The Role of Institutional Investors in Curbing Short-Termism [Financial Analysts Journal]

Across the world, a clamor is rising against corporate short-termism—the undue attention to quarterly earnings at the expense of long-term sustainable growth. In one survey of chief financial officers, the majority of respondents reported that they would forgo current spending on profitable long-term proj- ects to avoid missing earnings estimates for the upcoming quarter.

Critics of short-termism have singled out a set of culprits—activist hedge funds that acquire 1% or 2% of a company’s stock and then push hard for measures designed to boost the stock price quickly but unsustainably.2 The typical activist program involves raising dividends, increasing stock buy- backs, or spinning off corporate divisions—usually accompanied by a request for board seats.

Read the rest at cfapubs.org…

Relief for Cities’ Budget-Busting Health-Care Costs [Wall Street Journal]

Co-authored with Joshua Rauh

The budgets of many cities and states will soon be disrupted by new accounting rules for retiree health plans. Local governments pay most of the health-insurance premiums for their retired employees—for example, from age 50 until Medicare at age 65, and sometimes for life. Nationwide, the total unfunded obligations of these plans are close to $1 trillion, according to a comprehensive recent study in the Journal of Health Economics.

The accounting rules, adopted in June by the Government Accounting Standards Board (GASB), require local governments for the first time to report their obligations for retiree health care as liabilities on their balance sheets. Local governments must also use a reasonable and uniform methodology to calculate the present value of these liabilities. These are both steps forward, enhancing transparency and accountability.

The new rules further provide an incentive for local governments to establish a dedicated trust with assets invested today to help pay health-care benefits in the future. But here the GASB takes one step backward, by allowing local governments to make overly optimistic assumptions, including excessive returns for the trust.

Read the rest at wsj.com…

Let’s Cut Taxes By Reducing Tax Bias [Real Clear Markets]

Tax experts from around the world gathered two weeks ago in Washington DC to push forward a Euro-led project for the prevention of BEPS — base erosion and profit shifting. This project is aimed at getting multinational companies to locate facilities and jobs in real countries, instead of post office boxes in tax havens.

The corporate tax rates in Europe are already 10% to 15% lower than the 35% rate in the U.S. If Europe moves forward with BEPS, that will put more pressure on US large companies to move people and plants abroad — unless Congress substantially reduces the U.S. corporate tax rate.

While almost everyone wants to reduce the U.S. corporate tax from 35% to 25%, almost no industry is willing to give up its current tax preferences to achieve this rate reduction on a revenue neutral basis. This means that the national debt would not rise because revenues lost by rate reduction would be offset by revenues gained by restricting existing tax preferences.

Therefore, Congress should finance a substantial lowering of the U.S. corporate tax rate largely by reducing the tremendous bias in the current tax code for debt and against equity. Most importantly, companies may deduct interest paid on all their debt, but may not deduct any dividends paid on their shares. As a result, the effective tax rate on corporate debt is negative 6.4%, as compared to positive 35% for corporate equity, according to the Congressional Budget Office.

Read the rest at realclearmarkets.com…

Managing Up [AFP Exchange]

Last year I wrote a piece for the May issue of AFP Exchange about the importance of managing your team to enhance your own personal productivity. I’d like to continue this conversation by telling you about managing up—how managing your boss is a vital part to staying productive at work.

This doesn’t mean manipulating your boss for a lighter workload. Nevertheless, knowing when and how to communicate, and how to set mutually beneficial goals, will improve the work lives of you and your boss. This is a nuanced challenge that practically every individual will face in their professional lives, but there are four guidelines that can help guide the way to a more productive and prosperous working relationship with your superior.

Subscribe and read the rest at afponline.org… 

The Trend Towards Board Term Limits Is Based on Faulty Logic [Brookings Institution]

Co-authored with Theresa Hamacher

In the business world, experience is generally considered to be positive. When it comes to corporate directors, however, tenure is increasingly viewed with suspicion. Yet the trend towards board term limits is based on faulty logic and threatens performance.

The movement towards director term limits is global. In France, directors are not considered independent if they have served on the company’s board for more than 12 years. In the UK, publicly traded companies must either comply or explain: terminate a director after nine years of service, or explain why long tenure has not compromised director independence.

In the US, the Council of Institutional Investors, which represents many public pension funds, urges its members to consider length of tenure when voting on directors at corporate elections. The council is concerned that directors become too friendly with management if they serve for extended periods.

