Tag: CEO

7 Rules for Keeping Activist Investors Away

7 Rules for Keeping Activist Investors Away

The following 7 rules apply to public companies across a variety of industries – particularly to Enterprise Software, FinTech and Information Services companies.

1.) Make Your Numbers

2.) Regular, Transparent Investor Communication

3.) Drive Expanding Operating/EBITDA Margins

4.) Don’t Stockpile Cash

5.) Control Waste

6.) Use Debt as a Tax Shield

7.) Board Composition – More Insiders

1.) Make Your Numbers: Always. At a minimum, it is imperative to meet the revenue and earnings guidance you have provided Wall Street. It is a bit of a game – we know. Making your numbers for 10-20 consecutive quarters doesn’t qualify you as a “great company”, simply as one that is adept at setting appropriately conservative guidance. However, try missing your numbers for 2-3 consecutive quarters. This is a surefire way to lose your CEO chair and to simultaneously put the company in play. Consider this table stakes.

2.) Regular, Transparent Investor Communication: Provide investors with measurable milestones beyond revenue and EPS targets. For example, if Company ABC has consistently invested 8-10% of revenue in Product Development each year for the past several years, investors would likely expect this to be the case for the foreseeable future. Should an opportunity present itself where the Company believes it to be in its best interest to accelerate Product Development to 12-13% for 4 quarters, the Company ought to frame the incremental investment in this manner for investors: “…12-13% Product Development investment to capitalize on XYZ opportunity which we believe will drive 2-3% incremental revenue growth in year 2 and beyond. This investment will be partially offset by holding G&A expense flat on an absolute dollar basis during the investment period. Net net, we anticipate $X dollars of pre-tax dilution which translates to ($0.01) EPS dilution for the duration of the investment period.”

3.) Drive Expanding Operating/EBITDA Margins: It is difficult to pick a fight with a company that consistently drives year-over-year operating margin expansion. But what to do when you hit the operating margin ceiling? Surely operating margins can’t expand in perpetuity. This is where a well-executed M&A strategy can provide a financial benefit – acquisitions provide companies with the opportunity to reset operating margins. IHS – now IHS Markit ticker “INFO” – was famous for this. For example, let us assume your operating margins are at 35% and you prefer not to take them higher as to do so would be to under-invest in the product portfolio. Perhaps there is a target acquisition that carries 15% operating margins. You believe that with scale and supervision the target company could achieve 30-40% operating margins over the next 3 years. Post acquisition close, depending upon the size of the target company, your corporate operating margins will fall below 35%. As you scale the acquired company and improve its efficiency, you will grow your diluted margin from its low point to something closer to 35% or higher. Thus, you can continue to tell your margin expansion story to investors.

4.) Don’t Stockpile Cash: Investors aren’t paying you to be a bank – particularly cash-rich Enterprise Software companies. How then to invest surplus cash? Hopefully as CEO organic revenue growth and product development excites you. Innovation ought to excite you. Technology companies are supposed to innovate after all. Innovation begets revenue growth which is re-invested in product development and the cycle repeats. Perhaps you have just completed an especially heavy innovation cycle and plan to limit product investment for the next 3-4 quarters. In that case acquisitions, dividends and share buybacks are three options for investing surplus cash. We prefer strategic acquisitions and dividends to share buybacks. Buybacks imply the company in question does not have a better investment alternative. This should rarely if ever be the case for a technology company. Think about it – in buying back stock you are giving shareholders who “want out” an out (I borrowed that comment from George Needham some 10-12 years ago).

SS&C Technologies (SSNC) and CoStar Group (CSGP) come to mind in terms of companies that have effectively used M&A to augment organic revenue growth.

5.) Control Waste: It is natural for the administrative state to want to grow. We see this with governments and with companies – especially at corporate headquarters. Former GE CEO Jeff Immelt used to travel with two corporate airplanes in tow – one for the business trip, one to shuttle him to his destination of choice post-business trip – this qualifies as waste. Current GE CEO John Flannery recently announced the company’s turnaround plan. It shrinks HQ and puts far more autonomy in the hands of the operating units. We are fans of decentralized operations when a company consists of multiple standalone business units. Give the business unit head the authority to run it as he/she sees fit. Let the business unit stand on its own two legs and be accountable. Accountability is a natural waste removal agent.

6.) Use Debt as a Tax Shield: This especially applies to cash-rich software companies. Why not shield a portion of your profits from the taxman? Take on a comfortable level of debt that you could repay if we were to have another 2008-like credit crunch. Interest expense is tax deductible. Plus, the additional cash could grow your M&A war chest.

7.) Board Composition – More Insiders: The trend that’s existed for the past decade or so is for the CEO to be the only Board insider and for the remainder of the Board to consist of outside Board members. As a result, Boards lack what I would consider a requisite level of industry knowledge and operational-understanding. Netflix (NFLX) has attempted to address this issue by having Board members sit in on operating reviews. My preference is to re-stock Boards with insiders. Not exclusively so, but approximately half of the Board ought to consist of insiders. Moral hazard you say? They’ll just fall in-line with the CEO? Well, if the company has compensated these insiders correctly, they’ll have substantial equity at stake. This ought to inspire them to call out the emperor when he/she’s devoid of clothing.

