Deciding on the quality of a company’s management is highly subjective and can be difficult to assess. However, by considering management strengths and weaknesses to be a key factor in deciding which companies to buy and sell, a Foolish investor may be able to improve their investment returns in the long run.
In essence, a company’s management team takes all of the ingredients available to a business, and turns them into a finished product. In other words, the assets which a company has in terms of property, plant and equipment, its customer loyalty and financial capabilities are used to create a strategy through which to deliver improving profitability.
In terms of an analogy, a company’s management team could be viewed as a ‘cook’ which is seeking to put all of the elements together (and in the right quantity) in order to create a great-tasting (or highly profitable) end product. Therefore, a company may have top quality assets and goodwill available to it, but its end performance is only likely to be as good as its management team and their strategy.
Making an assessment
Of course, assessing the quality of a company’s management team is not straightforward. There is no clear-cut measure of analysing how strong a company’s management could prove to be.
While their track record has some use, the reality is that some management teams can enjoy rather mixed success during their careers. Success at one company in one sector in the past does not guarantee the results will be replicated elsewhere in future. Changing market conditions, changing tastes, or even pure luck can cause major differences in performance in different circumstances.
However, one means of assessing the strength of a management team is to consider their current strategy. This can easily be done by any investor, since annual reports go to great lengths in most cases to communicate exactly how a management team will seek to go about improving the performance of the business they run.
Measuring management appeal
A company’s strategy should offer a mix of components. It should first and foremost be focused on how sales growth will be achieved given current market conditions. This can include areas where innovation and change can take place, as well as how existing practices can be leveraged in order to provide greater profitability in future.
As well as sales growth, a sound strategy generally seeks to keep costs down and even generate efficiencies. While this may be seen as a given, any company can reduce costs to at least some extent. Given the uncertain outlook for the global economy, a management team which has a clear plan to reduce costs could prove to be successful. In addition, an ability to grow sales without increasing leverage could be seen as evidence that management is focused on risk as well as potential rewards.
While assessing the quality of a company’s management team is never easy, focusing on their strategy given current market conditions can be a sound means of gaining insight into the possible future performance of a business. As such, it could help to improve total returns for long-term investors.
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