Havard Business Review 2007 April

TOP-TEAM POLITICS WHEN YOUR CORE BUSINESS IS DYING M …page 90 …page 66 A WARDSCKINSEY

PAGE 53

www.hbr.org April 2007

58 What Your Leader Expects of You Larry Bossidy

66 Finding Your Next Core Business Chris Zook

78 Promise-Based Management: The Essence of Execution Donald N. Sull and Charles Spinosa

90 The Leadership Team: Complementary Strengths or Conﬂicting Agendas? Stephen A. Miles and Michael D. Watkins

100 Avoiding Integrity Land Mines Ben W. Heineman, Jr.

20 FORETHOUGHT

33 HBR CASE STUDY Why Didn't We Know? Ralph Hasson

45 FIRST PERSON Preparing for the Perfect Product Launch James P. Hackett

111 TOOL KIT THOUSHALT The Process Audit Michael Hammer …page 58 124 BEST PRACTICE Human Due Diligence David Harding and Ted Rouse

138 EXECUTIVE SUMMARIES

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There are 193 countries in the world. None of them are energy independent.

So who’s holding whom over a barrel? The fact is, the vast majority of countries rely on the few energy-producing nations that won the geological lottery, bles sing them with abundant hydrocarbons. And yet, even regions with plenty of raw resources import some form of energy. Saudi Arabia, for example, the world’s largest oil exporter, imports refined petroleum products like gasoline.

So if energy independence is an unrealistic goal, how does everyone get the fuel they need, especially in a world of rising demand, supply disruptions, natural disasters, and unstable regimes?

True global energy security will be a result of cooperation and engagement, not isolationism. When investment and expertise are allowed to flow freely across borders, the engine of innovation is ignited, prosperity is fueled and the energy available to everyone increases. At the same time, balancing the needs of producers and consumers is as crucial as increasing supply and curbing demand. Only then will the world enjoy energy peace-of-mind.

Succeeding in securing energy for everyone doesn’t s Taken: have to come at the expense of anyone. Once we all start to think differently about energy, then we can truly make this promise a reality. Chevron Step

• Investing over $15 billion a year to bring energy to market.

• Developing energy through partnerships in 26 countries.

• Committing hundredsdiversify supply. of millions annuallyes toto alternative and renewable energi

• Since 1992, have made our own energy go further by increasing our efficiency by 24%.

CHEVRON is a registered trademark of Chevron Corporation. The CHEVRON HALLMARK and HUMAN ENERGY are trademarks of Chevron Corporation. ©2006 Chevron Corporation. All rights reserved. 4 100 90 78 66 58 Harvard BusinessReviewHarvard continued onpage8 Avoiding Integrity Land Mines f A longtime CEO reveals the behaviors that leaders should look Larry Bossidy What Your Leader Expects of You roles, When members of a leadership team play complementary Stephen A. Miles and Michael D. Watkins Strengths or Conﬂicting Agendas? The Leadership Team: Complementary must cultivate and coordinate promises in a systematic way. problems and foster a productive, reliable workforce, managers leagues, customers, or other stakeholders. To overcome such or The most vexing leadership challenges stem from broken Donald N. Sull and Charles Spinosa The Essence of Execution Promise-Based Management: y It may be hidden right under your nose. Here’s how to evaluate Chris Zook Finding Your Next Core Business nates should expect in return. and what those subordi- – as corporate performance and growth company has put in place to do just that. Electric’s longtime general counsel describes the systems the dreds How do you keep thousands of employees, operating in hun- Ben W. Heineman, Jr. sowing the seeds of disaster during succession. and tages minimize the risks without of complementarity members move on. Organizations can learn to enjoy the advan- such relationships may also result in confusion, especially when Features ri hi uodnts–behaviors that drive individual as well – or in their subordinates our current core and where to look for a new one. poorly crafted commitments between employees and col- h hl sotngetrta h u fisprs–but the whole is – often greater than the sum of its parts of countries, as honest as they are competitive? General | April 2007 2007 April APRIL 2007 APRIL | hbr.org 100 58 90 66 78

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APRIL 2007

Departments

12 COMPANY INDEX 53 2006 MCKINSEY AWARDS AND 2007 MCKINSEY JUDGES 20

14 FROM THE EDITOR What the Boss Wants from You 88 STRATEGIC HUMOR What should CEOs and their direct reports

expect from each other? When Larry Bossidy 111 TOOL KIT laid out his views to a group of young execu- The Process Audit tives, they couldn’t take notes fast enough. You don’t have to write down what he said, Michael Hammer though, because Larry has done it for you Redesigning business processes can gener- here. And it will be on the exam. ate dramatic improvements in performance, but the effort is notoriously difficult. Many executives have floundered, uncertain about 20 FORETHOUGHT what exactly needs to be changed, by how Firms from developing countries are making much, and when. A new framework can take a global mark…McDonald’s isn’t afraid to the mystery out of reengineering business bite off more than it can chew…Women at processes and help you comprehend, plan, Fortune 33 1,000 companies are securing top and assess your company’s process-based jobs faster than men…Make your employees transformations. prove their ideas’ worth…Work with Chinese firms to build respect for IP…Alchemists turn 124 BEST PRACTICE bad feedback into gold…Don’t discount the power of the Q&A…Consumers are slow to Human Due Diligence notice changes in product quality, for better David Harding and Ted Rouse and for worse…How outside directors can Most companies do a thorough job of finan- reduce their legal risk. cial due diligence when they acquire other 45 firms. But the success of most deals hinges

33 HBR CASE STUDY on people, not dollars. Here’s how to diag- Why Didn’t We Know? nose potential people problems before a deal is completed. Ralph Hasson A whistle-blower sues Galvatrens for wrong- 132 LETTERS TO THE EDITOR ful termination. The lawsuit triggers a much larger discussion about the company’s sys- Social responsibility and global competi- 111 tem for uncovering misconduct. How should tiveness are all well and good, readers say, the company strengthen that system – and but not if they emerge from companies that what roles should the board and manage- are simultaneously corrupting the political ment play? Commentators include Stephen process. R. Hardis, Hal Shear, Mary Rowe, and Jackson W. Robinson. 138 EXECUTIVE SUMMARIES

45 FIRST PERSON 144 PANEL DISCUSSION Preparing for the Perfect Satisﬁcing Product Launch Don Moyer James P. Hackett Optimizing – the art of ﬁnding the best How come some projects fail while others choice among all choices – is a luxury we succeed? This is the story of a CEO who can seldom afford. refused to accept failures as inevitable and set up a system to prevent them. 124

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10 Harvard Business Review | April 2007 | hbr.org

COMPANY INDEX | April 2007

Organizations in this issue are indexed to the ﬁrst page of each article in which they are mentioned. Subsidiaries are listed under their own names.

AB Electrolux ...... 66 IBM...... 66, 124 Siemens ...... 20 Adelphia Communications ...... 100 Ideo ...... 45 Starbucks ...... 90 Adobe Systems...... 90 IKEA ...... 66 Steelcase ...... 45 AlliedSignal ...... 58 IMC Global Services ...... 124 STMicroelectronics...... 20 Alstom ...... 78 InBev ...... 20, 78 Sun Microsystems ...... 90 AmBev ...... 78 Institute for the Future ...... 45 Synopsys ...... 90 American Express...... 66 Institutional Shareholder Services ...... 100 Syrus Global ...... 33 Anheuser-Busch ...... 20 Interbrew ...... 78 Tetra Pak...... 111 Apple ...... 66 International Ombudsman Association ...... 33 Toyota...... 66 Applera...... 66 Johnson & Johnson ...... 66, 90 U.S. Marine Corps ...... 78 Applied Biosystems ...... 66 Johnson Wax Professional ...... 124 Valspar ...... 66 Arcelor Mittal...... 20 JPMorgan Chase ...... 100 Voith Siemens Hydro Power Generation ...... 78 Archipelago Securities ...... 124 Kmart ...... 66 Wal-Mart ...... 66 Arthur Andersen ...... 100 Lenovo Group ...... 20, 124 Wipro ...... 20 Bank One ...... 124 Logitech ...... 20 WorldCom...... 100 Bausch & Lomb...... 66 The London School of Economics and Xerox ...... 66 Becker ...... 66 Political Science ...... 20 Boeing...... 58, 100, 124 Lowe’s ...... 66 AUTHOR AFFILIATIONS BP...... 100 McDonald’s...... 20 CA ...... 100 McDonnell Douglas ...... 124 AlliedSignal ...... 58 Canon ...... 66 Medtronic...... 66 Bain & Company ...... 66, 124 Cargill...... 124 Mercedes-Benz...... 66 Board Assets ...... 33 Celera Genomics...... 66 Merck ...... 58 Eaton ...... 33 Cemex ...... 20 Michelin ...... 111 ETH Zurich ...... 20 Ceridian ...... 33 Microsoft ...... 20, 90 GE Capital...... 58 Cetus ...... 66 Mittal Steel ...... 20 General Electric ...... 58, 100 Citibank ...... 20 MMC (Marsh & McClennan Companies)...... 100 Genesis Advisers ...... 90 Citigroup...... 100 Mosaic ...... 124 Guanghua School of Management ...... 20 Clorox ...... 111 Motiva ...... 111 Hammer and Company ...... 111 Coca-Cola ...... 90 Motorola...... 20 Hankamer School of Business...... 20 Compaq ...... 66 National Westminster Bank ...... 78 Harvard Law School ...... 100 CSAA ...... 111 Nestlé...... 66 Heidrick & Struggles...... 90 Danaher ...... 66 Netac Technology ...... 20 Honeywell ...... 58 De Beers...... 66 New York Stock Exchange ...... 124 Insead...... 20 Dell...... 66 Nokia ...... 20 Instituto de Empresa Business School ...... 20 Disney ...... 124 Novozymes ...... 66 Interminds ...... 20 DiverseyLever ...... 124 Onset Ventures...... 78 Kennedy School of Government ...... 100 Dometic ...... 66 Parmalat ...... 100 Leonard N. Stern School of Business ...... 20 EG&G ...... 66 PepsiCo...... 45, 90 London Business School ...... 78 Embraer ...... 20 PerkinElmer ...... 66 Massachusetts Institute of Technology...... 33 Emerson Electric...... 66 Philips ...... 20 Merck ...... 58 Enron ...... 100 Pixar ...... 124 Pay By Touch...... 20 Exxon Mobil ...... 20 PNY Technologies...... 20 Segafredo Zanetti...... 20 First Chicago NBD...... 124 Polaroid ...... 66 Spartech...... 33 GE Capital...... 66 Port of Singapore Authority ...... 66 Stanford Law School ...... 20 General Dynamics...... 66 Rezidor SAS Hospitality ...... 20 Steelcase ...... 45 General Electric...... 20, 58, 66, 78, 100 Royal Bank of Scotland...... 78 Thunderbird, the Garvin School of General Motors...... 66, 78 Royal Dutch Shell ...... 111 International Management ...... 20 Global Compliance ...... 33 Royal Vopak ...... 66 University of Texas at Austin ...... 33 Goldman Sachs...... 90 SABMiller...... 20 Vision Consulting ...... 78 Harman International ...... 66 Saudi Aramco ...... 111 Warrington College of Business Administration ...... 20 Home Depot ...... 66 Schneider National...... 111 Wilmer Cutler Pickering Hale and Dorr (WilmerHale) . . . . 100 Hyperion Solutions ...... 66 Seagate ...... 90 Winslow Management ...... 33

12 Harvard Business Review | April 2007 | hbr.org Saving lives will mean refrigerating blood and vaccines where no power grids exist.

Are you ready?

Network Power•Process Management•Climate Technologies•Storage Solutions•Industrial Automation•Motor Technologies•Appliance Solutions•Professional Tools L 14 might want to write it down.” if a professor had said, “Here is what will be on the exam; you Every one of us bent over our notebooks, writing furiously, as leader.” I’ve never seen a group of executives react as we did. went on, “And you.” he of here Then is expect what would I think I you should behaviors expect eight from your are “here said, boss,” your he were I “If business: to down right got on the reciprocal actions between a leader and a follower. He focusmore to thinkersneed leadership and stakes, table are such traits as and integrity fairness are so that important they behavior,about characternot traits. Asfar he’sas concerned, report. direct a and boss is a Thecompact between compact that; he’s a loosen-your-tie-and-let’s-fix-this kind of guy. a piece of paper, grabbed and taught me. He is like desk, his up, around lit scooted positively Larry is. capital ing con- fessed I to having “forgotten” him, what work- interviewing was I when Once “retirement.” productive highly his in now and AlliedSignal, of CEO as then Electric, General of chairman vice 15than more years,was he when from for Larry known I’ve them. with there was Bossidy Larry CEO. a be to aspire legitimately might who and CEO a to o n hs lyd getr oe n t dvlpet than development its Michael in Hammer. role “The Process greater Audit,” a played has Hammer’s one article in no this panies might even be managed along process lines. could be managed just as functions are and, indeed, that com- it) fulfilling to order an accepting from steps of sequence the cess management: the idea that horizontal processes (such as then-newfangledexperimentthe to with CEOs proof notion on the exam. be will forit you.it But did Larry because said he downwhat of You,” is the lead article in this issue. You don’t have to write Peeblesyes,said too. Theresult, “What YourLeader Expects Ellen editor senior yes; said He article. an into talk his velop FROM EDITOR FROM THE A couple of days later, and suggested we I wrote de- Larry With the G50 group, Larry shared what he described as the Process management has come a long way since then, and big-company first the of one was Bossidy AlliedSignal, At Harvard BusinessReviewHarvard onih xctvs h report who executives youngish which G50, comprises the called group a of meeting a on in sit AUTUMN AST What the Boss Wants from You from Wants Boss the What I was invited to to invited was I | April 2007 2007 April | hbr.org eray sus ad usrbr cn ed hm nie at www.hbr.org. online them read can subscribers and issues, February you can read the articles themselves in 2006’s December and up. You can read about these articles on page 53. Even better, Innovation”Why, runner- as Management of How and What, Michael E. Porter and Mark R. by Kramer, Responsibility” with Gary Hamel’s Social Corporate “The and Advantage petitive Award goes to ”Strategy and Society: McKinsey The 48th Link Between the Com- 2006, For worlds. business and ademic as determined by a panel of distinguished judges from the ac- Foundation honor the best article published in HBR each year, McKinsey the and we goal, that value.support To enduring and tested of work publishing by so do now,to wantwe but vexingyou ones the problems, toughest yoursolve you help to want we timelessness. is, Thatand timeliness balance to me last summer. No more. process management is essentially unmapped,” Hammer told audit is a blueprint for change and improvement. “The road to cess is strong and where weak. Second, of course, a process understand how capable a given process is and where the pro- objectively and truly can leaders business that first, is, audit surement systems, and infrastructure. The result of a process Every Every organization walks strategic fine lines. At HBR, we try Thomas A. Stewart ein mngmn, tfn, mea- staffing, management, design, their of attributes specific of terms in processes business evaluate to panies com- allows which model,” a “maturity is themselves, on tested then and developed,colleagues his and Hammer answer The discipline? management grown fully more a become to learned lessons and anecdote, perimentation, can management moveprocess beyond asked, ex- group the How, cesses. pro- high-performance sustaining and nies to develop a framework for creating compa- of consortium a with working been has Hammer years, five last the issue, is a major advance in the field. For

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© 2007, HOMER TLC, Inc. All rights reserved. EDITOR AND MANAGING DIRECTOR Thomas A. Stewart DEPUTY EDITOR AND ASSISTANT MANAGING DIRECTOR Karen Dillon EXECUTIVE EDITOR Transform Sarah Cliffe ART DIRECTOR Karen Player SENIOR EDITORS SENIOR David Champion PRODUCTION (Paris) MANAGER knowledge Diane Coutu Dana Lissy Bronwyn Fryer EDITORIAL Paul Hemp PRODUCTION Julia Kirby MANAGER Lew McCreary Christine Wilder Gardiner Morse SENIOR DESIGNER into leadership. M. Ellen Peebles Jill Manca Steven Prokesch Anand P. Raman DESIGNER Lindsay A. Sweeney SENIOR EDITOR, HBR ONLINE EDITORIAL PRODUCTION Eric Hellweg COORDINATORS ASSOCIATE Josette Akresh- EDITORS Gonzales Roberta A. Fusaro Tisha Clifford Andrew O’Connell EDITOR FOR CONSULTING EDITOR BUSINESS Bernard Avishai DEVELOPMENT John T. Landry MANUSCRIPT EDITORS COMMUNICATIONS Christina Bortz DIRECTOR Lisa Burrell Cathy Olofson Susan Donovan COMMUNICATIONS Andrea Ovans ASSOCIATE Martha Lee Spaulding Siobhan C. Ford EDITORIAL CONTRIBUTING STAFF MANAGER Kaajal S. Asher Kassandra Duane Lilith Z.C. Fondulas Come to Stanford for the insights and thought processes that drive EDITORIAL Amy L. Halliday COORDINATOR Amy N. Monaghan more powerful results for your business. Rasika Welankiwar Annie Noonan Annette Trivette Debbie White • Finance and Accounting September 30 – October 5, 2007 A NOTE TO READERS for the Nonﬁnancial Executive The views expressed in articles are the authors’ and not necessarily those of Harvard • Inﬂuence and Negotiation Strategies Program October 14 – 19, 2007 Business Review, Harvard Business School, or Harvard University. Authors may have • LeadingChangeandOrganizationalRenewal October 28 – November 2, 2007 consulting or other business relationships (in Partnership with Harvard Business School) with the companies they discuss. SUBMISSIONS • Customer-Focused Innovation November 11 – 16, 2007 We encourage prospective authors to follow HBR’s “Guidelines for Authors” before submitting manuscripts. To obtain a copy, please go to our Web site at www.hbr.org; write to The Editor, Harvard Business Review,

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WWW.ONPOINTHBR.ORG Strategy Lessons from Left Field T S I R G vard Business Review 20 ers of beer in the world. The trend goes South Africa) are the two largest suppli- today, InBev and SAB (originally from Interbrew (Belgium) and became InBev; in cement. AmBev (Brazil) merged with est men. Cemex (Mexico) is number three Lakshmi Mittal, is one of the world’s rich- one steel producer, and its Indian owner, Steel, for example, is the world’s number impression on global markets. Mittal These aggressive firms are making a big made them formidable competitors. hard way, and that rough schooling has countries tend to earn their success the Companies based in small or developing A survey of ideas, trends, people, and practices on the on practices and people, trends, ideas, of survey A Har | April 2007 2007 April | hbr.org manufacturer? come the world’s number one cell phone lumber and rubber company would be- Who would have thought that a Finnish emerged from equally unlikely places. recent past, other international firms have India shouldn’t come as a surprise. In the ing nations such as Brazil, China, and tional multinationals from large develop- sonal respectively.computing, planes, software and ITand per- services, air- – are all leaders in their high-tech fields (Brazil), (India), Wipro and Lenovo (China) beyond these mature industries: Embraer The strong performance of nontradi- to grow worldwideoutstanding innova- “born in the wrong place” forced them build a successful formula in the first place. and Swiss Logitech had to go global to as French–Italian-born STMicroelectronics and other nontraditional multinationals such their domestic formula. By contrast, Nokia global precisely to exploit the success of ship in their industries, and which became market to their country of origin’s leader- owe their high-ranking position in the global multinationals like GE and Siemens, which different from the big, developed-country The fact that these companies were These nontraditional companies are very business horizon business by José Santos José by

Aaron Leighton tion and integration capabilities. Nokia, quartered in Rotterdam and London (not the big multinationals, so can you. By the for example, had no choice but to look Calcutta, where Mittal grew up), and its same token, it’s nontraditional multina- outside Finland for the technologies and top executives nearly all live outside their tionals like these that you should look to skills it didn’t have at home – which meant home countries. for best practices and inspiration, not the it could go anywhere. From its earliest So what lessons can be drawn here? GE and Siemens of your industry. days, the company went to California for First – and this is particularly relevant to mobile phone–design ideas. Did GM would-be multinationals of the developing José Santos ([email protected]) is think of hiring car designers from Italy world – global success comes from smart an adjunct professor at Insead in Fontaine- 30 years ago? management rather than from the nature bleau, France, and the former CEO of Ital- Nontraditional multinationals have also of the industry you compete in or your ian coffee manufacturer Segafredo Zanetti. had to fight harder to win recognition ability to exploit a low cost base. Second, He is a coauthor, with Yves Doz and Peter from investors. In the absence of devel- for the managers of smaller, domestic Williamson, of From Global to Metanational: oped local capital markets, these firms firms in large developed country markets, How Companies Win in the Knowledge have had the difficult job of persuading it’s not too late to expand globally your- Economy (Harvard Business School Press, skeptical investors in London or New York selves: If Mittal and Nokia could take on 2001). Reprint F0704A that, yes, Italy can create a semiconduc- tor business as good as any in the United States or Japan and that a South African STRATEGY company can compete with the likes of Anheuser-Busch. A company like Siemens, The Upside of Falling Flat on the other hand, enjoys high esteem in by Stefan Michel Germany and cozy relationships with large banks, which undoubtedly reduces In the end, the decision by McDonald’s off the lobby was open 24 hours (a rarity its cost of capital. to build a couple of four-star European in Switzerland). The guest accommoda- Nontraditional multinationals face hotels, with arch-shaped headboards for tions, for $120 to $160 a night, featured unique challenges when it comes to lead- the beds and fast-food restaurants on- a patented curved wall and a cylindrical, ership, too. Executives in conventional site, wasn’t as bizarre as it seemed. see-through shower stall that protruded multinationals tend to get to the top by The Golden Arch venture in Switzer- into the bedroom. The decor was spare moving up the ranks in their home coun- land ended in 2003 after two and a half and brightly colored. A colleague of mine try. (Though only some 20% of Siemens’s years, when the pair of McDonald’s ho- who stayed there in 2001 recalled frankly sales are in Germany, 80% of the com- tels closed. But as I tell my MBA students that “the entire feeling was one of oddity pany’s top managers are German.) But and executive-education participants, the and discomfort.” The second hotel was the leaders of nontraditional multination- foray can be thought of as an inexpensive similar. als have usually studied and worked out- “real option” that provided the innovation- The hotels clearly didn’t deliver the ex- side their home base, developed strong hungry company with an opportunity to pected results. The worldwide economic professional networks, and may be fluent learn valuable lessons from a controlled contraction – and the appreciation of the in several languages. Nokia’s CEO, Jorma failure. Swiss franc – that followed the attacks of Ollila, from Finland, was educated at the Relatively few travelers ever stayed September 11, 2001, contributed to their London School of Economics and Political in – or heard of – the hotels, which opened demise, but there were other factors, Science and worked eight years at Citi- within a few weeks of each other in the both minor and major. The showers, for bank before joining Nokia. Italian native spring of 2001, one near the Zurich air- one thing: Families and business travelers Pasquale Pistorio, who helped build port, the other in Lully near the A-1 inter- rooming together complained about the STMicroelectronics, was at one point state. They were the brainchild of Urs lack of privacy (the glass was later frosted a member of Motorola’s top executive Hammer, chairman of McDonald’s Swit- as a result). Another issue was that the team in Phoenix. zerland, who was responding to the par- English phrase “golden arches” isn’t as- Mittal’s top management is a veritable ent company’s push for diversification sociated with McDonald’s in German- United Nations of talent. Founder Mittal and new ideas. speaking countries. Even worse, as the himself started his career as an entrepre- The Zurich Golden Arch hotel opened owner of a hospitality consulting firm neur in India. Today, the company is under first, and it was unlike any other hotel pointed out, was that the word “arch,” Dutch ownership (not Indian), is head- around. The McDonald’s restaurant just when pronounced by German speakers,

hbr.org | April 2007 | Harvard Business Review 21 sounds a lot like a vulgar word for a per- shifted focus in 2003 away from such moving forward with them. McDonald’s son’s posterior. brand extensions and toward an ulti- did just that. It made a relatively small Beyond all that, the strategy itself was mately better strategy of trying to get investment and limited its risk. questionable. Although the venture re- more customers into existing restaurants. By publicizing the venture mainly inside lated to the company’s food business and But the McDonald’s board knew what Switzerland and using the name Golden relied on many of its core competencies, it was doing when it green-lighted Ham- Arch rather than McDonald’s, the com- such as franchising and real estate man- mer’s project in 1999. Its decision was pany avoided damage to the corporate agement, the McDonald’s brand doesn’t a real option: a fixed investment for an un- brand. Moreover, the real estate invest- square with the image of a four-star hotel. certain but potentially high return. Diver- ment did not result in a significant loss: A financial analyst quoted in the Wall sifying into the hotel business gave the The two hotels are now managed by Street Journal noted, “I’ve just come back company a shot at entering a billion-dollar Rezidor SAS Hospitality, which runs them from lunch at McDonald’s. But I can’t industry. Because diversifications are under its Park Inn brand. While a P&L imagine staying at a McDonald’s hotel on generally more likely to fail than succeed, statement was never made public, the a business trip.” Indeed, the company companies need to constrain the costs of estimated operational losses were in- significant to the McDonald’s portfolio. The decision to exit the hotel business D ATA P O I N T after less than three years represents Younger Women at the Top a further limitation of the company’s risk. The venture also offered insights – or at least reminders – about diversification and Women may be scarce in senior management, but here’s an intriguing finding: Those globalization. First, even for a company who do make it into the executive ranks get there faster than men. So conclude re- with deep pockets and billion-dollar brand searchers from Dartmouth’s Tuck School of Business and Loyola University who ana- equity, it is extremely difficult to take a lyzed data on nearly 10,000 Fortune 1,000 executives to create one of the most granular name that is well established in one cate- is pictures we have of companies’ executive makeup. Though nearly Three-quarters of gory (McDonald’s fast food) and achieve half of Fortune 1,000 firms still have no female executive officers, success with it in a different, if related, Fortune 1,000 women those that do seem to be aggressively hiring and promoting them category. Second, for companies going executive officers into the top ranks. As the chart shows, a much larger percentage global, the more complex the service of- are 50 or younger. of Fortune 1,000 women have made it to executive officer posi- ferings, the more important the cultural context (unlike a fast-food restaurant, a tions in their thirties, forties, and fifties than have men their age. What’s more, these four-star hotel is full of individualized cus- women achieved their executive positions at a younger average age than the men did tomer interactions, for which guests have (46.7 versus 51.1) and have less tenure on average than men in their current positions diverse and high expectations). (2.6 years versus 3.5 years). These data confirm and expand on work reported by Peter But there’s another point that’s perhaps Cappelli and Monika Hamori in “The New Road to the Top” (HBR January 2005) and even more important. Hammer was one spotlight a trend that half of America’s biggest companies seem to have missed. of the company’s most successful fran- Reprint F0704C chisees, an entrepreneurial manager with Percentage of male and female Fortune 1,000 executive officers in each age category a long history of fruitful business ventur- (relative to the total number of male and female Fortune 1,000 executive officers) ing. By supporting him, McDonald’s was reinforcing and nurturing its bottom-up innovation culture. In the words of a 30% McDonald’s manager who participated in one of our executive education programs, “We try hundreds of things every year, 20% and only a few turn out to be successful. But those initiatives make our business grow and keep our spirit alive. Not trying 10% is not an option.”

Stefan Michel ([email protected]) is a services management expert and an assis- 0 28–40 41–45 46–50 51–55 56–60 61+ tant professor of international marketing at Executives 50 or younger Executives 51 or older Thunderbird, the Garvin School of Interna- tional Management, in Glendale, Arizona. Adapted from C.E. Helfat, D. Harris, and P.J. Wolfson, “The Pipeline to the Top: Women and Men in the Top Executive Ranks of U.S. Corporations,” The Academy of Management Perspectives, November 2006. Reprint F0704B

22 Harvard Business Review | April 2007 | hbr.org INNOVATION associate dean for graduate business programs at Baylor University’s Hankamer $152,000 for Your School of Business in Waco, Texas. Bill Townsend (bill.townsend@paybytouch Thoughts .com) is the executive vice president of Pay by Gary Carini and Bill Townsend By Touch, a biometric authentication and To draw out employees’ creativity, get transaction company in San Francisco. tougher on them. Don’t let them get Reprint F0704D away with summarizing their ideas on simple forms. Make them prove their concepts’ viability, right from the start. INTELLECTUAL PROPERTY That advice may sound counterproductive, considering the dearth of worthwhile Nurturing Respect for innovations that are emerging from the rank and file. In our interviews over the IP in China past 12 years with more than 300 manag- by Georg von Krogh and ers in technology, media, venture capital, Stefan Haefliger and other fields, executives have said that Why should multinationals doing R&D in employees don’t come close to filling the China be pleased that a Chinese firm re- need for workable ideas. So why would cently sued an American company for we recommend raising the bar? range, depending on a variety of factors patent theft? Because it suggests that Because putting the burden of proof and baseline conditions.) Firms that had Chinese businesses are gradually ac- on the proposers results in well-formed implemented such programs but discon- knowledging the importance of intellec- ideas and knowledgeable, motivated em- tinued them, usually as a short-sighted tual property rights. ployees who understand the value of cost-cutting measure, observed a signifi- China is attractive as an R&D site be- their innovations. Raising the bar won’t cant decline in workable innovations, our cause of its increasing supply of top tal- stifle innovation as long as the company research shows. ent and the low cost of doing research. couples that policy with the right support Interminds, the consulting firm that By the end of 2004, there were more and incentives for encouraging employee one of us (Bill Townsend) founded, is a than 600 R&D centers in China built with entrepreneurship. Companies must give good example of a company that puts its foreign investment. workers the tools to prove their ideas’ money where its mouth is. An employee But in the minds of many global execu- worth – in other words, firms must teach who comes up with an idea to save tives, the Chinese market is synonymous the economics of innovations. Managers money while promoting the company’s with the disrespect, and sometimes must repeatedly instill in employees’ vision gets half of the first year’s savings. theft, of intellectual property. For exam- minds the concept that ideas are valued. The policy was instrumental in drawing ple, piracy of computer applications, The process for reviewing proposals must a great idea from a $38,000-a-year execu- while a serious problem everywhere, is move quickly. tive assistant. Her process improvement particularly widespread in China, where Companies must also put serious re- was to automate the laborious system of an estimated 96% of the software that is wards on the table. All too often, bonuses manually tracking 900 field representa- in use has never been paid for. don’t inspire employees to shape and tives. She built the business case with Pulling out of the vast and booming articulate their ideas. We estimate that in an individual in the finance department. China market isn’t an option for most most companies, the ratio of employee The company implemented her plan and companies. Moreover, faced with effec- reward to savings or increased revenue saved $304,000 in the first year. She tive reverse engineering, foreign firms from innovation is about .001%, or $100 earned a $152,000 bonus. have found that attempts to keep sensi- for that $10 million idea. This was a success story for Inter- tive technologies out of China or to use Firms should establish specific and minds’ employee entrepreneurship pro- traditional IP protection mechanisms are trackable rewards or bonuses, preferably gram, which proved its value in generat- all but futile. a set percentage of the savings or the in- ing a money-saving idea and in energizing The best approach, in the long term, is creased net, and should publicize suc- an employee to think more creatively to invest in improving local attitudes to- cess stories internally. Companies that about her job. This new attitude became ward IP by stimulating innovation within required employees to present business contagious at the firm. It can happen at Chinese partner firms and letting those cases for their ideas and offered substan- your company, too. partners participate in the gains that stem tial rewards saw the number of workable directly from locally generated knowledge. innovations rise significantly. (We’ve Gary Carini ([email protected]) is a The shared gains then become incentives found increases in the 20% to 40% professor of strategic management and the for protecting proprietary knowledge. It’s

hbr.org | April 2007 | Harvard Business Review 23 important to foster the creation of a net- of intellectual property, and competence adept at transforming the base minerals work of local partner firms that respect in using IP properly and effectively. If Chi- of low-quality feedback into pure gold. other companies’ choice to keep knowl- nese and foreign organizations continue Their behavior follows a few patterns that edge proprietary. Eventually, such a group to make a concerted effort, the IP envi- other managers can learn from. (See the may become the kernel of an entire busi- ronment in China will improve consider- exhibit “The Philosopher’s Stone.”) ness culture that respects IP. ably in the next ten years. Whether it’s personally offensive, un- Microsoft has followed this strategy, Georg von Krogh ([email protected]) is clear, incomplete, pointless, exaggerated, pledging $750 million to the Chinese a professor of strategic management and or nonactionable – and whether it comes State Development Planning Commis- innovation at ETH Zurich in Switzerland. from superiors or subordinates – low- sion for training engineers and for setting Stefan Haefliger (shaefl[email protected]) is quality feedback can be toxic if it’s taken up regional software colleges that de- a researcher and lecturer at ETH Zurich. to heart. It can be powerfully demotivat- velop talent and foster entrepreneurship. ing, damaging to managers’ confidence, Philips, which runs 15 Chinese R&D cen- Reprint F0704E and paralyzing. It can prompt managers ters employing more than 900 people, to waste time on the wrong issues by, uses an open-innovation strategy that in- SELF-MANAGEMENT for example, addressing weaknesses that volves extensive R&D collaboration with are unimportant in their current roles. suppliers, customers, and other partners. Find the Gold in Toxic Feedback almost seems to hypnotize The company cooperates closely with, some people. They become obsessed and transfers knowledge to and from, Feedback with it. Chinese companies, R&D centers, and by Fernando Bartolomé and John Weeks Other managers deal with low-quality universities in fields ranging from medical Managers need feedback, even if it’s bi- feedback by ignoring it or becoming technology to environmental products. ased, rude, off the mark, or irrelevant – defensive. Ignoring it can lead them to Philips also has established three IP acad- and much of it is. The trick is learning to dismiss all negative opinions about emies, which bring Chinese scholars to the extract and decode the meaningful stuff themselves; ultimately, they become Netherlands and send Dutch experts to and turn it into something usable. cut off from what people around them China in a program designed to exchange Through our work with hundreds of really think and feel. Defensiveness can knowledge about intellectual property. executives, we have uncovered a number be even more dangerous because it These and other efforts are starting of “alchemists”: rare individuals who are angers and alienates those who would to have an effect. In 2005, more than continued on page 26 4.8 million patent applications were filed in China, up nearly 35% from 2004, ac- The Philosopher’s Stone cording to the Chinese government. The Alchemists, who are skilled at turning toxic feedback into useful information, consistently U.S. Patent and Trademark Office reports react differently from most managers. that the patents granted to companies of Chinese origin nearly doubled between When the feedback is: Most managers: But alchemists: 1998 and 2005. Personally Allow anger and defensiveness to Listen carefully to the message while The result of all those patents is that offensive cloud their understanding managing their emotions Chinese corporations themselves are seeking to enforce intellectual property Provide explanations, which speakers Don’t immediately try to explain usually dismiss as excuses their actions rights. The Chinese company we mentioned that sued an American firm is Allow the emotional tone to escalate Maintain a neutral tone Netac, a Shenzhen-based maker of flash Inaccurate Reflexively question the feedback’s Postpone accuracy considerations drives. In 2006, it took PNY Technologies accuracy until later to court in the United States, claiming Focus on the feedback’s inaccuracies Focus on the accuracies that PNY had infringed a U.S. patent, thus hurting Netac in the $2 billion U.S. flash React to the literal meaning Look beyond the literal meaning drive market. to learn about people’s perceptions, assumptions, and attitudes Foreign corporations doing business in China should not abandon their attempts Irrelevant Focus on all of the feedback, pertinent Focus on just the information that to enforce intellectual property rights or not can help them deal with the problems in the short term. But in the long term, they face multinationals must help generate re- Unbalanced Lose touch with their own strengths Place negative feedback in the context spect for IP by working with Chinese (exaggerates the negative and so remain vulnerable to obsessing of prior positive feedback from others, and ignores the positive) partners to build technical and business about their weaknesses as well as generate their own internal positive feedback messages knowledge, an understanding of the value

24 Harvard Business Review | April 2007 | hbr.org MICHAEL SHEEHAN ON THE ART AND SCIENCE OF THE Q&A Stay on the Q&A Offensive

ooking for advice on speech making? Bookstore I see 75 PowerPoint slides, I ask,“What’s the story line?” shelves are groaning with it. But you’ll find pre- Inevitably, we can cut the presentation by a third. Then cious little help for the part of your talk that peo- we can strategize about how to use the Q&A as the sec- ple actually listen to: the Q&A. Michael Sheehan, ond tier of communication. How do you take advantage the renowned communications consultant who of the heightened attention in the Q&A to amplify, to drill worked with Bill Clinton throughout his presidency, says down, to extend your case? the speaker must have a strategy for the question and answer segment–it shouldn’t be just an afterthought. Here’s What if you know what an audience is going to ask his advice (in Q&A format, of course) for nailing the Q&A. but don’t want to answer? Stay on the offensive. Bless all the lawyers, they’re very How can you be strategic about the part of the speech nice people, but don’t let them be your speech coaches. that’s out of your control? They’ll admonish you,“Don’t say this, don’t say this, and You’re mistaken if you think you can wing it. CEOs tell whatever you do, don’t say this. Now, go get ’em!” My me,“I’m great in the Q&A; it’s the formal presentation approach is “Say this, say this, and whatever you do, say I’m not comfortable with.”They’ve held on to that notion this.” The energy you display sends its own message. I was because no staffer has been willing to level with them and struck by current Exxon Mobil chairman and CEO Rex say,“You’re really boring.”Or “You took eight minutes to Tillerson’s recent network interview during a time of sky- make a ten-second point.” rocketing gas prices. He looked as though he wanted to be You have to prepare–and in the right way. Executives there and explain things. Bill Gates often radiates an atti- tend to have a three-ring binder with 500 questions they tude in his Q&As that makes him seem to be thinking, might be asked. They take it home and study it like the “Oh, that reminds me of a big idea I wanted to share.” Baltimore Catechism. But the staff who created those That positive aggression is half the battle. binders rarely anticipates the real questions from the analysts (if that’s the audience) or the way they’ll be posed. Is there a perfect length for an answer? That inevitably puts the executive in a defensive position. No. He’s up there scratching his head, thinking,“Was that question 177 or more like question 491?” My approach is Pardon? to throw out the binder and replace it with an index card If all your answers are too short, it’ll sound like a deposi- that outlines a three- to four-point aggressive framework. tion, and you’ll get questions of increasing hostility. Make them too long, and it’ll sound like a filibuster. Vary your Is that a way of telling a speaker to stay on message? length. Then you can splurge on answering one question That’s a sore point with me. Next to “brand,” “message” in greater depth. is the most misunderstood word in corporate America. Businesspeople think their message is expressed by their Any takeaway advice? mission or value statements–all of which sound alike. (I Bottom line: “LIE.”“L”: Listen to each word of the question suspect there’s a company in Ann Arbor mass-producing rather than answering before the questioner finishes.“I”: these in needlepoint.) Or they think their message is a set Identify the opportunity to answer simply or more deeply of talking points to be repeated, like a doll whose string or to expand to adjacent arguments.“E”: Enhance your you pull and hear the same statements over and over. reply with something memorable, such as a specific exam- I start with developing a brief, linear story line for the ple, analogy, personal experience, or colorful phrase. presentation itself. I show them it’s possible to summarize – Julia Kirby even Hamlet in a paragraph (yes, it can be done). When Reprint F0704G Mark Finkenstaedt Mark

hbr.org | April 2007 | Harvard Business Review 25 give feedback and reinforces their nega- .edu) is an assistant professor of organiza- ﬂect products’ true quality takes ﬁve to tive views. tional behavior at Insead. seven years, on average, depending on Alchemists are able to avoid those many factors, including the type of prod- Reprint F0704F traps and learn from even the most nox- uct, the strength of its brand, and how ious or apparently useless comments. often it’s purchased. For example, con-

Their method has an emotional compo- M A R K E T I N G sumers in this study were relatively quick nent that enables them to be aware of to gauge changes correctly in the quality and manage their visceral reactions and Quality Is in the Eye of of toothpaste (3.9 years) compared with a cognitive component that allows them gauging changes in refrigerators (7.1 to extract the useful information intelli- the Beholder years) and tires (9.5 years). While people gently. They neither become obsessed by Debanjan Mitra and Peter N. Golder were quicker to sense quality declines with the feedback nor ignore it. The result As companies look to cut costs and widen than improvements, they noticed im- is that they distinguish the message from margins, product quality often suffers. You provements faster and declines more the medium and focus on the information might think that consumers acutely sense slowly in brands with good reputations. they need for the problems they face. changes in a product’s quality and vote This work has several strategic implica- They are able to look beyond the literal quickly and accordingly with their wallets. tions. First, managers should track and meaning and find valuable second- and But new research shows that their per- compare both actual and perceived qual- third-order data about people’s percep- ceptions often lag years behind the actual ity measures for their products to reveal tions, assumptions, and attitudes. They changes – for better and for worse. any gaps and determine how those gaps are able to focus on their strengths and We studied the relationship between might be changing. Second, they should place negative messages in the context actual and perceived quality for 241 prod- carefully integrate their marketing strat- of the positive feedback they have re- ucts in 46 categories over a period of 12 egy with their product quality strategy. ceived in the past. years, using Consumer Reports ratings to A quality improvement that will be profit- One such alchemist – we’ll call him gauge actual quality and Total Research’s able for one product may not be so for an- Tom– is the customer service director of annual surveys of more than 30,000 con- other if the perception gap will take a de- a large U.S.-based electronics firm. A sub- sumers to measure perceived quality. cade to close (indeed, other studies have ordinate repeatedly complained about When product quality changes – either found that it takes five to ten years for Tom’s apparent blindness to another di- improving or declining – consumer opin- quality improvements to translate into rect report’s poor performance, eventually ions about the product begin to shift higher profits). Finally, managers should telling him that “some people” consid- within that same year, but not by much. exploit asymmetries and lags in consum- ered his inaction to be a sign that he didn’t Most of the perception catch-up, in fact, ers’ perceptions of quality as they attack “have the guts to confront tough situa- happens after the second year following and defend in the marketplace. Knowing tions.” The feedback, Tom says, “was an the quality change. For consumers’ per- how long it will take perceptions to catch insult to my leadership.” Tom, in fact, was ceptions to fully adjust and accurately re- up to reality – for your own products and working behind the scenes to coach the continued on page 28 underperformer, who required special handling because of his connections to the board. “Despite all that,” Tom notes, “the feedback really helped me.” He says it taught him to examine more carefully the potentially negative effects of actions he didn’t take. Although he was upset by the accusations, Tom mastered his feel- ings and didn’t react defensively. The feedback contained important information about other people’s perceptions of his actions. He extracted the usable message and was able to change his behavior.

