business continuity

‘The driving spirit fades, risk taking becomes a career killer, process replaces execution’’ Has this triple threat ever affected an organisation where you work, or which you know well? According to Geoffrey Colvin, writing in Fortune magazine, that’s what slowed down some famed ‘mammoths of past decades’ like General Motors, IBM, AT&T and Sears - and which now even threatens Wal-Mart’s ability to sustain the pace of its 15 years of super-growth.

Colvin sees no signs of slippage at ‘the world’s greatest retailer’ - not yet. But the odds are that one day what happened to Marks & Spencer (a previous holder of the best retailer title) will strike the Bentonville giant. Over most of the business world, there’s only one answer to the question raised long ago by one highly rated and well-informed manager: ‘Is it inevitable that such organisations as Xerox should have their periods of emergence, full flower of growth and prestige and then later stagnation and death?’. On overwhelming evidence, that answer is liable to be ‘Yes’ - even if the managements know the awful risk.

The questioner was none other than Peter McColough, a prime architect of the sensational high rise that took Xerox from tiny New Jersey office equipment supplier to the high-tech king of copying. More recent Xerox history amply supports McColough’s foreboding. It’s important, though, to recognise that the Colvin-McColough Syndrome can strike anybody and any business of any size. Few tales are more familiar than that of the family firm whose boss runs out of energy, won’t even consider new ideas, manages the company by rote - and presides over its ‘inevitable’ decline.

MISERABLE RESULTS

You can see the miserable results of the Syndrome clearly at Xerox, which over the decade to 2003 rewarded its investors with a measly 1.1% annual return on their investment. and in 2003 earned just 2.3% on its $15.7 billion of sales. But was this absurdly bad performance truly ‘inevitable’? Did some iron law of business economics compel Xerox to surrender 90% of its copier market to Japan? Or to miss out entirely on a personal computer revolution that would have been impossible without Xerox’s own inventions?

There truly are negative forces at work within Xerox and the typical family firm (and which may even now be working within Wal-Mart) that are very difficult to resist. One is the Law of Diminishing Returns, which can be translated into an unarguable proposition: If you’re attempting the impossible, you will fail.

Another 15 years of Wal-Mart growth, for example, would take its revenues to $3.2trillion - not far short of Japan’s present total economy. Its 8.2 million people would then occupy more floor space than the whole city of Las Vegas

Now, that simply isn’t going to happen. The same trap caught the IBM management, when setting itself the reasonable-sounding target of just growing with the industry. That meant something much less rational - adding on new sales which were the equivalent of eight Digital Equipments every year: and DEC was then the successful Number Two in computing. Plainly another version of the Law of Diminishing Returns applies - the Stein Paradox. Herb Stein, the witty economist, states that if something can’t go on for ever, it will stop.

So it must. But what drives companies to ignore such statements of the obvious? It’s the same emotional blockage that stops the family Godfather from recognising that the golden past has been succeeded by a hopeless and hapless present - and that his own policies and personalities are responsible for the blight. At the exalted level of multinational giants, chief executives likewise can’t perceive that their very own strategic management and conduct worsen the dire consequences of pursuing impossible aims and ambitions. The corporate Godfathers, like the family ones, can’t settle psychologically for the management of relative decline.

COMPANY LOYALTY

In fact, the mighty multinational may not only behave like the family business - it may, in a real sense, still be one. During the decade of mismanagement which cost IBM its fabled supremacy in data processing, the most-lauded chairman of the company, son of its authentic founder, and father of the 360 computer series had an insider’s view. Thomas J. Watson, Jr., sat on the board, giving his tacit or open support to the unhappy ten-year reign of John B. Akers. In these cases, loyalty to the company, and deep emotional ties to its history, get too easily confused with loyalty to top management.

Apart from this psychological attachment, which runs very deep, there’s a more practical reason why decline becomes inevitable. If the board is divided over the strategy, the critics start at a great disadvantage. The initiative always lies with the chief executive who puts forward a grand strategy, because rejection by the board implies lack of confidence in the boss, undermines the latter’s authority (and questions the wisdom of the appointers). If critics are in the minority, they can always resign, but that does nothing to prevent a bad policy from destroying a good company.

The case of Carly Fiorina and Hewlett-Packard dramatically illustrates the point. She certainly didn’t accept the inevitability of decline. ‘The most powerful woman in American business’ chose a dynamic one-stop shopping strategy, aiming for market leadership across the whole high-tech field. To launch this grand design, she made a $19 billion bid for Compaq. This would indeed catapult their combined PC businesses to world leadership, just for a start.

TERRIBLE DEAL

But was that enough? Actually it was too much - looked at in purely financial terms. An article in Fortune by Carol J. Loomis explains why with breathtaking simplicity. The author has long had a special friendship with Warren Buffett, who always seeks value, when buying shares or companies. As the disciple points out, HP issued 1.1 billion shares to Compaq’s happy investors. They thus obtained, among other lesser goodies, 37% of HP’s superb printer business - valued by Business Week at $60-65 billion today.

