Brick by Brick, King by King

How to build a successful, sustainable privately held enterprise, and why it will hold advantages over its publicly held counterparts.

By Susan McDonnell

Kongo Gumi was the world’s oldest privately held business, with an impressive history dating back to 578. Business students studied its success. The Guinness Book of World Records lauded its achievements. And its succession plan was used as a model for independent organizations worldwide. When it was absorbed as a subsidiary of Takamatsu Corp. in 2006, its demise sent shockwaves through the business world. How could a business that survived 1,400 years of wars, natural disasters and economic fluctuations suddenly shutter its doors?

Analysts have pointed to two primary reasons. First, poor investment decisions at Kongo Gumi led to excessive debt. Second, a reduced demand for temple construction during the late 20th and early 21st centuries significantly cut revenues—temple building had been the company’s bread and butter since its founding.

Which leads to a second question: What lessons can managers of privately held organizations glean from Kongo Gumi’s decisions, both good and bad, about managing a successful, independently owned organization so it can survive for 50, 100 or even 1,400 years?

“The oldest companies in the world are privately owned for a reason,” says Ethan Mollick, the Edward B. and Shirley R. Shils Assistant Professor of Management. “As a private company, you’re able to keep focus on what matters to you and maximize your long-term viewpoint.”
The world’s largest privately owned companies are often structured similarly to publically held corporations. They face similar challenges, such as rising costs of commodities and labor, and are vulnerable to shifts in the market. But there are some important differences that are unique to managing a privately held company—some are advantageous, some are challenges to overcome.

TO BE KING, FOREVER?

In describing leadership of privately held organizations, Mollick cites research completed by Harvard professor Noam Wasserman, which has shown that founders of such businesses typically fall into one of two categories: they either aim to be rich or to be king.

“You want to make as much money as possible, or you want to have as much control as possible,” Mollick clarifies.

Those founders aiming for higher earnings are often willing to cede a large portion of their control, either to management, venture capitalists or private investors, in order to grow quickly.

On the other hand, founders who wish to maintain control of an organization with less input from investors—on such matters as overall direction of the business, corporate culture and management structure—may not see the same kinds of financial returns. Those organizations that aim to remain privately held or family owned for many generations often fall into the latter category.

Todd Simon, W’86, senior vice president of Omaha Steaks, the nation’s largest direct-response food company, notes that maintaining private ownership of a fifth-generation, family-owned company allows his organization to focus on his “steakholders”—the company’s customers and employees, and the future of the company itself.

Todd’s cousin Bruce Simon, WEV’80, Omaha Steaks’ president and CEO, elaborates. Sustainability, he says, is the organization’s priority, rather than quick fixes or fast profits.

“The decisions that we make are always for the long term and not just a quick fix,” he says. “We don’t have to answer to shareholders beyond our family, nor is our success tied to a quarterly earnings release. So we have the flexibility to try new things and to move forward quickly when new opportunities arise. That’s a real advantage.”

Publically held companies, on the other hand, must focus on shareholder value. Because management is under pressure to hit quarterly targets, leaders must maintain a more short-term perspective. Privately held companies’ drive toward long-term viability puts them at an advantage, says Virginia Vanderslice, who is affiliated faculty within Penn’s Organizational Dynamics program and president of Praxis Consulting Group.

It is this type of mentality that has benefitted such companies as D&H Distributing, a large, privately held technology distributor based in Harrisburg, PA. Co-presidents Michael and Dan Schwab, W’85 and W’91, respectively, say maintaining a long-term business perspective helped them to not only survive but thrive during the recent recession. When the recession hit and the overall IT distribution channel shrank by 10 percent in 2009, D&H managed to grow in double digits by investing more in advertising and employees and increasing customer lines of credit.

“We zigged when everyone else zagged,” Dan Schwab says. “In working with many large public companies, we often find that a lot of times quarterly performance goals drive unnatural behavior, which is not in the long-term interest of the company.”

A FLEXIBLE FIEFDOM

But while private companies do have the clear advantage in looking at business over the long term, says Jorge Born, Jr., W’83, the lack of shareholders in the organization can also lead to obstacles.

Born is president and CEO of Buenos Aires-based Bomagra S.A. He says that securing funding for expansion plans is his company’s greatest challenge; the fact that the company is based in South America magnifies this problem.

“The capital markets are significantly underdeveloped, and macroeconomic cycles are very pronounced, both in their direction and in their magnitude. Therefore, our balance sheet structure needs to be significantly more conservative, and our leverage has to be much less than is the case for public companies with access to foreign and more liquid capital markets,” he explains.

Access to quick credit is a challenge for privately owned companies of all sizes across the world—remember that debt is cited as one of the primary causes of Kongo- Gumi’s closure—and a severe lack of credit was detrimental during the height of the recession, when banks tightened their purse strings and dollars from private investors dwindled.

Publicly owned companies enjoy easier access to capital, increasing their ability to survive during economic downturns.

It is during these times, therefore, that a privately held company’s ability to be flexible is instrumental to its survival. Here, Kongo Gumi stands yet again as example: don’t be caught as a temple builder in an age when skyscrapers are emperor. Kongo Gumi not withstanding, they tend to be more nimble than public companies.

