CHICAGO - More than 75% of institutional equity portfolio managers believe corporate executives don't understand how their companies are valued for investment purposes, according to a new survey by Holt Value Associates.
The eye-opening study of portfolio managers and buy-side analysts reveals that those who buy and sell stocks don't believe corporate management is in tune with how the market actually works.
Among the findings of the survey of 110 money managers and analysts:
* 74% of money managers believe chief executives and chief financial officers think stock prices are set based on reported earnings per share.
* Less than 25% of money managers believe CEOs/CFOs understand how portfolio managers make buy and sell decisions.
* Only 37% of respondents believe corporate management accurately anticipates how the market will react to changes in corporate strategic direction and only 29% think corporate management accurately anticipates how the market will react to major capital expenditures.
Based on the Holt survey, money managers also seem to take a skeptical view of the value of research analysts in making investment decisions.
Most money managers (74%) find sell-side research useful for its knowledge of companies but only 16% of portfolio managers find this research helpful for making stock valuation opinions. Only 10% find analyst buy-sell recommendations useful and generally believe the sell side fails to add value.
Despite persistent claims that money managers focus too much attention on quarterly earnings results, only 27% regard the next quarter's earnings per share as important or very important in their investment decision-making process.
Revenue growth was more highly regarded, with 29% of money managers ranking it most important and 53% ranking it first or second most important.
Holt President Robert E. Hendricks said the perception that corporate management is out of touch with how portfolio managers actually arrive at their investment decisions is probably due to the influence of sell-side executives who have more frequent contact with management than with money managers.
Mr. Hendricks described the gap as a "sad commentary."
"We are dealing with intelligent people but the sell side is dominant with many CEOs and these people tend to focus on short-term earnings, so you (the CEO) feel that is how the market works," said Mr. Hendricks. "The sell side focuses on earnings and CEOs think that's what the market is interested in. But in reality, the buy side (portfolio managers) want more economic performance and these are the real decision-makers in the investment business. CEOs tend to believe it is the sell side which is buying their stock when it is really the buy side (money managers). They (CEOs) need to learn more about cash flow return on investment and the concept of economic performance and not just focus on earnings per share. The buy-side understands that earnings are but a small part of overall cash flow," said Mr. Hendricks.
"The findings are important because CEOs and CFOs, who are ultimately accountable to their shareholders, may not be effectively linking business processes to their stock price," he said.
The survey findings "confirm that CEOs need to better understand how portfolio managers determine their companies' valuation, so that they can better anticipate the impact of financial and operational decision on their stock price," said Michael J. McConnell, director at Deloitte & Touche Consulting Group/Braxton Associates, who co-sponsored the portfolio managers' perspectives survey.
As to the lack of utility found by money managers in securities analysts, Mr. Hendricks said it is important to remember that "analysts are compensated by the sell-side based on the accuracy of their earnings estimates" and are, for the most part "transaction oriented." He said the value of an analyst is "not based on whether the stocks perform properly but on short-term results."
