One of the challenges faced by senior managers in their day-to-day running of the business is defining and creating long-term value for their shareholders. As the recent global economic crisis can reveal, short-sightedness and failure to appropriately define measures of value is a recipe for disaster. Long periods of historical low interest rates and availability of cheap liquidity on the capital markets resulted in many financial institutions becoming excessive risk takers.
In pursuit of higher profits, many financial institutions forgot their corporate governance responsibilities. With no hindsight whatsoever, wrong choices and decisions were made leading to the collapse of a number of big finance houses (Lehman Brothers, AIG, Northern Rock and Bear Stearns) and the erosion of shareholder value overnight. These mistakes are not typical of financial institutions only. Some organisations in industry and commerce (e.g. Enron) have pursued interests ahead those of their shareholders and experienced humiliating shareholder revolt.
The above events can teach us one or two lessons about value creation. Organisations operate in both product markets and capital markets. Value is created in product markets but the capital markets is where it is realised and extracted (the playing ground for most shareholders and other investors). Managers therefore need to have the ability to measure and manage their businesses to create superior long-term value for shareholders that satisfies both the capital and product markets.
With shareholders these days becoming impatient with management, the pressure at the top of the organisation to deliver superior returns has never been less. In the past, disgruntled investors would voice their discontent by selling their holdings, but with many now occupying seats in the boardroom, they have a say in the affairs of the company. Any moment they can call for a change of the boardroom and management structure. With competition ever-increasing and competitive advantage becoming less sustainable, managers need not ignore shareholder value creation.
So how can companies create and manage value?
• They need to know and understand their purpose. That is ‘why they exist’. Senior managers should be committed to meeting the objectives of all the organisational stakeholders and communicate this commitment to middle managers, lower level managers and employees.
The benefits inherent in such a process should clearly be laid down. Some of the benefits associated with superior delivery of sustainable value include; easier access to investment funds to finance growth projects, easier attraction and recruitment of intelligent and knowledgeable personnel, improved reputation and increased potential for new business as a result of positive recommendations by happy shareholders and other stakeholders.
• Knowing your mission, goals and objectives is not enough. Companies need to develop innovative and revolutionary strategies capable of maximising shareholder returns. This requires a thorough understanding of your company’s competitive position in respect to your markets and how this relates to financial performance. In addition to the above, you should have the ability to determine the attractiveness of your market for your products and the strength and sustainability of your competitive advantage.
• Make value creation an important part of strategy development and management process. This involves aligning and integrating all the processes that make up the value chain into business decisions.
• Define the appropriate measures of value. The measures selected should be relevant for decision making at both corporate and business unit level.
• Integrate risk and performance management. Risk and performance management are both the same side of the coin. Identifying these functions in silos will quickly turn your train off the rail. When designing KPIs and mapping your organisation’s strategies; identify, measure, monitor and manage risks inherent in those strategies. How solid are your strategies? If anything goes bad, how is this going to be reflected in shareholder value and enterprise performance?