The Perception of Time and its Impact on Senior Decision Makers

Martin Bartels

28 August 2024

We are used to thinking of corporate success as an expression of a company’s bottom line and the profits it accrues. However, success is a relative phenomenon and different stakeholders perceive success differently. The perception of their respective interests and the extent to which these are aligned have an impact on the way the company is managed and, in particular, on the risks taken.

The senior management of a company is responsible for developing and implementing a risk structure, which is a diversified portfolio of risks selected and managed from a strategic perspective. Within this structure, the respective scope and the probabilities of scenarios vary. The aim is to create a preponderance of medium- and long-term elements that promote both security and growth. Furthermore, a certain degree of risk is necessary, for example, to test the acceptance of new products and services by potential customers.

Unforeseeable disruptions, strategic misjudgements, and deliberate malice can never be completely ruled out, but their probability can be reduced. This article explores this phenomenon of unexpected failure and the ways we can mitigate it.

The creation and maintenance of an adequate risk portfolio can be achieved through coercion and/or punitive outcomes for wrong decisions, however, this article will focus on ethical systems and material incentives.

Approach

In the following, we hypothesise that the stability of a company depends to a large extent on whether the interests of different stakeholders are working on the same timeframes. This should imply that stability increases if, in the case of different orientations on the time axis, these spans are brought more into line through a corrective intervention.

A sharp contrast is intended to serve clarity: Below we compare two types of companies with very different DNA, namely,

• family businesses with very long continuity
  
  

• public limited companies listed on the stock exchange

While the risk portfolios of these two businesses may not invite comparison at first glance, we could ask whether listed companies could strengthen their risk portfolios by drawing on some of the characteristics of successful old family businesses.

In modern economies, listed companies are seen as overpowering innovators and providers of goods and services. However, if they fail to manage their opportunities and risks appropriately, they can quickly

lose their leading position and be replaced by other companies in stock indices.

The contingency of market positions is natural and may be seen as healthy for the market as a whole. However, there is a tendency for companies to favour strategies and risks that offer short term rewards. Risks can equally materialise if a company fails to engage in recognisably necessary innovations, for example, exploiting a currently favourable situation for too long, exhausting resources that are needed for future innovation. All such action or inaction is likely to cause havoc for most stakeholders in the medium and long term.

The situation is completely different for long-standing family businesses, as they have an innate tendency to minimise risks.

A comparison of these two very different types of company should lead to conclusions on how to better manage the risk portfolios of listed companies.

Congruent perception of timelines: family businesses

Family businesses with very long continuity are highly interesting exceptional cases. They gain strength from the natural alignment of their interests with those of their stakeholders. These stakeholders are the entrepreneurial families, their employees, the consumers of their products and services, the partner companies involved in the same value chain and the public sector of the country in which they operate. In these stakeholder groups, the perception of the time spans relevant to them is distinctly long.

Here are a few examples:

In 578 CE, Shigetsu Kongō founded the Japanese company Kongō Gumi which specialised in the construction of temples. From that date onwards, the company was continuously run by the family members who were considered to be particularly capable, navigating the business through wars, natural disasters, religious upheavals, and economic crises. It was not until the 19th century that it expanded its field of activity to include also non-religious buildings. After more than 1400 years, in 2006 the family decided to sell its business.

In 705 CE, Fujiwara Mahito founded what is now the oldest hotel in the world, the Nishiyama Onsen Keiunkan. In 2017, after over 1300 years, the family handed over the hotel, which is still running successfully today, to external director Kenjiro Kawano.

Today, Armando and Pasquale Marinelli are the 26^th generation of owners, managers and bellmakers of Campane Marinelli, the oldest family business in the world. The company has been casting church bells since around the year 1000 CE, using the same materials and crafting techniques, unchanged over time. In 1924, the company received a boost when Pope Pio XI granted the foundry the privilege to use the papal seal.

With the transfer of management from Marchese Piero Antinori to his daughters Albiera, Allegra and Alessia, responsibility for the famous Tuscan winery, founded in 1385, has now passed to the 26th generation of the family. It has survived the chaos of the intervening centuries, maintaining its strict quality standards and creatively focusing on its core business.

