Baillie Gifford European Fund
June 2014
LTFM: LONG-TERM
FAMILY MANAGEMENT
ENLIGHTENMENT PROVIDES NEW
INSIGHTS INTO BAILLIE GIFFORDS
PHILOSOPHY AND FOCUS. IN
THIS ISSUE, STEPHEN PAICE
MAKES THE CASE FOR TAKING A
LONG-TERM VIEW WITH FAMILY
MANAGED COMPANIES
Long-term Family Management
June 2014
Stephen Paice
Investment Manager
Stephen graduated BSc in Financial Mathematics from Glasgow Caledonian University in
2005. He joined Baillie Gifford in the same year and is an Investment Manager in the
European Equity Team.
Important Information and Risk Factors
The views that are expressed in this article are those of Stephen Paice and should not be taken as
fact and no reliance should be placed upon these when making investment decisions. They should
not be considered as advice or a recommendation to buy, sell or hold a particular investment.
This article contains information and opinion on investments that does not constitute
independent investment research and is, therefore, not subject to the protections afforded to
independent research. Baillie Gifford and its staff may have dealt in the investments concerned.
Please remember that ongoing stock market conditions and currency exchange rates will affect
the value of investments and any income from them. Investors may not get back the amount
invested.
The Baillie Gifford European Fund’s share price can be volatile due to movements in the prices
of the underlying holdings and the basis on which the Fund is priced. Past performance is not a
guide to future performance.
All data is source Baillie Gifford unless otherwise stated.
2
Long-term Family Management
June 2014
“The obsession with short-term
results by investors, asset
management firms, and corporate
managers collectively leads to
the unintended consequences
of destroying long-term value,
decreasing market efficiency,
reducing investment returns,
and impeding efforts to
strengthen corporate
governance.” 1
Short-termism is a problem in financial markets created by both investors who trade
too frequently based on their expectations of short-term price moves, and by corporate
managers more concerned with short-term profit maximisation than long-term value
creation. The frictional costs and lack of long-term planning associated with this myopic
behaviour can have detrimental effects on investment returns. As asset managers we aim
to invest based on our understanding of the fundamental value of a company and when
we own portions of businesses with outstanding managements, we hope to own them
for a very long time. As a result the average turnover of the Baillie Gifford European Fund
is between 10% and 20% or in other words we tend to hold companies for five to 10 years,
a timescale that allows business economics to work in our clients’ favour.
Finding corporate managers that have a similarly long-term view and are aligned
with what shareholders want should be a priority for any prudent and long-term
investor. It may however be a surprise to some that an academic paper from 2006 found
that pressure on US corporate managers to deliver short-term investment results had
become so strong that nearly 80 per cent2 report they would sacrifice future economic
value to manage short-term earnings and meet investor expectations. In another, it was
found that US CEOs who failed to meet two quarterly analyst consensus forecasts in a
year earned smaller bonuses than those who met analysts’ short-term expectations.3
With these pressures and short-term incentives it is not surprising that some
managers deliberately avoid investing in research & development, new facilities
or employee development, and thus potentially harm the long-term value creation
that we might expect and hope for.
Breaking the Short-Term Cycle, CFA Institute 2006, (http://www.cfapubs.org/doi/abs/10.2469/ccb.v2006.n1.4194).
Value Destruction and Financial Reporting Decisions - Graham, Harvey, and Rajgopal CFA Institute 2006.
3
Mergenthaler, Richard and Rajgopal, Shivaram and Srinivasan, Suraj, CEO and CFO Career
Penalties to Missing Quarterly Analysts Forecasts (August 10, 2012). Available at SSRN:
http://ssrn.com/abstract=1152421 or http://dx.doi.org/10.2139/ssrn.1152421
1
2
3
Long-term Family Management
June 2014
One way around this problem is to look for family
controlled companies where the ownership structure
gives them a long-term orientation that widely-held firms
often lack. Having a sizeable, committed and involved
shareholder should in theory influence and encourage
managers to focus on doing what is economically and
rationally right. This may be indirectly through the
Board of Directors or directly if the management
team is made up of family members rather than
professional CEOs.
Companies with long-term and family owners
feature prominently in the European Funds' portfolio
as we’ve come to appreciate the long-term strategic
vision that they have. Jacob Wallenberg, Chairman of
Investor, the Wallenberg family holding company, said in
a newspaper interview earlier this year: "We are longterm shareholders, and when I say long term, I mean
more than 50 years." Alfred Schindler, Chairman of
Schindler, one of the largest global providers of elevators
and escalators, also takes a similarly long-term view:
“Few people will wonder in 2050 why we posted an
Earnings Before Interest and Taxes (EBIT) of 10.2% in
2013 – just as few people ask today why our EBIT in
the early 1980s (when we spun off our non-core
businesses) stood at around 4%. The words Seneca
wrote 2000 years ago are as true now as they were then:
‘What may look like the summit to you is only a point
on the journey’.” Taking a long-term view enables these
companies to invest for the future and maximise the net
present value of all future expected cashflows, not just
those in the next quarter or even the next few years.
