At the heart of his speech, Haldane claimed that people no longer trusted public companies. He further referenced a letter, which had been sent to the chairmen and CEOs of the top 500 US companies at the beginning of 2015 by Larry Fink, CEO of Blackrock.
“More corporate leaders have responded with actions that can deliver immediate returns to shareholders, such as buybacks or dividend increases,” it said. “At the same time, leaders have underinvested in innovation, skilled workforces and the essential capital expenditures necessary to sustain long-term growth.”
This quote, as well as those from John Kay’s UK government-initiated review into short-termism in equity markets and its effects on listed companies, as well as Lynn Stout’s “The Shareholder Value Myth”, were used by Haldane to prove that people had started raising questions about the purpose and structure of today’s companies.
Essentially, Haldane noted that the role of institutional investors has changed. In 1990, pension funds and insurance companies held more than half of UK equities. Today, that fraction is less than 15 per cent. There has also been a fall in the fraction of shares held directly by individuals, from more than 50 per cent in the 1960s to little more than ten per cent today. Haldane claimed that owners of shares now have little direct communication with the firms in which they are investing. This, he suggested, had given managers and shareholders distinct duties.
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“The micro-economic question is at what cost this separation is achieved,” Haldane added. One consequence of a more dispersed and disinterested ownership structure is that it becomes harder to exert influence over management, increasing the risk of sub-optimal decision-making. There is some empirical support for this hypothesis. For example, companies tend to have higher valuations when institutional shareholders are a large share of cashflow, perhaps reflecting their stewardship role in protecting the firm from excessive risk-taking.”
There have also been concerns about the rising share of investors with high discount rates and low holding periods. Haldane claimed that the average holding period of shares have been in secular decline in a large number of countries. In the UK and US, they have fallen from around six years in 1950 to less than six months today.
Furthermore, he noted that among UK companies, share buybacks have consistently exceeded share issuance over the past decade.
“In other words, the equity market no longer appears to have been a source of net new financing to the UK corporate sector,” he said. “The indirect evidence comes from looking at the discount rates used in, for example, equity markets to assess investment projects. My own work has found evidence that these discount rates appear to be around five to ten per cent higher than would rationally be expected at the one year horizon. And while that may sound modest, accumulated and compounded that would act as a significant barrier to longer-horizon investment projects. Moreover, this ‘excess’ discounting has increased over time.”
He further noted that UK investment is consistently higher among private than public companies with otherwise identical characteristics. Shareholder short-termism may have had material costs for the economy, he said, as well as for individual companies, by constraining investment.
These criticisms have deep micro-economic roots and thick macro-economic branches, said Haldane. He suggested that incremental change is occurring to trim these branches, but that it may be time for a “fundamental re-rooting” of company law if we are to tackle these problems at source.