ESG QUICK TAKES

Cartica's perspective on ESG in Emerging Markets

This month Cartica shares the investor perspective on management quality. Based on interviews and ongoing dialogue with a broad range of investors, we find that top CEOs have a compelling strategic vision, are incentivized and motivated to execute, and deliberately align corporate culture with their strategic goals. 

WHAT INVESTORS ACTUALLY THINK OF YOUR CEO

(3-minute read)

Do you know what investors are looking for in senior management teams? How does your company measure up? Is your corporate culture a strength or is it lagging relative to peers?

Along with a robust business model and a strong competitive “moat,” investors look at management quality. But what does that mean? Our interviews and ongoing dialogue with a broad range of investors suggests that CEO quality can be reflected in a few areas:

1. Strategic Vision

A compelling strategic vision reflects clarity and thoughtfulness from leadership. A strong CEO can articulate in detail how the firm will capture market opportunity and maintain its competitive advantage. S/he unifies the team under this strategic vision, energizing and enabling staff around a clear future roadmap. From that point, investors will then assess if:

• Decision-making is done at the lowest appropriate level because all staff understand and agree on the direction of the strategy
• Communication is excellent internally and externally
• Capital is invested where it’s appropriate for growth
• Everyone is interested in learning and improving, including from competitors.

Long-term goals should be updated with changes in customer needs, competitive environment, regulations, cyclical dynamics, and availability of new geographies or adjacencies.

The CEO should be able to communicate the unit economics and specific drivers of success. S/he should know the firm’s financial dynamics and be obsessed with these drivers. But we investors want a communicator, not a salesman. Compelling facts and strategy should speak for themselves.

“The CEO doesn’t need to be the smartest person in the room, but he or she should be curious and an independent, critical thinker.” - Veteran EM equity investor

2. Management Incentives

The management team must be competent, incentivized to execute the strategy, and motivated to maintain a competitive edge. Investors look at monetary and social incentives to staff and ask if compensation schemes match what the person has the power to achieve. We want to see proof it is working in:

• Revenue and profit growth
• Increased free cash and improved cash conversion
• Good resource allocation for growth
• Fewer product recalls and negative headlines
• Better ESG practices and scores
• Eventually a higher stock-price multiple.

“How is revenue converted into cash? It all comes down to free cash flow/net income.” - Portfolio Manager at a large mutual fund

We want to see teams who are respectful of their competition and peers and eager to learn from them. Teams should understand risks in their business and be ahead of regulators and competitors. If the team is continually studying, the company will be able to seize unique opportunities.

“You can’t scale without managerial leverage. And you can only scale if you can trust the team to execute on the strategic vision.” - Long-time global investor

3. Corporate Culture

Cartica’s analysis of the correlation between corporate culture and financial performance shows us that culture must be aligned with strategy, strongly felt by staff, and have elements of innovation, adaptability, and agility.

Analysts mention the high importance of honesty and integrity. They want firms to meet guidance most of the time. Does the company deliver on commitments? Is the firm a talent magnet? Is it a people-first organization? Does it admit mistakes and learn from them? Can leadership make tough decisions? Are they open to advice? What do others in the market say about the company’s culture?

Corporate culture can be an effective and cost-efficient way of enforcing relevant discipline. We ask if good culture is reflected in operational excellence and financial discipline. Has there been improvement in delivery accuracy, turnaround times, new product rollouts, accident rates, carbon emissions, integration of acquired businesses, efficiencies reflected in margins, etc.? What is the interplay of cost and return? Finally, are investments for growth being made in talent, fixed assets, acquisitions, marketing, automation, and product development?

“Corporate culture can either overwhelm or support the strategy. It must be nurtured from the top down to every level.” - Asset manager who researches corporate culture

CHART OF THE MONTH: CEO QUALITY AND CULTURE DRIVE PERFORMANCE

In the largest research effort of its kind, McKinsey found that CEOs who insist on rigorously measuring and managing all cultural elements that drive performance:

Source: McKinsey & Company

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