What listed giants can learn from private businesses

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By Peter Marsh

Escorting his visitor past an array of expensive machine tools, Damon de Laszlo explains why he has avoided seeking a public listing for his engineering company. “I’d have to start justifying my spending on investment and innovation to a board of directors,” he says. “And they might be a pain in the neck.”

Mr de Laszlo is disdainful of many public companies that he says are run in a woefully short term manner. “If I didn’t spend £1m to £2m a year on equipment and other capital investments I’d increase profits significantly, but in the longer term the company would fall apart. The inhibition at board level [in many public companies] is enormous.”

The blunt speaking Mr de Lazslo (pictured above and below, with one of his youthful employees) is chief executive and owner of Harwin. The company based near Portsmouth in southern England. It’s a global leader in a niche area of electronics – making tiny connectors for plugging together circuitry in a range of products from aircraft control systems to fire alarms.  Harwin makes its connectors – built up from collections of wires and precisely machined metal and plastic components – in 50,000 varieties.

Of its revenues last year of nearly £19m, 60 per cent was exported. Mr de Laszlo reckons Harwin is on course to reach annual sales of £30m in the next three years.

Mr de Laszlo and his company are at the sharp end of the debate about whether private companies run by families or stable groups of investors can perform better than the familiar stock market-quoted business where shareholders can – and sometimes do – switch in and out of ownership continuously.

The discussion is particularly pointed where the companies – as in Harwin’s case – are in an engineering or manufacturing sector where the availability of funds for capital imvestment can make a big difference between success and failure.

In such businesses, where spending on technology developments can take a long time to pay off, it can help to plan ahead over a decade or more rather than be governed by purely short  term goals.

Since  most family and privately run companies  only rarely offer shares for sale, the issue of how they perform might appear academic to most investors – whether institutions or individuals – looking for companies to buy into.

However for many fund managers and other investors , studying the best run private companies can provide insights from which executives in charge of conventional quoted companies may have something to learn.

Also monitoring the progress of those private companies that compete with big public businesses can indicate market trends that may have an impact on the quoted concerns and so are of interest to people investing in them.

Companies that are controlled by families or long term investors can be extremely large. Examples include Mars and Kohler, two US businesses in food and bathroom products respectively, Tetra-Pak, the Swedish packaging group, and Bosch, the German engineering giant.

Take Haniel, a Duisburg- based conglomerate owned by members of the Haniel family, and whose subsidiaries include Metro, the big retailing group. Last year Haniel, with other interests in textiles and metals, had revenues of Euro 3.8bn

Florian Funck, Haniel’s chief financial officer , says there are many positives about family ownership. “Having a private company with family shareholders can be a huge advantage. It can guarantee stability in the shareholder base, and companies can benefit from common and shared values and views. It is a good environment for putting long-term strategies into action.”

Chris Rea, chief executive and owner of AES Engineering, a UK company with more than 1,700 employees and which is among the world’s biggest makers of specialist seals for rotary machinery, says: “The main advantage of a private company is the opportunity to build an institution which may forego short term profit generation to generate a much longer-term, larger and more sustainable business.”  The photo here was taken inside AES’s factory in Rotherham.  

A study by three management experts – Nicolas Kachaner, George Stalk and Alain Bloch- published in 2012 in the Harvard Business Review supports the view that the long term focus of family owned companies can pay off.  Over the period 1997 to 2009 the authors found that  “the average long-term financial performance was higher for family businesses than for nonfamily businesses in every country we examined”.

The trio concluded that : “At a time when executives of every company are encouraged to manage for the long term, we believe that well-run family businesses can serve as role models.”

One of the chief hallmarks of a company owned by families or other tightly held ownership groups is the relative lack of constraints on senior managers over taking decisions or keeping money inside the company that might otherwise be paid out as dividends.

On this last point , the shareholders of public companies often require a relatively large proportion of profits to be paid out as dividends , while the comparable groups running private companies may prefer to keep the  funds within the business for investment.

Pointing to what he sees as the general benefits for private groups compared to the public company model, Alessandro Goppion, chief executive of Goppion,  a family owned company in Italy that makes specialist display cases for museums, says:  “I have total freedom with respect to the markets we choose to enter. I have free choice over the skills we need to maintain creativity and establish a basis for growth.”

Massimo Calzavara, director of Calzavara, another Italian company that is a leader in producing and installing towers for handling telecommunications signals, says his business has benefited from an ability to take strategic decisions quickly and ahead of competitors.

