The Business of Value Investing.pdf

114 The Business of Value Investing

Dell, founder of Dell Computer, a multibillion - dollar company

( $ 23 billion as of December 2008) owns over 10 percent of the

outstanding stock, according to a 2008 Dell Proxy Filing. Warren

Buffett, who took over Berkshire Hathaway in the 1970s, owns over

30 percent of the stock. 4 In both instances, substantial portions of

net worth and company ownership are involved.

How the stock is owned is also worth an investigative look. The

reason has to do with stock options, or rights given to company

insiders to purchase stock at a predetermined price. Debate abounds

regarding use of stock options. Some defend stock options as a moti-

vating incentive that aligns management ’ s interest with shareholders

(increasing the stock price). Others see options as a blank - check way

for companies to reward management at the expense of sharehold-

ers (diluting the existing shares). Regardless of your viewpoint, what

is factually accurate is that options have an asymmetric payoff struc-

ture for those who receive them. An executive who receives options

benefi ts tremendously if the company prospers as the stock options

become more valuable. If the company performs poorly, the execu-

tive is not any worse off because the options expire worthless. It ’ s a

classic case of heads you win big, tails you lose nothing.

If the majority of stock owned by insiders is in the form of

options that were granted that represent little or no cost to the

grantee, don ’ t ascribe to them the same weight as you would to out-

right ownership of the stock. It ’ s much more impressive and con-

fi rming of their dedication to the success of the company to see

managers make outright market purchases of stock just like any

other shareholder.

Understanding all of these considerations, look for manage-

ment that eats their own cooking.

Executive Compensation

The debate regarding executive compensation is one without con-

clusion. There will always be those who view it as too generous and

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