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Archive for February, 2008

Executives Role

Posted by iBlog on February 6, 2008

In a more monolithic type of company, it’s easier to identify issues around which people can rally. For more diversified companies, like Tyco, strategy is driven by the businesses, with appropriate input and guidance from the corporate center. That has proved to be a better approach for us than approaching it from the center outward.

Annabel Spring: I absolutely agree. Our role is to get feedback from the business units, overlay the global trends, and make sure that everybody has identified the right issues. We then prioritize the opportunities across the business units and provide a strategic element for that prioritization. Feedback from the business units is also critical for maintaining that entrepreneurial edge. Morgan Stanley is so specialized and yet complex and global, which is hard to balance.

Marius Haas: The CSO’s role is dependent on CEOs not only because they have the final sign-off on strategy decisions but also because of their skill sets, tendencies, and way of managing the business. The question becomes: how do you complement the CEO’s strengths and weaknesses? My job at HP is to lay out the key initiatives we need to focus on in order to execute the plan. What are the initiatives that could build extra capacity, enhance our plan, or bring incremental operating profits or revenues? We go through those questions to get a sense of which ones need to mature and which ones are clearer from an execution standpoint.

Annabel Spring: The market also affects the CSO’s role. When the market is up, the role addresses long-term vision and investment. When the market is down, it requires restructuring strategy. You have to be able to move with the market and with the CEO.

Dan Simpson: Is it your role per se that varies according to market conditions, or does the difference lie more in the issues you address?

Annabel Spring: “Role” is somewhat of an amorphous word. When the market is growing, it’s easier to see the big picture, sit back, and prioritize across opportunities. In a market downturn, it is very much a tighter, hand-holding role with the business units, and a much more operational one.

Stuart Grief: I find Textron going in the opposite position, which may highlight the difference between industrial and financial companies. When the company is struggling, there’s a need to step back and reexamine things. When the company performs very well, people sometimes believe the good times will continue forever.

The Quarterly: How does a company’s performance modify what the CSO does?

Dan Simpson: Performance changes the issue set, not the role. During performance shortfalls, consistency and conviction become more important—horizons are closer and you focus all the water on short-term fires. But it’s not uncommon for short-term fixes to create long-term problems. A downward spiral develops momentum and becomes harder to turn around. While nearly everyone focuses on the near term, a CSO must be an advocate for long-term health.

Marius Haas: That makes sense, but in our situation at HP, when the company wasn’t performing well, the solution required restructuring. The people running the business were so close to the business that they weren’t able to think outside of the box. The fundamental pieces were broken. We felt that driving for operational excellence was going to deliver more value for us in that period of time.

Stuart Grief: If a company’s doing poorly, one of the first worthwhile diagnoses is an assessment of the quality of the strategy and its execution. If you’re happy with the strategy, you just need to focus operationally to get it done. I wasn’t at Textron at the time, but in 2000 and 2001, the leadership realized, “We’ve got a dead business model. We have to rebuild the company and transform it fundamentally.” It was a strategic issue in need of rewriting.

Marius Haas: I was in a corporate-strategy team at Compaq about eight years ago, where the team spent way too much time focusing on the strategic, long-term view. The CEO liked this model, but none of the other executives felt there was any deliverable value. When I got into the role of CSO, I tried to build a bridge between the CEO and the executives in the business units. I wanted a model that pulled from all of them. You need to be able to dive into a business unit and become a core part of its strategy-setting and operational-excellence initiatives.

The Quarterly: How do you ensure that strategy is executed well?

Ed Arditte: At Tyco, it’s very clear. It is the responsibility of the businesses to act upon the plan, and it’s our responsibility, at the corporate center, to challenge and evaluate the plan. Once it’s approved, our job is to watch it and make sure the right people are being put on the bigger issues.

The Quarterly: When we surveyed 800 executives on strategic planning in 2006, one of the most striking results was that only 36 percent of them said that the strategic plan was meaningfully integrated with human-resources processes—incentive, evaluation, and compensation systems. Does strategy play a role in evaluations?

Ed Arditte: The responsibility is both in the short and long-term results. There has to be a balance, but there’s never a perfect answer for how you balance them. You need a dialogue that aligns resource allocation, people, and money with both the short and the long term.

Stuart Grief: Balancing the short versus the long term is the biggest challenge we have. How do you balance the trade-off between the short-term compensation lift from near-term performance and the investments—and therefore the depressed economics, short term—that make the long-term strategies pay off?

Marius Haas: An implementation plan that has clear milestones and owners is a must. Execution sits in the business units. At HP, we won’t make the hand-off until the business owner understands, accepts ownership, and acknowledges the need to deliver. As to the strategic plan as a whole, we’ve gotten a lot more disciplined. Now we can say, “Here are the levers within our plan that we need to execute in order to deliver. We know the plan, the capacity, and what we can do incrementally. If you’re going to show me a number, you’ve got to tell me how you’re going to get there.” Management has changed how people’s performance was going to be measured at a granular level.

The Quarterly: What’s the dialogue like, though, when a business unit presents a plan that doesn’t have steadily increasing margins, because the unit wants to make a long-term investment that won’t pay off until beyond the current planning period?

Marius Haas: We ask the business unit heads to build capacity in the plan and then reinvest that into areas they believe will be longer-term growth areas. Most of them have now divvied up their portfolios into three areas: emerging market opportunities and initiatives, mature but current businesses, and investments that help generate the required cash flow. We constantly look at that life cycle to see if those investments are in the right areas to generate longer-term growth.

The Quarterly: Is there any advantage to having a closer relationship with the finance function?

Annabel Spring: I think there is a significant advantage to being close to the CFO. I understand the budgeting and am involved in the process, both within the business units and at the corporate level. I’m part of the dialogue—which is critical for credibility and understanding the business. For Morgan Stanley in particular, being close to the CFO is important, given the number of transactions we do for the firm on a principal basis, because you need that back-and-forth relationship in order to be effective.

