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Executive Background

As Jerry Seinfeld said so many times that he just about made a career of it, "Who are these people?" As a part-owner, or prospective part-owner, of a business, members of management are the folks to whom we entrust the management of our money -- hopefully, for years. While it may not be as monumental as handing over a child's hand in marriage, it's still pretty darn important, and who would want to give that kind of responsibility to a stranger?

With this in mind, an investor's first trip should be right to a company's annual report and proxy statement -- known, in SEC-filing-ese, as the "10-K" and "14-A," respectively -- for basic information. These should, at the very least, include the name, title, recent history at the company, and outside directorships, if any, as well as compensation information, for a company's executive officers and board members.

Those reports may also hold information on an executive's employment history before joining the company. If not, corporate media or investor relations departments generally have prepared bios available, at least for top managers. (They may even be posted online.) Some, but not all, may even make resumes available to inquisitive investors.

Of course, bios and resumes are, in the end, marketing materials -- I, for example, lied about my high school diploma to get hired here -- and investors should, at the very least, consider a Web search using Google, Northern Light, or a similar website, for more information from outside sources.

News archives, such as that of CNet's News.com, and industry-specific news sites and publications, may also be useful. The glossy business magazines frequently run in-depth profiles of corporate managers: Forbes' website has a "people search" and "tracker" to keep you abreast of news and developments involving business' movers and shakers. And a visit to a few corporate discussion boards to ask questions and collect impressions can't hurt.

It's worthwhile to look beyond the chairman and CEO. Does your company have a succession plan in place? Who would step in if the CEO's train ran off the tracks? Is there, for lack of a better word, "depth" in the ranks?

OK, now what?
What do you do once you've gathered up all this biographical information? And how much is enough? The answers to those questions are up to you, but at the very least it's good to get a sense of managers' background with their current company, employment, and educational history. You may find out your CEO successfully pulled a company out of bankruptcy (not bad!), or perhaps sent a dot-com into one (not so good).

Maybe they've only managed small companies and could be poorly prepared for rapid growth. Maybe they've been in place for 35 years and are looking forward to more golf next summer. Or perhaps they have a sterling track record at every stop: Some money managers follow favorite managers faithfully from company to company, trusting in their time-tested ability to run companies effectively. 

Conversely, you may uncover rampant job-hopping, past or current criminal or fraudulent activities and entanglements, tussles with regulators for bad accounting practices or aggressive revenue recognition policies, UFO fixations, conflicts on the board of directors, or remarkable humanitarian tendencies.

So does any of this translate into clear buy/sell/hold instructions?

Well, it might. The Rule Breaker team, for example, saw lots to like about Belgian speech recognition technology company Lernout & Hauspie but eventually passed on it as an investment because of questions about the background of one its top folks -- including one who had steered a company the portfolio once sold short. That call paid off, as Lernout & Hauspie has since filed for bankruptcy.

On the other hand, some situations that seem to wave red flags may in fact reveal checkered flags just around the bend. Travel and real estate services company Cendant(NYSE: CD) was one of the late 1990s' highest-profile blowups (scroll down for story), as the company's market value was decimated by news of sketchy audits and accounting. But Henry Silverman -- who was CEO of HFS Inc. when that company merged with CUC International to form Cendant in 1997 -- stuck with his ship, and is now the chairman and CEO of a recovering operation that, while perhaps not a Wall Street darling, has nevertheless returned to health and investor favor.

Unfortunately, even a seemingly intensive "background check" may not protect you from fraud or other criminal -- or, at least, underhanded -- activity. Many accounting shenanigans, for example, are invisible to all but the eyes of skilled accountants. As a result, some investors may choose to try to hedge against this by sticking to companies with long traditions of performance and executives who are known quantities -- though even that strategy can miss.   

In stock investing, the total elimination of risk simply isn't possible. Investing is, however, about understanding risk and the degree to which you're willing to accept it. Investigating the background of a company's top management is just one more way to stay on top of important risk factors, rather than be blindsided by them.

Next: Capital Allocation »

Dave Marino-Nachison's (TMF Braden) stock holdings can be viewed online. The Motley Fool has a full disclosure policy.


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