What's the Story With Your Stock Price?
Here is a set of important measurements that will provide guidance to the board on the effectiveness of your company's investor relations efforts. by Donald W. Mitchell
Do you remember a time when you decided to make a difference, and your attention and intent led to lasting benefits for many people? Measuring the effectiveness of a company's investor relations efforts offers the same kind of rewards for you and others.
Have you ever asked for information that your company did not have? Undoubtedly, you noticed two effects from that request. First, the company found the information for you and kept supplying it. Second, the company improved its performance along the lines of the measurement. Drawing attention to the subject led to improvement without further comment from you.
You can probably also recall instances in your career when someone asked you to report regularly on a subject. Do you remember how much more attention you placed on improving your performance in this area?
More and more public company boards ask management to provide an annual update on the company's investor relations activities. Usually, these briefings go into the scope of efforts and the nature of the disclosure policies being practiced. How shareholder interest raises or lowers your stock price is seldom examined, even though guarding the interests of shareholders stands as the central purpose of the board. Board members are often surprised to learn that management knows little about the reasons why specific institutional investors buy, hold, sell, or ignore their shares.
At the same time, chief executive officers are virtually unanimous in reporting that their stocks are undervalued. In many cases, CEOs are right in these judgments. In private, they often report discomfort about knowing how effective their investor relations efforts are, and some see the undervaluation as a sign of investor relations weaknesses. On the other hand, if investor relations efforts are to be improved, CEOs are not sure what they need.
Investor relations executives often have clear ideas about where they need more resources, such as senior management time, funding for new programs, and staff support. How does one act as a responsible executive to justify these resource allocations and to measure their effectiveness? Many investor relations executives report that having a portfolio manager tell their CEO that the institution's investment in the company had occurred in part because of superb investor relations support was the watershed event in creating credibility and making additional resources available. Investor relations executives are often at a loss to quantify what stock-price benefits these investments will offer.
How should a board expect the company's management to measure and report to the board about investor relations activities?
A broad group of executives affects stock price (usually including at least the CEO, CFO, head of investor relations, and those involved in making major operating decisions). The effectiveness of all of these executives needs to be measured in understanding how investor relations are being conducted.
Tasks and Problems
Many companies have never defined the purpose and role of investor relations. To help you have an appropriate perspective, investor relations tasks and typical problems are summarized below in the order that the author has found to be most valuable and important to the typical public company:
1. Educating management and employees about how their decisions affect stock price. The most common error in this regard is to do no education. The second most common error is to assume that improving discounted cash flow values is all that matters. Both approaches reflect a fundamental misunderstanding of how company efforts influence stock price in the near and longer terms. You will attract investors (who will act in ways that will raise your multiple) by outperforming comparable companies where you can in areas that investors care about, and making investors aware of how this will be sustained in the future.
2. Attracting the mix of shareholders who will provide the highest sustained price for the company's shares. For most companies, the question of shareholder mix is ignored. For others, they only consider the split between individual and institutional investors. CEOs typically feel that their job is to influence those institutional investors whom the sell-side analysts bring to their doors. Some companies are involved in an activity called "targeting" of desired investors, an activity that has the drawback of having no meaningful measure of the resulting effectiveness in changing stock price. These investor relations executives will only tell you how many shares were bought by people they called on. That is like measuring the sales force by how much business comes from people they visit, rather than the profitability of the business they sell.
Some executives mistakenly believe that attracting long-term holders solves all problems, ignoring the fact that most companies with primarily long-term holders have quite low multiples, as institutions shun the illiquidity of their shares, causing their trading volume to dry up faster than their float shrinks. Analytical coverage and investor interest die.
3. Helping design stock-price-improvement programs for the company. Managements normally optimize the operating direction of the company in the near term and discounted cash flow in the long term with little attention paid to the stock-price impacts. Often, changes with no operational impact whatsoever can have huge stock-price results. Ignorance is not bliss when that is the case. At the same time, many companies have no idea what their five best choices are for sustained stock-price improvement. They have a good handle on meeting the budget and plan, and feel that this is what their primary task is. Compensation systems often send this signal. Investors, on the other hand, care greatly about how and where you invest and grow the company.
4. Sharing and interpreting feedback from the investment community to management. Active listening, by asking questions and probing for the meaning of questions that are received, is a critical element of understanding what stock-price issues the company faces. Many companies see their job as telling their own story but place little emphasis on listening to and understanding what investors have on their minds.
5. Determining what the right resource level is for the activity and how to allocate those resources for best results. In our age of reengineering and reduced overhead levels, investor relations staffing is often cut back to the bone. In the absence of understanding how these activities affect stock price, cutbacks can be a perverse example of saving a few dollars while costing shareholders hundreds of millions. Where the effectiveness of investor relations is measured, companies usually find that they need to reallocate their expenses in much different ways -- and proper allocations of increased resources can be the highest return-to-shareholder activities in the company.
6. Disseminating information about the company to the investment community. This activity is the one that everyone traditionally associates with investor relations. Companies usually fail to understand how what information they share about the future will affect their stock price in good times and bad. Other companies will fail to take the time to develop policies to reflect what they want to accomplish, and make foolish errors like acting inconsistently with investors and even going so far as to contradict each other in separate meetings with the same person.