Ed Arditte: There’s always a debate about who owns the strategy process—accountants, financial-planning people, or business people? But it shouldn’t be a question of where it’s owned, but of who is involved in the process. Do they work together? Are they able to achieve alignment? Alignment is key to the process: it defines what you want to do and, more important, makes sure that everybody understands the priorities. Then you can allocate the resources, evaluate the progress regularly, and provide support when necessary.

Dan Simpson: People commonly confuse strategy and planning. Planning is primarily internal resource allocation and budgeting, which is clearly tied to finance. Resource allocation has to be driven by strategy but isn’t strategy in and of itself. Strategy should be focused on the marketplace and on customers and consumers. You must improve your position in the marketplace and have a clear idea about why people choose your products or services over someone else’s. At Clorox, we try to separate those conversations. One of the things we’ve done in the past is to bar financial components and exhibits from the first rounds of strategy meetings. That way, the discussion focuses on market competitiveness rather than on internal resource allocation.

Stuart Grief: One of the challenges we used to face at Textron, though, was that without finance being deeply involved in the strategic discussions early on, we risked the CFO undoing the strategy three months down the road. A personal relationship with the CFO is really critical—more than reporting to the CFO. Alignment is vital on the road to execution.

Marius Haas: Our plans require three things to be aligned: efficiency productivity, accelerating growth, and capital strategy, both financial and human. We’ve often taken resources out of the capital strategy to tackle inefficiency, generating capacity so we can invest in growth. In those cases, the triangulation of those key areas has been critical.

Dan Simpson: Execution problems are often symptoms of trouble upstream in the strategy-development process—the strategy process has failed to realistically assess current reality, to honestly understand organizational capabilities, to align key players with those who do real work, or, at the end of the day, to create a compelling, externally driven vision of success.

Ed Arditte: It depends on your organization and how centralized it is, but the more a strategic initiative is owned by the business units, the greater the chance of success. Many great corporate ideas fail in the business units because of a lack of ownership.

The Quarterly: What are the most important issues facing strategists today?

Stuart Grief: An important challenge is engaging with the businesses to think differently about what they do by helping them consider different business models, challenging the status quo, and avoiding complacency. It’s hard but necessary in an environment where competitors are more aggressive and diverse than ever.

Marius Haas: The biggest challenge for us is transitioning from an efficiency–productivity focus to a growth focus without dropping the ball on the execution of the efficiency–productivity side. The second challenge lies in migrating external influences and forces to our mainstream thinking. If the customer and technology are evolving, we’re facing an environment of accelerated consolidation in the competitive landscape. Getting ahead of the pack and being the ones consolidating—versus having to react to actions taken by our competitors—is very important.

Annabel Spring: I would echo the short-term versus long-term balance issues but add a layer of globalization. Short-term profit opportunities are abundant in the developed world, as long-term opportunities are in the developing world. You have to do both to get the continuous-growth profile we all need, but managing the timing is a very tricky thing—not to mention a core component of our role in terms of project prioritization, resource allocation, and long-term strategy.

J. F. Van Kerckhove: Given rising customer expectations for the online experience, the high pace of innovation, and the emergence of new business models, we need to sharpen our game continuously and faster than ever, as well as assess what elements of our past success we need to strengthen and from which we need to depart. In that context, our main challenge is strengthening our core business while rapidly scaling our new growth platforms and developing new operational and organizational muscles for our future success. Just as our company has grown rapidly, so has its organizational complexity. We are focusing on simplifying how we do business, creating alignment behind a few clear priorities, and stepping up our organizational agility and effectiveness.

Ed Arditte: As is probably true for everyone here, our businesses are exceedingly complex and growing more so every day. It doesn’t matter if this is driven by developed markets, emerging markets, financial markets, or technology—there are so many changes, and the pace has gotten much faster over the years. Taking a complex set of business issues and simplifying them is a key part of this role. We can’t do it individually, but we have to be facilitators of that process and get alignment around the truly important issues that will drive performance.

Dan Simpson: Externally, our toughest strategic issue at Clorox is the consolidation and globalization of both the upstream cost structure and the downstream retail trade, offset by extreme fragmentation in the media environment. Change in the last 20 years has been extraordinary, and the implications for brand equity and value creation and distribution are profound.

Internally, the toughest issues are exposing orthodoxies that constrain our thinking and options, as well as spreading priorities and resources across time horizons and business unit boundaries. Part of strategy’s role is to define external imperatives at a higher level so that investments spanning different time horizons or organizational units actually reinforce each other.

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Globalization

Posted by iBlog on February 6, 2008

For many years, the West has viewed China’s state-owned enterprises in black or white. In one portrayal, they are infiltrators to be viewed with suspicion. An example: Aluminum Corporation of China’s (Chinalco) recent multibillion-dollar purchase of a stake in Rio Tinto has raised fears about China’s agenda for the acquisition of Australia’s resources. The other version sees state-owned companies as muscle-bound goons: without the smarts of a private company but with plenty of brawn. In this characterization, they are relics of a failed economic experiment that still dominate the national economy, controlling natural resources, utilities, and many other vital sectors. Their power and influence—particularly their links to the ruling Communist Party and government—give partners and competitors pause.

Both views, however, fail to recognize that as the Chinese economy evolves, it is no longer so easy or desirable to pigeonhole state-owned enterprises. The line between them and private-sector companies has blurred considerably. Over the next five years, as the economy and business climate continue to shift, the ownership structure of state-owned companies will matter much less than the degree of openness they show in their business practices and management—that is, their transparency and receptiveness to new ideas.

An out-of-date impression of state-owned companies distorts the picture of China’s competitive landscape and masks both opportunities and threats facing multinationals. A more current view would, for example, have them consider more favorably the value that certain state-owned companies might bring to a global partnership. A realistic multinational must also recognize that they will become more attractive to top talent and, probably, more innovative. Both developments will ratchet up the level of competition.

