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The CEO’s dilemma

What does a CEO do when the company’s share price goes through the roof?

Although it might sound like a wonderful situation for a listed company to have a share price that is being driven beyond anyone’s wildest dreams, it can also be the stuff of nightmares. I often wonder what the CEOs of companies like Naspers, Capitec and Curro think about their current share prices. The hype caused by a rising share price means that your company is glorified in the media as a sure-fire bet and the CEO is suddenly placed on a pedestal as the newest god of capitalism. Staff who own shares rapidly become millionaires and adjust their lifestyle (and attitude) accordingly. Before you know it, everyone inside the company actually believes the hype and feel as though they’re walking on water. As we all know, overconfidence is problematic for a company and has often been the downfall of great businesses.

Rock stars of the market

It is usually a good time to be wary as an investor when a CEO is nominated as businessman of the year or his company rated as the best performing share over the five-year period. There will be a time when the company “only” grows profits at 25% instead of the anticipated 30% (as an example) and the share price tanks. Suddenly, the CEO is an idiot, the staff are disillusioned about their evaporating wealth and the press wonder if the business is on its last legs.

Think I am exaggerating? Over the last four years, this has happened to the current CEO of Apple, Tim Cook (pictured). When he took over from Steve Jobs in 2011, things went well for a while but then hit a few speed bumps and suddenly the doomsayers were forecasting the death of Apple. The range of factors causing the prospective “death” of Apple included the company’s inability to find the “Next Big Thing” and competition from Samsung. The media, shareholders and some staff turned on Cook and the share price plummeted. If his board and management had not shown great resolve and confidence in their collective vision for the company, they might have fallen prey to the negative hype. Needless to say, Apple is still around and doing notably well yet again but many other companies did not survive in similar situations.

I believe a CEO with a rocketing share price has three options – each comes with benefits and problems:

  • MARKET GUIDANCE: This should be every honest CEO’s first option in this situation. He should tell investors that the share price is not justified at current levels and that investors should exercise caution. There is the real potential that such commentary by a CEO could cause the share price to tumble but if the message is correctly portrayed, intelligent investors should understand. See the commentary from Warren Buffett below for a great example of good market guidance.
  • RIGHTS ISSUE: In 1996 Berkshire Hathaway issued new Class B shares and Warren Buffett stated that Berkshire Hathaway shares were not undervalued. He caused an uproar with this statement, something he reflected on in his 1999 Owner’s Manual for Berkshire Hathaway shareholders. “That reaction was not well-founded. Shock should have registered instead had we issued shares when our stock was undervalued. Managements that say or imply during a public offering that their stock is undervalued are usually being economical with the truth or uneconomical with their existing shareholders’ money.”
  • CEO/FOUNDER SELLS SHARES: If a CEO sells shares, is it not a subtle way of telling the market that his shares are overpriced?

In my opinion, we live in an environment where some of our greatest companies have been “punished” with share prices that far exceed their ability to generate future growth for investors. This burden of unrealistic expectations, allied to the continued rise in price of these shares, will not end well. In the aforementioned situation, I feel that a brave and honest CEO has a duty to communicate honestly with the market. Rather cause a minor scare before you have to deal with a major mess that cannot be fixed.

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