Winning at Active Management. Welhoelter Michael A.

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“A culture is also composed of the behavior of the people within it, from the bottom up. Corporate culture is subject to compositional effects, based on the values and the behaviors of the people it hires, even as corporate authority attempts to inculcate its preferred values and behaviors into its employees.”11 Indeed, an organization benefits from a diversity of opinions to prevent “groupthink.”

      “Most companies’ culture just happens; no one plans it. That can work, but it means leaving a critical component of your success to chance,” wrote Eric Schmidt and Jonathan Rosenberg, executive chairman and adviser to the CEO, respectively, at global technology giant Google Inc.12 They observe that the right time to plan a culture is early on, because after it takes shape – consciously or not – the founding principles are likely to reinforce themselves, as like-minded people will be attracted by them to join an organization, and those with other viewpoints may not.

      The values and principles of a culture permeate every aspect of a business: operating strategy; products, services, and relationships with customers; firm structure and business model; “people processes”; and governance. Culture determines relationships among authority and peers, an organization’s common language, granting rewards and status, and the measures of success.13

      Thus, culture is a shared view of how to carry out day-to-day tasks, as well as dealing with unusual conditions – how the firm’s long-term principles inform short-run actions. Culture also determines how a firm treats its customers and employees, and how the employees treat each other. Accordingly, organizations fortunate enough to arrive at the right culture gain a competitive advantage that carries the firm toward its long-term goals. In this section, we will consider the different approaches firms take to building and expressing culture and, in particular, its importance to success in the investment management industry.

      The Original Organizational Culture: Command-and-Control

      Cultures vary according to the sizes and activities of individual groups, and are intertwined with an organization’s structure. One combination of structure and culture, however, has prevailed during most of the evolution of corporate America, and probably for most of human history: “command-and-control.” (It’s often illustrated in management textbooks by a pyramid, but anyone reading this book has seen that image a thousand times, so we don’t repeat it here.)

      The command-and-control structure assumes that one person, or a few people, at the top of an organization can determine the best direction, and that subordinates should carry out leaders’ decisions without inserting any ideas of their own – a principle called the great person theory.14 It’s the operative, and necessary, culture in any sort of military operation, or police and firefighting unit, where lots of people have to be trained to do the same thing, in exactly the same way quickly and without doubt or question, often in dangerous settings.

      “In corporate cultures that lack the capacity to incorporate an outside opinion, the primary check on behavior is the authority,” wrote Andrew Lo: “From within a corporate culture, an authority may see his or her role as similar to the conductor of an orchestra, managing a group of highly trained professionals in pursuit of a lofty goal.” Others looking from the outside in might see a particular organization’s authority as blatantly forceful.15

      Command-and-control became the favored form of culture in American business starting in the late nineteenth century, when standardized processes and behaviors were essential to the rapid growth of the manufacturing economy. The idea was advanced by Frederick W. Taylor, who was very successful as an engineer but also invented the profession of management consulting. For a growing manufacturing sector that had lots of workers, who possessed varying levels of skill and were accustomed to carrying out their work by hand in their own different ways, he developed a structure that imposed defined tasks – rewarding successful workers with high pay and terminating those who failed.16

      Command-and-control cultures still prevail in most industries17 because, in many settings, a rigid hierarchy is useful and desirable. For instance, manufacturing organizations often need central control over the use of resources and quality control over processes, and to be able to respond swiftly to emerging problems. It also can work well in single-line businesses operating in stable markets, where little flexibility is called for. The short leash of command-and-control also is essential in situations where the organization’s goal is cutting costs.

      It’s also suitable where creative thinking and initiative can create risks.18 For instance, a pharmaceutical maker has to follow strict controls over the manufacture of its products, and how they are sold: a drug firm’s Western region sales head could hardly decide to come up with his own custom version of the company’s big cholesterol drug. Organizations such as electric and gas utilities or hospitals must adhere to well-defined practices to ensure reliable service and the safety of their customers and employees. Similarly, bank credit officers have to follow standardized processes for lending, with decisions and approvals at several levels, to allow for systematic credit rating and proper allocation of the firm’s capital. Accordingly, command-and-control structures and cultures are often present in highly regulated industries.

Drawbacks of Command-and-Control

      Although command-and-control allowed the industry of a young America to flourish, in the past couple of decades the structure has been discredited. Command-and-control is not an agile form, and in industries that are rapidly changing, a few senior managers don’t have enough time to micromanage an entire company. Moreover, the structure is not equipped to allow individuals further down in an organization to contribute their ideas upstream: a one-way information flow from the top of the pyramid to the bottom can result in significant missteps or missed opportunities. In many cases, people in the field may have better information about product and competitor dynamics, while those at the top may possess the least relevant information and therefore lack the insights needed for optimal decisions.19 The gap between the leadership team and the customer or client – that is, an organization’s layers of management – is often too wide in command-and-control cultures. Some firms have layers of reporting structure numbering into the teens. Many management consultants recommend a maximum of six to eight.

      In human terms, employees in command-and-control structures have well-defined boundaries, duties, and career paths. Such a work environment may be desirable for many people, but current thinking in management science and practice recognizes that employees want to contribute ideas to their organizations, and argues in favor of fostering collaboration and creativity. For instance, IBM Corporation published a study in 2012 that surveyed corporate CEOs around the globe, who said they were aiming to change the nature of work “by adding a powerful dose of openness, transparency and employee empowerment to the command-and-control ethos that has characterized the modern corporation for more than a century.”20 As a practical matter, corporations, large and small, may have little choice: through the Internet and various social media, employees are probably sharing and collaborating whether management wants it or not.

      An Alternative Culture for Knowledge Businesses

      In contrast to the rigidity of the command-and-control model, professional service businesses such as legal and management consulting firms – as well as investment managers – often develop structures and cultures that better suit the nature of their work and the economics of their businesses.

      Unlike manufacturers, which can carefully specify their standardized products, professional firms offer no tangible goods to sample or road test, and there are no set manufacturing processes: each lawsuit, audit, or financial market environment is unique, and a firm’s reputation and brand is built from past successes in contending with the varying circumstances. Accordingly, predicting product and service outcomes is much less certain for most investment managers, as well as other services businesses

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