Jack Welch Renounces Increasing Shareholder Value: Pigs Fly

First it was Saul on the road to Damascus. More recently, it was Alan Greenspan. Yesterday, Jack Welch seems to have had a conversion.

Speaking with the Financial Times, Welch said:

Jack Welch, who is regarded as the father of the “shareholder value” movement that has dominated the corporate world for more than 20 years, has said it was “a dumb idea” for executives to focus so heavily on quarterly profits and share price gains…

…“On the face of it, shareholder value is the dumbest idea in the world,” he said. “Shareholder value is a result, not a strategy . . . Your main constituencies are your employees, your customers and your products…”

…The birth of the shareholder value movement is commonly traced to a speech that Mr Welch gave at New York’s Pierre hotel in 1981, shortly after taking the helm at GE.

What they’re talking about is the commonly held belief that “the purpose of business is to increase shareholder value.” That belief is variously attributed to Milton Friedman, Adam Smith, and “obvious commonsense,” none of whom are guilty as charged (though Friedman probably came close).

But no matter: it was what people heard, and used to justify all kinds of behavior for several decades. And Welch, whether he ever said specifically those words, has a great deal of responsibility for having advanced the idea. The FT is right to headline the significance of this conversion.

In any case, the newly converted Welch, to judge by the above quote, really does now get it right.

Profitability, shareholder value, even measures like EVA profoundly miss a point that Welch now articulates. Namely, ‘shareholder value is a result, not a strategy.’

I think what Welch means is that all economic results are properly viewed as outcomes, not as end-state goals or objectives.

This would be quite right.

Imagine two companies. One is devoted to increasing shareholder value (and EVA, etc.) by carefully finding out what customers want, and giving it to them.

The other is devoted to giving customers what they want—which results, among other things, in increased shareholder value, etc.

I suggest company #2 will do better in the not-very-long run. Because the company is being run for someone other than solely the financial stakeholders and managers.

Jack Welch is obviously no dummy. So it looks to me like his conversion experience has been thorough, and well thought out. If he can contribute to articulating this new view, it will go a long way to changing a deeply entrenched, increasingly dysfunctional and destructive ideology.

Let’s hope he does.


Short-term Measurement, Si: Short-Term Management, Non

When I talk to audiences about Trust-based Selling®, I have found that the number one response is:

"This is all nice, and I personally believe it—but you need to talk to my boss and my boss’s boss. Things around here are just too short-term—and this is where I live. I cannot afford to ignore the demands for short-term performance; that’s my quota, those are the norms, I don’t have the luxury of building this nice long-term trust. "

Read on to hear my take. But first, here’s Starbucks CEO Howard Shultz’s perspective on short-term vs long-term strategy.

Schultz is the returning CEO of Starbucks. Returning, that is, to take over from Jim Donald, the ex-Walmart executive who succeeded Schultz a few years ago.

Starbucks, in the eyes of its employees and many stockholders, has faltered—its stock price down 55% since May 2006, its original coffee-house focus lost in a modern management obsession with cross-selling, efficiencies, and relentless incremental improvement.

Schultz has set about refocusing on coffee. Bye-bye efficient mechanical espresso dispensers, teddy-bears, cluttered counters, and breakfast sandwiches. Back to basics: trained baristas talking to customers, soft chairs, coffee.

But—most telling of all—Schultz says he’s going to stop reporting same-store sales to Wall Street.

In retailing, that is heresy. It’s what every analyst wants, and assumes they’ll “obviously” get.

Why’s Schultz doing this?

Because he doesn’t want Wall Street or his employees falling for the business fallacy of our era: the belief that you can’t manage what you don’t measure, and the more fine-tuned the metric, the more powerful the management you can bring to bear.

This is hooey, and Schultz knows it. Steering the car by short-term rear-view-mirror metrics has a way of making people lose sight. They end up managing the numbers for the sake of…the numbers. Yet Schultz also knows everyone believes this stuff. So he’s making everyone go cold turkey on metrics to enforce the idea that, as he puts it:

Long-term value for the shareholder can only be achieved if you create long-term value for the customer and your people.

He is so, so right.

There is nothing wrong with short-term metrics per se; what’s wrong is assuming that they demand short-term management. In fact, the best short-term performance comes from long-term management, executed consistently.

What would you rather invest in—a company that consistently urges its salespeople to get customers to buy in this quarter, to juice numbers up; or a company that consistently acts in the best interests of customers, without focusing on which quarter the P&L comes home to roost?

Here’s the reaction of distinguished Yale School of Management professor Jeffrey Sonnenfeld’s reaction to Howard Schultz’s strategy for Starbucks:

“Howard is a brilliant visionary and a genuinely compassionate human being, but he runs the danger of being trapped by his past…Entrepreneurs sometimes don’t grow with the business. You shouldn’t pretend the model can’t keep evolving.”

