Good to Great Companies

1
Good to Great Companies

• Picking Great Companies to Build the Greatest
  Portfolio and Using Such Techniques to Make You a
  Great Executive
• Eric Borzino, 4/11/2005

2
Todays Objectives

• Show how an avg person can use non-financial
  techniques to pick great long-term holds
• Prove that change that leads to sustained stock
  gains cannot be pinpointed in a great company
• Are you investing in hedgehogs or foxes?
• Will YOU be a hedgehog or fox?
• These tips to identify companies are also
  applicable to YOUR future management careers

3
Jim Collins

• Not as much of an idol as Peter Lynch
• Author of fine and popular books as Built to Last
  and Good to Great
• Taught at Stanfords Graduate School of Business
• Founded his management research laboratory back
  home in Boulder

4
Collins Laboratory Results

• Started with 1,435 good companies
• Found the companies that became great based on
  certain criteria over 40 year performance
• Company had to show good stock performance,
  capped with a transition point
• After transition, company had to generate stock
  returns that exceeded general market at least 3
  times over 15 years independent of industry

5
Being Good, Aint Good Enough

• Vast majority of good companies remain just that
  good, not great
• 11 great companies were identified
• 1 invested in the general market since 1970
  would yield 56 by year 2000
• 1 invested evenly upon the 11 great companies
  would have yielded 471 by year 2000
• All 11 companies had decent performance, until a
  transition occurred

6
11 Great Companies

• A few of the companies over the past 15 years
  that have been identified as great
• Abbot
• Circuit City
• Fannie Mae
• Gillette
• Kimberly-Clark
• Wells Fargo
• Walgreens
• Philip Morris
• Kroger
• Nucor
• Pitney Bowes

7
What factors do not lead to greatness?

• Larger-than-life celebrity leaders
• Negative correlation
• 10 of the 11 good to great CEOs came from the
  firm
• Good to great companies did not principally focus
  on what to do to become great
• Equally focused on what NOT to do
• And also what to STOP doing diworsification
• Technology can accelerate a transformation, but
  cannot cause a transformation

8
What factors do not lead to greatness Part Duex?

• MA played no role in igniting a transformation
  from good to great
• Two big ok companies joined together NEVER make
  one great company
• Sorry Sat for bursting the bubble
• Good to great companies had no specific action or
  program to signify their transformations
• Only in retrospect did the magnitude appear
• No outlandish, over published event or change
• Good to great companies were not in great
  industries, some were in terrible industries

9
The Flywheel Cycle to Greatness

• Level 5 leadership
• First whothen what
• Confront the brutal facts
• Hedgehog concept
• Culture of discipline
• Technology accelerators

People
Buildup
Thought
Break- Through
Action
10
Be Humble Yet Cool

• There are five levels of leaders
• Level 5 leaders, had one distinguishing
  characteristic humility
• Level 5 leaders channel their ego needs away from
  themselves
• Larger goal is building a great company
• Ambition is first and foremost for the
  institution, not themselves
• Extreme blends of humility and intense will

11
Egos Can Kill

• Absence of Level 5 leaders was the consistent
  factor that hindered greatness
• Level 5 leaders set up successors for success
• Other level leaders set up their successors for
  failure
• Or chose weak successors
• Good to great leaders never wanted to be
  larger-than life
• Ordinary people producing extraordinary results
  due to unwavering resolve to produce sustained
  results
• Large personal egos contributed to the demise or
  continued mediocrity of 2/3rd of comps

12
Are You Level 5 Worthy?

• Abraham Lincoln
• Personal modest and shy nature
• Werent signs of weakness
• Darwin Smith CEO of Kimberly Clark 1971
• Generated stock returns 4.1 times the market
• Demolished rivals Scott Paper and PG
• Resolve to do whats best for company sold the
  paper mills to concentrate on consumer products
• Wall Street called the move stupid downgraded
• I never stopped trying to become qualified for
  the job

13
Great, How Do You Find 5spot?

• If you listen to a CEO and he boosts of how his
  new ideas/programs will enhance returns
• Or how his strategies have already enhanced
  returns
• AVOID got an ego and wants credit
• Level 5 leaders look outside the window to
  accredit
• Thanked others and luck
• Also never blamed bad luck when things when
  poorly, took credit for mistakes (unlike other
  leaders)

