Bad Management?

[Blake Hampton]

I wanted to ask at what point do you think that a company’s management is adequate enough to buy a stock. I feel like I’m constantly seeing a large amount of undervalued companies with the caveat being managements that refuse to return any money to shareholders. I’m starting to think that this could possibly be the most important aspect of what differentiates a good investment from a bad one.

 

I really want to emphasize just how many managements I see that refuse returning any money, it’s crazy. I’m assuming that it’s from a standpoint of preserving their job but isn’t their job to ultimately increase shareholder value? Where are the directors in this situation? Maybe this is why Buffett only wants to buy good business. With bad businesses, they just sit there and preserve capital when they shouldn’t. Companies like Coke don’t have that same worry.

Edited April 15 by blakehampton

[schin]

Ben Graham essentially focused on mis-informed, bad management in his value investing approach (aka the cigar butt)... He and Buffett had to get control of the board or influence somehow to unlock value.  I always thought they were activist investors before it was a thing.

 

Buffett mentioned many CEOs and management teams are really bad capital allocators. So, you're lucky if they hoard cash.... otherwise like Salomon Bros, the management use it as a piggy bank to enriching themselves. The Directors are sadly in on it too.

 

Directors are suppose to represent the shareholders..but, that's in theory....  It's like many hedge funds and mutual funds are actually asset gathers and closet-indexers.

[whatstheofficerproblem]

“With a good script, a good director can produce a masterpiece. With the same script, a mediocre director can produce a passable film. But with a bad script even a good director can’t possibly make a good film. ” ― Akira Kurosawa

 

In a similar fashion I think Munger said something but I don't remember, but, with a good company a good management can generate greater returns, with the same company a mediocre management can generate passable returns, but with a bad company even a good management can't possibly generate good returns.

I wouldn't touch a company like Ford with Buffett in charge, this is an objectively bad business. Some businesses, examples which we have seen recently would be SMCI & all the AI beneficiaries didn't need good management because the thesis on them itself was independent of management. Recently, I have been looking for good businesses that would generate returns regardless of the management because the new trend is management appealing to 'value' guys and speaking their language while the actions don't necessarily match.

Edited April 16 by whatstheofficerproblem

[Saluki]

If you look at TYCO before the CEO went to jail, you can see how easy it is for management to line their pockets at shareholders expense.  One of the easiest ways to see this is to look for related party transactions which are usually a huge red flag, such as with Enron.  Some recent ones that I've seen are POWW which built a new production facility which was built by the brother of one of the insiders.  UHAL which  buys manages self storage facilities for themselves and well as the ones that the controlling family buys. And just yesterday I came across SOWG which leases a factory from the CEO.  Sometimes even a good company has some of these, such as FFH which has Prem's son managing some money for them, but it should be the incredibly rare exception. 

 

With a big company, it's a problem, but in a profitable businesses they can absorb that waste and graft.  In smaller cap companies, there isn't enough meat on the bone for both you and the vultures. 

 

EDITED to add

 

Stock based compensation and dilution is a huge red flag too.  In companies like BRK and CPNG, you don't see ridiculous pay packages like you would at some tech companies like TSLA. 

Edited April 16 by Saluki
follow up

[Gregmal]

The problem with small cap stuff is that even with good ones, G&A can be a huge chunk of the overall earnings. So right out of the gate, you are at odds with their management because its almost a survival thing for them to ensure they can pay themselves. 

 

In the mid-larger cap space, its really just the product of most management personnel being career whores. Ladder climbers. So even when you get good ones, they have little loyalty and will bounce for a bigger check or better job title elsewhere. While theyre employed they are motivated by maximizing their compensation. 

 

So me, I just kind of hunker down in stuff that is the exception to a lot of this, and Ive only really found that exception to occasionally exist with either founder led, or owner operator type C-suites. Folks underestimate how disruptive it is when the C-suite is constantly turning over. Culture at a company is built over many years, and cant evolve in a positive way when every 5 years a new guy comes in asking for stock options. 

[Saluki]

Speaking of good management, @Gregmal's favorite stock JOE had Bruce Berkowitz managing their portfolio for free, even though that's his day job and other people pay for it.  Compare that to WeWork's Adam Neuman who would buy buildings himself and lease them to WeWork.  

 

Good managers are rare and even rarer are legitimate turn around guys.  Look at how Thurman Rodgers took Enpase from trading for less than a dollar to $200+. And I think I've recommended Tony Griffiths (FFH Director) book Corporate Catalyst on the Book post. If you read the book and put yourself in his position in some of those turnarounds and ask how you would handle it, you will realize that you probably don't have what it takes to be a turnaround guy.  It's okay, neither do I. 

 

A good management can do wonders with a terrible business.  Compare Walmart under Sam Walton and Costco to other retailers, or Tesla under Elon to Ford or GM. But if you have a good business and good management (BRK and Warren and FFH and Prem) then you can get that lollapolooza the Charlie mentions.