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13 OCTOBER 2011
How to build a company from the ground up
by Julian Birkinshaw:
Professor of Strategic and International Management, Senior Fellow of the Advanced Institute of Management Research and Deputy Dean for Programmes in London Business School.
The recruitment agency, Twenty, is built on values and a unique culture. Julian Birkinshaw reports on the creation and delivery of a new management model.
Every company is a prisoner of its past. The way it is structured and managed, and the implicit values its people hold, are all shaped – for better or for worse – by the early choices of the company’s founders. And once a company reaches a certain size, it is really hard to change these basic principles and values.
So if you want to create a distinctive management model for your company, the best time to do it is when you are starting out. Indeed, most of the well-known examples of companies with distinctive management principles, from Google to WL Gore, were founded on those principles, rather than developing them later in life. However, these cases are few and far between. Most founders, unfortunately, duck the chance to create something unique, and instead fall back on copying the dominant model that exists in their industry or, worse, adopting whatever big company practices they have been exposed to.
While most founders miss the chance to create something unique, the founders of the recruitment agency, Twenty, did not. Paul Marsden and Adrian Kinnersley had many years’ experience in the recruitment industry: they had seen many agencies rise and fall, and they knew how little loyalty most recruitment professionals had for their employers. So they decided to set up their own agency with a view to creating something distinctive and enduring.
Motivation and values
Twenty started life in January 2009, in the depths of the recession. This made getting new business a bit tricky, but they felt that there was no sense in waiting, as it takes time to build a successful business anyway. Adrian Kinnersley reflected on their initial conversation: “The very first exercise was, what do we want the business to feel like for a person who works here? And therefore what are the values going to need to be for the business?” A recruitment agency, after all, has few assets other than its people and their relationships, so the two founders reasoned that they had to find some sort of
to make them worth working for. “We do not want to be the next Michael Page” (a large recruitment agency) was a key mantra in these initial stages.
“We spent probably a disproportionate amount of time working through what that experience [of working here] was going to be like, what we wanted the brand to be, how the culture of the business would be, and then hanging that around a set of simple values that everyone can know,” says Kinnerley. Using some outside help, and with a conscious desire to learn from industries a long way removed from their own, the Twenty founders came up with three core values which have now become fully embedded in the way the company works. In Adrian Kinnersley’s words:
– this means just get on with it! We want to build a big and successful business. We assume clients want to deal with experts in order to recruit experts. So we only hire people who have already proven themselves in the industry.
– this means no politics and complete transparency. A lot of recruitment companies are disorganised, there is a lot of smoke and mirrors with people not knowing what each other is doing, what each other is earning. Instead our culture is one of complete clarity, so if something’s good, we’ll say it’s good; if something’s bad, we’ll say it’s bad.
– this means we celebrate diversity in our style of operating. A lot of recruitment companies tend to have a type of person they gravitate to, so they’ll hire “posh” people from the same schools or they might hire the young and hungry type. We’re simply trying to find the best people, and different personality types fit different segments of the market. So they are quite an eclectic bunch, in terms of how they solve problems for our candidates and clients and can learn from each others unique perspective.
These values helped to push the company off in the right direction, and to guide the founders in their initial hiring activities. And despite starting Twenty in the depths of recession, the company grew quickly, gaining enough business to be profitable in their second year of operation. As of mid-2011 Twenty had 40 employees working across eight segments.
But of course values don’t mean anything if they don’t reflect the actual way people work. So the first step, after getting the first few employees on board, was to link them to the evaluation system. Explains Adrian Kinnersley: “Every six months our employees get appraisal scores, and, therefore, we can rate our business on whether or not we are living our values. And our whole career ladder is now built around these measures. Employees can achieve promotion, pay rises, and more benefits by working in a way that makes us both profitable and valuable, and this means among other things staying true to our core values.”
The flip side, obviously, is that this is not for everyone. Directors are given a peer rating as to whether their teams are delivering on the Twenty values, and if their team aren’t above the bar on these values ratings, they lose a significant proportion of their bonuses. Not surprisingly, employees who don’t fit don’t tend to last very long, although Twenty’s staff turnover is very low as it has refined its interview process to filter out those who will not thrive in the Twenty environment.
