Charles & Chase Koch on How They Quietly Built a $150B Empire

Charles Koch: The first one was making fractionating trays, designing those, We had a president then who was one of our principals, you don't want to be negative, is top down and obsessed with controlling everybody. So he would send out memos every week demanding on what they spent, how did you spend it on, what did you do, did you do this right? So they were, for us, matter of fact, they started ignoring him. And then the whole culture was protectionist. That is, when they sold the internals for a fractionating tower, they wouldn't tell them the design. And, well, we need to know the design so we can correct it. No, they wouldn't give it to them. And then what's even worse, to satisfy the European market, they didn't even build a plant there. They had multiple subcontractors do parts of a tray and then bring them all together and assemble with another contractor. Now you can imagine how that was for speed and cost. So we were losing our ass, if you excuse the expression. And so I changed the management and changed the philosophy. Okay, the first thing we're going to focus on is creating value for our customers. And then the second thing, we're going to empower our employees so they want to do this. And the third thing, we're going to do a plant. We're going to build a plant in Italy to satisfy the European market. We're going to do it all ourselves. And so we became profitable.

Charles Koch: I'll give you our worst failures and what caused it. And it caused us by violating the principle of hiring people first on values and second on talent. And what I've for years, I've told our people, Look, if you want to hire somebody with bad values because you like them or something. Hire them slow and stupid and so we can catch them real quick and get them the hell out. Maybe get them to go to work for our competitors or something. Maybe help them get a job. But anyway, that was huge. And then we made that even worse by taking people who had terrible values and made them leaders. And so what we call that is rather than we want everybody in the company to be contribution motivated, that I want to succeed by contributing, I want to be rewarded for my contributions, not for anything else. And the value I create for our customers or for the future And so they would, some of these people were destructively motivated. What they wanted was power or control, and they would hide their failures and make up their successes.

Charles Koch: Let me go back to failures, because I mean, we're understating our great strength in failures. And that is, I'll give you our worst failures and what caused it. And it caused us by violating the principle of hiring people first on values and second on talent. And what I've for years, I've told our people, Look, if you want to hire somebody with bad values because you like them or something. Hire them slow and stupid and so we can catch them real quick and get them the hell out. Maybe get them to go to work for our competitors or something. Maybe help them get a job. But anyway, that was huge. And then we made that even worse by taking people who had terrible values and made them leaders. And so what we call that is rather than we want everybody in the company to be contribution motivated, that I want to succeed by contributing, I want to be rewarded for my contributions, not for anything else. And the value I create for our customers or for the future. And so they would, some of these people were destructively motivated. What they wanted was power or control, and they would hide their failures and make up their successes.

Charles Koch and Chase Koch: I'll give you our worst failures and what caused it. And it caused us by violating the principle of hiring people first on values and second on talent. And what I've for years, I've told our people, Look, if you want to hire somebody with bad values because you like them or something. Hire them slow and stupid and so we can catch them real quick and get them the hell out. Maybe get them to go to work for our competitors or something. Maybe help them get a job. But anyway, that was huge. And then we made that even worse by taking people who had terrible values and made them leaders. And so what we call that is rather than we want everybody in the company to be contribution motivated, that I want to succeed by contributing, I want to be rewarded for my contributions, not for anything else. And the value I create for our customers or for the future. And so they would, some of these people were destructively motivated. What they wanted was power or control, and they would hide their failures and make up their successes. And so I'll give you 2 examples. One goes back to 1973. You remember the war in the Middle East and everything. And they had gotten us into all kinds of wild, reckless trade. So that could have bankrupted the company. And then later, because I mean, much later, shows you that repetition penetrates even the dullest of mine. So I needed this to happen a bunch of times. So it finally, okay, I got it. I got it. God, don't punish me anymore, please, for my stupid mistakes. So this was, we did it about the same time, our ag group. We put leaders in who were destructively motivated, and in refining, we got a leader, and they were destroying those businesses. And so it didn't almost bankrupt it, but it almost wiped out all of Coke's earnings in the late 1990s. To go a little deeper on what happened in the late 90s in our ag business, we called it a strategy the gas to bread spread. So we wanted to basically be in every element of the value chain, all the way from pulling the natural gas out of the ground, converting it into fertilizer, making the nitrogen products to grow the crops, that would ultimately then end up on the grocery store shelves and being bread, we got in pizza crusts, all this crazy stuff. When you look back on it, like, what the hell are you doing, right? But it was what he was saying is like leadership thinking about we can do anything, and if we can basically kind of control the entire value chain, like we can make that successful, completely violates probably all 41 principles in the book, right? discovery, knowing where your capabilities are, right people, right roles. And so we called it the gas to bread spread. Some people call it the ass to bread spread, too. And there's another one in there, integrity, because when they knew there were losses in some of these, and then they wouldn't tell us they wanted to go ahead anyway. We had a deal within that, like purina dog food. So one of the things that was acquired was the large animal feed. Mainly hogs. Yeah, so hog feed. And did no diligence, and this is one of our principles, apply the scientific method. So disprove your hypothesis as much as you try to prove it. And so we closed that acquisition, and within days we found out that we had hundreds of millions of out of the money hog contracts. We didn't even look at the contracts.

