Why I Prefer Founder-Led Companies

Followers of this blog won’t be surprised that I much prefer investing in founder-led companies. I will admit I am very biased when it comes to founders. I have started a couple companies myself, am a member of Entrepreneurs’ Organization, and tend to love all things related to entrepreneurship. I believe companies led by their founders often have intangible assets that are nearly impossible for a professionally managed company to replicate.

How many times have you heard a hired CEO describe the company as their baby? Probably never. But I have heard many entrepreneurs describe their own companies this way. Loving a business like it’s your own child doesn’t guarantee you’re a good CEO, but that obsession can make up for a lot of faults.
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Like Founder-Led Small-Caps? Here’s a List of All of Them.

For a while now I’ve been wanting to go through all small and micro-cap companies that are still run by their founders, but I could never find a list anywhere. So I finally decided to generate the list myself. I started by downloading a list of companies that fit the following criteria:

  1. Market cap less than $500 million
  2. Average daily volume of at least $5,000
  3. Share price of at least $0.05
  4. Only companies with up-to-date reports (so no grey or dark companies)
  5. Based in the USA
  6. No biotech or pharma

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Company Culture and Passionate Employees

I went to a couple annual meetings recently that got me thinking a lot about how important company culture is. Specifically, what an advantage it is to have employees that are passionate about what the company is trying to accomplish.

Trupanion (TRUP) is a pet health insurance company that I’ve spent a lot of time on recently, including a ride-along with one of their territory partners and the annual meeting at their headquarters in Seattle. The first thing that’s obvious about the employees I met are how much they love that their work goes towards saving pet’s lives. I can’t blame them: saving pet’s lives is a pretty kick-ass corporate mission that a lot of people would love to be a part of. The employees are also nearly all pet owners themselves who get to bring their furry little friends into the office with them everyday.
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Why I Avoid Acquisitive Companies

When I first got into investing I didn’t care whether a company was acquisitive or not, but the longer I invest the less I like acquisitions. Any roll-up strategy is an instant pass for me. Two things have slowly changed my views over the years.

First, there’s a lot of evidence that acquisitions (especially large acquisitions) are a poor way to grow a company. According to a McKinsey study, the average acquisition has historically increased the value of the combined entities by 5.8%. The problem is, more often than not, all of this increased value is transferred to the shareholders of the acquired company via the premium paid (i.e. goodwill). The average public company acquisition is made at a 30% premium to its previous day close. Increasing an acquired company’s value by 30% just to break even on the price paid is a hard enough task as it is, let alone earning an adequate return on top of that. Another interesting note is that M&A activity peaked in 1999 and again in 2007. It seems managers are all too prone to make acquisitions when times are good and valuations are high.
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Podcast with Eric Schleien

Two weeks ago I was on Eric Schleien’s The Intelligent Investing Podcast. We spent most of the podcast talking about two of my favorite long-term compounders, Where Food Comes From (WFCF) and Interactive Brokers (IBKR). We also mention Franklin Covey (FC), Elbit Vision Systems (EVSNF), and a handful of other more general investing topics. Click below to give it a listen. Cheers.

Episode 9 – The Intelligent Investing Podcast

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Management Intangibles I Look For

Even though talking to CEOs is helpful, I don’t think it’s required in order to get an idea of how shareholder friendly they are. Last year I added a section to my investment checklist called “Management intangibles” where I go through a number of things that give hints as to what type of CEO I’m looking at. I like asking myself these questions because the answers to all of them are public information and/or fact-based. When talking to a highly charismatic CEO who is a natural salesman, it’s easy for the halo effect to take over and to think higher of them than I should. The halo effect is when we take one attribute of someone (this CEO is knowledgeable and talks with confidence) and assign them other unrelated positive attributes because of it (this CEO is shareholder friendly and a good capital allocator). It’s a human bias that we’re all guilty of (most commonly with attractive women) so it’s a good idea to try and counteract it.

I think combining these list items with my impressions from talking to the CEO leads me to a less biased opinion that’s more rooted in facts. So below is a list of all the things I go through in my intangibles checklist. None of these are deal killers and virtually all CEOs have the “wrong” answer on a few of them, but looking at them as a whole can give a decent picture as to what the CEO is like.
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