How Should Investors Evaluate Companies' Management?

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Nate Smith, a novice investor who has been picking his stocks based on companies that have solid financials and operate in industries he can understand, has been doing pretty well so far, but there's an important factor he knows he's been ignoring, and he'd like to remedy that: management. How should a retail investor gauge corporate leadership?

In this segment of the Motley Fool Money podcast, host Chris Hill asks senior analysts Emily Flippen, Jim Mueller, and Jason Moser for their best advice.

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A full transcript follows the video.

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This video was recorded on March 22, 2019.

Chris Hill: Question from Nate Smith at Virginia Tech, class of 2020. Nate writes, "Last August, I started investing. I began by reading The Motley Fool Investment Guide book by Tom and David Gardner. I've seen a 17% gain in value from my picks in the first seven months." Well done, sir!

Jason Moser: Hey, now!

Hill: "My investment strategy has been based on industries and companies I understand, solid financials, future markets, and my timeline goals that I have for the stocks that I buy. The one aspect that I'm not familiar with is what to look for in the company's management. Any advice you could give me would be helpful. Thanks for your time and the amazing investment advice I've gained from The Motley Fool."

Let's just go around the table really quick. Jason, you're up first. How do you like to evaluate management?

Moser: That's a little bit squishier, right? A little bit more subjective. There are good ways to do it. He mentioned a key word in reading. I think that you look to the things that management is writing. This time of year is a great one because a lot of the businesses that we really like -- Markel, Amazon, Boston Omaha, Berkshire Hathaway -- they're putting out their letters to shareholders. Go read those letters to shareholders. The neat thing is, they have a library that dates all the way back to when they started, which means there are a lot of letters to shareholders to read out there, but they give you an idea of management's narrative, the things that they're saying they want to do. Then you can hold them to their actions. I think that's one easy way to do it.

Hill: Jim?

Jim Mueller: I would agree with you. Read the annual letters. You do get a sense of how management talks. While you're doing so, and while you're going through the management and discussion part of the 10-K, the annual report, pay attention to how they handle adversity. Do they blame the weather? Do they blame something else? Or do they say, "Yeah, we messed up and we're going to fix this"?

Hill: Emily?

Emily Flippen: Everyone's so focused on reading. The thing that I like to do the most is listen. Look, annual letters, they're great. I agree. They're important for getting an idea about how management views the business. But they spend a lot of time planning those out and thinking about how they say certain things. So whenever I like to look at management, I like to actually physically listen to their earnings calls. Granted, the first statements are pre-prepared. But the way that they handle questions is interesting. You can tell when management is passionate and excited about the business based off the way that they talk. So for me, the first step is feeling like I'm getting to know them as a management team, as people. And that involves physically listening to their earnings calls to me.

John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Chris Hill owns shares of AMZN. Emily Flippen has no position in any of the stocks mentioned. Jason Moser owns shares of AMZN and MKL. Jim Mueller, CFA owns shares of AMZN and has the following options: long January 2020 $1370 calls on AMZN, short January 2020 $1380 calls on AMZN, long January 2020 $185 calls on BRK-B, short January 2020 $185 puts on BRK-B, and short January 2020 $195 calls on BRK-B. The Motley Fool owns shares of and recommends AMZN, BRK-B, and MKL. The Motley Fool recommends BOMN. The Motley Fool has a disclosure policy.