Charles Koch: At first, we tried to get them to do it through sheep dipping. That is, you take everybody in, you give them a big seminar, and I'll go do this. And from Polanyi, if you want to read a book that's hard to read. I mean, if you want really hard one, you can read Human Action. This is even harder called Personal Knowledge by Michael Polanyi, who was a chemist and then became a philosopher. And he goes through what it takes to develop personal knowledge. You have to rewire your brain. to have it work differently, right? You have a habit. So you don't need to think about it. And then if you want to change, like, do I brush my teeth first or do I comb my hair first? No, I want to start combing my hair first. And all of a sudden you're back brushing your teeth first because you're not thinking about it. And so because your brain gets, I mean, you know your body. Let's say you're a weightlifter and you want to be a marathoner. Okay, it's going to take work with intensity over time to change your body. Well, your brain's part of your body, so you've got to do the same thing. So we said, okay, we've got to start with. Okay, let's find a group that's really interested in this. They're struggling, they're having problems, and here are the principles, and we'll coach them, we'll help them start doing it. And if they work with intensity on it, and then they succeed, Then we don't need shift dipping because then the other businesses and capabilities says, gosh, I'd like to do that. So you don't need to call them in. Then we have more demand for people who can help them. And the hardest thing is to have our people in strategy or our principal-based management group who are really good at helping them. And boy, they're in more demand than anybody. So the best thing is success will drive social mimicry.

Charles Koch: Because at first, we tried to get them to do it through sheep dipping. That is, you take everybody in, you give them a big seminar, and I'll go do this. And from Polanyi, if you want to read a book that's hard to read. I mean, if you want really hard one, you can read Human Action. This is even harder called Personal Knowledge by Michael Polanyi, who was a chemist and then became a philosopher. And he goes through what it takes to develop personal knowledge. You have to rewire your brain. to have it work differently, right? You have a habit. So you don't need to think about it. And then if you want to change, like, do I brush my teeth first or do I comb my hair first? No, I want to start combing my hair first. And all of a sudden you're back brushing your teeth first because you're not thinking about it. And so because your brain gets, I mean, you know your body. Let's say you're a weightlifter and you want to be a marathoner. Okay, it's going to take work with intensity over time to change your body. Well, your brain's part of your body, so you've got to do the same thing. So we said, okay, we've got to start with. Okay, let's find a group that's really interested in this. They're struggling, they're having problems, and here are the principles, and we'll coach them, we'll help them start doing it. And if they work with intensity on it, and then they succeed, Then we don't need shift dipping because then the other businesses and capabilities says, gosh, I'd like to do that. So you don't need to call them in. Then we have more demand for people who can help them. And the hardest thing is to have our people in strategy or our principal-based management group who are really good at helping them. And boy, they're in more demand than anybody. So the best thing is success will drive social mimicry.

Charles Koch and Chase Koch: Most people in most enterprises that aren't owner operators don't want to fail. They want to keep their job. They want to move up the ladder by being repeatedly successful. And if you want to create a culture of creative destruction, if you want to create a culture of failing and learning from failure, it's very hard to get individuals who live on an income on a salary to do that because if they make a mistake, if they fail and then they fail again and they fail again, I'm worried about losing my job. So what you typically see in most scaled organizations is middle management and even senior management when founders or owners don't operate it anymore saying, I'm going to take the less risky path. I'm going to do the less creatively destructive thing. I'm going to do the thing that's least likely to fail because I don't want to lose my job. I want to keep my job, get my bonus, move on to year two, and go home to my kids and my wife and take care of the family or whatever the family situation is. And that's my objective. But see, and that's that approach creates perverse incentives. And so we try to align our incentives that we want to reward people according to their overall contribution to Koch's future. So for example, if they have an experiment, and that doesn't mean doing this thing in ag where you buy all these hogs and you lose hundreds of millions of dollars over what, that's not an experiment. It's an experiment, a good experiment is where the value, what you learn from this is higher value from this failure than the cost of the experiment. And so when we do that, and we're evaluating what the person, you are building capability for the future. KDT was a great experience. Like I call, when we did that, when we made those first investments, this in venture, the losers fall out first and the winners take a hell of a lot longer to materialize. So if we would've just judged it based on, okay guys, you got three or four years to figure this out, we would've shut down KDT. But it was that experimental discovery principle and mindset that we applied to it. And oh, by the way, we were learning so much as Coke from seeing the technologies that were coming around the corner that might disrupt our core business. And so we value that learning, and we rewarded the people that were bringing that knowledge in. If you just look at it on the bottom line basis in the first couple of years, you say, just shut this down. right? But then over time, all these different things and then the returns are starting to come because we thought long-term about it. But it all came from that experimental discovery, one principle, and then creative destructions. Like if we're not in the game on technology and we don't see what's coming, something's going to happen, especially with how fast technology is moving today. Some of our businesses are going to become dinosaurs.

