This was critical to the success of AIM and its growth. In the book People Are the Product: A History of AIM, co-founder Ted Bauer observed that, “In the investment business, people are the product. Your inventory goes down the elevator every night and comes back in the morning. If people are happy, they work more productively.”42
I asked Graham how AIM was able to build such a strong culture when other companies couldn’t. Graham says that in at least one way, they modeled their business on friendships. “To build any successful enterprise requires people. You attract good people through the culture. Our philosophy from the beginning was that we wanted the business to operate in the same way our friendships did. The three of us [Bob Graham, Gary Crum, and Ted Bauer] were all friends, and we all got along so well together. In fact, we hired people we wanted to be friends with. If we felt we would not enjoy spending time with them outside of work, then we would not hire them. When you hire these types of people, a big benefit is that whenever you run into inevitable disagreements, they will always be amicably resolved.”
As Graham and his co-founders were building the culture, Graham said they wanted to offer a different type of work environment that gave employees a chance to be part of a small family operation. But they also wanted employees to have opportunities. Graham explains some of the ways that AIM’s culture supported its growth. “We offered a more entrepreneurial environment. We wanted people to have a sense that they could control their destinies.” Graham credits Ted Bauer with helping to develop employees: “Ted was always willing to give younger people a lot of responsibility. This was a great way to develop people because they really appreciated the responsibility.” By constantly promoting and giving more responsibility, Graham says they also avoided becoming stagnant.
In addition to offering entrepreneurial opportunities, AIM attracted employees who appreciated what is now called work-life-balance. Graham says, “We believed that employees should live a balanced life where family was important. We expected employees to have a life outside of work.”
I also asked Graham how AIM had managed to avoid the pitfall of an overly competitive culture, which was dominant in most Wall Street firms. In other words, what did they do to foster a cohesive team environment? He told me they weeded out people who were bad apples or who just didn’t fit in well with the culture. This made it much easier on those who stayed. These employees made extremely impressive contributions, and they did it together. Graham said, “We wanted to avoid employees who had the attitude that they needed to beat the guy sitting next to them. AIM’s culture was not cutthroat. Employees did not worry about who got credit.”
AIM’s business and cultural growth shows a cycle of benefits that would be hard to reproduce. The results were that AIM was able to attract talented, entrepreneurial employees and keep those same employees happy by giving them a healthy work environment. In turn, these entrepreneurial employees were the engine that helped AIM grow, which then offered more opportunities for others to move up the ranks.
Look for similar elements in businesses you evaluate. When you locate one with the cultural elements that AIM cultivated—that is, talented, happy, energized managers and employees attracting more of the same—you have discovered the foundation of a successful business.
Does the Business Have Identifiable, Shared Values?
The strongest cultures have shared ideas about what is most important; these are shared values. For example, senior managers may value the long-term benefits of training over the savings they would have from not training employees. Similarly, a business may value having great service and generous return policies over the benefits of reducing its service staff or reducing its restocking efforts. Managers and leaders play a central role in communicating and demonstrating what is important for the business, and they often are responsible for how well employees understand and adopt these values, which create the foundation for day-to-day decisions regarding the operations of a business.
To learn how to identify a business that has strongly held and clearly defined values, I interviewed Lee Valkenaar, Co-Chairman of the Board for Whole Planet Foundation.43 Valkenaar has been at Whole Foods Market since 1987 in various capacities, including executive vice president (EVP) of Global Support (from 2004 to 2008) and president of the Mid-Atlantic Region (from 2001 to 2004). He helped build the culture that Whole Foods Market is so well known for today. In Valkenaar’s opinion:
When you are explicit about your company’s values, it gives employees an opportunity to identify with those values because they identify those values within themselves. When employees see things that resonate within themselves, they can align themselves with those values. One of the main advantages of a business that has values is that it creates buy-in from employees by giving them a form of ownership in the business, which increases the chances of successful execution.
Many companies have values that are expressed through a vision and mission. You need to determine if these values are baked into the policies and procedures of the business or if [they are] just a statement that shows up on the wall. If they are incorporated into the culture—into the policies, procedures, and practices—that is when execution happens. People can and should be held accountable for knowing and adhering to these ‘shared value policies’ the same as they would an attendance policy.
For example, although you may see it in a mission statement, most businesses do not think employee empowerment is critical. Empowered employees can be intimidating to some senior managers, and empowerment also requires a substantial investment in time and energy to make decisions with more voices. When a business truly considers it important to empower employees, it encourages them to speak up. Whole Foods Market has team meetings every month where employees are solicited for their honest feedback. According to Valkenaar, some of these meetings can be intense, and sometimes employees have personal agendas or just want to vent their personal frustrations. For some senior managers, it is not easy to hear that the employee does not like the policies that have been implemented, but it is critical for senior management to listen.