Fernando Bartolomé (fernando.bartolome @ie.edu) is a professor of management at the Instituto de Empresa Business School in Madrid and an adjunct professor of organizational behavior at Insead in Fontainebleau, France. John Weeks (john.weeks@insead

26 Harvard Business Review | April 2007 | hbr.org © 2007 United Parcel Service of America, Inc. UPS, the UPS brandmark, and the color brown are registered trademarks of United Parcel Service of America, Inc. All rights reserved. Avery, Marks-A-Lot, the Crown Cap Design, and all other Avery brands are trademarks of, and used here under license from, Avery Dennison Corporation. for those of your competitors – can help you time your competitive maneuvers. Debanjan Mitra ([email protected]ﬂ.edu) is an assistant professor of marketing at the University of Florida’s Warrington College of Business Administration in Gainesville. Peter N. Golder ([email protected]) is an associate professor of marketing at New York University’s Leonard N. Stern School of Business and a visiting professor at Peking University’s Guanghua School of Manage- ment in Beijing.

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LAW AND GOVERNANCE factors led to out-of-pocket payments: misstatements or omissions in their com- Reducing Directors’ an insolvent corporation, inadequate di- pany’s offering documents, outside direc- rectors’ and officers’ (D&O) liability insur- tors will want to be able to show that Legal Risk ance, and a violation of the disclosure they questioned management and the by Michael Klausner rules that govern a public offering. company’s auditor sufficiently to conclude The recent spate of shareholder lawsuits In nine of the ten oversight cases, the that the disclosures were complete and over option backdating has outside direc- corporation was insolvent. When officers accurate. At the time of the offering, di- tors reflecting, once again, about their or directors are held liable, their compa- rectors should apply this level of care not own liability risk. How vulnerable are they nies are as well, and the firms can and only to documents prepared for the cur- if, despite their honest oversight efforts, nearly always do pay for the full settle- rent offering but also to past U.S. Securi- management breaks the law? The good ment amount. Moreover, companies are ties and Exchange Commission filings news is that unless outside directors en- typically obligated to indemnify directors that are incorporated by reference into gage in self-dealing (which seems to have for their own legal fees and settlement the offering documents. happened in some backdating cases), payments, if they are required to make Second, outside directors should seek they are at far lower risk than most would them. But since firms can only make these independent advice on the terms of their imagine, and they can take steps to re- payments if they have the funds to do so, company’s D&O policy. Directors’ inter- duce their exposure even further. insolvency eliminates this key source of ests don’t always coincide with those of In an extensive study of outside direc- protection for directors. In seven of the management in this area. For example, tors’ liability risk, Bernard Black of the nine cases, the company either had a outside directors will want a policy with University of Texas at Austin School of D&O policy that had a low dollar limit on a “severability” provision: one that covers Law, Brian Cheffins of Cambridge Univer- coverage, a gap in coverage, or no cover- them in the event that an officer of the sity, and I found just 13 cases since age at all. And an eighth case involved a company has engaged in misconduct that 1980 – out of several thousand filed – in company whose insurer itself was insol- would otherwise allow the insurer to deny which outside directors made an out-of- vent. Finally, six of the oversight cases in- coverage to all directors and officers. pocket payment of any sort. In three of volved material misstatements or omis- Though outside directors can be very well them, there were no payments to the sions in documents related to a public protected through traditional D&O poli- plaintiffs, but the directors had to pay for offering of securities – as opposed to a cies that cover the officers, directors, and their own lawyers until the case was misstatement in an annual report, for the company itself, they may also want to dropped. Of the ten cases in which out- example. This is a key point, because the consider asking the firm to buy an inde- side directors did make payments to plain- rules concerning directors’ liability for pendent directors’ liability policy that ap- tiffs, all but one settled prior to trial – inaccurate statements are more strict plies only to them – especially if policy as shareholder suits nearly always do. in the context of a public offering than in prices drop. Three of the 13 cases involved self- other situations. dealing. But liability for personal law- There are two ways that outside direc- Michael Klausner ([email protected]) breaking isn’t what troubles most directors can reduce the already low likelihood is the Nancy and Charles Munger Professor tors. They are more worried that they’ll be of bearing personal liability. First, they of Business and a professor of law at Stan- held liable for failing to stop management should be aware that their risk increases ford Law School in California. This article is from breaking the law. In the ten cases we when their company makes a public offer- based on research reported in Stanford Law uncovered involving this concern, three ing of securities. If called to account for Review, vol. 58 (2006). Reprint F0704J

28 Harvard Business Review | April 2007 | hbr.org “Novartis drove my cancer into remission in 35 days. Now I’m going for my PhD.”

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www.us.novartis.com Deep Economy:The Wealth of Communities and the Durable Future Bill McKibben (Times Books, 2007) The Halo Effect…and the Eight Other Business The emerging science of happiness has Delusions That Deceive Managers sobering news for companies: Once people Phil Rosenzweig have a modest income, adding more does (Free Press, 2007) nothing for their level of satisfaction. In- If a company is making a lot of money and you ask its employees to rate its per- stead, family and friends make the differ- formance on other dimensions – talent management, customer orientation, inno- ence. As McKibben, a social critic, points vation, and so forth – they will give it high marks across the board. If a company out, the Western economic culture of is struggling financially, the ratings will be low across the board. This is due to “more is better” may have run its course. the “halo effect,” a term coined decades ago by psychologist Edward Thorndike to describe people’s tendency, having already formed It made sense in earlier centuries, when a conclusion about something’s merit, to attribute most people had few things and plenty of other qualities to it that are in line with that assess- companions. Now we have the opposite sit- ment. With regard to organizational performance, it uation – with global warming and resource isn’t just the workforce that falls into this trap. The depletion to boot. What’s a customer- halo effect also distorts the judgments of analysts centric company to do? Much of the book and journalists – and, in turn, the findings of manage- describes the growing movement of “buy- ment researchers. ing local”: consumers willingly accepting Phil Rosenzweig, a professor of strategy and inter- limited choices and multiple-stop shopping national management at IMD in Switzerland, explains because they crave connections to people this problem and others in The Halo Effect…and the Eight Other Business Delusions That Deceive Manag- nearby. The book has few details on big companies adapting to the trend toward ers and shows how these biases have undermined efforts to answer the “mother of all business questions”: What leads to high community. But it offers insights for execu- performance? That’s what Jim Collins famously examines in Good to Great and tives who see social responsibility not as a William Joyce and coauthors ponder in What Really Works. Rosenzweig shows, burden but as a strategic opportunity. for instance, why we can’t trust John Kotter and James Heskett on the matter of Hot Spots: Why Some Teams, how culture drives performance. They surveyed employees and found that suc- Workplaces, and Organizations Buzz cessful companies have strong cultures. That, says Rosenzweig, is a classic halo with Energy – and Others Don’t finding, as well as a probable muddling of cause and effect. Since people love Lynda Gratton being on winning teams, it may be that it’s the great financial results that are (Berrett-Koehler, 2007) creating positive vibes in hallways, rather than the reverse. The growing body of work on teams shows The Halo Effect is immensely readable and will find an audience among man- that the very characteristics that drive cre- agement practitioners – no small feat for a text on research method. Rosenzweig ativity and productivity undermine team- crafts his narrative well, getting readers on board with his argument before put- work. A trusting, harmonious team of like- ting their most beloved gurus in his crosshairs. By the end of the book, he’s get- minded people rarely accomplishes great ting away with borderline snarky comments he couldn’t have made in chapter things, but rough-edged, diverse groups one. He’s become a friend who rants but is right. To say that this is a book for managers, though, is stretching it. The author have trouble cooperating for long. Grat- says his goal is “to help managers become…less vulnerable to simplistic formu- ton, a longtime researcher in this area, las and quick-fix remedies.” That’s noble, but managers are plenty skeptical about concedes that managers cannot establish such claims. Indeed, when Rosenzweig decries the harm done by delusional re- effective teams on their own and that suc- search, he doesn’t put much heart into it. “Pursuing a dream of enduring great- cess usually depends on the pressures of ness may divert attention from the pressing need to win immediate battles,” he a crisis or other inspiring purpose. But notes. And “believing that performance is absolute can cause us to take our eye managers can lay the groundwork with a off rivals.” It’s all theoretically true – but just as clearly not happening. variety of steps, especially by promoting The people who are really being saved here are management scholars. For wide-ranging relationships among employ- the ones who want to do rigorous research but don’t know how, this is as ees – from meeting off-site to banning im- concise and memorable a text as they’ll get. For those who’d like to get away personal slide presentations. The book cov- with less, it’s fair warning. Enough of us will have read Rosenzweig to call ers too much ground to fully resolve the them on it. – Julia Kirby contradictions, but it makes a useful case. – John T. Landry

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Why Didn’t We Know?

A whistle-blower’s lawsuit alerts Galvatrens to deep ﬂaws in its system for uncovering misconduct. How should management and the board respond? by Ralph Hasson

T WAS 9:30 IN THE EVENING of what had been a very long Fri- day when the phone rang in Chip Brownlee’s home study. On the line was Arch Carter, the lead director of Galvatrens, the IHouston-based consumer products company that Chip had led as chairman and CEO for the past ten years. “I just got your voice mail,”Arch said.“The parts about a lawsuit and accusations that we manipulated our sales numbers certainly got my attention. What’s going on?” “At this point, I don’t know much,” Chip responded, “but I wanted to give you a heads-up. A former divisional sales manager has ﬁled a lawsuit against the company, charging he was wrongfully terminated because he tried to report an illegal scheme to inﬂate sales.” Chip had received a copy of the lawsuit that afternoon. As he’d read through the complaint, he’d gotten a whole new perspective on the multiple departures that had rocked Sales during the past four weeks. The plaintiff was Mike Fields, who had left Galvatrens three weeks earlier. He claimed that he’d come across a plan devised by Greg Wilson, another divisional sales manager. According to Mike, Greg had proposed shipping goods

HBR’s cases, which are ﬁctional, present common managerial dilemmas

Daniel Vasconcellos Daniel and offer concrete solutions from experts.

hbr.org | April 2007 | Harvard Business Review 33 HBR CASE STUDY | Why Didn’t We Know?

to a few of his bigger customers, billing “We don’t know at this point,” Chip The year before Galvatrens’s board them, and booking the sales – but with said. “At the very least, it looks like he hired Chip, it had reached an impasse a side agreement that they wouldn’t found out from Mike about Greg’s plan. with longtime CEO Walter Nikels over have to take ownership, could return We don’t even know yet whether Greg strategy and management style. Walter, the shipments at any time, and would followed through on it.” who had taken the helm when Galva- get a 2% discount on any goods they “What about this Greg guy?” Arch trens was a midsize firm, had run it in accepted and paid for in the following asked. an authoritarian, hierarchical fashion. quarter. The purpose of the channel- “He resigned about a month ago. He As the company grew larger and more stuffing scheme was to meet quarterly took a job in California. When Terry left complex, the board urged him to dele- sales targets and trigger bonuses, Mike so suddenly last week, I was beginning gate more and inject some fresh blood contended. to wonder if the turmoil in Sales was into the executive team, but he resisted. “So what’s the wrongful termination more than unhappy coincidence.” As a result, top-performing employees charge about?” Arch asked. “Oh, man,”Arch muttered. were defecting to the competition, and “Mike says he found out about the “That’s not all,” Chip added. “Mike Galvatrens recruiters were having a scheme by accident and, since he didn’t also says our channels for confidential hard time getting MBA students to sign know who else might be involved, con- reporting of misconduct don’t work up for interviews. The word was out tacted Harry about it,”Chip said. In the very well. He claims that, as a company, that Galvatrens was not the place to be. lawsuit, Mike claimed that he had left we made it easier for Terry to retaliate.” With earnings deteriorating, the directors finally decided they had to act. Wal- ter announced his plans to retire at the “Mike says our channels for confidential reporting of end of 1996, and Chip stepped right in. misconduct don’t work very well. He claims that, as Chip had lived up to his reputation. a company, we made it easier for Terry to retaliate.” Expanding beyond Galvatrens’s core businesses in home health care and personal beauty, he took the company into a confidential voice mail for Harry “How could that be? I thought we nutritional and wellness products, med- Mart, Galvatrens’s COO, asking to speak had everything in place,” Arch said. ical diagnostics and devices, and prod- with him about a matter of the utmost “Well, as I’m sure you’ll agree, the board ucts for infants and the home. Reve- urgency involving possible misconduct should know about this. Can you set nues, earnings, and the share price rose by a company manager. He said Harry something up?” steadily. never followed up with him and instead “I’m already working on it.” So that Chip could focus on develop- referred the matter to Mike’s boss, Terry ing strategy and building relationships Samples. Until a week ago, when he left with customers and business partners, Changing the Guard abruptly to take another job, Terry had he had sought a COO who would con- been the senior vice president of sales. The board, employees, and Wall Street centrate on the company’s day-to-day “Mike alleges that Terry subsequently had rejoiced when Chip agreed to be- operations. Harry Mart, whom Chip told him his performance was not up to come the chairman and CEO of Gal- had lured away from a competitor, had snuff and that he’d have to accept a de- vatrens in January 1997. He had previ- fit the bill nicely. Once on board, he motion and a transfer to Indianapolis ously led Paloreq, a pharmaceutical and modernized the management of Galva- if he wanted to stay with the company,” medical devices company, during a pe- trens’s supply chain, greatly improved Chip continued. “Mike says the demo- riod of tremendous growth, building manufacturing efficiency,and increased tion and transfer were in retaliation for businesses in medical devices and diag- capacity. exposing the channel-stuffing scheme– nostics and broadening the firm’s phar- In addition to dramatically expand- and Terry knew that Mike, as a divorced maceutical offerings through shrewd ing Galvatrens’s product portfolio, Chip father with joint custody of his kids, acquisitions. He had attracted a team of worked hard to change the company’s couldn’t leave town.” stellar managers and scientists through culture. Early in his tenure, he an- “Yikes! So Terry could have been in- the same sorts of “people”initiatives he nounced an ambitious initiative to volved in this?” would launch at Galvatrens. make Galvatrens an organization that excelled in listening to and learning Ralph Hasson ([email protected]) is a fellow at the University of Texas at Austin’s IC2 from its employees and its customers. Institute, a research organization devoted to the acceleration of wealth and job creation, where He combined the initiative with a diver- he focuses on corporate governance. He has helped a number of major U.S. corporations de- sity campaign in an effort to achieve sign systems for uncovering misconduct and managing conflict. He is a coauthor of Controlling preferred-employer status in the con- the Costs of Conflict (Jossey-Bass, 1998). sumer products industry. He replaced

34 Harvard Business Review | April 2007 | hbr.org the general counsel, a member of the the workplace – reforms Syd had cham- to go to their immediate supervisors old guard, with Sydney Baydown. She pioned at Paloreq. Chip gave Syd the whenever possible, it emphasized that had been Chip’s general counsel at go-ahead to have a consulting firm re- they could approach any manager at Paloreq, where she had played a central view the existing system. Following the any level for assistance. The policy in- role in a number of people initiatives consultants’ advice, Galvatrens insti- cluded a specific ban on retaliation. that had enhanced the company’s abil- tuted an open-door policy for raising The company also added a toll-free, ity to attract and retain talent. workplace concerns or problems, for- 24-hour hotline for reporting violations At her urging, Galvatrens took steps malizing rules and practices that some of the code of conduct, added an ethics to upgrade its procedures for uncover- operations had adopted on their own. officer to its ranks, and launched an ing misconduct and solving conflicts in While the policy encouraged employees ethics awareness campaign. The ethics

hbr.org | April 2007 | Harvard Business Review 35 HBR CASE STUDY | Why Didn’t We Know?

officer, who was responsible for ethics Getting the Lowdown We’ll try to delay discovery in the law- training and enforcement of the code of On Monday,three days after Mike’s lawsuit to give the investigators time to do conduct, reported to the general coun- suit had been filed, Chip opened a con- their job.” sel. After the passage of the Sarbanes- ference call with the eight directors he’d “This is Sheila,” interjected Sheila Oxley Act, the company mandated that been able to round up. Cruse, the chair of the board’s audit the ethics officer inform the board’s “Okay, I think we’re all here – or at committee and an accounting professor audit committee of any allegations of least everyone we could get on such at Valhalla University.“What should the financial wrongdoing or other possible short notice,” Chip said. “The negotia- board’s role in the investigation be? To code violations that involved company tions for the Aletha Products acquisi- whom should the investigators report? executives. tion are at a critical stage, and Harry Do we need a special committee for Two of the consultants’ recommen- couldn’t break away,”he said, referring something like this?” dations, however, were not adopted: to Galvatrens’s COO.“And Dan Richard- “We do need to sort that out,”replied proposals that the company should hire son is on a trek in the Himalayas.” Arch, the lead director, “but first let’s focus on how we’re going to respond to the lawsuit. How does battling with “How does battling with a guy who attempted to raise a guy who attempted to raise some se- some serious allegations square with our mission and rious allegations square with our mission and values? I see giant reputational values? I see giant reputational risks on every front here.” risks on every front here. If we don’t handle this well, we could hurt ourselves with employees, customers, and an ombudsman and that the board When Chip asked Syd to brief the shareholders.” should make a director or a committee group, she said, “We’ve confirmed that “Arch, this is Syd. We do have to re- of directors responsible for ethics over- Greg Wilson pitched a channel-stuffing spond to the lawsuit. Denying Mike’s sight. Focus groups and interviews had scheme to two of his biggest customers. claims while we also investigate and ne- revealed that many employees would However, we don’t know at this point gotiate is just standard procedure.” not feel comfortable raising concerns whether he got any further than that. The other directors acknowledged through formal management channels. “We’ve also determined that Mike’s that while Arch had raised some good Having a truly impartial ombudsman performance declined considerably in points, it still made sense to proceed as who reported to the CEO and had ac- his last ten months here,” she continued. Syd had outlined. They agreed to take cess to the board would make employ- “Records show that his team missed up the issue again in six weeks at a ees much more likely to come forward. sales targets by a growing amount dur- scheduled board meeting. By then, they The ombudsman would allow people to ing that period.” Syd noted that Mike should have more facts and would be in report issues anonymously or confiden- had been unreachable during business a better position to weigh their options. tially and could offer a range of infor- hours with increasing frequency and mal means for helping them resolve is- had missed important meetings. Prior Preventing a Repeat sues, the consultants said. to that period, though, he had been a Dale Willis, the senior vice president solid producer. In an initial phone con- The board met six weeks later at the of HR at the time and a holdover from versation with Galvatrens’s outside Houstonian. Located on sprawling, the Walter Nikels era, had opposed counsel, Mike’s lawyer hadn’t disputed heavily wooded grounds in the center both of these recommendations. Any- the change in performance but claimed of Houston, the hotel and spa complex thing that operated outside manage- it was due to a nasty custody fight be- was a popular choice for off-site Galva- ment’s chain of command, he argued, tween Mike and his ex-wife. Terry’s re- trens meetings. Arch and Chip stood might let serious problems slip through action to the slide in performance had outside the conference room as the di- the cracks and was therefore a recipe been brutal, contributing to Mike’s rectors filed in, complaining about for disaster. With some reservations, emotional stress, the lawyer said. Houston’s legendary humidity. Dan Chip agreed not to create the ombuds- “Given this information, we intend Richardson, a software entrepreneur man role. to file a response to Mike’s lawsuit, and a friend of Chip’s from the Paloreq Chip also acceded to Dale’s request denying his charges of wrongful termi- days, was back from his trek in the Hi- to delay training related to the new nation,” Syd said. “We’re also having malayas; he was sunburned and notice- open-door policy until HR had com- an independent investigation of the ably leaner. But Harry, the COO, was pleted existing programs. Then other channel-stuffing allegations. Chip has absent again – this time because of priorities arose, and the training initia- asked me to be the liaison between the continuing problems at factories dam- tive was forgotten. outside investigators and the board. aged by hurricanes Katrina and Rita,

36 Harvard Business Review | April 2007 | hbr.org the ongoing merger talks, and a labor “Is it realistic to expect Harry to deal Sheila wholeheartedly agreed.“Once dispute. with something like this?” Arch asked. we got into this thing, it seemed clear to The independent investigators had “After all, he’s the guy responsible for me that we as a board didn’t know what reported to the board the previous week. making the trains run on time – it’s not our role was supposed to be,”she said. They found that the customers had sim- like he’s lying around drinking cocktails “And I certainly took it for granted that ply ignored Greg Wilson’s channel- on the beach.” Chip and Syd had established the chan- stuffing proposal. It appeared that Terry Sheila shook her head in disagree- nels for anonymous reporting that the had forced Greg out when he learned ment.“I know we don’t expect Harry to audit committee – and the full board, about the plan, but he’d allowed Greg personally investigate and resolve com- for that matter – needs in order to pro- to resign and hadn’t told anyone else plaints that come directly to him, but vide oversight.” about the scheme. Greg had not re- we do expect him to follow up and refer “That’s on us,” Arch said. “It’s got to sponded when the investigators tried a problem like this one to the ethics of- show up in our self-evaluation this year. to contact him. Terry’s only reply had ficer. He didn’t do that.” And I think we have to take several as- been a terse note, delivered through his “A lot of this is at my doorstep,”Chip pects of this into account in evaluating lawyer, saying that Terry was reviewing said.“I’ve kept Harry’s plate full. He re- Chip and deciding what we should ask their questions and would respond ap- alizes now that he should’ve given this of him in the future. After we put all propriately. The investigators had also more attention. I’ve asked Syd to think these procedures in place, why did only confirmed the decline in Mike’s perfor- about how we can ensure that someone guy come forward–and he ends up mance, although Terry’s role was still thing like this doesn’t fall through the suing us? Why did Chip keep Dale murky. What was clear was that Mike cracks again.” Willis on so long and let him get in the had done his best to raise the alarm Arch and Sheila exchanged skeptical way of some of the very changes we about Greg’s scheme. The judge had al- looks. Later, when they were walking to brought Chip in to make? When the lowed discovery to begin, and the com- their cars, they agreed to meet for new employee survey comes out, I’ll be pany had initiated settlement discus- breakfast the next morning at the Four curious to see if we’re really improving sions with Mike. Seasons. morale – especially in Sales, where “For the life of me, I still do not un- we’ve had so much turnover.” derstand why we didn’t hear about all Sheila hesitated. “I agree with you Taking Charge this sooner and why no one except about Chip, but the person who worries Mike Fields came forward,” said Dan, When Arch walked into the hotel res- me the most is Harry. I know you’re a who served on the board’s corporate taurant at 7 am, the summer sunlight big fan of his, but I am troubled by his governance committee.“It’s disappoint- was pouring into the beautiful room, failure to respond appropriately when ing enough that Terry didn’t report this, which was elegantly set with white Mike Fields called him. Harry may be but I can’t help wondering if others in Sales knew about it, no matter what the report says. And why didn’t we hear “After we put all these procedures in place, why did only about it from our customers? It doesn’t one guy come forward – and he ends up suing us?” seem like we have a handle on these kinds of problems.” Syd pointed out that extensive re- linens and flowers. It was Arch’s favorite technically strong, but he has got to be search over the years had demonstrated place for breakfast meetings. He spot- able to take care of people, and he’s just that, in many cases, employees who see ted Sheila standing at the buffet table, no good at it. I think we have to look at misconduct in their organizations don’t admiring the glistening berries. He the consequences for him as well as new come forward.“And in our own defense, joined her. expectations for Chip.” Dan, we’ve come a long way since Chip After they sat down at their table and “I’m thinking we’ll need a full day,” took over,”she added. the waiter poured them coffee, they Arch suggested. “That may be the case,” Sheila said, compared reactions to the meeting the Sheila nodded. “Let’s get the ball “but clearly the good things we’ve al- day before. rolling.” ready put in place – the open-door pol- “I’m thinking that we need a board icy and the code of conduct – aren’t retreat to deal with this situation,”Arch How should Galvatrens strengthen working. Harry didn’t take the original said. “We’ve got a lot to chew on. We its system for uncovering mis- complaint seriously and just passed the should look at ourselves first. I don’t feel conduct – and what roles should the buck. Nothing came in through the hot- we’ve met our oversight responsibili- board and management play? Four line. And no one contacted the ethics ties. We were not ready for something commentators offer expert advice, officer or HR.” like this.” beginning on page 40.

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HIS CASE STUDY HIGHLIGHTS a major blower complaints and how they have handled T danger. Because boards of directors are Mike Fields’s lawsuit. under so much regulatory and legal pressure Management should have two main priori- today, they can lose sight of the need for an ties. First, the CEO must make sure that the appropriate boundary between their responsi- COO never again ignores a complaint of this bilities and those of management. A board type. Chip has to tell Harry: “Next time there’s crosses this boundary when it acts as if it has a whistle-blower event, you must follow the to solve a problem itself rather than hold man- procedures outlined by corporate policy, re- agement accountable for the solution. gardless of what your workload is like. You Boards should demand that senior manag- must set the proper example for the organi- Stephen R. Hardis is the nonexecutive chairman of ers have plans for complying with rules like zation.” Second, the senior managers need to Marsh & McLennan, a former those imposed by Sarbanes-Oxley; for meet- decide how they should deal with the lawsuit chairman and chief executive ing moral obligations such as fostering ethical ﬁled by Mike, who is a genuine whistle-blower. of the Eaton Corporation in behavior and creating a diverse workplace; and Whether or not Terry was justiﬁed in punishing Cleveland, Ohio, and a board for achieving business objectives that are criti- Mike for his decline in performance, Mike will member of several major cal to success in highly competitive markets – probably have to be given some sort of com- corporations. new-product development, productivity im- pensation, because the whole affair was han- provements, global expansion, and so on. But dled so badly. But again, these are manage- if a board is going to hold management ac- ment issues. The board should monitor how countable, the board should not take on the they are handled, but it should not get directly creation or the execution of such policies. involved. Chip Brownlee, the CEO of Galvatrens, and The independent directors’ concerns about Syd Baydown, the general counsel, are clearly the COO are understandable. Today, a com-

The board should monitor how management issues are handled, but it should not get directly involved.

committed to reform and best business prac- pany cannot have any senior executive who is tices and have explicitly accepted responsibil- not fully committed to ethical practices, even ity for dealing with the situation at hand. There if he generates a great deal of shareholder is no evidence of a pervasive problem that value. The consequences of improper behavior would raise fundamental questions about their can be catastrophic. However, by calling for an values or the company’s ethical culture. The all-day retreat without consulting the CEO, channel-stufﬁng scheme was limited in scope lead director Arch Carter has crossed the line and never got off the ground. Greg Wilson, its between his responsibilities and manage- architect, and his boss, Terry Samples, who ment’s. An all-day retreat is an extraordinary failed to disclose the scheme, are no longer event – especially if the outside directors are with the company. Although Harry Mart, the the only participants. It risks causing employ- COO, and Terry, the departed senior vice pres- ees and other stakeholders to wonder whether ident of sales, didn’t behave appropriately, their the CEO has the board’s conﬁdence. actions appear to have been isolated man- Instead of holding the retreat, the directors agement lapses rather than patterns of bad should privately tell Chip, “We want to be as- behavior. sured that Harry will abide by our code of con- The independent directors should not inter- duct in the future, and we want to know what fere in management issues that the CEO you are going to do if he doesn’t.” The directors clearly has taken responsibility for addressing. should also make it clear that they will support Instead, the board should evaluate how the the CEO’s actions to reinforce compliance with CEO and the general counsel have dealt with ethical practices, no matter what effect this

the breakdown of policies regarding whistle- may have on corporate proﬁts. Wray Wendy

40 Harvard Business Review | April 2007 | hbr.org ALVATRENS’S BOARD of directors – not Mike to be rewarded for coming forward. Per- G management–should be the ultimate au- haps he could be offered the option of rejoin- thority that oversees ethics. Toward that end, ing the company, with reduced hours and com- the board should move aggressively to make pensation until his personal problems are three things clear to everyone at the company: resolved. (1) ethics matter, (2) every employee and man- Even if Galvatrens reaches a settlement ager is expected to comply with the company’s with Mike, the company should press ahead code of conduct, and (3) the board is in charge with the independent investigation of the of ethics oversight. Providing oversight is one channel-stuffing scheme. A thorough investi- Hal Shear of a corporate board’s primary duties, along gation will ensure that the full dimensions of (hals@boardassets .com) is the managing director with providing strategic guidance and recruit- the problem are known, identify any flaws in of Board Assets, a firm that ing, evaluating, and compensating the CEO. the firm’s procedures for uncovering miscon- provides governance expertise How Galvatrens’s board should oversee duct, and ensure that control systems are in to boards and CEOs in the ethics was not spelled out clearly enough. Ei- place and in use. Under no circumstances, how- United States, Europe, the ther a special committee for ethics or the audit ever, should the general counsel or one of her Middle East, and Latin Amer- committee should have unambiguous author- subordinates be the point person for the inves- ica; he is based in Annapolis, ity. Galvatrens’s ethics officer should report di- tigation. The inherent conflicts of interest are Maryland. Shear is also a pro- rectly to the chairperson of that committee. Al- just too great. The board should oversee the in- fessor of management and cor- though the ethics officer is an employee of the vestigation. Under the Sarbanes-Oxley Act and porate governance at Hult In- company, the committee chairperson and a U.S. stock exchange listing standards, boards ternational Business School in member of management (normally the CFO or can hire outside counsel or advisers to lead such Cambridge, Massachusetts. the general counsel) should jointly hire the investigations without management’s approval. ethics officer, assess his performance, and Clearly, Chip Brownlee, Harry Mart, and determine his compensation. In addition, the Terry Samples dropped the ball. Chip should anonymous hotline function should report di- not have allowed Dale Willis, the head of HR, rectly to the committee to assure employees to stall the training initiative; a program for who know of wrongdoing that they have noth- teaching managers and employees how to ing to fear if they come forward and that the apply the company’s policies for raising work- problems they disclose will be addressed. place concerns should be carried out as soon Galvatrens should consider joining the grow- as possible. Harry was at fault for not immedi- ing number of companies that are outsourcing ately ensuring that the tip about the channel- their hotlines to services like Syrus Global’s stuffing scheme was handled appropriately. Listen Up, Global Compliance’s AlertLine, and And Terry should have informed Chip of the

Galvatrens’s board of directors – not management – should be the ultimate authority that oversees ethics.

Ceridian Ethics Hotline. Such services have re- scheme and of Mike’s role in exposing it–even sponders who are trained to ﬁlter issues that if Mike deserved punishment for inadequate need board-level attention from those that be- performance. long in management’s bailiwick. A service can While some may blame the board for not also provide the board with a regular, compre- playing a stronger and more active role in over- hensive report that summarizes the informa- sight, the collective actions of Chip, Harry, and tion submitted to the hotline while preserving Terry were clearly failures in execution. Moving employee anonymity. forward, the board should communicate to se- Now let’s turn to Mike Fields. The whistle- nior managers that it considers an active, com- blowing actions he took need to be valued, not prehensive ethics program to be a priority–and demeaned. Accordingly, the board should that their execution in this area will affect their make it clear to management that it wants bonuses.

hbr.org | April 2007 | Harvard Business Review 41 HBR CASE COMMENTARY | How Should Galvatrens Strengthen Its System for Uncovering Misconduct?

OW CAN THE MANAGERS of an organiza- confidants – ultimately, they must share infor- H tion learn about serious problems? In mation about those who come to them. This many ways, but no one way will work by itself. is why Galvatrens needs an ombudsperson That’s because people are afraid to come for- who follows the standards of practice devel- ward to report unacceptable behavior, for a oped by the International Ombudsman Associ- number of different reasons. ation (posted at www.ombudsassociation.org) Mainly, they fear losing relationships inside and reports to the board of directors or to the and outside the company. In addition, they hes- CEO, with access to the board. That individual itate to report wrongdoing if they lack conclu- would be designated as an independent, neu- sive proof – people hate the “his word against tral, confidential, and informal point of contact Mary Rowe has been an ombudsperson for the Massachu- mine” scenario. They worry that nothing will be for all employees and managers. She would setts Institute of Technology in done (especially if there is no conclusive help bring any concerns to light – especially Cambridge for many years. proof). And even if there is a no-retaliation pol- anonymous concerns about unethical or illegal icy, people fear retaliation. At a time when bul- behavior – while maintaining confidentiality. lying is common, most believe that an organi- Ombudsmen who adhere to the IOA stan- zation can at best prevent overt retaliation by dards do not accept notice for the organiza- managers. They do not believe it can prevent tion. (This means that people who talk with covert retaliation: a weak reference, a so-so them about suspected wrongdoing are not in performance review, slashed tires, shunning any way “registering” complaints. If a visitor to or even injury by coworkers, or an apparently the ombuds office is willing to make the orga- legal layoff. nization aware of an apparent problem, that Most managers and employees lack the person can be referred to the appropriate man- skills to handle ethical problems that arise at ager or presented with other options.) Nor do ombudsmen investigate formally. Instead, they An ombudsman would help bring to light serve as stepping-stones for people who need any concerns about unethical or illegal to discuss their options for coming forward in a safe fashion or anonymously. Ombudsmen behavior while maintaining confidentiality. keep statistics (but no case records) about concerns that come in. They hold frequent discus- work and have no idea how to report or discuss sions with managers about new concerns, ex- unacceptable behavior. So an organization ceptional problems, and new and old tensions, needs several paths for bringing information to patterns, and trends. the surface, ranging from formal compliance Had Galvatrens hired an ombudsperson, processes to informal coaching sessions and she might have helped Mike Fields make an ef- help with problem resolution. fective presentation to the COO. She might The most important channel for bringing have helped the exhausted COO understand problems out into the open is line manage- that he could not ignore Mike. And she might ment. Galvatrens did well when it brought in an have helped Mike deal with his decline in per- ethical CEO and established a code of con- formance by referring him to an employee as- duct. However, it also needed the CEO and se- sistance program. She would have had easy nior managers to talk regularly and openly with access to the audit committee, the ethics of- people throughout the company about in- fice, the general counsel, HR, and the CEO, tegrity and to insist on training all employees and could have helped Mike get to any of them so they know the code and the various options if other channels failed. for resolving serious issues. Ombudsmen are no substitute for line man- Competent line managers, as well as ethics agement or compliance offices. They are officers and HR staff, usually field lots of con- checks and balances, fail-safes, backups and cerns and deal well with many issues. (Hot- supports, problem solvers, and finders of op- lines, by contrast, generally receive few calls.) tions – for employees, line managers, compli- But these people are often not seen as safe ance officers, or even the board.

42 Harvard Business Review | April 2007 | hbr.org EFORE OUR FIRM invests in a company, should spend more time on fixing what they’ve B we consider its governance, because we got before they do another deal. have found a correlation between governance I also have questions about the CEO. It and shareholder returns. If we learned that sounds as though Chip prefers to focus on a former employee had accused the company strategic, big-picture issues and, as a result, of forcing him out for blowing the whistle on wasn’t paying enough attention to administra- a scheme to inflate revenues, that would be a tive aspects of the business. When Chip al- huge red flag for us. lowed the HR guy to stonewall critical parts of The first thing that struck me about the the initiative to surface and resolve ethical is- Galvatrens story was the lack of a way for sues, something was wrong. It should never whistle-blowers to communicate directly with have reached the point of litigation. independent directors. I know firsthand the im- Especially given Chip’s and Harry’s perfor- Jackson W. Robinson portance of having such a mechanism in place mance, holding a special board meeting is def- ([email protected]) is the founder and president for all stakeholders. Before I became the non- initely the right thing to do. There should first of Winslow Management, a executive chairman of Spartech – while I was be an executive session of the independent di- Boston-based investment man- a director–I received an anonymous letter from rectors to ensure that all of them are fully ap- agement firm that specializes someone who appeared to be an employee, prised of the situation. That should be followed in “green” companies. He is accusing an executive of a serious conflict of by a session with the CEO and possibly other also the nonexecutive chair- interest. This person contacted me because executives that focuses on management’s man of Spartech, a manufac- he feared retribution if he notified someone plans for fixing the system. When the board turer of plastics and engineered in management. That communication led me awards the next round of executive bonuses, it plastic products based in Clay- to call a special meeting of the independent di- should take into account the shortcomings ton, Missouri. rectors and then a session of the full board to that the lawsuit exposed and the CEO’s and talk about the accusation and how we should COO’s progress in remedying them. go about addressing it. In the course of our in- Finally, Galvatrens should try to reach a rea- vestigation, we discovered other issues, which sonable out-of-court settlement with Mike resulted in a clarification of the company’s dis- Fields. I strongly agree with Arch Carter, the closure policies. The executive eventually left lead director, who thought that the company’s Spartech. values and concerns about its reputation Another thing that surprised me about the should heavily influence its response to the Galvatrens case study was that the COO, lawsuit. The company could offer Mike his old

If the company does nothing to change the perception that Mike was terminated for whistle-blowing, why would anyone else who spotted wrongdoing try to expose it?

