We continue with the next section of Michael Sheen’s book “The Investment Checklist”.
This checklist provides a list of useful questions to delve into various aspects of analysing a potential investment.
We have now come to the part where we assess the quality of a company’s management.
It’s important to look out for four aspects when sizing up the management team (e.g. CEOs or CFOs): passion, honesty, transparency and competence.
As this section requires more detailed explanations, it will be split into two separate parts so do check back next week for the follow-up.
As a recap, you can check out the first six parts of this series in the links below.
Part 1 – please click HERE.
Part 2 – please click HERE.
Part 3 – please click HERE.
Part 4 – please click HERE.
Part 5 – please click HERE.
Part 6 – please click HERE.
33. What type of manager is leading the company?
Managers can be divided into three main types.
There is the owner-operator (OO), who is typically the founder of the business.
Naturally, the OO is the most knowledgeable and passionate about the business.
Then there is the long-tenured manager (LT), who has worked in the company and industry for at least three to 10 years.
The LT would have significant knowledge of the company but perhaps not be as passionate as the OO as he is still an employee.
Finally, there is the hired hand (HH), who is a manager with limited experience serving the customer base and who has worked for less than three years at the business.
The HH is naturally the least knowledgeable and passionate among the three.
By classifying managers into one of these three categories, the investor can get a better idea of execution risks relating to the business.
A more knowledgeable and experienced manager will be less risky than a new, untested one.
Those with skin in the game (i.e. the OO and sometimes the LT who has share options) will also tend to be more passionate about growing the business.
Investors should also review the track record of the OO, LT or HH to understand how he or she handled obstacles or difficulties.
34. What are the effects on the business of bringing in outside management?
Investors should be wary when outside management is brought in to try to solve the problems within the existing business.
The impression is that the outsider will come in on a “clean slate”, be more objective and use his expertise from his previous role to try to rectify the problems in the business he is easing into.
However, problems arise when the manager is unable to transfer his expertise and knowledge from his previous role into the new role.
Most managers are great at cost-cutting but very few are adept at building and growing the business.
A great example was “Chainsaw” Al Dunlop back in the 1990s.
Known as a ruthless cost-cutter and a turnaround specialist, he went about slashing costs by laying off workers at Scott Paper in 1994.
The leaner outfit was then sold off to Kimberly-Clark (NYSE: KMB) for US$9.4 billion.
He tried the same tactic as the CEO of Sunbeam, a manufacturer of kitchen appliances, but was eventually charged by the US Securities and Exchange Commission with concocting ways to cover up the company’s financial woes.
For his efforts, he was unceremoniously banned from ever serving as an official of a public company and also had to pay a fine of US$500,000.
Investors should, therefore, respond with extreme caution when a new manager is touted as being able to “turn the business around” or “bring it to the next level”.
35. Is the manager a lion or a hyena?
Comparing a manager to a wild animal may sound strange.
But that’s exactly what Mr Tan Seng Hock (CEO of the Aegis Group of Companies) did.
By asking yourself if the manager you are assessing is a lion or a hyena, you can get a better sense of whether the business can do well over the long run.
I will summarize the difference in a few bullet points as follows (please refer to Michael’s book for the full difference which is summarized in an easy-to-read table):-
- Lion managers think long-term and maintain a long-term focus, while hyena managers focus more on the short-term.
- Lion managers thirst for knowledge and learning while hyena managers are uninterested in them.
- Lion managers treat employees as partners, while hyena managers treat them as expenses.
From the summary above, it can be seen that organizations do much better with a lion-type manager who can make decisions that prioritize the long-term growth and stability of the company.
Lion managers also respect people around them, no matter their status, and are humble and willing to learn.
Investors should therefore look out for more lion-type managers and shun companies with managers displaying hyena characteristics.
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Disclosure: Royston Yang does not own any of the companies mentioned.