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What Investors Should Look for in Great CEOs

By Brian Feroldi - Aug 23, 2018 at 9:02AM

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Here are four traits individual investors can look for when evaluating a company's CEO.

Few factors impact a business's long-term performance more than the decisions made by its CEO. Leaders who allocate capital effectively, attract and retain top talent, and consistently work to extend their company's competitive advantage tend to create strong businesses and drive them forward -- which often leads to great returns for shareholders.

But how can individual investors judge whether a company has a great leader at the helm? While there's no simple answer to this question, investors can examine several factors to determine whether the individual that occupies the corner office is the right person for the job. Let's take a closer look at four of them.

A pyramid made of 10 blocks with symbols of people on them, and the highest block is red

Image source: Getty Images.

1. Do they have skin in the game?

The phrase "skin in the game" has been popularized in recent years by Nassim Taleb. The idea is that individual investors should want a CEO's incentives to be aligned with their own. One way to ensure that they are is to look for executives who have a significant amount of their own net worth tied up in the company's stock. That way they experience the upside and downside of their decisions in the same way that investors do. 

The easiest way to determine how much stock is held by the CEO is to look at SEC filings. Investors should pull up the company's most recent proxy statement and search it for the word "ownership." There you'll find a table that displays the how much company stock is held by the company's CEO, directors, and executive officers. 

If a CEO owns a substantial amount of the company's stock -- either as a percentage of the entire business or in terms of pure dollars --  then the odds are good that they'll make decisions that drive strong returns for shareholders.

2. They communicate a clear vision for the business

One of the CEO's most important jobs is to clearly communicate the company's strategy and long-term objectives with its employees, customers, and shareholders. One way to determine if they excel at this task is by looking at the company's mission statement. Is the language used simple, clear, and inspiring? Does it provide a clear vision for where they want the company to go and have an achievable plan to get there? Or do you get the sense that it is filled with corporate nonsense?

It can also be useful to listen to the company's quarterly conference calls (or read a transcript), read through the annual report, and search the internet for interviews. Using these resources can help you get a better sense of whether the CEO truly cares about fulfilling the company's mission or if they are just marking time to collect a big paycheck.

3. Do they foster a great work environment? 

Strong businesses are typically successful at attracting and retaining great employees. That's why individual investors care about whether a company has an attractive corporate culture. If the company has a reputation for being a wonderful place to work, then hiring and retaining excellent people becomes effortless. On the other hand, if a company is known as a rotten employer, then great employees will want to abandon ship as soon as they can. 

Websites such as Glassdoor, InHerSight, LinkedIn, and Comparably can be useful in figuring out what it is actually like to work at a particular company. These sites make it easy for current and former employees to share their experiences and opinions of a business's day-to-day operations and leadership. If the company and CEO get high ratings, the odds are good that the company has a fantastic culture. If their ratings are low (or declining), then the company may struggle to hang on to great people.

4. They have a track record of success

Great leaders usually leave an impressive track record in their wake. If they've been on the job for a while, ask yourself questions like:

  • Has the stock beaten the market or lagged it considerably under the CEO's watch?  
  • What actions have they taken in recent years to widen the company's economic moat?
  • How does the CEO allocate capital (do they pay dividends, buy back stock, repay debt, or make acquisitions)?
  • Does the business have high returns on capital (return on equity, return on invested capital, return on assets)?
  • Has there been a lot of turnover in the executive ranks?

If a CEO is new to the job, check out their biography and work history to see what other positions they've held. Have they worked at other successful companies in the past? Have they been in the industry for a long time? Questions like these can go a long way toward building your confidence that the current leader is the right person for the job.

Examples of great leaders today

Most investors are familiar with high-profile CEOs like Jeff Bezos at Amazon.com and Warren Buffett at Berkshire Hathaway, but there are scores of lesser-known leaders at other great companies. For example, Brian Halligan, the founder and CEO of HubSpot, might not be a well-known name, but he gets glowing reviews from employees on Glassdoor and HubSpot stock has crushed the market under his watchful eye. The same is true of Shantanu Narayen of Adobe Systems, Mark Parker from Nike, Victoria Holt of Proto Labs, and Scott Scherr from Ultimate Software Group

It turns out that there are great leaders all over the place once you know what to look for.

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