Harry Mart, didn’t participate in the board dis- job or one equivalent to it. I doubt he would cussions about the lawsuit. Questionable or want to return, but the offer would still send a illegal schemes to boost revenue and issues powerful message to employees, all of whom that affect employee morale are critically im- probably think he was terminated because he portant. They concern the operation of the blew the whistle. If the company does nothing company, which is Harry’s responsibility. If he to change that perception, why would anyone isn’t making time for these kinds of issues, else who spotted possible wrongdoing try to maybe he’s not the right guy for the job. I don’t expose it? accept Chip Brownlee’s excuses for him – that he has had an exceptionally heavy workload. Reprint R0704A We’re told that one reason the COO gave the Reprint Case only R0704X complaint short shrift is that he was out trying Reprint Commentary only R0704Z to acquire another company. Chip and Harry To order, see page 143.

hbr.org | April 2007 | Harvard Business Review 43 INNOVATIONS FOR THE

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Preparing for the Perfect Product Launch

A failure of execution forced Steelcase to ramp up the critical thinking that goes into product development. by James P. Hackett

CARRY AROUND TWO LISTS in my head. On one are projects I think are going pretty well. On the other are projects I wish were going better or could have gone better. The latter list is Idistressing for, like most CEOs, I have always believed that performance is everything. We may not always execute perfectly, but since the market is so competitive and the cost of failure so high, both my training and my experience tell me, we must get as close as possible every time out. Shortly after I became CEO of Steelcase in 1994, we launched two products. These experiences led me to deeply contemplate the difference between good and poor execution.In both cases,the technology was revolutionary, the vision was innovative, the market was ready. We had in place solid designs, goals, budgets, time lines, and what we thought were all the other necessities

Chris Howell Chris for proper execution. One product, the Leap ofﬁce chair, was an

hbr.org | April 2007 | Harvard Business Review 45 FIRST PERSON | Preparing for the Perfect Product Launch

immediate home run. Launched after ure. One area of research that caught for one of the classic cognitive traps – a lengthy R&D process, the chair had a my fancy was complexity theory. At the what Harvard Business School professor patented technology that could be ex- risk of oversimplifying the influence Max Bazerman calls “bounded aware- tended to future applications in the au- this very abstract stream of research ness.”In the January 2006 HBR article tomotive and airline industries. had for me, complexity theory inter- “Decisions Without Blinders,” he ex- Mom would have been proud. ested me because it taught me how to plains that cognitive blinders “prevent The other product, called Pathways, look for patterns in systems or groups a person from seeing, seeking, using, was an office cubicle system that ran that might not seem immediately evi- or sharing highly relevant, easily acces- into trouble from the outset. Two differ- dent. The theory also exposed an in- sible, and readily perceivable infor- ent R&D groups feuded over funda- triguing paradox: The variables that mation during the decision-making mental ideas. Misunderstandings arose over its design, the size of the capital investment needed to build it, and its When people told me the one thing they could use more of impact on our dealer organizations. was time, what they were really saying was that they needed We even had a product recall involving its panel surfaces. The concept was a more time to think. breakthrough, but the development process was a breakdown. Mom would not have been proud. allow an entity to rise to a level of dom- process.”In rushing into a business plan We fixed Pathways, and the product inance in a certain context tend to trap before all the facts were in, we had cre- line is flourishing today.Still, it troubled it later, preventing it from competing ated hypotheses and started seeking to me that we as an organization were ca- successfully in a future context. confirm them, rather than first discover- pable of missing as well as hitting the What, I asked myself, were the pat- ing what the correct idea should be. mark. I believed that we would either terns and attributes I was missing, the I started to sense that we needed to get better at what we do, as my old col- ones embedded in my good and bad inject a new, deeper discipline into our lege football coach, Bo Schembechler, lists? It seemed to me that we, as a com- development work at its very first stage. used to say, or we would get worse – pany,had unwittingly fallen into a com- I now knew what I wanted to attack. We we would not stay the same. And if we mon trap. We expected things to go well would have to change from a merely were going to get better, I had to lead simply because they usually did. We “doing” culture to a “think-before- the way. Only by dealing directly with were not alert enough to the things that doing” culture. Here’s what we did. the root of the execution problem could could now go wrong with our original we achieve the kind of performance we approach or to what would be required Thinking About Health Care hoped for. for us to continue to dominate in the future. Because our innovation process In business development, people start worked 90% of the time, we were not with a business plan framework, which Closing the Doing-Thinking Gap prepared for the 10% of the time when seems sensible enough. But in reality it If you ask most people what it means to it could falter. tends to narrow their thinking at the execute well, they usually say “getting In pondering these things, I under- outset, setting in place those cognitive things done.”Boards tell CEOs that they stood that the real moment of failure blinders. I decided to develop a method- want us to get things done. We tell our occurred long before the first R&D ology that could be used to get around managers to get things done, and they teams ever set to work, when the idea of that problem by teaching Steelcase make sure everyone who reports to the new project was first formed. Sim- managers to combine execution with them gets more things done. Compa- ply put, we made the same mistake that deep thinking. nies celebrate their “can-do” culture. most organizations make when they Critical thinking, Steelcase style, has Later on, after the errors show up, we undertake an ambitious project – hav- four phases. In the first phase of a proj- all wish we had been more rigorous in ing come up with a fine notion, we put ect or product development, long be- scouting out the territory before we all our energy into execution before fore we ever set about getting the right sprinted down the execution path. we had thought the idea through. answer, we think deeply about the prob- I began reading widely and thinking When people told me that the one lem or opportunity we’re after. In the deeply about the causes of systems fail- thing they could use more of was time, second phase, we develop a point of what they were really saying was that view – a specific approach to the prob- James P. Hackett ([email protected]) they needed more time to think. lem. In the third phase, we work out the is the president and CEO of Steelcase, in What’s more, by moving into execu- launch strategy, and in the final phase, Grand Rapids, Michigan. tion too early, we had set ourselves up we implement the strategy.

46 Harvard Business Review | April 2007 | hbr.org The process is a systematic way to direct team- brainstorming efforts. It makes sure our teams cast a wide net to thoroughly research a topic, that they make the right connections, and that they synthe- size each individual’s thinking into a coherent whole. Along the way, teams discover patterns that might not otherwise have been apparent, and they emerge with a clear direction for execution. In the all-important think phase, team members first consider a specific company project or problem individually. They read as much as possible about the topic so that they become educated about its essence. Then they must make sure they ask the right questions about the matter. A great deal of time is spent on this; as Tim Brown, CEO of our subsidiary firm Ideo is wont to plies desks, chairs, and other materials Relieved from nearly all other daily say,“Most innovation comes from being for doctors’ offices, we had never been responsibilities, each team member enable to ask the right questions.” Team a player in the clinical side of the tered the think phase with the stance of members also talk to experts, leverag- health care industry.) Team members a naive beginner (a concept borrowed ing a vast network of connections to immersed themselves in such basic from The Ten Faces of Innovation by speak with the smartest people in the questions as: What are the current and Ideo design guru Tom Kelley). The ob- world about the related issues.Through- long-term trends in clinical practice? ject was not to come in as an advocate out, they document the depth and Who makes and influences buying deci- of a given position or to defend a pre- breadth of their research to assemble sions in the health care industry? What conceived notion based on anyone’s information into a sensible whole. Doc- would the competition be if we moved experience or expertise. Instead, each umentation is critical; the kinesthetic into this new market? person had to learn everything possible work cements their thinking and cre- We could have followed common about the practicalities and problems ates tangible evidence of their efforts, practice by hiring an outside industry of patient-site health care delivery. This which is important to people proud of expert to aid us in answering such ques- required team members to do what a their ability to get things done. tions. But an outsider would not have good investigative journalist does–read Consider the example of one small, helped us generate the kind of insights articles, books, research reports, ana- diverse team, consisting of individuals we required. We needed to find our own lysts’ reports, and so on, dividing re- from general management, marketing, patterns and develop a very deep inter- search areas according to their skill sets, research, and finance, working under nal understanding so we could form interests, and networks. the auspices of a mentor and a sponsor a cohesive, uniquely Steelcase, point of For example, they delved into the from senior management. In November view. Only by immersing ourselves in all causes of and cures for medical errors 2004, this team began exploring how the available knowledge about health and even looked at the impact of the the company could expand beyond care settings could we begin to see sub- way surgery lights are hung in operating the doctor’s office into patient exami- tle patterns that could help the com- rooms. They looked at staff-to-patient nation rooms. (Although Steelcase sup- pany develop a breakthrough product. ratios and investigated population shifts

hbr.org | April 2007 | Harvard Business Review 47 FIRST PERSON | Preparing for the Perfect Product Launch

in various hospitals around the country. They learned about medical-purchasing The Rules processes and even about medicine delivery protocols. Their humble notion The purpose of Steelcase’s critical-thinking course is to teach managers how to bal- was to know more than anyone else ance doing with thinking. The course curriculum lays out general rules for each of who was thinking about the same issue. the four phases: “think,” “point of view,” “plan to implement,” and “implement.” Walking into their project room, you felt as if you were surrounded by one of Think the most intense studies of health care Ponder. Consider the problem, issue, or project in question deeply on your own. facilities anywhere in the world. Compare your thoughts with those of the other team members and listen open- After team members had absorbed mindedly to their perspectives. Question and challenge one another collegially. the literature, they began networking Query. Make sure you and your team ask the right questions about the problem. with experts to see whether they could Spend as much time as you need to arrive at these. confirm the patterns they were begin- Read and research. Divide the topic among team members, read and research as ning to see in the way medical profes- much as possible about it, then compare notes and educate one another. Look for sionals and patients interacted. The In- patterns. stitute for the Future, for example, Network. Tap into the company’s vast network of connections to talk to the concurred that the doctor-patient inter- smartest people in the world about the related issues. Verify patterns. action would be enhanced by technolo- Document. Write down what you discover in a document summarizing the gies Steelcase had already developed research, conclusions, and possible options. through its PolyVision division. Our studies had shown that a doctor and pa- Set the Point of View tient could view and discuss information together using our PolyVision dig- Conduct a collegial, open-minded discussion about the options generated in the ital board, which would not only display think phase. Be wary of one person gaining influence over the group’s decisions. At the digital information but also allow the same time, do not aim for compromise but rather for the emergence of a sin- either the doctor or the patient to an- gle, intelligent direction. notate the information and retrieve it Determine the direction. As a team, be able to state the mission simply, and de- later over the Internet. fine what constitutes success. In February 2005, with the patterns Assign an owner for the point of view. The person who holds the point of view confirmed, the team felt secure in its is typically the one who has P&L responsibility for the project; in cases of disagree- knowledge and confident in its conclu- ment, though, the group can designate that the individual be a supervisor or even sion: We could indeed design a differ- the CEO. entiated offering for the health care Stay the course. Once set, the point of view can’t change in the absence of new market. Now the team was ready for evidence. Commitment to a course must be clear; further discussion, backtracking, the next step. and second-guessing must cease.

Plan Implementation The Road to Execution

Clarify, reﬁne. With the direction set, make the mission understandable to every- As the think phase came to a close, the one outside the team who will be involved in the project. team was ready to embark on the three Consider all stakeholders in the effort and determine what part they will play in remaining phases. the implementation process. Point of view. Roger Enrico, former Practice, practice, practice so everyone will perform perfectly at implementation. CEO of PepsiCo, once declared that “Leadership is having a point of view.” Implement To me, a point of view is a conviction and a concrete mission. The point of Select a spokesperson so only one voice comes from the company on this view is not only more believable after initiative. a thorough think phase, but the cho- Play to win. Do not allow half measures. sen option is less controversial. The Celebrate the victory. People thrive when they know they are making a difference. point of view also assures critical clo- Give credit liberally where credit is due. sure of debate. In the point-of-view phase, the health care–development team held collegial

48 Harvard Business Review | April 2007 | hbr.org discussions about the options for ap- portunity to deliver customized work handling drills; if the effort is worth our proaching this new market that were environments for the health care mar- collective time and we are playing to generated in the think phase. They ketplace. In March, with that go-ahead, win, then we need to practice to per- wanted to make sure everyone had the team was ready to move to the last form. Practice, in this case, meant train- thoroughly considered and understood two phases. ing everyone from the line workers who all the possible variables involved. Plan to implement. In this stage, in had to adapt their production protocols Their goal in formulating a point of which the team planned the business view was not to reach consensus; the launch, members clarified and refined The bickering led to team didn’t want to dilute what it had the mission statement so that all the learned. Consensus is often about find- people involved could understand how much mistrust.What ing middle ground because people want it applied to them. The team then put we had was your to feel good about their colleagues and together a business plan and a time line proverbial “goat rodeo.” maintain friendly relations. This doesn’t of deliverables. necessarily lead to the best decision, Before launching the new health which was what this team was after. care brand, everyone who would be in- to the sales force and order manage- In the end, what they decided was volved practiced the rollout. No one ment people to the board members this: We would move deeper into the needs to be sold on the benefits of prac- who would be asked about the product health care market by launching a tice, but few organizations ever create line once it went public. new health care brand. It would expand the conditions that allow for it. By Taking the time to teach implemen- our current effort “on carpet” – work building practice into our formal pro- tation is the epitome of respect in our areas in hospitals that are like the of- cess, we make sure everyone is given organization. When implementation is fice spaces we already serve (nurses the time and resources they need to poor, people are taken by surprise. But stations, for instance) – but we would do it and do it thoroughly. As I like to by making practice integral to our also expand “off carpet”–to entirely dif- say, even the basketball star Shaquille plan-to-implement phase, we have cre- ferent areas of the hospital (patients’ O’Neal starts his preseason with ball- ated a unifying, aligning experience rooms, examining rooms, café lounges). Housed in a separate business unit, the brand would draw on technology and products we already had, as well as new products we would manufacture and new customizing services we would COLLABORATES provide. Once the team had developed the to gain new perspectives point of view, the next task was to across continents present it to senior management. Two rules in this phase, designed to prevent to create the next big thing second-guessing and ongoing debate, assisted the team in its work. The first to surprise the competition, yet again rule is that a single person has to be se- to do what’s right, not what’s easy lected to represent the point of view of the team to senior management. The individual chosen to do this was Jan Carlson, a director of North American strategy, as she was the team member who would ultimately work for the executive holding P&L responsibility for the project, Mike Love. We borrowed the other rule from the court system: Once set, the point of view cannot be Duke University’s Fuqua School of Business educates leaders at all stages of changed unless significant new evi- their careers. Whether you’re a full-time MBA student, a professional earning an executive MBA to accelerate your career, or part of a team in an executive education dence indicates that it should shift. program, you’ll gain a broader, more global perspective through Following the team’s presentation, an innovative curriculum and instruction by a top research faculty. senior management concurred that Steelcase indeed had a significant op- DAYTIME MBA EXECUTIVE MBA EXECUTIVE EDUCAT ION

fuqua.duke.edu FIRST PERSON | Preparing for the Perfect Product Launch

that builds trust in the organization,and point of view, what might Charlie have that by preventing controversy, second- trust speeds innovation and execution. done differently, I asked? (Through guessing,recrimination,finger-pointing– Implement. In May 2006, the project these assignments, I learn a great deal what we at Steelcase call “swirl” – the entered the final stage, as we launched about what is and isn’t working in our think process saves time in the end. our new business and brand, which we business.) • • • call Nurture. In this phase, Jan Carlson Charlie remembered having found One might ask why I don’t hire a train- retained her position as head of busi- himself in the midst of trying to close a ing company to teach managers to do ness development planning and prod- multiyear, multimillion-dollar deal. He this or send people off to a Stephen uct strategy. Mike Love, as president of had spent two years trying to get a com- Covey–style course on the habits of ef- Nurture, is responsible for assuring that plicated contract signed, but pricing fective management. The answer is sim- Steelcase succeeds in the health care became a sticking point. The contract ple: The lesson sticks better when the market in the traditional way by as- involved a number of interested par- CEO teaches it. Though it takes time for signing resources, holding people ac- ties: our legal department, our dealer, me and a few other top executives to countable, and continually measuring progress. So far, so good: In less than a year, we’ve sold to a number of sig- Why don’t I hire a training company to teach managers nificant customers, including large hos- critical thinking? The answer is simple:The lesson sticks pitals, outpatient centers, and clinics. They tell us that we are providing the better when the CEO teaches it. kind of clinical environment they’ve been wishing for, and the Nurture product line has garnered several awards. the customer’s legal department,and the teach our managers to go through this We’re celebrating the success of Nur- ultimate buyer. The failure to agree on process, the investment is worth it. As ture at company gatherings and indus- a single point of view muddied the a company, we are making fewer mis- try conventions, and all our employees plan, as each party sought different pro- takes, and things are running much enjoy the feeling that they are making tections. Despite the professionalism more smoothly. There is a significant a difference to medical patients. that everyone tried to muster, the bick- cultural effect as well. In a corporation Mom’s proud. ering led to much distrust. “What we as large as ours, with thousands of em- had was your proverbial ‘goat rodeo,’” ployees, it can be difficult for managers Charlie wrote in his analysis. “Team to feel that they get my attention, and Learning from Mistakes members were making assumptions in- the course helps to address that. It also The critical-thinking process – which dependently, not communicating, and has the benefit of flattening the organi- I now teach to a different group of leaving the process without adequately zation; as more managers discover the managers each month in an hour-long being briefed on what had transpired. process, they become intellectually course at our corporate university – is There was no aligning point of view aligned with corporate headquarters. not just for people involved in new to govern the process and no one to To date, some 600 Steelcase managers product development. (For more on own it.” have taken the course, more than 100 Steelcase’s critical-thinking course, see Charlie told me he realized that the of whom are International Steelcase the sidebar “The Rules.”) It helps man- various parties had not laid all the facts Leaders. agers, in any kind of project in which out on the table (the rough equivalent It takes a great deal of courage and they must work with others, reach deci- of the think phase). Had such a proto- confidence for people anxious to take sions and come to an informed agree- col been followed, he said, it would the world by storm to slow down, think, ment. The course does not render us have become clear what the point of explore all the possible options, and be mistake proof; rather, it enables us to view needed to be: the dealer’s position, ready to pull the plug if the informa- learn as we go and avoid making the as it turned out. “By missing the think tion points away from success. At Steel- same mistakes in the future. phase and establishment of the point case, people are beginning to under- When Charlie Diez, a senior sales of view, it was nearly impossible to stand the difference between getting strategist and ten-year veteran of the gain alignment or execute effectively,” things done and getting things done company, took the course, I asked him he wrote. right. By bringing thinking and doing and the other “students” to e-mail me Lest this sound like Negotiation 101, into proper balance, we feel much bet- a written analysis of a problem they Charlie reminded me that when the ter prepared to meet the future. had actually encountered in the past. stakes are high and much is invested, Knowing the importance of thinking even the most rational human beings Reprint R0704B a project through and developing a can wind up in a fight. He now knows To order, see page 143.

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2006 Awards

RECOGNIZING EXCELLENCE IN MANAGEMENT THINKING

Longtime readers of Harvard Business Review will know that the McKinsey Awards, now in their 48th year, recognize the articles most likely to have a lasting influence on management. Every year, a panel of judges – distinguished leaders from business, the nonprofit sector, and the academy – select the two best articles out of a field of around 90. While there are no specific criteria for “best,” history shows that McKinsey judges favor articles that offer both original theoretical insights and direction for their practical application. These articles simultaneously expand the thinking on a topic and inspire action. The winners of this year’s first- and second-place McKinsey Awards are no exception. And the authors themselves are no strangers to the awards. The three of them have now been honored 11 times for articles that have launched some of the most famous and influential ideas in business. WINNERS

TO LEARN WHO THIS YEAR’S WINNERS ARE, TURN THE PAGE.

hbr.org | April 2007 | Harvard Business Review 53 The th 48 Annual McKinsey Awards 2006

RECOGNIZING EXCELLENCE IN MANAGEMENT THINKING

Harvard Business Review is pleased to announce that Michael E. Porter and Mark R. Kramer, the coauthors of “Strategy and Society: The Link Between Competitive Ad- vantage and Corporate Social Responsibility,” have won the ﬁrst-place 2006 McKinsey Award. Gary Hamel, the author of “The Why, What, and How of Management Innovation,” WINNERS is the second-place winner. Since 1959, the McKinsey Foundation for Management Research has presented awards recognizing the two best articles published each year in Harvard Business Review. The awards, judged by an independent panel of business leaders and scholars, commend outstanding works that are likely to have a major inﬂuence on executives worldwide. FIRST-PLACE WINNER HBR Making a Real Difference Spotlight

MICHAEL E. PORTER AND MARK R. KRAMER by Michael E. Porter and Mark R. Kramer Strategy “Strategy and Society: The Link Between Society&

The Link Between Competitive Advantage Competitive Advantage and Corporate and Corporate Social Responsibility

overnments, activists, and the media have become adept at Gholding companies to account for the social consequences of their activities. Myriad organizations rank companies on the performance of Social Responsibility” their corporate social responsibility (CSR), and, despite sometimes questionable methodologies, these rankings attract considerable publicity. As a result, CSR has emerged as an inescapable priority for business leaders in every country. Many companies have already done much to improve the social and environmental consequences of their activities, yet these efforts have not been nearly as productive as they could be – for two reasons. First, they pit business against society, when clearly the two are interdependent. Second, they pressure companies to think of corporate social responsibility in generic ways instead of in the way December 2006 FRASERDOUG

Corporate social responsibility has become an inescapable priority 7 8 harvard business review | hbr.org for business leaders across the globe. Governments, activists, and the media now hold companies accountable for the social consequences of their actions, and favorable publicity is often bestowed cisions, companies will discover that CSR can be much more than on companies with prominent CSR programs. Yet for all the hype a cost or constraint – it can be a potent source of innovation and surrounding CSR efforts, they are frequently counterproductive. competitive advantage. Reprint R0612D Michael Porter and Mark Kramer propose a new way to view the relationship between business and society that allows companies Michael E. Porter is the Bishop William Lawrence University Professor to make valuable contributions to social welfare without sacrificing at Harvard University; he is based at Harvard Business School in Boston. corporate success. They introduce a framework that companies Mark R. Kramer ([email protected]) is the managing direc- can use to identify the social consequences of their actions, deter- tor of FSG Social Impact Advisors, an international nonprofit consulting mine which problems to address, and find the most effective ways firm, and a senior fellow in the CSR Initiative at Harvard’s John F. to do so while simultaneously strengthening the competitive con- Kennedy School of Government in Cambridge, Massachusetts. Porter text in which they operate. By analyzing their opportunities for and Kramer are the cofounders of both FSG Social Impact Advisors and CSR using the same guidelines that direct their core business de- the Center for Effective Philanthropy, a nonprofit research organization.

SECOND-PLACE WINNER

THE WHY, GARY HAMEL WHAT, “The Why, What, and How of AND HOW OF MANAGEMENT Management Innovation” INNOVATION

Over the past century, breakthroughs such as brand management and the by Gary Hamel February 2006 divisionalized organization structure have created more re you a management innovator? Have you sustained competitive discovered entirely new ways to organize, lead, A coordinate, or motivate? Is your company a advantage than anything that management pioneer? Has it invented novel approaches came out of a lab or to management that are the envy of its competitors? focus group. Here’s how you Does it matter? It sure does. Innovation in management principles and processes can create long-lasting can make your company a advantage and produce dramatic shifts in competitive serial management innovator. position. Over the past 100 years, management innova- To most people, innovation means new products, new ways of tion, more than any other kind of innovation, has allowed companies to cross new performance thresholds. Yet strangely enough, few companies have a well-

honed process for continuous management innovation. MABLY GREG marketing, and new technologies. But management itself, writes 72 harvard business review Gary Hamel, is a fertile ground for innovation. In fact, Hamel argues, managerial innovations like brand management or the divisionalized corporation have created greater value and longer-lived processes. “So far,” Hamel writes, “management in the twenty- competitive advantage than anything that came from a focus ﬁrst century isn’t much different from management in the twen- group or a laboratory. tieth century. Therein lies the opportunity.” Reprint R0602C The key to managerial innovation is looking for powerful ideas in unusual places and challenging management orthodoxies. Draw- Gary Hamel ([email protected]) is a visiting professor at ing on rich examples from companies such as General Electric, London Business School and a founder of Strategos, an international Visa, and Google, Hamel shows how “serial innovators” gain ad- consulting company based in Chicago. He is also the director of the vantage over rivals. He also offers a methodology that executives Woodside Institute, a nonproﬁt research foundation based in Woodside, can use to identify their own opportunities to reinvent management California.

hbr.org | April 2007 | Harvard Business Review 55 McKinsey Awards

HBR wishes to thank this year’s panel of judges for their hard work on behalf of the 2006 awards:

[ THE 2006 PANEL OF JUDGES ]

Kim B. Clark Lee C. Daley Dermot Mannion Anne M. Mulcahy Linda G. Sprague President Chairman and Chief Chief Executive 2Chairman 0 and Chief 0Professor of 6 Brigham Young Executive Officer Aer Lingus Executive Manufacturing and University–Idaho Saatchi & Saatchi Dublin, Ireland Xerox Operations Rexburg, Idaho UK Group Stamford, Connecticut Management London Michael E. Marks China Europe Michael J. Critelli Senior Advisor Walter J. Salmon International Business Chairman and Chief Anand G. Mahindra Kohlberg Kravis Stanley Roth, Sr., School (CEIBS) Executive Officer Vice Chairman and Roberts & Co. Professor of Retailing, Shanghai, China Pitney Bowes Managing Director Menlo Park, California Emeritus Stamford, Connecticut Mahindra & Mahindra Harvard Business Dorothy A.Terrell Mumbai, India School President and Chief Boston Executive Officer Initiative for a Competitive Inner City Boston

HBR is pleased to announce the distinguished panel of judges for the 2007 awards:

JUDGES [ THE 2007 PANEL OF JUDGES ]

Vikram Akula Robert J. Dolan Helene Gayle Susan Lyne Jonathan Schwartz Founder and Chief Dean and Stephen M. President and Chief2President 0 and Chief 0President and 7 Chief Executive Officer Ross Professor of Executive Officer Executive Officer Executive Officer SKS Microfinance Business CARE USA Martha Stewart Living Sun Microsystems Hyderabad, India Stephen M. Ross Atlanta Omnimedia Santa Clara, California School of Business New York Antonio Borges University of Michigan Jeff Hicks Loh Khum Yean Vice Chairman Ann Arbor, Michigan President and Chief Sheryl Sandberg Chief Executive Goldman Sachs Executive Officer Vice President, Global SPRING Singapore International Kathleen M. Crispin Porter Online Sales and Singapore London Eisenhardt + Bogusky Operations Stanford Warren Miami Google Beth Comstock Ascherman Professor Mountain View, President, Digital Department of Charles F.Knight California Media and Market Management Science Chairman Emeritus Development and Engineering Emerson Electric NBC Universal Stanford University St. Louis New York Stanford, California ADVANCED MANAGEMENT BEGINS SEPTEMBER 2007 PROGRAM GENERAL MANAGEMENT PROGRAM BEGINS JULY 2007 PROGRAM FOR LEADERSHIP BEGINS JULY 2007 DEVELOPMENT

Get out of your comfort zone. As a participant in the Comprehensive Leadership Programs at Harvard Business School Executive Education, you’ll gain new insights from our global curriculum, our renowned faculty, and your peers. You’ll also grapple with complex business issues that leaders must understand today. Ultimately, you’ll change and grow in ways that impact both your company and your career. You’ll return with a whole new perspective, reenergized, and equipped to lead. It’s your time. Invest it wisely. Learn more at www.exed.hbs.edu/pgm/clphbr/ LEADERWhat Your Expects of You And what you should expect in return

by Larry Bossidy

T’S WELL UNDERSTOOD THAT the relationships between a boss and his or her direct reports are important ones and ﬁgure strongly in the success of a team. Yet while I much has been written about character traits and issues of openness and trust, the leadership literature has had strikingly little to say about what a leader should be able to expect from his people. Over the years, I’ve ob-

served that certain behaviors, on the part of both the Gorchov Joshua

58 Harvard Business Review | April 2007 | hbr.org

What Your Leader Expects of You

subordinate and the boss, are conducive to productive and generally applauded in organizations. They’re frequently at rewarding relationships. Indeed, I’ll favor someone who ex- the periphery, because people think they’re off the wall. But hibits the behaviors I expect over someone who doesn’t, even I want to hear what they have to say; it’s my job to sift through if the latter’s numbers are slightly better, because I know the ideas and decide which ones have merit. Often the best ideas former has the potential to contribute more to the organiza- sound crazy at ﬁrst. For instance, when I got to AlliedSignal, tion over time. people were very dispirited by the company’s lagging perfor- In sharing the lists below – what I’ve come to think of as mance,and I was looking for a way to raise morale. Somebody the CEO compact, a set of expectations both from and for a suggested that we hire a band, put out hamburgers and hot leader–I hope that I can help other leaders and teams improve dogs at midday, and make lots of noise, so the employees their relationships and, as a consequence, their performance. would feel there was a reason for optimism. A lot of people said it was corny and wouldn’t work – but it did, and it became an annual event. Another example: When sales of a What I Expect from My Direct Reports particular liquid we offered declined, one manager proposed The following behaviors are powerful individually,but taken we paint the canisters bright colors instead of the industrial together they drive performance and growth in a way that gray we had been using. The idea was met with derision, but has a signiﬁcant effect on long-term results. we tried it, and it made a difference. Sales recovered. Get involved. Good executives know how to delegate. As for more mainstream executives, they can come up But more important, they know when a situation calls for with good ideas too, but often they are reluctant to speak their immediate involvement, whether it’s in redirecting re- out. I’m willing to give them a little push. If I’m in a meeting sources to a product that’s suddenly taking off in the market, and people aren’t volunteering anything on a controversial helping to resolve a breakdown in quality, or visiting a plant subject, I tell them we’re going to be there for a while. The to discover why its productivity has faltered. There’s no ex- subsequent silence gets uncomfortable – eventually enough cuse for not taking responsibility when you see a problem so that people start to talk. In one case, I came to a meeting

I expect people to read, to watch the news–not just because it makes them more interesting but because what happens in the world affects what happens to us, to our marketplace, and to our competition.

growing. I count on my reports to take the blame for things to discuss a management problem we’d noticed in a cus- that go wrong and give credit for positive developments to tomer organization. I listed three or four reasons why it was their employees. And I expect them to have the courage important for me to speak with the customer’s CEO about it. to deliver bad news. If you’ve got to close a plant, go to the People resisted, but they weren’t offering any alternatives. plant and tell those employees yourself. We waited for quite a while, and finally somebody spoke up. While there are no hard-and-fast rules about when your After some dialogue we decided that a person lower in our involvement will have the most impact on the business organization would speak to a person lower in the cus- (that’s a judgment call), I’ve found that good managers gen- tomer organization, rather than risk the flap that would erally step in under three types of circumstances: when some- come out of elevating the issue to the highest level. body is falling behind in her commitments; when important Be willing to collaborate. It’s surprising how many people personnel matters arise, particularly if there is conflict; and still resist collaboration or sharing credit, even though we in a crisis. Just because you’re an executive vice president know how much more we can achieve when we bring every- doesn’t mean you don’t have to work anymore. one to the table at once. There can be very practical reasons Generate ideas. A common frustration in corporate Amer- for this – for example, it may not be in someone’s financial in- ica is a lack of ideas. A person who is innovative and creative terest to cooperate. But I expect people to trust that I will no- is a pearl to be treasured. Unfortunately, idea people are not tice when they take an action that, say,costs their unit $2 million in the short run but will benefit the company overall in Larry Bossidy was the chairman and CEO of AlliedSignal from 1991 the long run. through 1999 and the chairman and CEO of Honeywell from 2001 to This is something I take very seriously. Some years ago 2002. He has also served as the COO of General Electric Credit Cor- I was running a big business that was functionally structured. poration (now GE Capital) and as the vice chairman of General Electric. The person who ran manufacturing and the one who ran

60 Harvard Business Review | April 2007 | hbr.org marketing and sales did not get along well; they just Be willing to lead initiatives. There’s no way of knowing wouldn’t communicate. And because they didn’t work to- how a challenging new project will turn out, so people are gether well, neither did their organizations. As a conse- often reluctant to be associated with an untested idea, par- quence, our inventories were always out of balance. The ticularly if it crosses functional or unit boundaries. They duck three of us met, and I told them that it didn’t matter whether under the radar screen rather than risk going up in flames. they liked each other or not, but the way they worked to- But I want people to raise their hands. When we started with gether had to change. They left the meeting with instructions Six Sigma at AlliedSignal, some people didn’t like it or to overcome their differences, but three months later, noth- weren’t sure about it, but I’ll never forget the people who ing had changed. I called them back into my office and gave took a chance, who assumed leadership roles even though them both separation packages on the spot, telling them they didn’t know much about the program. That’s an that although I thought they were good performers individ- attribute I prize in my employees. The ones who led the Six ually, their failure to collaborate was hurting the enterprise. Sigma efforts were told that their careers would be acceler- An imposing guard was waiting at the door to take their ated if they succeeded, and those who made a contribution badges and escort them from the plant. beyond unit boundaries did in fact climb the ladder faster At about 3:00 that afternoon the telephone rang. It was than those who didn’t. the two of them, asking to gain entrance to the plant. The Develop leaders as you develop. Too many people are self- first thing they said upon arrival was “We get it.”They came ish about their development. I want my direct reports to back to work, and I don’t know that they ever learned to like take as much interest in their subordinates’ development as each other, but they learned to work well together – and they do in their own–if not more. Early in my career, when more important, so did their organizations. Our overall per- I was at GE, I had a boss, a midlevel manager, who was a good formance improved considerably. performer but knew that he had gone as far as he was going

hbr.org | April 2007 | Harvard Business Review 61 What Your Leader Expects of You

If it isn’t in your DNA to anticipate, you don’t. You can ﬁnd ways to compensate, but you can’t change your nature.

to go. He called me in one day and said he felt I had a chance a negative regulatory development, an unforeseen customer to be a lot better than he was and that he was going to do problem. He worked very hard and he was smart, but he was everything he could to help me reach my potential. From frenetic and reactive, and never looked up to see the iceberg that moment on, he was more interested in my development ahead of him. He even brought in a consultant to help him than in his own. He went out of his way to criticize or praise think through where the business would be in a couple of me when I needed it. I’ll never forget him; he played a very years, which culminated in a nice book that went up on the meaningful role in my career. shelf while he went right back to his in-box. Eventually I A strong signal that executives are committed to devel- began to spend the first 20 minutes of every meeting with oping their direct reports is involvement in performance him asking what he thought was about to happen. We went appraisals. I expect my people to be personally involved in over competitors, customers, the regulatory environment – reviews – not to hand them off to someone in Human Re- anything that might have an impact on the business. He im- sources – and to supply their employees with specific and proved, and he went on to become a CEO at another com- useful feedback. When I was at GE and Allied, I regularly re- pany, but anticipating change remained a struggle for him. viewed the goals my direct reports were setting for their sub- The fact is, if it isn’t in your DNA to anticipate, you don’t. ordinates. If they were vague, I asked them to keep working You can move the bar a little and find ways to compensate, until they’d achieved an appropriate level of specificity. but you can’t change your nature. The people who are con- For instance, someone might list “improve interpersonal stantly looking around corners are best suited to leadership skills” when what he really meant was “be more willing to positions. collaborate.”The goals have to be specific enough that peo- Drive your own growth. I expect people to seek perpetual ple know how to approach the issue and whether or not education and development – not necessarily by going back they’ve made progress.“Improve interpersonal skills”doesn’t to school but by exposing themselves to new people and tell an employee what to do. ideas. Ask your boss for feedback, and if he or she isn’t will- Stay current. There’s nothing more depressing than sitting ing to give it, then turn to peers and subordinates, or find in a business meeting with people who don’t know what’s a mentor. Accept demanding assignments; you learn much going on in the world. I expect people to read, to watch the more from them than you do from cushy projects. This news – not just because it makes them more interesting but takes some courage, because the outcome may not be as because what happens in the world affects what happens good, but it demonstrates that you’re interested in your own to us, to our marketplace, and to our competition. We make development. It also prepares you for difficult challenges in decisions in the context of world events, so people need to the future. I’ll promote somebody who has stretched his pay attention to them. limits in tough assignments with sometimes disappointing I also expect people to know what’s going on with cus- results over somebody who met his targets by taking less tomers – how they’re changing, how their competition is taxing roles. changing, how technology and world events are affecting Be a player for all seasons. It’s one thing to sustain the their strategies. Customer relationships are an asset; people behaviors I’ve described in good times. It’s easy to collabo- should bring them to the table. rate, to stick up your hand, to offer ideas, when sales and Anticipate. One consequence of failing to stay current is earnings are growing by 20% a year. But how do you behave that you risk a setback you ought to have anticipated – and when they’re in decline? I expect positive behaviors no mat- you either recover more slowly than you should or never re- ter what, and people who can live up to that stand out in my cover at all. Political events often trigger strategic threats. eyes. I can think of several people who were leading busi- I’m a board member at Merck. With the Democrats in con- nesses, beating their forecasts, able to attract quality peo- trol of Congress, Merck is thinking about how to address that ple – as long as the market was good. In a downturn they’d party’s longtime platform on pharmaceutical pricing. It lose their ability to motivate and inspire people, their self- would be foolish to wait for new regulations; far better to confidence would begin to wane, and I’d have to take them get ready now. off the job. A talented executive who once worked for me was perpet- On the flip side, some people are well suited to containing ually caught off guard by adverse events–a new competitor, costs and keeping a business afloat when opportunities for

62 Harvard Business Review | April 2007 | hbr.org A Simple Assessment

I consult to a number of companies, and the ﬁrst thing I look at is performance appraisals. Often I’ll ﬁnd three pages of the vaguest, most uncommunicative language imaginable. People write and write and write – and say nothing. Appraisals ought to be half a page that says what your boss likes, what you can improve, and what the two of you are going to do about it – simple and to the point, like the form shown here.

PERFORMANCE EVALUATION

Name: _ _ _ _Joe ______Swift______Date: ______6/09/07

What I Like What Can Improve _ _ _Ambitious ______Inconsistent ______communicator ______T _ _ _eam ______player______Impetuous ______Volunteers ______to __ _ _ _lead ______initiatives ______Often ______fails ______to _ _ _ _ _anticipate ______Innovative ______Vague ______in ______appraising ______performance ______Meets ______commitments ______of ______others ______Interested ______in ______the ______development ______of ______others ______Stays ______current ______Quashes ______bureaucracy ______

Comments

_ _Joe, ______it’s ______great ______to _ __ _ _ have______you ______and ______your ______talents, ______but ______we ______need ______to _ _ _ _ _decide ______how ______to _ _ _ _ _progress ______on ______your ______development. ______Let’s ______meet ______on ______Tuesday, ______after ______you’ve ______had ______a _ _ _ _ _chance ______to _ _ _ _ _consider ______an ______action ______plan. ______

______

hbr.org | April 2007 | Harvard Business Review 63 What Your Leader Expects of You

growth are minimal, but are so perpetually paranoid that If Joe gives a presentation, I owe him feedback right on the they can’t take advantage of an upswing. I always look for spot. I might say, “You came prepared, you seem to know someone who can thrive in either circumstance, and I’m your stuff, but I heard five ‘um’s in the first two minutes, and amazed at the number of people who can’t. that distracts your audience.”If he did particularly well, it’s helpful to point out why, so he can repeat the behavior: “Great job, Joe, because you did your homework and made What My Direct Reports Can Expect from Me your point clearly in less than five minutes.” The CEO compact has two sides, of course, and I know my When the annual review comes, it should be simple. For- subordinates will do their jobs most effectively if they can get HR jargon that attempts to disguise reality. An effective expect a few things of me as well. performance review tells the employee what he does well, Provide clarity of direction. If I’m the leader, it’s my job to what he could do better, and how he and his boss can work communicate clearly where the business is going, why, and together to fill any gaps – no complicated forms or ambigu- what the benefits will be if we accomplish what we set out to ous language. (See the exhibit “A Simple Assessment.”) achieve. Every quarter the boss should get up in front of her Be decisive and timely. Decisiveness isn’t useful if it isn’t team and explain the financial results and the progress of any timely.People should expect me to make decisions as soon as operational or strategic initiative. This provides a crucial con- I have the information I need, and not to be careless or im- text for the work. If I simply tell someone, for instance, that petuous but to give clear, unambiguous answers. When a big he needs to improve cash flow, that’s not terribly motivating. contract is on the line, the time for the boss to pitch in is not

As a CEO, I never felt uncomfortable when somebody came to ask me why I had put one person into a role rather than another. If I couldn’t explain my decision, then shame on me.

If I show him the actual numbers, he has some perspective the last minute, it’s a month earlier. At Allied, a salesperson on why and to what degree cash flow is an issue, and a better who was working on a deal with Boeing, say, might ask me sense of how his job contributes to the enterprise as a whole. to place a phone call–not because I could sell the job any bet- Set goals and objectives. An executive may assume he’s ter but because I represented the organization. I shouldn’t be doing a good job, but he can’t know for sure that his boss making the call at the eleventh hour; I should make it well would agree if he has no specific goals and objectives to strive before the deal is set to close, when I can have more impact. for. In addition to team goals, each person should know ex- The problem is, people are often reluctant to get the boss actly what individual goals he or she is going to be measured involved for fear that asking for help will be perceived as on over a given period and where to invest precious time. a sign of weakness. They end up asking just when they think When goals and objectives are clear, promotion and bonus they’re going to lose the deal. I consider asking for help a sign decisions can be based on merit. Morale suffers if people not of weakness but of self-confidence. think there’s some mystery to the process, some behind-the- Be accessible. If I expect people to keep me informed scenes explanation.They’re much happier and more comfort- about what’s going on, then I need to be available when they able when they know they’re working in a meritocracy. As a need to see me. It’s certainly in my interest. Frequently a CEO, I never felt uncomfortable when somebody came to ask boss doesn’t learn that someone is leaving the company until me why I had put one person into a role rather than another. he’s about to walk out the door. If she’d known the employee If I couldn’t explain my decision, then shame on me. was contemplating a move a month earlier, she could have Give frequent, specific, and immediate feedback. When I taken him to lunch, talked to him about opportunities within give feedback, I’m signaling to people that I’m interested in the company, and maybe changed his mind. their growth and that I see a path for their future. Employ- And people should know that I’m not going to come down ees shouldn’t have to wait for an annual review to learn how on them if they bring me bad news. In fact, I’m quite aware they are doing, and if the feedback is going to help drive that if they’re coming to me, more often than not the news their growth, then it needs to be as specific as possible. I hate is bad. Most people can handle good news on their own; they it when a boss says simply, “Great job, Joe.” Joe may have turn to the boss when they need some help. done a great job, but possibly he could have done even bet- Demonstrate honesty and candor. People spend far too ter, and if I point out how, maybe he will do better next time. much time figuring out how to tell others something un-

64 Harvard Business Review | April 2007 | hbr.org pleasant – how to deliver the news in a diplomatic way. This company did overall. The process shouldn’t be shrouded in is common in performance appraisals. When I visit compa- mystery or overly complicated. nies that I consult to, the first thing I ask leaders for is copies • • • of their appraisals of subordinates, and I am continually Much of what I’ve described here has to do with keeping amazed at the avoidance in their language. Look at the dif- bureaucracy at bay. Bureaucracy is self-perpetuating, and ference between vague and specific characterizations: cutting through it is a constant battle; because it’s a fact of Vague Specific organizations, you can never truly get rid of it. You can tell it’s Hard worker Results oriented creeping in when decision making slows to a crawl, or when Attentive Anticipatory the battery of forms needed for performance reviews begins Detail oriented Analytic problem solver to obscure meaningful feedback. Maintaining these behav- Good listener Great communicator iors helps to show when red tape is encroaching on produc- Watches over his people Holds people accountable tivity–and helps to minimize the effect. Amiable Team player Of course,it’s much easier to live up to the first of the lists I’ve The language on the left means nothing. Masking the outlined if you have a boss who lives up to the second. But you truth doesn’t help people develop. If I can say something sen- won’t always be blessed with such a boss. If you aren’t, the best sitively and diplomatically, so much the better. But if I can’t, thing to do is create a CEO compact with your own subordi- I owe it to my employee to say it anyway. nates, and demonstrate by example. These behaviors will Offer an equitable compensation plan. People want to make you a better employee and may help you get promoted. be compensated fairly, in a way that reflects their contribu- They will certainly serve you well should you leave for another tions, and they want to understand how the compensation job. The purpose, after all, is to improve team and company plan works. Employees should be able to estimate the size of performance, which should accelerate your own growth. their bonuses at the end of the year, because if the boss has also set clear goals and objectives, they know whether they Reprint R0704C have lived up to them, and they have a good idea of how the To order, see page 143.

