The conscientious long-term investor must consider the company’s relationship with all its stakeholders. At a minimum, understanding the strength of these relationships is central to mitigating risk of permanent capital erosion. Ideally, these relationships confer a lasting unfair business advantage, difficult to replicate by peers merely paying lip service to regulators and investors requiring the completion of ESG checklists. The items on these checklists must be measurable. This encourages the quantification of factors which are qualitative. How can one quantify, or score whether, and the extent to which, social media companies exploit their users to the detriment of their health? Can these checklists consider and measure the enormous and compounding positive externalities created by modern platform businesses?
An appreciation of the relationship between a company and its stakeholders is a qualitative, subtle, and effortful endeavour. The interrogation of business ethics and the capacity for company managers to make the right long-term decisions are at the heart of serious investment programmes. The employment of an outside analytics firm to bestow credibility on an ESG framework is no part of this.
Any investor with an interest in owning sustainable businesses must recognise that company boards have broader responsibilities to consider than environmental and social issues. They will also understand that these duties do not dilute their fiduciary obligations to equity holders. Rather, they are a necessary part of satisfying them. Decisions to create large positive externalities and forge win-win outcomes take time and often come at the expense of traditional short-term measures of shareholder return. But these are the decisions that determine corporate vitality and staying power.
The broad disregard for long term win-win outcomes is a function of short holding periods. Company ownership changes hands on average every few months, vs. eight years in the 1960s. This is a by-product of investment constraints deeply embedded in the institutional money management industry, such as short-term capital, manager/investor misalignment, career risk and asset-growth agendas. These constraints cannot be addressed with an ESG checklist.
Just as truly special corporations seek to thrive under the principle of win-win, so must investment management firms create more value than they consume. Incentive structures should make it sensible to forgo additional management fees in lieu of excess returns on insider capital. Frameworks for economic profit-sharing should reward acceptable performance and coordinate manager and investor enrichment. Investors should receive most of any outperformance generated, not just most of the absolute return. Fee structures should therefore allow fund managers to talk about integrity with some legitimacy. Too many managers charge obscene fees with the sole purpose of enriching themselves at the expense of clients.
With business ownership in the public markets so fleeting, and given the strong economic incentive to raise capital, it is unsurprising that the objective of investing in viable, durable companies is not evergreen nor widely practised. This is a sombre impeachment of the asset management industry.
But it creates opportunity for those investors who recognise that treating stakeholders well is good for business owners. We look for symbiotic value chains; there need not be a trade-off between compounding owners’ capital and the principled consideration of all other lives our companies affect. Managers of the companies we own must look beyond the direct or immediate consequences of their actions in order to create lasting value. And a longterm outlook is essential, because shorter term sacrifices – ‘the capacity to suffer’ – are often required to create value of any permanence.
Mark Walker, Managing Partner at Tollymore Investment Partners
For more information about Tollymore Investment Partners, click here.
IFA Magazine is for professional advisers only. For full terms and conditions click here
