The Business of Value Investing.pdf

116 The Business of Value Investing

Often a simple reading of the annual proxy fi ling will give you a good

idea. If the current CEO was once CEO of another company that did

exceptionally well under his or her tenure, all the better. The main rea-

son to investigate here is to catch any red fl ags that may surface. For

instance if a pharmaceutical company has a CEO who used to work in

the fashion industry, you might want to dig a little deeper. Most times,

any concern arises from recent management changes. If a CEO has

been in charge for many years, there ’ s usually a good reason for that.

Operating Results Report Card

The heading refers to how the company has performed under cur-

rent management. Obviously it ’ s not fair to judge newly appointed

management, so this discussion is limited to management that has

been in charge for at least four years, enough time for the market

to react to the true fundamentals of the business.

In valuing management, many investors mistakenly focus on

the performance of the stock price as the proxy for quality man-

agement. In the long run, if the fundamental operating metrics of

a company have improved, management usually will pass the stock

price performance test. Ben Graham explained this as being due

to the fact that markets are voting machines in the short run but

weighing machines in the long run.

While stock price performance ultimately matters, it ’ s important

for investors to rate management more on the things they can con-

trol. For instance, when evaluating oil companies, if the underlying

price of a barrel of oil is increasing, most oil companies’ stock prices

will rise in response. In such instances, managements across the

entire industry will appear to have done an excellent operating job

when, in fact, the price of oil, an uncontrollable item, was respon-

sible for the increased value. Management has no control over the

price of oil, but it does have control over exploration costs, an excel-

lent barometer of long - term value creation or destruction. In the

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