Wednesday, November 4, 2009

Complacency in Business: How smugness and complacency in business can lead to financial crisis

Any consultant will agree that the best companies make the best clients. This isn't just because mismanaged companies are unlikely to have the required breadth and depth of high-quality management. A deeper reason is that excellent companies are prepared to confront the deficiencies in good time. Lesser, smugger managements wait until crisis - manufactured by their mismanagement - forces their hands.

In Thinking Managers I have discussed the allied sickness of executive inertia, when managers know what to do, and how to do it, but fail to act on their knowledge. In a company that's blind to its failings, however, management may be energetic enough - but its energies will be misdirected. IBM, for example, poured tremendous effort into trying to maintain its proprietary dominance, based on mainframes and once brilliantly successful: but the company smugly missed the seismic shift to open systems and microprocessor-based technology.
The trouble was partly that, inside IBM, almost everybody believed that they were working for the best of all possible companies, executing the best of all possible strategies in the best of all possible ways. The evidence in my book, The Fate of IBM, made it clear that this comforting and complacent inner view had been dangerously untrue for many years. For almost as long, a quite different and far less flattering perception had been held by well-placed observers outside the company - including some important customers. The reality eventually appeared in still less flattering results.
Yet only a few weeks ago, a former IBMer wrote me a pleasant letter about the book, extolling his previous employer - apparently quite oblivious of its follies and failures, including its lapse into heavy loss and massive lay-offs. Rather, he was impressed by how IBM had 'survived so successfully' despite missing 'many golden opportunities', having turned down 'just about every major business innovation' - including xerography. 'The only conclusion I and any other IBMer can come to is that to put the customers first and solve their problems is the soul of real marketing, and that is what being an IBMer is all about.'
CURING CONSTIPATION
IBM, in truth, lost far more by bungling golden opportunities created within the company than by failing to seize those offered from outside. One reason for its classic bungles (such as botching the later development of its PC business) was that, far from putting the customer first and solving his problems, IBM actually created problems for the customers by putting them second - for instance, through the notorious incompatibility of its different ranges of computers. The company really put sales first, to the natural gratification of my correspondent, a successful salesman to the manner born.
A highly instructive contrast to the smugness of IBM is provided by Hewlett-Packard. The company, well before crisis developed, faced up to its own constipation, disbanded committees that had grown up like weeds to entangle its workings, and entered into a new era of dynamic expansion. In the decade to 1995, HP's earnings per share and total return to shareholders grew annually by 17.1% and 17.4% respectively. IBM's miserable comparative figures are both negative: minus 3.8% and minus1.8%. Smugness carries a heavy price-tag.
HP did have one great advantage - a human one. Its co-founder, David Packard, came back from retirement to prod the top management into action and to sit alongside the chief executive, helping to design the necessary changes (and, no doubt, making very sure that the changes were made). In sad contrast, Tom Watson, Jr., the second founder of IBM, didn't intervene while his successors, over more than a decade, wasted a wonderful inheritance. Every chief executive needs a Packard - some force, internal or external, that will compel the incumbent to face uncomfortable truths.
That's one good reason for separating the roles of chairman and chief executive, which were combined at IBM. Without some countervailing force, a whole series of bosses can subscribe to the same errors and succumb to the same smugness. At the British retail chain, W. H. Smith, self-satisfaction became so pronounced that it earned the nickname W. H. Smug - repeated with glee, naturally, when it recently reported its first loss in 204 years.
THE COMPLACENCY QUOTIENT
Smugness, or complacency, is the target chosen for his latest book by John P. Kotter, a Harvard professor and an expert in leadership. Based on his theories, here's a test of your company's complacency quotient:
1. Does management concentrate on financial and other indicators which portray the company in a favourable light, and ignore others which are unflattering?
2. Is the corporate standard of living visibly and luxuriously high?
3. Does the company test its performance agains the best competitors in its industry and outside: and against its own previous best results?
4. Are managers held responsible for both their own unit's performance and that of the total business?
5. Are targets expressed in soft verbal form or in hard numbers or requirements which directly affect corporate performance?
6. Is there a mechanism that can rub insiders' noses in the truth of outsiders' perceptions?
If the first two answers are Yes and the others No, the company is probably already in deep trouble. Remember IBM. The first seeds of disaster, and even the first crop, appear long before crisis shows in the figures. The difficulty runs very deep. Where the Six Deadly Defects exist, and smugness is running riot, their very existence makes correction well nigh impossible.
That comes back to the starting point - that good companies make the best consultancy clients. The bad companies have a severe case of Catch-22: they are in a vicious circle of smugness, which paradoxically can only be broken by not being smug. A really complacent board of directors wouldn't dream of following Kotter's six-part cure - although it is actually much weaker than his diagnosis .

