How important is a share price?
18 December, 2015
Recently a listed company CEO told me he watched his share price every day and felt its movements were at least partly a reflection of his actions and achievements.
When the share price lifted the day after some Australian investors visited, he assumed it was a vote of confidence in him and his management team as they had given a great presentation.
I felt a little uncomfortable with this comment because I don't think daily share price movements should concern the chief executive or any other team members for that matter. Although many investors monitor share prices day by day, sometimes hour by hour, there is not as strong a connection as many people think between a company's share price and the underlying business.
Over time, share prices tend to rise and fall, reflecting the ups and downs of a company's earnings. But in the shorter term they are impacted by all manner of things, including the overall market trend and how investors happen to respond to other news of the day.
A share price can fall simply because there are more sellers than buyers on a particular day and the price falls until buyers take the bait.
Enthusiastic investors can push a share price up, with or without any news from the company to support their enthusiasm. At other times, investor sentiment can turn negative, driving the share price lower even though the company is performing perfectly well (which of course presents a good buying opportunity).
Companies sell shares to the public to raise money. Once the shares have been sold and are in circulation, the price of those shares does not have any direct impact on a company's assets and earnings. If a company sells 100,000 shares at $1, it receives $100,000 that it can use in its business. If the share price then fluctuates, it doesn't change the initial sum the company received.
However, a falling or rising share price can indirectly impact a company. A falling share price could make it difficult for a company to raise funds to pay for future expansion; an increasing share price gives them more flexibility to raise money from shareholders rather than from the bank.
A falling share price can make a company more susceptible to a takeover offer, especially if the descending price is due to bad management and other parties think they can run the company better.
A share price can also impact a company's reputation as well as its culture and staff morale. A strong share price performance can play an important role in motivating, retaining and recruiting staff; a collapsing share price can often lead to a poor reputation. Once broken, reputations can be hard to mend.
Some chief executive remuneration packages include share options, allowing them to purchase shares in the company. Clearly the share price becomes more important to a chief executive when his remuneration is impacted though my preference is for such packages to focus on company earnings — not the share price — since the executive can influence the former more than the latter.
While share price movements will always be important to investors, they should be only of passing interest to company chief executives. An even bigger sin is a CEO commenting publicly about the share price in an effort to talk it up.
Management would do well to remember a rising share price will ultimately reflect that a company is performing well but it will never cause a company to perform well.