To identify whether a business really has shared values, you need to ask the following questions:
How do values show up in the organization? At Whole Foods Market, one shared value is that there should be more equitable levels of pay across the organization. To implement this, managers established salary caps for the top executive officers, which limit the amount they can make, compared to a full-time employee. According to the 2010 proxy statement, the compensation was limited to 19 times the annual wage for a full-time team member.
Are the values identifiable and explicit? Are they found on the company website? Start by looking at the website of the business in the about us tab. If there is nothing there that mentions values or mission, then they are not a central part of the organization.
Does management continually state them? Reinforcement and public recognition by managers send a message about what’s important. Do the employees even know what the company values are? If you were to walk up to any employee at the business and ask what the values are, would that employee be able to answer this question? If not, then it is highly likely the company has not done a good job of expressing what its values are.
Does the company hold its employees accountable for knowing and incorporating the values? If a supervisor or employee violates the core values, is this behavior tolerated? If a business is serious about communicating, teaching, and operating by using shared definitions of what’s important, it won’t look away if an employee ignores a shared principle.
Let’s say a company, on paper, makes a commitment to an environment of mutual respect, but employees don’t buy in. Then that’s not a shared value. Many companies have values on paper that say it’s important to treat people well, but as Valkenaar notes, “If a business is not proactive in managing assholes, then it is probably not acting in accordance with the values of the organization.”
Are there costs ass
ociated with the values? At Starbucks, healthcare costs represent a large portion of costs, but offering great benefits is valued at the company, because that’s how it attracts and retains the kinds of employees who keep customers happy. Observing direct investment in something is often the only way to discern its importance to a company.
Finally, Valkenaar gives an example of a business that has not baked those values into its culture. He related a publicized story about a company that encountered a problem because it manufactured a product that said, “Made in the U.S.A.” on the outside of the product, but inside, the label stated “Made in China.” Visualize the path this product must have taken: As the brainchild of a creative merchandiser, it wound its way from production to the retail stores. Imagine what message is implicitly sent when you brand a product made in the United States and manufacture it in China.
Could that even happen in a company that completely believed in domestic sourcing? Also, if the company were truly committed to open communication, someone likely would have voiced concern even after the item was produced. Finally, if the company thought that customers deserved to know exactly what they were buying, the company would likely have stopped stocking the product completely.
Any company can say it wants open communication with employees, the trust of its customers or that it buys American, but this example shows why saying it isn’t the same as doing it. Valkenaar sees a clear disconnect between employees and leadership that allowed this to happen. If the company had really incorporated its values into its business, the snafu would likely have never happened, or at the very least the problem would have been solved long before the product ever hit the shelves.
What Is the Employee-Retention Rate?
If a business has an especially good employee-retention rate, it will often mention this on its website, annual report, or a plaque. For example, Baldor Electric, an electric-motor manufacturer, has a plaque at its headquarters showing the names of its employees who have been with the company for more than 10 years and the date each joined the company. Most of the employees on the plaque have been at the business for 15 years or more. There are many advantages to a high employee-retention rate, including reduced hiring costs, better customer relations, and higher profitability than competitors.
For example, even though Costco pays its employees 40 percent more (on average) than Sam’s Club (which is owned by Wal-Mart) and gives its employees better benefits, Costco’s profit per employee is much greater than its competitor Sam’s Club. Low employee turnover is one of the reasons for this. Whereas Sam’s Club turnover is 21 percent in the employees’ first year, Costco’s is only 6 percent. “Paying your employees well is not only the right thing to do, but it makes for good business,” says Costco CEO Jim Sinegal. He further states that if Costco paid rock-bottom wages, it would get what it paid for. “It doesn’t pay the right dividends. It doesn’t keep employees happy. It keeps them looking for other jobs. Plus, managers spend all their time hiring replacements rather than running your business.”44
44. Does the management team know how to hire well?
There are few management decisions more important than those involved in hiring and promoting employees. The number-one job of a manager is to pick the right people and then put them in the right positions. In essence, management is the art of getting things done through other people. Jack Welch, former CEO of General Electric, said, “My job is not to know everything about each business. It is to pick the people who will run the business and to decide how much money Business A versus Business B or C gets—and how to transfer people, dollars, and ideas across those businesses. I don’t get into the how.”45
If the management team has good people it can trust and count on, then executing the plans of the business becomes easier. In turn, talented employees hire other talented employees, who strengthen the entire organization. Therefore, if management is able to hire well, this is a great indication of competence.
