OLD ARTICLE – Original posted on June 21, 2018
A traditional view wants a listed company to have their management as large shareholders. This gives them skin in the game, aligns them to shareholders and incentivizes them to succeed. All perfectly good reasons.
But, this did not prevent Steinhoff from happening. If anything, this was perhaps how Steinhoff happened… There is a range of JSE-listed companies out there where management have large shareholdings, yet they have underperformed for years.
Well, I am going to run through some reasons to watch out for, but what I am saying is that shareholder rights of insiders or the need to align insider incentives can and has been abused many times over the years.
The first abuse is when management and Boards use this traditional view to hand themselves large piles of cheap share options. Often these come with relaxed vesting periods, easy to achieve performance targets and little other encumbrances to unlocking the value for themselves. These schemes do less to incentive and align insiders and more just to purely compensate them. Avoid these types of Boards.
The second abuse is when management and Boards use their large shareholding to secure their tenure in the company. From this position of power, they then extract shareholder funds in the form of large salaries and bonuses (and, yes, share options or schemes). It is worth noting that insiders get 100% of the upside of their remuneration, but they share the profits and the downside with shareholders. Avoid these poisonous, asymmetrical relationships by self-enriching Boards as they almost always end in disappointment for outside shareholders.
The final abuse of management ownership is by either blocking, changing and/or seeking corporate actions that benefit the management more than they benefit other shareholders. What I mean is either related party transactions or blocking value unlocking takeovers (where management would be fired thereafter, thus they secure their tenure by defeating the takeover but screwing shareholders). It can even be by driving an acquisition that they derive some hidden benefit from (maybe it is an offshore one and they just want an excuse to live offshore, or they are buying a poison pill or something else) and they push through due to their shareholder clout. These companies will never go anywhere and you should just avoid them. All of these turn the traditional views of management shareholding as a positive into a terrible negative that detracts from a listed company. Now, I am not saying that all management shareholding is a negative. In most instances, I would count it as a large positive. But, there are the above instances that do happen and I would be aware of these potential abuses.