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Why Short-Term Profits Are Corporate Junk Food

Short term profits are certainly tasty. Increasing quarterly earnings are celebrated with abundant praise from Wall Street analysts, the press and shareholders reveling in rising stock prices. But this focus on immediate financial gains often comes at the expense of long-term fiscal health. It’s much like eating junk food: it may feel good for a moment, but it’s not good for one’s overall well-being.

Both high level corporate strategy and tactical business decision-making are vulnerable to the allure of short-term profits over other considerations. While overall corporate strategies are cloaked by such lofty terms as “mission, vision and values,” their primary focus is delivering shareholder value. The primacy of quarterly reports has constricted “shareholder value” to a brief 3-month interlude that supersedes all other considerations. Even such protracted activities as mergers, acquisitions, and divestments are viewed through the lens of their impact on short-term profits.

Among numerous recent examples is the decision by the multinational oil and gas company, BP, to scale back the firm’s energy transition strategy, “to regain investor confidence.” This is in the face of undeniable climate change as well as public expectations that oil companies will curb emissions. Renewable energy is a “much steadier business,” but have lower short-term investment returns. The hunt for short-term profits makes the impact of fossil fuels on the environment, and the fact that they will eventually run out of oil to drill, irrelevant to BP.

Company operational business decisions are also subject to this short-term mentality. Unit managers and department heads risk their employment if they don’t reign in expenses. The use of child labor in the meat-packing industry, fast-food restaurants and cocoa production are examples of cost-cutting that ignores the negative impact on these children and eventually their brand reputation.

After nearly 50 years of this short-term junk food, some economic titans recommended dietary changes including Larry Fink (BlackRock), Bill McNabb (Vanguard) and Unilever’s Paul Polman. Noted management expert Andrew Winston said that Fink recognized, “that pursuing strategies to create long-term value protects and enhances returns…and that addressing ESG (environment, social, and governance) issues and focusing on corporate purpose are profitable strategies.” Not surprisingly, there was much pushback, especially from those whose livelihood depends upon corporate quarterly profit reports.

What these critics conveniently ignored is that fiduciary responsibility is not a bite-sized candy bar. Creating and maintaining long-term value is a critical managerial responsibility and it is impossible, “without taking care of all your important stakeholders. If you’re failing to treat workers fairly in a competitive market, if you’re not treating your suppliers and local communities fairly, there is no way to maximize the long-term value of the firm.”

Just as junk food causes a temporary sugar rush followed by an inevitable energy crash, the pursuit of short-term profits can lead to business fatigue. While quarterly earnings may spike in the short run, businesses that rely too heavily on immediate returns often find themselves facing long-term financial instability. The constant need to satisfy investors and stakeholders with short-term gains strains resources, reduces the focus on innovation and burns out employees.

When companies follow short term strategies, they often make decisions that harm them down the road. They might lay off staff to save money, use cheaper, less resilient materials and rely on supply chains with questionable labor practices to reduce production costs despite regulations and public outcry.

The results? Brand damage, increased employee turnover rates, risks of lawsuits from unhappy customers and loss of market share.  This translates into increased costs of doing business, including rising risk management expenses and personnel costs from decreased retention and difficulty hiring. The reduced revenue leads to poorer credit ratings, increased interest rates and eventually lower stock prices.

In contrast, a focus on long-term company value has numerous benefits to shareholders and stakeholders. Corporations exist within a social contract and without a functional society and healthy planet there will not be a market economy. By focusing less on the short-term, managements can devote the resources necessary to identify and respond to the longer-term risks and opportunities, including those associated with environmental and social issues. They are also more flexible and better able to innovate and compete, both in the marketplace and for employees. Especially among socially and environmentally conscious consumers including Millennials, Gen Z and other cohorts that are increasingly basing their purchasing, investing and employment decisions upon sustainability and human rights criteria.

Companies that prioritize their long-term fiscal health have significantly greater average revenues and greater earnings growth which translates into higher shareholder return. It should be simple to empower managements to re-align their corporate strategies to embrace these advantages. But the mega-billion securities trading industry, including the financial press, analysts, advisors, bankers and myriad other entities, make their money on buying and selling, not long-term holding. And few CEOs are willing to incur the wrath of activist investor’s demands for short-term gains. Those that do, like Emmanuel Faber of yogurt maker Danone, quickly become an ex-CEO.

And yet it is not an impossible task. Accenture, AIA Group, Avis, BorgWarner, Bridgestone, Cisco, General Mills, Hasbro, GSK, Ingersoll Rand, IBM, Johnson Controls, Logitech, McKesson, Lowe’s, Microsoft, Merck, Motorola, NVIDIA, Pfizer, Rolls-Royce, SAP, TAG, Unilever, Williams-Sonoma and YETI are a few of the over 880 companies recognized by Morningstar as successfully incorporating ESG risk management into their business strategies. This, and other similar lists, while not perfect, do demonstrate that financial success and consideration of the long-term impacts of business decisions on the environment and society are not mutually exclusive. A business that strikes this balance can weather economic downturns, market fluctuations and shifting consumer preferences. It is a company that builds a legacy rather than simply chasing the next quarter’s profit target. This balance encourages innovative thinking, efficient processes, and a culture of trust and collaboration.

Shifting priorities will be difficult, but as demonstrated above, are not insurmountable. Companies do not need to ignore the short-term completely; they just have to balance the present with the future. Instead of chasing quarterly financial reports, businesses should adopt a holistic, sustainable approach to ensure success. This includes managing shareholder expectations, gaining support from large institutional investors whose perspectives tend to be more longitudinal and educating the public, press and politicians. Businesses with this healthy long-term approach will be better equipped to navigate challenges, deliver enduring value and honor their fiduciary responsibilities.

For more insights and guidance on navigating the evolving landscape of business, governance, sustainable investing and other related issues, stay tuned to our blog for future updates and expert analyses.

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The post Why Short-Term Profits Are Corporate Junk Food appeared first on Advance ESG.

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