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What do some of the most successful companies, like Amazon, Facebook, Netflix, and Tesla have in common? They are companies that are led by their founders.
An often under-appreciated factor in stock research is the people who run the business. Behind great companies are great management teams that need to act decisively steer the rocketship.
In this article, we will share some research and data that evaluates why founder-led companies tend to perform better than the others!
Founder-Led Companies: By The Numbers
Founder-led companies first piqued my interest after reading this article on the Harvard Business Review by Chris Zook, a partner at Bain & Company. Bain & Company's in-depth study found an index of S&P 500 companies in which the founder remained deeply involved "performed 3.1 times better" over the 15 years ranging from 1999 to 2014.
Source: Bain & Company's Study
Other key takeaways from studies that support the “founder-led” hypothesis are as follows:
- More Innovation: Professors Joon Mahn Lee and Joonhyung Bae at Purdue University, and Jongsoo Kim at Hong Kong Baptist University in their 2016 study found that companies led by founder CEOs are correlated with a 31% increase patent count before controlling for R&D spending. Even after adjusting for R&D spending, the study found a 23% increase in patent count.
- Abnormal Returns: Ohio State University Professor, Rüdiger Fahlenbrach, published a study in 2007 that found founder CEO companies invested more in research & development, capital expenditures, and mergers and acquisitions. The study also showed an equal-weighted investment strategy that had invested in founder CEO led firms from 1993 to 2002 would have earned a benchmark-adjusted return of 8.3% annually. Even after controlling for a wide variety of firm and industry characteristics, the abnormal performance was still 4.4%.
- High Growth In Profits: Jon Birger, FORTUNE senior writer noted in April 2006 that 26 FORTUNE 500 companies had founder-CEOs. In the decade prior (1995 through 2005), Mr. Birger stated that these 26 companies returned an average annual return of 18.5%, which is 7% better than the FORTUNE 500's average return over the same period. The 26 founder-led companies also delivered superior profit growth, increasing at an average rate of 19.6% a year from 1995 to 2005, versus 11.7% for the FORTUNE 500.
- Dominant On Risk / Return Metrics: The work published by Joel M. Shulman in 2010 in the Journal of Risk and Financial Management studied monthly stock returns of U.S. publicly traded companies over the time period from 1998 to 2010. Professor Shulman concluded there was compelling evidence to support the hypothesis that companies led by U.S. entrepreneurs provide better stock performance than several stock market indices. The study showed founder-led firms outperformed on critical risk and return metrics, including the rate of return, Sharpe ratio, Sortino ratio, alpha, active premium, information ratio, and Up Capture ratio. The risk and return profiles for founder-led portfolios are depicted in the chart below by market capitalization and titled Sulman U.S. Large, Sulman U.S. Mid Cap, and Sulman U.S. Small:
Source: Joel M. Shulman's Study
Why Do Founder Led Companies Outperform?
There's a multitude of data supporting that founder-led companies tend to outperform the rest, so the obvious question is why.
As part of the Bain & Company study mentioned above, Chris Zook and his co-author conducted hundreds of interviews with founder-led companies to identify factors to explain this outperformance. As a result of the survey, they named the commonalities between these firms as “founder’s mentality”. The themes they identified were as follows:
- Business insurgency: Founders waged war on industry norms to the benefit of underserved customers
- Front line obsession: Founders tend to love details and inspire a culture that recognizes those at the front line of the business
- Owner’s mindset: Founders acted quickly and built a culture focused on personal accountability for risk and for cost
It is difficult for professional CEOs to have the same vision as the company founder. Founders of incredible companies that have changed the world are often visionary individuals with a clear vision of the future.
The second reason is more deep-felt and relates to the relationship between a founder and his company. As Fidelity points out in this article, founders often see the company as a life-long project and are more motivated to act fight through any obstacles. Founder CEOs often describe their companies as their “babies” and more inclined to make decisions that maximize the long-term success.
With a global pandemic looming over the year 2020, businesses have faced significant unforeseeable challenges. Nevertheless, the Global X Founder-Run Companies ETF (BOSS) that invests in founder-run companies has managed to outperform the S&P 500 by nearly 15% since the beginning of the year.
Source: Finbox Charts
Where Can You Find Founder-led Companies?
If you want to invest in a pre-built portfolio of founder-led companies, you can opt for the Global X Founder-Run Companies ETF.