Today’s state-owned enterprise

Many observers define a Chinese state-owned company as one of the 150 or so corporations that report directly to the central government. Thousands more fall into a gray area, including subsidiaries of these 150 corporations, companies owned by provincial and municipal governments, and companies that have been partially privatized yet retain the state as a majority or influential shareholder. The oil company China National Offshore Oil Corporation (CNOOC) and the Chinese utility State Grid Corporation of China (SGCC), for example, are clearly state-owned enterprises under the first classification, while the computer maker Lenovo and the appliance giant Haier are less clear-cut cases, in which the state is the dominant shareholder. A majority of the equity in the automaker Chery belongs to the municipal government of Wuhu.

State-owned companies of all kinds have gradually been losing some of the advantages once conferred by their relationship with the state. Since the 1980s, the Chinese government and the ruling party have followed a policy of zhengqi fenkai, which formally separates government functions from business operations. The policy has been applied gradually, first to the consumer goods industry, then to high tech and heavy manufacturing, and, more recently, to banking, as officials have attempted to strengthen domestic businesses and the economy to prepare them for unfettered global competition.

As a result, government favoritism toward state-owned companies is fading. Top officials have started holding them more accountable for their successes and failures. Their access to capital at below market rates has been severely limited. From 1994 to 2005, 3,658 state companies failed, according to official statistics. More such bankruptcies are likely.

Many state-owned companies remain encumbered by legacy assets, including obsolete equipment and technology, as well as broad social obligations such as health care and worker pensions. Nonetheless, China is addressing these issues. As the government progressively institutes universal social security, the burden of providing health care and pensions is shifting from businesses to the state. Physical assets (for instance, hospitals and school buildings) that don’t contribute to the core business can be sold at a profit on the open market. In fact, the government’s pervasiveness in society gives China’s state-owned enterprises freer rein to confront these issues than their counterparts in more open societies enjoy: the Communist Party controls both labor and management, eliminating the overt tensions that make public-sector reform difficult elsewhere. Over the past decade, tens of millions of workers have been laid off by state-owned companies striving to become leaner organizations.

As the distinction between a state-owned and private enterprise blurs, the challenges that both face are converging. Chinese companies, in the public or private sector, must gain approval from government officials for cross-border M&A and other global activities. Even the top-tier state-owned companies—those reporting directly to the central government—struggle with many of the same problems confronting their private-sector counterparts as they move beyond China’s borders. In particular, they struggle with the toughest of these problems: integrating newly acquired businesses and employees. Since most Chinese companies large enough to pursue global aspirations have some connection to the government in its capacity as financier, customer, or tax authority, they face similar political obstacles in making headline-grabbing international investments. When Lenovo bought IBM’s personal-computer unit, for instance, the Chinese company had to accept certain restrictions after US politicians raised concerns.

Judging by openness

In view of these changes to the Chinese corporate landscape, a company’s ownership structure is no longer a legitimate test of its merit. Lenovo and the chemical producer China National BlueStar, a subsidiary of China National Chemical (ChemChina), for example, both have significant state shareholdings but are nonetheless valuable partners for suppliers and customers, as well as astute managers. And in China as everywhere else, private-sector ownership is no guarantee of success: D’Long International Strategic Investment, one of China’s largest private-sector conglomerates, had to be rescued from the brink of collapse in 2004, when the state intervened.

A better way to judge a Chinese state-owned company (and a private-sector one as well) is to examine the openness of its organization. Experience in developed and developing markets alike shows that open companies, in either the public or the private sector, have a greater chance of prospering. An open company is institutionally more adept at understanding the context of its business and pushing through the necessary responses to change.

One important indicator of a company’s openness is its approach to talent: open companies are willing to bring in external managers, including foreigners, as needed. Other indicators of openness are the efforts that companies make to broaden their investor base, to adopt best-practice governance systems, and to embrace new ideas no matter what the source might be. Open companies are also more transparent and have a greater awareness of risk, particularly during overseas expansion, because they take part in a broader dialogue with their stakeholders and are more willing to challenge internal shibboleths. All told, open companies are more likely to understand and adapt to different environments; closed ones are much less flexible.

Further blurring the traditional differences between state-owned and private-sector companies in China, market forces unleashed by government reforms are pushing state-owned companies to become more open. The need for capital and the desire for new markets abroad are significant factors. International IPOs, even when they represent a small fraction of total shares, create more transparent reporting requirements. Likewise, managing supply chains, communicating with business partners and acquired companies, and integrating an expanded workforce all compel state-owned companies entering the global market to become more open—or to stumble if they don’t. A few years ago, for instance, the consumer electronics maker Changhong failed in its attempt to enter the US market, largely because it relied too much on a small Chinese distributor instead of focusing most of its attention on getting to know the critical big-box retailers. Lessons like these are being watched by other state-owned companies. Meanwhile, some private-sector companies—especially family-owned ones—maintain a decidedly closed management style.

Evaluating Chinese companies by their degree of openness and not their ownership is more than an academic exercise. By accepting the idea that a state-owned Chinese company can be an open one (and that a private-sector Chinese company can be closed), competitors and potential partners alike can more accurately assess the threats and opportunities posed by state-owned companies entering global markets—and respond with knowledgeable rather than reactionary strategies. For multinationals, four areas will be significant.

Partnerships

Corporations outside China should increasingly see the country’s open state-owned enterprises as partners in global markets rather than only as conduits into the Chinese market. Such companies, which have global aspirations and easier access to capital than their private-sector counterparts do, will help to propel a larger, more sustained wave of Chinese cross-border acquisitions than we have seen thus far. They should be accepted as peers capable of adding value to joint ventures around the world and as credible buyers of assets.

Some multinationals already view Chinese state-owned enterprises in this light. Since 2002, GM, for example, has partnered with the state-owned Shanghai Automotive Industry Corporation (SAIC) in the South Korean venture GM Daewoo, which builds cars and sells components to GM’s US operations. A US power generation and distribution company is actively discussing global alliances with Chinese state-owned power-equipment manufacturers. And last year, the French specialty-chemical maker Rhodia, following in the footsteps of many other multinationals that have found willing and credible buyers in Chinese state-owned companies, sold its silicones unit to BlueStar.

