When Vanguard founder John Bogle died last week, industry commentators were quick to point to the profound influence he had on the mutual fund industry. Realising that most fund managers cannot outperform broad market trends over time, Bogle popularised index funds, which essentially track the market’s ups and downs. That observation led to a catalytic change in the industry. But it may not have been his most inspired insight. As the New York Times points out, Vanguard’s advantage came from the unusual corporate structure that Mr. Bogle adopted.”
Vanguard is a mutual company, meaning it is owned by its investors. That ownership structure allows Vanguard to create a distinctive strategy and culture focused on delivering low-cost investment products. It also is the company’s secret weapon in delivering consistently strong performance, even in downturns. Vanguard competes with, among others, Fidelity (a family business), Charles Schwab (a public company), and Invesco (a public company), each of which has a strategy that reflects its ownership structure.
How companies are owned is an often-overlooked factor in their success (or failure). But a firm’s ownership model significantly influences what it’s good at, where it struggles, which opportunities it can pursue, and what it is vulnerable to.
There are three main types of company ownership models. The first is the public model, which is how most people envision companies of any size. Shares of these companies are publicly traded and widely held. Public companies are usually led by professional managers, with CEO’s at the top of the decision-making pyramid. They tend to be focused on maximising shareholder value as their clear and overriding objective.
The second type is the private model, which includes family businesses (Cargill, Koch, Mars), employee-owned companies (Publix, W.L. Gore), partnerships (Bain, Brown Brothers Harriman), and charity-owned firms (Ikea, Bosch, Tata). It differs in three ways. First, the ownership is exclusive — anyone can’t just buy a stake in the company. Second, the owners, not necessarily the CEO or other executives, have authority over major decisions. Third, the owners define what success looks like; for public companies, by contrast, success is defined by investors.
The third type is the hybrid model, which combines aspects of the other two. There are a number of possible versions, including mutual organisations and co-ops (such as Vanguard, REI, or Northwestern Mutual), which answer to their customers or policy holders, not outside investors; portfolio companies of private equity firms (Staples, Chuck E. Cheese’s); and controlled public companies, where the founders (Facebook, Google) or their descendants (Molson Coors, Ford) have decision-making power. Hybrids have more flexibility over their decisions than public companies but answer to a wider group of owners than private companies.
The advantage of a particular ownership model for a firm’s strategy depends in part on how important scale and control are to the firm’s success. Being public allows a business to access the resources of outside investors. But that comes at the cost of giving up control over key decisions (including how success is defined), as well as submitting to the rules that are designed to protect outside shareholders. The term “going public” literally means that a company is opening up to the scrutiny and regulation that accompany broad-based shareholding.
The private model allows companies to exert more control over their destiny, and many are truly private in the sense of being under the radar. That freedom of action, though, comes at the cost of being reliant on the capital the owners can generate through their own resources or what they can convince others to lend them.
Hybrids are in between these trade-offs. For example, Tesla has been able to use public equity to scale up its production while allowing founder Elon Musk to effectively retain control. However, Tesla is not immune to market pressures. Musk made headlines when he expressed his frustration with the pressures of being a public company and his desire to take Tesla private.
Musk may have been trying to follow the lead of Michael Dell, who took his eponymous company private in 2013, after using an IPO to facilitate growth. Reflecting on the newfound independence that accompanied private ownership, Dell said, “As you start to think longer term, all kinds of new opportunities emerge. You start thinking about, wow, what investments do we want to make? How can we develop our people? What are the real big opportunities we want to put our efforts behind?” In July 2018, the company announced it would create a publicly traded security, though control will remain firmly in the hands of Michael Dell and his private equity partner, Silver Lake Partners. The company is now a hybrid.
