New Study Ranks 125 Northern California Companies

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Apple Crushes Field for Earning Highest Return and Producing Economic Profit According to SCCO International and Pepperdine University’s Graziadio School of Business and Management. Chevron, Intel, Google and Oracle Round Out Top Five Value Creators.

“Historically, the business culture in Northern California has rewarded taking on tremendous risks to earn greater reward,” said Pepperdine associate professor of finance John Paglia.

Today, SCCO International and Pepperdine University’s Graziadio School of Business and Management released the 2012 CEO Performance 125, which ranks CEO performance of Northern California’s largest companies. The report names former Apple CEO Steve Jobs as the top value creator in Northern California.

Given that a CEO’s primary duty is to allocate capital to its highest and best use, the study ranked CEO performance of 125 of Northern California’s largest companies according to their ability to earn returns above their investors’ required return. In 2011, Apple delivered returns that were an unheard of 1,049% above its required return on only $2.4 billion of capital to generate an impressive $25.4 billion of economic profit (1,049% return above investor requirements x $2.4 billion of operating capital). The market rewarded this performance with an exceptional market-to-book multiple of 77x (compared to an average multiple of approximately 4x for all 125 companies).

Rounding out the top five in total value creation were: Chevron ($19.3 billion), Intel ($10.6 billion), Google ($8.2 billion) and Oracle ($8.0 billion).

“These rankings are another example of the legacy of Apple CEO Steve Jobs,” said Patrick Furtaw, Partner at SCCO International and a co-author of the report. “Mr. Jobs put in place a strategy that delivers high returns and more profitable growth. The bar has been set very high for Tim Cook in his new role not only leading the company but also leading the Northern California corporate community.”

To further examine the role of returns, the study segmented the 125 companies into two groups and compared their respective performance. Group I consisted of the 85 companies (68%) with returns above their required return, while Group II consisted of the 40 companies (32%) with returns below their required return. Group I was the hands-down winner in all categories, outperforming Group II according to market value, return and growth measures. Group I companies achieved returns on capital 26x higher than those of the low performers, achieved profit margins 10 percentage points higher and, most importantly, Group I was valued 2.5x higher in terms of market-to-book value.

Interestingly, the ranking also highlights that the strong performance of Group I spanned multiple industries. Group I also delivered higher returns than Group II across the common industries in our ranking. For example, in Medical Equipment, the top performer, Intuitive Surgical (Group I), delivered a 105% return on operating capital, while Accuray (Group II) earned a -48% return on operating capital. Other industries, such as Semiconductors, Computer Software, Computer Hardware, Communication Equipment and IT Consulting and Services, exhibited similar results.

Employing Capital for Returns, Growth and Value
As Apple illustrates, Northern California’s corporate landscape is dominated by dynamic technology and software-related companies. To recognize performance over this broad range of companies, researchers also ranked CEOs according to the value spread, the difference between their company’s return on capital and their cost of capital.

Two companies from widely different technology industry segments, NetApp (data storage and software) and Intuitive Surgical (medical devices), show how all-star companies can successfully employ their investors’ capital for returns, growth and value.

In 2011, NetApp’s Tom Georgens delivered a value spread of 533% on average capital of $115 million, which resulted in $614 million of economic profit. The company generates 10% profit margins and capital turnover of 52x, thanks to its practice of extracting customer advances. In addition to its favorable capital model, NetApp is well positioned to handle the proliferation of big data that its customers will face for the foreseeable future.

Intuitive Surgical’s Gary Guthart earned a spectacular 94% above its required return on an average capital base of $501 million, resulting in $438 million of economic profit. The company generated a 28% profit margin in 2011 and capital turnover of 3.8x. Intuitive Surgical’s pioneering development of robotics in the field of minimally invasive surgery allows it to command such premium pricing and it is also driving the company’s 25%-plus growth trajectory.

“The CEOs of the all-star companies did an excellent job looking ahead in order to allocate capital that resulted in positive growth in 2011,” said co-author Steve Chopp, Senior Advisor to SCCO International and adjunct professor at Pepperdine’s Graziadio School of Business and Management. “Now the test of a great CEO will be the ability to deliver stellar performance consistently year over year.”

Investing with Discipline
Some may be surprised by the large swings that companies made in the ranking year over year; however, the data suggests that variations in performance are driven more by differences in leadership, strategy and execution as much as industry characteristics. For example, AMD jumped from number 59 in 2010 to number 14 in 2011. Symantec showed a similar swing from number 121 in 2010 to number 17 in 2011. However, both companies have installed new CEOs within the last three years who have overhauled business practices to better manage capital and shore up sales.

“Historically, the business culture in Northern California has rewarded taking on tremendous risks to earn greater reward,” said co-author John Paglia, an associate professor of finance and the Director of the Pepperdine Private Capital Markets Project, which investigates privately held businesses’ access to capital and the lenders and investors that serve them. “However, in looking at the top and the bottom of the rankings of companies, it appears that those companies that invest with discipline over the long haul come out on top.”

The study is available at: http://bschool.pepperdine.edu/ceo-125

About the Graziadio School of Business and Management
Founded on the core values of integrity, stewardship, courage, and compassion, Pepperdine University’s Graziadio (GRAT-ZEE-ah-DEE-oh) School of Business and Management has been developing values-centered leaders and advancing responsible business practices since 1969. Student-focused, experience-driven and globally oriented, the Graziadio School offers fully accredited MBA, Masters of Science, and bachelor’s completion business programs.

More information can be found at http://bschool.pepperdine.edu/newsroom/.

About SCCO International
SCCO International is a global management consulting firm with a focus on the simple yet far-reaching concept of consistent value management. SCCO has been working with clients for over 15 years to assess their business portfolios and develop and implement strategies that achieve sustainable competitive advantages and drive returns for their shareholders.

More information can be found at http://www.scco.com/.

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