The second step in giving the values some teeth was to ensure that new recruits bought into them. “Each time we get a new intake, we have an offsite day where the recent recruits go through the values and tell us what they mean to them, and how they think they can be measured,” Adrian Kinnersley explains. “And then, if on one of those offsite days they can come up with another unique way of measuring one of the values, that goes into the appraisal and everyone sets their bar against it. This happens every three months. We also ensure longer term employees and directors attend these days to ensure we are aware of what attracts new talent to the business as we evolve. This ensures the feeling of ownership endures and we continue to hire the best available recruiters in the market.”
A second defining feature of Twenty’s distinctive model was the founders’ approach to ownership. They knew from first-hand experience how different it feels when you have a significant equity stake in the business you are running. So they wanted to recreate that feeling for their directors – the people running each segment of the business – so that they would get access to the best talent. “The proposition we offered was that Twenty would be like a finishing school for running your own business – you build a business, with our support, and we will make sure you get a fair share of the rewards. We expect many of these guys will start their own recruitment businesses when they move on from Twenty,” says Kinnersley.
After reviewing a number of different options, the Twenty founders developed an Enterprise Management Incentive (EMI) option scheme, with the blessing of the UK tax authorities. The details of such a scheme are complex, but in essence each group of employees has their share class, and options in that share class. There is then a relationship between the profit that they generate and the percentage of their share class that they own.
How does this work in practice? The director of one segment, say recruitment in the IT industry, has his own profit and loss account, including a recharge for central costs. He can make his own choices about how to grow that business. He and his team get the standard group commission on each person they place in a job. The directors get an annual bonus related to the profit they generate over the course of the year. And they receive additional equity relating to the profits left after the bonus. “It’s an attractive system, and it enabled us to get really good people as directors. The point is, these people feel as much ownership as we do – they know they can make a lot of money if they are successful,” says Adrian Kinnersley.
Of course a share scheme of this sort has its limitations as well, the biggest being that the options earned have no real value until the company either floats or gets sold. So in structuring the company in this way, the founders explicitly committed to a change in ownership five or six years down the road, much in the same way that private equity companies plan for a medium-term exit from all their investments. The deal for the directors is indeed crystal clear: stick around for five to six years, help build a successful business, and you will make a very nice return. Leave before this, and you lose your share options.
The scheme also encourages collaboration: As Kinnersley notes: “Although our directors are working on building their individual bits, they are all in reality cross-owned. So by helping each other to get up and running, the directors are increasing the value of the potential multiple that they can get when we exit.”
Of course, some parts of the company are more profitable than others, but the share option scheme means that everyone benefits from the success of others. And consistent with their values, this information about different rates of profitability across the divisions is transparent. This means that everyone has a pretty good idea what each other earns. Base pay is not shared, but commission rates and all option plans are published for all to see.
Making it work: Living the values
With a tightly-defined set of values and a highly focused compensation model, there is less day-to-day management work required by the two founders than in a typical recruitment company. The directors make their own judgments about how best to develop their business streams; the founder’s job is about ensuring the long-term direction remains clear, and reinforcing and enhancing their chosen management model.
“We see our role as ensuring the growth doesn’t hit bottlenecks and that we leverage our experience as much as possible,” explains Adrian Kinnersley. “Take transparency, for example, which is a key part of how we work. Last night we had a month end meeting, so projected on the wall for everyone to look at are all the numbers in the business, who generated what revenue. And decisions that we’re making in the business, and why, are completely communicated. Moving to the new office, for instance; everyone got involved with the design process if they wanted to.
“I was at another company where I was on the operating board, and the question kept on coming up, how do we spin this news? My question was, why are we spinning it? If we have to spin it, something’s not right, so why don’t we just tell people what we’re doing.
“Our values are also expressed in our physical surroundings. We have a library, labeled up with the values, and we have a decent collection of books now reflecting each of our core values. It’s the same with our physical space. We asked the employees, what would you like your work place to look like? And now all the colours in all the rooms reflect the colours of the brand, and so this a green room for financial services, orange room for commerce, blue room for professional services. The imagery and the design on the floor is supposed to reflect the crystal-clear water drops that are on the website”.
Growth and its limits
Twenty is currently the fastest growing recruitment agency in the UK, profitable, and expanding to New York and Switzerland this year. Turnover in the first year was £890,000, rising to a little over £4 million in the second year, and the budget for next year is about £12 million.
