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In his book due out Aug 15, billionaire financier Seymour Schulich offers some advice on investing. He recommends buying the stocks of companies run by owner-managers with significant equity stakes, not the stocks of companies run by professional managers “incentivized” with large packages of stock options.

Managers with large equity stakes have their net worth tied to both the upside and downside of a company’s fortunes, whereas professional mangers with stock options don’t have their net worth tied to the downside very much. They are thus more likely to pursue riskier, short-term strategies at the expense of long-term performance. They may also make opportunistic decisions that benefit them personally more so than the company.

As an example of how things can go astray, Schulich cites “one of the worse mergers in modern business history:” the union of Time Warner and America Online in 2000. He believes Time Warner CEO Gerald Levine’s negotiations during the merger discussions may have been inappropriately influenced by the personal windfall he stood to reap from owning seven-million options. One wonders if a similar dynamic accounts for part of the current merger and acquisition boom.

To make professional managers think more like owners, Schulich recommends having the option plan vest slowly. Just 10% of options should become exercisable per year, he says in his book Get Smarter: Life and Business Lessons.

Source: Book Review: Schulich On Stock Options