ACCA FM Syllabus A. Financial Management Function - Myopic Management - Notes ^{5 / 5}

This means possibly choosing quick returns over slower, but ultimately higher, one.

Problems caused by Myopic Management

1. Reduced investment returns

2. Destruction of shareholder value

3. Business collapses

4. Undermining of corporate governance

5. A loss of public trust in large businesses

6. A growing sense of unfairness in the way in which society is organised

Why focus on the short term?

1. Managers have a different time horizon to that of shareholders

2. eg bonuses based on short-term share performance

3. eg share options are about to mature

4. If contracts are short then managers will look to excel in that short period

What are the symptoms of a short-term approach?

• Little R&D expenditure

• Little training expenditure

• Less spent on marketing / brand building

Frequent reporting of profits can intensify the pressure on managers to achieve quick results

Ratios can add to the problem

ROCE and ROI focus on the EFFICIENCY of capital investment - not the long term profitability

• These ratios actually get worse when money is invested in assets

• Similarly ratios that have a % output such as IRR, can make a short term focus

• (Whereas NPV gives an absolute figure over the lifetime)

EMH states that in an efficient market, the value of a share should reflect the long-term future cash flows of the share

However, stock markets are not always efficient and  shareholders are not always rational when making investment decisions.

This can be seen in speculative share price bubbles and extended ‘bull’ runs in share prices

These include

1. Management rewards and contracts

   Share options with longer vesting periods
   Fewer bonuses based on annual profits
   Use non-financial targets as the basis for rewards
   Longer contracts

2. The behaviour of shareholders

   A loyalty dividend for those who hold shares for a long time
   Rewards for fund managers linked to long-term performance 
   Additional reporting of long-term prospects in the annual accounts

3. Corporate governance

   Get institutional shareholders to actively engage in corporate governance
   Additional voting rights for long-term shareholders

4. Taxation policy

   Introducing a tax on the transfer of shares
   Higher rates of capital gains tax to deter shareholders from selling

Be careful of the remedies though!

• Taxing shares transfer effects every trade even those with low volatility

• Higher capital gains tax on selling shares may damage market liquidity