“I have found that private companies have a clear advantage when quick decisions are needed, as their lines of decision-making are often shorter and less densely populated,” Born says.

He points to his company’s involvement with grain storage in Uruguay as an example of its ability to move quickly. Bomagra read signs that the Uruguay was on its way to becoming a significant grain-producing state and was able to move very quickly to build the country’s leading grain storage and logistics operation.

“As a private business, we could look at the long-term opportunities and accept the risks of stepping into the market too early, whilst our publicly traded competitors could not meet their internal investment hurdles so early in the cycle,” Born says.

It’s important, reiterates Michael Schwab, to be aware of what’s happening in the market, and try to be a step ahead. While D&H sales were focused on Whirlpool appliances and RCA TVs in the 1980s, for instance, the company has broadened its focus as technology has evolved and is now a leading distributor of vastly different products, from cellphones to HP servers to Cisco networks to video games.

“Always look for new, innovative ideas, because you have to challenge yourself and continue to reinvent yourself before the markets force you to do so,” he says.

BENEVOLENT DICTATORSHIPS

Adam Grant, an associate professor in Wharton’s management department, agrees that broadly this type of quick decision-making is more common in private organizations. Managers of these businesses have more discretion over the choices that are being made; rather than waiting for analysts and approval from various levels of hierarchy, they may be able to integrate new initiatives into their organizations more rapidly.

“Many private companies have been more quickly and nimbly working toward initiatives concerning social responsibility and environmental responsibility, initiatives that can be a little harder for publically traded companies to justify,”  says Grant.

According to the 2011 Grant Thornton International Business Report, which analyzed data from privately held businesses worldwide, responding companies cited several reasons for undertaking such initiatives. Approximately 75 percent of reporting companies said the health and wellbeing of staff, 64 percent flexible work schedules, and 64 percent the promotion of diversity and equality. In terms of environmental initiatives, 60 percent noted that they have improved energy efficiency in recent years, and 58 percent cited better waste management techniques. Eighty-eight percent of businesses in Canada and the United States reported donating to charity or other philanthropic causes.

And there are many benefits to such initiatives. While such programs may not necessarily yield financial gains, they do enhance the company’s working environment—and the culture of a privately held organization is considered one of its most appealing attributes.

Indeed, 56 percent of the respondents in the Grant Thornton report stated that brand-building and recruitment and retention of staff are influencers that shaped their corporate and social-responsibility priorities.

“Often, privately owned organizations, especially those that are employee owned, have a higher drive toward developing cultures where people can have more control over their work, have more say in the company and a sense of themselves as part of the bigger picture,” Vanderslice says. “Could public companies do this and do some see this? They do. But I think it’s a matter of where you see it more, and you see more of it in smaller companies where people feel their impact much more greatly by the various contributions that they make.”

Many organizations that have gone public in recent years have attempted to maintain a unique, private-style culture. Grant points to Yahoo! as an example. Since the company went public, it has attempted to maintain the grassroots feel of employee involvement through such initiatives as the Yahoo! Employee Foundation. The foundation offers matching funds to employee contributions and provides support to employee-selected charitable organizations.

“It’s an incredible opportunity for the employer to channel resources to the community, and really gives employees a feeling of attachment and commitment to the company,” he says.

Yet the retention and recruitment effects of a corporate culture in which employees feel as though they are valuable contributors only go so far for less-visible businesses.

“Obviously, top recruits have heard of companies that are in the S&P 500, and I would imagine that recruiting senior-level, experienced people is much easier if you’re Apple or Pepsi,” Michael Schwab says.

An organization must consider how its culture will attract top talent from its conception, says Mollick. Beyond offering competitive salaries to top-choice candidates, private companies strive to provide them with more than financial benefits, whether it’s a break to go surfing at lunchtime or increased face-time with company leadership. At Omaha Steaks, Bruce Simon goes to great lengths to ensure that employees are aware that little separation exists between the front line and the executive team. He regularly hosts a president’s lunch and invites employees from all levels. At one recent luncheon, he recalls, an employee from a distribution center voiced his opinion about a better way to pick and pack products for shipping.

“I immediately called our IT department, and we had a meeting to discuss the idea later that day,” Bruce says. “Within 30 days, we had the employee’s suggestion completely implemented into our process. The results have been amazing, with an increase of 26 percent in efficiency and productivity.”

Business leaders agree that a strong employee base is a key to running a successful privately held organization.

“The best people make the best companies, and our challenge is to remain an attractive harbor for talent,” Born says.

There is one final key to success for privately held businesses. Bruce Simon sums it up: “It’s really quite simple: honesty and integrity in everything you do. That’s the way we’ve done business for five generations.”

His words are exemplified by Hõshi, a privately held Japanese hotel that has replaced Kongo- Gumi as the world’s oldest organization. Since its storied founding in 717, Hõshi has committed itself to providing its guests with personalized, cultural experiences and maintaining traditions of courtesy, fair judgment, prudence, civil and personal responsibility, and trust and commitment to employees, according to Centuries of Success: Lessons from the World’s Most Enduring Family Businesses, by William T. O’Hara.

These values, clearly, have led to overwhelming and lasting success.

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