“Often, public owned companies [are subject within their corporate governance structures ] to people belonging to the financial world …. who mainly live and operate following specific financial drivers, but do not share the company’s mission or strategy.”

Private company managers on the other hand have a much freer rein. At Harwin for instance Mr de Laszlo  has recently authorised the purchase of a £200,000 3D printing machine for making tiny parts on a one-off basis. He cheerfully admits he doesn’t yet know what the machine will do.

After installing a series of smaller and less expensive machines of this sort, he reasoned it was time to push ahead into more sophisticated equipment. “I can’t justify this by a detailed plan of how my engineers will use it. But I have a lot of confidence [based on similar judgements in the past  ] that they will work out applications that will benefit the company.”

At a much bigger business , Lothar Kriszun, chief executive of Claas, a German group that is one of the world’s makers of combine harvesters, says that in a difficult economy the benefits of a family owned structure pay off particularly well. “We´re able to execute our long term strategy even in uncertain times,” he says. One of Claas’s giant machines is pictured below.

For instance Claas has continued to put new investments into emerging economies such as Brazil, China and Russia, confident that these markets will continue to grow in spite of current constraints.   Mr Kriszun believes shareholders in a comparable public company might be much more cautious.

In determining how private companies perform, much obviously depends on the proficiency of the managers concerned. There is the inherent risk that – if they are poor at their jobs – the relative absence of oversight  could lead to them making  the wrong decisions and plunging their companies into disaster.

Ralf Putsch, chief executive of Knipex, a family owned company in Germany that makes pliers and other wire cutting devices, says : “Family businesses benefit by having a common ‘glue’ – the links concerning shareholders, employees, owners, traditions, structures and partners. However, such strong connections can become harmful if the elements themselves, or the way they relate to each other, are not in good shape.”

Mindful of these potential problems , and to bring some controls  into a company where the family or other shareholding group owns the majority of the shares, some private businesses have introduced fairly rigid operating guidelines to ensure the managers keep within agreed objectives.

That is the case for instance at Freudenberg, a big family owned company in Germany that is a world leader in specialised textiles, seals and lubricants. Here the objectives include a series of targets over financial items such as operating returns.

John Goodwin is chairman of Goodwin, a UK maker of machined castings that is listed on the London stock exchange but where more than half the shares are owned by the Goodwin family.

He says the business benefits from the strong sense of direction of the family involvement, while at the same time being subject , through the impact of its minority shareholders, to a useful element of outside guidance. He says Goodwin gains from the “good discipline” that a stock market listing provides.

Other managers of private companies point to other examples of where the structure of quoted companies can bring advantages over that of a typical private group.

David Ickert  , finance director at Air Tractor, a Texas based maker of  crop spraying aircraft that is owned by its employees, says that the greater public profile of most quoted business may make it easier for them to attract new employees. That may be the case especially in areas such as engineering where competition for new recruits is fierce.

Also publicly listed businesses often have a wider source of potential routes for raising money for instance for acquisitions.  Allyn  Beard, a director of AH Beard, a large Australian maker of beds and mattresses owned by the Beard family, says a disadvantage of private complies is the relative difficulty of gaining “access to capital for expansion” through means such as issuing shares or doing deals with banks.

However  Lok Home, president and main owner of Robbins, a US maker of tunnelling machines, says the  fewer options for raising finance for private groups may be partly balanced by the  larger sums public companies have to pay out to ensure they comply with stock market reporting strictures. The picture below shows some parts of Robbins’ production.

 

Also some larger family owned businesses have found a way around the perceived problems in raising funds for expansion. Then have done this not by raising equity through share sales but through issuing bonds.  Claas has been a leader in this respect, following a policy of debt issue started in 2002. Last year it raised Euro 300m in debt from more than 200 investors from Germany and outside.

Overall the conclusion is that the best private companies operate with management disciplines and  procedures that public companies and investors in them would be well advised to study.

Finding out the inner secrets of the top performing private groups is not necessarily easy as many pride themselves on keeping their affairs to themselves , on the basis that this gives them a competitive advantage.

But those outsiders who can gain access to at least some details of the internal workings of the leading private businesses will almost certainly find this a useful exercise.

This article appeared in a research journal published in 2016 by Walter Scott, the investment group.

By |October 6th, 2017|Categories: Observations, Opinion|0 Comments

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