Thursday, April 20, 2006

Is long term planning still relevant for companies?

This posting is little bit offbeat and has nothing to do with mobile technology but still has huge impact or influence how it evolves or for that matter how any industry in general evolves in future. I would continue my mobile industry consolidation postings after this one. The trigger for this posting was again some news article that I read yesterday about how and why Hedge funds and private equity are booming business and the trend is going to continue in future. You might be wondering what is this linked with topic of the posting .In my defense I would say that the article is not the only reason for the posting but it triggered in my mind a series of question which finally lead to this topic. .Before going further lets define what is long term? .For me If you are planning for period that is more than 5 years on an average I would say it is long term .Another term i.e. good to clarify is planning, for me it includes everything like Strategy creation, R&D investments planning, Share and stake holder value creation basically every thing that is required to make company successful in duration for which planning is done for.

If you look at any company the most important player’s that determine future of the company (i.e. planning for future) are

Shareholders of company

Top Management

Business environment (including customers, competators etc)

I find changes happening in all 3 segments that lead to question is long term planning still relevant .Now lets go through each of these in details

Business environment-It includes basically everything outside of company. So I guess it is pretty much evident that due to technology and globalization that environment in which companies are operating is changing rapidly and thus making predication of how the business environment looks in long term extremely harder if not impossible. These changes are nothing new it has been noticed at least already during early part of last decade and number of studies have been made and books have been written about this .I would say one concrete action that most companies have taken is to reduce the planning period .Not long ago in 1980s companies used to have planning horizon of 10 years but now a days it would be safe to say that it has been scaled down to 5 years .There are of course some exceptions like Energy industry (Oil, Power etc),Aircraft manufacturing industries were still 10 years period planning is still relevant because of nature of business they are in were typical project durations itself runs some time unto 10 years .But in most other segments the planning period has been already cut .

Top management – Here I include all those people who are directly accountable to share holders and also who are supposed to be responsible for long term sustainability of the company typically it includes CEO and other top executives of the companies .Again I was reading a article about average duration of a CEO the article says the trend is downwards i.e. average period is coming down year after year and for year 2005 it was just 4.2 years .The reason being in most of the cases they were not able to keep their companies share value appreciating at a pace which satisfy share holders(i.e Stock market ) .There is strong pressure to deliver a very good appreciation of share value in short period of time and if they fail they are replaced quickly by a new person. So my argument is that in these environment top mgmt is inclined towards spending more time towards short term operational efficiency and getting most of existing assets so that quarterly results looks very good .So they spend less time and resources towards long term planning issues since it is evident that if they don’t deliver in short term they may not be there to reap the benefit of their long term planning. You mayargue that this has been the case always i.e balancing short term versus long term issues but my point is that yes the issue is same but the problem is that the tilt is now a days more towards quarterly results then ever before .i.e short term planning overviews long term planning .

Share Holders: It is here that Hedge funds and private equity , the trigger for this posting comes in .Historically most companies had quite balanced spread of share holders. Most of the share holders were investors like Mutual funds, pension funds etc who in general invested with long term view and wanted stable decent continuous return for their investments .Basically their investment philosophy or goals were in line and encouraged long term planning in companies .another important thing to note is that these funds have tight regulations which makes difficult for them to invovle in short term speculative investment and also equally important thing is these funds investors are also intrested in stable returns for long term not risky short period high returns . But of late there has been significant shift in share holding pattern , types of investors and thier share holding period of companies .one simple implication that can been seen is shares of companies are changing hands in short durations, This typically means shareholders are investing to make quick money and exit i.e. there is fundamental shift in investment philosophy. I would argue partly that is due to rise of hedge funds .By nature these funds look out for extremely good returns in short duration of period (some of hedge funds have produced returns of 40% YoY).They influence the direction of companies so that they attain their stated goals .Not long ago the size and number of these funds were quite small but of late they have grown extremely fast and now to some estimates they control funds to the tune of 1 trillion $ .Hence these funds are in look out for companies to invest and hence expanding the boundaries of their investments and influence .Another player i.e. Private Equity funds which used to be small players have also grown big of late. Unlike hedge funds they don’t invest to get small % of stocks in company .they totally buy out the company in most cases appoint their own management team modify the company and balance sheet so that they look good and then exit the company by issuing IPO .When they began size of investments used to be small and targeted at companies at specific segments were it made sense to enter (i.e. were there is failure of mgmt or inefficiency in companies ).But again as their size has grown tremendously now they are looking out for bigger and bigger deals .last year alone there were nearly 1500 such deals .My point is that as these funds look out for more and more companies they will be ending up in companies that might have long term prospect but doesn’t have good balance sheet today. They do their quick turnaround story of making balance sheet look in short term and exit at the same time spoiling long term prospects. And another important thing is that it discourages in other companies also long term planning as these companies race to make sure that their balance sheet looks good even at the cost of long term that way they won’t be target of such funds.

For me the changes in Share holder segment are the one which is most alarming and important also to notice.

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