The original plan was for about £5 million in profits in roughly five years. On its current trajectory, Twenty is on target. If all goes well, there will be a trade sale, private equity acquisition or listing at that point, but with the lock-in period that goes with all such “exit” strategies, the directors know they are looking at a commitment for a few years beyond the date of the transaction.
But how big can Twenty become? What are the limits to this model? Adrian Kinnersley has done his homework on this issue: “Recruitment companies tend to struggle at about 70-80 people. There’s a couple of reasons for this. Operationally and culturally, you’re becoming a different type of business, with different management challenges. Someone who is comfortable managing five people suddenly has to manage 25, and that changes a lot. And actually space is an issue, because if you’re going to move out of an office that accommodates 70 to 80 people then the cost differential on a space that accommodates 100, 150 people is actually quite significant. So committing to that, it often stops a lot of people in their tracks.
“So what we’re trying to do is to see Twenty as a group that houses eight separate business streams. Our last company, Astbury Marsden, reached 70 people in just two streams (IT and finance), so we think we can get to a few hundred employees if we are careful about it. Of course, our new hires are more like regular employees, but we’ve got a more generous commission scheme than the competition, and there is scope, if they do really well, to earn some share options in the business area in which they’ve contributed to building. We expect 20 per cent of the business to be owned by the people that work in it. We’ve also hired a COO with a background in a much bigger recruitment businesses, who we have asked to build the infrastructure to ensure it scales. And we have a non-exec who is a culture and branding specialist, to makes sure we keep this at the core of our growth.”
What about technology? Is the traditional recruitment industry going to be disrupted by Google or someone else? “These days as a recruiter, you have to be an aggregator rather than a database. In other words, how we sell our service to a client now is not ‘we’ve been going 20 years, we’ve got hundreds of thousands of CVs’. Instead, the pitch is ‘we have superior expertise at extracting and delivering the talent for your business’,” says Kinnersley. “So some parts of the recruitment business have already been automated, other parts are gradually changing. But there are still important parts of the business systems where human touch is vital. For example, a significant proportion of the placements wouldn’t happen without an expert intermediary ensuring everyone’s expectations are managed, and the careers of the candidates are remaining on track for their ambitions. You can’t automate the emotions of a decision making process as complex as this, when families, career’s, money, and locations are all factors unique to each individual.”
Take time to build the right values and systems at the outset.
The founders of a successful company have a lot to answer for: some, such as David Hewlett and Bill Packard, are still revered decades later for their vision and wisdom; others are quietly forgotten as the next generation of leaders find themselves saddled with ill-thought out or outdated ways of working. Paul Marsden and Adrian Kinnersley could easily have followed the conventional wisdom in their industry, and adopted the implicit management model everyone else was using. But they were open-minded enough to question this conventional wisdom, and to ask themselves if there were better ways of working.
To think like an owner, you have to have enough of a stake to make a difference.
Perhaps the biggest problem facing organisations of any size is that employees are not owners. We are often exhorted to think like owners, but the fact is we aren’t. So we do things that simply wouldn’t make sense if it were our own company – we shirk, we take time off, we spend budgets because we have them, we fly business class because we are allowed to, and we have meetings and conversations to cover our backsides. Start-up companies don’t have these problems, because the owners and the employees are the same people. To some extent mutually-held companies, such as John Lewis, address these problems, but because individuals have such a small stake they still fall prey to these pathological behaviours. Twenty is an interesting example of a company that is trying to spread the true feeling of ownership among all its directors, and so far it seems to be working – though it becomes harder the bigger the company gets.
A medium-term exit focuses the mind and increases engagement.
Research in a variety of settings has shown that the prospect of a clear finishing line up ahead helps to increase motivation and engagement. This is why many companies divide work up into discrete projects or ‘campaigns’. So Twenty is cleverly engineering its ownership model to get its employees thinking of the company as one five-year project, at the end of which they will all reap a handsome return. Of course, private equity companies do this as well with their portfolio companies, but it is very rare to see a start-up venture build such an approach at its outset. It does make you ponder, why do we assume that companies should be built as if they were to last forever? There are benefits in having timeless goals, but there are also benefits in having much shorter-term goals as well.
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