“Previously, I was on top of the television. Before that, I was on a stack of towels in the linen closet.” Scott Arthur Masear Arthur Scott

hbr.org | April 2007 | Harvard Business Review 65 What if you’ve taken your core as far as it can go? Finding Your Next

BY CHRIS CZOOK RE Business

T IS A WONDER HOW MANY MANAGEMENT TEAMS fail to exploit, or even perceive, the full potential of the basic businesses they are in. Company after company Iprematurely abandons its core in the pursuit of some hot market or sexy new idea, only to see the error of its ways – often when it’s too late to reverse course. Bausch & Lomb is a classic example. Its eagerness to move beyond contact lenses took it into dental products, skin care, and even hearing aids in the 1990s. Today B&L has divested itself of all those businesses at a loss, and is scrambling in the category it once dominated (where Johnson & Johnson now leads). And yet it’s also true that no core endures forever. Sticking with an eroding core for too long, as Polaroid did, can be just as devastating. Both these companies were once darlings of Christoph Niemann Christoph

66 Harvard Business Review | April 2007 | hbr.org

Finding Your Next Core Business

Wall Street, each with an intelligent management team and around just three core businesses where it held substantial a formerly dominant core. And in a sense, they made the advantages: submarines,electronics,and information systems. same mistake: They misjudged the point their core business The second reason is inherently inferior economics. These had reached in its life cycle and whether it was time to stay often come to light when a new competitor enters the field focused, expand, or move on. unburdened by structures and costs that an older company How do you know when your core needs to change in cannot readily shake off. General Motors saw this in compe- some fundamental way? And how do you determine what tition with Toyota, just as Compaq did with Dell. Other well- the new core should be? These are the questions that have known examples include Kmart (vis-à-vis Wal-Mart) and driven my conversations with senior managers and the ef- Xerox (vis-à-vis Canon). Occasionally a company sees the forts of my research team over the past three years. What clouds gathering and is able to respond effectively. The Port we’ve discovered is that it is possible to measure the vitality of Singapore Authority (now PSA International), for exam- remaining in a business’s core – to see whether that core is ple, fought off threats from Malaysia and other upstart com- truly exhausted or still has legs. We’ve also concluded from petitors by slashing costs and identifying new ways to add an in-depth study of companies that have redefined their value for customers. But sometimes the economics are cores (including Apple, IBM, De Beers, PerkinElmer, and 21 driven by laws or entrenched arrangements that a company others) that there is a right way to go about reinvention. The cannot change. surest route is not to venture far afield but to mine new value The third reason to rethink a core strategy is a growth for- close to home; assets already in hand but peripheral to the mula that cannot be sustained. A manufacturer of a special- core offer up the richest new cores. ized consumer product – cell phones, say – might find its This article discusses both these findings. It identifies the growth stalling as the market reaches saturation or compet- warning signs that a business is losing its potency and offers itors replicate its once unique source of differentiation. Or a a way to diagnose the strength remaining in its core. It re- retailer like Home Depot might see its growth slow as com- counts the efforts of managers in a variety of settings who petitors like Lowe’s catch up. A company that has prospered saw the writing on the wall and succeeded in transforming by simply reproducing its business model may run out of their companies. And, based on these and other cases, it maps new territory to conquer: Think of the difficulties Wal-Mart the likely spots in a business where the makings of a new core has encountered as the cost-benefit ratio of further expan- might be found. sion shifts unfavorably. The core business of a mining company might expire as its mines become depleted. In all such circumstances, finding a new formula for growth depends on When It’s Time for Deep Strategic Change finding a new core. Not every company that falls on hard times needs to rethink For most of the companies my team and I studied, recog- its core strategy. On the contrary, declining performance in nition that the core business had faltered came very late. The what was a thriving business can usually be chalked up to an optical instruments maker PerkinElmer, the diamond mer- execution shortfall. But when a strategy does turn out to be chant De Beers, the audio equipment manufacturer Har- exhausted, it’s generally for one of three reasons. man International – these were all companies in deep crisis The first has to do with profit pools – the places along the when they began their redefinition. Is it inevitable that com- total value chain of an industry where attractive profits are panies will be blindsided in this way? Or can a management earned. If your company is targeting a shrinking or shifting team learn to see early signs that its core strategy is losing profit pool, improving your ability to execute can accomplish relevance? only so much. Consider the position of Apple, whose share of With that possibility in mind, it would seem reasonable to the market for personal computers plummeted from 9% in periodically assess the fundamental vitality of your business. 1995 to less than 3% in 2005. But more to the point, the en- The exhibit “Evaluate Your Core Business” offers a tool for tire profit pool in PCs steadily contracted during those years. doing so. Its first question looks at the core in terms of the If Apple had not moved its business toward digital music, its customers it serves. How profitable are they–and how loyal? prospects might not look very bright. General Dynamics was Arriving at the answers can be difficult, but no undertaking in a similar situation in the 1990s, when defense spending de- is more worthwhile; strategy goes nowhere unless it begins clined sharply.To avoid being stranded by the receding profit with the customer. The second question probes your com- pool, it sold off many of its units and redefined the company pany’s key sources of differentiation and asks whether they are strengthening or eroding. The third focuses on your in- Chris Zook is the author of Unstoppable: Finding Hidden Assets to dustry’s profit pools, a perspective that is often neglected Renew the Core and Fuel Profitable Growth (to be published next in the quest for revenue and market share growth. Where are month by Harvard Business School Press), from which this article is the best profits to be found? Who earns them now? How adapted. Based in Amsterdam, he leads the Global Strategy Practice might that change? The fourth examines your company’s of Bain & Company. capabilities – a topic we shall soon turn to – and the fifth as-

68 Harvard Business Review | April 2007 | hbr.org sesses your organization’s culture and readiness to change. At the least, managers who go Evaluate Your Core Business through this exercise tend to spot Five broad questions can help you determine when it is time to redefine your areas of weakness to be shored up. company’s core business. For most companies, the answers to these questions More dramatically, they may save a can be found by examining the categories listed next to each one. business from going under. Note, If the answers reveal that large shifts are about to take place in two or more of however, that no scoring system is these five areas, your company is heading into turbulence; you need to reexamine attached to this diagnostic tool – the fundamentals of your core strategy and even the core itself. there is no clearly defined point at which a prescription for strategic redefinition is issued. That would Question Take a close look at lend false precision to what must be a judgment call by a seasoned What is the state of our > profitability management team. The value of 1 core customers? > market share the exercise is to ensure that the > retention rate right questions are taken into ac- > measures of customer loyalty and advocacy count and, by being asked consis- > share of wallet tently over time, highlight changes that may constitute growing threats What is the state of our > definition and metrics of differentiation to a company’s core. 2 core differentiation? > relative cost position > business models of emerging competitors > increasing or decreasing differentiation Recognizing the Makings of a New Core What is the state of our > size, growth, and stability Management teams react in differ- 3 industry’s profit pools? > share of profit pools captured ent ways when they reach the con- > boundaries clusion that a core business is under > shifts and projections severe threat. Some decide to de- > high costs and prices fend the status quo. Others want to transform their companies all at What is the state of our > inventory of key capabilities once through a big merger. Some 4 core capabilities? > relative importance leap into a hot new market. Such > gaps vis-à-vis competitors and vis-à-vis strategies are inordinately risky. future core needs (Our analysis suggests that the odds of success are less than one in What is the state of our > loyalty and undesired attrition ten for the first two strategies, and 5 culture and organization? > capacity and stress points only about one in seven for the > alignment and agreement with objectives third.) The companies we found to > energy and motivation be most successful in remaking > bottlenecks to growth themselves proceeded in a way that left less to chance. Consider, for example, the transformation of the Swedish company the patent rights. The division responsible for absorption re- Dometic. frigerators later became the independent Dometic Group. Dometic’s roots go back to 1922, when two engineering By 1973 Dometic was still a small company, with revenues students named Carl Munters and Baltzar von Platen ap- of just 80 million kronor (about U.S. $16.9 million). Worse, it plied what was known as absorption technology to refrig- was losing money. Then Sven Stork, an executive charged eration. Whereas most household refrigerators use com- with fixing the ailing Electrolux product line, began to pressors driven by electric motors to generate cold, their breathe new life into the business. Stork, who went on to be- refrigerator had no moving parts and no need for electricity; come president and CEO of the company,moved aggressively only a source of heat, as simple as a propane tank, was re- into the hotel minibar market, where the absorption refrig- quired. So the absorption refrigerator is particularly useful in erator’s silent operation had a real advantage over conven- places like boats and recreational vehicles, where electric tional technology. Fueled by those sales, Dometic grew and current is hard to come by. In 1925 AB Electrolux acquired was able to acquire some of its competitors.

hbr.org | April 2007 | Harvard Business Review 69 Finding Your Next Core Business

The real breakthrough came when Stork’s team focused gravity along an existing vector of growth. To do this, it relied more closely on the RV market, which was just then begin- on hidden assets–resources or capabilities that it had not yet ning to explode. The point wasn’t to sell more refrigerators capitalized on. In Dometic’s case, the treasure was its under- to the RV segment; the company’s market share within that standing of and access to customers in the RV market. segment was already nearly 100%. Rather, it was to add other Leadership economics is a hallmark of almost every great products to the Dometic line, such as air-conditioning, auto- strategy; when we see a situation in which the rich get richer, mated awnings, generators, and systems for cooking, lighting, this is the phenomenon at work. Consider that most indus- sanitation, and water purification. As Stork explains,“We de- tries have more than six competitors, but usually more than cided to make the RV into something that you could really 75% of the profit pool is captured by the top two. Of those live in. The idea was obvious to people who knew the cus- two, the one with the greatest market power typically cap- tomers, yet it took a while to convince the manufacturers tures 70% of total profits and 75% of profits above the cost of and especially the rest of our own organization.” These capital. When Dometic focused on a defined market where it moves fundamentally shifted the company’s core. Dometic could stake out a leadership position, enormous financial was no longer about absorption refrigeration: It was about benefits followed.

The importance of overlooked, undervalued, or underutilized assets cannot be overstated. In 21 of the 25 companies we examined, a hidden asset was the centerpiece of the new strategy.

RV interior systems and the formidable channel power Its new growth formula offers the same kind of repeatabil- gained by selling all its products through the same dealers ity the old one did. Recall that Dometic’s first focus was on and installers. That channel power allowed Dometic to pull applications for absorption refrigeration, which it pursued off a move that enhanced its cost structure dramatically. The product by product, one of which was for RVs. The new for- company streamlined its go-to-market approach in the mula angled off into a sequence of interior components for United States by skipping a distribution layer that had always the RV customer base. Recently, as RV sales have slowed, existed and approaching RV dealers directly. “We prepared Dometic has moved into interior systems for “live-in”vehicles for the risks like a military operation,”Stork recalls, “and it in general, including boats and long-haul trucks. was a fantastic hit. We were the only company large enough to pull this off. It let us kill off competitors faster than they Where Assets Hide could come out of the bushes.”By 2005 Dometic had grown to KR 7.3 billion, or roughly U.S. $1.2 billion. No longer part The importance of a company’s overlooked, undervalued, or of Electrolux (the private equity firm EQT bought it in 2001 underutilized assets to its strategic regeneration cannot be and sold it to the investment firm BC Partners a few years overstated. In 21 of the 25 companies we examined, a hidden later), the company was highly profitable and commanded asset was the centerpiece of the new strategy. 75% of the world market share for RV interior systems. Some of their stories are well known. A few years ago, Dometic’s story of growth and redefinition is especially in- a struggling Apple realized that its flair for software, user- structive because it features all the elements we’ve seen re- friendly product design, and imaginative marketing could peatedly across the successful core-redefining companies be applied to more than just computers – in particular, to we’ve studied. These are: (1) gradualism during transforma- a little device for listening to music. Today Apple’s iPod-based tion, (2) the discovery and use of hidden assets, (3) underly- music business accounts for nearly 50% of the company’s rev- ing leadership economics central to the strategy, and (4) a enues and 40% of profits – a new core. IBM’s Global Services move from one repeatable formula that is unique to the com- Group was once a tiny services and network-operations unit, pany to another.“Gradualism”refers to the fact that Dometic not even a stand-alone business within IBM. By 2001 it was never made anything like a “bet the company” move – often larger than all of IBM’s hardware business and accounted for tempting when a business is on the ropes, but almost always roughly two-thirds of the company’s market value. a loser’s game. As in the other cases of strategic renewal we Why would well-established companies even have hidden studied, it redefined its core business by shifting its center of assets? Shouldn’t those assets have been put to work or dis-

70 Harvard Business Review | April 2007 | hbr.org Where Does Your Future Lie?

In an In an In an undervalued untapped underexploited business insight into capability? platform? customers?

undeveloped unrecognized hidden corporate adjacencies segments capabilities

organizations that privileged access noncore capabilities support the core or trust in different divisions

noncore businesses underutilized data underleveraged core and information capabilities in different divisions orphan products

If the core of your business is nearing depletion, the temptation may be great to venture dramatically away from it – to rely on a major acquisition, for instance, in order to establish a foothold in a new, booming industry. But the history of corporate transformation shows you’re more likely to be successful if you seek change in your own backyard.

posed of long since? Actually,large, complex organizations al- its core product lines under attack by lower-cost and more in- ways acquire more skills, capabilities, and business platforms novative competitors, had stalled out. Revenues were stuck at than they can focus on at any one time. Some are necessar- $1.2 billion, exactly where they had been ten years earlier, ily neglected–and once they have been neglected for a while, and the market value of the company had eroded along with a company’s leaders often continue to ignore them or dis- its earnings; the bottom line showed a loss of $83 million in count their value. But then something happens: Market con- 1993. In 1995 the board hired a new CEO, Tony White, to ditions change, or perhaps the company acquires new capa- renew the company’s strategy and performance and, if nec- bilities that complement its forgotten ones. Suddenly the essary, to completely redeﬁne its core business. ugly ducklings in the backyard begin to look like swans in As White examined the range of product lines and the training. customer segments served, he noticed a hidden asset that The real question, then, is how to open management’s could rescue the company. In the early 1990s, PerkinElmer eyes to the hidden assets in its midst. One way is to identify had branched out in another direction – developing prod- the richest hunting grounds. Our research suggests that hid- ucts to amplify DNA–through a strategic alliance with Cetus den assets tend to fall into three categories: undervalued Corporation. In the process, the company obtained rights to business platforms, untapped insights into customers, and cutting-edge procedures known as polymerase chain reac- underexploited capabilities. The exhibit “Where Does Your tion technology – a key life-sciences platform. In 1993, the Future Lie?” details the types of assets we’ve seen exploited company also acquired a small Silicon Valley life-sciences in each category. For a better understanding of how these as- equipment company, Applied Biosystems (AB) – one more sets came to light, let’s look at some individual examples. line of instruments to be integrated into PerkinElmer’s. Undervalued business platforms. PerkinElmer was once White began to conceive of a redeﬁned core built around the market leader in optical electronics for analytical instru- analytical instruments for the fast-growing segment of life- ments, such as spectrophotometers and gas chromatographs. sciences labs. The AB instruments in the company’s catalog, Its optical capabilities were so strong that the company was if reorganized and given appropriate resources and direc- chosen to manufacture the Hubble Space Telescope’s mirrors tion, could have greater potential than even the original core. and sighting equipment for NASA. Yet by 1993 PerkinElmer, White says,“I was struck by how misconceived it was to tear

hbr.org | April 2007 | Harvard Business Review 71 Finding Your Next Core Business

original instrument company was sold to the Massachusetts- based EG&G. (Soon after, EG&G changed its corporate name to PerkinElmer–and has since prospered from a combination that redefined its own core.) The PerkinElmer-to-Applera transformation offers several lessons. The first is that a hidden asset may be a collection of products and customer relationships in different areas of a company that can be collected to form a new core. The second lesson is the power of market leadership: Finding a subcore of leadership buried in the company and building on it in a focused way created something that started smaller than the original combination but became much bigger and stronger. The third lesson lies in the concept of shrinking to grow. Though it sounds paradoxical and is organizationally difficult for companies to come to grips with, this is one of the most un- derused and underappreciated growth strategies. (See the side- AB apart and distribute its parts across the functions in the bar “Shrinking to Grow.”) organization. I thought, ‘Here is a company whose manage- Creating a new core based on a previously overlooked ment does not see what they have.’So one of the first steps business platform is more common than one might think. I took was to begin to reassemble the parts of AB. I ap- General Electric, for instance, like IBM, identified an internal pointed a new president of the division and announced that business unit–GE Capital–that was undervalued and under- I was going to re-form the core of the company over a three- utilized. Fueled by new attention and investment, the once year period around this unique platform with leadership in sleepy division made more than 170 acquisitions over a ten- key life-sciences detection technology.” year period, propelling GE’s growth. By 2005 GE Capital ac- Over the next three years, White and his team separated counted for 35% of the parent corporation’s profits. Nestlé dis- PerkinElmer’s original core business and all the life-sciences covered that it had a number of food and drink products products and services into two organizations. The employees designed to be consumed outside the home. Like the original in the analytical instruments division were given incentives PerkinElmer, it assembled these products into a new unit, to meet an aggressive cost reduction and cash flow target and Nestlé Food Services; developed a unified strategy; and effec- told that the division would be spun off as a separate busi- tively created the core of a new multibillion-dollar business. ness or sold to a strong partner. Meanwhile, White set up Untapped insights into customers. Most large companies a new data and diagnostics subsidiary, Celera Genomics, gather considerable amounts of data about the people and which, fueled by the passion of the scientist Craig Venter, fa- businesses that buy their wares. But it’s not always clear how mously went on to sequence the complete human genome. much they actually know about those customers. In a recent Celera and AB were combined into a new core business orga- series of business seminars I held for management teams, the nization, a holding company christened Applera. participants took an online survey. Though nearly all came While Celera garnered the headlines, AB became the gold from well-regarded companies, fewer than 25% agreed with standard in the sequencing instrument business, with the the simple statement “We understand our customers.” In leading market share. Today it has revenues of $1.9 billion a 2004 Bain survey, we asked respondents to identify the and a healthy net income of $275 million. Meanwhile, the most important capabilities their companies could acquire

72 Harvard Business Review | April 2007 | hbr.org to trigger a new wave of growth.“Capabilities to understand our core customers more deeply” topped the list. For just this reason, insights into and relationships with Shrinking to Grow customers are often hidden assets. A company may discover that one neglected customer segment holds the key to un- When a company uncovers an underutilized source of precedented growth. It may find that it is in a position of in- leadership economics, sometimes the best response fluence over its customers, perhaps because of the trust and is to “double down” on its investment in that area. reputation it enjoys, and that it has not fully developed this A bold version of this is actually shrinking to grow. position. Or it may find that it has proprietary data that can Consider the example of Royal Vopak. be used to alter, deepen, or broaden its customer relation- If you are not in the oil or chemicals business, you ships. All these can stimulate growth around a new core. may not be familiar with Vopak, but it is the world Harman International, a maker of high-end audio equip- leader in independent tank storage of bulk oil and ment, redefined its core around an unexploited customer seg- chemicals, operating in 75 port locations from Rotter- ment. In the early 1990s it was focused primarily on the con- dam to Houston to Singapore. Vopak traces its roots sumer and professional audio markets, with less than 10% of back to a time when the Netherlands was the wealthi- revenues coming from the original-equipment automotive est and most powerful country in the world, owing to market. But its growth had stagnated and its profits were its role as a center for shipping and trade with the Far near zero. In 1993 Sidney Harman, a cofounder, who had left East. The origins of Vopak lie in a company that was the company to serve as U.S. deputy secretary of commerce, founded in 1616, by a group of porters on the docks of returned as CEO in an attempt to rejuvenate the company. Amsterdam, for the purpose of loading and unloading Harman cast a curious eye on the automotive segment. He ship cargoes. realized that people were spending more time in their cars, By 2000 Vopak was enjoying sales of €5.6 billion, and that many drivers were music lovers accustomed to high- with positions in shipping, chemical distribution, and end equipment at home. Hoping to beef up the company’s port storage facilities. Its storage business was the sales in this sector, he acquired the German company Becker, most profitable. When Vopak’s profits suffered and its which supplied radios to Mercedes-Benz. One day when Har- stock price came under severe pressure, plummeting man was visiting their plant, some Becker engineers demon- from €25 per share in June 1999 to €12 in July 2002, strated how new digital hardware allowed the company to the company took decisive action. It spun off every- create high-performance audio equipment in a much thing but the storage business, reducing the sales vol- smaller space than before. That, Harman says, was the turn- ume of the company to €750 million. But Vopak did not ing point. He invested heavily in digital to create branded stop there: It even sold some of its storage portfolio, high-end automotive “infotainment” systems. The systems further reducing its size. proved to have immense appeal both for car buyers and for What was the result? Amazingly, the company’s car manufacturers, who enjoyed healthy margins on the market value increased beyond its original level, as the equipment. Based largely on its success in the automotive stock price rebounded to €30 in May 2006. Further- market, Harman’s market value increased 40-fold from 1993 more, the stronger, well-funded business began to to 2005. grow again – both organically and through acquisitions It is somewhat unusual, of course, to find an untapped cus- and new port locations. During the first half of 2006, tomer segment that is poised for such rapid growth. But it Vopak’s revenues grew by 17% and its earnings by isn’t at all unusual for a company to discover that its relation- 28%, in an inherently low-growth industry. John Paul ships with customers are deeper than it realized, or that it Broeders, the chairman of the executive board, says, has more knowledge about customers than it has put to “Without shrinking first, we would never have created work. Hyperion Solutions, a producer of financial software, the resources, the management focus, and a stable was able to reinvent itself around new products and a new platform to begin to grow again as we have.” sales-and-service platform precisely because corporate fi- Shrink-to-grow strategies are not an end in them- nance departments had come to depend on its software for selves, but they can pave the way for redefinition. financial consolidation and SEC reporting.“We totally under- These moves have a very high success rate when it estimated how much they relied upon us for this very tech- comes to increasing a company’s value and liberating nical and sensitive part of their job,”says Jeff Rodek, formerly one of the cores to strengthen and grow, provided it’s Hyperion’s CEO and now the executive chairman. Ameri- given additional resources. Indeed, another three of can Express transformed its credit-card business on the basis our 25 case studies in successful core redefinition re- of previously unutilized knowledge of how different cus- lied on this tactic: PerkinElmer, Samsung, and GUS. tomer segments used the cards and what other products might appeal to them. Even De Beers, long known for its

hbr.org | April 2007 | Harvard Business Review 73 Finding Your Next Core Business

monopolistic practices in the diamond industry, recently redefined its core around consumer and customer relationships. De Beers, of course, had long-standing relationships Seven Steps to a New Core Business with everyone in the industry. When its competitive land- scape changed with the emergence of new rivals, De Beers Define the core of your business. leaders Nicky Oppenheimer and Gary Ralfe decided to make 1 Reach consensus on the true state of the core. the company’s strong brand and its unique image and relationships the basis of a major strategic redefinition. The com- Assess the core’s full potential and the durabil- pany liquidated 80% of its inventory – the stockpile that had 2 ity of its key differentiation. allowed it for so long to stabilize diamond prices – and created a new business model. It built up its brand through ad- Develop a point of view about the future, and vertising. It developed new product ideas for its distributors 3 define the status quo. and jewelers, and sponsored ad campaigns to market them to consumers. As a result, the estimated value of De Beers’s di- Identify the full range of options for redefining amond business increased nearly tenfold. The company is 4 the core from the inside and from the outside. still in the business of selling rough diamonds, but its core is no longer about controlling supply–it’s about serving con- Identify your hidden assets, and ask whether sumers and customers. 5 they create new options or enable others. Underexploited capabilities. Hidden business platforms and hidden customer insights are assets that companies al- Use key criteria (leadership, profit pool, repeata- ready possess; in theory, all that remains is for management 6 bility, chances of implementation) in deciding to uncover them and put them to work. Capabilities – the which assets to employ in redefining your core. ability to perform specific tasks over and over again–are different. Any capability is potentially available to any com- 7 Set up a program office to help initiate, track, pany. What matters is how individual companies combine and manage course corrections. multiple capabilities into “activity systems,” as Michael Porter calls them, meaning combinations of business processes that create hard-to-replicate competitive advantage. IKEA’s successful business formula, Porter argued in his 1996 out the haystacks and accelerate the search. Such capabilities HBR article “What Is Strategy?,”can be traced to a strong and have shortened product development from five years to two unique set of linked capabilities, including global sourcing, and have set Novozymes apart from its competitors. design for assembly, logistics, and cost management. Of course, a company may find that it needs to acquire An underexploited capability, therefore, can be an engine new capabilities to complement those it already has before of growth if and only if it can combine with a company’s other it can create a potent activity system. Apple indisputably cap- capabilities to produce something distinctly new and better. italized on its strengths in design, brand management, user Consider the Danish company Novozymes,now a world leader interface, and elegant, easy-to-use software in creating the in the development and production of high-quality enzymes. iPod. But it also needed expertise in the music business and When it was spun off from its parent corporation in 2000, in digital rights management. Once it had those, Apple Novozymes was still largely dependent on relatively low-tech gained access to content by signing up the top four recording commodity enzymes such as those used in detergents. companies before competitors could and developing the Steen Riisgaard, the company’s chief executive, set out to iTunes Music Store. It also created a brilliantly functional ap- change that, and the key was Novozymes’s underutilized sci- proach to digital rights management with its Fairplay soft- entific capability. Riisgaard focused the company’s R&D on ware,which ensures that the music companies obtain a highly the creation of bioengineered specialty enzymes.Its scientists controllable revenue stream. This combination of existing worked closely with customers in order to design the enzymes and new capabilities proved transformational for Apple. precisely to their specifications. If a customer wanted to re- The highest form of capability development is to create a move grease stains from laundry at unusually low tempera- unique set of capabilities – no longer hidden – that can build tures,for instance,Novozymes would collect possible enzyme- one growth platform after another, repeatedly giving a com- producing microorganisms from all over the world,determine pany competitive advantage in multiple markets. Though which one produced the enzyme closest to what was needed, difficult, this is a strong temptation; indeed, it has proved to remove the relevant gene, and insert the gene into an organ- be a siren song for many. But a few companies, such as Emer- ism that could safely be produced at high volume. Riisgaard son Electric, Valspar, Medtronic, and Johnson & Johnson, likens the process to finding a needle in a haystack, except have managed to avoid the rocks. A lesser-known example is that Novozymes uses state-of-the-art technology to single Danaher, which only 20 years ago was a midsize company

74 Harvard Business Review | April 2007 | hbr.org with $617 million in revenues and almost all its business con- companies had either gone bankrupt or been acquired, and centrated in industrial tool markets. Danaher developed a set another 130 had engineered a fundamental shift in their core of procedures whereby it can identify acquisitions and then business strategy. In other words, nearly six out of ten faced add value to the acquired companies through the so-called serious threats to their survival or independence during the Danaher Business System. The system has several phases and decade, and only about half of this group were able to meet dimensions, including cultural values, productivity improve- the threat successfully by redefining their core business. ment, sourcing techniques, and a distinctive approach to Why do so many companies face the need to transform measurement and control. It has allowed Danaher to expand themselves? Think of the cycle that long-lived companies into six strategic platforms and 102 subunits spanning a wide commonly go through: They prosper first by focusing relent- range of industrial applications, from electronic testing to en- lessly on what they do well, next by expanding on that core vironmental services. The company’s stock price has risen by to grow, and then, when the core has lost its relevance, by re- more than 5,000% since 1987, outpacing the broader market defining themselves and focusing anew on a different core by a factor of more than five. strength. It seems clear that this focus-expand-redefine cycle It’s somewhat maddening how the assets explored here – has accelerated over the decades. Companies move from one PerkinElmer’s undervalued business platform, Harman’s un- phase to another faster than they once did. The forces behind tapped customer insights, Novozymes’s underexploited capa- the acceleration are for the most part well known. New tech- bilities–can be so obvious in hindsight and yet were so hard nologies lower costs and shorten product life cycles. New to appreciate at the time. Will you be any better able to see competitors – currently in China and India – shake up whole what is under your nose? One thing seems clear: Your next industries. Capital, innovation, and management talent flow core business will not announce itself with fanfare. More more freely and more quickly around the globe. The churn likely, you will arrive at it by a painstaking audit of the areas caused by all this is wide-ranging. The average holding period outlined in this article. for a share of common stock has declined from three years in

In 2004 my colleagues and I surveyed 259 senior executives around the world. More than 80% of them indicated that the productive lives of their strategies were getting shorter.

The first step is simply to shine a light on the dark corners the 1980s to nine months today.The average life span of com- of your business and identify assets that are candidates for panies has dropped from 14 years to just over ten, and the av- a new core. Once identified, these assets must be assessed. Do erage tenure of CEOs has declined from eight years a decade they offer the potential of clear, measurable differentiation ago to less than five today. from your competition? Can they provide tangible added Business leaders are acutely aware of these waves of value for your customers? Is there a robust profit pool that change and their ramifications. In 2004 my colleagues and I they can help you target? Can you acquire the additional ca- surveyed 259 senior executives around the world about the pabilities you may need to implement the redefinition? Like challenges they faced. More than 80% of them indicated that the four essentials of a good golf swing, each of these re- the productive lives of their strategies were getting shorter. quirements sounds easily met; the difficulty comes in meet- Seventy-two percent believed that their leading competitor ing all four at once. Apple’s iPod-based redefinition suc- would be a different company in five years. Sixty-five percent ceeded precisely because the company could answer every believed that they would need to restructure the business question in the affirmative. A negative answer to any one of model that served their primary customers. As the focus- them would have torpedoed the entire effort. expand-redefine cycle continues to pick up speed, each year will find more companies in that fateful third phase, where redefinition is essential. For most, the right way forward will A Growing Imperative for Management lie in assets that are hidden from view – in neglected busi- Learning to perform such assessments and to take gradual, nesses, unused customer insights, and latent capabilities that, confident steps toward a new core business is increasingly cen- once harnessed, can propel new growth. tral to the conduct of corporate management. Look, for example, at the fate of the Fortune 500 companies in 1994. A Reprint R0704D research team at Bain found that a decade later 153 of those To order, see page 143.

hbr.org | April 2007 | Harvard Business Review 75

By examining the commitments people make to colleagues and customers, executives can ﬁgure out why work stalls and how to get it moving again. Promise-Based ManagementTHE ESSENCE OF EXECUTION

by Donald N. Sull and Charles Spinosa

MANAGERS HAVE A FULL SET of tools for translating strategy into action. They can redraw their organization charts, redesign their business processes, realign employee incentives, or build sophisticated IT systems to track performance. Nevertheless, critical initiatives stall, and important work goes undone. Emerging business opportunities fall by the wayside or, even worse, into the hands of more agile competitors. Execution fails for a variety of depressingly familiar reasons: Employees disengage because they don’t buy in to the com-

Adam Niklewicz Adam Mpany’s priorities; they become dissatisﬁed and unproductive.

hbr.org | April 2007 | Harvard Business Review 79 Promise-Based Management: The Essence of Execution

Functional silos hinder the coordination necessary for com- wield carrots and sticks. But the drift toward corporate spe- panies to seize new business opportunities. Matrix organiza- cialization has been steady in recent years. Executives strug- tional structures obscure accountability for projects and ini- gle to make things happen in matrix organizations or net- tiatives. Indeed, execution becomes especially difficult when works of loosely allied firms when the people they’re relying executives are charged with managing the activities not only on don’t share their assumptions or objectives. A researcher of their direct reports but also of a far-flung network of sup- in a pharmaceutical company,for instance,may define success pliers, partners, knowledge workers, and colleagues in differ- as a breakthrough drug developed over decades. Meanwhile, ent time zones around the world. an outside sales rep may focus on units sold in the short term, Managers cannot overcome these and other obstacles to rarely looking beyond the next quarter’s quota. Well-made execution by doing more of the same; instead, they must fun- promises can help bridge the gap between such individuals, damentally rethink how work gets done. Specifically, they who may be literally and figuratively miles apart. The dia- must acknowledge that a company is more than a bundle of logues that are central to promise-based management allow processes or a set of boxes and lines on an org chart. At its people from disparate backgrounds to achieve a common heart, every company is a dynamic network of promises. Em- understanding of what needs to be done. Promises also fos- ployees up and down the corporate hierarchy make pledges ter a mutual sense of personal obligation to deliver the goods. to one another – the typical management by objectives. Em- Increase agility. Companies with well-honed business pro- ployees also make commitments to colleagues in other divi- cesses usually do a good job of executing on high-volume, sions and to customers, outsourcing partners, and other routine activities. However, those same processes can pre- stakeholders. Promises are the strands that weave together vent firms from taking advantage of opportunities that fall coordinated activity in organizations. outside their core capabilities – say, entering an emerging Most of the vexing challenges leaders face–improperly ex- market, rolling out a large-scale IT system, or managing an ecuted strategy,lack of organizational agility,disengaged em- ecosystem of partners to create and capture value. The very ployees, and so on–stem from broken or poorly crafted com- standardization that generates continuous improvements in mitments. Executives can overcome some of their thorniest traditional business processes limits companies’ flexibility – problems in the short term and foster productive, reliable and agility matters. In a recent McKinsey survey on building workforces for the long term by practicing what we call nimble organizations, 89% of the more than 1,500 executives “promise-based management”: cultivating and coordinating polled worldwide ranked agility as “very” or “extremely” im- commitments in a systematic way. portant to their business success. And 91% said it had become more important for their companies over the past five years. Promise-based management can help organizations act more Why Promises, and Why Now? quickly and flexibly. When putting out a request for help Promise-based management builds on a tradition that ex- with a project or an initiative, for instance, employees can tends back at least to the emergence of contract law in the cast their nets wide, within the organization and beyond, to Roman Empire. It draws on the tenets of speech act theory, find the right person for the job. Each party to the promise a branch of linguistic philosophy that explores how people can establish terms to suit his or her specific circumstances commit themselves to action through assertions, questions, and can renegotiate as new information comes to light or as requests, promises, declarations, and other speech acts. (See priorities shift – and that’s much less cumbersome than the sidebar “A Primer on Speech Act Theory.”) Promise-based reengineering a well-oiled business process. Because both management is particularly relevant to today’s executives as sides have voluntarily agreed to the commitment–and have they increasingly specialize in their core businesses, divest put their reputations on the line – they are likely to act with noncore units, and outsource peripheral activities. It also urgency and discipline. helps executives to capitalize on business opportunities out- Increase employee engagement. Many managers attempt side their core competencies and to engage and retain em- to rein in today’s fragmented workforce by creating rigid pro- ployees within a highly mobile workforce. Let’s examine each cesses that dampen employees’ initiative and engagement. of these business challenges in turn. But organizations that engender well-made, reliable prom- Increase coordination and collaboration. It’s fairly straight- ises create a sense of community among workers – that is, forward for managers to get things done when all the rele- people promise to do things because they buy in to the com- vant people and resources fall within the same P&L or func- pany’s overall mission and priorities and see their part in tional division. There is a clear hierarchy, and positional making things happen. Promise-based management empow- power motivates people to honor their promises – bosses ers individuals to act like true entrepreneurs within the or-

Donald N. Sull ([email protected]) is an associate professor of strategy and international management at London Business School in England. He has written or cowritten six other HBR articles, including “Managing by Commitments” (June 2003). Charles Spinosa ([email protected]) is a group director at Vision Consulting, based in Dublin, Ireland.

