Comp Cop

Iconoclast? Don Quixote? Call Fred Martin both—but he walks the talk.

Martin is the chief investment officer of Disciplined Growth Investors, LLC, of Minneapolis. Martin founded Disciplined Growth in 1997, after spending 18 years at the former Mitchell Hutchins Asset Management. In the nine years since, Martin and his team have built their assets under management to $1.6 billion, about $1.5 billion of which is invested in small- and mid-capitalization stocks.

The firm also has established an enviable track record, in part by buying companies with strong, profitable growth and then holding onto the stocks. Disciplined Growth’s annual turnover averages 5 to 15 percent per year—exceptionally low for an active money manager, especially a growth-stock manager.

While that’s unusual enough, Martin is also rare in his views—and activism—regarding executive compensation and corporate governance. To be sure, some progress has been made; but as far as Martin is concerned, not enough.

{Q} Hasn’t this been a particularly choppy market?

{A} No. I think what we have is a normal Fed tightening process, and of course it gets more chaotic the more pressure they put on the market. If you look at May 10th on, boy, they got the market’s attention. At that point, gold fell, copper fell, the stock market fell. They finally began to hit the inflection point. I think the Fed wants to convince people that they’re serious about holding inflation down, particularly commodity inflation. I think the one thing to watch is oil prices, which have not responded downward.

{Q} How do you invest in this kind of a market?

{A} I think you invest like we always do. We take company A, and we make reasonable assumptions what it can look like seven years out—that gets us out of an economic cycle. We apply a price-earnings ratio to that, estimate the growth rate, and then if it sells at a reasonable discount to that price, it’s a good candidate for purchase.

{Q} Have you altered your portfolio’s composition?

{A} No. Tightening and loosening is just a tactical thing. We use four different risk factors to determine whether we need to change the composition of the portfolio. Position size, financial risk, execution risk—the company’s ability to execute—and valuation risk. So if one or more of them becomes elevated, it may be a candidate to be trimmed down. The company’s ability to execute includes corporate compensation in execution risk. Big deal for us, but we’re fighting a lonely battle there.

{Q} You use CEO compensation as a selection tool?

{A} Absolutely. We look at [current compensation] as ridiculous and outrageous.

{Q} Have you gotten into situations where compensation has gotten out of whack while you own the stock? Do you get active, and what kind of response do you get?

{A} Yes, we get active—we’re shareholders. The responses are all over the board. Understand that we tend to be very long-term investors. Our turnover last year was 6 percent. But when it comes to CEO compensation, we don’t get much help. We write letters; we’ve been successful in getting CEOs changed. We just went through that with a small biotech—they’re merging two companies and the CEO is making $300,000.

{Q} That’s too high for you?

{A} We’re a private company, but my base salary is much, much lower than that—a fraction—so what I make is related to that and the profits we make as a firm. And as CIO, I have the highest base salary in the firm. So, a lot of times we’ll be sitting with management and I’ll ask them, ‘Why don’t you cut your salary to, say, X?’ That’s what my base is—what’s the matter with that?

{Q} You tell them what you make?

{A} Yes. I can’t say that their base is high if my base was high . . . . My employees are minority shareholders; they share with me—I’m perfectly happy. So what is it with these people?