Does company culture drive stock performance?
A simple way to profit from intangible assets.
I would argue that investors are overly obsessed with easily quantifiable metrics. In turn, this causes them to undervalue critical intangible assets simply because they are more difficult to quantify. One of these overlooked intangibles is culture.
A company's organizational culture is its unique personality. It can be viewed as a system of shared assumptions, values, and beliefs that govern how people behave within organizations. All organizations develop a unique culture that serves as a guideline for its members and cannot be imitated. Indeed, culture may be the ultimate intangible, loved by all but valued by none. Today we will find out if there’s a connection between organizational culture and stock performance.
Culture and employees
“Why is culture so important to a business? Here is a simple way to frame it. The stronger the culture, the less corporate process a company needs. When the culture is strong, you can trust everyone to do the right thing.”
Brian Chesky, CEO of Airbnb
Strong culture has the advantage of reducing the need for explicitly defined rules and corporate bloat. Culture is the "first principle" that guides decision-making. Employees can use principles to guide the hundreds of micro-decisions they must make daily. Similarly, culture helps to promote uniformity within an organization. Firms seek to avoid employees or teams rowing in opposing directions, which can happen when they are not aligned on the same set of ideas. A strong culture is especially beneficial in complicated, dynamic, and ambiguous workplaces where fully monitoring and guiding employee behavior is impossible. It is also extremely useful in times of crisis when there is no time to develop a new playbook. Another way to look at culture is as a force multiplier for an underlying pool of ability. An inventive culture may help get the best out of people, including those who aren't naturally creative. A rigid culture, on the other hand, can hinder innovation, forcing a company's most innovative people to leave in frustration. Keep in mind that not all companies are equal. What works in one company might not work in another one, simply because their industries/business models differ. Take for example Nvidia NVDA 0.00 , or any other tech company. Their culture should facilitate innovation. This can include programs that allow employees to work on their own ideas/projects for example. Whereas such a culture wouldn’t work for Starbucks SBUX 0.00 where customer service plays a major role. Important is that a strong culture attracts the right people and weeds out those who are a better fit somewhere else.
How to measure the impact of a good culture?
The most common way how a company’s culture can be measured from outside is through employee surveys. If you want to know the inside workings of a company, ask the employees. Too many investors focus on market commentary that’s coming from the outside. Chit-chat about the company from market pundits that have no skin in the game is useless, you want your information to come directly from the source. While most surveys differ slightly from each other, we can focus on the six main topics that are questioned:
Credibility: Employees see management as credible (believable, trustworthy); assesses employees’ perceptions of management’s communication practices, competence, and integrity.
Respect: Employees feel respected by management; assesses employees’ perceptions of professional support, collaboration, and involvement in decisions, and the level of care management shows for employees as people.
Fairness: Employees believe management practices and policies are fair; assesses the equity, impartiality, and justice employees experience in the workplace.
Pride: Measures how employees feel about their own individual impact through their work, their pride in the work of their team, and their pride in the company overall.
Camaraderie: Measures whether employees believe their company is a strong community where colleagues are friendly, supportive, and welcoming.
A fair, caring, and supportive culture strengthens businesses because employees feel trusted and empowered to do their best work, whatever the external factors may be. A wealth of evidence supports the idea that happy employees move successful businesses forward. A company culture based on trust, openness, and care provides individuals with clarity and a sense of purpose, which leads to more employee engagement, better customer service, greater creativity, and superior business success. But how much business success do companies with high employee satisfaction have?
Culture and stock performance
Now we’re getting to the interesting part. Where can investors find reliable information and to what degree do companies with high employee satisfaction outperform the benchmark? There are two very good sources: Glassdoor and Great Place To Work. Both of them publish a yearly list of companies that have the best working culture and both are great research sources for savvy investors. Now let’s take a look at the performance.
In the first case, we’re going to use the 100 best companies to work for from Great Place To Work and compare them to the Russel 3000 Index from 1998-2020 and the results are astonishing:
What gets my attention besides the outperformance is the performance after a crisis. Just take a closer look at the speed of the recovery after ‘02/03; ‘09 and the after the lockdown 2020. There you clearly see the impact of a good company culture that helps to emerge stronger after a storm.
In the next case, we are going to take a look at Glassdoor’s “Best Places to Work” list. Less than a year after the launch of Glassdoor, they introduced an Employees' Choice Award for Best Places to Work that ranks companies based solely on feedback from employees. The award is unique because it was created with a database of anonymous reviews, or opinions, with no bias.
The data is from 2009-2019 and simulates a hypothetical investor buying an equally weighted portfolio of stocks, sourced from the “Best Places to Work” list. An equal dollar amount in each of these stocks is invested each December following the awards announcement and held for one year. The stock return is based solely on price appreciation during the year, which is simply the percentage change in closing price from December to December. The impact of dividends and taxes is ignored in this case:
And again, we see the same anomaly as in the previous study: significant outperformance after a crisis (in 2009 and 2013 after the European crisis). Investors who followed that simple strategy could have achieved the following results:
A simple investment strategy of buying an equally weighted portfolio of stocks from each year’s U.S. large Best Places to Work winners has outperformed the S&P 500 index in nine out of eleven years. On average, stocks of Best Places to Work winners earned 20.3 percent per year between 2009 and 2019, compared to 12.9 percent for the S&P 500. Impressive.
Paying attention to employee satisfaction can also be in the financial and economic self-interest of companies. By treating employees like a key asset, organizations can achieve great performance over the long term.
As my readers know there isn’t one approach to achieving outperformance, but instead, a toolbox that investors can use to limit the number of their mistakes and select stocks based on criteria that have historically delivered solid returns. While Wall Street pundits love to speculate about what might happen in the future, I approach investing by looking backward and applying time-tested principles before I buy a stock. And oftentimes you find interesting companies by using unconventional research methods like “Workplace Awards”. So next time you are doing research, or are looking for stock ideas, take a look at the two sources mentioned in this article and you might find some valuable companies.
I hope you learned something today, until the next issue. 👋
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I love the subject of your research! However, by recalibrating your BPTW portfolio every year vs the general market, do you include survivorship bias into your data? Would your findings change if you took BPTW vintages instead? Curious. Again, great topic.