Sampler postings republish pieces previously available only to paid subscribers.
This was originally published in February 2023, in the Due Diligence category.
Sign up for a free or paid subscription plan here.
Dealing with due diligence analysts and capital allocators is a series of performative acts for asset managers.
It would be naïve to think it could be otherwise. As humans, we spend a great deal of time on impression management. (Organizations are no different.) We all want our story to be told by others in the way that we would tell it ourselves.
Above all, superior due diligence requires skepticism about those stories and the application of techniques to distinguish narrative from reality.
Where the lines are drawn
Any aspect of an organization or individual can be airbrushed for presentation to the outside world. The overall pattern of that activity can be informative, including where it seems to be most prevalent (from whom and regarding what things) and the general levels of promotion versus openness that exist.
Policies regarding transparency are revealing, whether they concern the details of investment process and methods, whom you can talk to and whom you can’t, what kind of information is willingly shared, or any number of other things. Sometimes those boundaries are drawn for good reasons, but a line can be placed where it is in order to obscure the mess on the other side of it. (Foundational principle: “All organizations are messy.”)
Angles
There are a variety of tactics that can be used to crack the narrative.
One simple but powerful method is to get people to talk about the areas of the organization and its investment approach that need improvement. Often they struggle with the question, since they don’t want to admit any shortcomings. (Those in charge and more practiced in the narrative frequently do worse than junior people, who see how the sausage gets made and may not be as guarded in talking about it.) Open discussion about the challenges that exist is a good sign in an organization; bluster and defensiveness are bad ones.
Talking to a number of people separately is preferable to group meetings. While it can sometimes be enlightening to see how an investment team reacts to each other, most of what you’ll see when they are together is theater.
A 2018 posting listed some of the lessons for investment organizations (and those who analyze them) that came from studying the missteps of the “best and brightest” who led the United States involvement in the Vietnam War. One telling incident, very early on when there were only U.S. advisors and not soldiers in the country, happened when Bobby Kennedy asked an assembled group of them what problems they faced:
None would admit to there being any. When he then invited them to talk to him one by one, it all came spilling out, “a brief and instructive lesson in what people would say for the record and what they would say in private.”
The need to hew to the narrative (and to practice organizational, as opposed to personal, impression management) is especially powerful when you are gathered with your tribe and meeting with others from the outside.
Another way to spot topics that might be worth prying open is by comparing messages across communication channels (websites, regulatory filings, monthly updates, DDQs, white papers, etc.). Sometimes they are out of sync with each other, even in small ways, providing clues that are open to all. Historical comparisons of those sources can also be revealing, highlighting the advantages of having a good historical record (of your notes and reports too) that can provide fodder for investigation.
Value added
Just as alpha is delivered by asset managers who are willing to be different, discovery during due diligence comes from unusual game plans rather than common ones.
Can the slicing and dicing of performance numbers every which way provide some insight? Rarely. Can holdings information give you fodder for good questions? Sometimes, but it’s often the small investments a manager has made that can give you the most interesting hints (while everyone else is focused on the top ten).
Given that time in interview meetings is precious, how it is spent is critical. Large chunks are usually devoted to the discussion of investment ideas, which seems reasonable on the surface, but gets you into the realm of manager storytelling. Unless your questions are better than those of everyone else who asks them, you might not learn much of value (even as you are more vulnerable to attempts at impression management).
It’s better to look for wedge issues that aren’t often on the table in those kinds of meetings. Take the topic of culture for example. It is discussed superficially if at all (and recounted in analyst reports in superficial fashion). If the ability to analyze culture in depth is part of your toolkit, you can understand the organization in ways that others can’t (and you have an advantage over those you interview, who may talk about culture but have little real knowledge about the relevant principles involved).
Similarly, there are methods to evaluate investment process that go beyond the narrative that is provided to you. Taking that path is much more fruitful that finding out what someone thinks about a particular investment.
Given that asset management is a people business, you might consider understanding the individuals on whom you will most rely to be the holy grail of the research process. To do that well requires different skills and interview techniques — and the willingness to use them even when the subjects of your review are trying to resist your unusual ways so that they can paint an image of themselves for your consumption.
A conventional due diligence process allows asset managers to deliver their intended message as they would like. Discovery involves getting past that.
All of these ideas about cracking the narrative (and many more) are explored in greater depth in the online course, “Advanced Due Diligence and Manager Selection,” and in customized training sessions that are provided to organizations.
Published: May 2, 2023
To comment, please send an email to editor@investmentecosystem.com. Comments are for the editor and are not viewable by readers.