Tom, Ben and I have been investing together for almost two decades, and long before that investing was at front and centre of most of our conversations. It is our deep passion that has become our job. While we attack many problems from different angles, there is one that we are perfectly aligned on, and it forms the core of every investment decision we make at TDM; it is the rooted belief that people and culture is the heart beat of high performing businesses. This too perfectly aligns with our mission ‘to invest in and help build businesses we are proud of’ as we know that great cultures not only breed great results for the business, employees and investors, but also the wider community.
There have been many occasions in our time that we have met with CEOs of fantastic businesses — long, durable growth opportunities ahead and running a business model that has developed strong competitive moats, that we have deemed “uninvestable” due to our diagnosis of the business’s culture. Why would we give up the opportunity to invest in a great business, all because of a subjective diagnosis of a very intangible characteristic? Our answer is simple — above all else, ‘Culture’ is the determining factor of long term success. Products, innovations and competitive advantages come and go, and so do people. But the binding force that will enable great people to be continually attracted to a business, to stay at a business and give their all to a business, which in turn ensures that these innovations and competitive advantages keep enduring are solely a function of the culture of the business.
When we explain this to CEOs of potential investee companies or other investors curious with our methodology, their line of questioning is often, “but how do you diagnose the people and culture of the business?” Usually we respond that there is no substitute to time with the founder, executive team and board members, but that does not do our process any justice. There is certainly more art to this than science, but increasingly there are tools we use that to determine if a business has a strong, positive culture. It is hard as investors to do this, and increasingly in many ways harder now that ‘culture’ has become such common business fabric. Our job now is largely to determine how genuinely it has been woven into the company. Even as board members it can be hard to diagnose as ‘insiders’. Increasingly boards are demanding the use of diagnostic software like Culture Amp, and results published in board reports.
It is also worth noting we realise also that is not and never will be a one size fits all approach– There is no “right” or “wrong” culture. Every company culture is different and multiple cultures can co-exist with one company. Different cultures can function in a positive manner depending on the business. They can be thought of as living organisms, continuously evolving and as such so too is our assessment of them is never ending.
Below is a snapshot of the nine ways we look to understand and diagnose the culture of a business:
Culture starts and ends with leadership. The key to any correct diagnosis of a culture is getting the diagnosis of the leadership correct. I wrote about what great looks like to us when it comes to a CEO , and the four enduring qualities that we see in great cultural leaders. We use this as a starting assessment tool — how does this CEO stack up against these qualities? Even in an hour we feel like we can get a decent feel. In most instances, if we get time with a CEO, that time will be exclusively spent on people and culture. We can run the numbers, usually easily and quickly, so we are not going to waste valuable time talking to the CEO about them. There are a few examples that this caught the CEO slightly off guard. However, it usually opens up a deep and meaningful conversation that is incredibly valuable to our due diligence process. Spencer Rascoff, the founder and CEO at the time of Zillow Group was so positively taken aback he blogged about it. Great CEOs are thinking about people and culture issues endlessly — why not connect with them straight up on something that is so front and centre in their own day to day life.
Most CEOs now have a fairly well prepared spiel for explaining their company’s culture so we need to be able to dig deeper now than we used to. We will usually start by asking some basic but high diagnostic questions. For example, I like to ask the CEO how she has, with examples, nurtured and developed P&C in their organisation. A positive response may be similar to how Aneel and David, the founders of WorkDay, interviewed the first 500 recruits personally. They did so with the view that those first hires are cultural co-founders and will be carriers of the culture for many years to come. Having listened to Tobi Lutke talk about trying to create an anti-fragile culture , I now often ask how a CEO has stress tested the culture and taken actions to purposely strengthen it.
Of course many investors don’t get the benefit of spending time with executives at close quarters. Fortunately there are many resources available that can get you most of the way there — quarterly conference calls, podcasts, social media, using an expert network to interview former direct reports or customers. Another key for us is understanding how aligned a CEO is to the owners of the business — digging into their remuneration, both short-term incentives and long-term incentives as well as share ownership gives you important insights into both the CEO and company culture.
The impact a board can have on culture is something we perhaps underestimated until we started to join boards ourselves about 15 years ago. We can’t emphasis this point strongly enough — the board is critical to culture. The board’s #1 job is to ensure the company has the right CEO. The board sets and oversees many of the incentives that drive behaviour in the organisation.
We look at both board structure and the individual directors. In terms of structure, we want a diverse set of the highest quality people. We look for diversity across function, business stage, exec and non-exec, gender, ethnicity — the list could go on. We strongly believe diverse teams lead to the best outcomes. Ideally, we spend time with each board member. However, in some cases, access can be challenging. We will look deeply at who they are, how many other board seats do they have (an amber flag for us is holding more than three), how directors are remunerated and, critically, how aligned are they to shareholders through ownership. I have publicly stated our heuristic that directors should own 5x their directors’ fees in shares.
We use expert networks extensively, particularly to speak with former employees who were higher up in the org. We also rely on other methods of getting in front of employees. Above all else, this involves a bit of hustle and lateral thinking. If it is a retail company, visit as many stores as you can. Ask the people in the stores basic questions like ‘do they enjoy working for the company any why’? You get a sense very quickly if the front line are engaged with the mission and values of the company. Sign up for a sales call as a potential customer if its a software business or even become a customer to increase your range of touch points from customer service and support. Sometimes the added benefit of being a customer are customer conferences and access to more staff! The most authentic engagement you can have is always the real life, non scripted interactions, so value these when the opportunities arise.