Institutional Shareholder Services, the proxy voting advisory firm that is a powerful force in corporate governance, penalises companies with long-serving directors by reducing their “quick score” governance rating. Under the current methodology, a company loses points if a substantial proportion of its directors has served for more than nine years. Although ISS recognises that there are divergent views on this, it concluded that “directors who have sat on one board in conjunction with the same management team may reasonably be expected to support that management team’s decisions more willingly”.

But the assumption that lengthy director service means cozy relationships with management simply is not supported by the facts.

Read the rest at brookings.edu…

Obamacare’s ‘Cadillac Tax’ Will Soon Hit Many Cities and States [Real Clear Markets]

While much has been written on the ACA’s implications for private sector employers, only a few commentators have focused on the ACA’s implications for cities and states. Like any for-profit employer, any local government with 50 or more full-time employees (100 or more in 2015) must offer an ACA-compliant healthcare plan, or pay significant penalties. Moreover, under current law, the healthcare plans of many local governments will become subject in 2018 to the “Cadillac” tax – an excise tax on healthcare costs above specified annual amounts. The idea behind the Cadillac tax is to help rein in the spiraling cost of health care by putting pressure on employers to offer less generous health insurance plans.

Most states and cities offer generous healthcare plans to their civil servants during their working years and through their retirement until they go on Medicare. In general, local governments offer their employees a broad range of high-quality medical services with little or no co-payments and minimal deductibles. And local governments pay most, if not all, of the annual premiums for such generous healthcare plans.

But this situation will change dramatically because of two factors. Earlier this year, the US Supreme Court unanimously decided that a collective bargaining agreement should not be construed to provide workers with free healthcare benefits for life — unless that agreement explicitly required the employer to pay all healthcare premiums for the lifetime of its employees. Instead, the Supreme Court declared, the healthcare benefits included in a collective bargaining agreement presumptively end when that agreement expires. As a result, local governments will have the opportunity to renegotiate their healthcare benefits with the public unions as their collective bargaining agreements end.

Read the rest at realclearmarkets.com…

Renegotiating Retiree Health Care Plans After New Supreme Court Guidance [Health Affairs]

Although many commentators have criticized the underfunding of public pension plans, relatively few have focused on the huge underfunding of retiree health care plans of states and cities. At the time of Detroit’s bankruptcy, for example, its pension plan was underfunded by over $3 billion, but the unfunded deficit in its retiree health care plan was close to $6 billion.

The good news is that retiree health care plans can legally be revised more easily than pension plans. In specific, the US Supreme Court has recently issued an opinion setting forth principles of contract interpretation that will lead local governments and public unions to reach explicit agreements on the scope of such plans. Those agreements will probably have to include some cost reductions because the health care plans of many local governments will otherwise be subject to the Affordable Care Act’s 40 percent “Cadillac” tax starting in 2018.

This post will be divided into four parts. It will explain

  1. the reasons why retiree health care plans have stayed under the radar screen and how that is changing;
  2. the magnitude of underfunding of retiree health care plans and the implications for state-city budgets;
  3. the principles of interpreting collective bargaining agreements recently enunciated by the US Supreme Court; and
  4. the various ways local governments are now trying to manage down their health care obligations over time and strategies that governments and public-sector unions can use to address this challenge.

Read the rest at healthaffairs.org

Actively managed exchange traded funds are the NextShares big thing [Brookings Institution]

Co-authored with Theresa Hamacher

Actively managed exchange traded funds are a hot topic in the asset management industry these days. To date, most ETFs have been structured as passively managed index funds, because of concerns that the daily portfolio disclosure requirements of ETFs are inappropriate for actively managed funds. Regulators have rejected proposals that would allow active ETFs to keep their portfolio holdings confidential.

However, Eaton Vance Management recently received approval from the US Securities and Exchange Commission for a new type of fund, branded as NextShares, which addresses these disclosure concerns. Yet NextShares are not the same as ETFs; they are hybrid vehicles that combine elements of traditional mutual funds with certain features of passively managed ETFs. In other words, NextShares are a compromise, but one that stands a good chance of success.

On the plus side, NextShares preserve one of the main features of ETFs in the US, namely their tax efficiency compared with traditional mutual funds. ETFs normally generate fewer capital gains for investors, a result of their approach to handling investor purchases and redemptions.

Investors in an ETF do not deal directly with the fund. Instead, transactions go through intermediaries, called authorised participants. Only these intermediaries may purchase shares from the fund, which they then resell in the public market to investors. Therefore, when investors want to cash in their ETF holdings, they sell them on the exchange. To keep supply and demand for shares in balance, authorised participants may purchase the shares in the open market and redeem them with the fund.

Read the rest at brookings.edu