Our recent podcast on the subject:

CEORater Technology Founder CEO Index Remains Undefeated

CEORater Technology Founder CEO Index Remains Undefeated

We created the CEORater Technology Founder CEO Index in 2017 to illustrate our strong belief that founder CEOs are better qualified to lead Technology companies than are “hired” CEOs/ professional managers. The CEORater Index remains undefeated through July 13th 2018.

The CEORater Technology Founder CEO Index returned 24.7% and 22.8% on a Weighted and Unweighted Return basis respectively (click here for detail) during the January 2nd 2018 – July 13th 2018 period.

The S&P 500 Information Technology (TKR: S5INFT) returned 13.7% on a Weighted basis over the same period.

The Powershares S&P 500® Equal Weight Technology ETF (TKR: RYT) returned 14.5% on an Unweighted basis over the same period.

Steve Jobs vs. Tim Cook – Innovator vs. Operator – It’s In Their DNA

Steve Jobs vs. Tim Cook – Innovator vs. Operator – It’s In Their DNA

Personality Analytics Holds the Key as to Why Apple Was More Innovative Under Steve Jobs than Tim Cook

Apple has lost its creative mojo under Tim Cook. Incremental product enhancements have become the norm, replacing a time when revolutionary new products, space age design and landmark advertising was the standard. What changed? Look no further than the CEO chair. Apple founder, CEO and creative genius Steve Jobs prematurely passed away in October 2011. Jobs’ hand-picked successor, Tim Cook, is by experience an operator with a background steeped in supply chain experience. Cook could not be more different from Jobs from a personality standpoint (see our table below).

The importance of assessing a CEO’s personality when conducting a CEO selection process (corporate boards, executive recruiters), or investment due diligence process can not be overstated. This is especially true of industry verticals marked by rapid change where the cost of having an ineffective CEO can be extremely high. It is not so rare to find a situation where a CEO, Board and institutional investor base were slow to realize that a given company’s customers were migrating elsewhere due to product obsolescence or other factors that ought to have been recognized. Few participants want to acknowledge this type of deterioration early or mid-cycle and only do so when it’s too late.

CEOs that create “adaptable” corporate cultures are less likely to lead companies that suffer irreparable declines due to product under-investment or other negligent factors. Adaptable cultures are less likely to be caught off guard and instead lead market change.

Corporate cultures are often an extension of the CEO’s personality. Yes, CEOs influence culture and corporate strategy even in mega-cap companies. Look no further than Microsoft (MSFT) during Steve Ballmer’s tenure as compared to Satya Nadella‘s time as CEO. MSFT’s product & services strategy is dramatically different as is the firm’s approach to competing and partnering with other technology companies.

We highly value the personality trait “openness” in large part because of its relationship to adaptable cultures.  Steve Jobs and Tim Cook score similarly on the openness scale – 92nd percentile and 94th percentile respectively. However, looking at the personality sub-traits under openness, Jobs scores far higher than Cook in the two most creative personality sub-traits: “artistic interests” and “imagination”.

Given that Cook lags in these areas, one would need to get comfortable with the idea that a non-creative personality like his (32nd percentile and 14th percentile as detailed below) is capable of generating massive creative output from Apple’s 120,000-plus employees. This is asking too much of Tim Cook in our view.  What doesn’t come naturally doesn’t come easily and may not come at all.

Our May 2018 CEO personality analytics research piece may be found here: Personality Analytics: Technology CEOs Analyzed

source: CEORater; IBM

 

 

 

 

 

Our recent podcast on the subject:

3 Rules for Tech CEOs

3 Rules for Tech CEOs

1.) Be Bold:

  • Similar to VCs, public investors want to invest in a bold vision. (See Tesla). Why does TSLA enjoy a premium valuation to other Auto OEMs? Answer: Musk’s vision and spin.

2.) Don’t Be Bullied by Investors  Dictate Your Story:

  • Tell the Street you plan to take margins down temporarily to pursue “X” initiative. Investors will cut you slack so long as you explain the rationale, the execution and the intended outcome.

3.) Balance Execution Today with Investment for Tomorrow:

  • Don’t fall into the short-term EPS growth trap at the expense of new product development, keeping your products fresh and building a culture of innovation.
  • If you pursue the short-term – investors will love you in the short-term (fleeting). The key is to build long-term value over years and decades (see AMZN, CSGP and SSNC as examples of the latter).
Your CEO’s Personality Influences His/Her Ability to Scale<span class="badge-status" style="background:red">Premium</span> 

Your CEO’s Personality Influences His/Her Ability to ScalePremium 

It is true. Your CEO’s personality influences his/her ability to scale (among other things). It may seem self-evident. One’s intuition may suggest such a relationship between personality traits and workplace effectiveness. Well, it is more than a hunch. Published research demonstrates a relationship between CEO personality traits and company performance. Gow, Kaplan, Larcker and Zakolyukina…