It is an exchange-traded fund launched and managed by Global X Management Company LLC that invests in us founder-led companies across diversified market capitalization and operating across diversified sectors. It seeks to track the Solactive U.S. Founder-Run Companies Index’s performance by using a full replication technique.
Finbox also tracks a list of founder-led companies compiled from various sources including the Global X Founder-Run Companies ETF’s (BOSS) holdings and Fidelity Founders Fund (FIFNX). You can find it here.
Here are some of the best performing founder-led companies so far this year:
- Tesla, Inc. (TSLA)
Tesla, Inc. designs, develops, manufactures, leases, and sells electric vehicles, and energy generation and storage systems. Tesla is led by CEO & co-founder Elon Musk. Mr. Musk also serves on the Board of Directors.
- Zoom Video Communications, Inc. (ZM)
Zoom Video Communications, Inc. provides a video-first communications platform. Zoom was founded in 2011 by Eric S. Yuan and is headquartered in San Jose, California. Mr. Yuan serves as the Chairman, President, and CEO.
- Wayfair Inc. (W)
Wayfair Inc. offers a selection of furniture, décor, decorative accents, housewares, seasonal décor, and other home goods in the United States and internationally. Wayfair Inc. was founded in 2002 by Steven K. Conine and Niraj S. Shah and is headquartered in Boston, Massachusetts. Mr. Shah and Mr. Conine serve as co-Chairman of the Board. Mr. Shah also serves as the CEO & President.
- Sea Limited (SE)
Sea Limited is a global consumer internet company headquartered in Singapore. The company's offerings include digital entertainment (Garena), e-commerce (Shopee), and digital financial services (SeaMoney). Sea Limited was founded in 2009 by Forrest Li, Gang Ye, David Jingye Chen, and is headquartered in Singapore. Forrest Li serves as Chairman & Group CEO, Gang Ye serves as Group COO, and David Jingye serves as CPO of Shopee.
- GenMark Diagnostics, Inc. (GNMK)
GenMark Diagnostics, Inc., a molecular diagnostics company that develops and commercializes molecular panels based on its proprietary eSensor electrochemical detection technology. GenMark was founded by Jon Faiz Kayyem and is headquartered in Carlsbad, California. Mr. Kayyem continues to serve as the SVP of Research & Development.
- Zscaler, Inc. (ZS)
Zscaler, Inc. operates as a cloud security company worldwide. The company offers Zscaler Internet Access solutions that connect users to externally managed applications, including software-as-a-service applications and Internet destinations. Zscaler, Inc. was incorporated in 2007 by Jay Chaudhry and K. Kailash and is headquartered in San Jose, California. Mr. Chaudhry serves as Chairman, President & CEO.
- Twilio Inc. (TWLO)
Twilio Inc. provides a cloud communications platform that enables developers to build, scale, and operate communications within software applications in the United States and internationally. The company was founded by John Wolthuis, Jeffery G. Lawson, and Evan Cooke in 2008 and is headquartered in San Francisco, California. Mr. Lawson serves as the Chairman & CEO.
- Square, Inc. (SQ)
Square, Inc. provides, together with its subsidiaries, payment, and point-of-sale solutions in the United States and internationally. Square, Inc. was founded in 2009 by Jack Dorsey and Jim McKelvey and is headquartered in San Francisco, California. Mr. Dorsey serves as the Chairman, President & CEO, and Mr. McKelvey as an Independent Director.
- Pinduoduo Inc. (PDD)
Pinduoduo Inc., through its subsidiaries, operates an e-commerce platform in China. It operates Pinduoduo, a mobile platform that offers a range of products, including apparel, shoes, bags, mother and childcare products, food and beverage, household goods, auto accessories, and more. Pinduoduo Inc. was founded in 2015 by Hua Lin Cai and Zheng Huang and is headquartered in Shanghai, China. Mr. Huang serves as Chairman of the Board.
- Cloudflare, Inc. (NET)
CloudFlare, Inc. operates a cloud platform that delivers a range of network services to businesses worldwide. The company provides an integrated cloud-based security solution to secure platforms, including public cloud, private cloud, on-premise, software-as-a-service applications, and Internet of Things (IoT) devices. The company was founded in 2009 by Matthew Prince, Michelle Zatlyn, and Lee Holloway and is headquartered in San Francisco, California. Mr. Price serves as Chairman & CEO, and Ms. Zatlyn as COO & Director.