The Leadership Premium - How TMT Companies Win The Confidence Of Investors

FOREWORD

This paper is the fourth in the 'Digital Leadership' series looking at the challenges faced by one of today's fastest-moving sectors – technology, media and telecoms. Driven by interviews with financial analysts in key markets, it reveals the extent to which perceptions of leadership move share prices – and how leaders in the TMT sector can win market confidence and increase shareholder value.

The previous papers highlighted the importance of leadership for digital businesses. This paper quantifies the difference leaders make – and identifies the capabilities needed to achieve a 'leadership premium'. It confirms that analysts look beyond the bottom line to the long-term potential of an organisation when making their valuations, and that they judge this potential by the quality of leadership.

The findings of The Leadership Premium are relevant to any TMT company with a public listing today. Ignore them and you could expose your organisation to increased risk.

The other papers in the series, which were produced in association with global executive search firm Spencer Stuart, can be downloaded at: www.deloitte.co.uk and www.spencerstuart.co.uk.

INTRODUCTION

Over the past 18 months, we've been speaking to executive leaders across the technology, media and telecoms (TMT) industry about the digital revolution and the challenges they face. In Leadership at all Levels, New Shapes and Sizes and Innovating for a Digital Future, we explored how TMT organisations can develop the capability to succeed in the digital economy.

Through all of our interviews, organisations across the world emphasised the importance of leadership to drive the digital transformation and support innovation.

As a firm, we believe that leadership can be developed, that organisations can be set up to create long-term, sustainable leadership capability, and that doing so can improve bottom-line results and increase shareholder value.

Yet, in many organisations, leadership remains a neglected area. In a Deloitte survey last year, only 4.3 percent of executives rated their organisation's leadership development as 'very effective' – and less than 2 percent strongly agreed that their succession planning was what it should be.1 The development of leaders is often looked after by someone several reporting lines beneath the HR director – and seen as discretionary spend, cut during downturns.

It's notoriously difficult to measure the impact of successful leadership development, and many organisations have given up trying to do so. In the research for this paper, we wanted to find a quantitative metric for the value of leadership. We set out to understand the impact of leadership on long-term equity value – its relative importance compared with other aspects of company performance, and the size of the potential uplift (or discount) it can deliver.

We interviewed and surveyed leading market analysts in the United Kingdom, the United States, China, India, Japan and Brazil about the impact – both good and bad – that leadership can have on share price. We believe the results help quantify the risks of a leadership deficit to an organisation.

In developing The Leadership Premium, we've combined survey data and perspectives from interviews with analysts with our own expertise and experience. We hope that the paper will set out a compelling vision of effective leadership in the digital world.

KEY FINDINGS

According to the analysts we surveyed, senior leadership team effectiveness is more important than both earnings forecasts and ratio analysis2 as a measure of success. Financial results were still the most important factor – cited by 60 percent of analysts – but the quality of senior leadership has a tangible, measurable impact on analysts' opinions as to whether companies have been successful and, crucially, will be successful in the future. (See Figure 1)

The following four quotes are typical.

"I don't view financial performance as that important because I think it is only a result. Take Amazon as an example. Although it was in the red for years, real investors focused on the long-term potential value. I think all good performance is from good leadership." Analyst, China.

"If the company has an effective leadership, it becomes a target for us, if not we do not invest." Asset manager, Brazil.

"We look at the management qualities [of the company] and the track record of the people who are leading it and what they have done in the past. I would say [they can] add another 25–30 percent to the value of the company." Analyst, United Kingdom.

"I look at factors that go beyond specific financial factors. I can look at ROE and I can look at financial ratios as much as I want. But when you're looking at reputation you generally look on a broader scale. So I look at media presence around the company, what people are saying, governance. I look for leadership factors in the CEO and the top leadership management." Market analyst, United States.

The majority (52 percent) of analysts told us that they routinely factor an assessment of senior leadership strength into their company valuations. This is in addition to analysis of financial results and performance forecasts, which many analysts cited as already providing a reflection of the effectiveness of senior leaders.

Even many of those analysts who do not routinely ascribe equity value to senior leadership would place a premium valuation on an exceptional team. Overall, 80 percent of analysts surveyed said that a company with a particularly effective senior leadership team would receive a premium valuation. The inverse is also true: 80 percent of analysts also said that they would place a discount on a company that they perceived to have a particularly ineffective leadership team.

The gap between the value of a company with good leadership and that of a company with weaker leadership could be more than 35.5 percent. On average, we discovered a premium of 15.7 percent for particularly effective leadership – and a discount of 19.8 percent for its opposite.3 (See Figure 2)

Some analysts stated that concerns about the quality of a senior leadership team would be enough for them to avoid investing in that stock at all.

It's hard to think of more compelling reasons for a leadership review.

About the methodology

The findings of this report are based on online surveys and interviews with analysts from leading investment banks, private equity investors, hedge fund executives and portfolio managers in the United Kingdom, the United States, China, India, Japan and Brazil. The research was conducted between August 2011 and January 2012.

The online surveys were carried out by YouGov on behalf of Deloitte between November 2011 and January 2012...