80 Harvard Business Review | April 2007 | hbr.org A PRIMER ON SPEECH ACT THEORY

Most executives prefer doing to talking, but they also spend sives bind the speaker to a future course of action and include between two-thirds and three-quarters of the workday in for- not only promises but also offers (I will do this if you accept) mal or casual discussions. So how do they get things done and counteroffers (I can’t do that but could do this). Directives with words? Speech act theory – a branch of linguistic philoso- attempt to induce the listener to do something; they include phy that explores how people use words to coordinate action– entreaties, requests, and commands. Declarations are author- says that talking is doing. ized pronouncements that change the state of affairs in the For centuries, philosophers viewed language as a tool for de- world, as when a boss fires a subordinate. Expressives com- scribing external reality. Sentences such as “It is raining” were mit the speaker to feeling a certain way about the current state considered true or false on the basis of how well they corre- of affairs, as when someone apologizes for doing something. sponded to real-world conditions. But in the 1950s, Oxford Assertives commit the speaker to a truth and imply future ac- philosopher John L. Austin argued that many statements are tions consistent with it. intended to get things done rather than describe reality. When Searle’s student Fernando Flores argued that most corporate an umpire calls a strike, a military officer issues an order, or a conversations are waylaid by attempts to unearth absolute truths supplier promises to provide a service, that individual is not de- that everyone can agree on and that will produce a clear agenda scribing reality but changing it through his or her utterances. for all to follow. Like philosophers, Flores argued, managers have Austin argued that speech always falls somewhere along a been seduced by the belief that talking is about describing rather wide spectrum between purely descriptive statements, such than doing. Requests and promises are the basic units of coor- as scientific equations, and purely active statements, such as dination in commercial organizations, and assertives should be a priest’s declaration that a couple is married. used primarily to clarify those requests and promises. University of California philosophy professor John Searle Consciously or not, managers (through their utterances) cre- later introduced a taxonomy of speech acts based on the roles ate an intricate web of requests, commitments, assertions, and that different statements play in getting things done. Commis- declarations that affect how people in their organizations act.

ganization–to spot opportunities, assemble the resources re- A promise rarely occurs in isolation: In order to deliver on quired to seize those opportunities, and adjust on the fly. a promise, a provider must solicit and oversee a network of Within the bounds of the firm’s objectives, employees can supporting commitments from colleagues, subordinates, own and run their own personal networks of promises. This partners, vendors, and so on. Having to weave this web of sense of ownership, when coupled with wide latitude in man- pledges makes it that much more complex for the provider to aging the negotiations around individual promises, dramati- deliver the goods and underscores the importance of manag- cally increases employees’ engagement and therefore boosts ing commitments effectively. overall performance. People often take a legalistic view of promises, defining Although promises are critical to business success, too them according to the terms of a deal, much as lawyers might often they fail in practice. To a large extent, these break- focus on specific clauses in a contract. More important than downs result from managers’ and employees’ imperfect un- the actual content of a promise, however, are the discussions derstanding of how to make effective commitments. that give it life. Both sides must explicitly thrash out what the customer wants and why, how the provider would go about satisfying the request, and any constraints or competing pri- Conversations for Commitment orities that could derail fulfillment of the promise. A promise is a pledge a provider makes to satisfy the con- Specifically, the customer and the provider should rigor- cerns of a customer within or outside an organization. For ously go through three phases of conversation to develop our purposes,“customer”and “provider”refer to roles, not in- and execute an effective promise. The first is achieving a dividuals, and these roles can vary depending on the situa- meeting of minds, which is easier said than done. This phase tion. The CIO, for example, is a customer when requesting fi- typically starts when the customer requests something from nancial data from the CFO or soliciting a commitment from the provider. The two parties will have different takes on a subordinate. But she is a provider when supplying techni- what should be done to fulfill the request, why, how quickly cal support to the finance department or making promises to it can be done, and which resources should be used. Be- her boss. cause of divergent worldviews – across divisions, companies,

hbr.org | April 2007 | Harvard Business Review 81 Promise-Based Management: The Essence of Execution

countries, and languages – people often end up talking past The Five Characteristics of a Good Promise one another. The customer and the provider must therefore In more than a decade of research on commitments, we’ve sit down and explore the fundamental questions of coordi- asked hundreds of managers to evaluate the quality of prom- nated effort: What do you mean? Do you understand what ises made within their organizations. We’ve asked them what I mean? What should I do? What will you do? Who else percentage of all commitments made to them they could ac- should we talk to? tually rely on. The typical response is about 50%. When prom- The customer and the provider should strive to obtain a ises are unreliable, managers waste a lot of time checking common and realistic understanding of what it will take to progress, exerting political pressure, or duplicating work. Or- satisfy the customer, possible obstacles to delivery, and what ganizational efficiency and effectiveness suffer. the customer can do to help if difficulties arise or other pri- If managers and employees understand how to solicit and orities compete for the provider’s time and attention. This make good promises, they can minimize this kind of friction. phase of discussion concludes when the provider makes a More important, they’ll be able to overcome the execution promise that the customer accepts. challenges thrown at them. We’ve found that well-made In the next phase – making it happen – the provider exe- promises share the following five characteristics. cutes on the promise. Regardless of what the provider may Good promises are public. Promises that are made, moni- think, now is not the time to take the phone off the hook. tored, and completed in public are more binding–and there- Conversation is more critical than ever. Even well-crafted fore more desirable – than side deals hammered out in pri- promises remain fragile, susceptible to shifts within the or- vate. When employees make promises out in the open, in ganization or in the broader business environment that front of their peers and bosses, they can’t conveniently forget prompt executives to reshuffle priorities and reallocate re- what they said they would do, recall only a few conditions of sources. In light of such shifts, the customer and the provider a promise, or back out of an uncomfortable commitment

Conversations should comprise offers, counteroffers, commitments, and refusals rather than endless assertions about the state of nature.

will need to continue interpreting and reinterpreting the entirely.Nor will they want to, in all likelihood: Psychologists promise. Indeed, if the provider realizes he cannot satisfy have found that most people strive to make good on declara- the promise he made to the customer, he should immedi- tions they’ve made in public. After all, their reputations for ately renegotiate the terms of delivery. Likewise, the cus- competence and trustworthiness are on the line. tomer is obliged to initiate renegotiations if her priorities or A good example of the power of public promises comes circumstances change in ways that affect what she has asked from Royal Bank of Scotland. In the past decade, RBS has the provider to do. This phase ends when the provider de- moved from the number two bank in Scotland to one of the clares the task complete and submits it to the customer for top ten banks in the world. It broke into the big leagues evaluation. through its 2000 acquisition of England’s NatWest, a bank In the final phase–closing the loop–the customer publicly three times its size. RBS did not make the first or the highest declares that the provider has delivered the goods (or failed bid for NatWest, but it won the prize by promising to im- to do so). Closing the loop gives the customer and provider a prove the target company’s operating performance. RBS chance to offer each other feedback on how they could work didn’t make vague statements about projected synergies or more effectively in the future, thereby building continuous scale efficiencies; instead, its leaders publicly promised to de- improvement into the quality of other promises they make. liver on 154 specific initiatives that, combined, would grow Note that the customer and the provider must come not revenues by £390 million and cut costs by £1.2 billion. More- only to a meeting of minds but also to a common purpose. A over, RBS pledged that its managers would take personal re- provider may be reluctant to enter into a commitment for sponsibility for delivering on those initiatives. good reasons–such as keeping her options open and protect- A promise made in public should remain public through- ing her reputation for delivering the goods. It’s critical that out the life of the commitment. The managers at the Brazil- conversations about what to do go hand in hand with discus- ian brewer AmBev each year publicly promise to accomplish sions about why it matters for both sides. In their haste to get five individual goals, all of which are linked to the company’s things done, many managers rush through these important overall objectives. They pledge to hit target numbers for, say, dialogues or skip them altogether. increasing company margins, improving service levels, or cut-

82 Harvard Business Review | April 2007 | hbr.org ting costs. The managers’ performance against these stated objectives is tracked weekly, and the data are posted in the office for all to see. The resulting culture of transparency and execution has helped propel AmBev from the number two brewer in Brazil to the largest brewer in the world (by volume) through InBev, its joint venture with the Belgian company Interbrew. Good promises are active. In many organizations, customers hurl requests at providers like paperboys cycling through a neighborhood chucking news- papers onto doorsteps. Providers catch the requests, throw them on a pile, and go back to work. Requests like these rarely elicit good promises. As we discussed earlier, negotiating a commitment should instead be an active, collaborative process. Misunderstandings will inevitably occur when providers and customers come together from different disciplines, business units, organizations, or countries, or when they are pursuing a novel initiative. Even worse, when an organizational promise is broken, people often believe that the other party has acted in bad faith. Business unit managers complain about the idiots in IT, while software engineers grumble about managers who don’t know what they want. No one gets the benefit of the doubt, and every miscommunication is interpreted as senior executives eventually agreed to make clear requests of further evidence of evil intentions. This downward spiral of one another and provide only the background information distrust poisons relationships and impedes performance. In necessary to flesh out those requests for potential providers. such situations, probing discussions can unearth the different (One of the executives was tasked with interrupting those assumptions customers and providers are making. who went overboard explaining their rationales.) Potential In many organizations, the active negotiation of a prom- providers were allowed two rounds of questioning for clari- ise turns into an exploration of multiple assertions and sce- fication. They were then required to get back to the customer narios, leading everyone to engage in time-consuming rebut- within 48 hours with a refusal, a commitment to act, or a tals and “gotcha” questions designed to demonstrate the counteroffer. In a matter of weeks, the team’s discussions inquisitor’s cleverness rather than get closer to a good prom- shifted from endless debates about reality to clear requests ise. These discussions often start out productively but stall for action and promises to deliver. when the participants seek complete certainty before ham- Good promises are voluntary. In many organizations, mering out a deal. The top executives of one biotech firm people feel compelled to comply with each and every re- were caught in exactly this trap. The senior team consisted of quest in order to be seen as team players, please their bosses, brilliant scientists who spent all their time trying to prove or avoid looking like jerks. For instance, in the past, employ- they were right. The discussion was insightful and erudite, ees at General Motors made liberal use of the “GM nod”– but in the end nothing got done. a polite yes to every request. But when the response to every Active conversations should comprise offers, counter- request is yes, what does it really mean? It might mean offers, commitments, and refusals rather than endless asser- “yes”–but it might mean “no”or “Is it time for lunch yet?”or tions about the state of nature. In the biotech company, the “I have a pulse.”

hbr.org | April 2007 | Harvard Business Review 83 Promise-Based Management: The Essence of Execution

The most effective promises are not coerced; they are vol- A large hydroelectric engineering joint venture we untary. The provider has viable options for saying something worked with recognized the need for clarity of organiza- other than yes. Contracts signed under duress are not bind- tional promises and created a system for making sure the ing in a court of law. Similarly,psychologists have found, peo- lines of communication stayed open between customers and ple assume little personal responsibility for promises made providers. From its inception in 2000, Voith Siemens Hydro under threat (although they may comply out of fear). By con- Power Generation battled upstart Chinese and Indian man- trast, people feel deeply obliged to follow through on a prom- ufacturers at the low end of the market and established ise if they exercised free will in making it. rivals, including GE and Alstom, at the high end. Voith While providers shouldn’t be expected to fulfill every re- Siemens decided that the best way for it to compete would quest, they also cannot be allowed to avoid making promises. be to offer its customers integrated solutions – entire power Instead of automatically saying no, a provider can respond to houses, including turbines, generators, and other compo- a customer’s request with a counteroffer–for instance,“What nents. To make this strategy work, however, managers you’re asking is not possible, but this is what I can do for you.” needed to re-create the way employees in different disci- A thoughtless yes and a reflexive no are both passive re- plines, departments, and regions coordinated their activities. sponses to a customer’s request, but a counteroffer signals CEO Hubert Lienhard and his team initiated a program to the provider’s active interest and voluntary engagement in improve the quality of commitments people in the organiza- helping the customer succeed. tion were making. The engineers in the various disciplines, Senior executives must therefore give providers the space for instance, created and widely distributed a set of checklists to decline customers’ requests or to make counteroffers. and memo templates to be used as guides for making re- An executive in one information technology company we quests and promises. The checklists specified a half-dozen or

Renegotiation of promises may not always be pleasant, but it is critical. People on both sides must have the scope to recalibrate in order to seize emerging business opportunities.

worked with gave his direct reports a set of cards in which so aspects of any request or promise that must be explicit to most were marked “yes” or “counteroffer” and three were both parties. These included names, dates, underlying ratio- marked “no.” Using those cards, subordinates could decline nales for requests, the skills necessary to fulfill promises, and three requests per quarter, provided they publicly offered so on. The engineers also established periodic design freezes, a clear explanation why. during which design coordinators, referring to their check- Of course, managers should recognize that some team lists, would ensure that customers and providers maintain members may abuse an opt-in philosophy toward making identical understandings of their requests, promises, and promises. Keeping commitment-phobic employees on the counteroffers. team degrades the power of promises for everyone else. Explicit promises foster coordination and execution across Good promises are explicit. Customers and providers an organization. They keep customers satisfied and providers should clearly acknowledge who will do what for whom and on point. But that doesn’t mean the terms of a promise by when. The need for explicit negotiation increases in situ- should be etched in stone; they can and will evolve as circum- ations in which a new party replaces an established one, stances change, priorities shift, or new information emerges. a company’s employees are culturally diverse, or an abstract Renegotiation of promises may not always be pleasant – it construct (optimization or innovation, for example) gives rise can be risky, time-consuming, and resource intensive – but to multiple interpretations. Implicit promises are quick and it is critical. Customers and providers must have the scope to easy to establish but often result in misunderstandings. recalibrate in order to seize emerging business opportunities. The customer and the provider must be explicit about Onset Ventures, in California, has cultivated more than their promise throughout its life cycle. Requests must be 100 early-stage technology start-ups since 1984, and nearly clear from the start, progress reports should accurately re- 80% of them (compared with the industry average of about flect how the promise is being executed, and success (or fail- 20%) have gone on to higher rounds of financing. Like most ure) should be outlined in detail at the time of delivery venture capital companies, Onset stages its funding in rather than after the fact, during a quarterly performance rounds. At the start of each round, the entrepreneur and check-in or through annual 360-degree feedback. Onset negotiate a small set of explicit objectives to meet

84 Harvard Business Review | April 2007 | hbr.org APPLYING PROMISE-BASED MANAGEMENT

Our research on commitments suggests that work stalls in organizations when people fail to make or deliver on promises. As the chart below indicates, managers who systematically cultivate and coordinate promises can jump-start critical projects and initiatives.

Obstacles to Getting Things Done Root Causes Remedies

Organizational silos Requests and promises are honored Publicly monitor progress of requests and promises made across hinder coordination. within units but considered optional units. across units. Train employees to make and fulﬁll requests across the organiza- Requests and promises made across tion and to manage their networks of promises. units are viewed as political struggles Rigorously make and deliver on a succession of small but highly for power, breeding distrust. visible promises to rebuild trust. Explicitly link requests and promises to an overarching mission that all can agree on.

Employees are Employees fail to see the link be- Ensure that employees understand how their promises support disengaged. tween corporate strategy and their the ﬁrm’s overall mission and priorities. own activities. Publicly celebrate delivery on promises. Employees feel they can’t decline or Empower employees to decline unreasonable requests, make renegotiate requests, and they end up counteroffers, and renegotiate promises when circumstances overcommitting. change.

The organization Promises are made in private, progress Ensure that promises are made publicly, track progress toward lacks clear isn’t tracked openly, and managers re- delivery in a transparent manner, and publicly declare satisfaction accountability. fuse to express their dissatisfaction or dissatisfaction with the results. publicly.

The organization Managers are slow to capture emerg- Empower people to seek out the right providers within or outside lacks agility. ing opportunities because they try to the organization to secure the resources required for seizing come to complete agreement in their emerging opportunities. assessments and strive for perfect Introduce a “good enough” prototype and reﬁne it over time solutions. through ongoing dialogue, renegotiating promises as circumstances and priorities change. Focus on honoring promises rather than checking off boxes to demonstrate compliance.

Stakeholders don’t Customers, investors, NGOs, regula- Make promises to stakeholders publicly; invite credible third trust executives tors, and other stakeholders call for parties to monitor progress on delivery. to honor their cumbersome monitoring mechanisms Rigorously make and deliver on a succession of small but highly commitments. and withhold their cooperation. visible promises to rebuild trust.

The organization Senior executives articulate a new Recognize that a change in strategy requires a new set of is trapped in the strategy, but the ﬁrm continues in its promises. status quo. old ways. Or the ﬁrm executes well in Articulate the promises necessary to execute the new strategy, crisis mode but lapses into old routines and assign customer and provider roles where absent. once the crisis has passed. Aggressively publicize when providers deliver on new promises.

hbr.org | April 2007 | Harvard Business Review 85 Promise-Based Management: The Essence of Execution

before moving on to the next round – for instance, develop the commanding officer wants and why, while leaving the a working beta product, sign five reference customers, and methods of implementation to the discretion of the subordi- survey 100 potential customers to determine demand. The nate officer closest to the situation on the ground. Each order promises are ironclad within a round, but they are expected includes an explanation–known as the commander’s intent– to change (and do) in subsequent rounds. Throughout the of why the objective matters to the commanding officer and rounds, the entrepreneur and the VC firm reassess the situa- to his superior as well. Business leaders can apply a similar tion and agree on new promises to accommodate shifting discipline by explaining to providers why requests matter to business needs. them. They can gauge whether providers understand and Good promises are mission based. Often, a customer will support the overall rationales for a request by asking them solicit a promise from a provider without offering any ex- to articulate in their own words why the request matters. planation for why the request matters. As a result, the pro- • • • vider infers that the request isn’t critical or that the customer Promises are the fundamental units of interaction in busi- doesn’t consider the provider important enough to deserve nesses. They coordinate organizational activity and stoke the an explanation or smart enough to understand it. In any case, passions of employees, customers, suppliers, and other stake- the outcome won’t be pretty.The most effective promises are holders. While they hold an organization together, they are mission based – that is, the customer explains the rationale as fragile as they are crucial. Individuals’ divergent world- for the request and invests time to ensure that the provider views and objectives tug constantly at the filaments of prom- understands the mission. Sure, it can be cumbersome to ex- ises, and unexpected contingencies can tear precarious agree- plain where a division fits in the corporate strategy and ments. Leaders must therefore weave and manage their webs where a particular request belongs within that division. But of promises with great care–encouraging iterative conversa- when providers understand why their promise matters, they tion to make sure commitments are fulfilled reliably. If they are more likely to persist in executing even when they en- do, they can enhance coordination and cooperation among counter conflicting demands and unforeseen roadblocks. colleagues, build the agility required to seize new business They can also exercise creativity in addressing customers’un- opportunities, and tap employees’ entrepreneurial energies. derlying concerns rather than blindly fulfilling the letter of If they don’t, they will lose out to rivals who do. the stated request. The U.S. Marine Corps, for instance, uses what it calls Reprint R0704E mission-based orders. These requests clearly articulate what To order, see page 143.

In the end, fate wasn’t totally unkind to Bill Davis. Scott Arthur Masear Arthur Scott

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STRATEGY • ADVERTISING • INTERACTIVE • RELATIONSHIP MARKETING • PUBLIC RELATIONS CHICAGO DENVER CINCINNATI STRATEGIC HUMOR Tools of the Trade

Everywhere, people rely on their cell phones, e-mail, and digital assistants in the race to gather and transmit data, plans, and ideas faster and faster.

Edward M. Hallowell “Overloaded Circuits: Why Smart People Underperform” Harvard Business Review January 2005

“Uh, oh...something tells me my blog has been discovered.”

“I’m going to have you talk to Hargraves. Whatever he decides is OK with me.” Dave Carpenter, Leo Cullum, Mike Lynch, Harley Schwadron, and Mike Shapiro Mike and Schwadron, Harley Lynch, Mike Cullum, Leo Carpenter, Dave

88 Harvard Business Review | April 2007 | hbr.org “Could you bring us some laser pointers?”

“And, for the global executive, a belt that accommodates the latest in high-tech communications hardware.”

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hbr.org | April 2007 | Harvard Business Review 89 LEADERSHIPTHE TEAM Complementary Strengths or Conflicting Agendas?

by Stephen A. Miles and Michael D. Watkins

SENIOR LEADERSHIP TEAMS whose members play complementary roles have been chronicled as far back as Homer’s oral history of the Trojan War. Though the Greeks were led in their quest for retribution against Troy by the powerful King Agamemnon, their victory would not have been possible without Achilles, the mighty warrior; Odysseus, the wily tactician; and Nestor, the wise elder. Each had a crucial, distinct role to play in the Greek high command. Achilles rallied the troops in Alex Nabaum Alex

90 Harvard Business Review | April 2007 | hbr.org

The Leadership Team: Complementary Strengths or Conﬂicting Agendas?

the heat of battle. Odysseus provided sound strategic advice team, the greater the potential for difficulties when it comes during and between engagements. Nestor was a source of to a change of command. cool-headed counsel and diplomacy, mediating between the Fortunately, the board of directors and the CEO can avoid titanic egos of Agamemnon and Achilles. No one of them problems like these. With a good understanding of comple- could have played all the varied roles necessary to guide the mentary leadership, they can create an effective team and enterprise to victory; collectively they prevailed and won ensure a stable and productive succession when the member- their place in history. ship changes. While this article applies broadly to leadership Not much has changed at the top of large organizations in teams, including relatively large groups such as the senior ex- the past 3,000 or so years. Today, complementary-leadership ecutive committee, it is particularly relevant to relationships structures are common and, in some cases, even institution- involving the top two or three people in an organization. alized. Think, for example, of the chief executive officer and the chief operating officer, a pairing in which one leader is The Promise of Complementary Leadership concerned mainly with external issues and the other focuses on internal matters. The pervasiveness of complementary leadership in large Even though most complex organizations are run, for- organizations results in part from the obvious differences mally or informally, by teams of two or more, far more atten- between various roles – the CEO and the COO, for example, tion is paid to CEO performance and succession than to such or the heads of different functional areas. Sometimes com- issues as how complementary teams should be designed and plementary-leadership teams are designed into an organiza- what happens when their membership changes, especially tion. (For a description of one firm’s experience with colead- during a succession process. While acknowledging the sym- ers, see the sidebar “A Commitment to Complementarity.”) bolic and actual importance of an organization’s ultimate More often, however, such teams emerge from a process akin leader, we need to expand our focus beyond this unitary to natural selection, in which leaders – through a mixture position. of succession planning, unexpected opportunities, personal The two of us have studied numerous complementary- capabilities, and self-selection – over time come to perform leadership structures, often at very close range in consulting complementary functions. These are distinct because of

One person can rarely assume more than one social role; it is difﬁcult, for example, for a leader to be both feared and loved.

relationships we’ve each had with companies (including sev- the fundamental limits on a single person’s ability to focus eral mentioned in this article). We’ve sought to understand attention, acquire new capabilities, process information, why these structures emerge, what purposes they serve, and and play diverse social roles. Indeed, the limitations of peo- what challenges they create. Our study supports the case for ple’s information-processing capacity, which are well docu- complementarity: Such teams by their very nature are able mented, make it impossible for one individual to manage a to do things that individuals and noncomplementary teams large and complex enterprise. Bruce Chizen, CEO of the soft- can’t. At the same time, we’ve seen that with the beneﬁts ware and technology company Adobe Systems, says of his come risks. Because of members’ different strengths and own position,“The job is simply too big for any one person.” styles, they may pursue incompatible ends or employ incon- Bringing together two or more people with complementary sistent means to achieve their goals. Succession also presents strengths not only compensates for the shortcomings of each particular challenges. What happens when members of but also results in a team in which the whole is much greater complementary teams move on, as they inevitably do? When than the sum of the parts. succession looms, the logic of complementarity can get Complementary leadership generally manifests itself in turned on its head – that is, the more complementary the four ways. Increasing demands on the CEO’s attention and

Stephen A. Miles ([email protected]) is an Atlanta-based managing partner in the Leadership Consulting Practice of the executive search ﬁrm Heidrick & Struggles and a coauthor of “Second in Command: The Misunderstood Role of the Chief Operating Ofﬁcer” (HBR May 2006). Michael D. Watkins ([email protected]), based in Newton, Massachusetts, is a partner in the leadership development consultancy Genesis Advisers and the author ofThe First 90 Days: Critical Success Strategies for New Leaders at All Levels (Harvard Business School Press, 2003).

92 Harvard Business Review | April 2007 | hbr.org he benefits and challenges of running fashion with then president and chief in such a complementary relationship, T an organization with leaders who operating officer Lloyd Blankfein, who Blankfein has had to work to raise his play complementary roles can be seen is now CEO. Earlier, Paulson headed a public profile and increase his involve- at Goldman Sachs, where for decades three-person team comprising himself ment with clients since becoming CEO. many parts of the business – and some- and copresidents and COOs John Thorn- The success of coleadership at times the firm itself – have been headed ton and John Thain. Goldman Sachs reflects both personal by teams of two coleaders. The benefits of such arrangements and institutional commitment to the The practice emerged almost by are several. Coleadership can act as a concept, Kerr says. He notes that when chance. In 1976, when the senior man- restraint on the naturally strong egos he reported to both Thain and Thornton, aging director died, the firm decided to found at a top-tier investment bank. It “I would say something to one, and ten fill his position with two partners and can help assimilate senior hires into the minutes later the other would know it. organization’s culture by pairing the If they had disagreements, and I’m sure A Commitment to newcomers with veterans of the firm. they did, I saw none of that.” Cohen re- It also allows the leadership to be in two calls that Weinberg and Whitehead set Complementarity or more places at once – something ground rules for the relationship early that proved beneficial after the attacks on, including an agreement that if one members of the management commit- of September 11, according to Steven person felt very strongly about some- tee, John Weinberg and John White- Kerr, a former chief learning officer at thing, they both would head in that head, who had worked closely together Goldman Sachs who is now a senior direction. for years. “As friends, they were able to adviser to the firm (and a director of Kerr says such semiformal agree- collaborate in a noncompetitive way,” Harvard Business School Publishing). ments continue to this day. He and oth- recalls Jonathan Cohen, a Goldman At the time of the attacks, Kerr says, ers often interview both members of Sachs advisory director who started at Paulson and Thornton were out of the a new leadership team, map each one’s the firm in 1969. “It was natural for country, but Thain was in New York and view about who will be responsible for them to come together.” Weinberg and could thus oversee efforts to restore what, and then bring the two together Whitehead ran the firm for eight years, order at the firm. to work out differences. and a precedent was set. Perhaps the greatest benefit of co- Of course, not all relationships be- Over time, the notion of coleadership leadership is diversity of thought and tween coleaders succeed. After all, Kerr became ingrained in the firm’s culture. talent. Decisions, while they might take says, “people marry for love and half of Although no formal policy mandates slightly longer to reach, often are better them don’t make it – and these guys that certain businesses be run by more because two different minds have been aren’t always in love when they are put than one person, when a position at work on them. Coleaders can play to together.” But the successes outweigh opens, Cohen says, “you look over the their individual strengths. When Paulson the failures, in large part because the best people for the job, and often and Blankfein worked together, Paulson, firm has learned, sometimes painfully, there are two with complementary who had spent his career building client from its mistakes over the past 30 strengths.” The practice has extended relationships, was Mr. Outside; Blank- years. “If we had known what the full to the top. Before leaving to become fein, who had a background in the tech- cost would be, maybe the practice U.S. treasury secretary in July 2006, nical intricacies of financial instruments, would never have started,” Kerr says. chief executive officer Henry Paulson, was Mr. Inside. Faced with the succes- “But that cost is now sunk. We’ve paid Jr., worked in a close complementary sion challenge that is often embedded our dues.”

time have led to the fairly straightforward task complemen- A second fairly clear-cut division of responsibilities is ex- tarity. Faced with unmanageable levels of complexity and un- pertise complementarity. Before becoming general managers, certainty, leaders divide management responsibilities into executives usually get their training and experience in one or coherent blocks of tasks. As we noted above, one familiar at most a few business functions, such as sales, marketing, ﬁ- split assigns one leader (usually the CEO) the job of manag- nance, operations, or R&D. Although effective general man- ing the external environment, while her counterpart (often agers acquire a good working knowledge of other functions, the COO) concentrates on internal management issues. An- their original areas leave indelible imprints on them. The re- other way to divvy up tasks is to designate executives to take sulting differences in expertise among general managers nat- primary responsibility for different businesses or groups of urally lead to the formation of teams with complementary businesses. expertise. One common conﬁguration in consumer brands

hbr.org | April 2007 | Harvard Business Review 93 The Leadership Team: Complementary Strengths or Conﬂicting Agendas?

companies is a CEO with a sales and marketing background pany as a “wolf seeking its prey”–in this case, a sheep called and a COO with expertise in ﬁnance or operations. In tech- Pepsi. According to Warren Buffett, then a member of Coca- nology companies, the COO often has deep technology ex- Cola’s board, Ivester would take it as a personal insult “any- pertise. For example, Chizen, Adobe’s CEO, has a background time anyone swigs any beverage other than a Coca-Cola in sales and marketing, and Shantanu Narayen, the com- product.” Another division of roles occurs during times of pany’s president and COO, came up through the engineering wrenching internal change: One leader plays the “guardian,” and product ranks. the preserver of what is good in the organization, and an- A third, less sharply delineated type of synergy – what we other plays the “entrepreneur,”the destroyer of what is bad. call cognitive complementarity – involves differences in how (For a description of how these complementary roles have individuals process information. It is extraordinarily rare, for played out conspicuously in a political context, see the side- example, to ﬁnd leaders who are equally good at dealing bar “Complementary Leadership and the Quest for Peace.”) with the big picture – creating and communicating compelling visions and crafting breakthrough strategies – and at Mapping Team Complementarity driving execution through an intense focus on tactics, details, and follow-through. Both Aart de Geus, the founder The extent to which senior teams exhibit complementarity and CEO of Synopsys, and Chi-Foon Chan, the company’s varies considerably. In some cases, leaders play complemen- president and COO, have immense technical expertise – tary roles along all or most of the four dimensions we have which is crucial to their credibility in their highest of high- described. In extreme instances, a deeply complementary re- tech industries, electronic design automation. Despite this lationship effectively becomes a kind of shared leadership.

How does a company avoid ending up with a group of leaders who, in the words of the adage, sleep in the same bed but dream different dreams?

overlap, however, they play very different roles: De Geus is There are few examples of this so-called “two in a box” the idea-a-minute visionary, while Chan stays grounded in leadership structure. Bill Gates and Steve Ballmer at Micro- realistic goals and the details of achieving them. soft are a well-known pair. After more than 20 years working Finally,leaders often play discrete and complementary so- together, plus a stint as hall mates in a Harvard undergrad- cial roles in organizations – a phenomenon we call role com- uate dorm, the chairman and the CEO augment their complementarity. One person can rarely assume more than one plementary areas of expertise (the creation of visionary social role; it is difficult, for example, for a leader to be both technical architectures for Gates, hard-driving sales and mar- feared and loved. Agamemnon could not inspire the troops keting for Ballmer) with a shared passion for the company. as Achilles could, nor could Achilles formulate an overarch- The relationship will be tested as Gates continues his retreat ing battle strategy as the king could. Rather than sacrifice one from day-to-day duties and the recently named COO Kevin or the other of these powerful motivating forces, senior Turner – in the tradition of technology company COOs, an teams naturally evolve into configurations in which one operationally focused former chief information officer (in leader provides the “pull” through rewards and inspiration his case, at Wal-Mart)–tries to create a similar if perhaps less and another provides the “push”through disciplined goal set- intense dynamic with Ballmer. ting and sanctions. A complementary-leadership relationship that has sur- A common example of role complementarity is when vived the stress of several changes exists at Starbucks. In one leader plays “diplomat” (similar to the traditional “good 2002, when Jim Donald joined the company from Pathmark cop” role) and another plays “warrior” (the “bad cop”) in Stores (where he had been president and CEO), he became dealing with external constituencies. When Roberto Goi- the newest member of a “three in a box”leadership team that zueta and Douglas Ivester were, respectively, CEO and COO had previously been known as H2O – a reference to the first of Coca-Cola, Goizueta was the urbane diplomat champi- names of Starbucks founder and chairman Howard Schultz, oning the Coca-Cola brand with such stakeholders as regula- head of international operations Howard Behar, and CEO tors and bottlers. Ivester, by contrast, described the com- Orin Smith. Sustaining this successful setup wasn’t easy.

94 Harvard Business Review | April 2007 | hbr.org Disk drive maker Seagate is run by a four-person team that successfully ex- ploits expertise complementarity. CEO Bill Watkins, president and COO David Wickersham, and two executive vice presidents – Brian Dexheimer, who is in charge of marketing and strategy, and Charles Pope,who heads up ﬁnance– work well together because they draw on one another’s different functional strengths. As we will discuss,however,overlap in the expertise of Watkins and Wickersham initially threatened the team’s success.

The Perils of Complementary Leadership The advantages of complementarity – which, after all, are rooted in differences among leaders – don’t come for free. For one thing, teams risk squandering the potential benefits through the confusion that complementary leadership can spawn. “People, especially those lower down in the organization, would sometimes wonder when they should talk to me and when they should talk to him,” recalls Adobe CEO Chizen, speaking of his close complementary relationship with Narayen. Over time, employees came to understand the semiformal division of labor: Chizen was solely responsible for presenting financial proposals to the board and for strategy decisions, but beyond that the two shared duties, with Partly through his efforts to assure rank-and-file employees Chizen focusing on marketing, brand, and customer issues that they could count on continuity in the company’s leader- and Narayen tackling product and operational matters. ship approach, Donald helped ensure the success first of the Another challenge involves achieving and sustaining new three-person team (he took Behar’s place, creating a agreement about organizational priorities. What happens, group in which Schultz was the visionary, Smith the admin- for instance, if Agamemnon decides to attack the city and istrator, and Donald the merchant) and then of a two-person Achilles stays in his tent? Given that the team will intention- version (he became CEO when Smith retired). ally include people with significant differences – in terms of Deeply complementary relationships like these are un- their assigned tasks, areas of expertise, mind-sets, or social usual; teams with some complementary aspects are quite roles–how does a company avoid ending up with a group of common. Steven Reinemund, formerly the CEO and now the leaders who, in the words of the adage, sleep in the same bed chairman of PepsiCo, had a strong partnership as COO with but dream different dreams? The risk that team members his CEO predecessor, Roger Enrico. When Reinemund be- will head off in different directions is all too real, especially came the chief executive, he fostered a similarly productive as organizational environments become increasingly com- relationship with his ultimate successor, CFO Indra Nooyi, plex and ambiguous. based mainly on task complementarity. Giving Nooyi the ad- A less obvious problem is that team members’ similarities ditional title of president while she was CFO, he let her take in certain areas may interfere with the team’s overall comple- an increasingly public role with external constituencies, mentarity.That is, if there is too much overlap in the Venn di- which was good preparation for her ascension to CEO but also agram depicting members’tasks,areas of expertise,mind-sets, a way to balance Reinemund’s operational strengths. or social roles, the problem may be more than redundancy:

hbr.org | April 2007 | Harvard Business Review 95 The Leadership Team: Complementary Strengths or Conﬂicting Agendas?

In the overlapping areas, people may compete to do things quality,”Watkins recalls. “Then I realized I was messing up, their own way. This need not happen, of course. Recall how using my ownership of quality to hammer operations. It Aart de Geus and Chi-Foon Chan of Synopsys complement wasn’t so much an issue of his not being ready; it was an issue each other, even though they share deep technical expertise, of my not being ready to give up responsibility.” because they enjoy the breathing room provided by their dif- As a result of Watkins’s decision to pull back from day-to- ferent cognitive roles: De Geus’s visionary approach and day operations and give Wickersham some freedom to ma- Chan’s down-to-earth way of processing information. neuver, Seagate has been able to benefit from their comple- But in such situations, conflict can overshadow what mentary social roles–Watkins as the emotional keeper of the would otherwise be a productive relationship. Consider the company’s culture, Wickersham as the data-driven executive recent history of the leadership at Seagate. CEO Watkins, who gets the job done. who has a strong interest and expertise in operational matters, remembers working hand in glove as COO with former The Four Pillars of Effective Complementarity chief executive Steve Luczo, who focused primarily on corporate strategy. When Luczo became chairman and Watkins The risks inherent in complementary leadership can’t be became CEO, Watkins filled the COO spot with Wickersham, avoided. But organizations can manage them by heeding the an executive with a similar passion for operational excel- four pillars of alignment in successful complementary teams: lence – a crucial element in a vertically integrated business a common vision, common incentives, communication, and that moves some 86 million parts in its supply chain every trust. As a team’s complementarity increases, so does the im- day.Initially,the relationship was somewhat strained.“When portance of these pillars. I first came into the CEO job, I wouldn’t give him responsibil- The failure to craft and commit to a shared vision and sup- ity for the part of the organization that oversees product porting strategy is at the root of some notable senior team collapses. Ed Zander, who is now chairman and CEO of Motorola, says he knew it was time to leave his position as president and COO of Sun enior leadership teams whose members have complementary Microsystems – thus dissolving what had been a S strengths abound in government as well as in business. The successful complementary relationship with then partnership between Israeli politicians Yitzhak Rabin and Shimon CEO Scott McNealy – when the two began to di- Peres – and the way their complementary roles led to the 1993 verge in their visions for the company.“Scott and signing of the Oslo Accords – provides a classic example of com- I had a really good relationship,”he recalls,“but I plementarity in a governmental context. could see us start to philosophically move apart – In the early 1990s, Rabin was prime minister and Peres was not in a negative fashion but in an honest dis- foreign minister of Israel’s Labour government. The two politicians agreement about the company’s priorities.” At were longtime rivals, representing the hawk and dove wings of that point, Zander says, it was clear the relation- the Labour Party. In ship would no longer be productive. the partnership, Rabin, Commitment to a common vision and strategy, Complementary Leadership a former general in the while necessary, will not be sufficient if members and the Quest for Peace Israeli Defense Forces, of the team have competing incentives. People played the role of won’t work in concert and make sensible trade- “guardian,” preserving offs if their rewards depend on achieving different national identity and ensuring the country’s security. Peres, who goals. For example, one member of the leadership lacked the credibility associated with military service and was team might be pursuing short-term results while viewed as soft on security, acted as the “entrepreneur,” develop- another is focusing on the long term. Or one ing new approaches to engaging with the Palestinians and aggres- might be rewarded for driving top-line growth sively pushing those ideas forward. Together, the two men did and another for driving earnings growth. Their what neither could have done alone, pursuing and completing differing incentives could lead them to take ac- negotiations that laid the foundation for the Oslo Accords, for tions that, while advancing their individual goals, which the two, along with Palestinian leader Yasser Arafat, re- are suboptimal for the business as a whole. ceived the Nobel Peace Prize. Making complementarity work also requires After the assassination of Rabin in 1995, Peres’s history of play- outstanding coordination and communication ing the entrepreneur role hindered his candidacy for prime minis- among the team members. The deeper the com- ter when he ran against Benjamin Netanyahu: Many Israelis wor- plementarity, the denser this communication ried that he couldn’t step into Rabin’s role as trusted guardian of must be. The most effective complementary the nation’s future. teams are in near constant communication and have well-established protocols so that potential

96 Harvard Business Review | April 2007 | hbr.org divergences can’t take root.“The danger is that you’ll get into But the successful pairing of Goizueta and Ivester con- something like a parental situation, where people in the or- tained the seeds of Ivester’s downfall. An accountant by train- ganization think they can go to one person to get an answer ing, Ivester had spent nearly 20 years rising through the that the other one won’t give them,” says former PepsiCo ranks to become Goizueta’s right-hand man. He had been CEO Reinemund, recalling his relationship with then CFO named Coca-Cola’s CFO in 1985, at age 37, and made his mark and president Nooyi.“I’m sure it happened occasionally. But in 1986 by orchestrating the successful spin-off of the com- on big issues it never happened because Indra and I were con- pany’s bottling operations. He also succeeded in his first op- nected enough to avoid it. People knew we talked all the erating role, as president of European operations, overseeing time.”Jim Donald, the Starbucks CEO, puts it another way: the company’s expansion into Eastern Europe in 1989. “I bug the heck out of Howard Schultz just to stay in touch.” But Ivester failed as CEO. He refused to name a new COO, The fourth pillar, which may be the most crucial for a even when strongly pressed to do so by Coca-Cola’s board. In- team’s stability, is trust among team members. Common vi- stead, he continued to act as a “super-COO,”maintaining daily sion, aligned incentives, and close communication enable contact with 16 direct reports. His extraordinary attention to purposeful and powerful cooperative action, but they have detail, a virtue in finance and operations and an effective foil no value unless team members know that their counterparts to Goizueta’s big-picture approach, proved to be a hindrance can and will further the best interests of the enterprise. in his new position, preventing him from taking on the stra- Members of successful complementary teams describe the tegic, visionary, and statesman roles of an effective CEO. phenomenon in different ways. Reinemund says it involves He made a series of mistakes, from the ham-handed treat- not questioning your teammates’ motives and caring about ment of European regulators ruling on Coca-Cola acquisi- their personal well-being in a way that “supersedes day-to- tions to the belated acknowledgment of a festering racial day results.”Donald talks about giving others on the team discrimination suit in the company’s Atlanta headquarters. “a free runway” to do what they need to do. Watkins charac- He had little chance of recovering from such setbacks be- terizes trust as “knowing that when things hit the fan, we will cause by the end he had alienated nearly everyone who try to do the right thing for Seagate – and that we’ll stick might have saved him. together to get it done.” Ivester’s unfortunate story vividly illustrates why leader- This kind of trust yields tremendous benefits.“If you have ship succession can be so risky in complementary teams: The it, you can screw up, as we all do on a regular basis, and still strong leadership traits that make someone a successful make things work,” says Reinemund. “Without that, when member of a complementary team may limit his ability to the first tough storm comes, things just fall apart.”According adapt to a different role–because of his inherent capabilities to Watkins, his team’s deep confidence that it ultimately and because of what the organization, comfortable with him won’t make many mistakes “gives us the freedom to have in his old role, will permit him to do in his new one. some pretty good conflicts before agreeing on a plan.” For example, making the move from COO to CEO requires substantial changes in the four dimensions of complementarity we described earlier.To succeed in the chief executive role, The Challenges of Succession Ivester needed to shift his focus to different tasks (by spend- Making complementarity work is a challenge even for teams ing more time on external matters), draw on different areas that are intact; when the composition of the team is altered, of expertise (particularly sales and marketing), exercise dif- especially in the case of leadership succession, the challenges ferent cognitive capacities (particularly the development of become more substantial. Researchers have repeatedly iden- vision and strategies), and play a new social role in the organi- tified succession as one of the most worrisome issues for cor- zation (one that would build personal relationships and trust). porate boards, partly because it’s one of the areas in which He made a common but disastrous mistake in his failure to companies most frequently fall short.With a complementary- “promote himself”into the role of CEO,continuing instead in leadership team, succession is particularly problematic and what was essentially a COO role camouflaged by a new title. becomes more so the more extensive the team’s complemen- Of course, the magnitude of the leap to CEO would tax tarity. The classic case is when a COO or president who has anyone’s adaptive capacity. While hard work may help some- worked in a complementary fashion with the CEO moves one learn new tasks or acquire new expertise, the ability to into that top role. adopt new cognitive capabilities or play different social roles Consider Ivester’s move from COO to chairman and CEO may be limited by who that person is. To use an analogy at Coca-Cola in 1997, when Goizueta died unexpectedly. As from the theater, some actors have a narrow range–they are we have described, the two men had an unusually effective extremely effective in a few types of roles – while others can complementary relationship. Many predicted continued suc- perform a broader repertoire. But even the most versatile cess for Ivester: Fortune dubbed him the “prototype boss for actor can’t change her inherent talents, and few can convinc- the 21st century.”Coca-Cola’s board confirmed his accession ingly play all roles, just as few executives will be able to excel to CEO in a 15-minute meeting. in all leadership positions.

