Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 267

Five actions to watch in management share buying

There are many possible reasons to sell a stock, but a good reason to consider buying is when directors and management are investing their own cash into their company. Management alignment is core to the NAOS investment beliefs, backing people who are proven managers who are aligned with their shareholders. When managers are invested alongside fellow shareholders, they run their business for the benefit of all owners rather than their personal near-sighted financial gain.

Management and director buying activity is not to be confused with the issuance of ‘free’ shares as a form of compensation, but rather those instances where after-tax dollars are invested by these individuals.

What specific actions from management are we looking for?

1. Buying during earnings downgrades

A natural knee-jerk reaction to an earnings downgrade is often a sharp share price fall, followed by analysts pulling back their numbers as the underwhelming result is often assumed to be indicative of future performance. A downgrade can likely lead to not only a reduction in earnings but also a reduction of the multiple applied to a stock. Despite this, downgrades can present an opportunity if the cause of the downgrade is not systemic to the business operations. Whether it is timing related or a one-off, it is important to watch how company management reacts (or doesn’t react).

An example in our investment universe is invoice financing business Scottish Pacific (ASX:SCO). SCO was an IPO borne out of private equity combining three businesses into one. After being listed for a few months, it downgraded earnings due to integration issues caused by having all three businesses under one new roof. Over four weeks during late 2016, every SCO director bought shares on market, some buying over $1 million in multiple parcels. In particular, the CEO published four 'change of director’s interest' notices in three weeks. Since that time, a 60% total shareholder return has been generated over 18 months.

It pays to be careful where the opposite is true. If management and directors don’t buy after downgrades, there could be more pain to come.

2. Acquisitions on market

It is commonplace for an acquisition to have a cash and equity portion; this can be a great way to foster alignment with the management team who have just sold their business and partially cashed out. A lot less common, but a very powerful statement, is when the acquired management team purchases stock in the parent company on market, in addition to the shares they received for their business. It shows faith when their business is wrapped into the new entity.

A recent example was Gentrack (ASX:GTK), a dual-listed utility and airports billing software company which acquired a competitor in the UK called Junifer Systems in March 2017. The Junifer Systems management team received a blend of cash and shares and stayed on to work within the larger GTK group. Within six months, the Junifer Systems Managing Director purchased circa $2 million of GTK stock on market. That buying activity proved to be a positive signal for the realisation of revenue synergies, as the GTK share price has almost doubled.

3. Participation in rights issues

A heavily-discounted rights issue can be a sign of a company in trouble, but it could also be a chance to ‘reset’ the balance sheet or fund a big acquisition. If the market believes a company has a ‘funding hole’, a non-renounceable (non-transferable) rights issue can help mitigate a general sell-off. A rights issue can also be a great barometer for a board and management team’s long-term commitment to the business.

Take for instance TPG Telecom, a great Australian success story. TPG has two large management and director shareholders: CEO and Founder David Teoh and Robert Millner via conglomerate Washington H Soul Pattinson. During April 2017, in a $400 million rights issue needed to enter the mobile market, these two pre-committed to take up their full pro-rata entitlements by investing a combined $240 million of after-tax dollars into the business.

Other recent examples have come from founder- and family-led Australian success stories, Reliance Worldwide Corporation (ASX:RWC) and Reece Limited (ASX:REH).

All three of these businesses have delivered strong results, and the leaders are showing confidence that this will continue. Leaders who want to protect their equity position as they grow their businesses are the ones you want to back.

4. Continual buying

A cynical view on director buying is that sometimes it is done just for market optics. When a director with a minimal shareholding buys a nominal parcel, particularly after negative company news, we give this less weight than a director or manager who acts with conviction with meaningful buying.

We take notice of individuals with an existing large shareholding who are willing to buy more, especially when it is consistent and incremental. Nick Politis of AP Eagers Ltd (ASX:APE) is the master of this. In the ASX announcement records of APE, his change of director interest notices are consistent.

A small-cap business with similar traits is travel agency Helloworld Ltd (ASX:HLO). Managing Director Andrew Burnes and his Executive Director wife Cinzia Burnes own over 30% of issued capital. They do not partake in incentive programmes and pay themselves relatively modest salaries. The outcome is a pure focus on share price and dividend growth, and generating returns for shareholders.

5. Stepping up to the plate

A new CEO appointment is typically accompanied by an announcement to market with the remuneration package containing an incentive plan. It is rare for an incoming CEO or director to commit a substantial pool of capital at the time of appointment. When this does occur, what better sign than buying stock on market to ensure ‘sweat equity’?

