Does the company have a suitable organizational structure and management depth?

An organization's culture is the personality of a company just like individuals have personalities.

An organization's culture is the personality of a company just like individuals have personalities.

What is organizational culture?

An organization's culture is the personality of a company just like individuals have personalities. There are so many stories about great companies such as American Express, which has an outstanding culture ensuring that not just customers but also employees are taken care of. The same way Tata group. The way they take care of the customers, employees, suppliers, and society, in general, is noteworthy.

How do we understand the culture of an organization?

Investors must talk to existing and former employees of the organization. If a former employee is praising the culture of a company, it is a positive sign. We must also reach out to suppliers and customers. This will help us understand whether the company is taking care of its customers and paying to suppliers on time. A company that ensures the interest of everyone including employees, suppliers, customers, and shareholders, has proven to be a great value creator.

Management depth

There are small companies that are growing very well. The reason behind that is a great leader or a promoter. This promoter is often well respected within the company as well as outside the company. To make business success sustainable there should be succession planning that looks beyond the leader or the promoter of the company.

A company must have sound succession planning. This is an issue often seen across Indian companies because they are run by promoter families. The next generation may or may not be suitable to run the business. The next generation must be given appropriate experience across different dimensions of the business. They must be placed in different departments so that they get the right exposure and understand how the real work is done. The promoter family must also realize if the next generation is not suitable to run the business, external professionals must be hired to run the show.

Do the owners have enough skin in the game

The objective behind skin in the game is whether there is a potential alignment of interest between majority and minority shareholders. In the case of listed companies, we can often see that usually promoters have a high stake in the company and that’s a good sign. This will ensure that promoters are committed to the well-being and growth of the company. Investors must pay particular attention to where there is a high pledging of that stake. It’s not a good sign if a high percentage of the stake is pledged.

Disclaimers

• Investment in securities market are subject to market risks. Read all the related documents carefully before investing.

• The securities quoted are for illustration only and are not recommendatory.

• Registration granted by SEBI, membership of BASL (in case of IAs) and certification from NISM in no way guarantee performance of the intermediary or provide any assurance of returns to investors.

Details of the advisor

• Advisor: Ankur Kapur

• SEBI RIA No.: INA100001406

• BASL Member ID: BASL1337

Does the company have a rational capital allocation policy?

What is capital allocation? In simple terms, it is how intelligently capital is invested. When a promoter starts there is a certain capital that needs to be allocated and once that allocation is done, the business starts to earn a return on that capital. In the case of a business that is growing at a decent rate with a high return on capital, it will generate a lot of cash flow.

Capital allocation is the single most important item a company has to focus

As the company is generating more and more cash flow it is the responsibility of the management to make use of that cash flow. Capital allocation decision is all about how that cash flow is being used.

Repaying debt

A company that has a lot of debt, as the cash flow increases this company should ideally reduce the level of borrowing. Look at companies that are continuously reducing their borrowing.

Reinvestment back in the business

A company may also use cash flows to set up a new plant, get into a new business, or get into a new geography, or product. The management must ensure that the returns with any new activity increase and so does the cash flow.

Make acquisitions

A company has the option to acquire another company and use the excess cash. Often acquisition is not a value-creating opportunity. Rather these acquisitions are used by the management to increase their power.

Hold cash in the balance sheet

A lot of companies that generated decent cash flows in the year 2020 did not give away the cash. The reason was the uncertain business environment. It is alright for a company to hold cash for some time, but it is not okay if the cash held is for the long term. Any cash kept on the balance sheet reduces the return.

Pay dividend

A company can decide to give away the cash flow in the form of a dividend. Do not assume the company that pays a dividend is good. If a company can use cash flows and deploy them back into the business and generate a higher return and thus a higher cash flow, that is better. However, if the company does not see opportunities, it is fine to distribute dividends.

Buyback

A company may decide to reduce its public equity by buying its shares from the market. Do not assume that companies buying their shares are great companies. If the management is not smart, they may buy when the share price is high, and this creates a suboptimal return for the existing shareholders.

Disclaimers

• Investment in securities market are subject to market risks. Read all the related documents carefully before investing.

• The securities quoted are for illustration only and are not recommendatory.

• Registration granted by SEBI, membership of BASL (in case of IAs) and certification from NISM in no way guarantee performance of the intermediary or provide any assurance of returns to investors.

Details of the advisor

• Advisor: Ankur Kapur

• SEBI RIA No.: INA100001406

• BASL Member ID: BASL1337

Is the management high on integrity and transparency?

You don't want to be caught in a 'Satyam' situation. Management's integrity is the key to minority shareholders' success.

Board room has a vital role in company's success

It is tough to gauge the management's integrity but here is a snapshot of what to look for. I took this from Motilal Oswal Checklist Report and felt that it showcases in a simple way most of what to expect from the management.

On transparency, I prefer management that accepts the lack of performance and is ready to take responsibility. A quarterly call on which you hear self praises should raise your eyebrows.

Disclaimers

• Investment in securities market are subject to market risks. Read all the related documents carefully before investing.

• The securities quoted are for illustration only and are not recommendatory.

• Registration granted by SEBI, membership of BASL (in case of IAs) and certification from NISM in no way guarantee performance of the intermediary or provide any assurance of returns to investors.

Details of the advisor

• Advisor: Ankur Kapur

• SEBI RIA No.: INA100001406

• BASL Member ID: BASL1337