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Even if a leader has a tremendous ability to adapt to a new safely give him even greater responsibility.” Jim Donald, role, he still has to deal with the legacy of the roles he has pre- speaking of the responsibility he was given as Starbucks COO viously played in the organization. Just as audiences may not when Orin Smith held the top spot, says,“If you don’t have like to see a typecast actor in a different kind of role, people a great number one, you are not going to have the latitude in organizations may hold entrenched attitudes that make it and longitude to do what it takes to become a great number extremely difficult for someone to undertake a major role one yourself.”Of course, handing over the reins is not easy: shift. Having played the bad cop to Goizueta’s good cop for Consider Watkins’s reluctance to turn over responsibility so many years, Ivester was typecast as the hard-edged discipli- for quality at Seagate when Wickersham became COO. narian. Even if he had been capable of playing a softer, more One way to sidestep the challenges of a complementary diplomatic role at Coca-Cola, it is far from clear that people in COO’s transforming himself into a CEO is to ignore the tra- the organization would have accepted the transformation. ditional definitions of the two positions–that is, don’t worry about which roles the CEO and the COO play as long as they maintain the logic of complementarity.Such a “role-swapping” Ensuring a Smooth Transition strategy could mean, for example, that a COO who is strong Companies that come to understand the potential pitfalls of at playing the “insider”role would continue to do so after be- complementary leadership teams should not, of course, give coming CEO, complemented by a new COO who would play up on complementarity and stock their leadership pipelines the “outsider” role. We saw a version of this strategy at Pepsi- with clones. Rather, the challenge is to enjoy the advantages Co, where CFO Nooyi continued to deal with external con- of complementarity without sowing the seeds for disaster stituencies, such as analysts, when she took on the role of during succession, particularly to the top job. An organiza- president, while CEO Reinemund continued to play to his tion’s board of directors and CEO can take various steps to operational strengths. But that kind of approach won’t work manage the short-term benefits and longer-term risks of in all situations. The CEO must be comfortable sharing the complementarity. spotlight with the second in command, and important stake- The first step is to recognize the inherent tension between holders – investors, analysts, the media – must accept the di- creating complementary leadership teams and laying the vision of responsibilities. foundation for smooth succession processes. This can mean, Instead of trying to manage the sometimes difficult ascen- for example, deciding to put in place a COO whose experi- sion of the number two executive to the top position, a board ence and talents partially overlap with those of the CEO and can orchestrate a complete changing of the guard, selecting who therefore might make the transition into the top role a highly complementary CEO-COO pairing–or even a trio of more easily. Another option is to extend the life of the com- leaders – and then replacing both people when the time plementary CEO-COO relationship by appointing as COO comes. That was the pattern for several generations of top ex- someone who will take time to grow into the number two ecutives at Johnson & Johnson. From 1976 to 1989, chairman job. Giving that person a stretch assignment will ensure that and CEO James Burke shared leadership responsibilities with he has time not only to learn his own job but to prepare, with president David Clare. In 1989, the two passed the baton to the CEO’s help, for the top position. Ralph Larsen, who became chairman and CEO, and Robert More-formal procedures can also help. The board can, for Wilson, who became president. They, in turn, passed it in example, broker an explicit agreement between the CEO and 2002 to William Weldon, who became CEO and was also the the COO outlining the gradual transfer of responsibilities. worldwide chairman of the pharmaceuticals group, and The COO can take increasing responsibility for dealing with James Lenehan, who was worldwide chairman of the medical external constituencies such as analysts, shareholders, and devices and diagnostics group. When Lenehan interrupted the press; become more involved in strategy setting or meet- this orderly succession process by resigning suddenly in ings with key customers; or assume greater responsibility 2004, the company expanded its complementary-leadership through a seat on the board or a new set of reporting rela- structure, appointing in the next year both CFO Robert Dar- tionships. Many of today’s successful complementary lead- retta and global chairman of pharmaceuticals Christine ers – like Jim Donald at Starbucks, Bill Watkins at Seagate, Poon to the position of vice chairman in the office of the and Indra Nooyi at PepsiCo – have benefited from that kind chairman, a move that made them part of a new complemen- of preparation as part of an earlier complementary team. tary team headed by Weldon. Such a grooming process requires a CEO who is willing to Whatever the mechanism, the aim is to realize the enor- transfer power in both real and symbolic ways. “It became mous potential of complementarity in senior leadership clear to me that certain aspects of the CEO job were not my teams while avoiding the perils that come with it. The stakes strong suit,”says Chizen at Adobe.“Yet these were things that in getting this right could not be higher. Shantanu was really good at. He wanted more responsibility, and I was more than happy to give it to him. He continued Reprint R0704F to do a good job as COO, which confirmed for me that I could To order, see page 143.

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Available wherever books are sold www.HBSPress.org An inside look at how GE has worked to build a culture that sustains both high performance and high integrity Avoiding Integrity Land M nes by Ben W. Heineman, Jr. ! A S THE CHIEF LEGAL OFFICER AT GE for nearly 20 years, I was part of the senior management group that sought to fuse high performance with high integrity. No one was more demanding about hitting ﬁnancial targets than Jack Welch or his successor, Jeff Immelt. But both knew that employees up and down the ranks face the temptation to make the numbers by fudging the accounts, cutting corners, or worse. Unconstrained, these internal pressures – made more intense by corruption in emerging markets, demanding customers, and unscrupulous competitors – can lead to corrupt capitalism. The changes in laws, regulations, stakeholder expectations, and media scrutiny that have taken place over the past decade can now make a major lapse in integrity catastrophic. Fines, penalties, and settlements are counted in the hundreds Sally Wern Comport Wern Sally

100 Harvard Business Review | April 2007 | hbr.org

Avoiding Integrity Land Mines

of millions (or billions) of dollars, not the millions or tens of ically not only because they are afraid of being caught and millions of a decade ago. And worse, in some cases (as Enron punished but because the company’s norms and values are so and Arthur Andersen demonstrated) – a company can actu- widely shared and its reputation for integrity is so strong that ally implode. most leaders and employees want to win the right way. Performance with integrity has been a central concern of By forcefully communicating guiding principles, company governance reforms but, almost exclusively, the focus has leaders help create that culture. But it’s also necessary to im- been on the board’s role. Certainly,when the rot is at the top, plement a set of practices that have real consequences and governance checks and balances must come from the board use signiﬁcant resources to drive the message home. In our of directors. But, for GE, as for most companies, governance efforts, we recognized that we weren’t about to repeal is not solely about the board’s selection and compensation of human nature, but by learning from our missteps we could the CEO or about its periodic oversight of major risks and continually try to reduce improprieties to a minimum. Based

A thunderous message is sent when a senior leader is removed not for failing to follow key rules but for failing to create the right culture.

opportunities. The more pervasive governance issue is the on my experience at GE and many discussions I’ve had with responsibility of the CEO on down: How does top manage- executives at other multinationals, I believe the following ment drive a demanding performance culture built on un- principles and practices–especially as they interrelate and re- yielding integrity throughout a complex enterprise? The in- inforce one another – are essential to creating a high perfor- tegrity land mines that can blow up in the face of most mance–high integrity culture. companies are all across the globe, not just in the corner Demonstrating consistent and committed leadership. In office. no area of corporate life is leadership commitment more im- It is now time to shift this debate about corporate integrity portant than in creating an integrity culture. And nothing is from board oversight of the CEO to how the CEO and top more effective in manifesting that commitment than a seam- company leaders can most effectively fuse high performance less consistency between leaders’ personal attributes, their with high integrity at all levels in a challenging,fast-changing, public and private statements, and their direct and indirect and at times hostile world. This is a grinding, complex, day- actions. Companies are preternaturally attuned to leadership in, day-out task that is difficult in the best of circumstances hypocrisy. The stirring call for performance with integrity at to do well. GE has certainly learned its own hard lessons the large company meeting can be eroded by the cynical along the way, sometimes dealing with integrity violations comment an executive makes at a smaller meeting, by the that went unnoticed and unreported for far too long. winks and nods that implicitly sanction improprieties, by This article highlights how GE has tried to build a culture personal actions (dishonesty, lack of candor) that contradict that fuses high integrity and high performance using a series company values. It is fundamental: A culture of high stan- of core principles and key practices. In it, I outline how the dards for employees requires high standards from the CEO company has attempted continually to improve its systems and the senior operating and staff officers. and processes and to build a culture where executives and There is no more important task for the CEO than demon- employees are motivated to do the right thing, even in GE’s strating that the top executives will be held just as account- famously high-pressure business environment. able for lapses in integrity as they are for missing their numbers – and that the generals will be held to higher standards than the troops. Jeff Immelt began and ended each annual Core Principles and Key Practices meeting of GE’s 220 officers and of its 600 senior managers Ultimately,it is a company’s culture that sustains high perfor- by restating the company’s fundamental integrity principles: mance with high integrity. Leaders and employees compete GE’s business success is built on our reputation with all stake- ferociously and meet tough economic goals lawfully and eth- holders for lawful and ethical behavior. Commercial consid-

Ben W. Heineman, Jr., is a distinguished senior fellow at Harvard Law School’s Program on the Legal Profession, in Cambridge, Massachusetts; a senior fellow at the Belfer Center for Science and International Affairs at Harvard’s Kennedy School of Government; and a senior counsel to the law ﬁrm of WilmerHale. From 1987 to 2003, he served as GE’s senior vice president and general counsel. From 2004 until his retirement at the end of 2005, he was GE’s senior vice president for law and public affairs.

102 Harvard Business Review | April 2007 | hbr.org erations never justify cutting corners. Uphold- ing this standard is the specific responsibility of the leaders in the room. For any serious lapse, the warning was clear: “One strike and you’re out.” GE’s senior managers and officers knew the CEO was serious because, as it turned out, every year or so, a senior manager who had knowingly or recklessly violated company rules for commercial or personal reasons was terminated. For example, in one emerging nation, an individual was let go for failing to conduct required diligence on shady third-party distributors that had a reputation for improper payments. Peo- ple were dismissed even when the business consequences were painful–when, for example, the local national in question had extensive knowledge and experience in a tough market. An even more thunderous message is sent when a senior leader is removed not for failing to follow key rules but for failing to create the right culture. During my time, there were two seminal examples. Both involved acts hidden for a number of years that were clearly understood by many in the respective business units to be suspicious or wrong but had been toler- ated to keep difficult customers satisfied. The first involved fraud in a Middle East procure- ment contract financed by U.S. government funds in the late 1980s and early 1990s. The second, early in this decade, had to do with acqui- escing to an Asian customer’s request that GE falsify supplier documents included in regulatory submissions. In both cases, when the lapses came to light, the first thing top GE leaders did was to determine the facts, resolve the matter with the governments, fix tions is the foundation of integrity in a multinational com- the broken systems (specifying how to deal with improper pany. But on some core matters, that isn’t good enough. In- pressure, instituting better process checks), and discipline stead, for a number of reasons, the organization must adopt lower-level employees clearly engaged in wrongdoing. But a global standard that is higher than the financial or legal the hardest issue to resolve – and one of the most important rules in place in particular jurisdictions. A simpler, clearer integrity questions we ever faced – was how to sanction the standard for conflicts of interest, for example, is easier for em- leaders of the respective business units. They had no per- ployees around the world to understand and follow, despite sonal knowledge of the acts, and they were widely seen as the vagaries of their location. Global standards spelling out “good guys” by senior managers. But in the end it was de- how to prevent money laundering increase employees’effec- cided that they had failed because improprieties within their tiveness in assessing customers. Ethical sourcing practices organizations had gone unreported for too long (more than (checking suppliers’ environmental record and working con- five years) and had involved too many people (20 to 30). At ditions in addition to their technical qualifications and fi- the core of these major compliance failures was a deep- nancial health) address some objections to outsourcing like seated cultural failure. Accordingly, both executives were worker exploitation or environmental degradation. Establish- asked to leave the company.The message was clear: Top leading single, global standards that anticipate trends in law and ers indifferent to an integrity culture would be gone. government policy–for, say,consumer finance disclosure and Going beyond formal financial and legal rules. Rigorous collection practices – may be not only simpler but also wiser compliance with the financial and legal rules of specific na- in order to reduce future risk.

hbr.org | April 2007 | Harvard Business Review 103 Avoiding Integrity Land Mines

Companies can best decide when and where to impose ment of the company’s enlightened self-interest. (See the global standards by identifying which issues are most impor- sidebar,“The Business Case in Brief.”) tant for key stakeholders. For example, higher governance Staying ahead of the sheriff. To update global standards standards or rebalancing short- and long-term debt might be and avoid ugly surprises, GE has sought systematically to the most important issues for shareholders and creditors. gather information on financial, legal, and ethical develop- New facilities around the world built to global – not just ments. This task occurs at all levels of the company – from local–environmental standards might be critical to employ- P&L centers to large business units to the CEO’s risk commit- ees and communities where GE does business. Instituting tee. The key is to present the findings on a regular basis, to the most rigorous of nondiscrimination rules across the make them part of a consistent business rhythm – which, in globe might be an imperative for employees. turn, ensures that the company makes timely decisions Deciding when to adopt global standards is not some ab- about whether to adopt new standards and practices. stract, philosophical exercise requiring the services of a se- At various levels of GE, experts regularly scour media sto- nior vice president for political and moral philosophy. It is a ries, proposed laws and regulations, specialized reporting ser- basic risk-reward analysis rooted in the company’s operations vices, academic papers, filed cases, and reported legal deci- and culture. What is the cost (time, money, resources) com- sions to track early-warning signs and global trends in pared to the benefit (simplicity, effectiveness, enhanced rep- finance and law. For example, in reviewing the Enron, World- utation with key stakeholders)? Immelt has formed a corpo- Com, and Parmalat scandals, GE’s financial services arm rec- rate risk committee of top officers, which meets quarterly. ognized the emergence of an “aiding and abetting” theory, For each meeting, the CFO and general counsel develop an which was leading to huge liabilities (in the billions of dol- agenda that includes issues about global standards. The com- lars) in the financial services industry. Prosecutors and regu- mittee decides, among other things, whether a standard is lators were charging banks as “secondary wrongdoers,”alleg- needed and, if so, what that GE standard should be. Issues ing that they knowingly provided material assistance to with significant operational or reputational implications, customers who were engaged in tax or accounting fraud such as ethical standards for supplier qualifications, are vet- (“the primary wrongdoers”). As a result, GE’s financial ser- ted with the board. Elevating these issues to the highest lev- vices businesses have a significant effort under way to edu- els is important: Such decisions are frequently based on judg- cate employees about the application of the aiding and abet- ment because the costs and benefits cannot always be ting theory, to define red flags, and to institute new routines compared quantitatively. They will often turn on an assess- to prevent questionable actions.

The Business Case in Brief

Conventional arguments against exten- ramifications of serious wrongdoing and communities – also suffer serious, if sive efforts to fuse high performance have increased dramatically. Integrity not grievous, harm, leading to calls for and high integrity are that they cost too lapses can now have catastrophic finan- ever more regulation. (Whether particu- much, require too much management cial consequences (liabilities in the hun- lar rules are necessary or cost-effective time, or lose deals, contracts, and pro- dreds of millions or several-billion-dollar is a matter for public policy debates, but curements. But I believe a strong busi- range for Citigroup, JPMorgan Chase, adherence is obviously required until ness case can be made for the signifi- Adelphia, and Computer Associates; rules are changed.) cant advantages the efforts hold for bankruptcy proceedings for WorldCom Affirmative benefits. Implementing corporations. and Parmalat; and the ultimate penalty – uniform global standards can make it The benefit of avoiding harm. The collapse – for Enron and Arthur Ander- simpler for employees to understand impact of recent scandals on corpora- sen). A company’s reputation and their responsibilities and therefore tions is eye-popping. Ask any business morale, which may have been built over make adherence more efficient. What’s leader who has lived through the time, decades, can be shattered in months. more, compliance with both formal effort, expense, and distraction of a se- Corporate officers can be indicted and rules and self-imposed global standards rious government investigation about face jail time and severe personal finan- can create a deservedly strong com- the adverse effect on the company. cial penalties. Stakeholders – from pany reputation for integrity that will Moreover, there is ample evidence to shareholders to creditors to employees complement and enhance a brand. That show that over the past decade, the to pensioners to customers, suppliers, strong reputation, in turn, can help re-

104 Harvard Business Review | April 2007 | hbr.org GE has also systematically sought to identify ethical issues sonable and ethical (for example, whether disclosure of inter- raised by the increasing chorus of voices in the stakeholder est rates on loans and credit card balances are hidden in and NGO communities and to prioritize them according to credit-babble rather than expressed in plain English). either intrinsic merit or amount of public attention they Building standards into business processes. Who should might generate. Sometimes, these voices make a strong point own the job of fusing performance with integrity? A com- that leads to change. For example, in recent years, share- mon business response is to assume it is the sole province of holder groups presented proposals stipulating that GE’s di- the finance and legal staffs. “I’m too busy with customers rectors should be elected by a majority, rather than a plural- and product development and manufacturing and produc- ity, of votes. The risk committee and then the board agreed. tivity and….” is a typical businessperson’s lament. GE ad- GE is careful, however, never to adopt sweeping codes of con- dresses this problem, through the CEO’s repeated oral and duct often urged on companies by third parties (such as de- written communications, by explicitly and unmistakably giv- tailed lists of environmental precepts); it makes much more ing business leaders in the field the lead responsibility in sense to consider specific changes one at a time in light of our their divisions for performing with integrity. And GE rein- history and our culture. forces that message by building global integrity standards A separate process for highlighting ethical issues – the so- into business processes wherever possible. called commonsense review–was instituted as a result of in- GE has sought, for example, to make plant managers and surance broker Marsh & McLennan’s past difficulties in fail- manufacturing leaders formally responsible for environmen- ing to disclose adequately that it was receiving contingent tal, health, and safety issues in their divisions. For each facil- commissions when it was on both sides of some insurer/ ity in each business, quarterly reports track key parameters insured transactions (a problem affecting other major bro- (spills, accident rates, notices of violation). These are rolled kers, too). There were those who claimed MarshMac’s in- up into a master matrix that compares each plant with all complete disclosure of a potential conflict of interest was the others, and the cross-business comparisons are sent to the lawful. But in the light of day, there was little question that CEO. Being in the bottom quartile is a great goad to improve- Marsh’s long-standing incomplete disclosure was a bad busi- ment. Similarly, consumer finance leaders are charged with ness practice. In annual legal and financial compliance re- embedding legal and ethical requirements into the highly views, GE now looks at its own ingrained business practices automated processes for selling (using scripts), making credit relating to customers, competitors, and suppliers, and asks decisions (by instituting nondiscrimination protections), not just whether they are legal but whether they are still rea- and collections (through random call monitoring). Sourcing

cruit and retain high-performing em- from competitors and help sales to gov- cesses and make them more effective ployees. A meaningful performance- ernments in emerging markets that and less costly. Similarly, the cost of with-integrity culture can raise a want to deal with a “clean” company rejecting corrupt payments, deals, or company’s estimation in the eyes of and avoid taint to themselves. An in- contracts, in my judgment and experi- investors, creditors, and rating agen- tegrity culture can, in the end, be a sig- ence, is far outweighed by the benefit cies, which now, for purely economic nificant morale builder and spur to proof avoiding the risks of external expo- reasons, have added integrity risk to ductivity for those who wish to serve, sure – which are especially consequen- their analyses of companies. For exam- to use Jeff Immelt’s phrase, in a great tial for transnational enterprises – and ple, BP’s Texas plant explosion in 2005 and good company. by the benefit of preventing internal and its Alaskan oil field problems in The fundamental costs of systems, corrosion. Certain actions, like ethical 2006 were not by themselves cata- processes, and talented people fo- sourcing, are taken by business lead- strophic for the company. But by raising cused on performance with integrity ers in the enlightened self-interest of serious doubts about BP’s overall safety pale in comparison to the benefits, es- the company to enhance reputation or and management systems, they drove pecially the benefit of avoiding cata- culture. Even though the benefits can- down market cap by about 20% and strophic integrity minefields. Indeed, not be precisely compared to the have forced the early retirement of sound practices in areas like environ- costs, common sense tells us that rep- iconic CEO John Browne. A reputation ment, health and safety, and consumer utation, like brand, is a significant cor- for integrity can also differentiate a firm finance can simplify basic business pro- porate asset.

hbr.org | April 2007 | Harvard Business Review 105 Avoiding Integrity Land Mines

leaders in individual businesses are responsible for finding, ple to defend their positions. For their part, the CFO and the qualifying, and requalifying global suppliers not only under GC must play the guardian role equally strenuously, being financial, technical, and quality standards but also according unafraid to answer candidly or to argue back, remaining un- to the company’s detailed ethical-sourcing guidelines. They daunted by personal or group pressures. Their views must be are held accountable both by the chief executive of their on the table and discussed, not summarily dismissed in the business unit and by the companywide sourcing leader, heat of the moment. through corporate auditing. In dysfunctional companies, when business leadership im- No business process is more important than conducting properly decides to cross financial, legal, or ethical lines or to thorough due diligence on potential mergers and acquisi- stifle debate, the CFO, GC, and HR leader have to stand up tions according to the acquirer’s global integrity standards. to the CEO, go to the board–or quit. But the larger problem GE has spent significant resources to make due diligence on in such companies is that these gatekeepers may be weak or integrity issues as robust and detailed as possible to minimize even complicit (witness the CFOs guilty of crime in the ac- post-closing integrity surprises (like huge environmental counting scandals or the CFOs and GCs implicated in the costs or past criminal behavior by the target’s employees) option-backdating proceedings). that could blow up the underlying deal economics. This is im- Business leaders serve their companies well when they portant because regulators may hold acquiring companies make clear to the organization that, while they retain ulti- accountable for the target’s criminal problems, and a best mate decision-making authority, they really want candid, un- practice is for the target to resolve issues before the closing, varnished discussion of financial, legal, ethical, and reputa- if possible. Because such resolution may not occur, GE has tional precepts, even though exchanges on specific issues also sought to make sure there is significant overlap between may be contentious. More important, they show their ap- the diligence and acquisition-integration teams so that in- proval and encouragement of the partner-guardian role by tegrity issues flagged before the closing are dealt with hiring strong, independent people in these critical leader- promptly. Any delay would turn the target’s problem into ship positions. GE’s problem. Giving employees a voice. One of the trickiest – but most Encouraging finance, legal, and HR to be both partner and important–aspects of fusing high performance with high in- guardian. The financial, legal, and human resource functions, tegrity is educating and training employees, especially in at both the corporate and the business unit levels, have cen- emerging markets and in acquired companies, so that they tral responsibility for developing the tools, systems, and pro- intuitively understand and follow global integrity standards cesses for preventing and remedying integrity violations. when making everyday decisions. Such understanding also They also are a crucial part of the corporation’s basic checks gives employees the capacity to articulate on-the-ground and balances. But these functions–and especially the corpo- concerns about possible improprieties by peers or superiors. ration’s chief financial officer, general counsel, and head of Giving voice to employees is key to ensuring a self-cleansing human resources – cannot be effective unless they are also culture of openness and accountability. deeply involved in helping to develop and execute commer- GE employees have four major channels through which to cial strategies. And there can be a fundamental tension be- report issues. tween these dual roles of partner and guardian. • The ombuds system allows employees to lodge concerns, CEOs need to accept this tension and encourage the top anonymously if they wish, without fear of retaliation. More staff leaders to assume this dual role. Day to day, this may than 500 people serve in a full- or part-time ombudsperson be easier said than done, which is why it needs to be ad- capacity around the globe. Receiving reports in 31 languages, dressed explicitly as a key element of a performance-with- the ombudspersons act as neutral intake points, referring integrity culture. In most companies, the CEO will not ex- concerns to financial, legal, and HR staffs for investigation. plicitly sanction crossing the bright line that demarcates They also are responsible for following up on all of the issues legal from illegal conduct. But most hard problems in fluid brought to their attention to ensure prompt resolution and situations come clothed in shades of gray, and the business to keep the reporting employees apprised of the status of leader often wants to act swiftly. In such cases, the CFO or their concerns. general counsel may need time to get facts and assess any fi- The key to the system is that all reports are examined with- nancial, legal, or reputation risks for the business leaders. out fear or favor and that retaliation is, itself, an explicit in- The CFO or GC may need to lay out a number of options tegrity violation that will lead to severe discipline. But em- with varying degrees of risk and to justify a multifaceted ployees also have a duty to report. A failure to report into the recommendation. system or up the line, when red flags are snapping in hurri- In such ambiguous situations, which arise frequently, the cane force winds, can be–and has been–a firing offense. Ap- CEO makes the ultimate decision (perhaps with board con- proximately 1,500 concerns have been lodged annually in sultation). The CEO invariably tests presentations by push- the last few years, with about 20% leading to serious disci- ing back strenuously, asking hard questions, and forcing peo- pline (and 50% just seeking information).

106 Harvard Business Review | April 2007 | hbr.org • Each business unit’s annual assessment of its compliance diate notification when the wrong thing is being done. This performance begins with a bottom-up review. Employees on stands in sharp contrast to the “culture of silence” cited by the ground floor of the organization in every country are Boeing’s general counsel in a blistering January 2006 speech asked to identify issues or problems in systems, processes, or to company leaders, given at the request of CEO Jim McNer- practices. Then employees higher in the organization are ney, about the root causes of document theft and conflict-of- given the same opportunity. The review process builds up interest scandals. through localities, countries, and regions, culminating in a re- This collective voice of the company does not just detect, port on results for the global division as a whole. Concerns it deters. Even an unethical business leader facing a tough about particular individuals must go through the ombuds quarter has to think twice about asking his or her staff if system, and employees may also use that system to report on the books can be cooked, for fear of becoming the subject of a superior’s failure to respond to a broader compliance con- an ombuds report. I have investigated many concerns and cern. Employees and leaders are rewarded in any number of read many investigative reports, and in my experience these

Institutional Shareholder Services has more than 60 rating categories, and not one relates to the CEO’s governance of the company.

ways–financially,with promotion, or with recognition, for in- channels were rarely misused over the years and did not cre- stance–for finding and resolving important issues. ate a climate of fear and backbiting because we tried to en- • The internal corporate audit staff is one of the most impor- sure employees’ concerns would be handled independently, tant assets of the company. Its 400-plus people spend about reviewed professionally, and decided fairly, based on facts, 80% of their time auditing for adherence to global financial, not internal politics. Cheap shots simply wouldn’t work. legal, and ethical standards and acting as a check on the busi- Holding business leaders accountable with integrity met- ness’s own bottom-up and compliance reviews. About half of rics. Compensation and promotion are, of course, the com- the audit staff is made up of non-U.S. citizens, reflecting GE’s mon methods for ensuring accountability. And it is a cor- huge international operations. Many GE leaders learn the porate cliché that, in making these decisions, companies fundamentals of performance with integrity early in their ca- evaluate performance in the context of integrity issues. GE reers because the audit staff service is an important gateway has tried to move beyond the cliché by applying real met- into GE’s leadership ranks–about 20% of GE’s 220 officers are rics and tools to evaluate integrity performance – not just audit staff alums. for the 220 officers but also for the top 4,000 executives • Business units’ financial, legal, and HR staff at GE have a who are either P&L leaders or key contributors on business strong dotted line to the company CFO, the GC, and the HR teams. leader. There is a powerful expectation that they will consult The primary method is to evaluate how leaders carry out with those corporate functional heads when they have ques- their own integrity responsibilities. Have they set appropri- tions about commercial, reputational, or compliance risks. ate goals and built the right systems? Have they instituted Both the business unit CEO and the company CFO have to effective controls and thorough auditing practices? Have agree on the person hired to be business CFO, but either the they built high ethical standards into all of their business business leader or the company CFO can fire that person. processes? How do they handle integrity crisis manage- The same practice applies for business unit general counsels ment? How do they conduct country-, regional-, and global- and HR leaders. Failure of a business finance manager, gen- compliance reviews? How do they make integrity resource eral counsel, or HR leader to alert corporate headquarters of decisions in tough markets? Do they place “A”players in the high-risk issues is cause for serious sanctions, including termi- jobs in which it is critical to fuse high performance with high nation. For their part, the company CFO and GC have to integrity? earn trust by not running to the CEO every time their coun- These evaluations, often focusing on year-over-year trends, terparts in the field raise issues. are conducted in a variety of ways, including corporate au- All four channels are part of an attempt to create an open dits; on-site compliance reviews by corporate leaders; statis- and candid company. In doing so, business leaders from the tics from the ombuds system; personnel reviews; and formal, CEO on down send a potent message about the importance annual reviews of the businesses by the corporate compli- of a self-cleansing culture that demands immediate discus- ance board (the CFO, the senior vice president for HR, the sions about what the right thing is to do–and requires imme- head of the corporate audit staff, and the general counsel).

hbr.org | April 2007 | Harvard Business Review 107 Avoiding Integrity Land Mines

A second, potent method is to compare the performance and the CEO–have received far more attention in the gover- of one business unit with other GE businesses and, where in- nance debates of the past decade. Especially on the issue of formation is available, with peer companies. These compar- performance with integrity, many directors and observers isons can arise during audit staff reviews of the whole com- are now realizing that we cannot pile more and more re- pany (which might uncover, say,which business has the most sponsibility on a board that has a vital but limited role in open-audit issues or which has the most problems with con- choosing the CEO, setting compensation, and overseeing the trollership in emerging markets). Comparisons may be made strategy for addressing key risks and opportunities. The im- through external metrics (like customer complaints or pri- portance of and different approaches to this vital third di- vate lawsuits stemming from integrity issues or formal pro- mension of governance from the CEO on down are not yet re- ceedings brought by governments). In addition, evaluations ceiving appropriate discussion and debate within the senior of GE businesses by former regulators are compared against ranks of the business community and within the burgeoning regulatory standards and peer performance. governance community of investors, analysts, academics, ad- Another key comparative tool for assessing leadership is vocates, and interest groups. It is telling that Institutional the employee survey. In 2006, fully 95% of the more than Shareholder Services – the best-known governance rating 127,000 professional employees throughout the company re- agency – has more than 60 rating categories, and not one responded when they were asked, in an anonymous survey, if lates to the CEO’s governance of the company. they had a favorable or unfavorable view of the statement: Many business leaders, like those at GE, are seeking the “There are no compromises around here when it comes to best ways to achieve performance with integrity at an oper- conducting business in an ethical way.” For GE as a whole, ational level deep inside the company. Beneath the head- 85% agreed with the statement, 10% had no opinion, and only lines and the current governance debates about directors’ 5% disagreed, but the numbers across business units and roles and shareholders’ prerogatives, there is in leading cor- within smaller P&Ls varied, raising important questions porations an intense engagement with this bedrock man- about the intensity and effectiveness of leadership down agement issue. I have offered here my personal perspective the line. on key principles and practices to fuse high performance with high integrity. But my larger point is that there should now be a dramatic shift in governance analysis and debate Governance on the Front Lines away from board responsibilities to the least-discussed and, The principles and practices top management follows to arguably, most important dimension: governance on the drive a performance-with-integrity culture deep into a com- front lines. pany is a vital third dimension of governance. But the other two dimensions – the relationship between shareholders Reprint R0704G and the company and the relationship between the board To order, see page 143. Randy Glasbergen Randy

108 Harvard Business Review | April 2007 | hbr.org BUSINESS PREPAREDNESS PANDEMICFOR

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The Process Audit

A new framework, as comprehensive as it is easy to apply, is helping companies plan and execute process-based transformations. by Michael Hammer

USINESS HAS EMBRACED process management as a way of life. New and controversial when I first described the concept 17 years ago in the pages of this magazine (see B“Reengineering Work: Don’t Automate, Obliterate,”HBR July–August 1990), the process-based approach to transformation is now used routinely by enterprises all over the world. Few executives question the idea that redesigning business processes–work that runs from end to end across an enterprise–can lead to dramatic enhancements in performance, enabling organizations to deliver greater value to customers in ways that also generate higher profits for shareholders. In virtually every industry, companies of all sizes have achieved extraordinary improvements in cost, quality, speed, profitability, and other key areas by focusing on, measuring, and redesigning their customer-facing

Tomasz Walenta Tomasz and internal processes.

hbr.org | April 2007 | Harvard Business Review 111 TOOL KIT | The Process Audit

Sadly, however, casualties litter the line personnel, and redirect reward sys- to develop a process implementation road. Since 2000, I have personally ob- tems to focus on processes as well as road map. My aim was to create a served hundreds of companies try to outcomes. As if that weren’t enough, en- framework that would help executives rejuvenate themselves by creating or terprises also have to reshape organiza- comprehend, plan, and assess process- redesigning business processes. In spite tional cultures to emphasize teamwork, based transformation efforts. Over of their intentions and investments, personal accountability, and the cus- time, I identified two distinct groups of many have made slow or little progress. tomer’s importance; redefine roles and characteristics that are needed for busi- Even businesses that succeeded in trans- responsibilities so that managers over- ness processes to perform well and to forming themselves have found the see processes instead of activities and sustain that performance (see the ex- endeavor arduous and harrowing. All develop people rather than supervise hibit “The Process and Enterprise Matu- change projects are tough to pull off, them; and realign information systems rity Model”). One set of features applies but process-based change is particularly so they help cross-functional processes to individual processes. These process difficult. Contrary to widespread as- work smoothly rather than simply sup- enablers determine how well a process sumptions, designing new business pro- port departments. is able to function over time. They en- cesses involves more than rearranging In most of the companies I studied, compass the comprehensiveness of a work flows – who does what tasks, in executives were floundering. They real- process’s design, the abilities of the peo- what locations, and in what sequence. ized that they needed to change many ple who operate the process, the ap- To make new processes work, compa- things to harness the power of processes, pointment of a top-level process owner nies must redefine jobs more broadly, but they were unsure about what ex- to oversee the process’s implementa- increase training to support those jobs actly needed to be changed, by how tion and performance, the match be- and enable decision making by front- much, and when. Their uncertainty was tween the organization’s information manifest in hesitant decisions and con- and management systems and the pro- fused planning, in endless debates and cess’s needs, and the quality of the met- Article at a Glance unproductive discussions, in unwar- rics that the company uses to measure Redesigning work as business pro- ranted complacency and equally un- process performance.My research shows cesses that run from end to end across warranted despair, in errors and re- that not all organizations are equally an enterprise leads to radical improve- work, in delays and abandoned efforts. prepared to put these enablers in place. ments in performance, but it is terribly People kept asking one another ques- Companies that are able to do so pos- tough to manage. tions such as, Did we start with the right sess important enterprisewide capabili- thing? How do we know we are making ties: Their senior executives support a A new framework, based on extensive progress? What will the organization focus on processes; their employees research and tested by a consortium of look like when we finish? Moreover, greatly value customers, teamwork, and large companies, helps executives plan process-based transformations, track executives, especially when they work personal accountability; they employ their progress, and identify roadblocks. in different functions, often disagree people who know how to redesign pro- about the factors that aid process-based cesses; and they are well organized to The framework, called the Process and transformations. Each has a pet idea tackle complex projects. Enterprise Maturity Model (PEMM), based on his or her expertise. Like the Together, the enablers and capabili- centers on five characteristics that six blind men and the elephant, one fo- ties provide an effective way for compa- enable any process to perform well on cuses on technology,another on human nies to plan and evaluate process-based a sustained basis and four enterprise resource issues, a third on organiza- transformations.I presented the model’s capabilities that allow processes to tional structure, and so on, creating con- first version to the Phoenix Consor- take root in organizations. fusion and conflict. Managers also have tium’s members in 2004, and they PEMM doesn’t specify what a partic- a tendency to swing from wild opti- tested and revised it extensively. In ular process should look like. There- mism that developing new processes 2006, I finalized the framework, which fore, companies can use this standard will be painless to unremitting gloom I call the Process and Enterprise Matu- approach across their organizations that the task is hopeless. Without know- rity Model (PEMM). In the following and make meaningful comparisons ing what they must concentrate on and pages, I discuss the five process enablers of results. when, executives have been unable to and four enterprise capabilities in de- Pioneers of the model, which applies master the science of transforming busi- tail. I also show how companies that use to companies in any industry, have ness processes. PEMM can take the task of process used PEMM in different ways and Five years ago, I started a research transformation out of the arena of intu- at several stages of process-based project in conjunction with the Phoe- ition and mystery and subject it to mea- transformations. nix Consortium – a group of leading surement, evaluation, improvement, companies with which I work closely – and replication.

112 Harvard Business Review | April 2007 | hbr.org Can Your Processes Deliver High Performance? The Process and Enterprise Maturity Model My two decades of experience with business processes have Companies need to ensure that their business processes become more mature – in other taught me that form influences words, that they are capable of delivering higher performance over time. To make that hap- function – that is, process depen, companies must develop two kinds of characteristics: process enablers, which per- sign determines performance. tain to individual processes, and enterprise capabilities, which apply to entire organizations. By design, I mean the specification of which people must per- There are five process enablers… form what tasks, in what order, Design: The comprehensiveness of the specification of how in what location, under what the process is to be executed. circumstances, with what information, and to what degree of Performers: The people who execute the process, particularly precision. Certainly, companies in terms of their skills and knowledge. can use techniques such as Six Owner: A senior executive who has responsibility for the Sigma and TQM to ensure that process and its results. employees execute processes correctly.However, redesigning Infrastructure: Information and management systems that support processes is often the only way the process. to improve their performance Metrics: The measures the company uses to track the process’s dramatically. Doing so elimi- performance. nates many of the nonvalue- adding activities that are the …and four enterprise capabilities. source of costs, errors, and delays and helps companies come Leadership: Senior executives who support the creation of up with process innovations processes. (see my article “Deep Change: Culture: The values of customer focus, teamwork, personal How Operational Innovation accountability, and a willingness to change. Can Transform Your Com- pany,”HBR April 2004). Expertise: Skills in, and methodology for, process redesign. Although process redesign is Governance: Mechanisms for managing complex projects and no longer the terra incognita it change initiatives. once was, one issue stubbornly persists: Most companies tend to overlay new processes on al- Companies can use their evaluations of the enablers and capabilities, in tandem, to plan ready established functional and assess the progress of process-based transformations. organizations. However, the appurtenances of a traditional organization – such as job definitions, performance measurement sys- mon outcome; if the organization mea- context in which they work, they will be tems, and managerial hierarchies – sures performance as it has always prone to making decisions that aren’t don’t always support high-performance done, it will reward people for focusing in the best interests of the entire pro- processes. For instance, senior execu- on narrow, functional goals. How can cess. Similarly, leaders will try to create tives might encourage managers to cre- the process live up to its potential processes without altering managerial ate a cross-functional process but then under those circumstances? Companies responsibilities. That’s problematic, too. prevent them from altering the com- will invest in retraining employees to A high-performance process extends pany’s performance measurement sys- work in a new process, but they balk at across functional boundaries, so a se- tem appropriately. That’s shortsighted. footing the bill for helping people un- nior executive must supervise it. With- The revamped business process needs derstand how the process works as a out such a person, the process won’t employees to focus on a broad, com- whole. If employees don’t know the gain traction within the organization. While studying organizations that Michael Hammer ([email protected]) is the founder of Hammer and Com- were implementing new processes, I pany, a management research and education firm based in Cambridge, Massachusetts. kept track of their errors of omission.

