FinPod

[00:00:00:00 - 00:02:12:00]
Welcome back to the Deep Dive. We have a fascinating stack of research to get through today. We're looking at a topic that I'll be honest, usually gets relegated to the very back of the employee handbook. Or a dusty plaque in the lobby that nobody reads. Exactly. And I think for a lot of people, especially if you're coming from a hard finance or operational background, the spreadsheet jockeys, right. If you live in Excel or you spend your days on the factory floor, the word culture kind of sets off alarm bells. It sounds like fluff. It does. It sounds like forced fun ping pong tables and those vague mission statements about synergy. So it's the soft stuff, the thing you worry about after you've hit your EBITDA targets. Right. It's the pizza party you throw to apologize for the 60 hour work weeks. But the documents we're analyzing today, I mean, we have case studies from the corporate finance Institute, deep dives into Boeing, Netflix. They argue the exact opposite. The premise here is pretty bold. It's that culture isn't just about morale or, you know, making people feel good. It is a leading indicator of financial performance. It's actually more than that. I'd say it's an asset or in some cases, a massive liability. It's the operating system that determines how capital gets allocated, how honest your forecasts are and, you know, ultimately whether your strategy actually happens. Or just stays on a PowerPoint slide. Exactly. Okay. So let's define our terms before we get into the cases. Yeah. Because culture can be such a nebulous word. How are these financial analysts actually defining it? Well, they're stripping away the vibes and looking at the mechanics. Operationally, it's the set of shared behaviors and incentives that guide decision-making, but the key phrase in the research that really stood out to me was this. What was that? Culture is not what you preach. It is what is rewarded, what is tolerated and what is ignored. What is tolerated? That's a heavy phrase. It is because from a P&L perspective, what you tolerate usually shows up as a cost. If you tolerate sandbagging in the budget, that's capital inefficiency. You tolerate safety shortcuts. That's a future liability. Or if you tolerate brilliant jerks who destroy teams, that's a turnover cost. Okay. So we're going to look at this through three distinct lenses today.

[00:02:13:01 - 00:06:26:00]
First, culture is an efficiency engine. How it drives margins. Second, as a strategic asset, how it drives innovation. And finally, the cautionary tales, the value destroyers. And we should probably start with the efficiency engine because this is where the math is the most counterintuitive. You were talking about Costco. I am. Costco is the classic business school case, but we're looking at it specifically from a CFO's perspective. Right, because on the surface, Costco seems to break the cardinal rule of retail. Which is? Retail is a low margin game. You survive by squeezing costs, especially labor costs. Yeah. But Costco famously pays way above the industry average. They offer benefits that their competitors just don't. So if I'm a traditional finance leader looking at that spreadsheet, I'm just seeing bloated SG&A, I'm thinking we've got to cut these wages to boost the margin. It does look like that. Until you look at the second order effects, the research highlights a metric called revenue per employee. Because Costco pays more, their turnover is a tiny fraction of the industry standard. I mean, in retail turnover can be 60s, 70s, sometimes over 100% a year. You're basically replacing your entire workforce every 12 months. You are. And turnover isn't free. I think people forget that. It's wildly expensive. It's not just the recruiting fees. No, it's the downtime, the training lag, the mistakes new hires make while they're getting up to speed by paying a premium on wages that soft culture piece, Costco, buys stability. And that stability drives massive operational leverage. Exactly. They generate far more revenue per dollar of labor costs than their competitors, even though the hourly rate is higher. So the culture of generosity is actually a rigorous efficiency play. Precisely. It stabilizes the entire cost structure. If you're a finance director at Costco, your forecasting becomes incredibly accurate because your workforce is stable. You aren't constantly reserving cash for emergency hiring. Which means you can allocate that capital somewhere else. Right. To inventory or expansion. It reminds me of that saying. It's expensive to be cheap. That's the one. And we see a similar dynamic, but with a different mechanism at Southwest Airlines. Now Southwest is interesting. They are also known for culture, but it's less about high wages and more about this intense cost consciousness. Right. But the distinction the sources make is critical here. It's not top down austerity. It's not a memo from the CEO saying stop using color printing. Or we're switching to cheaper coffee. Exactly. It's cultural buy in. So how does that actually manifest in the numbers? Where do you see it? It shows up in unit costs. Specifically a metric called cost per available seat mile or TASM. Southwest has historically kept a lower CACSM than the legacy carriers. And the research argues this is because the employees feel a sense of ownership. Can you give example of that? Sure. If a pilot taxis on one engine instead of two to save fuel, they aren't doing it because they're afraid of getting fired. They're doing it because the culture equates efficiency with job security. So the pilot is thinking if I save this fuel, the company is stronger and I keep my job. Exactly. And that links to the resilience point in our notes. The airline industry is, you know, it's notoriously cyclical. It crashes every 10 years or so. 9-11, the 2008 crisis, the pandemic. And because Southwest culture keeps their break even point so low, they have balance sheet flexibility when the downturn hits while other airlines are getting bailed out or declaring bankruptcy. Southwest usually keeps flying. That cultural trait is a financial shield. Okay. So that's retail and airlines. Let's talk about Danaher Corporation. This one feels a bit more clinical. Danaher is a fascinating beast. They're a conglomerate. They own a bunch of companies in life sciences, diagnostics, but they don't operate like a typical holding company. They're famous for the Danaher business system, DBS. You know, business system always sounds like corporate jargon for we have a handbook. It's so much more aggressive than that. DBS is a culture of continuous improvement borrowed heavily from the Japanese Kaizen philosophy, but here's why Wall Street loves it. It's a capital allocation machine. Danaher grows by acquisition. They buy companies and usually M&A is a disaster.

