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Corporate Governance

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Step 8- Management Competence

The final step is to evaluate management's competency.

Investors must assess the competence of the promoters/management before risking their capital. 

Empirically speaking, competence has little to do with the educational qualifications of the promoter/management ‘Managerial competencies’ refer to habitual observable behaviors. For instance, HDFC Bank, India's most valuable lender is considered to be the gold standard of prudential lending. The bank has a strict screening process & is known far and wide to reject loan applications for the most trivial reasons. Call it what you want, the same loan application will be successfully processed at a government-owned bank like Bank of Baroda or Punjab National Bank. And these are not stray or one-off events. Instead, these "habitual observable behaviors" have been in place since the very early days of their organizational existence.

Managerial competence is all about "walking the talk". In an ideal situation, the shareholders of the company should take the words of the Chairman or CEO at face value. In essence, there must be a strong interrelation between what the management says and what it does. Investors should focus on appraising the project execution skills of the promoter/management.  Investors must analyze the strategic decisions taken by the management in the past to see if they were value-accretive or wealth-destroying in nature. While doing so, one must analyze the business expansion done via both organic as well as inorganic means.

Case in point, The management of Infosys had to face severe criticism for its acquisition of Panaya, an Israel-based IT company for $200 million back in 2015. The fiasco led to the ouster of its then CEO Vishal Sikka due to multiple irregularities in the deal.

Successful execution of increase in production capacities especially through greenfield & brownfield plants is a good yardstick of competent management. Similarly abandoned or cancelled projects, expulsion from projects in the past, frequent execution delays, cost overruns etc are some common warning signs. 

As a proof, scores of Infrastructure companies in India such as Hindustan Construction Company, Jaiprakash Associates, Unitech, Punj Lloyd, Peninsula Land, Gammon India, IVRCL, Simplex Infrastructure, Tantia Construction, GVK Power & Infra, IRB Infrastructure, MBL Infrastructure and countless others have been victims of management incompetencies. All these companies suffered from the same recurring set of issues & eventually met their fate. On the other hand, engineering giant Larsen & Toubro has an excellent track record of timely completion of projects. Such stellar is the reputation of Larsen & Toubro that even the common man roots for it to take up public works projects.

Investors can use publicly available sources of information such as annual reports, credit rating reports, brokerage reports, management interviews, conference calls, etc as a suitable medium to gauge the project execution skills of the promoters. 

Conclusion

So now that we are at the end of this module, we have a good understanding of the importance of evaluating the corporate governance of a company along with fundamental analysis before making an investment. It is a pre-check every investor should do before investing in any company. Strong corporate governance in an organisation reflects strong values like truthfulness, efficiency etc., within the management. Apart from this module, we have also designed many other modules on fundamental analysis, stock investing and more that will surely help in enhancing the knowledge and skill on financial markets. 

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Units 19/19