Stock drives business Or Business drives stock?

As stock markets reach dizzying heights in the absence of any fundamental change in business outlook, we increasingly see promoters employ various creative means to support or help prop up their company’s share price. While there is no harm in wanting to see the company stock reach new highs and create shareholder wealth, what is worrying is that promoters seem to be more focused on the stock’s performance rather than the business performance. Probably they miss the fundamental point that stock performance is an outcome of business performance and not vice versa. As long-term investors, we look at promoters’ undue focus on stock price as a warning signal that something is amiss. We discuss some such signals below.

When businesses are run out of analyst conferences: We increasingly see CXOs spend significant part of their important time hopping from one broker conference to the other, meeting buy side analysts. While we appreciate that Promoters/Senior Management take out time to meet and update their investors about their business in addition to the four quarterly calls that they already conduct, what puzzles us is the high frequency at which some of them do so. While there are a ton of such examples that we can think of, we particularly remember the CFO of a mid-sized EPC company whom we have not missed in a single conference in the last three years. They spend so much of their time away from their business that we sometimes wonder who is running the business.

When the product being advertised is the STOCK: We increasingly come across companies that advertise their products heavily only on business news channels, or put full page ads on business newspapers. What worries us is the fact that more often than not, the target customers for these products have no overlap with subscribers of these channels or newspapers. It seems their marketing efforts are targeted towards the investor community rather than the consumers of their product.

When promoters become analysts: The analyst community must thank some Promoters who have made their jobs easier. Not only are they giving guidance on their Company financials, they have now resorted to giving guidance on where their stock prices should be. In the last couple of years, we have encountered numerous examples including CEO of an infrastructure conglomerate, CEO of a large PSU bank, CEO of a large Pharma company, publicly saying that their stock prices ought to be much higher. Companies freely share sell side research reports with the highest target prices, with their investors.

When bad results are window dressed: While it is ordinary for bad results to be justified by management due to one-off extraordinary events, good results typically stand on their own feet with no extraordinary one-offs. We recall how a recently listed company changed its quarterly results commentary from quarterly to nine-monthly just because it had a bad quarter. To pander to analysts’ expectations, managements forget that it is normal to have temporary setbacks in any business.

When promoters buying stock means something else: While promoters buying their stock demonstrates their confidence in their business, we have often seen it as an attempt to prop up their falling stock price and/or take it to new heights. There are countless examples of companies going belly up after promoters bought their own stock. We recently met a Promoter of a pharma company who in a span of an hour mentioned more than a dozen times the fact that he is aggressively buying his company’s stock. He gave creeping acquisition a whole new meaning by advertising extensively about it.

While these signals are by no means full-proof indicators of something wrong with the company, they definitely require investors to do even more diligence on the company before making an investment.

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