Charles Koch: And that was a time when money was tight and stuff, so nobody came in and topped us. ... they had, it was totally top-down, bureaucratic. They were, in Atlanta, they had this 51-story building,... And they had a private elevator to get up there, and you didn't have to wear a coat and tie, but if you came up to visit, all the management was on this 51st floor, and you had to put on a coat and tie and get permission to come up there. And so Joe immediately kicked them all out. Well, we fired a bunch of them and then set the remaining ones down to work with their groups. On the regular floor. And then regular floor and then turned it all into offices. I mean, into meeting rooms open to anybody. And so that, I mean, you asked about how you get culture change. A lot of business signals like that, particularly when a bunch of them get fired.

Charles Koch: Because at first, we tried to get them to do it through sheep dipping. That is, you take everybody in, you give them a big seminar, and I'll go do this. And from Polanyi, if you want to read a book that's hard to read. I mean, if you want really hard one, you can read Human Action. This is even harder called Personal Knowledge by Michael Polanyi, who was a chemist and then became a philosopher. And he goes through what it takes to develop personal knowledge. You have to rewire your brain. to have it work differently, right? You have a habit. So you don't need to think about it. And then if you want to change, like, do I brush my teeth first or do I comb my hair first? No, I want to start combing my hair first. And all of a sudden you're back brushing your teeth first because you're not thinking about it. And so because your brain gets, I mean, you know your body. Let's say you're a weightlifter and you want to be a marathoner. Okay, it's going to take work with intensity over time to change your body. Well, your brain's part of your body, so you've got to do the same thing. So we said, okay, we've got to start with. Okay, let's find a group that's really interested in this. They're struggling, they're having problems, and here are the principles, and we'll coach them, we'll help them start doing it. And if they work with intensity on it, and then they succeed, Then we don't need shift dipping because then the other businesses and capabilities says, gosh, I'd like to do that. So you don't need to call them in. Then we have more demand for people who can help them. And the hardest thing is to have our people in strategy or our principal-based management group who are really good at helping them. And boy, they're in more demand than anybody. So the best thing is success will drive social mimicry.

Charles Koch: Most people in most enterprises that aren't owner operators don't want to fail. They want to keep their job. They want to move up the ladder by being repeatedly successful. And if you want to create a culture of creative destruction, if you want to create a culture of failing and learning from failure, it's very hard to get individuals who live on an income on a salary to do that because if they make a mistake, if they fail and then they fail again and they fail again, I'm worried about losing my job. So what you typically see in most scaled organizations is middle management and even senior management when founders or owners don't operate it anymore saying, I'm going to take the less risky path. I'm going to do the less creatively destructive thing. I'm going to do the thing that's least likely to fail because I don't want to lose my job. I want to keep my job, get my bonus, move on to year two, and go home to my kids and my wife and take care of the family or whatever the family situation is. And that's my objective. But see, and that's that approach creates perverse incentives. And so we try to align our incentives that we want to reward people according to their overall contribution to Koch's future. So for example, if they have an experiment, and that doesn't mean doing this thing in ag where you buy all these hogs and you lose hundreds of millions of dollars over what, that's not an experiment. It's an experiment, a good experiment is where the value, what you learn from this is higher value from this failure than the cost of the experiment. And so when we do that, and we're evaluating what the person, you are building capability for the future. That's why we're so, We put so much emphasis on, are you building capability?

Charles Koch: We were a much smaller company and we bought Georgia Pacific for 20 billion. It was a massive bet. We were applying this virtual cycles of mutual benefit. We were saying, okay, what's one of these cycles are chemical process industries? And wood creating the pulp and stuff was, matter of fact, we found in my father's thesis, he did a study in Maine on this very thing on pulping. I mean, I found it later, but that didn't. His MIT thesis. So we said, okay, let's look at the, oh, and they were saying they need to spin off some of those parcels, the pulping part. And we said, okay, let's buy that. And we bought that as an experiment, and we did real wealth with it. And so we said, wow, they have other, because that was a commodity business, and they were trying to get their price to earnings ratio. It was like six, and if they became more of a consumer products, they could get it up to nine. So we proposed, we met with them and proposed that we buy the commodity part, And we'll pay them a high enough price that then they can be all consumer products and get their price. And we showed them all the economics. And they said, that's fine, but we'll be sued for constructive fraud because we all have all these lawsuits against us. And so we can't do it, but we like the value. And so we went home and says, okay, what if we just offered the whole thing? I'll give you just one funny story. We sent one of our people in to be the CEO, Joe Moeller, who had been president of the company. And he, they had, it was totally top-down, bureaucratic. They were, in Atlanta, they had this 51-story building, and they had a private elevator to get up there, and you didn't have to wear a coat and tie, but if you came up to visit, all the management was on this 51st floor, and you had to put on a coat and tie and get permission to come up there. And so Joe immediately kicked them all out. Well, we fired a bunch of them and then set the remaining ones down to work with their groups. On the regular floor. And then turned it all into offices. I mean, into meeting rooms open to anybody. And so that, I mean, you asked about how you get culture change. A lot of business signals like that, particularly when a bunch of them get fired for.