[00:06:27:04 - 00:07:26:20]
The stats are brutal. Most mergers destroy value because the integration is messy. Cultures clash. And the synergies never materialize. Never. But Danaher has this culture, this system that they can drop onto a new acquisition like a template. So just buy a company, install the culture and the margins go up. Almost immediately. They have a playbook for inventory turns, for working capital, for pricing. Because the culture is so codified and data driven, they remove the execution risk from M&A. So in this case, culture isn't just how we treat people. It's literally how we process cash. Exactly. It turns the company into a platform that generates compounding returns. It's boring, it's rigorous, and it is incredibly profitable. Let's pivot. We've talked about efficiency squeezing the most out of the lemon, but you can't save your way to success forever. Eventually you have to grow, you have to innovate, and that means taking on risk. This is where we move to section two, culture as a strategic asset. And the headline here is Netflix.

[00:07:28:01 - 00:10:09:14]
Netflix. Notorious for their culture deck. It's been viewed millions of times. All those phrases like freedom and responsibility and radical transparency. And the scary one. Adequate performance gets a generous severance package. Right. It sounds ruthless, a stressful place to work, but the analysis suggests this. This ruthlessness is actually a risk management tool. Well, think about how most companies fail at strategy. They commit to a bad idea, say a new product, and then everyone is too polite or too scared to say it's failing. The sunk cost fallacy, office politics. Right. No one wants to embarrass the VP who launched the project. The emperor has no clothes problem. So how does Netflix solve that? With radical transparency. In their culture, you are effectively required to challenge assumptions. If you're a junior analyst and you see a flaw in a projection model for a new show, you speak up. There's just no place to hide bad data. So this prevents zombie projects, those projects that just walk around eating money, but are actually dead. It does. And it allows for extreme ability. Look at their pivots. DVD to streaming, licensing to original content. And recently, after years of saying they never would, ad supported tiers. A culture that clings to hierarchy can't move that fast? No way. The finance team at Netflix can reallocate billions in content spend so quickly because the culture strips away the emotional attachment to the old strategy. It's discipline capital allocation disguised as chaotic debate. That's a perfect way to put it. Then you have Google or Alphabet. They're famous for 20 percent time and a culture of engineering curiosity. But from a pure finance view, isn't that just lighting money on fire, paying people to work on hobby projects? It looks like waste if you only look at a single quarter. But the sources argue that Google's culture creates a portfolio effect. They're essentially venture capitalists investing in their own employees. They're placing a lot of small bets. Thousands of small bets. And most of them fail. But the culture tolerates failure. And that's the key financial insight. If you punish failure, you stop innovation. If you stop innovation, your margins eventually compress because you become a commodity. So the cost of the culture, all that wasted time on failed projects, is basically an R&D premium. Yes. They're buying call options on the future. Right. We've painted a pretty rosy picture so far. Culture makes you efficient. It makes you agile. But now we have to look at the car crashes. The bad and the ugly. This is maybe the most important part of the stack because when culture goes wrong, it doesn't just lower margins. It can zero out the company. We have to start with WeWork. The ultimate example of growth at all costs. WeWork's culture was described as energy and madness.

