It seems that everywhere you turn in the investor relations world someone is talking about institutional targeting. Today, targeting is red-hot, more so than ever before. More public companies around the world are enthusiastically launching new programs every day to find high-potential institutional prospects. Meanwhile, targeting is page one news in the investor relations trade press.
Is " targeting mania" justified?
It all depends. Done correctly, targeting can pay off massively -- with lots of new shareholders, a higher stock price and a lower cost of capital. Done poorly, a targeting program can be a colossal waste of time and money, not to mention a serious embarrassment to you, the company's IR officer.
Here are five simple rules to make targeting pay off for you:
All Targeting programs are based on a peer group. The goal is to find stocks that are similar to yours -- your peer group -- and then find investors that own these stocks, but don't own you. Picking the right peer group is critical to a successful targeting program.
There are basically three kinds of stock market peer groups to choose from:
Industry peer groups.
An industry peer group is simply a group of companies that are in the same industry as you. While it's obviously important to know who your industry peers are, using an industry peer group to find potential investors for your stock is a somewhat dubious proposition, for two main reasons.
First, if an institutional investor owns several of your peers, but doesn't own you, it's rarely because it forgot to buy your stock. More often it's because the institution made a conscious decision to buy these stocks and not yours.
Second, when an investor owns a number of stocks in the same industry, it's often the result of an investment theme or cyclical or economic bet the firm is making. By the time you become aware of these holdings, the theme has often been played out -- it was yesterday's bet, and by now the investor is on to other investment ideas.
Indeed, investor don't simply invest "by industry" -- at best a stock's industry group is just one of several swirling, messy factors that go into an investment decision.
Financial peers.
A financial peer group consists of stocks that share similar financial and operating characteristics, but are not necessarily in the same industry. Common characteristics may include similar sales and earnings growth rates, dividend growth rates, p/e rations, price/book ratios, levels of insider ownership, etc.
It's commonly assumed that most investors consistently seek stocks with very specific financial characteristics. If this were true, a financial peer group would work well. Unfortunately, it's not true. Many, if not most, investors that claim to have a specific and rigid investment criteria and discipline really don't. Their actual investment decisions belie their stated philosophies. Moreover, a growing number of institutional investors simply resist style classification altogether, readily admitting to be "opportunistic" investors.
A more fundamental problem with both industry and financial peers: portfolio manages' decisions are inherently complex and unpredictable. Thus, an "outside-in" peer group methodology that relies on financial models, as industry and financial-based peer groups do, to predict investor behavior will ultimately fail to deliver consistently viable institutional targets.
Market-based peers work best.
The third kind of peer group is known as a market-based, or portfolio-based peer group. These are simply stocks that portfolio managers consistently own alongside yours in the same portfolios. For example, suppose that of the top 30 institutional portfolios that hold your stock, 25 also have significant holdings in, say, Marriott International. Marriott would then be a market-based peer.
It is statistically significant, i.e. more than coincidence, that Marriott and your stock appear so frequently alongside one another in institutional portfolios. Your market-based peer group would consist of Marriott plus the other stocks that are held most frequently alongside yours.
A market-based peer group is based on real-life decisions that have been made in the marketplace by actual investors. It works from the "inside out". This empirical approach will lead to a much more viable and productive universe of potential targets because it accurately reflects real-world investment decisions.
Once you've identified a market-based peer group, you need to find institutions that own your peers but not you. This is done by screening an institutional database. What you'll initially come up with, however, may surprise and even shock you. Your initial universe of potential targets will seem unmanageably large and incredibly messy.
Indeed, this group will include all sorts of inappropriate and/or undesirable investors including indexers, quant shops, high-turnover hedge funds, corporate governance trouble makers (for instance Michael Price, Mario Gabelli or Wisconsin Investment Board, institutions that can cause you big headaches down the road), institutions that are simply too small to make a difference, firms that practically never add new position to their portfolios, firms that file twice under different names, etc.
When our company does a targeting study for a client, we typically take an initial target universe of upwards of 400 institutions and then cut it in half by eliminating undesirable or inappropriate investors. This calls for an intimate knowledge of the institutional marketplace, and requires serious legwork, but it's absolutely necessary for your targeting program to work.
At this point in the process, you should have a target universe that looks very good on paper. Still, this group needs to be qualified further. Every good salesman qualifies his prospects through a phone call before making a sales call. You, or your targeting service, need to do likewise.
Each target needs to be phoned, and the right portfolio manager or analyst needs to be identified and interviewed. They need to be asked: how much do you know about my company? are you interested in learning more? would you like to meet with management? is it something you'd consider buying in the short-term? the medium-term? the long term? From long experience, our firm has learned that a target who looks good on paper often will have no interest in your stock whatsoever when he or she is actually contacted.
A portfolio manager's answers to the above questions ultimately determine whether you've go a legitimate prospect or not. This phone call cuts through all the theory and clearly tells you whether you should spend time marketing to and cultivating this investor.
In addition to qualifying an investor's interest in your stock, phone interviews will often reveal, candidly and specifically, how you're perceived by the marketplace. This can be an extremely valuable by-product of a targeting program.
When we do a targeting study for a client, we often interview 200-plus potential investors -- those institutions that made it through the screens discussed above and who "look good on paper". These interviews typically lead to one of three results:
Half or more of your potential targets will not be interested in the stock, for any number of reasons, e. g., they are avoiding that industry, or it doesn't fit their current selection screens, or their plate is full and won't consider any new stock ideas in the near-term, etc. These should be eliminated from your target universe.
Another one-quarter or so of the investors we speak with will be interested in your stock and will qualify as a target. We then attempt to identify the hurdles the company needs to get over -- what the company needs to communicate in order to convince these investors to buy.
The remaining investors often know the company well, but aren't interested for specific and often well-articulated reasons. These are exceptionally valuable interviews. These are institutions that typically have researched the company but aren't biting. In the aggregate, they will show you how you need to shape your message, and maybe your corporate strategy, in order to better sell your company to Wall Street.
A well-executed targeting program should result in 50 or more red-hot leads. This is a potential gold mine. Incredibly, though, many companies that commission targeting studies -- or perform them internally -- simply sit on the information or merely send out an information kit to targets and never follow up. Others wait months from when the targets were contacted and qualified to set up appointments. By then it's too late. What a waste!
In order for a targeting program to pay off, it must be acted upon quickly -- within a month or six weeks (maximum) of investor qualification. Institutional investors have notoriously short spans of attention and interest. The competition for their time and capital from other stocks is enormous. If a desirable institutional investor tells you that he or she is interested in your stock now, schedule a meeting or at least begin a relationship over the phone fast. As the cliché goes, strike while the iron is hot, because it cools off very fast.
Targeting is neither complicated nor difficult. Follow these straightforward guidelines and you'll be on your way to more shareholders, a higher stock price, and a lower cost of capital. Meanwhile, you'll also look pretty smart to your chairman and board of directors.