Well, I have a lot of regard for Sonnenfeld, and of course the future will reveal whether he’s right or I am—whether this is a case of focus on long-term values or a case of arrested development. In the meantime, I have two words for him:


Steve Jobs

You know, the guy who blew away the suit from Pepsi who came in to “professionalize” Apple after Jobs the entrepreneur had outgrown his baby. Anyone who invested in Apple at the time of Jobs redux is now wealthy.

Because it depends what you’re evolving. If you’re evolving the Frappucino, well, OK. But if that evolution is costing you in terms of values about long-term focus on employees and customers, then “evolution” is a fraud. It’s the short-term disease again, masquerading as "value."

Success is not a series of quarters strung together in sequence. It’s a long-term story divisible into quarters, with the same principles tying them together.

My answer to those who say, “Hey, I gotta hit the quotas, what can I do?” is as follows:

  1. Who owns your career? And if it’s not you, why’d you give it away?
  2. Make a 6-month deal with your boss—let me ride this trust thing for just 6 months, and then you can start hounding me on the metrics.

In 6 months, you won’t lose much—if anything at all—and you’ll begin to see big results.

You also might be surprised how much your boss roots for you.

And if (s)he won’t do it, well, that’s valuable information for you too.

Destroying Shareholder Value: One Quarter, One Customer at a Time

I spoke with a mid-level consultant at a medium-large American consulting firm. His project had an overrun. Question was, how to handle it.

Me: How big an overrun?

Him: $80K—a 50% overrun.

Me: A big percent, but not a big dollar number. Tell me about the client.

Him: Medium sized for us; decent relationship; we do 5-6 projects a year with them.

Me: What do you each say?

Him: They agree they signed a contract saying they were responsible for the disputed work. We thought their interpretation was wrong. We ended up doing the work, but disagree about who’s responsible.

Me: Of the $80K, how much would they agree is their fault?

Him: Maybe $20K of the $80K.

Me: And you?

Him: We think $70K of the $80K.

Me: That is a mere $50K issue. You’re a big company, this is a good client relationship—$50K is chump change.
Why don’t you go to them and say, ‘Look, we value this relationship. There is an $80K overrun here; why don’t you pick the number between $0 and $80K that you think is most fair, and we will pay it.’ Give them total choice. Let their choice reveal their character and their intent, and show good faith on your part. Work the relationship, not the negotiation.

Him: Well, they might take advantage of us.

Me: Of course they could. And if they do, you’ll know if these are people worth trusting in the long haul, or whether henceforth you get tighter controls and/or give this client over to a competitor. Do you want a relationship, or a petty quarrel? How much do you think they would offer?

Him: I’d guess they’d offer us maybe $40K. And I think what you say is the right thing to do. But my [service offering] leadership team won’t go for it.

Me: Why not?

Him: They think we deserve more, and they can get most of it by holding out.

Me: For how much?

Him: They think they can get $70K.

Me: You realize, that is only $30K of difference between the two of you.

Him: Yes, but they are really under pressure to make their profit bogeys. There’s really nothing I can do.

If you’re not sickened by this dialogue, let me break it down.

It sounds like a bad divorce settlement. Two large firms wasting time and creating bad blood—over $30K. A true imbalance.

But it’s worse.

This was probably a good relationship.  Let’s assume it might have generated five projects a year for 8 years going forward. Further, that benefits to the client would have increased as the consultants gained more familiarity and expertise over the years.

Suppose that amounts to a present value of, say, $10M in fees.

Assume that the bad blood generated results in lower trust—more haggling over fees, lower fees, more competitive bidding, more audits, more skepticism over advice—all resulting in, say, 30% reduction in the present value of expected fees.

That’s $3M reduction in present value. For $30K on a quarterly P&L.

Many think it doesn’t matter because it doesn’t hit the P&L. It’s true that FASB rules don’t book present value, at least not through the income statement.

But it is real. The eagle eyes on Wall Street know very well how to discount future streams. Private equity firms know the value of customer retention rates.

In other words, the financial metrics that matter most—those of the market, not of the accounting books—do know the cost of this firm’s decision.

You may think the young manager is at fault for not standing up for what he knew was right. Or, you may think his bosses are to blame.

I think the real culprit is endemic bad business thinking. Business thinking that mindlessly focuses on short-term metrics of short-term behavior, linking the two by short-term incentives. The solution doesn’t lie in more short-term thinking ("I know, let’s analyze imputed market discounts and allocate them across quarterly bonus pools for each decision!").

The resulting behavior is value destruction by any sensible definition. Bad business. They call it financial management. It is anything but.

Yet this way of thinking, as anyone in the corporate world knows, is the rule, not the exception. Anyone who believes in perfect market theory need only look at daily management behaviors to find their disproof; everywhere managers behaving in ways that destroy value. Believing that they’re creating it.

Bad thinking.