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Smart Investor: what can we learn from the Barclays debacle?
The ongoing debacle surrounding Libor fixing has thrust the actions of senior management into the limelight once again.
Heads have rolled, some more will probably roll over the coming weeks, politicians will jump on the bandwagon, and the media will increase the number of column inches dedicated to discussing the obscene pay levels of FTSE 100 executives.
Interesting as they are, these events are of little practical value to the private investor. You may find them entertaining, but they offer little guidance as to whether a particular company should be bought, held or sold – an investor’s only options.
Do chief execs matter?
Moreover, in spite of what various commentators will inevitably say about the prospect of investing in Barclays (BARC.L) or another bank involved in the Libor scandal, a rotten chief executive does not matter as much as you may think. Of course, a leader who is inadequate in terms of their ability or honesty is no good thing for a company, but one must remember than an investment is being made in the company, not in the management.
For instance, a company may have an excellent track record, high return on equity, be financially sound and have a substantial economic moat through providing a unique product. Then the chief executive may change and things may begin to go downhill. However, this does not mean that the company is not worthy of investment.
Its performance may suffer in the short run, but when purchasing a slice of the company, an investor buys a slice of the net assets and a portion of goodwill and nothing more. It is up to management to decide how assets are used and, if they are not being used efficiently, then changes to management will eventually be made.
The problem, then, comes when ineffective management are not given their marching orders in spite of poor performance. There are any number of companies where this is the case, where the asset base and products are far better than the company’s performance and profitability suggest.
Case study: Greene King
In addition to performance, a company’s financial viability is the responsibility of senior management. My recent piece on pub operator Greene King highlighted its large pile of debt; although this is quite common in the pub industry it is evidence that management (past or present) has done a poor job running the company.
Again, inadequacies in this arena should not be tolerated by boards.
Boards must take action
The issue of boards tolerating poor performance, lax financial management or dishonest practices may be the most worrying aspect to come out of the Libor-fixing scandal. It appears that boards are somewhat lacking in guts when it comes to standing up to the aforementioned failures.
Companies such as Xstrata (XTA.L) and Thomas Cook (TCG.L) spring to mind, with Xstrata’s board happy to sign off ludicrous retention payments to Xstrata/Glencore management. And Bob Diamond only stepped down once political pressure made his leadership untenable.
So, the best thing that can come out of the ‘shareholder spring’ is, in my view, not for senior management pay levels to fall, but rather for boards to receive a substantial kick in the derriere.
This would mean that if assets are not being used efficiently, if debt is becoming a problem, if a company’s profitability is not adequate, if dishonesty is present on the current management’s watch, then the board shows no mercy and swiftly finds a replacement.
Otherwise, one might reasonably ask, exactly what purpose do non-executive directors and the boards they sit on serve?
More about this:
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