Are Founder-Led Companies Really All That?
The big news story of the week has been the departure of Jack Dorsey as CEO of Twitter. Smarter people than I have written at length — and might even speak on a popular podcast out this Friday — on how this will affect Twitter and Square, the fact that he Tweeted “I love Twitter” the day before the announcement, and how long his beard may get now that he has more time to dedicate to his dream of becoming a crypto wizard. However, I wanted to pick up on something Dorsey said in his parting letter:
“There’s a lot of talk about the importance of a company being “founder-led”. Ultimately I believe that’s severely limiting and a single point of failure. I’ve worked hard to ensure this company can break away from its founding and founders.”
The comment raises an interesting argument as we at MyWallSt are big proponents of founder-led businesses. Any exercise that forces a bit of self-reflection is always a good one, so let’s dive in, shall we?
It makes perfect sense that a founder at the helm of a company would lead to greater returns for its investors. A founder-CEO will typically own more shares than a hired CEO brought in from elsewhere, or even a long-term employee. This means that their interests are more closely aligned with that of the company’s shareholders. They will also act in the best interests of the company rather than the individual, executing their long-term vision ahead of trying to achieve short-term incentives which are typical of modern CEO contracts.
We don’t have to talk in hypotheticals though, as an expansive study from the Harvard Business Review has offered some more tangible insights on how and why founder-led companies outperform. First off, they are proven to be more innovative:
“S&P 500 companies where the founder is still CEO … generate 31% more patents, create patents that are more valuable, and are more likely to make bold investments to renew and adapt the business model — demonstrating a willingness to take risk to invent the future.”
Secondly, and perhaps most importantly for us as investors, is that this has led to significant outperformance on the stock market. A study that looked at S&P 500 firms over a 15 year period found that an index of companies in which the founder was still heavily involved, outperformed the rest of the companies by more than three-fold.
Source: Bain & Company, Harvard Business Review
If you’re on the hunt for more recent data, Reuters found that founder-led companies have consistently grown earnings at a higher rate than their counterparts since 2015:
Source: Refinitiv Eikon, Reuters
It would be tempting to sign off here, label Jack the Lad plain wrong, and poke fun at the fact that the reason he doesn’t believe in founder-led companies is that, of the founder-led companies he’s been a part of, he was said founder. However, I would never stoop to such low levels of comedic integrity, and I also feel he has offered an interesting counter-argument to the benefits of being founder-led and in particular the concept of a single point of failure.
Let’s take a look at the most prominent founder-CEO the world has to offer: Elon Musk. When he’s not tweeting from his porcelain throne, he is running one of the largest public companies in Tesla, as well as one of the largest private companies in SpaceX. (Perhaps this multitasking is the key to his success?) The investment theses around both companies revolve heavily around Musk, his commitment to innovation, and his long-term vision for the planet. There may also be a dash of cult of personality thrown in to boot.
Now ask yourself what would happen to the stock price of Tesla if he was to step down tomorrow? Long-term, would Tesla be the same bastion of innovation without his vision and leadership? This is what Dorsey is getting at. This over-reliance on one person poses a point of concern for any operation, not least a trillion-dollar company. As a Tesla investor, you would hope that the culture fostered there would allow it to continue on its current trajectory, or as Dorsey put it “break away from its founding and founders”, but there would be question marks. And you can forget about the current valuation it commands.
There is also Tim Cook to consider, a successor to a founder-CEO who went on to take Apple to heights even the great Steve Jobs could not have imagined. Of course, this could be the exception that proves the rule, but the largest company on the market is one big exception.
Ultimately, we value founder-led businesses at MyWallSt and disagree that it is “severely limiting”. Dorsey’s comments and a spot of devil’s advocate aren’t going to change that. However, I hope today’s piece gives you an insight into how to take a more rounded approach to your own personal analysis and not look at certain things in isolation. Yes, we look for founder-led businesses, but we won’t discount ones that aren’t, nor is it a time to panic when one we admire leaves a company.
The same can be done with other metrics too:
It’s great that a company is growing revenue rapidly, but is this through organic means or due to outsized sales and marketing spend?
We love seeing high levels of net-dollar retention, but could an underlying cause of this be high customer concentration?
Innovation is great, but are all those product launches generating efficient revenue?
These are all questions you can ask yourself to help you better understand a business rather than taking one data point as gospel and moving on. There’s a yin to every yang and these opposing arguments can sometimes strengthen rather than weaken one’s resolve. Being able to identify these counterpoints will give you greater conviction in your decisions and make you a better investor in the long run.