First came the uncompromising manifesto, sharply critical of corporate excess and promising “an examination of the use of share buybacks, with a view to ensuring these cannot be used artificially to hit performance targets and inflate executive pay”.

Then came the clear warning to those running big companies that business as they knew was coming to end:

“Society is demanding that companies, both public and private, serve a social purpose. To prosper over time, every company must not only deliver financial performance, but also show how it makes a positive contribution to society. Companies must benefit all of their stakeholders, including shareholders, employees, customers, and the communities in which they operate.[1. .’A Sense of Purpose‘, Jan 2018]”

Those who do not “will ultimately lose the license to operate from key stakeholders”.

No wonder some business leaders are quietly terrified by the revivalist movement among left-wing populists that includes Jeremy Corbyn, Bernie Sanders and Jean-Luc Mélenchon.

Except those words don’t come from the Left. The manifesto was that of Theresa May’s Conservative Party. And the warning to CEOs came from Larry Fink of Blackrock, the biggest investor in the world.

When criticism of corporate short-termism and self-interest comes from such sources, it seems fair to conclude that something is up.

Meanwhile, some things are down. Business investment, for example. Companies are spending less of their money on the technology, equipment and training that will, over time, make their operations and – crucially – their people more productive.

At the Social Market Foundation, we recently calculated that the cash reserves of UK non-financial corporations stood at £660 billion in 2016[2. .’Concentration, not competition: the state of UK consumer markets‘, SMF, 17 October, 2017].

Business investment that year was around £178 billion, or 28% of that cash pile. In 2000, businesses invested the equivalent of 58 % of their cash reserves.

Even allowing for fluctuations in the business and political cycle and changes in monetary policy over that period, companies are investing less. We’re nowhere near unravelling the puzzle of dismal post-crash productivity growth in developed economies, but it is extremely hard to imagine that corporate investment decisions have no part in it.

Dismal productivity, of course, means slow, low or even negative wage growth, which in turn means that when the Corbyns and Sanders and yes, Trumps of this world tell workers in traditional industries that they’re being screwed by a rigged system, they probably have a point.

In other words, the corporate titans who wring their hands about the rise of anti-capitalist populism might stop and ponder whether their own failure to plan – and invest – for the long-term might just have helped shake the pro-business, open-market political settlement they’d come to take for granted.

At the same time as companies have been investing less, they are handing more of their cash to shareholders. Dividend payments by UK companies were almost £95 billion in 2017, up 10% on the previous year, and the latest in a string of record highs.

On a narrow reading of corporate duties and responsibilities, dividends are reasonably defensible: it is, after all, the shareholders’ money.

Much harder to defend are the share buybacks mentioned in that Conservative manifesto – surely the first time any major party referred to a relatively obscure and technical bit of financial engineering.

Buybacks, where companies use their own cash to buy their own shares on the open market, are economically inexplicable. But if you’re an executive whose remuneration package is linked to earnings per share, they’re good business, because by reducing the number of shares in circulation you bump up EPS and make yourself rich(er).

And they’re on the rise, as Charlotte Pickles explained here last month with devastating precision. Recent research from Deloitte nicely charts the trends in buybacks and investment.

What’s the answer? A lot of people talk about reporting rules, the fiduciary hoops that CEOs must jump through to keep markets and investors informed and content. Chasing good numbers for quarterly reports prevents executives taking a longer view, it is said.

After John Kay’s characteristically incisive report for the Coalition Government in 2012[3. ‘Kay review of UK equity markets‘, July 2012], the Financial Conduct Authority (FCA) stopped mandatory quarterly reporting in 2014.

Recommended reading

Corporate buyback culture is financial engineering not value creation

By Charlie Pickles

UK companies have duly started to move away from quarterly reporting: firms such as National Grid and Aviva led the way, and now 40 of the FTSE do not issue full reports every three months. In the FTSE-250, more than half have abandoned quarterly reporting. An end to short-termism? This battle is far from done. Work by Suresh Nallareddy and others at Oxford University questions whether a change in reporting periods alone can significantly alter corporate behaviour.

They found no clear evidence that moving away from quarterly reporting led to an increase in investment.

There is, then, still much to be done to persuade the people running big companies to think about more than EPS and annual profits.

Some of the answers will surely be found in other parts of the Kay Report, which also called for real change in executive pay deals, suggesting that much of the huge wealth bestowed on CEOs be locked away from them for years after their departure: that might create a real incentive to plan for the firm’s long term interests.

Breaking the curse of short-termism will require countless changes, not least in culture: “corporate social responsibility” has become a discredited PR wheeze that must sooner or later be replaced by an understanding that without a genuine sense of social duty, business will not just create its own gravediggers, it will ensure they get elected too.

But as a first step on that journey, start with CEO pay and tenure, which should be lower and longer.

Corporate buyback – in which companies repurchase their own shares, overwhelmingly on the open market – has been rampant for decades, but was boosted after the financial crash by the availability of cheap credit. And while share repurchases fell 20% last year, President Trump’s tax cuts may give buyback renewed impetus. Just under half of companies who could benefit from the plan by repatriating cash stored abroad say they would use the windfall for share repurchases (buyback was the second most popular option after paying down debt).[1. Jeff Cox, ‘Companies have big places for trillions in overseas cash – if tax reform ever happens’, CNBC, 13 July 2017] At the heart of the bullish stock-market is the constant stream of buyback funds.