He advocates a corporate version of akido, the Japanese martial art, in which the attacker is allowed to dissipate his energy. So you let top management make a major blunder in the hope and expectation that the subsequent crisis will smash smugness out of they way. You also abolish corporate luxury (no gastronomic orgies in the dining room or fleets of private jets). You set almost impossibly high targets. You give employees access to information about customer satisfaction and financial performance - and discuss problems honestly in employee communications.
There's an excellent example in the way ISS, the cleaning services group, recently told its staff about a $100 million catastrophe in the US, the result of systematic deception over several years. The huge loss threatened to bring down the entire company. ISS duly cancelled the impending issue of its staff magazine and brought out a special issue, giving a full account of the situation, and headlined 'GREAT EARTHQUAKE' (its new chairman's phrase). Profits had been overstated by 'booking fictitious amounts supported by a comprehensive false documentation intended to hide the irregularities.'
Coming clean, though, doesn't only apply when there's dirty business to reveal. Kotter advises that you 'insist that people talk regularly to unsatisfied customers, unhappy suppliers and disgruntled shareholders.' In saying that this is by far the most therapeutic of Kotter's cures, I must declare an interest. With Peter Zentner, my partner in Strategic Retail Identity, I conduct unstructured interviews, mostly with customers, suppliers and employees of all grades, to discover the truth about external perceptions of the company.
The aim is to match the resulting portrait against the perceptions of top management and also against its strategy. The picture painted by the interviewees, even in a well-managed company, is often hair-raising. The recommendations which flow through are powerful and relevant because they stem from insiders and outsiders who know the company intimately. Such a portrait of IBM or W. H. Smith might have shattered the prevailing smugness and changed the perceptions of the top people.
GETTING THE ACTION
But that isn't enough. Presenting a powerful report and recommendations is one thing: getting action on them is quite another. Unless the chief executive (and those close to him) are bent on action, they will drag their heels. Some drastic spur is needed or the fate of W. H. Smith will follow: huge losses, major cutbacks in jobs, sell-offs, and (on the new chief executive's admission) the prospect of a five-year haul to prosperity.
In Smith's case the spur was external - dissatisfied institutional investors were pressing for change. But such pressure usually has the same disadvantage as financial crisis: it is only applied when severe damage has already been suffered. Besides, many companies are privately owned and are too small to attract the attention of powerful investors. Either way, companies need an internal spur - and the best way could be (a) to appoint a corporate Cassandra, whose job it is to tell the bad news - and who might well be the chairman (b) adopt a Best Practice Programme, generating projects to match the best standards anywhere, under a leader who could also play Cassandra.
The virtue of Best Practice is that the thrust is positive - it isn't just critical, but uses under-performance as the springboard for superior results. Also, Best Practice projects are essentially cooperative: their very existence alters behaviours and mindsets, and thus changes culture. A resident Cassandra at Volkswagen, for example, would spot that its turnover per employee (using 1995 numbers) is ridiculously low by Toyota's standards: VW has 96,000 more workers, but under half the sales of the Japanese champion. Plainly, Worst Practice is a problem.
The gross disproportion breaks down into a whole list of subordinate but major strategic-tactical differences, ranging from the use of sub-contractors to the number of model platforms. These Big Win (or Big Loss) issues break down again into gross discrepancies in performance at all levels. Merely to match Toyota's 1995 performance VW will require an extraordinary uplift in output per man. By the time any such programme is completed, the Japanese company will unquestionably have moved further forward - maybe much further.
But Cassandras are unwelcome in very large companies, which are able to persist in error by virtue of their previous success. IBM, after all, is sitting on a mountain of gold and remains one of the world's corporate colossi, despite losing 70% of its global market share. VW is still Europe's leading car manufacturer, even though it is also among the least efficient producers. Generating cash in great volumes from inherited market shares, top managements rest smugly on the laurels of their predecessors, the creators of their marvellous brands.
BRAND INHERITANCE
