GWII Investment Framework, BMPB, Business, Management, Price vs. Valuation, and Balance Sheet
This is the second in a series of posts about the GW Investment Institute (GWII) Investment Framework BMPB: Business, Management, Price vs. Valuation, and Balance Sheet. Our GW students use this framework to evaluate companies for our GWII Student Investment Funds. The second framework component we’ll review is Management.
GWII BMPB – Management
You may have heard an investor say, “We are aiming to partner with the highest quality management teams”. Well, who isn’t, so what does that mean? How do you evaluate a management team? To help organize your research use the acronym CAPITAL: Capital, Allocation; Preparation; Incentives; Track record; Alignment; Long term.
Evaluate Management: CAPITAL
| Capital Allocation | One of management’s primary responsibilities is capital allocation across: 1. Growth: organic / internal / Research and Development (R&D) + external / mergers and acquisitions; 2. Dividends; 3. Share repurchases; and 4. Debt reduction. What has management prioritized? How do they evaluate internal projects/investment, mergers and acquisitions, their dividend policy, share repurchases, and management of the balance sheet – specifically paying down debt. For example, the leverage on the balance sheet and its structure reflect the willingness of management to take risks for the business. We want to partner with teams that have the balance sheet prepared for difficult times. |
| Preparation | We are looking for management teams consistently preparing for difficult times across the board, also preparing for new opportunities, preparing to innovate, and preparing for whatever is next. |
| Incentives | People work to their incentives. Management’s compensation structure should create the proper incentives for them to sustain and grow the company. Check the Proxy Statement, “DEF 14A” filed with the SEC for management’s compensation structure. |
| Track record | Evaluate management’s track record for efficiency and effectiveness. One place to start is to calculate and understand the company’s Return on Equity (ROE), using the DuPont Formula: ROE = Profit Margin x Asset Turnover x Equity Multiplier. How does ROE and its component pieces compare to the industry? Average, above average, below average? This could be an indicator for management’s efficiency in some areas and effectiveness in others. |
| Alignment | Is management aligned with: employees, customers/clients, and shareholders. What actions demonstrate this alignment? |
| Long term | Is the management focused on the long term and are they consistent over long term periods. How is the management team positioning the company for the current market environment and how are they preparing for the future? For example, what’s management’s policy for R&D? How does the management team turn R&D into products or services that get to the market and have a positive impact on the company? |
This is only a brief overview and will not likely be enough data to properly evaluate a management team. It is, however, a starting point and way to organize your initial research. We’ll follow-up with future blog posts for the management component of the GWII Investment Framework, next post will be regarding Price vs. Valuation.
Rodney E. Lake,
March 13, 2021