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What is your CEO really telling you?

By Scott Phillips | Friday October 16, 2015
G'day Foolish Reader,

In this day and age, where CEOs are rockstars and board directors of large companies read like a who’s who of corporate Australia, it’s easy to forget the real role of company managers and directors.

When the ‘joint stock corporation’ was invented, it allowed for many, many people to own a small (or large) stake in a company. And, because those people weren’t working in the business on a daily basis, they couldn’t be there to make all of the decisions that needed to be made.

Additionally, such companies are bound by law to make decisions that are in the interests of all shareholders, not just those that are present at the time, or who have the largest ownership stakes.

 

Who does number one work for?


Accordingly, professional managers were hired, and directors were appointed to company boards, to represent the interests of all shareholders.

And, not to put too fine a point on it, if you own shares in a company, those people work for you.

Not just you, of course, but all shareholders (so no, you can’t have them do your personal bidding, sorry!). But it’s true that directors aren’t representatives of the company -- they are representatives of the shareholders.

Yes, that sounds like a strange statement. After all, most directors stand up and talk on behalf of the company, whether that be at Annual General Meetings, on media appearances or in discussions with shareholders.

That’s understandable -- and I’m not going to pick nits just for the sake of it -- after all, if the directors have set or approved the company’s strategy and decisions, then the results -- good or bad -- are their responsibility.


But it’s an important distinction to remember. At each board meeting (and the rest of the time, too), your directors should be making sure the company’s managers are acting to maximise long term value for shareholders -- holding them to account on our behalf.

Chief Executive Officers, bear that same responsibility, by the way. They should be acting to maximise long-term shareholder value. And, just like directors, if you own shares in a company, they work for you, too.

Which makes it particularly galling when companies use spin and obfuscation in their dealings with shareholders.
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So. How ’bout those mets?


You know the type -- the ones that make excuses for poor performance, that present a skewed set of numbers (in the hope you’ll focus only on the -- always positive -- metrics management cherry-pick). The ones that always seem to be trying to talk up the share price.

Yes, we’re happy for management to highlight the company’s successes, but we expect both honesty and candour when there are mistakes, too.
 
There was a case a few years ago when a company highlighted not net profit, not revenue, not same-store sales, but its gross margin. That company was broke within a year.

Now, even the best CEOs have ego. It’s almost a prerequisite to climb the greasy corporate pole. And so I’m not surprised that they want to -- for their own internal (sometimes even subconscious) reasons -- highlight their successes. They feel justifiably proud of the results, in many cases.
 

Give it to me straight


But as an investor, I want to see the whole story. Give it to me, warts and all. Show me the wins and the losses. “Ah, but investors will run away if there’s bad news”, the CEOs may say.

That might well be true, but if you’re candid in sharing both good and bad news throughout the journey, investors will know what to expect. And, as a bonus, the shareholder base will probably be spared the flighty, fair-weather investor who’ll flee at the first sign of trouble.


If all you share is the good stuff, the bad news comes like a bolt from the blue. And when it hits, it’s going to hurt.

As investors, we need to inoculate ourselves from that eventuality. The best way to do it is to read investor presentations and announcements with a careful eye. Ask yourself:
 
  • Does the headline make me feel informed, or sold to?
  • Does it feel like management commentary is presenting me with the whole story, or just the highlights?
  • Has the company changed the metrics it reports since last time?
  • Does it focus on different metrics each time?
  • Is management candid with bad news?

I have to say, there are very few companies that pass all of those tests. There are a few that come most easily to mind from the Buy lists here at The Motley Fool, including the service I run, Motley Fool Share Advisor, and the one run by my mate Andrew Page, Motley Fool Dividend Investor.

There’s the company whose CEO continues to personify a ‘pleased, but not satisfied’ persona; another -- a recommendation of both services -- that makes a careful effort to inform investors, and present the same data each time; and a third which studiously reports ‘normal’ profits, no matter whether or not it makes the results look better or worse.
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Take a leaf out of Buffett's book


As I hope you’d expect, the gold standard comes from Warren Buffett’s Berkshire Hathaway (NYSE:BRK-B).

Some companies title their ASX releases with corporate boasting or spin:

“Jester Jumping Jacks Reports 1345% surge in normalised operating profit!”

Berkshire instead opts for:

“Berkshire Hathaway Inc. News Release”

Some companies trumpet their ‘successes’ in large font and bullet points:
  • Successful capital raising
  • Restructure for growth
  • Net tangible asset growth of 130%
Berkshire Hathaway opens with this paragraph:

“Berkshire’s operating results for the second quarter and first six months of 2015 are summarized in the following paragraphs. However, we urge investors and reporters to read our 10-Q, which has been posted at www.berkshirehathaway.com.

The limited information that follows in this press release is not adequate for making an informed investment judgment.”

I look forward to reading a paragraph like that from some ASX-listed companies. I’m just not holding my breath.

That doesn’t mean there aren’t great companies out there, run by great managers. And occasionally, we get to buy them at attractive prices -- and we snap them up.

One way to see the whites of management’s eyes is to see the colour of their money. A CEO can use a company’s cash for a range of -- good and bad -- purposes. Empire building is bad. So is wasting money on a speculative or over-priced acquisition.

But at the front of the queue for ‘good’ uses is dividends. A company can’t waste the money it’s paid -- or promised -- to shareholders. A dividend alone is no guarantee, of course -- that’s why Andrew digs deeper when he recommends companies to his Dividend Investor members.

And while it’s only early days, Andrew has already assembled a nice track record. He’s handily beating the market -- which is down, on average -- with a stable of companies he expects to beat the market over the long term… and which each pay a nice dividend, to boot.

So, if you’re looking for some income with your capital gains -- and you want to beat the market -- why not give Dividend Investor a go. I think you’ll be glad you did.
 

Scott Phillips
Investment Advisor Motley Fool Australia
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The Motley Fool's disclosure policy is accountable. Motley Fool employee Scott Phillips owns shares in Berkshire Hathaway. All returns cited are hypothetical and based on the percentage change between the stock price at the time of recommendation and the current or sell price (if the position has been closed) at the time of publication. Brokerage, taxes and any other associated costs are not taken into account. Please remember that investments can go up and down. Past performance is not necessarily indicative of future returns. Performance figures are not intended to be a forecast and The Motley Fool does not guarantee the performance of, or returns on any investment. All figures are accurate as of October 16, 2015. Authorised by Bruce Jackson.
 
Any and all advice contained in the above content is general advice that has not taken into account your personal circumstances. Please refer to our Financial Services Guide (FSG) for more information.
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