Talent

Now that open companies—state owned and private sector alike—lead the development of China’s corporate sector, the war for talent will get much tougher. Multinationals that do business in the country must radically improve their talent proposition to compete with successful, open state-owned companies that can offer high-performing Chinese workers an opportunity both to “serve the nation” and to receive good compensation in fast-growing businesses. Foreign talent too will be attracted to the challenge of nation building accompanied by good pay.

No longer do the multinationals have a monopoly on meritocracy; open local companies offer comparable environments. In response, the multinationals must make more senior positions available to their Chinese talent in China and—especially if their fortunes in the country have a direct impact on global operations—create organizations that not only train Chinese talent but also retain it for senior-management roles. That will often mean relocating a larger portion of a company’s global structure to China. To compete in this more challenging talent market, multinationals must become more Chinese in the composition and location of their management.

Sourcing

Multinationals that have relied primarily on the Chinese private sector for their sourcing must monitor their supply chains for signs of failure and be ready to cast a wider net. Dependence on a closed family-owned supplier, for example, is probably riskier than partnering with an open state-owned enterprise: rising costs, thinning margins, and increasing pressure to add more value could be too much for many closed companies, no matter who or what owns them. Experience shows that closed companies are rarely flexible enough to counter rapidly changing conditions.

Multinationals that now use closed suppliers will have to compare the costs of helping them meet the challenge or of switching to more open suppliers of whatever ownership. Improving the current supply chain could require major investments—for instance, to help suppliers optimize their own supply networks, to improve their plant operations, and to enhance their order-forecasting ability. Since a current supplier already understands the products of its customers and has existing relationships with them, helping it meet the challenge may be the better option. If not, multinationals should feel comfortable considering more open replacements in the public and private sectors alike.

Innovation

Open state-owned companies with ready access to capital are likely to increase their investments in research and development, so breakthrough innovations from China will come sooner rather than later.1 R&D spending there has grown rapidly over the last few years: the Organisation for Economic Co-operation and Development (OECD) estimates that in 2006, China became the second-ranking investor in R&D, just passing Japan but still behind the United States. It also placed second in the OECD rankings for the number of researchers employed (926,000, compared with 1,300,000 in the United States). Multinationals jealously guarding their intellectual property against theft in China could find that the real threat is obsolescence, not piracy.

The Chinese telecommunications company Huawei, which invests about 10 percent of its revenues in R&D, illustrates what can happen when open companies get a head of steam: the company ranks among the world’s top ten telecom-equipment vendors; last year it won more new contracts for UMTS2 telephony equipment than any other company and ranked fourth in the world in the number of international patent applications. Multinationals should therefore reconsider a wide range of established thinking, such as their ability to trade technology—often older technology—for access to the Chinese market and the benefits of locating R&D in China.

Global leaders—public and private—must recognize the importance of taking a nuanced view of China’s state-owned companies. On closer inspection, many are quite different from the stereotypes. Multinationals that recognize this reality will be a step ahead of the game as Chinese state-owned companies pursue their global ambitions.

Policy makers in the developed world would also do well to understand these nuances. Rather than discouraging investment by an entire class of Chinese companies, they should consider the benefits of attracting well-run, open ones. The goal should be to draw quality global investment, no matter what its geographic origin or ownership. Arbitrary legislative barriers and economic disincentives will lead only to missed opportunities as open companies seek out more welcoming locations.

Posted in Globalization | Leave a Comment »

Talent

Posted by iBlog on February 6, 2008

As Firefox flourished, the process that created it became a model for participatory, open-source collaboration. Baker’s role, central from the beginning, has taken many twists and turns. Ten years ago, she was a software lawyer at Netscape Communications—which developed the original commercial Web browser—when the company decided to release its product code to the public. Baker’s interest in defining and managing the project quickly earned her a place as one of its leaders. She continued to guide the project after Netscape was acquired by AOL, led the subsequent spin-off (to the nonprofit Mozilla Foundation and its subsidiary, the Mozilla Corporation) to develop the next-generation Firefox browser, and presided over Firefox’s impressive growth. In her role as “chief lizard wrangler,”1 she balanced and blended Mozilla’s commercial needs with the motives and efforts of an army of volunteers who develop the code and distribute the browser. Over the years, Baker has helped define the legal and functional model that allows an open-source community and a corporation to share responsibility for product development while managing the project and maintaining the organization’s momentum—not to mention its financial viability.

Today, Mozilla and Firefox are successful on several levels. Having recaptured market share lost to Internet Explorer, Firefox now holds 15 percent of the browser market in the United States and a higher share elsewhere. In 2006, the company’s revenue-sharing arrangement with Google for searches that originate in Firefox delivered revenues three times greater than Mozilla’s expenses,2 an impressive rate of return. Finally, the organization’s open-source development model is a visible and well-tested experiment in managing innovation beyond corporate borders. To learn more about that model, McKinsey director Lenny Mendonca and Robert Sutton, a professor at Stanford University’s Graduate School of Business, met with Baker in her Mountain View office before her change in roles.

The Quarterly: You’ve said that Mozilla’s real contribution isn’t just the browser but the model of participation. How do you manage participation in this environment?

Mitchell Baker: Our mission is about keeping the Internet safe and open, but also about building participation. We do that by setting up frameworks where people can get involved in a very decentralized fashion. These frameworks embody our values and our goals and get embedded in other people’s minds. We attract people who care about those things, and they go off and participate in the mission in a very decentralized way.

So for some things at the center, we must have extreme discipline. If you’re touching code that goes into Firefox, the process is very disciplined. But there are lots of areas for participation—whether it’s building an extension or localizing the product or building new products—that don’t need that degree of discipline. And a key point is for people to “own” what they are doing, not in a financial or legal sense but in an emotionally committed sense that gives them a chance to decide, “I’m excited about this. I want to do something. I want to write an extension. I want to go tell people how to do this.” And it also gives people the success and the relationships to go back out and do more.

The Quarterly: How much of Firefox’s success depends on people you employ as opposed to the broader group of volunteers?

