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Constellation Software (TSX: CSU) acquires, builds and operates vertical market software (VMS) companies globally. The company has six operating groups that currently serve customers in more than 100 different vertical markets around the world. There are many VMS business units within each of Constellation Software’s operating groups.

Each VMS business unit has a manager and separately tracked financial reports. The company monitors and measures the performance of each VMS business unit through ratios and operating metrics, including profitability and growth. The majority of corporate executive incentive compensation is tied to measures of profitability and growth performance.

Maximize return on invested capital

In addition, each of Constellation Software’s VMS sales managers is motivated to run the business in a highly focused manner. These individuals are encouraged to leverage their market knowledge to maximize growth opportunities, profitability and return on invested capital within the manager’s business.

However, Constellation Software’s head office sets ROI targets. The company’s decentralized management structure allows it to have business unit management teams with strong customer relationships and in-depth market knowledge that are more focused and responsive than would be the case in a model. centralized management.

Continue organic initiatives

These teams provide managers at Constellation Software’s head office and operating groups the opportunity to focus on issues such as capital allocation, identifying best practices, and assisting with recruiting and coaching. high potential employees, while VMS business managers focus on operational efficiency and the pursuit of organic farming. initiatives and acquisitions in the company’s existing vertical markets.

The Company from time to time establishes what it considers to be an acceptable after-tax internal rate of return (IRR) as the benchmark rate for all new initiatives and acquisitions of Constellation Software. All of Constellation Software’s operating group cash flows can be used by corporate headquarters. At Constellation

Software, the capital is distributed among the individual management teams according to the projected IRR which is influenced by the relative attractiveness of a market, the strategic position of the VMS activity and the performance of the management team.

Focused on shareholder value

In addition, Constellation Software’s head office approves all acquisitions involving an investment of more than $ 20 million. In practice, the operating group’s cash flows are offset by investments approved in acquisitions and internal investment initiatives, and only the balance is returned to the head office.

The goal of Constellation Software’s compensation plan is to reward employees who work towards the company’s corporate goal of increasing shareholder value. Within the company, shareholder value is created by managing two long-term financial aspects, including profitability and growth.

Compensation invested in company shares

As such, Constellation Software’s bonus plan compensates employees at many levels of the organization based on the profitability and revenue growth of the business unit.

At Constellation Software, a long-term direction is accomplished by requiring that at least 25% of the incentive compensation of the majority of the company’s senior executives be reinvested in company stocks that are subject to resale restrictions. This is one of the reasons the company has achieved phenomenal returns over the past decades.

This article represents the opinion of the author, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We are straight! Challenging an investment thesis – even one of our own – helps us all to think critically about investing and make decisions that help us become smarter, happier, and richer, so we post sometimes articles that may not conform to recommendations, rankings or other content.

The Motley Fool owns shares and recommends Constellation Software. Foolish contributor Nikhil kumar has no position in any of the stocks mentioned.

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