Whole Foods Market, Inc. (WFM), Costco Wholesale Corporation (COST): The Power of Incentives for Investing Success

“I think I’ve been in the top 5% of my age cohort all my life in understanding the power of incentives, and all my life I’ve underestimated it. And never a year passes but I get some surprise that pushes my limit a little farther.”

Charlie Munger

As long term shareholders, we are partly owners of the companies in which we invest, and monitoring the performance of “our employees” is of utmost importance. Unfortunately, it´s not always easy to keep track about how management and staff at different levels are doing, that´s why relying on good incentives can be enormously helpful.

Providing the right incentives for human resources can be one of the most important drivers of long term returns for investors.

More than Money

It´s not all about money–there is not enough currency in the world to motivate Warren Buffett more than he already is. Buffett is among the wealthiest people on Earth, and he has most of his net worth invested in Berkshire Hathaway, so he is closely tied to the company from a financial point of view.

But Buffett is beyond money at this stage in his life: Berkshire Hathaway is his passion and his legacy.  The Oracle of Omaha once said that he tap dances to work every morning. In an interview with CNBC from last November he was asked how the rest of us can find a job that has us tap dancing to work. Here’s his advice: “Take the job you would take if you were independently wealthy. You’re going to do well at it.’

Buffett is arguably the best capital allocator in the planet, and he enjoys doing that job to the benefit of Berkshire and its shareholders. He loves his job and he loves Berkshire, so there is no doubt of the fact that Buffett will do everything he can to make the right decisions for the company and to secure a smooth transition after he is gone.

Sending the Right Message

Companies like Whole Foods Market, Inc. (NASDAQ:WFM) are about more than just making money.  The conscious capitalism movement is about considering the needs of employees, clients and the society as a whole when it comes to running a corporation. This attracts a special kind of skilled and motivated employee, the type of person who doesn´t just work to make money, but also to serve a higher purpose.

The company´s founder and CEO, John Mackey, has attracted the attention of the media due to his controversial views on issues like the Obama administration and healthcare reform, among other things. But he also brings a refreshing perspective to corporate leadership.

Mackey wrote in a letter to employees in 2006:

“I am now 53 years old and I have reached a place in my life where I no longer want to work for money, but simply for the joy of the work itself and to better answer the call to service that I feel so clearly in my own heart.”

The company has an emergency fund for staff facing personal problems, Mackey earns a salary of $1 per year, and executive compensation (not counting stock options) is capped at 19 times the average worker’s pay. Whole Foods distributes stock options all over the corporate ladder, not only to high rank management, and this keeps employees interested and involved in the company´s performance from an investor´s perspective.

This holistic business philosophy proposed by Mackey has been quite rewarding for shareholders too: shares of Whole Foods Market, Inc. (NASDAQ:WFM) have trounced the indices by a wide margin over the last years. Conscious capitalism can also be profitable capitalism, judging by the Whole Foods example.

Money Matters

A 2005 article by the New York Times describes Costco Wholesale Corporation (NASDAQ:COST) as “The Anti-Wal-Mart Stores, inc. (NYSE:WMT).” According to the article, salaries at Costco are a 42% higher than at Sam´s Club, and the company is much more generous than its competitor when it comes to health plans and other benefits.

Wall Street analysts are typically against these kinds of policies–cutting expenses as much as possible in order to maximize short term profits is the usual receipt to compete in discount retail. But good wages and benefits have been a plus for Costco and its investors: a motivated workforce means lower turnover and a more collaborative attitude by employees, and this has been translated into superior performance for the company from a pure business perspective.

Costco Wholesale Corporation (NASDAQ:COST) is outgrowing Wal-Mart and it´s Sam´s Club business, so happy employees apparently mean happy customers and happy shareholders too. The difference in growth rates cannot be exclusively attributed to compensation policies–there are many factors at play and Costco is a younger company than Wal-Mart. However, the fact that Costco is beating Sam´s Club could be interpreted as evidence of the relevance of employee motivation and providing the right incentives to achieve superior results.

Bottom Line

Human resources are perhaps the most relevant driver of long term performance in the business world. As investors, we need to analyze the incentive structures in order to make sure that the company can attract the best talent and keep those skilled employees well motivated. It can be via a personal passion, a distinct corporate philosophy or simply by providing better salaries and benefits than the competition, but the power of incentives should not be underestimated.

The article The Power of Incentives for Investing Success originally appeared on Fool.com and is written by Andrés Cardenal.

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