Mitchell Baker: I’d say we need both to be successful. If you took away our employees, we’d be a good open-source project but nothing like a force on the Internet. If you took away the volunteers and everyone else, we would die. On Firefox, for example, 40 percent of the code is not from employees—and that’s after a recent batch of hires from our volunteer community over the past year. We had 25 employees two years ago and now have more than 120. Sometimes we can hire from within our community, but not always. There are some people with a high degree of expertise and specialization who you can’t hire, and we would never find them if we weren’t an open project. We would never find these people if they couldn’t just step up and contribute. A lot of folks will start at one level, like fixing bugs, and go on to become star performers.

Actually, people can make a contribution without being either employees or members of our volunteer community. Firefox has about 150 million users worldwide, and since it doesn’t ship on new machines, that’s 150 million individual decisions to use it. How many people does it take to do that? I’m guessing hundreds of thousands of people around the world who said, “This is a great product. My family has to have it; my neighbors need to have it.” Hundreds of thousands of different decisions, and you cannot buy that.

The Quarterly: How do you motivate people to contribute to Mozilla, especially after ten years?

Mitchell Baker: I think that for the people who have kept Mozilla alive, the desire to maintain an open and participatory Internet has been very important. The Internet is hidden to human beings except for this piece of software we call the browser. Years ago, we could see that there was some risk of people not being able to reach the Web except through a browser that was part of a business plan. And by the year 2000, we were seeing pop-up ads, spyware, and other things that slowed down the whole computer. I think of this as abuse of the consumer, but it is a perfectly rational business decision for some companies to do that without considering it evil or nasty. But many people feel there should be an alternative, and that dedication to an open Internet has helped us.

The Quarterly: What else?

Second, our product makes a giant difference in the lives of our volunteers, and they take ownership of it. I don’t know if you could build this degree of motivation for something that really didn’t change people’s lives, something that they weren’t emotionally committed to. But the number of people who feel that Firefox is partly theirs is very high.

That’s a tricky management challenge, but we work at it really hard. We see ourselves as part of a community, some of which is inside the organization and some that is outside it. Issues constantly come up within our walls, and we have to say, “This needs to be a public discussion; it needs to go up on the mailing list because other people are involved.” The community is reinforcing once you get started. We can’t ship Firefox or get it onto people’s machines without that community. So that means it’s very much a two-way street, and if we start to think of ourselves as the center, we will fail.

It’s a very exceptional emotional state to feel like you’re part of a healthy community and that you’re in trouble unless you’re reaching out and lots of people are reaching back. We also are extremely sensitive to community criticisms and desires—probably oversensitive sometimes. So when some significant part of the community gets upset, we pay a lot of attention. Sometimes our responses are defensive at first, but I think we’re pretty good at opening up. It’s pretty interesting to look at what somebody is complaining about and find the truth behind that. We also try to be very low spin. In fact, sometimes we joke that we’re negative spin. We don’t need the press or anybody else to do that; we’ll do it ourselves.

The Quarterly: The line between back stage and front stage appears to be pretty thin.

Mitchell Baker: Yes, and quite permeable. And that is a management challenge we haven’t quite solved yet. What’s the correct group of people for information to reach? The easy default is employees because we see each other regularly and they have signed confidentiality agreements. But that’s an unhealthy default for us because we’re not successful based just on employees. The community is as real as we are.

The Quarterly: How do you think about your role in enabling innovation in the communities?

Mitchell Baker: Sometimes, just giving people permission does wonders. Consider our quality control process. We have a public process for finding, tracking, and correcting bugs in the code we’re developing, and thousands of people are involved. When several people within the community began to take leadership in that effort, someone who worked with me said, “All we need to do is tell these people it’s OK.” So that’s what we did. We said to the leader, “You’re awesome; keep doing what you’re doing.” And after that, he became our release driver. There are more people like that than you would expect.

Second, we create scaffolding for people to work from, so that even if we’re not innovating ourselves, other people can. You can see, with the extensions and the customization, that there are thousands of people doing interesting things we haven’t thought of, and they don’t have to tell us or ask us.

Third, we’ve assembled a set of people here who are really motivated by seeing other people do interesting things. So if somebody appears, out in another community, doing something interesting, we don’t have a not-invented-here culture; we just say, “Wow!”

Another thing: not just celebrating when people do great things but knowing how to react when people do things that are troublesome. There are days when somebody’s done something and you wonder, “What were they thinking?” At that point, you have to look really carefully and evaluate what’s just uncomfortable and what really must be fixed. And then you try to keep that latter category to a minimum. A healthy community will do a lot of self-correction.

The Quarterly: What kind of people do well here as employees?

Mitchell Baker: Typically, people whose motivations line up very strongly with either our mission or our technical vision. Also, people who can handle large amounts of their work being public. People here are following the bugs; they’re watching each other, watching their progress. They know how quickly you’re working, and they know if you’re stuck on something. So you have to be able to live not just your social life in public but your work life as well. We called it “life in the fishbowl” long before Facebook.

The Quarterly: What would be an example of a red flag that comes up during the hiring process?

Mitchell Baker: If we ask, “What do you do if someone disagrees with you? What do you do if you think something needs to happen and it seems to be slow or stopped?” And the answer is, “Well, I tell them I’m in charge.” Bing. Even our employees rarely get told that, because I believe that many of the things that work in open-source management are also very valuable for your employees. You can try to tell an employee what to do, but if the two of you disagree the employee may be right. There’s much more negotiation here, like a professional partnership.

The Quarterly: Has the culture of the open-source group changed the culture of the core organization over time?

Mitchell Baker: I wouldn’t say “over time,” because I think we were born out of that organization. I would say it infused us from the beginning because even back at Netscape, leadership had nothing to do with employment status. In fact, sometimes the managers of our project members were demanding that they do things very contrary to what we at Mozilla thought should happen.

The Quarterly: More traditional organizations that are now looking outside themselves may not be used to this management style.

