How (not) to value a CEO

Alec Hogg in his Daily Insider column of 6 June had the following harsh words for Sasol’s David Constable:

“In the 2015 annual report, Sasol chairman Dr Mandla Gantsho admitted trying to extend CEO David Constable’s five year contract which expires this month. Shareholders should be grateful he wasn’t more persuasive. Together with another Canadian, Anglo’s Cynthia Carroll, Constable ranks as the worst ever CEO appointed by a major South African company.
“Soon after arriving in July 2011, the Canadian aborted Sasol’s long and costly flirtation with China, switching attention into his native North America. In Monday’s trading statement, the company said it will write down billions more on its Montney Shale Gas field, taking the loss on the Canadian investment to a staggering R11.5bn. Worse, the cost of its 40% complete Louisiana chemicals cracker has escalated to $11bn from the $8.9bn shareholders had been told.
“If more salt were needed for those wounds, it is sure to come in the remuneration section of Sasol’s 2016 annual report. Given the way these things are structured, Constable’s R50m a year package is likely to have ratcheted up still further in his final 12 months.”

But is this the right way to measure the value added or lost by shareholders over the tenure of a CEO, by reference to the losses written off or the overruns added in the books of the companies they own a share of?  What matters to shareholders is what happens in their own books; that is in the value of the shares they own. And share prices attempt as best they can to discount the future performance of a company – rather than its past – as written up by the accountants. Shareholders in Sasol will rather be inclined to compare the performance of their shares under Constable’s surveillance with that of others they may have owned. In this regard they may be grateful that Sasol, since 2012, did significantly better than other Resource stocks, but regret that Sasol did significantly worse than the JSE All Share Index.

Shareholders would have been much better off staying away from Resource companies and investing in Industrial and Financial shares, especially after mid-2014. Even the best managed resource and oil companies would not have been able to avoid the damage caused by lower commodity and oil prices – forces over which CEOs cannot be easily held accountable for. In the figure below we show the relationship between the Sasol share price and the price of oil in US dollars. This relationship become much stronger when the US dollar value of a Sasol share is compared to the US dollar price of oil. Quite clearly, the US dollar value of a Sasol share is almost completely always explained by the oil price. This is a force over which the CEO has no influence whatsoever. Incidentally, the relationship between the oil price in rands and the Sasol share price, also measured in rands, is a statistically very weak relationship. It is the dollar price of oil that matters for the Sasol share price – not the rand price – even if much of Sasol’s revenues are derived from selling oil in rands at a dollar equivalent price.

 

In the figure below we show the results of a statistical exercise where we compare the Sasol share price in US dollars with the share price that would have been predicted using the US dollar price of a barrel of oil as the only explanation, over the period when David Constable was CEO. As may be seen, it was only in 2013-2014, ahead of the subsequent collapse in the oil price, when something other than the spot oil price is seen to significantly influence the US dollar value of a Sasol share. Perhaps the Sasol share price then was reflecting unrequited optimism in still higher oil prices. And when this did not materialise, the usual relationship between the price of oil and the price of Sasol was resumed.

 

On these considerations it is hard to establish what difference a well paid or indeed even an underpaid CEO can be expected to make to the value of a Sasol given the predominant influence of the price of oil on the share price. Perhaps the major task of a CEO so captured by forces beyond its control is to avoid poorly executed projects designed to increase or even simply maintain the production of Sasol’s oil, gas and chemical output. The selection of good projects and good project management is the essential task of a company like Sasol. Perhaps Sasol, under Constable, can be fairly criticised on such grounds, as Alec Hogg has done.

Time, as always, will tell how well intentioned, designed and executed the Sasol Louisiana cracker project has been. But in the meanwhile, shareholders in Sasol can perhaps exercise a legitimate grievance about the recent performance of the company. Its share price in US dollars has performed significantly worse than that of the two oil majors, Exxon-Mobil and Chevron, that are as highly dependent on the price of oil as is Sasol. Perhaps such measures of relative stock market performance should feature in any discussion of the appropriate remuneration of a CEO.