Posts Tagged ‘stocks’

Very good project managers have been trashed over the misuse of best practice. The example I have in mind is a client financial firm (Firm X) that wanted to buy another firm in order to grow and lower the probability of being bought themselves. The chairman was able to win the battle but lost the war. It happened by his leveraging the firm’s reputation and applying spin to “best practice.”

Strategic Positioning

A little background will help. This happened when consolidation was occurring in the financial world. Firm X had a very positive, understated reputation on Wall Street. They usually exceeded their performance predictions. Consequently, the chairman’s word had a great deal of cache.

In order to gain leverage in buying the other firm the value of Firm X’s stock needed to increase. Here is where spin comes into play. The chairman cashed in on Firm X’s reputation. Wall Street analysts were told that plans were underway to improve operational efficiencies in credit card processing – a large area of operations for Firm X. Also, there would be economy of scale by applying the improvements to the merged entity.

The chairman simply made empty promises. No one down the food chain was consulted (the critical nature of which we will look at later). The organization was simply told, “Make it so if you want to survive.”

Win the Battle

As predicted, the value of their stock increased. The other firm couldn’t compete with this and was purchased by Firm X. All seemed well and good.

A Blood Bath

Everything was fine until it was time to publish the results of the methods of improvements – those best practices that were to be put into place. Not only were there no improvements in operations, costs actually soared tens of millions of dollars.

Inside Firm X it was a combat zone. In IT they went through project managers like little kids eating M&Ms. As the reality of the actual numbers began to surface desperation set in. Bonuses were offered to anyone who would sponsor a project that would give the desired results. Imagine a Greek trireme going into battle and the captain promises a bonus to the piper (the guy who beats out the rowing rhythm) if the ship could just go faster.

Lose the War

The chairman got what he wanted – the merger. He also got something else – the boot. When the numbers were published Wall Street told the chairman in the future he would have a hard time borrowing even a dollar. The board had to react and did so by removing him from office except for overseeing the credit card operations debacle. His title became, “Chairman of Special Projects.” As in any other organization, one might as well have leprosy as have “Special Projects” as one’s title. Three months later, the chairman resigned. The top two tiers of IT were replaced with people from the firm that was bought. They were conservative in practice and a more stable organization.

Chaos and Best Practice

Most mergers fail. One possible reason being spin, i.e., propagating the belief that if one knows the rules better than anyone else then a highly reliable model can be generated that will predict the outcome. The blindness associated with this approach and how it can backfire was addressed earlier in the Black Swan blog.

It is important to remember chaotic systems are rule-based. The difficulty lies in the fact they are unpredictable and can turn on you in an instant. Knowing all the rules does not guarantee the desired outcome will be achieved. The chairman in this case thought he could dictate top-down what the results would be. The reality is solutions emerge from the bottom-up.

Wanting to buy a competitor or merge for some perceived gain is fine. The trick, though, is to be humble, realize the realities of chaotic systems, and strive to work together to dampen the distractions and amplify the opportunities through a bottoms-up approach while leading the way towards the goal.

Through his hubris the chairman blinded people to the reality of the situation by spinning best practice in a chaotic situation. “Doomed” is too small a word.

To my knowledge, none of the sacrificed PMs were rehabilitated or reinstated to there former positions.

Retaining key employees is extremely important for ongoing operations, and in building value for a potential sale of the company.  Stock options have historically played a key role in providing incentives for these individuals to stay.

In a previous post, we discussed the fact that IPOs and, with them, the attractiveness of stock options have taken a considerable hit in the past few years.  Not to worry.  A Stock Appreciation Rights (SAR) program can achieve many of the same purposes with few, if any, of the drawbacks of a stock option plan.  Here is what you need to know in order to have an intelligent and productive conversation with a professional who can help you to draft the implementing document for an SAR program.

The SAR Grant sets aside a specific number of SAR shares to be awarded to a named employee, including the timing and size of each award – both matters of management discretion.  Since SAR shares are awarded, rather than purchased, the employee does not tender any cash or incur any financial obligation to the company.

The Base Share Value (the value of the SAR shares at the time of the award) is also specified by management.  The key in determining the basis for this value is management’s definition of success.  Pretax profit as of the end of the most recent calendar or fiscal year would be a good example.  If earnings increase over time, all employees holding SAR shares will benefit as the value of those shares increases.

While there are advantages in having the same basis for valuing the SAR shares of all employees (such as increasing the chances of cooperation among potentially competing individuals or departments) other factors may have greater weight.  For example, if one group of employees has considerable influence over Gross Profit, while another has its principal impact in control of overhead, separate bases for valuing SAR shares may be more effective in fostering the kinds of behavior that management seeks.

Along with the SAR share award schedule, there is usually a vesting schedule.  These two elements combine to prolong the period in which all SAR shares are fully vested and, therefore, receive full value at sale.  If, for example, 25% of the shares are awarded each year for four years, and there is a four-year vesting schedule, it will take seven years for all shares to be fully vested.

When the employee leaves the company, his or her shares are purchased by the company at the then value (or the value at the end of the most recent calendar or fiscal year.)  The calculation is a simple one:

Cash to the employee = the Current Share Value minus the Base Share Value X the number of fully vested shares owned by that employee.

Non-vested shares have no value, and are purchased for zero dollars.  If the company is sold, all SAR shares will typically vest immediately.

The principal disadvantage of an SAR program is that it provides little in the way of immediate reward.  That shortcoming can be remedied by an effective bonus program.  The next post will discuss this important topic.

Good luck!


PhotoPopell This article has been contributed by Steven D. Popell. Steve has been a general management consultant since 1970. Steve is a Certified Management Consultant, business valuation expert, and inventor of ExiTrak®– a process designed to assist the privately-held company owner/manager to build an attractive strategic acquisition candidate