Mitchell Baker: Well, there’s a real dividing line between simply getting input from outside, though that can be very valuable, and what we do. Our decision-making process is highly distributed and unrelated to employment status, and some of the people who make decisions about code are not employees. But what ships as Firefox, with the Mozilla name and brand on it—that’s going to be a Mozilla decision, even though other things are not.

The Quarterly: What has been the biggest surprise in the time you’ve been working at Mozilla?

Mitchell Baker: That we had exactly what was needed at exactly the right moment. You often see this in start-ups that burst onto the scene and grow dramatically. There’s a lot of hard work and smarts, but also some piece of timing is right. Those things, you can’t control; you need to be ready.

The Quarterly: Do you think your success in timing was related to the fact that you had so many more “sensors” in the community than you would have if you were a group of 40 developers sitting in Silicon Valley?

Mitchell Baker: Oh, absolutely. We could not have succeeded if we’d been a closed little area. Yes, we had not only the right product but also the right community of tens of thousands of people all those years, and some sense of hope that we were the alternative to a closed Internet. All of those things mattered. We knew we had a community because we had been living in it for quite a while. All that came together in the product’s success. There’s just no way we could have been or continue to be as successful without being this very diffuse organization.

The Quarterly: Looking ahead, what do you worry about for Firefox?

Mitchell Baker: That Firefox is only a part of what’s necessary for the Internet to remain open and participatory. We’re the part that touches human beings, and that’s a powerful part. But we’re just one element. There’s so much value and revenue in the Internet that it makes economic sense for companies to try to create proprietary places there. And of course, there’s room for companies to do that and generate revenue for their shareholders.

But there also needs to be a section of the Internet that’s open, where people can participate. Open source has been a phenomenal force in pushing us in that direction. Firefox needs to remain strong enough and innovative enough that we’re able to continue to show the industry that you can give people control or choice in an elegant manner and still be a professional vendor and that there are revenue opportunities in this. That’s my greatest concern.

The Quarterly: What can other leaders learn from the Mozilla project about running an innovative company?

Mitchell Baker: Turning people loose is really valuable. You have to figure out what space and what range, but you get a lot more than you would expect out of them, because they’re not you.

Second, figure out where you want input. There are different varieties of input and user-generated content. Figuring out what you really want is very important because you can get benefits out of any of those things. But if you’re doing one thing and sending out a message that you’re doing another, I think you’re dead.

Third, look hard at whether there are areas where you can give up some control, because the returns are great. And if you can’t, then stay away from this type of model. If you have a good group of people around you—people you trust—sometimes just stepping back when you don’t like something is really valuable. Let the problem play out a little bit. The idea that a single individual is the best decision maker for everything and should have ultimate control works only some of the time. I think for Steve Jobs it works because he’s so good at what he does. But if you’re not Steve Jobs, I have found that, sometimes, even when I don’t like something, there’s often real value in stepping back and asking questions. When you just ask people to stop what they are doing, you lose their creative thought. And this approach can get even harder when that person shows that you’re making a mistake. In a lot of organizations, people don’t really admit when they make a mistake, which I think is delusional because we all know that no one’s perfect.

About the Authors

Lenny Mendonca is a director in McKinsey’s San Francisco office; Robert Sutton is professor of management science and engineering at Stanford

Posted in Talent | Leave a Comment »

Running An M&A Shop

Posted by iBlog on February 6, 2008

Corporate deal making has a new look—smaller, busier, and focused on growth. Not so long ago, M&A experts sequenced, at most, 3 or 4 major deals a year, typically with an eye on the benefits of industry consolidation and cost cutting. Today we regularly come across executives hoping to close 10 to 20 smaller deals in the same amount of time, often simultaneously. Their objective: combining a number of complementary deals into a single strategic platform to pursue growth—for example, by acquiring a string of smaller businesses and melding them into a unit whose growth potential exceeds the sum of its parts.

Naturally, when executives try to juggle more and different kinds of deals simultaneously, productivity may suffer as managers struggle to get the underlying process right.1 Most companies, we have found, are not prepared for the intense work of completing so many deals—and fumbling with the process can jeopardize the very growth companies seek. In fact, most of them lack focus, make unclear decisions, and identify potential acquisition targets in a purely reactive way. Completing deals at the expected pace just can’t happen without an efficient end-to-end process.

Even companies with established deal-making capabilities may have to adjust them to play in this new game. Our research shows that successful practitioners follow a number of principles that can make the adjustment easier and more rewarding. They include linking every deal explicitly to the strategy it supports and forging a process that companies can readily adapt to the fundamentally different requirements of different types of deals.

Eyes on the (strategic) prize

One of the most often overlooked, though seemingly obvious, elements of an effective M&A program is ensuring that every deal supports the corporate strategy. Many companies, we have found, believe that they are following an M&A strategy even if their deals are only generally related to their strategic direction and the connections are neither specific nor quantifiable.

Instead, those who advocate a deal should explicitly show, through a few targeted M&A themes, how it advances the growth strategy. A specific deal should, for example, be linked to strategic goals, such as market share and the company’s ability to build a leading position. Bolder, clearer goals encourage companies to be truly proactive in sourcing deals and help to establish the scale, urgency, and valuation approach for growth platforms that require a number of them. Executives should also ask themselves if they have enough people developing and evaluating the deal pipeline, which might include small companies to be assembled into a single business, carve-outs, and more obvious targets, such as large public companies actively shopping for buyers.

Furthermore, many deals underperform because executives take a one-size-fits-all approach to them—for example, by using the same process to integrate acquisitions for back-office cost synergies and acquisitions for sales force synergies. Certain deals, particularly those focused on raising revenues or building new capabilities, require fundamentally different approaches to sourcing, valuation, due diligence, and integration. It is therefore critical for managers not only to understand what types of deals they seek for shorter-term cost synergies or longer-term top-line synergies (Exhibit 1), but also to assess candidly which types of deals they really know how to execute and whether a particular transaction goes against a company’s traditional norms or experience.

