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How To Spot Competent Management

By Maynard Paton (TMFMayn)
January 17, 2002

Carburton Street, London -- "Is this business run by competent managers?" It's a question that long-term investors should always ask of any prospective investment. But how do you spot those directors with the magic touch? And just as important, how do avoid the boardrooms whose talents are questionable?

Long before he became Chancellor, Nigel Lawson gave these tips when writing for the Daily Telegraph:

* Avoid companies whose chairman's photograph is published more than four times a year;

* Invest in companies whose chairman is less than 5' 8'' tall ("what you must look for is the Napoleon of the industry..."), and;

* Assess the board on a points system -- award one point for every director, and an extra point for every peer, admiral, general or air marshal. More than 15 points disqualifies [the company].

Unfortunately, all 'advice' concerning company management tends to be somewhat like Mr Lawson's. It's anecdotal, and relies on gut-feel and experience rather than providing clear-cut criteria. While I've no opinion on the Napoleon theory, certainly publicity-seeking chairmen and boardrooms stuffed with 'the great and the good' have tended (I think) to disappoint shareholders.

Don't believe the hype

But there are other management traits to be wary of. These include over-the-top PR and excessive empire building.

One of the best examples of PR ebullience is a statement from Sharon Carmel, co-founder of Emblaze (LSE: BLZ). Back in October 2000, before the streaming media company changed its name from Geo Interactive Media, Carmel said: "Our competitors mostly create PR hype and future promises -- GEO has actually delivered on a world's first ever video cell-phone. This phone demonstrates the opening of a new era in human communication. History will remember GEO and Samsung as the companies that turned Star Trek fiction into a daily reality. This is the most exciting moment of my life."

In my view, the quality of the product or service is indirectly proportional to the hype afforded to it. The best products, typically devised by the best management, can effectively sell themselves.

Meanwhile, Sir Martin Sorrell, chief executive of media giant WPP (LSE: WPP), appears a little too deal-hungry for my liking. WPP agreeing to buy Tempus last year, only to try and back out when the advertising market slumped, smacked of poor management all round. Those with long memories will know Sorrell and WPP came close to disaster when recession and debt proved a dangerous mix.

Further down the corporate ladder, Eddie Marchbanks wasn't as fortunate as Sorrell. The former boss of the now bankrupt Photobition (LSE: PHB) was another addicted dealmaker. Over the last five years, Photobition made thirty separate acquisitions, many of which were in that graveyard of UK businesses: the US.

Too many 'exciting' acquisitions usually means top level management are not happy doing what they should be doing -- which is creating shareholder value by actually running a business. Not only that, but a constant string of acquisitions indicates a reliance on other people's ideas and products.

Past performance

But perhaps a more accurate gauge of any director's talent would be to just check their past performance.

For instance, Woolworth's (LSE: WLW) executive chairman is presently Gerald Corbett, the former chief of Railtrack (LSE: RTK) who resigned after the Hatfield train crash. But with Woolies having issued a profit warning just months after his appointment, is Corbett just plain unlucky?

Spare a thought also for shareholders of healthcare firm Shiloh (LSE: SLH). The group has just appointed two ex-directors of SSL International (LSE: SSL) -- Dieno George and Graham Collyer -- to their boardroom. Both George and Collyer worked at SSL during the time of company's accounting shenanigans. Inspiration to buy Shiloh shares? Not really.

Granted, some managers may have been unfortunate when a company hits trouble. But for investors parting with their cash, why take the chance when there are plenty of boardrooms who always seem to escape trouble?

Jockeys and horses

In general, good managers are like good investors: they go with what they know and stick to it for the long-term. And I'd say the very best managers are probably those that have successfully built up large businesses from scratch; in other words, the ones that really know their particular industry inside out. Lord Harris of Carpetright (LSE: CPR), David Page of PizzaExpress (LSE: PIZ), John Lancaster of Ultraframe (LSE: UTF) and Sir David McMurtry of Renishaw (LSE: RSW) are all good examples in this respect.

That said, the only realy way to judge a management team is to look at how the company performs financially. At the end of the day, it's the creation of shareholder value that is the only thing that matters. Management that has a proven record of acting rationally, regularly reinvesting shareholders' money at superior rates of return and generating ever-greater cash flows, are the ones long-term investors should seek.

However, there is an alternative to the whole question of judging company management. As Warren Buffett once wrote: "Good jockeys will do well on good horses, but not on broken down nags."

Simply find a great business horse that requires any level of management jockey to succeed!

More: Invest In Management Experience | Great Management

The author owns shares in Carpetright.