Buybacks, Long-Term Incentives, and Board Independence
Governance best practice perspectives from Ethos Investment Management
Over the last couple of years, I have gotten into a somewhat odd habit of collecting and summarising feedback from institutional investors on what they value in great companies and where investor relations and governance can genuinely add value. And I have found that sharing this ‘direct’ feedback in conversations with management teams throughout the year is the most credible way to communicate what can be improved or done differently to attract institutional capital.
As I was looking through the blog this morning, thinking about the next topic to write about, I realised I had forgotten to post notes from one of the webinars I attended around the summer of last year. It was hosted by Ethos Investment Management, a US boutique investment management firm focused on investing in emerging markets, so I decided to pour a good cup of coffee and write it up.
Ethos runs an active, bottom-up investment approach, typically holding around 30–50 names in the portfolio, with a preference for small and mid-cap stocks across consumer, IT, and healthcare. Ethos was set up by James Fletcher, who previously worked at AGP in Hong Kong, a name that may be familiar to many here. Towards the end of the webinar, Ethos’s investment team shared several points they view as beneficial from an investor relations and governance standpoint. Ethos also actively engages with investee companies to drive improvements.
“Where we see material areas for improvement through ESG engagement we seek to partner with investee companies and advise them on best practice in order to enhance shareholder returns.”
So what are these material areas?
Enhance dividend payout ratio
When companies consistently return cash through dividends, to Ethos it sends a “credibility signal” and rewards minority investors for taking an interest in the stock. Beyond that, they look for management teams with a very well-defined capital allocation framework, covering also capex and M&A, and clearly explaining how these choices drive returns on invested capital. Ethos likes companies that first and foremost reinvest capital back into the business, but are equally clear on how excess capital will be used and returned to shareholders.
Elevate financial transparency
Ethos mentioned that they appreciate when companies provide granular segment data and context about what is happening in the business in an honest and frank manner with discussions about both opportunities and challenges. This echoes a point Ryan Floyd from Barca Capital recently made on a podcast noting that open and frank dialogue by the management teams builds trust and confidence.
Strategic buybacks with cancellation
“Support your stock with action.” Share buybacks followed by cancellation are viewed by Ethos as the most shareholder-friendly approach, as they demonstrate capital discipline and directly protect long-term shareholders. By reducing the share count, buybacks with cancellation increase ownership per share and signal management’s confidence in the underlying business,
Expand ESOP
“Turn management teams into owners”. Well-designed stock incentive plans tend to increase retention and also signal management’s long-term thinking. From best practice viewpoint, ESOPs should be aligned with incentives such as revenue growth, profitability, and ROIC targets.
Strengthen board independence
“Let independent voices guide big decisions”. Ethos likes to see management teams supported by boards with experienced and truly independent members as they are more likely to ask tougher questions around things like remuneration, growth, and risk. This acts as an important counterbalance to management and improves overall governance quality.
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Many of the points raised by Ethos are not new and largely reinforce how professional investors think about governance in practice: as a framework for building trust over a very long time horizon. In many organisations, investor relations often acts as the conduit for these ideas internally, helping to surface, suggest, and implement practices that ultimately make the company more attractive to long-term shareholders. Few more buy-side perspectives and interviews are organised here.