The whole of the merged PC operation, says the same source, isn’t worth more than $3 billion. You don’t have to possess Buffett’s lofty intelligence to see that the Compaq purchase was a terrible deal. In fact, you don’t need much intelligence at all. Not only did a very bright woman make an awful mistake, but she was so determined to perpetrate this financial nonsense that she forced it through against the vehement opposition of Walter Hewlett, the founder’s son.

That battle ended in Hewlett’s departure as anon-executive director; the consummation of the deal; the well-timed sale of the 110 million shares for which Hewlett spoke; and Fiorina’s dismissal this February. She never defended her actions in financial terms - she couldn’t, for she was breaking two Golden Rules of Avoidable Decline. One, never allow the pursuit of strategic ambitions to jeopardise financial soundness. Two, never forget that financial viability rests on Economic Value Added - earning more on the capital of the business than the cost of that capital.

If your cost of capital is more than the return on that capital, the latter is being consumed. In an all-equity deal like the Compaq purchase, the cost of capital may seem tiny - just the cost of the dividend. But that’s a schoolboy howler. The true cost of equity is much greater, for it relates to investors’ expectations of capital gains. By paying too much for Compaq’s stock, HP in reality condemned its own shares to years of underperformance - that stock moved relentlessly sideways for most of Fiorina’s five-and-a-half year reign, and is now significantly lower than it was when Fiorina announced her Compaq intentions.

Given all the writing that was on the wall, and which Walter Hewlett read so accurately, only powerful (and irrelevant) emotions can explain why the board majority gave Fiorina their all too loyal support. HP was and is suffering from the Colvin McColough Syndrome. Founded by Dave Packard and Bill Hewlett in a garage (which their success made proverbial), the company blazed the Silicon Valley trail. It specialised in instrumentation (Walt Disney was a vital early customer) - and decentralisation.

As other products were developed, the partners set up new entities to apply their methods and their value-based philosophy (which became enshrined as ‘The HP Way’) to the new businesses. The pair believed, like most scholars of management theory, in a highly decentralised structure which would maximise local motivation without sacrificing central leadership.

TEXTBOOK MANAGEMENT

This textbook modern management brought textbook success. When the partners decided to enter inkjet printers, they deliberately located the plant as far as possible from the existing laser business and gave the venture all the autonomy it needed to build market share and profits - even at the expense of its in-house competition. Thus the partners avoided another cause of inevitable decline, when the existing business is allowed to stifle new enterprises, often at birth.

When the partners retired, however, the magic of inevitable success went with them. In Colvin’s phrase, ’the driving spirit fades’. In a bizarre episode, as HP faltered, Hewlett and his driving spirit even had to return. The ex-boss sat beside the CEO, helping him to restore prosperity and confidence. The danger is that partial recovery gets mistaken as permanent revival, while underlying decline continues. Apart from its money-spinning printers, HP was losing ground against various competitors, mostly much more concentrated than the sprawling conglomerate.

The psychological drive in such circumstances is to recreate the greatness that the founders built – though without the founders. It seems bold and clever to seek a new and different ‘driving spirit’. And Carly Fiorina was certainly a driver, and very different: no techie, but a salesperson; a woman; a self-publicist who was all action; somebody with big ambitions who thought big. If such managers invest total emotional force in the job and operate as a one-man (or woman) band, those who appoint them may well be thrilled.

They behave like members of a claque - the boosters who were paid to cheer opera singers in the bad old days. Apparently, nobody spotted the inconsistency of Fiorina’s strategy. She forced 80 sturdily independent businesses into four mammoth divisions: while at the same time positioning HP as ‘perhaps the widest-ranging tech company in the world, with offerings from digital cameras to super-computers’.

CONGLOMERATION

No central management can contribute much to businesses operating at such extremes. Anyway, conglomeration was HP’s fundamental weakness, not its strength. The strategy was far more likely to create further decline, and so were the tactics. According to Business Week the CEO ‘fired or scared away executives in droves.’ Another source says she ‘didn’t develop enough effective lieutenants.’ That reflects the deep emotional insecurity often concealed by power drives.

But ‘the most powerful woman in American business’ lacked the power to dynamise her own company – and ultimately lacked the power to defend her own job. She did have the power to destroy the old HP, but any fool can do that. The wise manager doesn’t rely on power to prevent decline from becoming inevitable - for that can only be achieved by mobilising all a firm’s talents and powers behind a new cause in which all believe.

That’s truly hard. The Colvin-McColough Syndrome is the toughest nut that any management can seek to crack. Carly Fiorina merely made a tough nut even harder. But if she’s doing any crying, it’s on the way to the bank. The board paid her off with $21 million. Pay that much for failure, and you get what you deserve.