Swapping leaders 101
Jennifer Hewitt’s article in last Thursday’s Australian Financial Review entitled “Swapping leaders 101” focused on the relatively sudden departures of RIO’s Tom Albanese and BHP’s Marius Kloppers. The Sydney Morning Herald claimed “outgoing BHP Billiton Chief Executive will take cash, shares and performance rights worth up to $75.2 million at current prices”.
We believe the timing of the departures was to draw attention away from the substantial erosion in returns and profit, however some discussion about remuneration is warranted.
Andrew Smithers, the author of Valuing Wall Street, makes the following point,
“The change in the way company managements are remunerated has been dramatic this century. Salaries have ceased to be the main source of income, with bonuses and options (or performance rights) taking over”. He also writes, “Senior management positions change frequently, so if management wish to get rich, they have to get rich quickly”.
Those readers interested in exploring this subject further may want to download the December 2011 Federal Bank of New York Report entitled “Some Unpleasant General Equilibrium Implications of Executive Incentive Compensation Contracts“. Download here.
Meanwhile, a brief analysis of BHP in the six year period from Fiscal 2007 to Fiscal 2013, which coincides with Marius Kloppers’ leadership, reveals:
* Normalised net profit after tax will have fallen 17.5% from $16.6 billion to an estimated $13.7 billion;
* Shareholders’ Funds will have doubled from $35.0 billion to an estimated $71.8 billion;
* Net debt has doubled from $11.3 billion to $22.7 billion; and
* Return on Average Equity will have more than halved from 46% to an estimated 20%.
In our view there are two vital parts to a CEO’s role. The first is the running of the business – which MBA’s from Harvard and the hiring of management consultants have gone some of the way to ensuring there is expertise here. The second however is capital allocation – something Warren Buffett talked about at length – and which we have seen very few successes. CEO’s wanting to understand the fundamentals of capital allocation have no course to study, no manual to follow and no broad and deep pool of talent to access.
When Roger Montgomery wrote Value.able he had senior management and CEO’s of public companies and their capital allocation role in mind. Download Value.able here: http://rogermontgomery.com/valueable-book/
Chief Executive Officer of Montgomery Investment Management, David Buckland has over 30 years of industry experience. David is a deeply knowledgeable and highly experienced financial services executive. Prior to joining Montgomery in 2012, David was CEO and Executive Director of Hunter Hall for 11 years, as well as a Director at JP Morgan in Sydney and London for eight years.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
Gary Rutter
:
Yes, there is a huge difference between running a company, and allocating its capital. The first is a job for employee’s. The second is done by buiseness owners and entrepreneur’s. Don’t ever think they are a similar skills set. Kerry Packer famously explained why he didn’t send his son James to university. He was also famous for a quote ” you only get one Alan Bond in your life”. Well James Packer managed to find his Alan Bond. James was taught Capital Allocation by the master. He was taught not to be an employee. I believe in only buying into business’s run by successful families over generations or ones run by entrepreneur’s ( who have got at least one good failure or lesson under their belt). The biggest change ( and problem) in the last 30 years is now even the boards are full of employee’s. So now even the boards of these huge companies don’t even know about Capital allocation. These big companies are not any harder to run than a small business turning over 5-10 million dollars. Marius Kloppers proved he can’t even manage his personel money when in September last year he had to sell about a million dollars of Bhpb shares ( at a low price) to pay his tax bill. Allocating all that “super profit”, well he was way out of his depth. And the board should have seen that years ago.
Andrew Legget
:
The 4 stats you mention would be quite surprising to a lot of people. To think that over the period BHP got twice as big but half as profitable paints a completley different picture to what a lot of the media and other investors paint, especially so when you consider that this period also included a pretty decent resources boom.
I would enjoy if my Mbus (fin) course at uni had a subject or elective focused on capital allocation decision making. I think it would help complete and round out what skill set i am looking at acquiring through it. If only Warren would take over McGraw Hill Publishing and release his own set of textbooks (i am sure they would be very popular).
If you don’t mind me asking Roger, where do you think the biggest capital allocation missteps are being made in the Australian marketplace?
Buybacks seem to be few and far between but i don’t think that would be the biggest. Value destroying acquistions seem to be a regular one that comes up. But i am sure there are some more basic things that are being missed that are having a bigger overall affect than the two mentioned above.
Of course in your book, the basic dividend pay out vs retained growth return was mentioned quite a bit. I do think the Australian market is too dividend focused but i understand why.