On 3 October 1526, the arms manufacturer Bartolomeo Beretta received 296 ducats for 185 cannon barrels that he delivered to the city of Venice. Today, the brothers Pietro Gussalli and Franco Beretta are the 15th generation to run a modern company that primarily supplies hunters and police units worldwide with high-quality firearms.

In view of the demands of the market, which, unlike church bells, requires adaptation to evolving demand, the family business has secured its existence through continuous innovation. "Our decisions are all geared towards development and consolidation in the medium term," says Gussalli Beretta. So, if in the future hunters were to switch to hunting deer with lightsabres like Yoda’s, it would not be surprising to see the Beretta family gain market share with high-quality and lovingly decorated lightsabres.perplexity

There are numerous other family businesses whose history is somewhat shorter, but which have cultivated a mentality very similar to the examples mentioned and which continuously create value. The mentality passed down through generations consists of the components outlined in the chart below.

The long road to stability and success is clearly recognisable as a carefully tended and constantly curated culture. The awareness of responsibility plays a key role. The pressure placed on family members and employees may sometimes be perceived as burdensome. On the other hand, such a system offers security and perspective to all stakeholders.

The dedication to highest quality and continuous improvement of work is similar to the Japanese Kaizen principle, while at the same time, companies of this type do not attempt radical leaps forward in innovation, but instead focus on developing their core good or service.

Partly congruent perception of timelines: listed companies

Listed companies tend to be more radically innovative and agile than family businesses. They acquire and defend their market positions by developing and testing innovations. This means a wider bandwidth of opportunities and risks. In order to be able to deal with this, they develop more organisational complexity and invest more energy in the operation and expansion of their own administration.

Corporate cultures and shared mental motivations may be claimed and experienced. However, the inexorable drive to act (or to abstain from action) comes from the pressure to maximise profits as quickly as possible and to outperform competitors.

Most stakeholders (3 to 7, marked with green colour) have an interest in a path that promises stability and reasonable growth. Even customers, many of whom have developed a fierce brand loyalty, are invested (emotionally if not financially) in a company’s growth.

There two groups of stakeholders that have a significant influence:

1. Shareholders strive for dividend payments and an increase in the value of the shares.
   
   
2. The senior managers strive for high salaries and bonuses for successes achieved during their term of office.

The group of shareholders, private or institutional (1), does not have to be uniform in terms of flexibility, as strategic long-term or opportunistic short-term interests may take centre stage. Of all the stakeholders, their requirements are easiest to adjust rapidly to perceived risks and rewards, as they can sell shares or buy additional shares.

Senior managers (2) are not flexible, as they only have a limited number of years (apart from future pension payments) during which they can realise economic benefits in the form of salaries and bonuses. The congruence of the interests of the company and senior managers may feel identical, but there are differences in regards to the perception of relevant timeframes. A senior manager feels pressure from the responsibility for the years in which (s)he is entrusted with leadership which are also the years in which (s)he endeavours to secure her or his own long term prosperity.

On the whole, group 2 is the sovereign, i.e. it has access to all information relating to the company and is empowered to determine what is to be treated as relevant and what is not. It has the power to forge strategies and narratives to convince the other stakeholders and the general public.

The shareholder representatives on the board meet less frequently than the senior managers and have limited access to information. Other stakeholders and even sharp-thinking independent analysts find it more difficult to recognise bias or inconsistencies in the senior managers’ carefully crafted strategic narratives.

It would be unfair to say that such blurring occurs regularly, but the systemic tendency to do so results naturally from the mismatch of relevant timelines between stakeholders and the ability of a single group of stakeholders to have its perspective prevail. Economic history is paved with examples of enthusiastically embraced strategies that appeared and proved lucrative in the short term and turned out to be harmful later on.

There are empirical studies on our topic that focus specifically on "short termism" and "shareholder activism". The latter term refers to shareholders from group 1.1 who realise that their interests are not congruent with those of the management and engage in conflicts.

