A company reports mediocre earnings but the stock soars. Another drastically disappoints Wall Street but impact on shares is muted. Things can be more than a little confusing during earnings season, and a variety of factors come into play. Clearly, one piece of the puzzle is that investors give some CEOs more leeway, while others find they can’t get credit even when they improve results.
Just how much a CEO matters remains a matter of debate. Some studies have found a significant impact, especially in fast-growing industries with large amounts of R&D spending. Another study by professors from the University of Georgia and Pennsylvania State University looked at 60 years of data and found CEOs have had a steadily increasing influence over company performance.
In the technology industry, some CEOs are most definitely in – investors have faith even when a quarter’s results may be less than stellar. Meg Whitman at Hewlett Packard (HPQ) has been seen as a savior, and Microsoft’s (MSFT) new CEO, Satya Nadella, is clearly in a honeymoon period. But Dick Costolo at Twitter (TWTR) gets no credit for rapidly rising revenue, as investors fret about whether he can reignite user growth.
Others are on the outs with investors and also get no benefit of the doubt – think Steve Ballmer in his last few years at Microsoft. Ginni Rometty may be in a similar bind at IBM (IBM), and some have doubts about Apple's (AAPL) Tim Cook. Others may ride in on a cloud of pixie dust for years only to lose their aura through missteps or declining performance. Even Jeff Bezos, the genius founder of Amazon.com (AMZN), may be fading from star CEO to a leader more under pressure to deliver results.
There’s no one absolute way to determine whether a given CEO is seen as hot or not on Wall Street. One proxy, admittedly inexact, is looking at a company’s stock market valuation over time compared to that of other companies in the same sector. When investors are hot for a CEO, that company’s valuation tends to climb relative to peers. It’s not a perfect measure – relative valuation changes can, of course, occur for a variety of reasons.
In the charts that follow, each company is measured by either its price-to-earnings ratio or – in the case of those without regular profits – price-to-sales ratio. The vertical red line signifies a CEO change. The horizontal trend line in the chart shows how the valuation ratio has changed recently relative to the ratio of the company’s sector. A trend line moving up shows the market increasing its view of the company’s value relative to peers. A downward slope shows a company falling out of favor. All data and peer groups are from FactSet.
Let's start with Twitter's Dick Costolo, who took over as CEO about two years before the company went public. The former Google exec was seen as someone who could focus on Twitter's efforts to monetize the service's quirky mix of short messages posted by tens of millions of users. But, more recently, the important concern for investors has been just how large the service can become by attracting hundreds of millions more users, becoming more like "the next Facebook (FB)." And that does not play as much to Costolo's strengths. Following Tuesday's earnings release, which beat consensus expectations on both the top and bottom lines, Twitter shares are hitting new lows in Wednesday trade as investors digest worrisome user-growth numbers.
Then there's HP's Meg Whitman. Under her predecessors, the company was in turmoil and investors had little faith things would get better. As seen in the chart below, starting two years before Whitman took over in August 2011, HP’s price-to-sales ratio was sliding relative to other tech companies. It didn’t bottom out right away, but for the past year or so, investors have shown growing faith in Whitman’s turnaround efforts.
Microsoft’s new CEO Nadella may be at the start of a similar run. Microsoft’s profit and revenue climbed under Ballmer, but investors feared he was fumbling the future and the stock stagnated. Under Nadella's brief tenure, Microsoft’s stock has climbed, reflecting not just strong fundamental performance but also investors’ willingness to value that performance more highly.
Ginni Rometty took over at IBM at the beginning of 2012 with a mandate to focus on new areas of growth such as cloud computing, network security and big data. But translating the buzzwords into actual growth has proven more difficult, and investors appear to be losing confidence, as seen in IBM’s slipping relative valuation.
Tim Cook finds himself in a somewhat similar situation at Apple. Rightly or wrongly, many investors fear that Apple after Steve Jobs is doomed to fade away. And while Apple struggled with declining profits last year, the lack of faith in Cook in some quarters has compounded the problem, as the company's price-to-earnings ratio has declined relative to other large tech companies. In this case, the decline probably also reflects some investor concerns about future growth, but a more beloved CEO would likely lessen that impact.
A couple of fresher upstarts have new CEOs who took over in very different circumstances.
Internet discount site Groupon (GRPN) had a host of troubles after going public, including an accounting scandal, an employee lawsuit and fading revenue growth. CEO Andrew Mason got the axe last February. Eric Lefkofsky, an early Groupon investor who had previously founded several tech companies, took over on a permanent basis in August. For a while, the company looked like it was getting back on track. But Lefkofsky has had troubling delivering on all his promises, and investor confidence, as seen in the relative price-to-sales ratio, is fading.
At streaming-music leader Pandora (P), by contrast, everything was clicking when Brian McAndrew took the top job back in September. The already red-hot stock gained 12% on the hire of McAndrew, who helped build digital-ad firm aQuantive into an industry leader before selling it to Microsoft for $6.3 billion. Investors didn’t seem to remember how that sale turned out for Microsoft, however. And lately, investors are growing more concerned about Pandora’s slowing listener growth and royalty battles with the music industry. FactSet didn't assign a peer group for Pandora, so its ratio was compared to the S&P 500.
Then there is the case of Amazon founder Jeff Bezos, who has been given tremendous leeway by investors over the years as he built his book-selling startup into a global ecommerce titan. But this year, Amazon investors are growing restless. As sales growth in its core business has slowed, Bezos has continued pouring all available resources into small but faster-growing segments such as cloud computing. Confidence, as seen in the relative price-to-sales ratio, is obviously slipping.
Even for Jeff Bezos, it seems, staying hot forever is a tough task.