As the Dell experience shows, changing the ownership model can be a powerful way to let the strategy evolve with the company’s needs. When fast growth is the central objective, the public model can provide the capital to make that possible. (It is worth noting that control trades off with the capacity for rapid growth. There are a number of members of the $100 billion revenue club that are privately held, such as Cargill, Koch Industries, and Tata. Yet they tend to reach such heights over a much longer period of time than their public counterparts.) But when companies need more control over decision making, the private model is often the better fit. A shift in model is an extensive, and expensive, proposition, but it can be the lynchpin to gaining, or regaining, industry leadership.
In Dell’s case, going private allowed the company to reinvent itself. Others have explicitly rejected going public, motivated by a desire to maintain their distinctive strategy. Ingvar Kamprad, the founder of private company IKEA, said, “I decided that the stock market was not an option for IKEA. I knew that only a long-term perspective could secure our growth plans, and I didn’t want IKEA to be become dependent on financial institutions.” Those values were so intrinsic that the company was able to live by them even in difficult economic times. For example, during the 2008 recession, IKEA made a point of offering even lower prices to its bread-and-butter, middle-class customers. Within a few years, the payoff was already clear: about 10% annual top-line growth and stable margins, despite the ongoing price reductions and economic pressures. That long-term perspective has been instrumental to IKEA’s not only surviving the downturn but also expanding into new markets.
Looking through the lens of the competitive advantage of ownership has three implications for leaders:
Align your strategy with your ownership model
Each form of ownership brings advantages and disadvantages. The disadvantages are inherent: Public companies face market pressure, private companies have less access to capital. But the advantages can be limited by whether companies are set up to act on them. For example, public companies can use their stock and borrowing capacity to buy up competitors, but only if they are good at integrating their acquisitions.
Private companies should pursue the advantages that accompany their model, such as the benefits of a long-term perspective, which has been tied to superior financial performance. (I have written about these advantages for family businesses; most of them apply to all private companies.) When building a strategic plan, company leaders should consider (1) how their ownership model shapes their ability to compete, (2) create the capabilities required to realise its advantages, and (3) align the strategy with what the company is distinctively good at.
Know your competitors
When assessing your position in the market, study their ownership models, and use that information to understand their vulnerabilities, predict their moves, and figure out where you can beat them. If you are competing against a public company, expect that in a downturn it will be forced to shed people or assets (or both). Being aware of that, you can prepare to acquire their talent or business units by keeping cash high and debt low.
If you are facing off against a family business, pay attention to where they are in a generational transition. Those moments can be taken advantage of, such as by submitting an offer to buy them out. LVMH, which owns 70 brands, has turned this into a core plank of its strategy. It has “tended to swoop in when a family business is most vulnerable, when it is changing shareholders or when a younger generation is taking over.”
Think about the growth-control trade-off
The recent trend toward hybrids like Facebook, Google, and Alibaba suggests that many leaders appreciate the importance of retaining control through dual-class shares, even as they open the doors to outside shareholders and the capital they have. It seems like the best of both worlds, and it can be. But hybrids can still face pressure from their investors, as Musk discovered.
And it is important not to lose sight of the degree to which ownership model is central to your strategy. Berkshire Hathaway may end up being a cautionary tale: Its stock is publicly traded, but control rests squarely in the hands of company leaders Warren Buffett and Charlie Munger, which ensures that it can stay the strategic course regardless of what the market thinks.
Buffett has announced his plans to give his shares to charity, which, while incredibly generous, will result in the company’s being widely held. As the balance of power shifts from owner-managers to outside investors, a greater focus on quarterly results is likely. Activist investors could even push for the company to be broken up (an idea the business press has kicked around for years). As an owner setting your long-term objectives, you will have to choose between the pace of growth and how much control you, or your successors, have over the company, a decision with long-lasting implications.
Ownership models matter for how businesses compete with each other, and leaders must take their impacts seriously. Companies that can align their strategy to the strengths of their ownership model — and exploit the weaknesses of their competitors’ — can gain a significant competitive advantage.
This article was first published on the Harvard Business Review and has been reproduced with permission of the author. Find out more about BanyanGlobal here