Posted in Post Merger | Leave a Comment »

Rsearch & Thinking

Posted by iBlog on February 6, 2008

Executives know that talent matters in procurement. But how much does it matter? A McKinsey global survey of purchasing executives at more than 200 companies finds that those setting the pace in purchasing best practices differ from ordinary companies along three talent dimensions. Together, these dimensions are associated with nearly 60 percent of the difference between the financial performance1 of these two classes of companies. The top-performing ones hire better people in sourcing, set clearer performance aspirations for them, and create strong sourcing cultures that encourage purchasers to align their activities with corporate strategy. The payoff? Leading companies enjoy annual cost savings from their overall sourcing efforts that are nearly six times greater than the annual savings of low performers. Moreover, the winners are positioning themselves for broader strategic gains as the pressures of globalization intensify.

The survey,2 conducted together with the Supply Management Institute of the European Business School, assessed the performance of the respondents’ companies against recognized best practices in purchasing and supply management by analyzing responses along four dimensions: the capabilities and cultures of purchasing professionals and their organizations, respectively; the corporate structure and systems that support purchasing; the management techniques and business processes supporting it; and the contribution of purchasers to their companies and the extent of the alignment between purchasing and corporate strategy. Two interviewers independently assessed the executives’ responses using a scale of one to five (five being the highest score). Subsequent regression and cluster analysis of the scores isolated 35 low-, 106 moderate-, and 61 high-performing organizations distributed across all of the industries and geographies studied.3

When we compared the scores of these executives with the financial results of their companies’ purchasing efforts, we found a striking correlation (Exhibit 1). Top companies realized purchasing savings of more than 3 percent a year—two percentage points higher than the annual savings of the low performers.4 High performers also had EBITDA5 margins that were fully five percentage points higher than those of low performers.

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Posted in Research & Thinking | Leave a Comment »

Capital For Competitive Advantage

Posted by iBlog on February 6, 2008

Spurred by rising global demand, the world’s suppliers of energy and energy-intensive commodities are greatly increasing their investments in power stations, chemical plants, oil rigs, steel mills, and other capital projects. Many of these undertakings are larger and more technologically complex than ever. The result is heated competition for the basic materials, equipment, and talent that all asset-intensive industries need to deliver multibillion-dollar capital projects successfully.

Skillful management and oversight of the contractors who supply the goods and services that a project requires has always been crucial to maximizing its economic value. In power generation or petroleum, for example, up to three-quarters of a typical budget goes to the contractors that supply engineering, procurement, construction, and project-management services. By raising the cost of delay and missed opportunities, today’s supercharged environment has elevated the importance of first-rate contracting.

Many asset owners, however, are struggling. Some companies approach every capital project as an isolated, individually tailored undertaking and fail to align the contracting efforts of individual project teams with their long-term capital strategy. Others hastily lock themselves into agreements; choose inappropriate contracting models; or misjudge the risks, organizational resources, or skills that capital projects involve. Such mistakes generate missed opportunities, significant delays, and cost overruns in the hundreds of millions of dollars.

Yet a few asset owners, having mastered the art of contracting, are benefiting from better project designs, lower costs, and fewer delays—a significant source of competitive advantage. To gain efficiencies across a number of projects, these companies standardize their engineering activities and modify boilerplate contracting models to adapt the economics of each project to their particular mix of skills and experience. They also look for ways to promote strong competition among the contractors hoping to work with them and conduct more detailed risk assessments than their less successful counterparts do. Finally, they invest in talent and encourage collaboration across functional boundaries to help maximize the net present value (NPV) of their capital projects.

An examination of the approaches these companies take offers lessons not only for providers of energy and energy-intensive commodities but also for other asset-intensive industries, including high tech, telecommunications, and automotive. These lessons are also relevant to public- and private-sector organizations that undertake large infrastructure projects, as well as to investors seeking to profit from them.

A changing environment

While economic growth in the developing world and rising demand for energy and energy-intensive commodities have created huge opportunities for asset-intensive industries, these forces have also greatly increased demand for essential materials, services, and equipment. As a result, contracting assistance is harder to obtain than it has been before. In some cases, this problem can change the economics of a project. In northwestern Canada, for example, the wages of people who work for contractors have skyrocketed as companies compete for labor to develop projects in the region’s oil sands; likewise, in the mining industry, delays in obtaining trucks, tires, and other equipment have forced lengthy (and, given record commodity prices, costly) delays in mine openings around the world. Such pressures will continue. Global capital spending is expected to exceed $71 trillion during the years 2008 to 2013—about a one-third increase from the levels of 2002 to 2007. Many asset-intensive industries will see increases of 50 to 80 percent (Exhibit 1).

Posted in Outsourcing | Leave a Comment »

Preparing For A Slump In Earnings

Posted by iBlog on February 6, 2008

As the aftershocks of the subprime-lending crisis rumble on, executives understandably find it difficult to read the conflicting US economic and business indicators they rely on to make strategic choices. Some are encouraged by sharp interest rate cuts, fiscal help, and export growth resulting from the dollar’s weakness, hoping that these will save the US economy from a prolonged recession. Others observe that although corporate earnings were considerably lower in the fourth quarter of 2007 than they were in the same period a year earlier, earnings forecasts from consensus analysts point to a rebound later this year, with overall US 2008 earnings growth expected to grow by more than 10 percent.

Investors, executives, and boards might therefore be tempted to face the rest of 2008 cautiously, but not to feel any need to develop radical contingency plans for a substantial and sustained reduction in earnings. Yet giving in to that temptation would be a mistake because such plans will probably be needed. A study of historic trends shows that corporate earnings might well retreat by as much as 40 percent from their 2007 levels.

Few companies as yet anticipate such a blow to their earnings and general economic health. Fewer still have begun to put in place the rigorous contingency plans needed to weather it and to build the financial and operational flexibility that would make them more competitive at a time of substantial and sustained reductions in corporate earnings.

Booms and busts

Valuation multiples and corporate earnings drive stock market valuations. A look back at the US stock market’s peak, in 2000, can help illuminate the dynamics behind booms and busts.

