David Kass – Don’t Invest in a Company Unless the CEO Owns a Large Stake
My Worst Investment Ever Podcast
Warren Buffett's Mistake
This chapter discusses the mistake made by Warren Buffett in acquiring Dexter shoe with Berkshire stock instead of cash, which subsequently went bankrupt. They explore how this mistake compounded over time and contributed to Buffett's immense wealth.
BIO: Dr. David Kass received his Ph.D. in Business Economics from Harvard University and has published articles in corporate finance, industrial organization, and health economics. He currently teaches Advanced Financial Management.
STORY: In his early 20s, David invested $2,000 in a company giving out high dividends. Only after he invested did he realize that none of the senior executives in the company owned its shares. Soon enough, the stock went down to zero due to accounting fraud.
LEARNING: Only invest in a company if senior executives, especially the CEO, own a significant stake. The value of the CEO’s stock in his own company to his annual salary should be at least 3:1.
“Look carefully at proxy statements and make sure the CEO and other senior managers have skin in the game, that their interests are likely aligned with yours and have a large stake through their stock holdings.”
Dr. David Kass
Guest profile
Dr. David Kass received his Ph.D. in Business Economics from Harvard University and has published articles in corporate finance, industrial organization, and health economics. He currently teaches Advanced Financial Management.
Before joining the Smith School faculty in 2004, he held senior positions with the Federal Government (Federal Trade Commission, General Accounting Office, Department of Defense, and the Bureau of Economic Analysis).
Dr. Kass has recently appeared on Bloomberg TV, CNBC, PBS Nightly Business Report, Maryland Public Television, Business News Network TV (Canada), FOX TV, Bloomberg Radio, Wharton Business Radio, KCBS Radio, American Public Media’s Marketplace Radio, and WYPR Radio (Baltimore), and has been quoted on numerous occasions by The Wall Street Journal, Bloomberg News, The New York Times and The Washington Post, where he has primarily discussed Warren Buffett, Berkshire Hathaway, the economy, and the stock market.
He has also launched a Smith School “Warren Buffett” blog. Dr. Kass has accompanied MBA students on trips to Omaha for private meetings with Warren Buffett and Finance Fellows to Berkshire Hathaway’s annual meetings.
Dr. Kass received a Smith School “Top 15% Teaching Award”, a “Distinguished Teaching Award (Top 10%),” and the prestigious “Krowe Teaching Award” on two occasions.
Worst investment ever
David was fortunate to start as an investor in the stock market at age 12, courtesy of his grandfather, who gave him a gift of five shares of a $20 stock. Since then, David started following the market.
Fast forward ten years or so, in his early 20s, when David was working and earning some money investing in the stock market. In 1969 the stock market was doing reasonably well, and a stock caught David’s attention. Back then, every day, the Wall Street Journal, New York Times, or Financial News would list the ten most active stocks by number of shares traded. Near the top of the list was this computer software company called Scientific Resources. It had a common and preferred stock. David noticed that the preferred stock was paying a 9% dividend yield.
David didn’t understand the relationship between risk and return then. The average stock in the stock market then had an average dividend yield of 3%. Cash dividends were higher because more companies back then did not buy back their shares. They’d return capital to shareholders through a cash dividend. So a stock paying 9% was a huge deal. David bought 100 shares at $20 per share. The $2,000 was all the money he had to invest at the time. Then the share price started going down daily.
Once a year, shareholders would be asked to vote under SEC rules. David received a proxy statement from the company and a ballot to vote for senior management and other issues that came up. When he read the report, he realized that none of the senior executives, from the Chairman of the Board to the Executive Vice President and all the listed eight executives, owned any company shares. David wondered why none of these senior executives had a stake in a company they were running. He learned why when the stock he bought at $20 finally sold at about $2 as it went down to zeros due to accounting fraud.
Lessons learned
- Only invest in a company if senior executives, especially CEOs, own a significant stake.
- The value of the CEO’s stock in his own company to his annual salary should be at least 3:1. If the CEO is deriving most of his wealth or income from the company via his salary, then his interests are not aligned with shareholders.
Andrew’s takeaways
- Alignment in the senior executives’ interests and of the shareholders is critical.
David’s recommendations
David recommends reading Berkshire Hathaway Letters to Shareholders to learn about investing in an easy-to-understand manner. He also encourages young people to start investing when they have some money, follow their company, stock, or fund, and experience the emotion of investing.
No.1 goal for the next 12 months
David’s number one goal for the next 12 months is to continue teaching at the Smith School of Business, University of Maryland, and to follow the current interesting, challenging global economic situation.
Parting words
“Try to be unemotional and learn from others’ mistakes. It’s better to learn this way rather than to have to learn from your own mistakes.”
Dr. David Kass
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Connect with David Kass
Andrew’s books
- How to Start Building Your Wealth Investing in the Stock Market
- My Worst Investment Ever
- 9 Valuation Mistakes and How to Avoid Them
- Transform Your Business with Dr.Deming’s 14 Points
Andrew’s online programs
- Valuation Master Class
- The Become a Better Investor Community
- How to Start Building Your Wealth Investing in the Stock Market
- Finance Made Ridiculously Simple
- FVMR Investing: Quantamental Investing Across the World
- Become a Great Presenter and Increase Your Influence
- Transform Your Business with Dr. Deming’s 14 Points
- Achieve Your Goals
Connect with Andrew Stotz:
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