Turning a Short-Term Fling into a Long-Term Commitment: Board Duties in a New Era

Abstract:     
Corporate boards face significant pressure to make decisions that maximize profits in the short run. That pressure comes in part from executives who are financially rewarded for short-term profits despite the long-term risks associated with those profit-making activities. The current financial crisis, where executives at AIG and numerous other institutions ignored the long-term risks associated with their mortgage-backed securities investments, arose largely because those executives were compensated for the short-term profits generated by those investments despite their longer-term risks. Pressure on boards for short-term profits also comes from activist investors who seek to make quick money off of trading in stocks whose prices overly reflect short-term firm values.

Yet this excessive focus on producing short-term profits runs counter to the interests of non-short-termist investors, other corporate constituents, as well as our economy and society as a whole in creating corporate enterprises that are profitable on an enduring basis. Once again, the current financial crisis provides a lens through which we can see the distressing impact – both to individual businesses as well as to the entire U.S community - of an excessive focus on short-term profits.

I propose a solution to address this problem of short-termism. Under my proposal, directors would be required to make decisions that are in the long-term best interest of stockholders and the corporation under their fiduciary duties. I explain in the article why I propose fixing the short-termism problem through fiduciary duties as well as how, practically, my proposal would be implemented.

Keywords: corporations, corporate boards, board of directors, profits, short-termism, stockholders

JEL Classifications: K2, K22

Accepted Paper Series