On February 15th, we launched the Global X Founder-Run Companies ETF (BATS:BOSS). The fund targets US mid- and large-cap companies led by CEOs who are the original founders of their firms. BOSS is a part of our Alpha suite of ETFs which are designed to outperform the broad market and are based on academically backed methodologies.
What differentiates founder-run companies from the rest of the market? We believe it boils down to three components: ownership, innovation, and culture.
Ownership: Aligning compensation and incentives for the long-term
Founder/CEOs tend to have large equity stakes in their business which can represent a substantial portion of their personal wealth. In fact, we found that founder/CEOs had 10 times higher ownership in their companies than the average S&P 500 CEO.1 This significant financial investment, combined with an intense emotional connection with the company that they founded and nourished, often results in different incentives for founder/CEOs when compared to "professional CEOs" who join companies at a later stage of a company's life. In research on founder-led companies, venture capital firm Andreessen Horowitz writes:
"Founding CEOs naturally take a long view of their companies. The company is their life's work. Their emotional commitment exceeds their equity stake. Their goal from the start is to build something significant… Professional CEOs, on the other hand, tend to be driven by relatively shorter-term goals. They are paid in terms of stock options that vest over 4 years and cash bonuses for quarterly and yearly performance."2
When Founder/CEOs take a "long view" of their companies, it tends to align their incentives more closely with other shareholders. For example, the average annual compensation for founder/CEOs is 32% less than that of the average S&P 500 CEO, as founders understand that maximizing their salary could come at the expense of deploying cash to fund long term growth opportunities, and thus hurt their equity value over the long term.3 In addition, these CEOs are careful to not take on excessive debt, as bankruptcy would wipe out the value of their equity stake. As a result, founder-run companies exhibit 52% lower debt-to-equity ratios than the S&P 500 as a whole.4 Overall, we believe this is a positive for long-term investors, as their aspirations for sustainable growth closely aligns with the founder's goals and incentives.
Innovation: Patents and the agility to pivot
By nature, founders are innovative and entrepreneurial, as these attributes initially led them to form and grow successful businesses. But a key question is: "Are founders able to continue to instill an innovative culture in companies with hundreds or thousands of employees?" A recent paper from professors at Purdue University sought to answer this question and discovered that founder-run companies indeed exhibit higher levels of innovation. For one, these companies generate 31% more patents than the average company in the S&P 500, demonstrating a strong commitment to developing new products and technologies. They also found that founder/CEOs "are more likely to take their firms in a new technological direction," representing a unique ability to dramatically pivot their businesses in order to remain on the cutting edge.5 The fact that innovation remains a key aspect of founder-run companies can help fuel these companies' long-term growth and avoid falling behind new challengers even as they mature into larger corporations.
Culture: Lifting up employees and customers
The third important aspect of founder-run companies is the existence of meaningful cultural traits which emanate from the founder and can be found across the organization. Studies led by Bain and Company found that this commonly manifests as the following three traits:
- Insurgency: the mindset that the company is "waging war on industry norms on behalf of underserved customers"
- Front line obsession: where employees exhibit "a love of the details and a culture that makes heroes of those at the front line of the business and gives them power"
- Owner's mindset: "dialing up speed to act and taking personal responsibility for risk and for cost"6
Taken together, we believe these three cultural traits are a significant advantage for founder-run companies, as they enable a company to be more nimble, purposeful, and instinctive.
Considering the special lens and verve that Founders bring to their daily work, we believe that there is long term value in investing in Founder-run companies. Investors seeking this exposure can learn more about the Global X Founder-Run Companies ETF (BOSS) by clicking click here.
1. Source: Bloomberg. CEO equity ownership data as of 1/18/2017
2. Ben Horowitz. bhorowitz.com/why_we_prefer_founding_ceos
3. Source: Bloomberg. CEO compensation data as of 1/18/2017
4. Source: Bloomberg. Debt to equity ratio data as of 1/18/2017
5. Lee, Joon Mahn and Kim, Jongsoo and Bae, Joonhyung, Founder CEOs and Innovation: Evidence from S&P 500 Firms (February 17, 2016). Available at SSRN: ssrn.com/abstract=2733456
6. Source: Bain and Company. hbr.org/2016/03/founder-led-companies-ou...
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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.