When appointed in August 2013, GUD Holdings Ltd (ASX:GUD) CEO Jonathan Ling purchased $500,000 of stock on market within the available trading window post appointment. Five years on and his shareholding has continued to increase whilst a +160% total shareholder return has been generated.

As investors, we are buying into businesses rather than just stocks, and alignment with shareholders from the management and boards is critical. We buy into high-quality, proven management teams with ‘skin in the game’. Some of the actions we have discussed here are too rare a sight on the ASX. We would implore more company principals to demonstrate their long-term commitment by adopting some of the above behaviours.

 

Robert Miller is a Portfolio Manager at NAOS Asset Management, a specialist fund manager providing genuine, concentrated exposure to Australian listed industrial companies outside of the ASX 50, and a sponsor of Cuffelinks. This content has been prepared without taking account of the objectives, financial situation, or needs of any individual.

For more articles and papers from NAOS, please click here.

RELATED ARTICLES

6 checks on whether acquisitions create value

Three checks to make when facing earnings downgrades

What we look for on company site visits

banner

Most viewed in recent weeks

Stop treating the family home as a retirement sacred cow

The way home ownership relates to retirement income is rated a 'D', as in Distortion, Decumulation and Denial. For many, their home is their largest asset but it's least likely to be used for retirement income.

Welcome to Firstlinks Edition 433 with weekend update

There’s this story about a group of US Air Force generals in World War II who try to figure out ways to protect fighter bombers (and their crew) by examining the location of bullet holes on returning planes. Mapping the location of these holes, the generals quickly come to the conclusion that the areas with the most holes should be prioritised for additional armour.

  • 11 November 2021

Welcome to Firstlinks Edition 431 with weekend update

House prices have risen at the fastest pace for 33 years, but what actually happened in 1988, and why is 2021 different? Here's a clue: the stockmarket crashed 50% between September and November 1987. Looking ahead, where did house prices head in the following years, 1989 to 1991?

  • 28 October 2021

Why has Australia slipped down the global super ranks?

Australia appears to be slipping from the pantheon of global superstar pension systems, with a recent report placing us sixth. A review of an earlier report, which had Australia in bronze position, points to some reasons why, and what might need to happen to regain our former glory.

How to help people with retirement spending decisions

Super funds will soon be required to offer retirement income strategies for members in decumulation. With uncertain returns, uncertain timelines, and different goals, it's possibly “the hardest, nastiest problem in finance".

Tips when taking large withdrawals from super

You want to take a lump sum from your super, but what's the best way? Should it come from you or your spouse, or the pension or accumulation account. There is a welcome flexibility to select the best outcome.

Latest Updates

Investment strategies

Charlie Munger and stock picks at the Sohn Conference

The Sohn Australia Conference brings together leading fund managers to chose their highest conviction stock in a 10-minute pitch. Here are their 2021 selections with Charlie Munger's wisdom as the star feature.

Interviews

John Woods on diversification using asset allocation

All fund managers now claim to take ESG factors into account, but a multi-asset ethical fund will look quite different from a mainstream fund. Faced with low fixed income returns, alternatives have a bigger role.

SMSF strategies

Don't believe the SMSF statistics on investment allocation

The ATO's data on SMSF asset allocation is as much as 27 months out-of-date and categories such as cash and global investments are reported incorrectly. We should question the motives of some who quote the numbers.

Investment strategies

Highlights of reader tips for young investors

In this second part on the reader responses with advice to younger people, we have selected a dozen highlights, but there are so many quality contributions that a full list of comments is also attached.

Investment strategies

Four climate themes offer investors the next big thing

Climate-related companies will experience exponential growth driven by consumer demand and government action. Investors who identify the right companies will benefit from four themes which will last decades.

Investment strategies

Inflation remains transitory due to strong long-term trends

There is momentum to stop calling inflation 'transitory' but this overlooks deep-seated trends. A longer-term view will see companies like ARB, Reece, Macquarie Telecom and CSL more valuable in a decade.

Infrastructure

Infrastructure and the road to recovery

Infrastructure assets experienced varying fortunes during the pandemic, from less travel at airports to strong activity in communications. On the road to recovery, what role does infrastructure play in a portfolio?

Economy

The three prices that everyone should worry about

Among the myriad of numbers that bombard us every day, three prices matter greatly to the world economy. Recent changes in these prices help to understand the potential for a global recovery and interest rates.

Sponsors

Alliances

© 2021 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. Any general advice or ‘regulated financial advice’ under New Zealand law has been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892) and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. For more information refer to our Financial Services Guide (AU) and Financial Advice Provider Disclosure Statement (NZ). You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.

Website Development by Master Publisher.