The old adage ‘you can’t manage what you can’t measure’ rings true when it comes to culture. Amazing businesses like Culture Amp (disclaimer, TDM is a proud investor) provide invaluable insights and benchmarks and the absence of any such platform is a minor alarm bell for us. In the case of public company disclosures, it is always a great sign companies are willing to share employee engagement data or their eNPS. For private company due diligence, which is usually far more extensive given the access to information, this is a must see prior to investing.
Similar to internal tools, one of the quickest, easiest and publicly available tools is Glassdoor. A quick snapshot of CEO rating, trends and simply number of reviews can tell a story. Things to look out for — does any company representative respond to reviews? Who responds — is it the CEO? A trap though can be influenced by the usually negative bias of former employee reviews (are they axe grinding?) or the often positive bias of current employee reviews (are they being forcefully encouraged to write reviews by HR?).
Public company disclosures, particularly in the US, are extensive. What we are looking for are companies that explicitly refer to people and culture in their earnings reports, investor decks and regulatory findings. For example, Fastly, a recently listed US software company, identified deterioration in culture as the company scaled in the “Key Risks” section of their prospectus — this would have never happened 10 years ago! One of the key things we look for is whether management take the opportunity to talk about culture on public conference calls. For instance, Hubspot CEO, Brian Halligan, rarely misses an opportunity to focus attention on this critical issue:
“ We’ve got a very unique culture and great employees. We’re a magnet for great talent. You go to Glassdoor and look at HubSpot, and we’ve had thousands of employees rate us and we’re consistently 1 of the top 10 places to work in the world. I think that’s a hard one to compete with.” Brian Halligan, Hubspot founder and CEO, Dec 2019, quarterly earnings call
While a company’s mission is why it exists, the values of the business are the how it exists. We believe that values are the epicentre of any culture. If culture is the heart of any business, its values is its DNA. It doesn’t matter what they are, it matters how deeply they are engrained into the psyche of every single employee, how they are used to frame decisions and to take action. I am of the opinion that it is important that the values are bespoke to the business, and their expression is unique. They have to mean something to those inside the business first and foremost, but at a certain scale, it is important they are understood by outsiders as well. A wonderful example is the Twilio value of ‘draw the owl’. Completely obtuse at first glance, but to ‘Twilians’ it is synonymous with action — to get jobs done within the peripheral guidelines of the ‘two circles’ that make up an owl when you draw it. The details of how to get a job done are up to the individual, all we ask is you just start with two circles. Jeff Lawson and his team have now done a superb job of conveying a quirky internal value to the outside world, and it gives a wonderful sense of what it means to work at Twilio.
A big (sub) piece of the values puzzle is how well they are defined, and understood. One of the best examples we have come across is one of our portfolio companies, Rokt, who have an internal document clearly articulating expected behaviours for each level of the organisation, specifically relating to the values. The expectation of living and breathing the values of a junior developer is different to the Head of Engineering, but as you progress through the organisation, so does the expectation, and this is interwoven throughout career progression planning.
Most if not all companies of some scale will have a written strategy document. What isn’t as common is a written culture document. The latter that is more important to us as it codifies behaviours and guides decision making, such as strategy setting. The culture decks of both Netflix and Hubspot have become not only very powerful tools for the companies themselves but also a shining a light on how a purposeful culture can positively impact business outcomes. If a business hasn’t taken the time to codify their culture in writing in some form, it very quickly suggests they don’t either value their culture as a much as they should, or they don’t understand their culture deep enough to be able to describe it.
We will always delve deep into a company’s strategic plan not just to better understand their strategy but to better understand how they think and care about culture. Are they planning geographic expansion with a wave of new office openings? Are they shifting to remote working? Are they planning to acquire bolt on opportunities to put a stake in the ground in new territories? These initiatives provide their own challenges, and how the business is thinking about overcoming them gives a great insight into their culture.
Over many years of investing, we have always taken the view that businesses with heavy acquisition strategies usually fall in the “too hard” basket. This is primarily because cultural integrations are incredibly challenging. Even if there is cultural alignment from the outset, it is often a friction point to success when rubber hits the road and the merger is complete. Spencer Rascoff, who completed 16 acquisitions while the CEO of Zillow, tells the story (link below) of going through Glassdoor reviews with the management team of the potential acquisition to deeply understand what lay beneath the numbers.
In regards to geographic expansion, it too can be a huge source of cultural challenge. Onboarding employees at scale, all the while being mindful of local customs and geographic conventions, within the boundaries of the corporate culture that is so integral to success is hard. Very hard. Inevitably, companies develop “multiculturalism” as they expand across geographies— different offices have their own unique cultures. And while this can be challenging, it can also be value additive under a core set of values. The danger of forcing company cultural norms in locations where this is at odds to local cultural norms is a recipe for disaster. Cultures are living and breathing organisms, not words on a paper, and so they change and adapt according to the conditions in which they exist.
As you can see, we deeply believe in the power of people and culture and it being a defining success factor. As we always say, this is the hardest part of our due diligence process and it’s far from perfect. But we are striving to keep improving and refining it how we assess this most critical competitive advantage. If you think we have missed anything in how we assess company cultures, we would love to hear from you.
This first appeared on our regularly updated Medium page – TDM Tidbits, where the team share their thoughts and experiences with the world.