The corporate world has long justified multimillion dollar
salaries for executives as fair compensation for talent. But Albert
Meyer, Portfolio Manager of
Mirzam Capital Appreciation Fund
(MIRZX), says executive stock options programs harm investors and
even border on fraud. His fund invests in stable companies that
largely eschew stock options for executives. The strategy has led
the fund to the top 9 percent of its category and garnered it a
five-star rating from Morningstar. Meyer spoke to us about how
investors can steer clear of corporate fat cats while booking fat
Please explain your investing strategy.
We outperform the market by investing in companies with no stock
options programs or very modest options grants. However, the
process doesn't start with evaluating compensation or corporate
governance, but by screening companies on a number of metrics
including price-to-earnings ratio.
When we find a promising company, we do an abbreviated financial
analysis. Then we look at the proxy statement and examine how
management is compensated. If it takes 40 pages to explain why the
CEO needs to earn $20 million a year, we'll move on.
The next step is to study the company's 10-Ks and 10-Qs. We
study the business model, the industry and competitors, and analyze
10 years of financial statements and five years of quarterly
results. If you do your homework up front, you can find companies
to buy. And if a company's worth buying, its worth holding. That's
why our turnover is so low, about 2 percent.
One example of a company this strategy led us to is
Southern Copper Corp
). Copper is often in the news but Southern Copper is rarely
mentioned, even though it's a $30 billion company. It's the world's
fourth-largest copper producer and holds the world's second-largest
copper reserve. The CEO's basic compensation for the past three
years fluctuated between $450,000 and $495,000, with cash bonuses
of $2.3 million. On average he earned about $1.3 million each
What's wrong with stock-based compensation?
Show me a company with a stock option overhang of 20 percent,
and I'll show you a company that has brought nothing but pain for
investors and huge windfalls for management. The option overhang is
calculated by dividing the options outstanding by the number of
shares outstanding. By conventional wisdom a 20 percent overhang
should indicate a favorable alignment of management and shareholder
interest, but nothing could be further from the truth.
Cisco Systems' (
) CEO John Chambers took out $127 million dollars in option gains
this year from February to May, but Cisco's stock is down 15
percent. Option-laden companies are plagued by insider sales, and
while executives receive huge option grants, their ownership
interest rarely increases. John Chambers has a smaller interest in
Cisco today than he had 10 years ago, yet he's received millions of
It's an alignment of interests only in theory. In practice it's
just a massive wealth transfer scheme from shareholders to
Would you invest in a company with a CEO that makes over
We look at each company on its merit. Our portfolio is full of
large-cap companies that dominate their markets. But it's true that
the average CEO compensation of our portfolio holdings probably
isn't much higher than $5 million. But we don't have a rigid cap.
Johnson & Johnson
), which has an option overhang of close to 5 percent and a CEO who
earns about $15 million a year. We don't mind if a CEO is paid a
salary of $20 million. We care about how they're being
Should Oracle (
) CEO Larry Ellison be rewarded with $1.8 billion in stock options
gains over the past 10 years, while Oracle shareholders have seen a
1.3 percent negative return without dividends? John Chambers has
taken more than $50 million per year in stock option gains for the
past 10 years but Cisco shareholders have lost about 8.4 percent
ExxonMobile Corp's (
) CEO receives about $20 million per year. Meanwhile, Norwegian
(STO) pays its CEO about $900,000 in cash only; the Norwegian
government says stock options are akin to criminal activity. Yet
Statoil has been a public company for nine years and has given
shareholders a 19.2 percent per annum return. Exxon has returned
8.4 percent per year.
Here's one more example that will demonstrate the idiocy of
options. At the time that Bank of America Corp (BAC) acquired
Countrywide Financial Corp in July 2008, Countrywide CEO Angelo
Mozilo had picked up $400 million in stock option gains over
several years. That money didn't come from Countrywide's cash
coffers because the company had negative cash from operations. That
money came from middle class Americans who got conned into
investing in Countrywide, probably through index funds. Stock
option programs facilitated an unconscionable wealth transfer of
$400 million to one individual's bank account.
To borrow a phrase from Winston Churchill, never has so much
been taken from so many and given to so few. Option programs are
insider trading, front running and stock watering exercises. They
should be illegal.
So where does this leave the individual
That's why I formed the fund. We back-tested the top 24 stocks
in our portfolio and found that they gave you an 18.1 percent per
annum return over the past 10 years. It wasn't a lost decade at
The companies we own have very few insider sales because there
are very few options or no options. These are companies in which
you can invest with confidence.
Consider Monsanto (MON) and
(SYT). Monsanto is a US company in the seed and insecticide
business that uses stock options by the truckload. Syngenta
is a Swiss company in the same business. We'll take Syngenta every
day; not only has its stock outperformed shares of Monsanto, but we
also feel safer about its management and compensation.
That said, we won't buy a company just because it pays peanuts
How can you identify competent management?
If management can deliver good returns with modest compensation,
then you know they have integrity.
(BKE) is a Nebraska-based retailer that stopped its options program
in 2000. The company culture is to promote from within; the CEO
worked for the company as a student and stayed on when he
graduated. Through the years he's built an ownership interest of
6.6 percent in after-tax earnings.
The Buckle is a good example of honest people at the helm with
modest salaries. If you take The Buckle's charts and compare them
against Abercrombie & Fitch (ANF) and The Gap (GPS), it's a
much better investment over five to 10 years.
Why do you hold so many overseas companies?
We have no preference for foreign or domestic companies. We
merely try to find great companies and then weed out those that
abuse options to the detriment of shareholders. We've found some
really great global companies that fit the bill, but not as many US
companies. We hold a number of Canadian companies, which have some
of the same characteristics as US companies because they're so tied
to our economy. But Canadian firms have a far better perspective on
You're overweight in industrial materials. Could this be
a problem if the global economic recovery falters?
We are a little overweight in industrial materials, but that's
(TS) is an Argentine-owned company based in Luxembourg that makes
steel pipes for oil and natural gas drillers. It's classified as an
industrial materials firm, but it's really a play on the move from
onshore drilling to deepwater drilling and the growth of natural
gas drilling. It produces highly specialized materials that are in
huge demand and controls about 35 percent of the market. The CEO's
salary is $660,000 in cash, and the stock has outperformed Google
(GOOG) over the long term.
Titanium Metals Corp
(TIE) is a play on the growing airline industry in Asia and
increased military spending to modernize air forces.
Southern Copper, which I mentioned earlier, will benefit from
the expansion of power plants in China and India. Chinese
generating capacity increased 19 percent last year. The only way to
bring that capacity to the people is through the power grid, which
means more power lines.
If you take out those special situations then our weighting in
industrial materials is manageable. But obviously if the world goes
into a double-dip recession, there'll be no place to hide.
What advice can you offer individual investors?
Look at a mutual fund's top holdings and examine insider sales
at these companies. Large amounts of insider sales indicate
aggressive stock options programs. Small investors should probably
avoid funds with high turnover ratios. Buy and hold is supposed to
be out of fashion. But people who don't like buy and hold aren't
very good stock pickers. If you're a good stock picker, you want to
hold what you bought.
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