Have you ever read a news article so outrageous that you wonder if you've stumbled across The Onion, or some other satirical news site? That keeps happening to me as I look into unbelievable stories of management behavior. We've got CEOs whose pay increases as stock prices plummet, whose businesses and families are direct competitors to the companies they run, and whose shady dealings enjoy full support from complicit or feckless boards. It beggars belief, and yet it's absolutely real. If you're a shareholder, you're the last thing on their minds. You deserve better.
Lifestyles of the rich and unscrupulous
There's a common thread through these stories: Officers in charge of running these companies – and creating value for you, the shareholder – are instead treating them as private piggybanks, thereby devastating share prices.
According to hedge fund TPG-Axon's excellent backgrounder, SandRidge Energy's (NYSE: SD) CEO and chairman, Tom Ward, has overseen an 80% decline in the company's stock price, but has enjoyed obscene compensation over the last five years nonetheless. Part of this came through SandRidge's now defunct Executive Well Participation Plan (EWPP), by which Ward could own a working interest in SandRidge wells. This nifty little benefit was lifted directly from Chesapeake Energy's (CHK +0.00%) playbook, and we all know how that turned out for deposed CEO Aubrey McClendon.
The similarities should come as no surprise, given that McClendon and Ward co-founded Chesapeake. A recent Reuters analysis observes that, at both Chesapeake and SandRidge, "the CEOs have entwined their own finances with those of the publicly traded corporations they run." Chesapeake has since made improvements, but it has a long way to go.
SandRidge rightly terminated the EWPP in 2008, although the process was another thumb in the eye to shareholders. The company bought out Ward's interest for more than $67 million right as markets were collapsing. Worse still, most of the repurchased wells were natural gas, even as the company and Ward were publicly declaring SandRidge's strategy to shift toward oil.
There's more. Ward and his family have a stake in a cattle ranch and a family trust, both of which have purchased land ahead of SandRidge, then turned around and leased the land to SandRidge. There are dozens of examples of such related-party transactions, and they cost shareholders directly.
It would normally be the job of the board of directors to prevent such conflicts of interest, but SandRidge's crew seems pretty content. Maybe that's because they're making $360,000 a year. That's $75,000 more than directors at ExxonMobil, which commands a market cap more than 140 times greater than SandRidge's. According to a recent Forbes article: "Mr. Ward presides over a sycophantic board that obsequiously bows to Caesar's commands."
TPG-Axon points out that SandRidge has the lowest credit rating and the highest equity dilution among its peers. It also has almost the highest cost of debt, and the highest overhead cost. TPG-Axon traces all of this back to chronic spending and lack of financial discipline.
SandRidge isn't the only fly in the oily punchbowl. Gulfport Energy's (GPOR +0.00%) chairman of the board is also using the company to profit from other ventures. Gulfport has repeatedly purchased land in the Utica Shale from Windsor Ohio, the operating member of which is Mike Liddell. Can you guess where Liddell serves as chairman? Ding ding ding – at Gulfport Energy! Shareholders take it on the chin because Gulfport funds the purchases with equity offerings, and the payouts on Windor's side go to the unitholders, including Liddell.
Gulfport doesn't disclose how much money will actually go to Liddell through these deals. February's 8-K filing on the latest transaction uses the most confounding language possible to describe the financial relationship between Gulfport and Windsor Ohio:
Windsor Ohio is an affiliate of Wexford Capital LP ("Wexford"). Mike Liddell, Gulfport's Chairman of the Board, is the operating member of Windsor Ohio. All distributions made by Windsor Ohio are first paid to the Wexford members in accordance with their respective ownership interests in Windsor Ohio until they have received amounts equal to their respective capital contributions. Thereafter, distributions are made 90% to the Wexford members in accordance with their respective ownership interests and 10% to Mr. Liddell.
This language leaves us to guess at Wexford members' ownership interests in Windsor Ohio, and thus precludes calculation of Liddell's take. Wexford's website is no help. The latest land purchase in February cost $220 million, so Liddell would have gotten 10% of whatever portion of that was left after Wexford members got paid. The previous sale in December cost $372 million, of which Liddell personally received $2.9 million.
Hess (HES +0.00%) has just come under scrutiny as well. Thus far, I've seen no suggestion that it's up to anything nearly as questionable as SandRidge and Gulfport, but the company has some problems with an overpaid CEO and an inexperienced and complacent board of directors. Could that explain Hess' record of inefficiency? By some estimates, its Bakken wells cost a third more than those of its peers. Hedge fund Elliott Associates figures if Hess were running a tighter ship, it could be worth up to double its current value.
Investors of the world, unite!
You may feel helpless in the face of all this, but don't despair. The hedge funds I mentioned above – TPG-Axon and Elliott Associates – are activist investors. They are seeking to replace the boards at SandRidge and Hess, respectively, and TPG-Axon is gunning for Tom Ward's ouster.
The only way such investor activism can work is if enough shareholders vote for change. If you're a shareholder, you have a vote. Most shareholders never vote their shares, and that's a problem. You should always vote your shares, no matter how small your stake, because you are a part owner of the company and its management affects you.
Another thing: Read the SEC filings for your existing or potential investments. Much of the information above was right there in the companies' 8-Ks. To be fair, in SandRidge's case some details only came to light when TPG-Axon hired a private investigator, but TPG-Axon put it all in the public domain. Research is your friend.
If you're not a shareholder in these companies, you may just breathe a sigh of relief and get as far away as possible. That's a perfectly rational strategy. If you're the betting type, though, consider that there could be huge upsides for SandRidge and Hess if the activist investors are correct. TPG-Axon and Elliott Associates both believe that the companies' share prices are deeply depressed because of poor management. If they're correct, and if they prevail in their campaigns for change, then SandRidge and Hess could see significant spikes in value. It's up to you to decide if you have the stomach for that kind of gamble!
Consider one final factor. I cited several measures of management inefficiency above, including credit rating, cost of debt, and overhead costs. One company kept popping up on the opposite – i.e. efficient – end of the spectrum. EOG Resources is doing as well on these measures as SandRidge is doing poorly. That might warrant further investigation.