The conflict between stakeholders can be seen clearly when we think of the leaders of the European automotive industry, who, in order to realise higher margins in the short term, have decided not to invest in research towards low-emission drive technology despite being aware of the need for and the potential of cleaner technologies. They have managed to portray emerging innovations as an illusory aberration and conveyed their narrative as the only reasonable course of action. The other stakeholders unfortunately bought into the management's narrative and did not realise the strategic error until it was too late. Now a new generation of senior managers is compelled to move forward as followers of the new trend, with uncertain prospects of success.

In a historical period in which the trend towards globalisation is once again being reversed, it may still seem advantageous for a few years to relocate production facilities to countries in other spheres of interest. The noose is closing slowly: when the resulting risks materialise as actual disasters, the decision-makers responsible will probably no longer be on board.

From a functional point of view, the concentration of senior managers' attention on a limited number of years tends to lead to the assignment of a lower priority to the years outside this period. However, it is precisely those years beyond this temporal focus that group 1.1 and groups 3. to 7., who have a longer term commitment, give particular importance to.

This is not about implying that a group has bad intentions. It's just about the fact that material interests can determine or blur the perception of facts and feelings and therefore also the direction of thought. The probability of such harmful developments may be low on average, but the damage to large listed companies that can result can jeopardise their existence and cause substantial damage to other stakeholders. 

This is reason enough to think about how the risk can be mitigated.

Modern ethical standards: CSR and ESG

Modern ethically motivated systems for the management of companies such as “Corporate Social Responsibility” (CSR)  and “Environmental, Social, and Governance” (ESG) reflect the growing realisation of that the short-term perspectives of group 1.2 and group 2. can build up imperceptible risks. CSR and ESG are serious attempts to minimise these. Armies of management consultants and auditors are busy supporting their clients in the introduction and implementation of such standards.

Companies can gain financial advantages from compliance with these standards when refinancing on the capital market because many investors are prepared to accept lower financial returns for higher ethical ones. A service industry has built up around these ethical regimes. Armies of management consultants and auditors are busy supporting their clients in the introduction and implementation of such standards. There are also law firms that specialise in and generate fee income by advising investors or companies in the event of any breaches.

The amount of energy in the form of capital and human resources that goes into this service sector is considerable. However, after initial euphoria, there are now heated debates about whether the introduction of ethical codes is actually suitable for bringing the management of companies more in line with stakeholders. Although the critics acknowledge the sincere intentions of the proponents of CSR and ESG concepts, it seems that presently the sceptics are gaining the upper hand. However, scepticism, whether factually justified or merely an expression of a vague feeling, is nothing more than an impulse, and thus only valuable if it initiates a systematic search for better alternatives to solve a problem.

It does not seem appropriate to join one side or the other of the debate here. It should be noted, however, that the family businesses described above were and are able to ensure their stability with simple ethical systems and without material expenditure for external advisers.

LTIPs

In order to dispel the fear that the senior management’s thinking and acting is too short-term, many companies go to great lengths to develop sophisticated option plans and long-term incentive plans (LTIPs). In doing so, they may create material incentives that extend beyond the respective financial year.

It is not the intention here to question the good intentions and impact of LTIPs designed for individual companies. But such procedures tend to be intransparent. It is difficult for outsiders to understand whether and to what extent such systems really motivate the management team to think more long term or whether they are just an additional perk. All stakeholders need to have a good understanding of how an incentive system works, for their legitimate interests are at stake.

The observed “Incentive super-response tendency”

Over the decades, Charlie Munger has carefully observed everything that can go wrong in the decision-making process at the top of large companies.

He is sadly no longer with us, but one of the things he has left us is a description of the "incentive super-response tendency" phenomenon. Given that it emanates from human nature, it stands to reason that it does not only apply to the senior management of large companies.

Rolf Dobelli has put the tendency in a nutshell:

“People respond to incentives by doing what is in their best interests. What is noteworthy is, first, how quickly and radically people’s behavior changes when incentives come into play or are altered, and second, the fact that people respond to the incentives themselves, and not the grander intentions behind them.”