But they often neglect that brand inheritance, even on their own admission. At another car giant, General Motors, executive vice-president G. Richard Wagoner confesses that 'Over the past 10 or 12 years, we haven't gotten full value out of [the brands] because we have tended to blur products.' The italics are mine. How could a company persist in such basic error for so long? The period, moreover, covered GM's collapse into heavy loss, humiliated by the Japanese and Ford Motor. And what lesson has GM learnt from that misspent past? 'The game plan now is to recognise that the brands are of great value.'
There can't be many business school students ignorant of the fact that Cadillac, Chevrolet and Oldsmobile have great value - or that spreading the brand-names among 82 models is no way to strengthen the brands. According to the Wall Street Journal, the explanation is that GM claims the ability 'to target more products at more narrowly defined market segments than its competitors' and argues that this talent confers 'a marketing advantage.' The reality, of course, is that every surplus brand has a defender, and nobody at GM wants to disturb the comfortable present.
The problem is much the same at Unilever, which has 2.5 billion arguments against change - that being the number of pounds in profit earned in an admittedly low-speed year. Whole businesses are scheduled to disappear as Niall FitzGerald strives to speed up the venerable Anglo-Dutch company. The problem is that, like GM's brands, those at Unilever have developed over so long a time that a sense of urgency is difficult to impart. The company did set itself the target of growing volume by 4% anually. But the objective has been missed for nine of the last 10 years.
The failure to act on this astonishing record lies at the door of Unilever's top trio (now enlarged to a seven-man executive committee as part of the reform). It's every bit as astonishing as GM's belated discovery of the value of brands. Once again, every business student knows that, having set objectives, management mustn't rest until they have been met. If they have been missed, moreover, the thrusting manager insists on knowing why.
Talking to the old Anglo-Dutch regime, however, produced much the same effect as reading my IBM correspondent's letter. The ethos at Unilever made it difficult, even impossible, to accept that the company could err, and much easier to believe that it could do no wrong. The Power detergent episode, in which a faulty formula exposed the company to a merciless onslaught from Procter & Gamble, was so gross a mistake, however, that it shattered the smugness and encouraged FitzGerald's appointment to smash complacency and change the system.
Paradoxically, the new hero was the old villain with ultimate responsibility for the Power fiasco. It almost suggests that FitzGerald had mastered Kotter's akido cure for complacency, allowing the top management to stray into monstrous error so that the doors would be opened to change. That word - change - holds the crucial clue. Obviously, FitzGerald had no such Machiavellian plan. But in giving the go-ahead for Power he was attempting to change the status quo - the balance of power, you might say - in the European detergents market. The awful results changed the balance of power within Unilever itself.
ADVENTURE AND IMAGINATION
Look back at that nine-year missed growth target: 4% advance in volume. That speaks of mature markets and steady state management, the enemies of adventure and imagination. In a market that's growing by 40% annually, change is engendered by the nature of the industry. That's why high-technology management is the model at which low-technology must aim -as I've observed before, the high-tech world is like a Keystone cops chase, with everything speeded up to a frenetic pace.
That includes promotion and demotion. The Wall Street Journal found 10 CEOs recently forced to leave high-tech companies, ranging from Apple Computer to Novell, sometimes after very short spells as the top, as boards took fright at the corporate trends. To quote one CEO, Gary Eichhorn of Open Market, keeping up with the technological pace is 'like being the pilot of a fighter plane flying at Mach 3 while you're redesigning the plane to fly at Mach 6.' Falling behind the prevailing speed for only a year can lead to permanent and appalling loss - like IBM's fall from 80% control of the PC market to money-losing also ran.
Microsoft might easily have gone the same way if Bill Gates had not belatedly realised the terrible threat posed by the Internet and 'turned the company on a sixpence' to remake its entire strategic stance. Turning on sixpences is specifically ruled out by systems like Unilever's. Size becomes the smug excuse for seeking evolutionary change rather than revolutionary action to eliminate weaknesses and reinforce strengths. Seek out opportunities to change the organisation and speed its processes dramatically, moving from the 4% world to the 40%, and smugness can't survive. The company, though, won't just survive: it will thrive.


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