Leadership in Good Times
In response to a recent issue examining the “Best and Worst Small Cap CEOs, 2008 to Present,” we received a thoughtful letter from a subscriber:
“I was a bit surprised to find Sturm, Ruger's Executive [Michael Fifer] rated 2nd - As I've read financial articles re: Ruger and other gun firms, much of the amazing revenues growth was due more to hysteria (than leadership) over what Pres. Obama would do to their gun "rights". In other words, any Executive worth his/her salt, would likely have fared as well in this heated "Gun rights/Obama" environment.”
In essence, he wonders whether the backdrop of the company largely determines the performance of executives in that company. For simplicity’s sake, let’s equate ‘backdrop of the company’ with industry.
Industry clearly matters. It sets the general parameters and environment within which an executive can act. The fact that so many funds and research teams are organized around industry testifies to the weight many investors give industry as they seek good trading ideas. Some funds trade on industry dynamics, believing it easier to pick winning industries than individual companies, and such a strategy can be successful. Indeed, William O’Neil of Investor’s Business Daily fame noted, “stocks tend to move in groups or sectors.”[i]
O’Neil makes a good point, but note his qualifier: “tend to move.” Great executives can overcome mediocre or poor industry dynamics. Jim Collins illustrated this point in Good to Great: the “Good to Great” companies came from industries ranked in the 4th to the 99th percentiles across the time examined. Five of his 11 companies came from industries ranked in the bottom quartile.[ii] Clearly, superstar executives and outstanding companies can come from almost any industry.
Indeed, large public company executives receive rich pay packages, in theory, because the company believes he or she can successfully navigate and surmount industry dynamics. In 2005, W. Chan Kim and Renee Mauborgne published Blue Ocean Strategy to much aplomb in the business community. Their central argument urged executives to seek out industries or segments thereof which offer attractive growth, competitive advantage and therefore, presumably, greater profit opportunities. They termed these industries and segments “blue ocean” and contrasted them with the low-margin, competitor-infested “red ocean.” The world’s great executives transition their companies out of the “red ocean” and into the “blue ocean.”[iii]
Let’s dig into this argument further, and look at the reverse: why do companies fail? Across the past 15 years, the Corporate Executive Board, an Arlington, Virginia-based consulting and executive education firm, has undertaken a fascinating study of why companies stop growing. The study culminated in a book, published in 2008, called Stall Points. Among the many useful findings, the researchers unpacked the root causes of the growth stalls at 50 representative companies. (It’s worth clicking the link to bring up the root cause analysis as we go forward.) Critically, only 13% of the factors were uncontrollable – economic downturns, the regulatory environment and so forth. The vast majority of the causes of growth stalls, 87%, were controllable, which the researchers break into strategic and organizational factors. Just read some of the disaggregated factors:
· Overestimation of Brand Protection
· Curtailed/Inconsistent R&D Funding
· Misperceived Market Saturation
· Unable to Manage New Model
· Board Inaction
· Innovation Capacity[iv]
As you look at them, the inevitable conclusion hits you: these were decisions people made. Bad decisions as it turned out, and the book contains numerous examples and case studies. Chief Executive Officers, in particular, exist and get paid to make decisions; their companies’ performance is, in a sense, the outcomes of the accumulated decisions made on their watch.
Which brings us back to Michael Fifer at Sturm, Ruger & Co. In our analysis of the “Best Small Cap CEOs, 2008 to Present”, he ranks #2. Let’s look at his performance across his entire five years in seat, according to our Business Value Enhancement Metric (BVEM). The x-axis is time and the y-axis shows Fifer’s performance, by percentile, when compared to his S&P 1000 (gray line) and industry peers (blue line).
You see he starts out very strong, but his performance has dipped in the last two years. Another finding of Stall Points should give Fifer pause here: almost half the companies studied “accelerated into their stalls,”[v] meaning growth was increasing and then slowed with no warning. Two cautionary lessons for executives at high-flying companies stand out: 1. good times often lull leaders, like a Siren’s song, into the mistaken belief times will always be good; 2. the strategies and capabilities that delivered the outstanding results likely won’t drive the next era of performance. Resting on your laurels will probably destroy those laurels.[vi]
For us at Chiefist, the chart of Fifer’s performance raises the question: while early on he took good advantage of the tailwinds in his industry (e.g., heavy gun and ammunition sales across the last three years), is he positioning the company for success amidst the inevitable evolution of those industry dynamics? Or, heady with early wins, will he lead the company down one or more of the Stall Points growth-killing traps?
In summary, we realize industry matters – to executives, companies and investors. And the stock performance often mirrors that of the industry as a whole. But investors are tasked with uncovering the companies that will outperform or underperform their peers in industry or the market. Executive decision-making over time becomes executive performance, which in turn eventually manifests itself as company performance. Extraordinary decision-making over time – and acknowledging, avoiding or transcending industry undercurrents – can lead to outsized company and investment results.
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[i] O’Neil, William J. 24 Essential Lessons for Investment Success (New York: McGraw-Hill), 2000, p. 34.
[ii] Collins, Jim. Good to Great (New York: HarperBusiness), 2001, pp. 252-3.
[iii] Kim, W. Chan and Renee Mauborgne. Blue Ocean Strategy (Boston: Harvard Business School Publishing), 2005.
[iv] Olson, Matthew S. and Derek Van Bever. Stall Points (New Haven: Yale University Press), 2008.
[v] Olson, pp. 22-3.
[vi] Conversations on October 5th and 13th, 2011, with Seth Verry, a researcher on the Stall Points initiative, co-author of the March 2008 article, “When Growth Stalls,” in Harvard Business Review, and current President of Daylight Strategies LLC.
Chiefist Positions, Vol. I Issue 15, October 20, 2011
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Some images created by Midjourney.