We would categorise the CSR and ESG concepts mentioned above as such "grander intentions". And we contend that such "grander intentions" only have a chance to prove effective if they are congruent in their effect with the "incentives".

The use of self-interest as a visible and formative force for more foresight

We should acknowledge the ability of human beings to use all their intelligence to construe ethical principles in a way that increases their perceived personal benefit and their belief in the fairness of this interpretation. This is part of human nature. The likelihood of this happening is higher when the people involved are at the top of organisations, have privileged access to information and therefore the power to shape powerful narratives.

Leaders who have developed a charismatic presence find it especially easy to convey compelling stories, especially ones that offer good feelings as a substitute for sharp thinking. In these situations, if an expert observer flags disagreement, (s)he is easily labelled as a troublemaker.

At this stage, a look at the stable family businesses described above should prove fruitful. The continued use of all available resources to secure stability and continuity absolutely dominates the logic of successful businesses of this type. It is true that they cannot be compared with listed companies in terms of structure and size, and they generate fewer innovations. Nevertheless, the question is whether parts of the DNA of family businesses can be transferred to listed corporations.

Let's be more specific:

• How can the timeframe for stability and continuity be extended for all stakeholders, harnessing the power of the pursuit of personal gain?
  
  
• If the people involved in old family businesses are mentally orientated towards ‘eternity’, can the time perspective of the senior management of listed stock corporations be extended by at least an additional few years?

The goal needs not be absolute safety for all the stakeholders, but it would be helpful to reduce the likelihood of damage. Given the overall risk, a gradual change could prove valuable.

The bricklayer approach

When a bricklayer picks up a brick that doesn't fit into the wall, he says "What doesn't fit is made to fit", and then he grabs his hammer to adjust it.

In our context, the aim is to make an arrangement more suitable for the other stakeholders by extending the time periods relevant to senior management:

• At least [25]% of all monies paid to members of senior management (i.e. including bonuses) are converted into shares at the market price on the due date and credited to a securities account in the name of the beneficiary.
  
  
• The shares are blocked there for a period of [7] years. This means that if the beneficiary leaves the management position after a few years, (s)he can dispose of the last credited tranche of shares not earlier than [7] years later.
  
  
• It is not necessary to state how many shares each person has received.
  
  
• Each annual report of the company should include a confirmation from the auditors that the procedure has been properly followed.

Such a very simple system immediately creates incentives for long-term thinking. Charlie Munger would confirm the consistency with the "incentive super-response tendency".

All stakeholders would benefit from this. This would include senior management, as their wealth would grow sustainably. If they build up and maintain robust risk portfolios over the long term, the likelihood for increase significant increases in wealth will rise.

In this new proposed system, the capital market will perceive the shares of the company as more robust, share prices will gain momentum and fewer risk premiums will be factored into interest-bearing debt, i.e. bank loans and bonds.

This creates scope for higher salaries for senior management and employees.

The seemingly obvious argument that such a system would not attract brilliant managers does not hold water. On the contrary, a manager who does not embrace it would be perceived as weak, just like in sport.

Implementation

There is no need to regulate such a structurally simple incentive system by law. A scheme negotiated at company level with the involvement of all stakeholders would serve the purpose. It would be beneficial to involve experienced behavioural economists in the opinion-forming process, as these scientists are best placed to assess the effects of incentives and potentially to contribute further building blocks supporting the purpose. The aim is to strengthen a company in such a way that all stakeholders perceive themselves to be in a better position.

The capital market would immediately reject a company’s weak model and reward a fit-for-purpose model with better positioning in the market. Ideally, there would be competition between companies to find the most successful models. This will teach us which percentages and blocking periods achieve the best results.

Outlook

Clearly understandable incentive systems that significantly extend the perception of the relevant time periods for a single group of stakeholders and that must prove themselves in a market economy system, create better prospects for all stakeholders.

The mindset of the leadership of successful old family businesses can be partially transferred to listed companies via simple new incentive systems. The benefits to all stakeholders can be clearly seen.

Authorship disclosure:

Fully human generated