With more than 5,000 publicly traded stocks to choose from, researching a winner can feel more difficult than choosing your soul mate. Thankfully, screening tools can help cut down the list to a handful of choices based on hard financial figures like earnings growth and debt-to-equity. What should you look at once you have that handful of companies? An annual company filing usually overlooked by investors because of its lack of hard financials: the proxy statement.
The proxy statement, also known as the DEF 14A, gives you an up-close look at top management. Think of it as a first date with the board of directors. Specifically, look for:
How is management compensated and incentivized?
How much is management personally invested (insider ownership)?
What experience does the CEO have?
Who is on the board of directors?
These facts provide you with an impression of whether you should trust management with your hard-earned cash, and a long-term relationship. And because it is difficult to measure management with one simple ratio or screen, this gives you an edge over the rest of the market.
Let's take a look at Micron Technology's (NAS: MU) recently released proxy as an example.
1. How is management compensated and incentivized?
First, managers' salaries should be reasonable relative to revenues or profits. You don't want a relationship with a company that spends your money frivolously on pearls and golf outings.
Micron CEO Steven Appleton took home $950,000 in 2011 salary, but with stock and option awards and other incentives, his total compensation was $8.6 million. Micron had 2011 sales of $8.7 billion, for a ratio of salary to revenue of 0.01%, and total compensation to revenue of 0.1%. This compares to competitor Rambus (NAS: RMBS) CEO Harold Hughes earning a 2010 base salary of $480,000, which is 0.15% of Rambus' total revenue, and total compensation of $4.2 million, which is 1.3% of total revenue. Just looking for reasonableness, it seems Micron passes.
A majority of the compensation might be outside of the base salary, which is great if the other compensation aligns the CEO closer with stockholders, like stock awards. Just beware that the company is not heavily diluting shares through these large stock awards.
Along with reasonable salaries, the bonus structure should be constructed to maximize shareholders' benefit for the long term by focusing on items like revenue, cash flow, or return on equity. These metrics are better than something like earnings per share, which can be coaxed through creative accounting or stock buybacks.
In Micron's case, management's bonuses depended on meeting cash goals, low expenses, delivery requirements, shipping targets for solid-state drives, and market share goals. While it's difficult for management to focus on so many varied goals, all of them are within their control, difficult to manipulate, and focus on improving the business and shareholders' value. Micron passes this test.
2. How much is management personally invested?
Would you want a relationship with a company that didn't share your interests? Of course not. Referred to as insider ownership, this is one of Fool co-founder Tom Gardner's favorite metrics. Found under "Security Ownership of Certain Beneficial Owners and Management" or a similar heading, you can get a quick view of how much management has riding on the success of the company.
For Micron and its competitors:
NVIDIA (NAS: NVDA)
Texas Instruments (NYS: TXN)
Spansion (NYS: CODE)
Applied Materials (NAS: AMAT)
Intel (NAS: INTC)
Insider ownership higher than 5% is good, but of course it's much more difficult to own 5% of a $100 billion giant like Intel than a smaller player like $700 million Rambus. In cases like this, you can compare an executive's holdings to his annual compensation. For Micron, CEO Appleton has 4.8 million shares and rights to acquire shares, currently valued at over $27 million. This is over three years of work at his current compensation, which is a hefty personal investment that shows he holds the same interest as shareholders -- beyond just long walks on the beach.
3. What experience does the CEO have?
This is the small-talk section of the proxy statement. For Micron, Appleton has worked at the company since 1983 and has been CEO since 1994, giving him experience through many business cycles and technological revolutions. Investors can trust Appleton knows a thing or two about the semiconductor industry.
4. Who is on the board of directors?
Like a significant other's friends, the board of directors approves the company's major decisions, like distributing dividends. At Micron, there is a healthy mix of electrical engineers, CEOs, and MBAs. But there is also Lawrence Mondry, the former CEO of CompUSA, whose "retail experience is especially relevant to our Lexar and Crucial businesses." Based on CompUSA's performance after Mondry's term as CompUSA's CEO, like the liquidation of over half of CompUSA's stores, he may not provide the best retail advice to Micron.
Overall, Micron showed us a good time through its proxy. Its management is incentivized to benefit shareholders, is personally invested in the company, and has deep experience in the industry -- although Mondry may not be the best board member.
Now that you are prepared to enter the world of proxy statements to find that one special company, what better stock to use your new moves on than our pick for the top stock pick for 2012. Find out what that stock is in this free report!
At the time thisarticle was published Fool contributor Dan Newman does not own any shares of the companies mentioned above, and requires any potential soul mate to file an annual proxy statement. The Motley Fool owns shares of Texas Instruments. The Fool owns shares of and has bought calls on Intel.Motley Fool newsletter serviceshave recommended buying shares of NVIDIA and Intel, creating a bull call spread position in Intel, and writing puts in NVIDIA. Try any of our Foolish newsletter servicesfree for 30 days. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.
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