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I also analyzed the various factors that a process design doesn’t mean it’s a ceding level, as shown in the exhibit “As- were necessary to sustain business pro- good one. sessing the Maturity of Your Processes.” cesses. I tested both lists over several I have witnessed repeatedly how In the case of performers, for instance, years and winnowed them down to the missing enablers can derail processes. the P-1 level denotes that employees are five characteristics that I find are essen- At a well-known electronics giant, for merely aware of the process and its met- tial for any process to perform well. A example, a team designed a new order- rics. At the P-2 stage, people must be process must have a well-specified de- fulfillment process and conducted a able to describe the process and where sign; otherwise, the people performing successful pilot. However, the process they fit into it. At the P-3 level, employ- it won’t know what to do or when. The owner didn’t have the authority to force ees can express how their work affects people who execute the process, the unit heads to implement it, so the ef- the company’s performance. Finally, at performers, must have appropriate skills fort floundered. In another instance, a the P-4 stage, performers must know and knowledge; otherwise, they won’t major consumer goods manufacturer how their work affects customers and be able to implement the design. There created a new process and trained its suppliers. The stronger the enablers, the has to be an owner, a senior executive workers to perform new jobs. However, better the results the process can de- who has the responsibility and author- it didn’t educate them about the overall liver on a sustained basis. ity to ensure that the process delivers process. As a result, some employees The enablers’ strengths determine results; otherwise, it will fall between made decisions that inadvertently cre- how mature a process is–that is, how ca- the cracks. The company must align its ated problems for colleagues, which pable it is of delivering higher perfor- infrastructure, such as information tech- hurt performance and morale and mance over time. If all five enablers of nologies and HR systems, to support forced the company to abandon the ef- a process are at the P-1 level, the process the process; otherwise, they will impede fort. In yet another case, a pharmaceu- itself is at the P-1 level; if all five en- its performance. Finally, the company tical manufacturer transformed its sales ablers are at the P-2 level, the process is must develop and use the right metrics and marketing processes but didn’t at P-2; and so on. If only four out of the

How can a process live up to its potential if an organization measures performance as it has always done and rewards people for focusing on narrow, functional goals?

to assess the performance of the pro- make the effort to realign its metrics five enablers rise to a particular level, cess over time; otherwise, it won’t de- and reward systems. That sent conflict- however, the process cannot be said to liver the right results. These enablers ing signals through the organization, have achieved that level; it will belong give a process the potential to deliver elicited inconsistent behavior from em- to the one below. In particular, if any high performance. ployees, and eventually derailed the enabler is so weak that it doesn’t meet The enablers are mutually inter- project. even the P-1 level, the process is by de- dependent: If any are missing, the oth- What makes overhauling processes fault at P-0. That’s the natural state of ers will prove to be ineffective. A weak particularly tricky is the fact that these affairs when organizations haven’t fo- owner can’t implement a strong process enablers are present in organizations at cused on developing their business pro- design, poorly trained performers can’t different levels of intensity, so they vary cesses, and at this P-0 level, processes carry out the design, a bad design can- in the degree to which they support work erratically. At the P-1 level, a pro- not optimize the process metrics no a process. For instance, the question is cess is reliable and predictable; it is sta- matter how well thought-out they are, seldom as clear-cut as whether or not ble. At P-2, a process delivers superior and so on. A process that is missing an organizations appoint process owners; results because the company has de- enabler might deliver results in the many companies, after doing so, don’t signed and implemented it from one short term through superhuman per- give the process owners the authority to end of the organization to the other. At formance or executive intervention, but implement all the changes that are nec- the next level, P-3, a process delivers op- those results won’t last. Of course, hav- essary to make processes work. I’ve timal performance because executives ing all the enablers in place doesn’t identified and defined four levels of pro- can integrate it, where necessary, with guarantee that a process will perform cess enabler strength (P-1, P-2, P-3, and other internal processes to maximize its well; for instance, the mere existence of P-4), each of which builds on the pre- contribution to the company’s perfor-

114 Harvard Business Review | April 2007 | hbr.org mance. Finally, at P-4, a process is best rate information – was ready. During expertise, and governance. First, a com- in class, transcending the company’s pilots, executives found that in some pany’s senior executives must be com- boundaries and extending back to sup- cases, the new process slashed the order mitted to the business process ap- pliers and forward to customers. fulfillment time from four hours to 20 proach. Redesigning processes requires The exhibit displays the four levels of minutes. extensive organizational change that process maturity, with the rows show- Michelin decided to deploy the new often provokes resistance down the ing the enablers and the columns indi- process in 30% of its North American line. This can sink efforts that don’t cating the strength levels. (There are 13 operations by 2006 before rolling it out have the backing of senior executives. rows because I broke the five enablers across the entire region. The company’s Second, only organizations whose cul- down into more finely grained compo- process redesign team had learned tures value customers, teamwork, per- nents.) Companies using this table to from my research that before it could sonal accountability, and a willingness evaluate the maturity of their processes implement a new process that would to change will find it possible to move find it effective to treat the propositions deliver superior performance – that is, forward with process-led change proj- regarding the enablers (the cells of the a P-2 process – all its enablers had to be ects. Business processes, which cut table) not as true or false statements, but as largely true, somewhat true, or largely untrue. Where quantitative assessments are possible, largely true Stronger organizational capabilities make for stronger means that the statement is at least 80% enablers, which allow for better process performance. correct, somewhat true suggests that the statement is between 20% and 80% correct, and largely untrue means the statement is less than 20% correct. Exec- at the P-2 level. When the team, led by across functions, must be operated by utives often color the cells green, yel- the process owner, undertook an assess- people with those values. Third, busi- low, or red, respectively, depending on ment to confirm that was the case, it nesses must have some people with their responses. The green cells indicate found that the human resource systems skills in, and knowledge of, process re- the things that aren’t impeding a pro- that supported the new process were design; this is not work for amateurs cess’s progress and don’t need a great below P-2. Michelin hadn’t redefined or improvisers. And fourth, enterprises deal of focus; the yellow cells show managers’ jobs and the scope of their must be sure to have ways of governing areas where the company has consider- activities clearly enough. Before rolling projects and change initiatives if they able work to do; and the red cells repre- out the new process, the company don’t want chaos and conflict to bog sent roadblocks that keep the process kicked off a series of workshops to clar- them down. from achieving a higher level of perfor- ify managers’new roles and departmen- Unless all these capabilities are in mance. Companies usually face red cells tal charters and to align them better place across a company, it will be im- when they are ignoring problems or with the D2C process. possible for the organization to institu- handling them the wrong way, and so, Michelin’s enabler analysis also sug- tionalize the enablers and sustain the they must tackle them urgently. gested that the D2C process might run performance of its processes. Executives Let me show you how useful it can be into trouble because performance- may be able to force some enablers into for managers to know the state of a improvement projects had proliferated place even if the capabilities aren’t company’s process enablers. In 2004, in the company. Senior executives present, but the performance of their Michelin launched a process redesign therefore placed the process owner in processes won’t endure. Organizations effort to help increase customer focus charge of all the projects that affected need basic competence in all the en- and reduce costs. At the time, the global the D2C process to ensure that they terprise capabilities to get started on tire manufacturer’s order fulfillment wouldn’t interfere with its execution or process redesign projects; they need process forced customers to deal with companywide rollout. greater competence if they are to multiple departments and to go back progress with them. Just as there were and forth repeatedly with the company. four levels of process enabler strength, Is Your Enterprise Ready for High- To tackle the problem, Michelin created there are four levels of enterprise capa- Performance Processes? a new high-performance process, which bility: E-1, E-2, E-3, and E-4. If an enter- it named Demand to Cash (D2C).A In order to develop high-performance prise has E-1 capabilities, it is at the first year later, a streamlined process de- processes, companies need to offer sup- level of enterprise maturity.That means sign – which provided large customers portive environments. They must pos- different things in the case of each capa- with single points of contact, with per- sess or develop organizational capabili- bility. For instance, an organization at sonnel who knew them, and with accu- ties in four areas: leadership, culture, continued on page 118

hbr.org | April 2007 | Harvard Business Review 115 Assessing the You can evaluate the maturity of a business pro- least 80% correct), color the cell green; if it is Maturity of Your cess and determine how to improve its perfor- somewhat true (between 20% and 80% correct), mance by using this table. Decide how the state- shade the cell yellow; and if it is largely untrue Processes ments deﬁning the strength levels, from P-1 to (less than 20% correct), make the cell red. For P-4, for each enabler apply to the process that you companies trying to advance to the next level of are assessing. If a statement is largely true (at performance, the green cells indicate the enablers

P-1 P-2

Design Purpose The process has not been designed on an end-to-end basis. The process has been redesigned from end to end in order Functional managers use the legacy design primarily as a to optimize its performance. context for functional performance improvement.

Context The process’s inputs, outputs, suppliers, and customers The needs of the process’s customers are known and agreed have been identiﬁed. upon.

Documentation The documentation of the process is primarily functional, There is end-to-end documentation of the process design. but it identiﬁes the interconnections among the organizations involved in executing the process.

Performers Knowledge Performers can name the process they execute and identify Performers can describe the process’s overall ﬂow; how the key metrics of its performance. their work affects customers, other employees in the process, and the process’s performance; and the required and actual performance levels.

Skills Performers are skilled in problem solving and process Performers are skilled in teamwork and self-management. improvement techniques.

Behavior Performers have some allegiance to the process, but owe Performers try to follow the process design, perform it cor- primary allegiance to their function. rectly, and work in ways that will enable other people who execute the process to do their work effectively.

Owner Identity The process owner is an individual or a group informally Enterprise leadership has created an ofﬁcial process owner charged with improving the process’s performance. role and has ﬁlled the position with a senior manager who has clout and credibility.

Activities The process owner identiﬁes and documents the process, The process owner articulates the process’s performance communicates it to all the performers, and sponsors small- goals and a vision of its future; sponsors redesign and im- scale change projects. provement efforts; plans their implementation; and ensures compliance with the process design.

Authority The process owner lobbies for the process but can only The process owner can convene a process redesign team encourage functional managers to make changes. and implement the new design and has some control over the technology budget for the process.

Infrastructure Information Fragmented legacy IT systems support the process. An IT system constructed from functional components sup- Systems ports the process.

Human Functional managers reward the attainment of functional The process’s design drives role deﬁnitions, job descrip- Resource excellence and the resolution of functional problems in a tions, and competency proﬁles. Job training is based on pro- Systems process context. cess documentation.

Metrics Deﬁnition The process has some basic cost and quality metrics. The process has end-to-end process metrics derived from customer requirements.

Uses Managers use the process’s metrics to track its perfor- Managers use the process’s metrics to compare its performance, identify root causes of faulty performance, and drive mance to benchmarks, best-in-class performance, and cus- functional improvements. tomer needs and to set performance targets.

116 Harvard Business Review | April 2007 | hbr.org that aren’t impeding the process’s progress; the case, the context of the process design and the One U.S. Company’s Self- yellow ones show areas where the company has performers’ knowledge are the roadblocks to the Assessment of a Process a lot of work to do; and the red cells represent ob- process’s attaining the P-1 level. stacles to a process’s attaining greater maturity. At www.hbr.org, you can download a blank The colored table to the right shows the results of version of this table to assess the state of your such an exercise at a large U.S. company. In this company’s processes. largely somewhat largely true true untrue

P-3 P-4 P-1 P-2 P-3 P-4

The process has been designed to ﬁt with other enterprise The process has been designed to ﬁt with customer and processes and with the enterprise’s IT systems in order to supplier processes in order to optimize interenterprise optimize the enterprise’s performance. performance.

The process owner and the owners of the other processes The process owner and the owners of customer and supplier with which the process interfaces have established mutual processes with which the process interfaces have estab- performance expectations. lished mutual performance expectations.

The process documentation describes the process’s inter- An electronic representation of the process design supports faces with, and expectations of, other processes and links its performance and management and allows analysis of the process to the enterprise’s system and data architecture. environmental changes and process reconﬁgurations.

Performers are familiar both with fundamental business Performers are familiar with the enterprise’s industry and concepts and with the drivers of enterprise performance and its trends and can describe how their work affects inter- can describe how their work affects other processes and the enterprise performance. enterprise’s performance.

Performers are skilled at business decision making. Performers are skilled at change management and change implementation.

Performers strive to ensure that the process delivers the Performers look for signs that the process should change, results needed to achieve the enterprise’s goals. and they propose improvements to the process.

The process comes ﬁrst for the owner in terms of time allo- The process owner is a member of the enterprise’s most cation, mind share, and personal goals. senior decision-making body.

The process owner works with other process owners to The process owner develops a rolling strategic plan for the integrate processes to achieve the enterprise’s goals. process, participates in enterprise-level strategic planning, and collaborates with his or her counterparts working for customers and suppliers to sponsor interenterprise process- redesign initiatives.

The process owner controls the IT systems that support the The process owner controls the process’s budget and process and any projects that change the process and has exerts strong inﬂuence over personnel assignments and some inﬂuence over personnel assignments and evaluations evaluations. as well as the process’s budget.

An integrated IT system, designed with the process in mind An IT system with a modular architecture that adheres to and adhering to enterprise standards, supports the process. industry standards for interenterprise communication supports the process.

Hiring, development, reward, and recognition systems em- Hiring, development, reward, and recognition systems rein- phasize the process’s needs and results and balance them force the importance of intra- and interenterprise collabora- against the enterprise’s needs. tion, personal learning, and organizational change.

The process’s metrics as well as cross-process metrics have The process’s metrics have been derived from interenter- been derived from the enterprise’s strategic goals. prise goals.

Managers present the metrics to process performers for Managers regularly review and refresh the process’s met- awareness and motivation. They use dashboards based on rics and targets and use them in strategic planning. the metrics for day-to-day management of the process.

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the E-1 level for culture must have some ties. A team led by Greg Tucker, CSAA’s bilities were more mature than the com- experience with teamwork. In order to vice president of business transforma- pany’s, partly because of the passionate get ahead, however, the enterprise must tion, uncovered shortcomings in the or- commitment of the unit’s then head, have an E-2 culture, in which it com- ganization’s governance and expertise, Dennis Jönsson, to process-based trans- monly uses cross-functional project particularly in process owner training, formation. When the unit redesigned its teams and its people are familiar with which prevented its processes from processes, its performance picked up; teamwork. To achieve the E-3 level, operating consistently at the P-2 level. for instance, the accuracy of new prod- teamwork must be the norm inside the The team also discovered that cross- ucts’ delivery dates rose sharply, from company. To attain the highest capabil- functional teamwork wasn’t strong in 13% to 85%. The unit’s success embold- ity level, E-4, teamwork with suppliers the company’s culture, so processes that ened Tetra Pak to develop new pro- and customers must be routine. resided largely within a single division, cesses throughout the company–efforts Stronger organizational capabilities such as claims processing, were doing that got a boost when Jönsson took over make for stronger enablers, which allow better than those that cut across func- as Tetra Pak’s CEO in 2006. for better process performance. Thus, tions, such as customer billing and pay- when an enterprise has E-1 capabilities ment. These insights led the organiza- Using the Framework in leadership, culture, expertise, and tion to kick off several efforts, including governance, it is ready to advance all its providing process owners with more re- Process enablers and enterprise capabil- processes to the P-1 level; when all four sponsibility, integrating process priori- ities create a comprehensive framework capabilities reach E-2, the company can ties into strategic planning exercises, that allows companies to evaluate the move along its processes to P-2; and so and rolling out a new leadership model maturity of their business processes and the receptiveness of their organizations to process-based change. The span of the model dispels the commonly held One unit’s pioneering notion that proceeding with processes experiences can energize is easy. At the same time, the presence an entire organization. of several maturity levels signals that companies needn’t plan to go from nowhere to perfection in one fell swoop. The stepwise structure indicates on. The exhibit “Evaluating the Matu- that emphasized process capabilities. that there is a path to becoming a pro- rity of Your Enterprise” presents the These initiatives helped CSAA boost its cess enterprise, which allays people’s four levels of enterprise maturity with enterprise capabilities and stabilize its anxieties and eliminates confusion. the four capabilities broken into 13 ele- processes’ performance. PEMM is different from other pro- ments. (The match with the number of In some cases, a company as a whole cess maturity frameworks, such as elements in the process enablers table is may be unprepared to embark on a pro- Carnegie Mellon’s Capability Maturity pure coincidence.) Executives can assess cess redesign program, but some of its Model Integration (CMMI) framework, enterprise maturity levels much the divisions may be ready to do so. In such which applies to specific processes like same way they can assess process en- situations, executives must assess the software development and acquisition. abler levels: by evaluating whether each strength of enterprise capabilities not The CMMI model identifies the best proposition is largely true, somewhat at the corporate level but at the level of practices for specific processes and eval- true, or largely untrue of their organiza- the business unit. Indeed, one unit’s pi- uates the maturity of an organization tions. They can then use colors to iden- oneering experiences can energize the in terms of how many of those practices tify those aspects of the company that entire organization, boosting its enter- it has implemented. By contrast, PEMM welcome processes (green), still need prise capabilities to a level at which applies to companies in any industry work (yellow), and are positively hos- work on redesigning processes can start and doesn’t specify what a particular tile to them (red). all over the corporation. For instance, process should look like. It identifies the Many companies take their enter- at Tetra Pak, the packaging equipment characteristics that any process and prise capabilities for granted. For in- and materials giant, the task of re- every enterprise should have in order stance, when CSAA (the AAA club for designing processes began in 2001 at to design and deploy high-performance northern California, Utah, and Nevada) the company’s Carton Ambient busi- processes. A company can apply PEMM conducted an analysis to figure out why ness unit, which makes equipment and to all its processes, which allows the use some of its processes were performing materials that allow perishable prod- of a standard approach across the orga- better than others, it found that the ucts such as milk and juices to be stored nization, easy sharing of experiences, problem lay in its enterprise capabili- at room temperature. The unit’s capa- and quick comparisons of results. In ad-

118 Harvard Business Review | April 2007 | hbr.org dition, every organization can develop the key metric of a refinery’s perfor- metric of the Ensure Safe Production processes that meet its own needs since mance, was 7.0%; in 2005, the loss fell to process, is now the lowest in Shell’s PEMM doesn’t insist that the design 2.4% – lower than the then best-in-class manufacturing system, and the mean contain specific features. figure of 3.0%. time between failures of key equipment PEMM is also easy to administer. Purves was determined to improve has shot up. These changes have con- After a brief introduction, even person- the refinery’s performance even more tributed significantly to the refinery’s nel who are new to processes can create by increasing the strength of the pro- bottom line. and interpret the two matrices. The cess enablers from P-2 to P-3. His team On the basis of the Port Arthur expe- model’s simplicity allows people to used PEMM to identify areas that would rience, Shell is using PEMM to assess its apply it themselves rather than rely on need improvement. Process owners and refineries and chemical plants all over experts or consultants; employees are senior executives evaluated the process the world. Site leaders use the results, more likely to believe in and act on such enablers and enterprise capabilities, which the company has linked to strate- assessments. At the same time, the and frontline personnel, independently, gic business reviews, to find out where model’s objective character – it uses did the same. Unsurprisingly, the exec- their plants stand on critical issues and testable propositions rather than opin- utives’ visions were much rosier than to identify the steps needed to develop ions – helps factor out emotion and the workers’. Instead of glossing over both enterprise capabilities and process avoid needless arguments. Asking em- the differences, Purves made the two enablers. The ease of using the PEMM ployees to evaluate a process or an en- groups focus on the areas of disagree- framework and the model’s low over- terprise is a subtle way of engaging ment. By avoiding the temptation of av- head cost have made it feasible for Shell them, and as they become more in- eraging and by harnessing the power to conduct these evaluations every six volved with processes, their commit- of the conversation, the two groups months. ment to change increases. Participating came up with an accurate assessment. PEMM often helps companies tackle in PEMM assessments is educational the difficult problem of sustaining high- without the formality and sensitivities performance processes. Clorox, for ex- usually associated with such activities. There is a path to becoming ample, has been working on its Order to The structured nature of the model, its Cash (OTC) process since 2002, and by a process enterprise. basis in company experiences, and its redesigning several of its subprocesses, intuitive plausibility make senior execu- the company had achieved impressive tives as well as frontline personnel results: By 2006, late shipments fell by more comfortable with process-based For instance, senior executives rated more than 70%, aged receivables de- change. Through PEMM, people learn Port Arthur’s expertise in designing clined by two-thirds, and the percent- about processes and process-centered processes higher than their subordi- age of perfect orders skyrocketed from organizations by doing rather than by nates did. That’s because other employ- 19% to 70%. Yet, the leaders of the effort listening. ees didn’t know how senior executives weren’t sure that the process could sus- Companies have used PEMM in many had evaluated process design method- tain those results. Rick Magoun, a vice ways and at different stages of process- ologies or established standards for president of logistics at Clorox and the based transformation projects. When them. The senior team persuaded em- process owner of OTC, asked the own- enterprises start redesigning business ployees to accept its assessment of this ers of the four subprocesses to assess processes or seek to rise from one level area but acknowledged the need to im- their maturity. He also asked the ten- to the next, it is imperative that they prove communication about the issue. person logistics leadership team to as- conduct a maturity analysis first. In Purves and his team found that sev- sess the enterprise capabilities of those 2001, Tom Purves, now Shell’s vice pres- eral enablers were at the P-3 level, but parts of the organization involved in ident of manufacturing operations for the assessment showed weaknesses in performing the OTC process. Each the Americas Gulf Coast, took over performers’ knowledge and the use of member conducted an evaluation and as the manager of the Motiva refinery, metrics for goal setting. PEMM iden- the group then discussed the results. a joint venture between Shell and Saudi tified some governance gaps as well. They arrived at a consensus, not by Aramco, in Port Arthur, Texas. He and These insights led the team to launch splitting differences or going for aver- his leadership team used process-based efforts to increase the understanding of ages but by debating each evaluation techniques to redesign two core pro- processes by performers, to use a more until some people–not necessarily those cesses (Ensure Safe Production and Re- structured approach to setting perfor- in the minority – reconsidered their ap- liability-Centered Maintenance) and mance targets, and to create a program praisals. This proved to be a powerful improve the refinery’s operations. The management office. As a result, perfor- way for the team to create a shared un- results were impressive: In 2001, Port mance has continued to improve. For derstanding of what the transformation Arthur’s unbudgeted production loss, instance, Port Arthur’s alarm rate, a key continued on page 122

hbr.org | April 2007 | Harvard Business Review 119 Evaluating the To determine if your organization is ready to sup- processes. If a statement is at least 80% correct, Maturity of Your port a process-based transformation, evaluate the color the cell green; if it is between 20% and 80% statements in this table. They show the strength correct, shade it yellow; and if it is less than 20% Enterprise levels, from E-1 to E-4, of the capabilities that en- correct, make it red. Companies must focus on terprises need in order to develop their business tackling the red areas at that level ﬁrst, then the

E-1 E-2

Leadership Awareness The enterprise’s senior executive team recognizes the need At least one senior executive deeply understands the busi- to improve operational performance but has only a limited ness process concept, how the enterprise can use it to im- understanding of the power of business processes. prove performance, and what is involved in implementing it. Alignment The leadership of the process program lies in the middle A senior executive has taken leadership of, and responsibil- management ranks. ity for, the process program.

Behavior A senior executive endorses and invests in operational A senior executive has publicly set stretch performance improvement. goals in customer terms and is prepared to commit resources, make deep changes, and remove roadblocks in order to achieve those goals.

Style The senior executive team has started shifting from a top- The senior executive team leading the process program is down, hierarchical style to an open, collaborative style. passionate about the need to change and about process as the key tool for change.

Culture Teamwork Teamwork is project focused, occasional, and atypical. The enterprise commonly uses cross-functional project teams for improvement efforts.

Customer There is a widespread belief that customer focus is impor- Employees realize that the purpose of their work is to Focus tant, but there is limited appreciation of what that means. deliver extraordinary customer value. There is also uncertainty and conﬂict about how to meet customers’ needs.

Responsibility Accountability for results rests with managers. Frontline personnel begin to take ownership of results.

Attitude There is growing acceptance in the enterprise about the Employees are prepared for signiﬁcant change in how work Toward Change need to make modest change. is performed.

Expertise People A small group of people has a deep appreciation for the A cadre of experts has skills in process redesign and imple- power of processes. mentation, project management, communications, and change management.

Methodology The enterprise uses one or more methodologies for solving Process redesign teams have access to a basic methodology execution problems and making incremental process for process redesign. improvements.

Governance Process The enterprise has identiﬁed some business processes. The enterprise has developed a complete enterprise process Model model, and the senior executive team has accepted it.

Accountability Functional managers are responsible for performance, Process owners have accountability for individual pro- project managers for improvement projects. cesses, and a steering committee is responsible for the enterprise’s overall progress with processes.

Integration One or more groups advocate and support possibly distinct An informal coordinating body provides needed program operational improvement techniques. management while a steering committee allocates resources for process redesign projects.

120 Harvard Business Review | April 2007 | hbr.org yellow ones. That’s what a large U.S. company, At www.hbr.org, you can download a blank One U.S. Company’s whose assessment is shown alongside, did. For version of this table to evaluate your enterprise Self-Assessment instance, it realized that by focusing on developing capabilities. its process improvement methodologies, it could move up to the E-1 level. largely somewhat largely true true untrue E-3 E-4 E-1 E-2 E-3 E-4

The senior executive team views the enterprise in process The senior executive team sees its own work in process terms and has developed a vision of the enterprise and its terms and perceives process management not as a project processes. but as a way of managing the business.

There is strong alignment in the senior executive team re- People throughout the enterprise exhibit enthusiasm for garding the process program. There is also a network of process management and play leadership roles in process people throughout the enterprise helping to promote pro- efforts. cess efforts.

Senior executives operate as a team, manage the enterprise The members of the senior executive team perform their through its processes, and are actively engaged in the pro- own work as processes, center strategic planning on process program. cesses, and develop new business opportunities based on high-performance processes.

The senior executive team has delegated control and The senior executive team exercises leadership through authority to process owners and process performers. vision and inﬂuence rather than command and control.

Teamwork is the norm among process performers and is Teamwork with customers and suppliers is commonplace. commonplace among managers.

Employees understand that customers demand uniform Employees focus on collaborating with trading partners to excellence and a seamless experience. meet the needs of ﬁnal customers.

Employees feel accountable for enterprise results. Employees feel a sense of mission in serving customers and achieving ever-better performance.

Employees are ready for major multidimensional change. Employees recognize change as inevitable and embrace it as a regular phenomenon.

A cadre of experts has skills in large-scale change manage- Substantial numbers of people with skills in process re- ment and enterprise transformation. design and implementation, project management, program management, and change management are present across the enterprise. A formal process for developing and maintaining that skill base is also in place.

The enterprise has developed and standardized a formal Process management and redesign have become core com- process for process redesign and has integrated it with a petencies and are embedded in a formal system that in- standard process for process improvement. cludes environment scanning, change planning, implementation, and process-centered innovation.

The enterprise process model has been communicated The enterprise has extended its process model to connect throughout the enterprise, is used to drive project prioritiza- with those of customers and suppliers. It also uses the tion, and is linked to enterprise-level technologies and data model in strategy development. architectures.

Process owners share accountability for the enterprise’s A process council operates as the most senior management performance. body; performers share accountability for enterprise performance; and the enterprise has established steering committees with customers and suppliers to drive interenterprise process change.

A formal program management ofﬁce, headed by a chief Process owners work with their counterparts in customer process ofﬁcer, coordinates and integrates all process and supplier enterprises to drive interenterprise process projects, and a process council manages interprocess inte- integration. gration issues. The enterprise manages and deploys all process improvement techniques and tools in an integrated manner.

hbr.org | April 2007 | Harvard Business Review 121 entailed and to learn what more it needed to do. The analysis provided several unexpected findings. First, it showed that the Order to Cash process wasn’t as mature as many people believed it to be. This was surprising because the process had been the target of concerted redesign efforts, but it reinforced the idea that age is not the same as maturity. Second, Clorox’s enterprise capabilities were more mature than were the enablers of the OTC process. The assessment indicated that executives needed to focus more attention on performer skills, knowledge, and behavior. What’s more, the process designs didn’t adequately reflect the customer’s voice, so that needed work as well. Third, the OTC metrics were in better shape than the other enablers were, so the team could defer work in that area. In the same way, the team found some weaknesses in its enterprise capabilities, including a shortfall in process expertise and in- sufficient readiness for change. The Clorox team used all these findings to shape an action plan for the following year. Among other things, the team doc- umented process revisions and used those documents to prepare people for change. It also involved more people in redesign efforts, broadening the company’s skills. Since the enterprise capabilities were at a higher level than the process enablers were, executives knew that the organization was ready to invest time and resources to address any outstanding issues. The PEMM application provided Clorox with several additional benefits. For instance, the analysis took the guesswork out of planning; the process owner’s team hadn’t addressed certain issues simply because it hadn’t thought of them. The framework allowed team members to decide where to focus their resources instead of forcing them to rely on intuition and flashes of inspiration. Moreover, the PEMM analysis gave Clorox’s leaders answers they could offer the many employees who had become enthusiastic about the company’s focus on business processes and were asking what they could be doing cally, the team found gaps in gover- to help. nance and culture. The process owners Finally, when high-performance pro- and Schneider’s process council, which cesses break down, companies can use served as a forum for process owners PEMM to find out what ails them. and business managers to resolve out- That’s what Schneider National, one of standing issues,weren’t powerful enough the largest trucking companies in the to prevent line managers from tinker- United States, recently did. Five years ing with processes. The enterprise also “If you don't ago, in order to counteract a slowdown hadn’t embedded the commitment to in growth, the company identified five solve problems in a structured fashion, core processes. One of them, the Ac- rather than an ad hoc manner, deeply get the quire New Business process, encom- enough. Doug Mueller, then the vice passes all the work Schneider performs president of business transformation magazine from the moment a sales representative and now the head of the Sole Source hears of a potential opportunity to win- business unit, had raised those issues from the ning a contract. A key metric of this pro- but had been unable to get much atten- cess’s performance is how long it takes tion. The PEMM analysis pinpointed Rotman School of Management, When high-performance processes break down, aptly called companies can use PEMM to find out what ails them. Rotman, you're making to respond to a customer’s request for areas of weakness, helped get buy-in proposal. Prior to the redesign, Schnei- from the senior management team, and a mistake.” der typically needed between 30 and 45 served as a catalyst for developing pro- — Bruce Nussbaum, days to put in a bid. In 2003, the com- grams to upgrade Schneider’s process Assistant Managing Editor, pany created a new process that al- governance system and focus its culture BusinessWeek lowed it to get back to a customer in more squarely on business processes. (online blog, Sept.27, 2006) less than three days – an improvement • • • of greater than 90%. As a result, Schnei- The PEMM framework doesn’t make Subscribe to Rotman Magazine today: der’s win rate, the percentage of sales the road to process transformation easy www.rotman.utoronto.ca/subscribe opportunities that it converted into to traverse. Executives must do a lot of contracts, increased by 70%. difficult, even painful, work to design One Year (3 issues): $95 US In early 2005, however, the company high-performance processes and create Two Years (6 issues): $135 US started to experience problems. The re- an environment in which those pro- designed process centered on “market cesses flourish. In fact, organizations owners,” experienced leaders with re- are often taken aback by the results of sponsibility for guiding pricing and PEMM analyses; they feel they have other decisions regarding RFPs. In an made more progress than the model effort to relieve pressure on market shows. However, in process transforma- owners, some business units started in- tions, as in life, knowing where you volving more managers in these deci- stand and having a road map to follow sions. Other work-arounds cropped up, beats stumbling in the dark. and soon, the process’s performance began to deteriorate. When a Schneider Go to www.hbr.org to download and fill in two blank tables for evaluating your processes and team used PEMM, it determined that enterprise capabilities. although the enablers of the process were at the P-2 and P-3 levels, the enter- Reprint R0704H prise capabilities were lagging. Specifi- To order, see page 143. BEST PRACTICE

Human Due Diligence

The success of most acquisitions hinges not on dollars but on people. Here’s how to analyze potential people problems before a deal is completed. by David Harding and Ted Rouse

HE STRATEGIC LOGIC of Bank One’s 1998 acquisition of First Chicago NBD was clear. According to the Cincin- nati Post, the deal would make the Columbus, Ohio– T based acquirer, then the United States’ eighth-largest bank,“the dominant bank in the Midwest,”ensuring its survival in a rapidly consolidating industry.But three years after the deal, none of the 16 top executives picked to run the merged company remained on the job. One M&A firm included the deal in its list of the top ten M&A bloopers for 1999. Bank One eventually recovered its momentum, but the acquisition reflects a common business problem. Too often, deal makers simply ignore, defer, or underestimate the significance of peo-

ple issues in mergers and acquisitions. They gather reams of Wearing Paul

124 Harvard Business Review | April 2007 | hbr.org financial, commercial, and operational Human due diligence lays the ground- nization after the deal is done. Often data, but their attention to what we call work for smooth integration.Done early they are one and the same, but they human due diligence–understanding the enough, it also helps acquirers decide don’t have to be. culture of an organization and the roles, whether to embrace or kill a deal and Consider the 2006 merger of the capabilities, and attitudes of its people–is determine the price they are willing to New York Stock Exchange with the at best cursory and at worst nonexistent. pay. In hostile situations, it’s obviously all-electronic exchange Archipelago. The most obvious consequence of more difficult to conduct due diligence. In making that deal, the world’s largest making a deal without conducting But there is still a certain amount of bourse acquired more than just technol- human due diligence is a significant human due diligence that companies ogy. Archipelago’s management team loss of talent right after the deal’s an- can and must do to reduce the inevita- and governance structure will allow the nouncement. Less obvious is the prob- ble fallout from the acquisition process NYSE to pull itself into the twenty-first lem of long-term attrition: Research and smooth the integration (see the century, transforming the closed-circle shows that companies continue to lose sidebar “In Hostile Territory”). organization of powerful Exchange seat- disproportionate numbers of execu- So what does good human due dili- holders into a company that sells shares tives years after their merger deals have gence actually involve? In our experi- to the public. The NYSE is the financial closed (see Jeffrey Krug’s Forethought ence, an acquiring company must start acquirer, but Archipelago is setting the article “Why Do They Keep Leaving?” with the fundamental question that all cultural tone of the new company. HBR February 2003). For those who deals should be built on: What is the The big problem with saying that an remain, confusion over differences in purpose of the deal? The answer to that acquisition is a merger of equals is that decision-making styles leads to infighting. Managers postpone decisions or are blocked from making them. Integra- tion stalls and productivity declines. The big problem with saying that an acquisition is Nearly two-thirds of companies lose a merger of equals is that it allows management to postpone market share in the first quarter after a merger. By the third quarter, the fig- acknowledging which firm is the cultural acquirer. ure is 90%. That’s the bad news. The good news is that human due diligence can help acquirers avoid these problems. When question leads to two more: Whose cul- it allows management to postpone ac- they have done their homework, ac- ture will the new organization adopt, knowledging which firm is the cultural quirers can uncover capability gaps, and what organizational structure acquirer, which makes predeal human points of friction, and differences in should be adopted? Once those ques- due diligence all but impossible. Before decision making. Most important, they tions are answered, human due dili- you can evaluate potential people prob- can make the critical people decisions– gence can focus on determining how lems, you have to know which culture who stays, who goes, who runs the well the target’s current structure and you want to end up with. Who the cul- combined business, what to do with culture will mesh with those of the pro- tural acquirer is depends on the funda- the rank and file – when a deal is an- posed new company, which top execu- mental goal of the acquisition. If the ob- nounced, or shortly thereafter. tives should be retained and by what jective is to strengthen the existing The value of addressing these issues means, and how to manage the reaction business by gaining customers and early is highlighted in detailed inter- of the rank and file. achieving economies of scale, then the views Bain & Company conducted with Let us turn first to the question of financial acquirer normally assumes managers involved in 40 recent merg- culture. The answer is not as obvious as the role of cultural acquirer. In such ers and acquisitions. The research com- one would think. cases, the acquirer will be less interested pared people-related practices in suc- in the target’s people than in its physi- cessful and unsuccessful deals. In the cal assets and customers, though that Who Is the Cultural Acquirer? 15 deals classified as successful, nearly shouldn’t discourage the acquirer from 90% of the acquirers had identified key In public, deal-making executives rou- cherry-picking the best talent the target employees and targeted them for re- tinely speak of acquisitions as “mergers has to offer. The main focus of human tention during due diligence or within of equals.” That’s diplomatic, but it’s due diligence, therefore, will be to ver- the first 30 days after the announce- usually not true. In many, if not most, ify that the target’s culture is compati- ment. By comparison, this task was car- deals, there is not only a financial ac- ble enough with the acquirer’s to allow ried out in only one-third of the unsuc- quirer; there is also a cultural acquirer, for the building of necessary bridges be- cessful deals. who will set the tone for the new orga- tween the two organizations.

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But if the deal is intended to transform the financial acquirer’s business, then the target firm is likely to be the In Hostile Territory cultural acquirer. In Disney’s acquisition of Pixar Animation Studios, the The rhetoric of hostile negotiations as it plays out in public seems designed to integration goal was to protect Pixar’s amplify cultural differences between two companies. From the target pours talent and begin injecting that new cul- the language of resistance, decrying the poor fit and often questioning the ture into Disney’s existing organization. motives and track record of the acquirer, sometimes in highly personal terms. In cases like this, the question of orga- For its part, the acquirer blasts away at the performance of the target’s man- nizational structure takes a backseat agement team, usually casting it in the worst possible light. Hostile acquirers because the acquirer will not fold the that win the day often end up alienating at least part of the organization they target into its own structure; it may are taking over, creating cultural terrorists in the process who do everything in even do the reverse. their power to resist integration. When deals are very large, the iden- In this environment, it’s clearly impossible to employ most of the analytic tity of the cultural acquirer may vary tools we describe in this article ahead of time. Executive teams can’t spend across business units. When Boeing ac- time together, except in highly charged circumstances with lawyers on hand. quired McDonnell Douglas in 1997, for Acquirers can’t expect to see inside data on questions of employee satisfac- instance, Boeing’s objective was to tap tion, compensation and promotion processes, or decision-making norms. But into McDonnell Douglas’s strong posi- companies cannot afford to ignore human due diligence just because the tar- tion with military customers. Boeing get won’t cooperate. Although hostile bids are rare, they also tend to be large. therefore viewed McDonnell as the Hostile deals accounted for about 1% of all deals announced in 2006, for in- cultural acquirer for the military air- stance, but they accounted for 17% of deal value during the same period. craft and missile business. It created a Last year, the 374 uninvited bids made by corporate and private-equity buyers separate unit to house both McDon- added up to offers worth $700 billion. What’s more, such deals often turn out nell’s operations and its own military to be game-changing for the companies involved and their industries. aircraft and missile business. It gave Fortunately, there is a certain amount you can do in a hostile situation in ad- McDonnell executives most of the key vance. You can analyze published reports and news stories about your target. posts in that business and took other Senior executives who have moved on from the target company can some- measures to protect the McDonnell cul- times provide useful views of their former employer’s culture. Customers and ture. On the commercial side, it was an- suppliers often have valuable insight into the decision-making processes and other story. Boeing was more successful capabilities of the organization and may know how these compare with those in serving commercial airlines, and it of the acquirer. Any progress you make with this kind of human due diligence acted swiftly to subsume McDonnell’s will help to test your investment thesis, determine boundaries for pricing, and commercial operation. identify some of the hot-button issues for the target’s employees. It will also help keep you focused on life after the deal and the critical next steps you will What Kind of Organization need to take to improve it. Do We Want? Don’t rest on your laurels once the deal is completed. On your first day as boss, launch an aggressive “get to know you” program. As you become ac- It’s rare that two firms can be combined quainted with the people, focus especially on the next generation of leaders, without making hard decisions about usually two levels below the CEO. These managers have not fought the whose structure to adopt (should busi- pitched defensive battles a hostile takeover generates and thus often see ness units be based on our products or the opportunities that a business combination can provide. They will be your their geographies?), who should report key allies as you move to overcome resistance and build support, because to whom, how decisions will be made, they are highly influential down the ranks of the organization. Decisions they and so on. In most cases, executives make to stay or leave will have a significant ripple effect. You should follow looking at a deal will have ideas about up this program with employee surveys, interviews, and visits, all of which which structure they prefer, but they should be framed to protect your investment – the people you acquired. Properly presented, human due diligence can be more than a learning ex- David Harding ([email protected]) is a ercise. It can be an important part of the healing process that needs to hap- partner in Bain & Company’s Boston office and pen before your hostile acquisition can deliver the value you were so desper- leader of the firm’s mergers and acquisitions ate to obtain. practice. Ted Rouse ([email protected]) is a partner in Bain’s Chicago office and leader of the firm’s merger integration practice.

