Management assessment looks at how to measure the quality of a company’s management team from the perspectives of remuneration, honesty, how effectively they have managed the business, and the effectiveness of the decisions they’ve made. Let’s look at management assessment…
Why examine a company’s management?
The quality of a company’s management has a significant impact on a company’s performance (and share price). Good management can build up the business, keep it’s assets adequately maintained, and put the company in a strong, advantageous position.
Poor management can bring a business down.
Who does the management work for?
Management should work for shareholders, not their own interests. Shareholders own a part of the business. They supply a lot of the capital. Their interests need to be a priority. Why invest in a business that gives little or no consideration to the owners of the business?
How much do they pay themselves?
We’ll start by looking at the base salaries for each of the key personnel.
Are the salaries reasonable, or are they paying themselves too much? What’s your “spider sense” telling you? Do you sense greed when you see how much they earn?
It’s good to look at executive compensation over time. Ideally, we want to see executive salary packages move up and down in line with the company’s performance. Pay incentives that are linked to company performance are most equitable. Why should executives get large bonuses if the company performed poorly?
It’s also nice to see management who own shares in the company. If they own a piece of the pie it gives them more incentive to improve performance.
How honest do they appear to be?
You can learn a lot by downloading the company’s last four annual reports. Start by looking at the oldest report first. Look for any promises made by management in that year. You might find these in the “letter to shareholders” or a similar section.
Then look in the annual report for the following year. See if they did what they said they would do. Work your way to the most recent report, ensuring that the management have kept their promises.
Good management teams follow through on what they say they will do.
How efficiently have they managed the company?
We can gauge the quality of management by the returns they’ve been able to achieve on the capital invested in the business. We want to see returns on capital that have consistently been at reasonable levels. This will vary from one industry to another.
To determine a reasonable return on capital (ROC) we can compare the company’s ROC to that of other companies in the same industry.
Decision making ability
This is where we assess management by what they do, not what they say. How are they adding value?
Are they:
- Paying down debt?
- Keeping costs under control?
- Managing working capital more efficiently?
- Buying back shares when the stock price is low?
- Maintaining the company’s assets (i.e. maintenance capital expenditure)?Closing down business units that are under-performing?
- Putting more capital into the higher margin (i.e. more profitable) business lines?
Summary Points
- Management’s actions should be aligned with shareholder’s interests
- Assess management by what they do, not what they say
- Have management’s decisions been effective? Are they doing a good job?
- Continue on to Lesson 9: Industry Analysis