You know by now my deep-rooted suspicion when a story or article doesn’t feel a need to properly explain what is happening.
“Management and shareholders clash”
“Shareholders approve banker bonuses”
Little and indeed no time is ever spent giving a quick one liner on what shares mean.
Before we move onto other topics like hostile takeovers, leveraged buy outs and all that, we need to make sure that we know what shares are. If we can nail that foundation, everything else will flow naturally.
What are shares?
If you own a share, you own a bit of a company. A share is a unit of company, it is how you measure how much of the company you own. A company issues 100 shares, you buy 1, you own 1% of that company and have become a shareholder. Even if is only 1%, you are still a shareholder with rights and responsibilities. (Stock and shares are words that can be used fairly interchangeably).
Why buy shares?
If the company makes a profit, you get that. Usually it is in proportion to your shares. In the above example, you own 1% of the company shares, it makes £100 profit, you get £1. The person with 25% of the shares gets £25 etc.
What does a shareholder do?
Shareholders often vote on important company decisions, will appoint directors and a CEO, approve their salaries, show up for the annual general meeting.
If you own a share in The ABC Company, and they are thinking about moving their HQ from London to Berlin, you can bet there would be a shareholder vote on it.
Management versus shareholders
Shareholders own the company, management run the company, and they can clash from time to time.
I always think the best way to understand how these disputes can arise is to put yourself in the shoes of the other side.
You as a shareholder
If you are a shareholder, you are interested in the company making as much money as possible. The company makes a ton of money, your dividend is bigger, happy days.
If your management are harping on about wanting higher salaries, or launching a costly new product range, you are going to be sceptical. They will really need to persuade you. You might be worried your management are showboating, wanting to do all these crazy new schemes to make a name for themselves whereas what the company really needs is to stay the course.
You are interested in your bottom line, you own shares and as long as they keep making you money, you are happy. When they start losing money, no matter what excuse is given (we are launching a new product, we are restructuring, we had a tough year) you get annoyed and consider even selling your shares.
You as a director
You are the leader of a company, martialling the workforce, implementing new strategies. What you want is to have an efficient, strong company because your name is associated with it. You can sometimes chafe with the shareholders. For example, you have seen that there is a huge market for a new product. You want to launch it, creating a team to manage it and make a big splash in the market. Now only will this be good for the company long term, you can implement your plans and see if they work.
It will mean the shareholders won’t get dividends for a year or two- and guess what, they are up in arms about that grrr. You fight with them, they threaten that at the next AGM they won’t be picking you for the director.
Worse yet, given that you wanted a pay rise as well, there is even more hostility!
There have been some pretty spectacular fallings out between shareholders and management, especially in the banking sector.
- During the financial crisis, the government purchased stock and holds a controlling interest in some banks. So the government was a massive shareholder in these companies (as much as 85% in some banks).
- At the first meeting with the shareholders, the government refused to give them bonuses and wanted their salaries cut.
- The bankers, who are the management, are furious and say they will resign- this will cause the bank to crash and be worthless.
- Stand off between the management and shareholders.
Most shareholders sit back and as long as they are paid their dividends, aren’t overly interested. A rough generalisation but often true.
There are two kinds though of activist shareholder
- Business minded activist- really go to town on the management and hold them accountable. Even if you had a good year, these folks will be on your case. They watch and count every penny, so if a director had a coffee on the company dime, they will point it out and want an explanation. They want high profits and tight costs.
- Social minded activist- they are interested in the social parts of a company. So they will often challenge directors on diversity, negative press stories, environmental impact, stance on political issues. Being a shareholder gives them the power to influence the company.
This is a very general introduction to shares but if you read this and understood it, you have a solid foundation for everything else to come.