants

6

Superior Long-Term Performance Plans

• Indexed option plans• Equity-premium option plans (EPOPs)

7

Essential Habits of Value-Creating Companies

• Do not manage short-term earnings.• Select strategies that maximize long-term value

even if they lower near-term earnings• Instill a consumer equity mindset throughout

the organization.• Reward employees at all levels for delivering

superior long-term value.• Return cash to shareholders when there are no

value-creating investments.• Provide investors with value-relevant

information.8

Overhaul of Corporate Reporting

• The objective• The shortfall• Corporate Performance Statement

9

Corporate Performance Statement

10

Investment Management Short-Termism

• Relative performance measurement– Benchmark index– Similar funds– Tracking error

11

What Determines Investor Returns?

• Fees and expenses• Manager incentives• Performance-chasing• Numbers to remember

– 60%, 70%, 80%– 9%, 7.5%, 6%,

12

Long-Term Performance Fees

• Base fee• Rewards and penalties• Performance measurement period

13

Performance Plan Benefits

• Longer time horizons• Lower fees, higher returns

14

Tilting the Investment Odds

• Concentrated funds• Expectations investing process

15

Essential Messages

1. Short-termism destroys.

2. Incentives matter.

3. There’s a better way.

16

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