I just read an interesting Motley Fool interview with Prem Jain, author of Buffett Beyond Value: Why Warren Buffett Looks to Growth and Management When Investing*, a book that has been in my to-be-read stack for a couple of months. Professor Jain was asked for pointers that investors can use in assessing company management. His response:
1. Is the management competent?
2. Are management incentives aligned with the shareholders?
For the first point, Professor Jain said that he looked at “…earnings, the return on equity, and the allocation of cash flows for more than 25 years.” He also mentioned that a “…a carefully computed return-on-equity ratio is probably the most important metric for determining management competence.” Nothing really surprising here.
On the second point, I thought this was interesting:
“I check the number of shares held by the CEO and other top managers in the company. I am suspicious of CEOs who are awarded a large number of stock options but hold only a small number of shares.” Professor Jain also likes to see management promoted from within the company and management types that live a frugal lifestyle.
I, too, like to see management with large stakes in the company’s stock (preferrably not options that can be manipulated with short-term earnings) rather than large paychecks. I also don’t like huge severance packages because they present a moral hazard. CEOs that drive a company into the ground should not be fired and walk away with a huge severance package.
I guess I’m going to have to get Professor Jain’s book off my shelf and give it a read.