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Smooth Transitions

These managers have planned for the future—and protected strong records—by placing an emphasis on succession planning.

Rob Wherry, 04/14/2014

For many investors, the initial appeal of investing with a manager at a small fund company centers on details that have little to do with performance or fees. It’s the idea a manager can run a unique strategy with a long-term focus free from external pressures. It’s the fact a relatively small asset base allows a manager to be more nimble when reacting to changes in the stock market. It also helps that in many cases the manager’s name is securely affixed to the front door, a sign that even if the manager does indeed knock it out of the park, he or she won’t leave for greener pastures.

But building such a distinct corporate culture means those same small fund companies must take extra precautions to ensure the firms continue after their founders head into retirement. In its most sensible form, succession planning entails a founder surrounding him- or herself with people who have the same integrity and ethics as he or she does and who will be able to lead a fund or the firm well into the future.

“Succession planning is definitely a factor,” says Brian Merrill, a principal at Tanglewood Wealth Management in Houston. “We invest in a lot of boutiques. We want a company that has a strong identity to go along with the process. We don’t care if it’s a father handing off to a son, as long as that previous manager has ingratiated into the new one the philosophy, culture, and process.”

The mutual fund world has its fair share of fund companies that got succession right and those that have stumbled when handling it. For example, Morningstar recently reduced its rating to Silver from Gold for Westport WPFRX and to Bronze from Silver for Westport Select Cap WPSRX because longtime managers Andy Knuth, 75, and Ed Nicklin, 67, haven’t named a successor. PIMCO’s recent problems with succession have spilled onto the pages of The Wall Street Journal.

At the other end of the spectrum are firms such as Davis Advisors, parent to the Davis Funds and a firm that has transitioned through different generations of its namesake family. Add to that list Becker Capital Management and C.H. Dean. The two firms have quietly built solid records at their respective flagship funds, Becker Value Equity BVEFX and Dean Small Cap Value DASCX, even as they have gone through changes. While both of these funds have hit some obstacles along the way, they offer glimpses into how succession planning can be successful if handled correctly.

Father (and Son) Knows Best
Pat Becker Sr. was a successful broker at Dean Witter when he decided to open his namesake firm in 1976 that focused on running money for clients in its hometown of Portland, Ore., mostly through separate accounts. The Becker Value Equity fund was launched in 2003 and recently crossed its 10-year anniversary in the top 10% of the large-value category.

In the 2000s, Becker Sr. wanted to find a smart way to ensure the future of the firm he had built. Finding good help wasn’t a problem. The fund’s investment team features nine portfolio managers and analysts who average 18 years at the firm. One obstacle, though, was cashing out Becker Sr.’s ownership stake. The firm was familiar with some of the standard options: sell the business outright to an outside investor or take on debt, the proceeds of which could be used to pay Becker Sr.

“Over the years, we had those options,” says Scott Herrick, head of national marketing for the firm. “But we had enough of a belief in what we had built. We didn’t need to look outside the firm to find the money.” Indeed, three employees, including Patrick Becker Jr., purchased Sr.’s ownership stake in the firm. Now, as a way to incentivize the staff, the firm allows most tenured employees the opportunity to buy shares when they become available.

Rob Wherry is a mutual fund analyst with Morningstar.

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