A simple measure of companies’ devotion to the long term exposes a possible risk of future fixation
Much has been written about the perils of focusing too much on the short term. For investors, that means potentially getting spooked when they see falling returns, even if they’re due to temporary market dips. For companies, that means worrying so much about quarterly performance that they neglect their long-term business plans.
But in life as well as investing, the best path tends to lie somewhere in the middle of two extremes. In other words, long-term fixation is good for stock investors and companies in general — unless they take it too far.
“That counterintuitive risk is suddenly looming large, given the way giant technology companies are generating ever-higher returns and setting huge goals for growth into the distant future,” wrote Jason Zweig in the Wall Street Journal.
Citing Howard Silverblatt, senior index analyst at S&P Dow Jones Indices, Zweig said that S&P 500 member companies pumped a record US$713 billion into capital expenditures in 2018, a 16% acceleration over 2017.
Focusing on tech companies, Google parent Alphabet spent US$25.1 billion — US$69 million a day on average, and more than double its 2016 spending. Facebook put out a respectable US$13.9 billion, three times what it spent in 2016, and is expecting to commit at least US$18 billion this year. Amazon’s 2018 capital spending reached US$11.3 billion, almost twice what it spent two years prior.
Given that they can rely on oceans of revenue rather than debt to fund their projects, the three companies probably won’t be fielding any analyst questions about their spending in the near term. But according to a new study authored by academics from the University of Virginia and Columbia University, projects that require years of work and gratuitous expenditures before producing any returns can be riddled with pitfalls.
“Long-term projects have high volatility and high potential upside, so it’s easy to fall in love with them and overestimate the payoffs,” said Michal Barzuza, a law professor at the University of Virginia and co-author of the study.
Two cautionary tales of long-term fixation come from Global Crossing Ltd. and Qwest Communications International Inc., wrote Zweig. In the late 1990s and early 2000s, the two companies sank billions into vast fiber-optic networks; ultimately, that resulted in titanic debts that ended their lives as independent companies. Arizona State University professor Hendrik Bessembinder estimated that the two firms destroyed roughly US$86.8 billion in wealth compared to what investors could have earned by keeping their money in cash.
For managers taking on unprecedented ventures, the road to that breaking point is paved with overshot budgets and missed deadlines. The more time and money they spend without getting results, the more their reputation is at stake, and the less willing they can be to admit failure. On the investors’ side, a “sunk-cost bias” could prompt them to forgive setbacks — or worse, double down —on what they can’t acknowledge as a losing investment.
“So investors—even those trying to shun a short-term outlook—can’t give carte blanche to corporate managers who fixate on goals that are years down the road,” Zweig stressed.