14
The Flywheel Cycle to Greatness

• Level 5 leadership
• First whothen what
• Confront the brutal facts
• Hedgehog concept
• Culture of discipline
• Technology accelerators

People
Buildup
Thought
Break- Through
Action
15
First Who NOT What

• Began achieving sustained success by first
  getting the right people on the bus
• Get the wrong people off the bus
• Then, figured out where to drive it

16
Isnt Strategy and Product Mas Importante?

• Why do it this way?
• Begin with who instead of what, can more
  easily adapt to a changing world
• If you have the right people on the bus, problem
  of motivation and people managing are diminished
• If you have the wrong people, doesnt matter
  whether you have the right direction b/c company
  will still not be great

17
Teamwork Baby

• Good to great companies build deep and strong
  executive teams
• Decent companies followed a genius with a
  thousand helpers
• What happens if genius is wrong or leaves?
  Idiots
• People are NOT your most important asset. The
  RIGHT people are.
• Look for companies with distinguished managers
  who have been in the company and work together
  over time

18
Wells Fargos Success

• Early 1970s, then CEO Dick Cooley foresaw changes
  in the banking world, but did not know what or
  how
• Assembled an endless stream of talent best team
  according to Warren Buffet
• Hired outstanding people whenever and wherever
  without a specific job in mind

19
The Flywheel Cycle to Greatness

• Level 5 leadership
• First whothen what
• Confront the brutal facts
• Hedgehog concept
• Culture of discipline
• Technology accelerators

People
Buildup
Thought
Break- Through
Action
20
Who Says Honor Doesnt Matter

• All good to great managers first confronted the
  brutal facts of their current reality
• Impossible to make good decisions without being
  honest in the process
• Look for executives who admit to the reality of
  their industry company to invest in
• Comparison companies were afraid to confront
  adversity, not the good to great companies

21
Got to Stay Stiff and Hard

• Stockdale Paradox
• Absolute faith that you can and will prevail in
  the end
• Same time, confront the most brutal facts of your
  current reality
• Leadership does not begin just with vision,
  begins with the right people confronting reality
  and sticking to a rigorous yet flexible plan

22
The Flywheel Cycle to Greatness

• Level 5 leadership
• First whothen what
• Confront the brutal facts
• Hedgehog concept
• Culture of discipline
• Technology accelerators

People
Buildup
Thought
Break- Through
Action
23
The Hedgehog and the Fox

• Ancient Greek parable
• The fox knows many things
• The hedgehog knows one big thing
• Foxes pursue many ends and see the world in all
  of its complexity
• Hedgehogs simplify the world into a basic
  principle, see whats essential, and ignore the
  rest

24
The Big Three

• All good to great companies adhered to the
  Hedgehog Concept (three questions)
• What you can be the best in the world at
• What drives your economic engine
• What are you deeply passionate about
• Not the goal to be the best, but understanding of
  what you can be the best at

25
Sometimes Need to Rethink

• If you cannot be the best in the world at your
  core business, then your core business cannot
  form the basis of your Hedgehog concept
• Best to look for companies that keep it simple
• Exotic companies in many different industries are
  like the fox and stretch themselves too thin
• As a manager, want to focus solely on your core
  and how to make it the best in the world

26
What the Hell You Saying?

• Takeaways for investing
• Look for companies with humble, yet passionate
  leaders
• Research the background of management to
  determine if the team was assembled with a who
  instead of what mentality
• Find out the culture of the firm, whether it is
  bureaucratic, dominated by a few executives, or
  open and willing to confront the brutal facts
• Keep an eye out for simple companies, with great
  people, hard-working culture, and not constantly
  featured in CNBC or Wall Street Journal

27
Hedgehog Concept Most Important

• To remain great over time requires to strictly
  adhere to the Hedgehog Concept
• If the firm slides outside its hole, it will
  slide back down to mediocrity
• Good to great transformations never happen at
  once, unlike the WSJ likes to make it appear
• Happens slowly over time
• And can easily be tracked by looking at
  qualitative clues outside of ratios and DCFs