Beware the CEO’s Pitch

The legendary investor Jim Rogers once observed: “If you’re seated on a plane next to the CEO of a public company, beware. Buy his stock and you’ll lose 50% of your money. Sit next to the chairman and you’ll lose 100%.” The message is clear. Top executives tend to be wildly bullish about their companies’ prospects -- regardless of the facts. “They’re professional salesmen,” says one well-known money manager.

Such inveterate optimism may help executives do their jobs. After all, how can you invest $500 million in a new plant if you really think the sky is falling? But it raises a serious question: Should an investor ever listen to these people?

Talking with management can be valuable. But in doing so, you’re not trying to extract a piece of material, nonpublic information. That would amount to insider trading, which is illegal. Instead, you want to learn more about how a business really works or why profit margins might contract or expand.

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Over time, however, basing investment decisions on conversations with company executives has hurt my returns. The two worst stock ideas I ever inflicted on Kiplinger’s readers, Live Current Media and Premier Exhibitions (PRXI), were influenced by such lengthy conversations. I thought the talks helped enlighten me about the companies’ operations. Actually, they infected me with management’s unfounded optimism. (I still own a small position in Live Current, formerly Communicate.com; it traded in mid January at 27 cents. I no longer own Premier.)

I blame myself for the Live Current debacle, but I also blame chief executive Geoff Hampson, whose repeatedly articulated vision of a glorious corporate future turned out to be a pipe dream. He was so steadfastly optimistic that he badly misled anyone dumb enough to act on what he was saying -- including me.

Case in point: At an investment conference and in talks with other hedge-fund managers, he occasionally projected revenues for a joint venture with India’s premier cricket league that gave Live Current the rights to broadcast certain matches over the Web. At one point, he said that revenues would come in at $15 million in 2010 and $30 million in 2011. (He vaguely reiterated those projections to me.) Quarterly revenues actually peaked at $70,000. On a percentage basis, the gap between projections and results was the greatest I have ever seen, outside of the drug business. But investors betting on a new drug in clinical trials know that the product may never win approval. Hampson’s soothing words helped blind me to the fact that the cricket venture was generating almost no revenues from advertising or merchandise sales.

With Premier Exhibitions, the chasm between hope and reality wasn’t nearly so great. But the gap was significant enough to help sink the stock from $14.50, when I first recommended it in August 2007, to its recent price of $1.45. Premier executives continued to sound optimistic months after the popularity of the company’s anatomical-bodies exhibits had begun to decline. The downturn, plus a negative legal decision and some disappointing new exhibits, helped torpedo the stock.

I’m now leery of projections by officials of small companies. So it was refreshing when I spoke recently with the chief financial officer of KVH Industries (KVHI), which I recommended in 3 Faves for the Fearless. Patrick Spratt answered some questions, but he didn’t speculate on why KVH’s stock was rising sharply. And he refused to say anything about future sales of KVH’s hot-selling TracPhone V7 marine-broadband systems.

Conclusion: The best executives devote themselves to delivering great results, not glowing projections. If you come away feeling that you have a real edge over other investors, something is probably wrong. You have either been told too much or, far more likely, you have merely been deluded.

Columnist Andrew Feinberg writes about the choices and challenges facing individual investors.