[00:10:10:14 - 00:15:44:16]
But let's look at the finance function specifically. What happened there? The culture completely neutered the finance team. In a healthy company, the CFO is the check and balance to the CEO's vision. At WeWork, the culture was centered entirely around the founder. So dissent was viewed as a lack of commitment. Exactly. So if you raised your hand and said, hey, our unit economics are negative. We lose money on every single desk we rent. You are the problem. You were killing the vibe. And this led to the creation of those infamous non-gap metrics like community adjusted EBITDA. Which basically meant profit before we pay for all the real expenses like rent and payroll. Right. The culture warped the data. It allowed them to tell a story that wasn't grounded in math. And because the culture rewarded hype over discipline, they burned through billions in cash with no path to solvency. The valuation collapse wasn't bad luck. It was inevitable. That's a case of delusion. But what about Wells Fargo? That feels different. That feels less like delusion and more like, well, extortion. Wells Fargo is a classic case study in misaligned incentives. We defined culture earlier as what is rewarded. While Wells Fargo rewarded cross-selling, the mantra was eight is great. They wanted every customer to have eight products. Checking, savings, credit card, mortgage. And the metric itself isn't inherently evil, right? Cross-selling is standard bank KPI. But the culture surrounding it was toxic. The targets were set so impossibly high and the pressure was so intense that the only way to hit them was to cheat. So the bank tellers weren't bad people. They were rational actors in an irrational system. They opened fake accounts to save their jobs. And this is where the finance and risk functions failed. They had to have seen the numbers. The spike in inactive accounts, accounts with zero balances. But the culture was so aggressive that bad news just couldn't travel up the chain. And the bill came due. Billions and fines, caps on their asset growth enforced by the Fed. The reputational damage is hard to even quantify. That hard driving sales culture ended up being the most expensive thing they ever built. And then we have Boeing. This one hit hard because the cost was human life. But the sources trace the 737 MAX tragedy back to a very specific shift in corporate culture. It's the shift from an engineering led culture to a finance led culture. That sounds like we're blaming the finance guys. It's not about the people. It's about the priority. For decades, Boeing was run by engineers. Safety and quality were the absolute north stars. Then after the merger with McDonnell Douglas, the focus shifted to shareholder return, stock price and efficiency. They wanted to compete with Airbus on cost and on speed. Exactly. So when they designed the MAX, the financial mandate was minimize training costs for airlines. Because if pilots needed new simulator training, the plane would be more expensive to operate. So they added software MCS to mimic the feel of the old plane, specifically to avoid that financial line item of pilot training. They traded a safety margin for a financial margin. The culture didn't allow the engineers to say this is a bad trade. The financial target became the master. And as we know, that short term optimization led to two crashes and tens of billions in losses. It's a tragic irony. By obsessing over the financials, they destroyed the financials. That's the lesson. You cannot optimize a spreadsheet in a vacuum. If your culture compromises the product, the spreadsheet eventually collapses. And finally, just briefly, Theranos. This is the extreme end of the spectrum. Theranos is the black box culture, secrecy, compartmentalization and fear. Elizabeth Holmes famously never let teams talk to each other. Which completely destroys internal controls. The finance team couldn't audit the R&D team because they weren't allowed to see the data. It's the ultimate example of how a culture of secrecy is a breeding ground for fraud. There was no truth in the building, only the narrative. So we've seen the good, the agile and the ugly. If I'm listening to this and I'm a controller or a VP of finance, what do I do with this? Culture feels so big. I can't exactly write a journal entry for improved culture. No, but you can measure the signals of culture. This is the actionable part. You're sitting on a goldmine of cultural data. You just might not be calling it that. OK, give me some examples. What should I look for in my monthly reporting package? First, look at forecast accuracy and budget variance. Meaning, how close do we get to what we said we'd do? Right. But look at the pattern. If a department is consistently sandbagging, setting low targets so they can beat them and get their bonuses, that's a cultural issue. It means they don't trust management. Or if they're consistently overly optimistic and missing targets, that's a lack of discipline. It tells you about the honesty of the organization. Second, look at capital allocation outcomes. Go back three years. Look at the projects you funded. Did they deliver the ROI that was promised in the pitch deck? I feel like nobody ever does the post-mortem. We just moved to the next project. Which is a huge cultural failure. If you constantly fund projects that fail and nobody is held accountable and you keep funding the same teams, your culture tolerates mediocrity. The numbers tell you that. And a third. Turnover and hiring costs. We talked about it with Costco. If you're seeing a spike in recruiting fees or if your wrap time for new sales reps is getting longer and longer, your culture is bleeding cash. Don't just bury that in general expenses. Call it out. So the finance professional isn't just the scorekeeper. They're the diagnostic mechanic. They are the guardians of reality. That is the role. So how do you influence it?

[00:15:46:00 - 00:17:37:15]
I find these issues. I'm just the finance guy. I'm not HR. I don't set the culture. You influence it by asking the hard questions. When someone brings you a projection that looks like a hockey stick, you don't just put it in the model. You ask, what are the assumptions here? What happens if this goes wrong? You force the rigorous thinking. You force transparency. You document the risks by refusing to accept fluff numbers. You force the operational teams to be more disciplined. That is changing the culture. You are setting a standard that says in this company, we tell the truth about the numbers. I love that. We tell the truth about the numbers. It sounds so simple, but as we saw with WeWork and Theranos, it's the difference between survival and collapse. It's the fiduciary duty. We covered a lot of ground here. We have definitely debunked the idea that culture is just ping pong tables. Rest in peace to the ping pong table. We've seen how Costco and Southwest monetize trust and stability. We've seen how Netflix monetizes truth and agility. And we've seen how Boeing and Wells Fargo paid the price for norms that prioritized the wrong things. The big takeaway for me is that culture and strategy are not separate buckets. Culture is the execution engine for the strategy. It's the how. It is. You can have the smartest strategy on Earth, but if your culture is fearful or secretive or lazy, that strategy will die on the vine. I want to leave the listeners with a final thought to chew on. We spend hours, weeks, sometimes months polishing our budget models. We obsess over the formulas, the macros, the formatting. We love a good model. But spreadsheets don't make decisions. People make decisions. And culture is the invisible hand that guides those people when you aren't in the room. That's it. So next time you're looking at a variance report, don't just look at the math. Ask yourself, what is this number telling me about the behavior of my team? Because that's where the real insight is. That's the deep dive. Thanks for listening. We'll see you on next one.