Between 1973 and 2000, rising price-to-earnings (P/E) multiples drove the market’s growth.1 Falling real interest rates and lower inflation were the underlying reasons, and these trends, unfortunately, are not repeatable. From 1996 to 2000, P/E multiples rose especially sharply, particularly for Internet-related stocks. The bullish psychology underlying much of that market activity reflected a mistaken belief among many investors that the Internet age had so changed the economic fundamentals that historic ratios were irrelevant and could safely be ignored.

This belief in a paradigm shift generated P/E multiples that reached a high of around 25 at the stock market’s 2000 peak, compared with a long-run average of 14. Acquisitions at inflated prices became increasingly common. Of course, a four-year bear market decline of 40 percent followed the peak as multiples reverted to levels more in line with the long-run average. Earnings, too, dipped, as companies wrote off the goodwill associated with the high-priced acquisitions made at the time of the stock market peak.

The underpinnings of the 2004–07 stock market rally were quite different from those of the earlier ones. During the recent run-up, P/E multiples weren’t unusual, hovering around the levels seen in the late 1960s—which was also a time of low interest rates. Instead, strong corporate earnings drove the market’s growth.

How strong? Gauged either by earnings as a share of GDP or by returns on equity, US companies apparently fared better than they ever had, at least during the 45 years of our data (Exhibit 1). Between 2004 and 2007, the earnings of S&P 500 companies as a proportion of GDP expanded to around 6 percent, compared with a long-run average of around 3 percent, with the increase most acute in the financial and energy sectors.

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At the heart of this widely enjoyed earnings growth was a sales-driven expansion of net income rather than improved overall operating margins, growth in investments, or invested capital, each of which grew only slightly. In effect, companies increased their capital efficiency by selling more without making proportionate investments. In the nonfinancial sector, this meant squeezing greater capital efficiency from plants and working capital, so that returns on capital employed rose some 40 percent above the long-run US trend.2 Credit-driven consumer expenditures provided much of this revenue boost.

In the financial sector, higher volumes and fees stoked returns on equity that were around 60 to 80 percent above the historical trend. Some of these returns, however, came from subprime products and instruments—such as collateralized debt obligations, or CDOs—which created an earnings bubble that has now burst.

All fall down?

Some reversion to the norm is already under way. The decline in earnings during last year’s fourth quarter took place largely in the financial and energy sectors (Exhibit 2). How far could earnings fall? If we exclude the energy and financial sectors, they would have to drop by at least 20 percent from their 2007 levels to reach long-run average levels and by around 40 percent to reach the low points in the previous earnings cycles.

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For S&P 500 earnings overall—including the energy and financial sectors—to reach their long-run average proportion of GDP, they would have to decline by 30 percent from the 2007 level. And they would have to drop by as much as 60 percent for earnings to reach the lower points of previous cycles, such as in 1991. This scenario is less likely, since the current strength in the energy sector is less dependent on the general health of the US economy.

Preparing for a downturn

The recent fiscal stimulus by central banks (particularly in the United States), combined with strong ongoing Asian growth and historically low interest rates, could well mitigate the effects of a radical reduction in earnings to mean levels. What’s more, the dollar’s weakness will support US exports and thus boost manufacturing. Even if the US economy adjusts well to the current turmoil, however, the process will probably take longer than most executives and analysts optimistically assume.

Against that backdrop, executives should more actively take precautions against a sharp economic downturn or a prolonged earnings slump—or both. The starting point for such preparations is to understand the history and microeconomics of your industry and know how a downside scenario might look. What did companies do during past downturns, and how did some of them position themselves to be more successful afterward?

The prospect of a prolonged downturn should lead to the introduction of more severe contingency plans for managing credit risk, freeing up cash, selling assets, and reassessing growth. But executives should also think through the opportunities that a downturn provides. Research shows that it is at the start of a downturn—when costs such as capital expenditures, R&D, and advertising are low—that executives who have planned in advance can make countercyclical moves to build competitive advantage when times improve. A downturn can be a great opportunity to hire talent, to continue spending on long-term strategic initiatives, and to target acquisitions.3 Companies that now enjoy strong balance sheets have a good position to take advantage of current credit market conditions and reap outsized value for shareholders.

In many cases, building in financial and operational flexibility forms the core of efforts to benefit from a downturn. Executives must therefore understand how to make costs more variable, and CFOs need to understand how to get their balance sheets ready to do so. The desirable moves include shaping the investor base to generate support for ideas that might seem to go against conventional wisdom in a downturn and could require a reduction in dividends. Companies shouldn’t rule out investigating and approaching potential financial partners, such as private-equity players or sovereign wealth funds, whose resources could help their allies to make the most of a slump.

If the past is prologue, corporate earnings may face a more substantial and prolonged decline than the current consensus expects. Boards and executives shouldn’t postpone efforts to plan for a downturn—plans that might include initiatives to seize the competitive opportunities a slump might unearth.

About the Authors

Richard Dobbs is a partner in McKinsey’s Seoul office; Bin Jiang is a consultant in the New York office, where Tim Koller is a partner.

Posted in Corporate Finance, Mckinsey | Leave a Comment »

Listening Skills

Posted by iBlog on February 5, 2008

Listening Skills

Listening involves a set of skills that require constant practive and attention to overcome the barriers we meet.

Barriers to listening:

Attitudes
Concerns
Idea
Expectations
Interests
Beliefs
Memories
Needs
Values
Cultural Roles
Prejudices
Experience

People who are skilled at listening are patient listeners who rarely interrupt others. Keep your mind clear and listen.

Orient Your Body to the Speaker
Be sensitive
Maintain eye contact
Release Agenda
Attend to Speaker
Reflect Speaker
Ask clarifying questions
Encourage key words
Minimal Responses
Build line of thought
Nonverbal encouragers
Summarizing
Paraphrasing
Contrast Constructively
Listen for Feeling Words
Speakers Feelings
Non Verbal Signs
Reflect Speakers Feelings

Posted in eCommerce | Leave a Comment »