This year’s portfolio construction forum titled “The long and short of it” saw the overwhelming majority of participant’s state that long term thinking is required when investing. We feel this to be crucial with regards to horizon based investing and riding out volatility, especially when it comes to gaining exposure to the fast growing, but more volatile emerging markets. However, in practice does this really occur?

Having worked at some of the big four banks, I know all too well of how business direction can change multiple times within a short timeframe. This can create poor engagement, lack of organisational focus and can be expensive to resurrect. Most importantly it tends to destroy brand and shareholder value.

So why does this happen?  Well management is often incentivised to make short-term decisions for their immediate personal gain.  They are commonly paid in terms of stock options that vest over a short-term period of 1-3 years and cash bonuses for yearly performance. Senior management are therefore not incentivised to make strategic investments that are long term accretive to the business as this incurs immediate expenses while reaping no immediate profits. This is at complete odds to company management often claiming shareholder wealth generation is their ultimate priority.

This is often illustrated as the agency problem which differentiates the drive of owners of a business in comparison to management. In the case of founding management, there is naturally a longer term view taken as their company was built through hard work, passion and drive to create something significant. They instinctively and intricately know all facets of the business, its products and its target market, their unique selling proposition and the barriers to entry. They are also continuously looking to innovative, make bolder and more strategic investments and maintain more loyal employees.

Chris Zook, partner at Bain & Company’s Boston office wrote a piece in the Harvard Business Review titled “Founder-Led Companies Outperform the Rest — Here’s why”. He and his team at Bain & Company have been studying publicly listed companies globally over the last 25 years in an attempt to identify companies that manage to generate sustainable long-term earnings growth. What they found was that sustainable profitable growth is very challenging and that currently only 1 in 10 companies have been able to achieve this feat over a decade.

Interestingly though, when they tracked this globally, a disproportionate amount of companies that met this criterion still had the founder either running the business, involved with the Board of Directors or where the focus and principles used by the founder/s were still in place. After interviewing over 200 founder lead companies, Chris and his team identified three characteristics and underlying attitudes that emerged consistently. They coined this phenomenon “the founder’s mentality” which displayed the following characteristics:

1. Business insurgency – Sharp sense of purpose. Without this the business lacks direction and is uninspiring. According to Bain & Company, 13% of employees worldwide are disengaged. Engaged employees are 3.5 times more likely to engage personal time to innovate compared to unengaged workers.
2. Front-line obsession – The deep understanding of the product/service and the love of detail and curiosity at the front line. These companies are likely to remain in touch with their customers and bureaucracy is less likely to take over.
3. Owner’s Mindset – Take personal responsibility for risk and costs. The company thinks like an owner would. Less complacency, not as slow to act and less risk averse, whilst employing a long-term mindset.

A great example is Facebook’s founding CEO Mark Zuckerberg. He made a series of long-term strategic decisions and avoided taking any revenue that went contrary to improving the user’s experience. However, by committing to this vision, he was heavily scrutinised in the short-term by the press and investors. Would a professional CEO have taken these risks and endured such vicious attacks for unproven, long-term benefits? The chart below compares the stock performance of founder lead companies relative to others over the last 24 years. Interestingly, the outperformance of such companies is substantial.