Choose a manager that behaves like he or she owns the company

In golf they say it's all in the wrist, but in investments it’s all in the CEO and the management team.

 

Combine that with a competitive advantage (Moat) and price (Margin of Safety) and one should have a winning investment recipe, says Shaun le Roux, manager of the PSG Equity Fund since 2002, in latest Angles and Perspectives Report from PSG Asset Management

 

The trick is to actively seek out managers who think they own the place, or the company. Those who take long-term decisions that are especially in the interest of shareholders. One gets this from analysing management shareholding, incentive schemes and past capital allocation decisions to provide evidence that management’s interests are aligned with shareholders’ interests.

 

Management will add shareholder value in future if management hold a significant amount of shares in the company, incentive schemes that reward long-term returns on capital and the business has a track record of value-adding capital allocation.

 

Why the long-term? It will tell you whether a CEO and management team are skilful, are able to outperform the competition, and add value for shareholders. Not only that, but over the short term share prices are unpredictable and at the mercy of market sentiment and prevailing economic conditions.

 

Over the long run on the other hand, good companies will outperform and cheap companies will revert towards fair value. This is because markets are so preoccupied with the short term that mispricing occurs. The goal of long-term investors should be to try to exploit these mispricings.

 

In William Thorndike’s book The Outsiders: Eight Unconventional CEOs and Their Radically Rational Blueprint for Success, he looked at the most successful CEO’s in post-war US, including legends like Warren Buffett, Henry Singleton and John Malone and how they managed to multiply the value of their companies compared to their peers.

 

"In my view, the most important common trait among these CEO’s is that they thought and acted like owners and not like employees. This was most noticeably in capital allocation, which is the most important contributor to long-term returns.

"All their businesses share some common characteristics: they were decentralised, there was a culture of keeping costs low, there was an emphasis on cash flow, and they didn’t care much about Wall Street analysts.

 

"They always made capital allocation decisions with an eye on the value that could be added to shareholders over the long term and each CEO made at least one large transformational acquisition.

 

"However, they tended to be very patient, careful not to overpay and willing to pounce only when they saw a high probability of success. They all demonstrated a willingness to buy back and retire significant portions of their own share count, often when Wall Street frowned on it, but always when their stock was cheap and better opportunities were not available.

 

"These CEO’s thought on a per share basis, or as owners, and did not have a problem with shrinking the size of their business,” Le Roux says.