Alfred Rappaport discusses 10 ways to create shareholder value. Those ways can be separated into three categories: Strategy & Management, Reward & Compensation, and Shareholders.
- “Don’t get sucked into the short-term earnings-expectation game – it only tempts you to forgo value-creating investments to report rosy earnings now.” – No cost cutting to reach earnings benchmarks!
- Reported figures approximate neither a company’s value nor its change over the reporting period.
- Organizations compromise value to boost short-term earnings.
- Evaluate which strategy is likely to create the greatest value.
- “Do any of the operating units have sufficient value-creation potential to warrant additional capital?“
- “Which units have limited potential and therefore should be candidates for restructuring or divestiture?“
- “What mix of investments in operating units is likely to produce the most overall value?“
- M&A (Mergers & Acquisitions) based on expected value, not on immediate EPS (Earnings Per Share) impact.
- Major acquisitions can create or destroy value faster than any other corporate activity.
- If management is uncertain whether the deal will generate synergies, it can hedge its bets by offering stock > reduce potential losses for the acquiring company’s shareholders by diluting their ownership interest in the postmerger company.
- Adoption of a value-conscious business model – focus on high value-added activities and outsourcing low value-added activities.
- Value-oriented companies regularly monitor whether there are buyers willing to pay a meaningful premium over the estimated cash flow value to the company for its business units, brands, real estate, and other detachable assets.
- Avoid ill-advised, overpriced acquisitions and let the shareholder decide, whether he or she wants to invest.
- Repurchase shares if company’s stock is trading below best estimate of value & no better ROI.
- “When a company’s shares are expensive and there’s no good long-term value to be had from investing in the business, paying dividends is probably the best option“.
- Adopting either a discounted indexed-option plan or a discounted equity risk option (DERO) plan.
- Indexed options reward executives only if the company’s shares outperform the index of the company’s peers – not simply because the market is rising.
- Extending vesting periods and requiring executives to hang on to a meaningful fraction of the equity stakes they obtain from exercising their options.
- Develop metrics such as Shareholder Value Added (SVA). Reward based on future operating cash flows driven by sales growth and operating margins.
- Focus on three to five leading indicators and capture an important part of their long-term value-creation potential.
- Time-to-market for new product launches
- Employee turnover rate
- Customer retention rate
- Adopt stock ownership guidelines for senior management.
- Usually expressed as a multiple of base salary > converted to a specified number of shares.
- Without equity-based incentives, executives may become excessively risk averse to avoid failure and possible dismissal.
- Public Financial Statements should include a Corporate Performance Statement.
- Cash flows and accruals for estimating Cash flow prospects.
- Classify accruals into medium and high uncertainty. Most likely, optimistic, and pessimistic.
Rappaport, A. (2006): Ten Ways to Create Shareholder Value. Harvard Business Review.