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Monday, 14 April 2014

Larry Fink of BlackRock writes letter to leading European stock funds: “Stop with your stock buyback programs and your excess dividends. Please invest your profits and cash in your company again, so you can meet long-term goals that will keep shareholders happy in the long run”. I totally agree with this visionary wealth manager.

I’m not a particular fan of companies, which pay out excess dividends to their shareholders or enter into vast stock buyback programs. That can’t be much of a surprise for regular readers of this blog. 

While such buyback events and excess dividend payments always seem moments of great happiness for the shareholders, I think that it is in reality an ‘early warning signal’ about the company that performs such actions.

Of course, there is little wrong with a one-off party for the shareholders. These were after all the people, who had the faith to invest in your company and who enabled it to grow to something great. As a company, it is good to show your gratitude to your shareholders every now and then.

However, too often it happens that large dividend payments and stock buyback programs point at a blatant lack of smarter, better yielding investments and long-term goals within a company. And consequently, to a lack of long-term vision within the executive management of such a company.

I don’t like politicians – like for instance Dutch PM Mark Rutte – who seem to lack a coherent long-term vision on the future. Such politicians often don’t have any groundbreaking ideas to build upon and they ‘only take care of the shop’. After such politicians have gone, a country notices often that it missed important developments which took place in the rest of the world and that it had been starting to lag to other countries.

It is the same with large companies and their CEO’s. Not structurally investing in the future causes such companies to stand still and lose future battles to their competitors. While the CEO’s of companies in this situation are often the ‘golden boys’ of the shareholders, their successors often taste the sour grapes of their failed policy.

In spite of these ponderings, many CEO’s of stock-quoted companies still seem to think: “Heck, we are sitting on a stockpile of cash and we don’t know what to do with it. If we don’t bring it back to the shareholders quickly, some activist jerk comes along and takes over the whole joint at a bargain price”. Or words like that. 

And it also happens that CEO’s are literally forced by one of those activist shareholders to pay out higher dividends or buy stock back. Or else…

In an older blog I wrote the following snippets about KPN, a telecom company that was a typical representative of companies handing out excess dividends, in the time of CEO Ad Scheepbouwer:

Former CEO Ad Scheepbouwer thought that, in order to keep the shareholders happy, a steady flow of high dividends was exactly what the doctor ordered. And happy the shareholders were… Especially the ones with a long-term vision that ended on dividend payment day. Unfortunately, this high-dividend strategy turned out to be a losing bet for KPN eventually. And now the grapes are sour for the shareholders.

The necessary investments for the future, in order to keep its fixed and mobile network up-to-date and state-of-the-art, were neglected by KPN in exchange for short-term ‘shareholder value’. In other words: the company has been used as a cash cow.

Currently the telecom behemoth is hit by a perfect storm, caused by:
  • An outdated infrastructure that is in desperate need of updating and/or replacement, if the company doesn’t want to lose its current position on the business-2-business fixed telephone+internet market and the b2c (consumer) market for 'internet+television+fixed voice-over-IP telephone' in The Netherlands;

KPN Telecom has been THE example for me, that a fixation on short term shareholder value can almost kill a company in the long run.

Today, I learned to my pleasant surprise that not all large shareholders appreciate quick, short-term gains above more substantial, long-term yields, which secure real shareholder value for the long run.

Het Financieel Dagblad wrote that a number of leading European stock funds – with among them a number of AEX (i.e. the Amsterdam Exchange leading quotation) quoted funds – had received a letter from Larry Fink of BlackRock: the largest wealth management corporation in the world. The FD also had a link to Larry Fink's letter.

Here are the pertinent snips from both the FD article and Larry Fink’s letter.

In a letter, the world’s largest wealth management corporation BlackRock called European companies to keep a keener eye on the long-term future of their company.

BlackRock prefers that quoted European companies invest profits and available cash money in themselves, instead of forwarding the money to their shareholders. ‘We think that companies should be focused upon durable yields in the long run’, according to Larry Fink, CEO and co-founder of BlackRock, in a letter which was sent to various European stock funds last week.

Earlier this year, BlackRock sent a similar letter in the United States, where it caused quite a commotion. With a managed capital of $4,300 billion, BlackRock challenged the likes of David Einhorn, Daniel Loeb and Carl Icahn. 

Where these activist shareholders spur companies to reward their shareholders with extra dividend and stock buyback programs, BlackRock tries to make an end to the exclusive focus on quick, short-term gains.

‘Many people regret the short-term demands of the capital markets’, according to Fink. ‘We share these feelings’.

During the last few years, many quoted Dutch funds maintained a policy that was particularly favourable to the shareholders. Since the financial crisis started in 2008, companies downsized their capital investments and brought back their debt to healthier proportions. The extra Euro’s that were earned, were returned to the shareholders.

Of their joint profits of €26.4 billion, the 25 biggest Dutch stock funds returned no less than €20.4 billion to their shareholders. Of this amount, €13.2 billion was returned in dividend payments and €7.2 was spent on stock buyback programs. The dividend that will be paid out in 2014, will be roughly 3% higher.

Here are the snippets from the letter from BlackRock chairman Larry Fink

As a fiduciary investor, one of BlackRock’s primary objectives is to secure better financial futures for our clients and the people they serve. This responsibility requires that we be  good stewards of their capital, addressing short-term challenges but always with a focus on the longer term.

To meet our clients’ needs, we believe the companies we invest in should similarly be focused on achieving sustainable returns over the longer term. Good corporate governance is critical to that goal.

Many commentators lament the short-term demands of the capital markets. We share those concerns, and believe it is part of our collective role as actors in the global capital markets to challenge that trend. Corporate leaders can play their part by persuasively communicating their company’s long-term strategy for growth. They must set the stage to attract the patient capital they seek: explaining to investors what drives real value, how and when far-sighted investments will deliver returns, and, perhaps most importantly, what metrics shareholders should use to assess their management team’s success over time.

It concerns us that, in the wake of the financial crisis, many companies have shied away from investing in the future growth of their companies. Too many companies have cut capital expenditure and even increased debt to boost dividends and increase share buybacks. We certainly believe that returning cash to shareholders should be part of a balanced capital strategy; however, when done for the wrong reasons and at the expense of capital investment, it can jeopardize a company’s ability to generate sustainable long-term returns.

I am indeed very happy that Larry Fink of BlackRock ran the gauntlet – both here in Europe as in the United States – and advocated a corporate strategy for ‘his’ companies, which could be seen as a slight return to the Rheinland model of investing; a model in which the focus is shifted from short-term gains to true, long-term profitability and in which the personnel of the company is an important stakeholder.

I don’t think that it will make Fink particularly popular among the ‘corporate raiders’ who will see him as their natural enemy, but it will make him much more popular among the other loyal, long-term investors and the personnel of the companies which BlackRock owns.

With his message, Fink forces CEO’s to look at their own companies and think about how the available cash and profits can be invested in a way that really makes a difference. 

That is not a bad development, isn’t it?!

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