7. Reducing risk of shareholder lawsuits and regulatory proceedings. Interestingly, this area is one that the board often cares about, probably because it is so visible and painful when problems occur. Because it is the least valuable part of the role does not mean that it is unimportant. Shareholders are well served by companies that avoid these problems by having disclosure policies, being consistent in how they communicate, ensuring that investors have a good understanding of the risks that the company faces, and promptly disclosing material events that occur. Avoiding these problems also means that stock price will be higher in the long run, and management and the board can spend their time on far more productive areas than legal proceedings.
Directors need now concern themselves with determining how to do the measurements for the seven investor relations' roles. That is a task for specialists with a good track record of stock-price improvement planning. Directors should instead concern themselves that these measurements are being made, and that their results are being examined on a regular basis by management and the board.
In his recent book Post-Capitalist Society, Dr. Peter F. Drucker predicts that "within the next 20 years we are going to develop...a 'business audit.' It will track the performance of a company and its management against a strategic plan and specific objectives...[T]he business audit will enable the trustees of capital, the institutional investors, to act as responsible owners..." These measurements of investor relations are going to go a long way toward meeting the purpose that Dr. Drucker envisions. In fact, these measurements have an advantage in creating flexibility to focus on shifting issues because they are much less restrictive to management than a full business audit against a preset multiple-year plan. These measurements can probably replace the need for the eventual business audit process that Dr. Drucker envisions.
Key Measurements
What, then, are the measurements that will ensure that the public shareholders are being well served, something that all directors care about? Since your company will probably not be able to work on all of these measurements simultaneously at once, I have put them in the order that will provide the most value to the shareholders in the shortest amount of time.
1. A profile of the factors that have attracted the shareholders to the stock, what their expectations are, and what will cause them to sell. Institutional shareholders are quite willing to share this information. You have only to ask them. Individual shareholders can be polled through surveys to locate what a sample group thinks. This questioning can be done openly by company executives or more objectively on an anonymously sponsored basis including measurements of comparable companies.
2. A profile of what must change in order to attract new shareholders who will expand the valuation of the company in an on-going way while continuing to serve existing shareholders. Some change areas may be certain types of improved business performance, while others may include educating potential investors about the company. Interviews with potential investors your company would like to add, looking at parallel case histories, and examining how the company's stock has traded in the past relative to investor preferences will answer the question.
3. A survey profile of what executives and employees understand about improving on-going stock price, and what they are doing differently to make that possible. Generally, the best way to do this is to have a permanent effort that simplifies, amplifies, and focuses on words and concepts that are well understood by everyone in the company. Beware of educating people about exotic brands of new ways to measure business and company performance. These hybrid measures can seriously delay progress by confusing everyone. One output of this measurement should be a specific management plan to improve stock price that reflects what concerns current and potential shareholders in the first two profiles above.
4. A continuing measurement of how the stock price has tracked compared to its historical price correlation pattern. Each stock displays a unique pricing pattern that reflects the dominant investment disciplines of those investors who do most of the trading. You can use statistical techniques, validated through interviews with investors about their decision methods, to determine what these unique pricing patterns are. A company that is improving its performance along the lines of measures in the correlation, or is trading above the correlation, is certainly serving its shareholders well. Knowing how your company is doing along this measure is the acid test of investor relations effectiveness. An effective measure of whether the shareholder mix has been improved is whether the stock trades above its historical pricing pattern as identified in the verified correlation. Dozens of major companies have begun using this pricing information this way during the last six years. This information is especially inexpensive to obtain and maintain.
5. A benchmark of the investor relations policies and practices of the company against those companies that are most successful in avoiding litigation and regulatory proceedings. This work can easily be done by interviewing executives at companies that have avoided or reduced these problems to see what they do differently.
Directors often ask me how often these measurements should be taken. The fourth measurement determines the answer, so you will want to see those results at least twice a year. When a problem of stock-price underperformance occurs, more frequency helps. When trends are positive, an annual update on the other four areas is adequate. When trends are not what the board wants them to be, you will want to increase the frequency until meaningful progress occurs.
The Main Effect
The main effect of having these measures is that management will be working much smarter and harder on the problem of improving on-going stock price than they would otherwise because they will know you will be examining the results. By asking for the measurements, you will probably achieve a good result by focusing management attention in an intelligent way on how well it is serving its shareholder constituency. By putting attention on these highly leveraged sources of information, everyone will know what they have to do to improve, which will, in turn, lead to taking action to make the improvements.
You will have become a more effective director, as a result, and will achieve that wonderful sense of satisfaction and well-being that follows having created lasting benefits for the company and its shareholders by shifting attention to these very valuable measurements.
Reprinted from Directors & Boards (R) magazine, Fall 1994
©IDD Inc. ~ 2 World Trade Center ~ New York, NY 10048
(212) 227-1200
© 1997 Mitchell and Company | E-mail | Legal
© 1997 Developed by Interactive Media Advertising Group, Inc.
