Despite having twenty-eight years in the investment management industry and the natural cynicism that comes with experience, I nonetheless retain the ability to be amazed at what can pass for normalcy in the full light of day. Case in point is Avon Products (Ticker: AVP), a company that has a very clear shot at joining the pantheon of the top five worst corporate governance offenders now that Chesapeake Energy (Ticker: CHKE) has dropped out of contention. How is it possible that former CEO Andrea Jung, who presided over a truly disastrous run at Avon, is allowed to ascend to an “Operating Chairperson of the Board,” and to continue to punish shareholders with her presence both strategically as well as financially? Name me a successful example of a new CEO that comes on board in the midst of an urgent need for a turnaround and has to continue to work for the person who put the company in such a lousy position.
It was first said by English Physicist Jeffrey Taylor in his 1909 experiment that led to the field of Quantum Physics, and was reposed by George Soros (who ran the Quantum Fund…interesting?) in his theory of reflexivity, that organisms will behave differently when they know they are being observed. We have found CEOs and Boards of Directors also adhere to these natural laws and thus have found it helpful from time to time to communicate the views of the owners. When we find ourselves completely ignored by said organisms from time to time, we seek to shed a little more light on the subjects. In that vein, we present for your viewing pleasure a recent letter sent to Avon Products CEO Sheri McCoy and the Board of the Directors.
Our premise on Avon with a $16 cost basis is simple: the recent history represents a gross case of mismanagement and poor capital allocation. Avon has an established global brand that should be capable of 10% to 12% + operating margins with a management asleep at the wheel, earns high returns on capital (beauty and direct selling), and should generate a prodigious amount of free cash flow that can be returned to shareholders via dividends and share repurchase. Our view is that much of the Board of Directors should be replaced. Also, there should be a dividend cut, some balance sheet repair and a clear statement of margin and return targets announced with management compensation tied to those objectives. Specifically defined goals would conceptually offer shareholders the ability to calculate the present value of the current mystery operating plan versus a bird in the hand in the form of the recent $23 cash bid offered by Coty Inc. and backed by Berkshire Hathaway’s money.
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