Balancing Governance and Culture to Create Sustainable Firm Value
As a motivating example of how governance and culture may interact to alter firm value, consider Sears Holdings. Hedge fund billionaire Eddie Lampert acquired a large position in the company nearly a decade ago. In the first year after Lampert’s acquisition, Sears Holdings thrived and equity prices outperformed the market by 18 percent. Two years later, profits had declined 45 percent and sales retreated to pre-Lampert levels. Press commentary suggests the cause of Sears’ descent is Mr. Lampert’s re-orientation of Sears’ corporate culture toward results. Lampert runs Sears like a hedge fund portfolio, with separate business units competing for his money. Such a structure fostered change in the norms and expectations that employees have for how they need to behave to fit in and succeed in the firm.
In theory, this interaction between governance and culture could increase or decrease firm value. On one hand, when unit leaders are told their performance is all that matters, they may run their units in the most efficient way. By incentivizing individual pieces of the firm to produce results, this may lead to a greater sum than if the units operated as a whole. On the other hand, the whole can be greater than the sum of its parts if implicit cultural norms such as collaboration are already working to create value. Even worse, introducing new rules could reduce the effectiveness of the value-enhancing culture.
In the case of Sears, many insiders claim that by focusing on the aspects of the job that could be easily quantified, employees began to skimp on tasks that cannot easily be quantified but are important to long-term value. For example, an insider notes, “The model creates a warring-tribes culture … cooperation and collaboration are not there.” Another Sears employee remarked, “The result was confusing to the customer; it became disjointed.” What the Sears example highlights is that the whole lost value when the explicit emphasis on performance overpowered the implicit values to collaborate, satisfy the customer, and not act selfishly.
Our research demonstrates that investors need to carefully consider the balance of governance and culture if the goal is sustainable long-term value creation. Stronger governance and activist firepower is not always the best remedy for corporations’ shortcomings. In fact, the evidence suggests more recent activists may be overreaching when identifying possible targets. What this calls for is recognition by the broader investment community that implicit and explicit systems interact. By creating these new measures of corporate culture and documenting some intriguing relationships, I hope this serves as a call for others to explore corporate culture as an underappreciated source of sustainable value for firms. Moreover, I hope investors can begin an open dialogue with management that gives them the credit they deserve for investing in creating and sustaining effective corporate cultures.