While the evidence that proves these family firms
outperform is not totally conclusive there have been
many studies that show that the value of a listed firm
will be higher when ownership is concentrated rather
than dispersed. One such paper was in the Harvard
Business Review and showed that when examined
across business cycles from 1997–2009 family firms
out-performed non-family firms4.
Baillie Gifford European Fund – Top Ten Holdings, as at 31 May 2014
4
Company
Long-term Owner
Type of Owner
Nestle
No
-
Investor
Yes
Family
Total
Yes
Holding Company
Dia
No
Was spun off from Accor
GBL
Yes
Holding Company
Atlas Copco
Yes
Holding Company
Svenska Handelsbanken
Yes
Holding Company
Roche Holding
Yes
Family
EXOR
Yes
Family
Hexpol
Yes
Holding Company
What You Can Learn from Family Business http://hbr.org/2012/11/what-you-can-learn-from-family-business.
4
Long-term Family Management
June 2014
15
Average return on equity of
Family Businesses
12
9
%
Average nonfamily
Businesses
6
GDP Growth (World)
3
0
-3
1997
- 2000
2001
- 2003
Cycles
2003
- 2007
2008
- 2009
This graph shows that although family-run companies slightly lag their peer group when the economy
booms, they weather recessions far better
The reason given was that the family firms analysed
focused more on resilience than performance,
forgoing "the excess returns available during good
times in order to increase their odds of survival
during bad times".
More specifically, they appeared to have stronger
balance sheets, had stricter criteria for capital
expenditures, and finally, were better at retaining
talent.
“…COMPANIES WITH LONGTERM AND FAMILY OWNERS
FEATURE PROMINENTLY IN
OUR PORTFOLIO AS WE’VE
COME TO APPRECIATE THE
LONG-TERM STRATEGIC VISION
THAT THEY HAVE...”
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Long-term Family Management
June 2014
It was not a surprise to us then that Svenska
Handelsbanken, a Swedish retail bank, managed
the financial crisis better than most of its peers and
is regularly considered one of the world’s safest banks.
One of its largest shareholders, Industrivarden, and its
CEO Pär Boman have expressed the view that the bank
has for a long time been run on the basis that if there
is a complete collapse of the global financial system,
Handelsbanken will be the last organisation left standing.
Their prudent and sensible approach also
emanates throughout the company’s employees
who earn a share of the banks profits, but which can
be accessed only when employees reach the age of
60. This long-term alignment is in stark contrast to
many other banks’ employees who were, and still are,
incentivised to take excessive risks in order to earn
large bonuses.
Another company which has thrived during the crisis
and taken market share is Colruyt, a Belgian discount
retailer, owned and managed by the Colruyt family.
“…THEY KNOW THAT INVESTING
IN PRICE LEADERSHIP
SOMETIMES AT THE EXPENSE
OF SHORT TERM PROFITS IS THE
WAY TO SURVIVE, PROSPER AND
TO PROTECT LOCAL MARKET
DOMINANCE.…”
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Long-term Family Management
June 2014
One of the reasons families seem to dominate
discounting in Europe – Aldi and Lidl, two private
family discounters that have also excelled – is their
long term approach: they know that investing in price
leadership sometimes at the expense of short term
profits is the way to survive, prosper and to protect
local market dominance. Listed retailers, by contrast,
often face pressure to raise prices in order to meet
short term goals, or worse, to expand into new
markets where they have fewer economies of scale.
While it makes sense that family firms would
focus on resilience instead of performance there are
of course other widely held companies which also
follow that strategy. Ryanair, ‘the world’s favourite
airline’, through its cost-conscious culture and
single-minded focus on being the lowest cost airline,
has an average fare more than 40% below that of its
closest rival. By ensuring price leadership and future
loyalty, companies like this tend to see the interests
of customers and shareholders align over time.
Not all family companies are without their
problems though. Some have been accused in
the past of using dual-class shares or convoluted
cascades of companies – in Italy this is known as
scatole cinesi, or Chinese boxes – to effectively take
control from their public shareholders. This control,
if unchallenged, can lead to tunneling or the
misappropriation of assets as was seen in the
Parmalat scandal in the mid 2000s. Other potential
problems include cronyism, as relationships with
politicians and other powerful business people are
exploited, and succession, given that selecting
leaders from a narrow gene pool is not always
good business. For this reason each family
company has to be considered on a case
by case basis.
40%
Ryanair has an
average fare more
than 40% below
that of its closest rival
Having a long-term view is not in itself enough
to determine corporate success – or for that matter
investment success – but we do strongly believe that
it helps. For companies in which we own shares,
it can allow them to invest in opportunities whose
benefits may not become clear for several years but
whose costs are immediate, obvious and potentially
off-putting. For new companies that we might own,
the many well managed family companies in Europe,
give us at least one area to invest in where all of our
interests might be aligned.
“…ONE OF THE REASONS
FAMILIES SEEM TO DOMINATE
DISCOUNTING IN EUROPE – ALDI
AND LIDL, TWO PRIVATE FAMILY
DISCOUNTERS THAT HAVE ALSO
EXCELLED – IS THEIR LONG
TERM APPROACH…”
7
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