Why do companies want to buy their own shares? Because fewer shares means higher earnings per share (EPS) – the magical measure of corporate success that Wall Street watches. The problem is that it’s all smoke and mirrors, or, as others have dubbed it, “financial engineering”. It is distorting corporate behaviour in ways that are profoundly damaging to America’s long-term economic health. Buyback is the epitome of short-termism, fuelled by corporate greed.

“Value extraction over value creation”

Between World War II and the late 1970s business focus was largely on value creation – earnings were retained to be reinvested in productive capacity; in physical and human capital. Yes, the aim was to drive further profits, but through real, sustainable growth.

Then, as economist William Lazonick has argued, in the late seventies the “retain-and-reinvest approach” gave way to a “downsize-and-distribute regime”, or, to put it even more starkly, “value extraction over value creation”.[2. William Lazonick, ‘Profits Without Prosperity’, Harvard Business Review, September 2014]

This was in part the result of a new business management mantra: ‘shareholder value maximisation’, and coincided, unsurprisingly, with large increases in stock-based executive pay (tying CEO interests more closely to those of some shareholders, the ones looking for short-term gains). In 2012, pay packages among the 500 highest paid executives in US public companies averaged over $30 million, with more than 80% of that linked to stocks and shares.[3. Ibid] Increasing share value became the overriding focus of corporate America.

One study published in 2006, and based on a survey and interviews with chief financial officers, shows this perfectly. The majority of companies would rather sacrifice longer-term value than miss short-term earnings targets. 80%, for example, would cut discretionary spend such as R&D and maintenance to meet an earnings target, and more than half would defer valuable long-run projects for that same reason.[4. John Graham, Campbell Harvey and Shiva Rajgopal, ‘Value destruction and financial reporting decisions’, Financial Analysts Journal, 2006]

Wall Street’s hunger for higher and higher quarterly EPS postings had become the priority.

Legalising buyback has real-world costs

It was in 1982 that the Securities and Exchange Commission (SEC) made buyback legal – by amending the 1934 Securities and Exchange Act to provide a “safe harbor” for companies to repurchase shares. This deregulatory move, as Lazonick puts it:

“In essence…legalized stock market manipulation through open-market repurchases.”

Unbelievably, executives can now benefit from ‘insider-trading’. While SEC’s 1982 rule set some parameters for repurchases, disclosing daily buyback activity was not one of them. Company executives can continue to trade based on buyback intelligence unknown to the outside world. Another example of a system rigged in favour of a corporate elite.

Big business has not been shy in making the most of the SEC’s deregulatory gift. Between 2004 and 2013, Exxon Mobil, for example, spent over $200 billion on buybacks, Microsoft and IBM both spent over $100 billion.[5. .‘The repurchase revolution’, Economist, 12 September 2014] Apple are undertaking a $300 billion share repurchasing and dividend scheme.[6. Gina Hall, ‘Apple to sell billions of dollars in bonds to fund share buybacks, dividends’, Silicon Valley Business Journal, 6 November 2017] In the fourth quarter of 2015, more than a quarter of S&P 500 companies bought enough of their own shares to push their EPS up by at least 4% on the previous year.[7. Lucinda Shen, ‘Here’s what’s keeping the stock market up’, Fortune, 25 April 2016]

Imagine the difference that money could have made.

Think for a minute what the $2 trillion spent by S&P 500 companies on buyback during 2010-2015 could have been spent on. Think about the risky, but high-potential projects that weren’t funded. The innovation missed. The skills investment foregone. The jobs that weren’t created. The pay rises that ordinary workers never received (despite soaring executive pay).

Prioritising short-term earnings manipulation over capital investment has big real-world costs – and at a time when global competition demands more, not less, investment in innovation and skills.

Buyback isn’t actually good for shareholders (at least not long-run investors)

And to cap it off, buyback isn’t even working that well for shareholders. McKinsey found that while buyback may boost earnings on paper – back to the smoke and mirrors – it doesn’t improve returns. Based on a sample of 250 non-financial S&P 500 companies McKinsey analysts found no link between share repurchase intensity and total return to shareholders.[7. Obi Ezekoye, Tim Koller, and Ankit Mittal, ‘How share repurchases boost earnings without improving returns’, McKinsey, April 2016] And just three of the ten largest share repurchasers since 2003 have outperformed the S&P 500 Index.[8. William Lazonick, ‘Profits Without Prosperity’, Harvard Business Review, September 2014]

In a Harvard Business Review essay last year debunking the ‘shareholder value maximisation’ myth, Joseph Bower and Lynn Paine point out that there’s no single shareholder, there’s a bunch of investors with different objectives – it’s just some shout the louder than others.[9. Joseph Bower and Lynn Paine, ‘The error at the heart of corporate leadership’, Harvard Business Review, May-June 2017]

The ‘activist’ view of value creation, they argue, “is more accurately described as value transfer… Nothing has been created.” It leads to “further wealth flowing to sophisticated investors at the expense of ordinary investors and everyone else.” And they too are concerned by the perverse incentives created:

“Rigid adherence to the model by companies uniformly across the economy could easily result in even more pressure for current earnings, less investment in R&D and in people, fewer transformational strategies and innovative business models, and further wealth flowing to sophisticated investors at the expense of ordinary investors and everyone else.”

The temptation to chase the quick buck is trumping real investment – and the eye-watering level of corporate buyback schemes is one of the biggest symptoms. Wall Street hasn’t learnt delayed gratification, so nor has corporate America. But a stock market driven not by value creation through long-term investment, but by financial engineering is fickle. Those short-termist investors and executives should remember that 2007 recorded the highest spend on stock buybacks at $721 billion. And we all know what happened next.