You need to determine the caliber and tenure not only of top managers, but also those managers in important operational roles. Begin by identifying all of the key managers at the business by position. You may want to construct a management-timeline report, similar to the one shown in Table 8.1 for regional gaming business Penn National Gaming.
Table 8.1 Penn National Gaming—Management Tenure from 2001 to 2010
To construct this timeline, use the historical proxy statements to identify the top managers of the business. To identify other managers not shown on the proxy statement, screen for all of the Form 3, 4, and 5s, which you can find on the SEC website. These forms must be filed promptly, and they describe the holdings and transactions of officers, directors, and beneficial owners.
An added benefit of creating a management timeline report is that you will be able to note if there is a lot of manager turnover at the business, which is a negative sign. I have learned that one of the best indicators of a business that is deteriorating is when the most competent top managers of a business begin to look for other jobs or leave the business. You can use your timeline to monitor management turnover to alert you of any potential problems within the business.
After you have finished constructing a timeline report, research the backgrounds of each manager by searching for press releases and historical articles found in news aggregation sites, such as Dow Jones Factiva or LexisNexis. You will often find a press release issued by the company describing the background of the new management hire. You can then search for other articles by combining the name of the manager with previous employers. As you read through the articles and the press releases, determine whether the managers hired have the experience and knowledge necessary to do the job. Pay particular attention to whether they have dealt with a similar customer base in the past. If the top managers are hiring other managers with a lot of experience with the customer base, then this is a positive sign; however, if they are hiring their former colleagues or other managers who have limited experience with the customer base, this should serve as a warning signal.
For example, at IMS Health, a pharmaceutical information and consulting company, CEO David Thomas hired managers who had worked at his previous employer, IBM. These new hires did not have pharmaceutical knowledge or experience with the customer base. A sweep of press releases and news stories would have alerted you to the fact that many other IBMers ended up at IMS Health, among them:
John Schultz, IMS’ SVP of European Sales (after 20 years at IBM);
Bruce Boggs, SVP of IMS’ U.S. Sales (after 26 years at IBM);
Adeh Al-Saleh, President of IMS EMEA, (after 19 years at IBM); and
David Carlucci, President/COO (after 25 years at IBM). Carlucci later became CEO of IMS Health.
The warning signal to our firm was that it appeared that the CEO was hiring his former colleagues rather than hiring managers who were more qualified or who had experience in the pharmaceutical industry. As one indicator of the success of using this hiring method, note that the stock price when Thomas was appointed in 2000 was around $25 per share. It remained in the $25 to $26 per share range as Carlucci took over as CEO in 2006, and it then dropped to $22 per share when the company was taken private in 2009.46 In other words, over a nine-year period, the managers at IMS Health failed to create any market value for shareholders.
In contrast, Casey Hoffman, founder of supportkids® (a child-support-services company), mainly hired single parents. These managers understood what it was like to be in their customers’ shoes and lived their lives understanding many of the same frustrations and difficulties as their customers. This allowed them to execute more effectively than those who did not understand the customer base. As a result, supportkids grew its revenues at an annual rate of 28 percent during Hoffman’s tenure as CEO.47
How Do You Determine if the Manager Knows How to Pick Good Employees?
A business will put the odds of succeeding in its favor if it recruits and retains employees who truly want to work there. Employees who ar
e thoroughly engaged are more likely to stay longer. On the other hand, if a business does not hire well, then most of its employees will rotate in and out of critical roles, reducing productivity for the long term. Managers who know how to hire well are disciplined, hiring only those employees that fit their criteria, instead of just hiring the best candidates who are available at the time. Therefore, watch for those businesses that take their time as they hire employees.
Next, determine if the employees are coming from businesses with similar cultures. For example, if an employee has spent 20 years working at bureaucratic British Airways (BA) and has been hired at a decentralized business such as Penn National Gaming, then it is less likely to be a good cultural fit for both the company and that employee. If most company hiring is from businesses with similar cultures, then the odds are better that it will be a good fit.
Managers who hire well typically hire for a certain character trait, such as integrity or attitude, rather than skills. Issadore Sharp, founder of Four Seasons Hotels, said he hired employees for attitude first and then trained for the rest. “I can teach anyone to be a waiter,” he said, in the book Four Seasons: The Story of a Business Philosophy. “But you can’t change an ingrained poor attitude. We look for people who say, ‘I’d be proud to be a doorman.’” Herb Kelleher, founder of Southwest Airlines, echoed this sentiment when he said, “You don’t have the time, techniques, or enough drugs to change attitudes.”48
How Well Is the Business Able to Articulate the Values and Attributes of the Firm to Attract the Right Employees?
The Investment Checklist Page 29