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CEORater Technology Founder CEO Index has Outperformed Year-to-Date<span class="badge-status" style="background:red">Premium</span> 

CEORater Technology Founder CEO Index has Outperformed Year-to-DatePremium 

We created the CEORater Technology Founder CEO Index in 2017 in large part to illustrate our strong belief that founder CEOs are better qualified to lead Technology companies than are “hired” CEOs/ professional managers. The CEORater Technology Founder CEO Index returned 13.0% and 10.5% on a Weighted and Unweighted Return basis respectively (click here for detail) during the January 2nd 2018…

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How to Communicate CEO Succession Plans to Investors<span class="badge-status" style="background:red">Premium</span> 

How to Communicate CEO Succession Plans to InvestorsPremium 

Transparent CEO Succession Plans Are Best Communicating CEO succession plans to institutional investors does not have to be complicated. Generally speaking, transparency around your CEO succession process is a good thing. This should not be confused with providing investors with a play-by-play update (I would not recommend the latter). Here’s a high-level outline that may…

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Top Tech CEOs: Bezos Is Best as Measured by Total Stock Return

Top Tech CEOs: Bezos Is Best as Measured by Total Stock Return

Bezos is Top Tech CEO with a Total Stock Return of 83,639%

We recently queried our CEORater database to identify the Top Technology CEOs as measured by stock price performance during each CEO’s tenure. Amazon’s Jeff Bezos topped our list by a wide margin. For purposes of this exercise it helped to have been a CEO for an extended period of time. It is also interesting to note that 8 of the Top 10 and 14 of the Top 20 CEOs on our list are Founder CEOs. We define “Founder” CEOs as those CEOs who were present for the first dollar of revenue earned. Additional detail may be found at CEORater.com.  Contact sales@ceorater.com for Excel spreadsheet detail.

Top 20 CEOs TSR
Top Technology CEOs based upon Total Stock Return (“TSR”) as measured during the CEO’s tenure. BP = stock price on CEO start date or IPO date (if not public on CEO start date). EP = stock price on Feb. 16th 2018. Contact sales@ceorater.com for additional detail.
AMZN 1
AMZN’s Jeff Bezos. Click on the image to expand.

NFLX 2

NVDA 3

MCHP 4

ATVI 5

CSGP 6

STMP 7

CRM 8

CHKP 9

ULTI 10

Technology Companies Led by Founder CEOs Outperform the Benchmark

Technology Companies Led by Founder CEOs Outperform the Benchmark

Our Hypothesis: Founder CEOs Will Outperform Over the Long-Term

We believe that founder CEOs will generally outperform non-founder peer group CEOs as well as broader benchmarks over the long-term. We believe this to be true both in terms of stock market returns as well as operating performance as measured by traditional financial measures such as Cash ROIC, ROE, ROA and Economic Value Added.

We recently created the CEORater Technology Founder CEO Index in part to help test our hypothesis. Over time we plan to operationalize the index to where investors may use it as an investment vehicle (stay tuned).

Founder CEOs tend to take a long-term view of the companies they created (their children). Where hired CEOs focus on the current quarter and year, many founder CEOs want their respective companies to thrive in perpetuity.

Legacy Matters to Founder CEOs

It’s about legacy for founder CEOs:

  • It’s why Jeff Bezos (AMZN) thinks about 50 year increments as opposed to quarterly increments;
  • It’s why Reed Hastings (NFLX) pushed OTT, original content and international investment when many investors wanted a U.S.-focused DVD distribution company;
  • It’s why Bill Stone (SSNC) has built one of largest FinTech companies during a period when much of the Capital Markets industry has become commoditized.
AMZN
Jeff Bezos, AMZN Founder & CEO
NFLX
Reed Hastings, NFLX Founder & CEO
SSNC
Bill Stone, SSNC Founder & CEO

We reviewed Total Stock Returns over the January 3rd 2017 – February 8th 2018 period:

  • The market cap weighted total stock return for the CEORater Technology Founder CEO Index over the measured period was 55.5%.
  • The market cap weighted total stock return for the S&P 500 Information Technology Index (ticker: S5INFT) was 32.0% over the same period.

Two’s A Trend: “CEORater Technology Founder CEO Index” Wins Second Match

CEORater-Technology-Founder-Index-1.png

We wanted to see how the CEORater Technology Founder CEO Index would fare if we were to market cap weight the components (review component details here). Therefore we compared our CEORater Index to the S&P 500 Information Technology Index (Ticker: S5INFT). We compared total stock returns for each for the period January 3rd 2017 – January 22nd 2018:

  • The market cap weighted total stock return for the CEORater Technology Founder CEO Index over the measured period was 63.72%.
  • The market cap weighted total stock return for the S&P 500 Information Technology Index was 46.05% over the same period.

These two most recent TEK2day posts are just the beginning of our analysis in an effort to test our hypothesis that Technology companies led by founder CEOs will in the aggregate outperform peer group companies led by non-founders.