126 Harvard Business Review | April 2007 | hbr.org need to know whether the proposed and uncover the strengths and weak- job descriptions of key areas of the structure makes sense given the organi- nesses of the organization: Are deci- company.What is the scope of the units’ zational realities of the target. sions really made through the official responsibilities, and how well have they The first issue to diagnose is whether channels? Which departments and delivered? How does the quality of the the target has a coherent, functioning functions are best at making decisions? output of the target compare with that organizational structure that allows it The output could consist of a addi- of the acquirer? Team members should to make and execute decisions effec- tional set of flowcharts diagramming supplement these observations with a tively. How and where are careful reading of the various the business units deployed? units’ management accounts What is the reporting struc- (an exercise that will overlap ture? How many levels of au- with financial due diligence). It thority stand between the top may also help to approach of the organization and the managers at key customers di- front line? How is authority rectly to ascertain their per- distributed between layers? spective on where the target Think of this as the “hard- excels or falls down. ware” of the organization. When Cargill Crop Nutri- The second issue to address tion acquired IMC Global to is the internal dynamics of the form the Mosaic Company, a target, or its “software.” What global leader in the fertilizer process do the target’s exec- business, the acquisition team utives use to make strategic quickly saw that the two com- and operating decisions? How panies’ organizations had simi- effective are the checks and lar structures that seemed to balances on the key decision function well. They decided makers? Where will the most that the structure of the new significant points of friction company would mirror the emerge in combining the tar- operations and functional or- get’s functions or divisions with ganization of both. With the those of the acquirer? design principles for the new To address these questions, organization in place, the com- the acquirer’s human due dili- bined company’s new CEO, gence team should begin by who came from Cargill, set out looking at the hard data: orga- to fill the top boxes. He con- nization charts, head counts, ducted one-on-one meetings and job descriptions. From with the top 20 executives this research, the team should be able the decision-making process. Clearly, from both companies and solicited to create a profile of the target’s basic this assessment is only feasible in a input from the heads of HR and the organization, identify the reporting friendly deal – and usually only after CEO of IMC Global. These interviews lines, lay out flowcharts that track how the intention to make the deal has been revealed differences between Cargill’s decisions are made and implemented, announced. consensus-driven decision-making pro- and describe the various official mech- The final task for the acquirer’s cess and IMC’s more streamlined ap- anisms for controlling the quality of de- human due diligence team in address- proach, which emphasized speed. Be- cision making (board reviews, steering ing organizational issues is to take stock cause Cargill was the cultural acquirer committees, and the like). of the target’s assets and capabilities as well as the financial acquirer, the This data-based exercise, however, and determine which departments and more consensual approach to decisions can take the team only so far. As any functions possess those capabilities. prevailed. But armed with an early un- manager worth his or her salt knows, This, obviously, is especially important derstanding of the differences in ap- the organization chart reveals little for deals where the point is to acquire proach, the CEO was able to select lead- about how effective a company’s struc- assets and capabilities. The unit of ers who would reinforce this position. ture is. In friendly deals, therefore, the analysis at this stage is not individuals, Cargill managers also took time to ex- human due diligence team should ap- but entire business units, functions, or plain the benefits of their decision- proach decision makers and their re- technical departments. The team will making system to their new colleagues ports to compare practice to theory begin by reviewing the roles, goals, and rather than simply mandating it.

hbr.org | April 2007 | Harvard Business Review 127 BEST PRACTICE | Human Due Diligence

How Will the Cultures Mesh? They can talk to the company’s “heroes” nizations that might lead to leadership and decipher what they stand for. And conflicts, talent flight, and integration As we’ve seen, in many deals it isn’t al- they can review compensation, perfor- breakdowns. The survey revealed, for ways obvious which firm is the cultural mance management, and other systems instance, that Eurogoods had a more acquirer. Even when it is obvious, to get an idea of the values and behav- laid-back management culture than changing cultures is not simple. So it’s ior the company promotes. U.S. Goods, relying more on informal critical that the acquirer get a sense of After an announcement, a company conversations and less on performance the similarities and differences between can also start applying a useful cultural measures and organizational agility. two organizations’ cultures and just assessment tool: the employee survey. With those results in mind, U.S. Goods what the cultural transition will in- In this kind of survey, employees from formulated a plan aimed at addressing volve. This is so, even if the investment both companies are asked to rate their the cultural gaps and educating Euro- thesis downplays the importance of own company’s culture along a host of goods managers on the numbers-driven the culture. dimensions. They are also asked what management ethic at U.S. Goods. It Human due diligence efforts fo- they would like the combined company even had the Eurogoods team sign off cused on culture have to begin with a to look like in each of those catego- on the plan before the deal closed. clear understanding of what the target ries. Along with face-to-face interviews, While it’s helpful for the acquirer to company’s culture actually is. The ac- these survey data can reveal where fric- take stock of data from employee cul- quirer should start by looking at the tion and clashes are likely to spring up. ture surveys, it’s even more useful to business press to see what the target’s One leading American consumer get the managers from both companies key stakeholders have to say about the products company we know (we’ll call it to examine the data together in work- matter and supplement that research U.S. Goods) used surveys effectively for shops. Indeed, the process of a joint re- with interviews with representatives cultural due diligence. The company view is as valuable as the data it pro- from each group of stakeholders, if pos- was considering the acquisition of a duces. Executives participating in such sible. The target’s executives can explain European company (Eurogoods) with workshops immerse themselves at first how they view their mission, their val- a similar product line and clientele. Be- in the distinctions between the two cul- ues, and their own cultural style. The cause the acquisition’s goal was to ex- tures highlighted by the data. Then the decision-making diagnosis we talked pand the geographic scope of the core floodgates open, and they often find about above is another tool the ac- business and achieve greater economies they agree on many elements of the quirer can use to identify differences in of scale in shared functions, U.S. Goods culture for the new organization, which the two organizations’ processes that was both the financial and the cultural becomes a rallying point. actually reflect fundamental cultural acquirer. It knew that the success of Defining the values of the new cul- differences. For example, is decision the merger would hinge on its ability ture, translating those values into spe- making centralized or decentralized at to integrate Eurogoods into its own or- cific expectations for behavior, and the target company? Customers can ganization rapidly, which would, in coming up with a plan to move both or- shed light on how the target goes to turn, hinge on the cultural compatibil- ganizations to the new culture goes a market and responds to change. Com- ity of the two organizations. long way toward understanding how petitors and suppliers can provide infor- Working closely with their counter- each side works and what each assumes mation on how the target is perceived parts at Eurogoods, the U.S. Goods to be normal. The process also knits to- in its industry. With this information, management team undertook a “cul- gether the leadership team, turning its the acquirer can begin making deci- tural audit” of the two organizations. members into role models for the new sions about the desired culture and put The team surveyed 28 key managers culture. ground rules in place even before the from Eurogoods, as well as 31 from its deal is announced. own organization, asking them a wide Whom Do We Want to Retain? But the really useful cultural work of range of questions related to their per- human due diligence starts after the sonalities (for instance, their “desire to If the financial acquirer is also the cul- deal is officially on the table. Then it be- win” and their “external focus”), their tural acquirer, the company is likely to comes easier for the companies to work management styles (such as their deci- want to retain its own people in the top together openly. There’s a lot a human sion-making process and communica- jobs. But keeping great talent from an due diligence team can learn simply by tions preferences), and their percep- acquired organization not only can up- spending time at the target. Team mem- tions of organizational norms in such grade the effectiveness of your com- bers can see firsthand what the com- areas as compensation and career de- pany, it can also send a powerful mes- pany’s norms are about space, commu- velopment. By comparing the answers, sage to those in the target firm about nication, meeting management, and U.S. Goods was able to pinpoint cul- how they will be treated in the merger. dress – all important cultural symbols. tural differences between the two orga- What the acquirer really needs to do is

128 Harvard Business Review | April 2007 | hbr.org Human Due Diligence: A Checklist spend their time in conference rooms, focusing on the performance story and numbers. But every visit to a target is Human due diligence – assessing the decision-making roles, culture, capabili- also a chance to get out and learn first- ties, and attitudes of people in a target company – helps acquirers make funda- hand how the organization feels. mental go/no-go decisions, determine the price if the deal goes forward, and The wider the cultural gulf between create an effective and focused integration plan. Indeed, the information gleaned two companies, the more important through human due diligence can form the basis for a human capital balance direct interaction with the target’s sheet, showing the assets and liabilities of the company in terms of its people. management becomes. That’s particu- Integration decisions enabled by human due diligence larly true of mergers involving companies based in different countries. To • Determining the structure of the organization and resolving conflicts in take another example, a U.S. appliance decision-making processes. manufacturer (let’s call it Atlantic Ap- • Setting the tone for the combined culture and establishing a process for pliance) took a quite aggressive – and migrating to a new culture. valuable–approach with an Asian man- • Filling the top jobs quickly and deciding how to retain other key talent. ufacturer (Pacific Appliance) it was con- • Implementing programs aimed at winning the hearts and minds of employees sidering acquiring. In every key func- in the target organization. tion, senior executives from the two Methods and tools companies got together for intensive, • For a fact-based view of a target company’s culture and the strengths and three-day sessions involving business re- weaknesses of its people, acquirers can draw on organization charts, compen- views, strategy presentations, question- sation and promotion processes, job descriptions and responsibilities, em- and-answer periods, and factory and of- ployee turnover rates, culture audits, 360-degree feedback, internal satisfaction fice visits. Participants also dined and surveys, and measures of employee loyalty. socialized together. On one level, the • For a more qualitative assessment of people issues and capabilities, acquirers meetings were designed to help the ac- use interviews with key executives, role plays to determine patterns of re- quirer gather information about Pa- sponse to business situations, reviews of how the management team handled cific’s processes and practices. For ex- prior crises, and interviews with customers and suppliers. ample, the program helped Atlantic realize that the merger integration could break down as a result of the very different financial standards used by the two companies. On another get to know the management team of Not every company, of course, wants level, however, the meetings provided the target,so that it can judge who are the to retain all its target’s managers, and Atlantic with insights into Pacific’s man- most talented leaders and then put the most will need to determine who goes agement style and culture as well as best people in each position. and who stays. Working that out re- a sense of the skills and attitudes of In some situations, the target’s peo- quires the same kind of detailed assess- key managers. This analysis may well ple are precisely what the deal is all ment that goes into any high-level hir- have been the primary benefit of the about. The Chinese company Lenovo’s ing effort. Acquisition team members time spent together, becoming the basis acquisition of IBM’s PC business, com- should gather performance reviews, infor decisions Atlantic made about which pleted in May 2005, is a case in point. In terview third parties (headhunters and Pacific managers to retain in top jobs fact, the board of Lenovo’s controlling former executives, for instance), and as- and which to let go. It ensured, in other shareholder allowed the company to sess the executives’ track records. They words, that the departure of employ- pursue the deal if, and only if, it could should probe the executives’ leadership ees occurred where it would do the recruit IBM’s senior executives to man- styles and evaluate how they have least harm and potentially even bring age the merged enterprise. Lenovo’s dealt with difficult decisions. Most of benefits. interest wasn’t just in the top people. all, acquisition team members should So far, our people discussion has fo- The company offered a job to every simply spend time with their counter- cused on the top jobs. But in many ac- IBM employee with no obligation to re- parts in the target company, preferably quisitions, the rationale is as much locate or accept reduced compensation. on the target’s turf, getting to know about the rank and file’s capabilities as That meant the company could con- them as individuals. The investment the top managers’. Here, the people- tinue seamlessly on its way, with mini- bankers who entertain an acquisition assessment process overlaps with struc- mal disruption of engineering projects team at the target company’s facilities tural human due diligence. The capabil- or customer relationships. will always want team members to ities stocktaking we described earlier

hbr.org | April 2007 | Harvard Business Review 129 BEST PRACTICE | Human Due Diligence

tells the acquirer exactly which depart- be cross-checked against individual now be part of a bigger, more exciting ments and functions house the talent bonus awards, which are often a good organization, they’ll be more likely to the acquirer wants to retain. The ac- guide to past performance. stay on. quirer can then make judgments about Once key people are identified, the which individuals in those units to acquirer must face the challenge of re- What Will Employees Think keep on. If it is the people in sales who taining them. Those at the top may About the Deal? are essential to the acquisition’s success, have an ownership stake in the com- the team should talk to customers pany, which could generate a big pay- Intimately linked with the question of about which sales reps are the best, out as a result of the acquisition, and whom you want to retain is the ques- possibly combining this with the cul- they may feel they can safely leave the tion of postmerger morale. The success tural interviews we described earlier. If company or retire. Even those without of pretty much any deal (except per- the acquirer is buying research and dean ownership stake may decide it’s time haps those in which the acquirer is velopment capabilities, it needs to to seek greener pastures. To complicate really only after a specific physical asset bring in outside experts capable of the situation, the acquirer may want to or patent) depends on what the target’s evaluating the target’s scientists and en- keep some of its new employees over employees think about the deal. Are gineers. A particularly useful tool for the long term while retaining others they pleased or are they horrified to be assessing talent at a target is forced only for six months or a year. The best acquired? Are they afraid? Will they ac- ranking. This needs to involve some way to solve this puzzle, typically, is to tively undermine efforts to change the combination of HR and key senior em- put your cards on the table: Tell people organization? Their attitudes will deter- ployees who will be part of the new or- exactly what you’re hoping they will do, mine whether the acquirer can retain ganization. Using performance reviews be it stay for a short while or stay on key employees, how difficult it will be to and input from senior executives, the long term, and design incentives to en- acculturate them, and whether they will acquisition team can usually rank every courage just that. Nonfinancial rewards accept new structures and processes. employee in the critical departments and aspirations are important as well. If the deal is hostile,of course,you will from top to bottom. These results can If you can convince people that they’ll not be well placed to gauge employee

Corporate Financial Strategies for Creating Shareholder Value july 8–13 october 7–12

A program where the business world’s most courageous minds tackle its most challenging issues. execed.kellogg.northwestern.edu 847-491-3100 morale. Incumbent management at nicating what the deal would mean for Supply Chain the target will be telling employees all stakeholders – employees, of course, Management: that the deal is a nonstarter and will be but also customers, suppliers, and in- bad for the company. For that reason, vestors. By the time the deal was an- Strategy and Planning pulling off a hostile acquisition whose nounced, Lawton and his counterpart for Effective Operations investment thesis is based on the peo- at Diversey, Cetin Yuceulug, had pre- june 3–6 ple is extremely challenging. But if the pared a joint vision and values state- deal is a friendly one, then there’s a lot ment, along with a video describing the Factory Physics: you can do to gauge and even manage new company’s direction and plans, The Science of Lean the attitudes of the target’s people. which they distributed to the com- The obvious starting point is em- pany’s worldwide staff on the day the Manufacturing ployee surveys. Most companies keep deal was announced. june 6–8 track of their employee satisfaction lev- • • • els, and the results of these surveys can Conducting human due diligence re- Competitive Strategy tell you a lot about employees’attitudes quires both sustained commitment june 10–13 toward their company. Do they feel from senior executives and the alloca- that there is a free flow of information tion of the necessary resources. It is par- Forensic Accounting up and down the hierarchy? Do they ticularly hard to do when, as too often believe that they are rewarded on the happens, executives of a would-be ac- for Credit and basis of merit and hard work? You can quirer are hastily responding to an op- Equity Analysts also find out which units are happy portunity that has suddenly appeared Part I: june 11–13 with the status quo and which are not, on their radar screen. There is little time Part II: june 14–15 thereby indicating where the main com- even to create a cogent deal thesis to munication challenges will lie. Units test, let alone find the time to do the Advanced that are happy with the status quo may kind of due diligence on people issues Executive Program resist the changes you propose, while that a successful deal entails. But there’s those that are dissatisfied may look on another way to go about it. As we have june 24–july 20 you as a white knight. In addition to argued, the most successful acquirers reviewing past surveys, you can work have a strategic rationale behind their Managing New with the target to directly survey em- deals. They build a pipeline of potential Products and ployees about their attitudes toward acquisitions that fit the rationale, on Services for Strategic your company as an acquirer. And you which they can conduct ongoing due can monitor industry and employee diligence, both financial and human, Competitive Advantage placement chat rooms to see what’s before any merger opportunities ever june 24–27 being posted by your employees and arise (see “Building Deals on Bedrock,” by competitors. HBR September 2004). With that kind Executive As you build a picture of employee of approach, acquirers usually have Development Program attitudes at your target, you will prob- plenty of time and opportunity to pur- july 8–27 ably want to move beyond surveys to sue thorough human due diligence over spend time with frontline employees on a period of months or even years. When Business their coffee breaks and lunch hours, formal due diligence kicks off, these ac- walking through plants and offices, quirers already know a lot about the Marketing Strategy talking with people at the operating target, including the strengths and july 15–20 level. When, in 2002, Johnson Wax weaknesses of its key people. They have Professional was in negotiations to a good idea from the outset of who is buy DiverseyLever, part of the con- going to be the cultural acquirer in the sumer goods giant Unilever, CEO Greg deal, reducing the odds of misunder- Upcoming programs where the business Lawton spent more than 100 hours standings or culture clashes. Done this world’s most courageous minds tackle talking individually with Diversey exec- way,human due diligence can turn peo- its most challenging issues. utives. From these conversations, he ple issues from a potential liability into execed.kellogg.northwestern.edu was able not only to identify members a solid asset. of a new management team before the 847-491-3100 deal was completed but also to map out Reprint R0704J a comprehensive program for commu- To order, see page 143. Letters to the Editor

Strategy and Society: The Link Between Competitive Advantage and Corporate Social modify the way the marketplace works Responsibility in order to advance their clients’ interests. For example, the Washington Post Most contemporary analyses of corpo- (December 10, 2006) reported that cor- rate social responsibility (CSR) empha- porate dairy companies recently spent size the connection between a corpo- well over $5 million to strengthen an ration’s CSR policies and its strategic anachronistic milk marketing scheme objectives, a linkage that Michael E. installed in the 1930s to protect small Porter and Mark R. Kramer illustrate farmers–a scheme said to have cost con- with innovative current examples in sumers $1.5 billion a year, and under their article,“Strategy and Society: The which small dairy farmers have largely Link Between Competitive Advantage disappeared – in order to penalize one and Corporate Social Responsibility” innovative farmer for selling milk at (December 2006). a lower price. Even if the $1.5 billion revenue estimate is signiﬁcantly inﬂated, HBR Making a Real Difference Spotlight the companies still realized a good return on their expenditure.

by Michael E. Porter and Mark R. Kramer The concept of corporate social re- Strategy sponsibility today needs to include at- & tention to the legitimate interests of Society many stakeholders, particularly when The Link Between Competitive Advantage attempts are being made to change the and Corporate Social Responsibility rules of the game to advance ex parte in- overnments, activists, and the media have become adept at Gholding companies to account for the social consequences of their activities. Myriad organizations rank companies on the performance of their corporate social responsibility (CSR), and, despite sometimes questionable methodologies, these rankings attract considerable publicity. As a result, CSR has terests. As Thomas Stewart notes in his emerged as an inescapable priority for business leaders in every country. Many companies have already done much to improve the social and environmental consequences of their activities, yet these efforts have not been nearly as productive as they could be – for two reasons. First, they pit business against society, when clearly the two are interdependent. Second, they pressure companies December 2006 Letter from the Editor, to think of corporate social responsibility in generic ways instead of in the way DOUG FRASERDOUG “Companies cannot thrive in corrupt… societies.”The dairy farmer targeted by 7 8 harvard business review | hbr.org this lobbying effort would surely agree. Lee E. Preston While the top box on their diamond Professor Emeritus diagram is labeled “Context for Firm Robert H. Smith School of Business Strategy and Rivalry,”the authors fail to University of Maryland mention that manipulation of this con- College Park, Maryland text can be an important strategic option, with substantial societal impact. In Porter and Kramer’s article on the link Washington, DC, and in U.S. state capi- between competitive advantage and tals today, a sea of corporate money corporate social responsibility provides ﬂoats a sizable navy of business lobby- a framework for improving the gover- ists whose purpose is to monitor and nance architecture of corporations.

We welcome letters from all readers wishing to comment on articles in this issue. Early responses have the best chance of being published. Please be concise and include your title, company afﬁliation, location, and phone number. E-mail us at [email protected]; send faxes to 617-783-7493; or write to The Editor, Harvard Business Review, 60 Harvard Way, Boston, MA 02163. HBR reserves the right to solicit and edit letters and to republish letters as reprints.

132 Harvard Business Review | April 2007 | hbr.org Establishing adjunct governance fo- ests. We disagree, however, that such ef- tries” (October 2006) present real op- rums of strategic stakeholders not only forts are desirable or should be labeled portunities for future emerging giants. provides a cost-effective way for organi- an “important strategic option.”Lobby- However, my 35 years of working in de- zations to establish the multiple and re- ing may forestall market forces and in- veloping Asia – as well as my role as a enforced “outside-in” links the authors flate profits in the short run, but it does (non-Muslim) member of the Interna- describe; it also protects directors. It was not provide a sustainable competitive tional Advisory Panel of the World Is- because German and Japanese compa- advantage. On the contrary, preserving lamic Economic Forum, the business nies obtained these additional advan- artificial conditions frequently leads and economic face of the 57-member tages from their stakeholder forums companies to make the wrong strategic Organization of Islamic Conference, and that Porter recommended the inclusion choices. Many industries that success- our recent discussions in Islamabad – of stakeholders in the governance archi- fully delayed regulation in their home suggests that not all voids are created tecture of U.S. firms in his 1992 report, countries have since fallen victim to equal, and not all provide a solid foun- Capital Choices. changes in the political environment or dation for regional expansion. Unfortu- Stakeholder forums can be designed to foreign competition. U.S. automakers, nately, we see large national firms gain- to provide directors with a systemic pro- for example, lobbied effectively against ing domestic advantage principally by cess to carry out their most fundamen- higher mileage standards for their cars, exploiting their informal access to the tal fiduciary duty: to direct and monitor only to suffer dramatic reversals as they host government. In exchange for a management. Nonexecutive directors lost touch with the needs of the global range of “favors,” including most com- cannot creditably carry out these basic marketplace. Manipulating the regula- monly “black”or undisclosed payments roles with due diligence, vigilance, and tory environment is a good example to the ruling party ahead of elections, care unless they obtain feed-forward of win-lose thinking rather than the these companies use their privileged ac- and feedback intelligence independent shared-value approach we advocate. cess to acquire protected market posi- of management. We agree with Shann Turnbull that tions in regulated sectors such as finan- If the stakeholder forums are consti- stakeholder forums can be a valuable cial services and cellular telephony. tuted independently,as is the practice in source of guidance for corporations and So-called national ownership is then Germany and Japan, the duties and cost can contribute to corporate governance. used to protect corporate underperfor- of management could be simplified We caution, however, that responding to mance in businesses with both formal and the need for auditing stakeholder stakeholders is not enough to enable and informal links to the government. reports eliminated, yielding further a company to integrate social consider- Even Khanna and Palepu’s premise savings. The responsibility for being ations with its strategy. Stakeholders that national firms can exploit their “attuned to the evolving concerns of may be aware of the harmful impacts of deeper insights into local product and stakeholders, and mitigating existing or a corporation’s value chain, but they are resource markets (as in the examples anticipated adverse effects from busi- far less likely to understand the compet- of Jollibee and Haier) or their superior ness activities”would be shared with the itive and societal advantages that a com- access to local resources (witness Info- stakeholders to protect the corporate pany can achieve by integrating social sys, Tata Consultancy, and Satyam Com- reputation. considerations into its core strategy. puter Services) may require further Shann Turnbull research. Examples such as India’s Ma- Principal Emerging Giants: Building hindra and Mahindra’s prize-winning International Institute for Self-Governance World-Class Companies in Scorpio SUV and Haier’s tiny washing Sydney, Australia Developing Countries machines and vegetable cleaners may be on the surface compelling, but Porter and Kramer respond: Lee Preston I don’t doubt that the product and when the underlying economics of accurately points out that companies factor voids that Tarun Khanna and such businesses are peeled apart–not al- often try to manipulate the regulatory Krishna G. Palepu identify in their arti- ways a trivial exercise – some clear pat- context through aggressive lobbying, cle, “Emerging Giants: Building World- terns emerge: First, in many developing which can run counter to society’s inter- Class Companies in Developing Coun- countries, accounting systems are not

hbr.org | April 2007 | Harvard Business Review 133 LETTERS TO THE EDITOR sophisticated enough to separate the tional issues. To understand the organi- what he considers to be signs of depen- often premium returns of core busi- zational dynamics, one might focus on dency and indulgence. He appears to nesses – those that operate in areas the dichotomy between the passivity of be staking out some macho ground in where monopoly rents can be extracted– Evan and the board and the aggressive- a maternal field, as if his sense of his from the frequently low or even nega- ness of the leader they chose. Why does own success has been threatened by tive returns in sectors open to compe- the company believe that Rob’s anti- the very field of endeavor in which it tition. Second, weak accounting can dependency, no-coddling, “school of has occurred. contribute to misreading the effect of hard knocks” approach is necessary? Steve Axelrod bringing on incremental capacity to Do they really believe that leaders with Principal export in globally competitive sectors people skills aren’t capable of making Axelrod Consulting such as automobiles. In one extreme tough decisions or, worse, that they are New York case, for instance, an emerging Asian “momma’s boys”who can’t be real busi- national auto manufacturer had pro- nesspeople? It’s possible that Evan How Well-Run Boards Make posed an export selling price for built- brought in a hardball player to overcom- Decisions up automobiles that was less than the pensate for what he felt to be his own cost of the completely knocked-down shortcomings. In “How Well-Run Boards Make Deci- (CKD) kits the factory was buying from Bruce Hammer sions”(November 2006),Michael Useem Japan! President underlines the importance of deciding Ian C. Buchanan Hammer Associates what matters are reserved for the board, Senior Executive Adviser Syosett, New York but gives managers no tool to help Booz Allen Hamilton make this crucial decision. Focusing on Sydney, Australia “large-impact decisions” or those that “will change the future” or “any issue Khanna and Palepu respond: We have that could have a material impact on no disagreement with Ian Buchanan. In- the company, from either a financial deed, he is right that in several emerging or a public perspective” are rather markets, rent-seeking has been one vague concepts that would not have route to amass riches. But the purpose ensured that Enron’s off-balance-sheet of our article is to shed light on eco- partnerships were brought to the board’s nomic giants–not the political giants he attention. points to–that have adapted their busi- We need a set of criteria for deciding ness models to the institutional voids what needs to go to the board and some in their environments and added eco- examples demonstrating why items like nomic value in the process. These inno- off-balance-sheet accounting would make vators should be lauded, studied, and the list. Having spent 20 years studying replicated. the relationship between corporate cen- Buchanan’s second point, that ac- Common wisdom suggests that Rob has ters and their subsidiary companies, I counting systems are underdeveloped, is a skill deficit in emotional intelligence offer four suggestions. spot on. It reinforces our premise that that can be remedied by means of exec- First, the board should authorize all emerging markets are fraught with in- utive coaching. I would suggest an alter- significant governance decisions con- formation problems, a common cause nate perspective. cerning how the company records what of institutional voids. If the hapless A sophisticated coach would find it is doing, presents itself to outsiders, CKD kit buyer should soon find itself ample evidence in this case that Rob has makes decisions, and assesses risks. out of business, for example, that would a psychological problem that requires Given the importance of financial ac- not be a bad thing. psychotherapy, not executive coaching. counting, for example, the board should (Such a coach need not by any means be authorize all accounting changes, specif- The CEO Who Couldn’t Keep His a psychologist; psychology-mindedness ically those that are not conservative. Foot out of His Mouth might be a core competency for execu- This category is about the probity and tive coaches but it is not the exclusive integrity of the company. The HBR case study by Lisa Burrell, province of psychologists.) Rob’s behav- Second, the board should authorize “The CEO Who Couldn’t Keep His Foot ior is not only abrasive and offensive all decisions with material risks. out of His Mouth” (December 2006), but dramatically self-destructive, which Third, the board should get involved provides a clear example of how often suggests that there are powerful psycho- in other decisions only when the prob- organizations fail to recognize leader- logical forces at play. Specifically, Rob’s ability that the discussion will add value ship problems as reflections of organiza- gaffes all seem to be directed against (result in a better decision) outweighs

134 Harvard Business Review | April 2007 | hbr.org the probability that it will destroy value should be to review the criteria the CEO make decisions. That is indeed a useful (result in a worse decision, delay, or is using to choose between options, not next step. undue cost). Boards can add value if di- make the choice itself. In my article, I set forward a set of rectors have special knowledge or ex- In the Tyco example, the board re- principles to guide directors’ decision pertise that is relevant to the decision or viewed the 60 recommended divest- making. The principles range from the if the managers proposing the decision ments and decided that in six instances preparation of a protocol specifying are likely to be biased (consciously or the case for divestiture was not strong which decisions should be taken up by subconsciously) in their thinking. Other- enough. This would add value only if the directors to the creation of a gover- wise, boards are likely to destroy value the board had some special expertise nance culture that mandates director by wasting time and money or giving with regard to these six companies or if engagement in the company’s major de- bad guidance due to ignorance of the the directors believed management cisions. Once these principles are in details. was biased toward selling too much. place, boards then need to develop more Fourth, the board should appoint the Both reasons seem unlikely.Instead, the speciﬁc guidelines for deciding what to CEO and CFO and authorize other se- board might have better used its time to delegate to management and which is- nior appointments. review the 50 businesses that manage- sues to reserve for themselves. Useem’s case studies address the third ment recommended keeping. Tyco’s his- Campbell helpfully offers four such point but raise some concerns.The board tory suggests that management would tools, and they are, in fact, widely rec- of Universal Investments seems comfort- probably be biased toward keeping too ognized as constituting good gover- able encouraging its CEO to present the much rather than selling too much. nance guidelines. While he quarrels decision about the diamond fund. On Andrew Campbell with the boards’ decisions at two of the what basis does the board believe that it Director companies described in my article, his can add more value than it destroys with Ashridge Strategic Management Centre commentary reminds us how impor- this decision? Surely the management London tant it is for directors to become explicit team is best placed to examine the op- about their principles and tools – and tions and identify the best solution. The Useem responds: Andrew Campbell has how difﬁcult it can be to reach agree- role of the board in this kind of decision called for tools to help governing boards ment on them. Corporate boards are

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From entry-level to professional and executive, Select International offers Selection assessments, Virtual Job Auditions™ and recruitment process outsourcing for companies who want to maximize their can be this talent ROI. Call 1.800.786.8595 or log on to www.selectinternational.com. obvious. PRODUCTS • SYSTEMS • OUTSOURCING LETTERS TO THE EDITOR moving toward greater engagement in ress – rising up the ranks, snapping at comes rather than programs or activi- major company decisions, and estab- the heels of men. Then high-level jobs ties, and names which populations lishing the right principles and tools were redefined. They became even more should receive the defined outcomes, will require continuing appraisal and time consuming, even more pressure management will have that focus. Then debate. filled–increasingly beyond the reach of they can pursue opportunities that will women with significant childcare and help them better produce those defined Extreme Jobs: The Dangerous eldercare responsibilities. The result: outcomes. % Eric Craymer Allure of the 70-Hour Workweek Only 20 of extreme job holders are female, and fully 80% of them have one President I’ve worked in corporate America for foot out the door because they feel they Growth Management Consulting the past 20 years. Prior to that, I was can’t keep up a 70-hour week for more East Lansing, Michigan an “officer” in the world’s largest inter- than 12 months. national not-for-profit service organi- The new extreme work model does Christensen, Baumann, Ruggles, and zation: I was a priest in the Catholic not augur well for women’s progress. Sadtler respond: Eric Craymer is right Church. Many organizations see high-octane ex- to cite John Carver’s Boards That Make Many of the characteristics described treme workers as their “A” team – the a Difference, which has been an invalu- by Sylvia Ann Hewlett and Carolyn Buck bench strength from which they recruit able guide for many nonprofit directors. Luce in “Extreme Jobs: The Dangerous future leaders. So it’s terribly disturbing Craymer offers some insightful com- Allure of the 70-Hour Workweek” (De- to see so few women in these ranks. ments about the importance of non- cember 2006) sounded strangely like The solution does not lie in celibacy. profit board governance. However, the those shared by Mother Teresa, St. Ig- As a society,we need professional women nonprofit catalytic innovations model natius Loyola, and St. Francis of Assisi. to continue to have children. The chal- will work only when the fee for a prod- These dedicated people also put in lenge is to re-engineer high-level jobs so uct or service is directed by the con- long hours, worked endless weekends, that they become doable by ordinary sumer. Without this, an organization’s and were obsessed with results. They people, not just “saints.” ultimate scalability is determined by often drove others to achieve similar government agencies or donations, successes. Disruptive Innovation for Social which tend to be influenced more by Perhaps when the Divine awards cer- Change politics than by the value proposition. tain people extraordinary talents, there For fee-for-service to work, measurable resides a corresponding moral obliga- For-profit companies have a clear man- outcomes are natural and necessary tion to use them–even to the detriment date: increase wealth and return. This guides. In fact, all our nonprofit exam- of society, family, and the individual. focus drives them to seek out market ples track measurable outcomes, such However, there is one stark difference opportunities, including the type sug- as the increasing number of students between the saints and today’s extreme gested by Clayton M.Christensen,Heiner completing virtual courses or graduat- workers: The saints never neglected Baumann, Rudy Ruggles, and Thomas ing from a community college, the num- their spouses and offspring. Maybe the M. Sadtler in their article, “Disruptive ber of farmers in Kenya using a Kick- vow of celibacy has a place for today’s Innovation for Social Change” (Decem- Start pump, the number of people “uber-achievers.” Based on their sexual ber 2006). purchasing health insurance from the dissatisfaction, it seems they are embrac- Nonprofit organizations, whether Freelancers Union, or the interest and ing this austere lifestyle anyway. Taking funded by donations or by government default rates on microlending. Before the vow would merely ensure that they subsidy, generally have no such clear the creation of innovative business get some eternal remuneration for it. focus. Many are founded with only a models such as those we described, Kenny Moore vague definition of the benefits they measuring the degree to which a value Coauthor, The CEO and the Monk exist to create and no method of mea- proposition addressed pressing needs (John Wiley & Sons, 2004) suring whether or not they actually appeared impossible or irrelevant. It is Totowa, New Jersey create them. clear to us now that this is a critical ele- Catalytic innovation will work when ment of scalability and sustainability in Hewlett and Luce respond: Women pay an organization is motivated to find new the building of enterprises whose pur- a disproportionate price for their ex- and better ways, but if the profit motive pose is to do good. treme jobs and are being left behind in does not drive them they need some- new ways. thing else. If, as suggested by John Boards That Make a Home Depot’s Blueprint for Over the past 40 years, highly creden- Carver in his book Culture Change tialed women flooded into the profes- Difference (John Wiley & Sons, 2006), sional labor market and, at least in some a board defines the purpose of the orga- I find it interesting that Ram Charan ar- sectors, started to make serious prog- nization in terms of measurable out- gued that Bob Nardelli had successfully

136 Harvard Business Review | April 2007 | hbr.org changed the Home Depot culture in his years earlier, well before he gained fame April 2006 article,“Home Depot’s Blue- on Wall Street. print for Culture Change.”Nardelli im- Geoffrey Moore posed the GE culture on Home Depot. Senior Adviser GE’s authority-centered culture may be Office of Michael Milken highly effective in certain businesses, Santa Monica, California but time has shown that it is not suited for environments that require sensitiv- Sonnenfeld and Ward respond: We apol- ity to and respect for multiple con- ogize to Michael Milken and to Geoffrey stituencies’ viewpoints. Telling people Moore if we minimized the former’s in- “When I want your opinion, I’ll give it to terest in health care before his cancer di- you”doesn’t work in settings where oth- agnosis or, indeed, in education, which ers have as much, or more, power than was also clearly a lifelong passion of his. you have. There is only so much detail we could in- Another lesson can be derived from clude in the space of an article. the recent failure of Nardelli at Home For most people who successfully re- Depot: Publishing company case stud- bound,their new heroic mission involves ies can be dangerous. Unfortunately, rediscovery and renewed focus on core today’s success stories often become to- values and interests rather than the cre- morrow’s case study failures. I would ation of something completely new. love to see HBR return to being a true Witness the rebounds of Steve Jobs and “thought leader,”focusing on ideas that Jimmy Carter. The same was true for have not yet gained acceptance and let- Milken. What we hoped to convey when ting companies, consultants, and others we referred to Milken’s “new” heroic figure out their applicability to their mission was that after one of the world’s own environment. leading financiers was barred for life Pete DeLisi from financial markets, he refocused his President considerable energy onto other areas. Organizational Synergies In our book, Firing Back: How Great Fremont, California Leaders Rebound After Career Disasters, we have more room to elaborate on Firing Back: How Great Leaders Milken’s great accomplishments since Rebound After Career Disasters his 1990 conviction. Milken developed his personal for- If Jeffrey A. Sonnenfeld and Andrew J. mula when he was in college: “Prosper- Ward were to strike the word “new” ity is the sum of financial technology from their statement that Michael times the sum of human capital plus so- Milken turned his zeal into “a new cial capital plus real assets.”In his former heroic mission”to cure disease, their ar- professional life, he concentrated on the ticle “Firing Back: How Great Leaders financial technology aspect of the equa- Rebound After Career Disasters”(Janu- tion, but when he rebounded, he turned ary 2007), would more accurately de- to human capital. As Moore correctly scribe his history of accelerating medical points out, Milken undertook consider- solutions. The mission was not new. able initiatives in the areas of health Milken had been leading important care and education while on Wall Street, medical research initiatives for two de- but only after 1990 did they become his cades before he was diagnosed with can- main focus. For example, the Milken In- cer in 1993. By 1982, he had formalized stitute began in 1991, and his Prostate these efforts in the Milken Family Foun- Cancer Foundation (previously named dation, which organized and endowed CaPCURE) was launched in 1993.We see programs to speed progress in the fights these initiatives in education and health against breast cancer, pediatric neuro- care as major leaps forward in Milken’s logical disorders, leukemia, and other philanthropic activities. Together with diseases. Milken didn’t “survive” to the creation of Knowledge Universe,they “build a huge foundation”– he built it represent a new heroic mission. LEADERSHIP

COVER STORY 58 | What Your Leader Expects of You Larry Bossidy The success of an executive team depends heavily Executive on the relationships the boss has with his or her direct reports. Yet the leadership literature has had little to say about what is expected in those relation- Summaries ships – on either side. Larry Bossidy, formerly the chairman and CEO of Honeywell, and before that of APRIL 2007 AlliedSignal, shares what he calls “the CEO compact,” detailing the behaviors a leader should look for in subordinates and what they should be able to expect in return. A CEO’s best people, he says, know when a situation calls for them to get involved. They generate ideas – remembering that some of the best ones may sound crazy at ﬁrst. They are willing to collaborate, putting the long-term good of the company above short-term goals of their divisions. They step up to lead initiatives, even if the outcome is uncertain. They develop leaders among their people, especially through direct involvement in performance appraisals. They stay current on world events and anticipate how those events may affect the company and its competition. They drive their own growth by exposing themselves to new people and ideas and by accepting demanding assignments. And they sustain these behaviors in bad times as well as good. On the other side of the compact, the boss should provide clarity of direction; set goals and objectives; give frequent, speciﬁc, and immediate feedback; be decisive and timely; demonstrate honesty and candor; and offer an equitable compensation plan. Executives who aren’t lucky enough to have such a boss can create a compact with their own subordinates, Bossidy says, and demonstrate There’s nothing more by example. The result will be to improve team and depressing than sitting in company performance and accelerate individual growth. a business meeting with Reprint R0704C people who don’t know what’s going on in the world. – page 58

138 Harvard Business Review | April 2007 | hbr.org IDEAS & TRENDS ORGANIZATION & CULTURE

FORETHOUGHT HBR CASE STUDY 20 | Strategy Lessons from Left Field 33 | Why Didn’t We Know? Rough schooling helps multinationals from Ralph Hasson small or developing countries become formidable global competitors. F0704A Galvatrens, a consumer products company in Houston, has a whistle-blower’s The Upside of Falling Flat The failed lawsuit on its hands. Mike Fields, a former McDonald’s hotel project is a good exam- divisional sales manager, claims that he ple of a “real option” – a set investment was wrongfully terminated for trying to for an uncertain but potentially high report an illegal scheme designed by a col- return – and shows that the company is league to inflate numbers. He’d left the willing to nurture innovation. F0704B company’s COO a confidential voice mail Younger Women at the Top More about it, but the COO referred the matter women than men at Fortune 1,000 firms to Mike’s boss rather than following up on have reached executive officer positions it himself. Mike says his boss subse- in their thirties, forties, and fifties – and quently told him his performance wasn’t they’ve done it faster. Still, nearly half of up to snuff and he’d have to accept a de- those companies lack female executive motion and a transfer if he wanted to stay officers altogether. F0704C with the company – knowing that Mike, a divorced father with joint custody of his $152,000 for Your Thoughts Making kids, couldn’t leave town. employees prove their ideas’ worth results How could all of this have happened? in better concepts and more-motivated Chip Brownlee, the CEO of Galvatrens, workers. Executives must give people the had taken steps a while back to upgrade tools to stand behind their ideas and must the company’s procedures for uncovering follow up with strong rewards. F0704D misconduct and solving conflicts. He and Nurturing Respect for IP in China the general counsel had instituted a number of changes, including a new open-door The best way to foster an appreciation for policy for raising workplace concerns. intellectual-property rights in China is to Although the policy encouraged employ- let partner firms experience the benefits ees to go to their immediate supervisors, of locally generated knowledge. F0704E it emphasized that they could approach Find the Gold in Toxic Feedback any manager at any level for assistance, Even rude or irrelevant feedback can be and it included a ban on retaliation against useful, but only a rare few can put ego whistle-blowers. aside and extract the hidden value. F0704F Chip and the board need to figure out why, with all those channels in place, only Stay on the Q&A Offensive The Q&A one person came forward with informa- should be more than just an afterthought, tion about the sales scheme – and why says communications consultant Michael that person ended up suing the company. Sheehan. It may be the only part of your How should Galvatrens strengthen its speech people actually listen to. F0704G system for uncovering misconduct, and Quality Is in the Eye of the Beholder what roles should the board and manage- Consumers are slow to notice positive or ment play? negative changes in a product’s quality, Commenting on this fictional case study and that could have important implications are Stephen R. Hardis, the nonexecutive for your company’s marketing plan. F0704H chairman of Marsh & McLennan; Hal Shear, the managing director of Board Reducing Directors’ Legal Risk Out- Assets; Mary Rowe, an ombudsperson side directors are at lower risk of liability for the Massachusetts Institute of Technol- than they might think, but they can pro- ogy; and Jackson W. Robinson, the founder tect themselves even further. F0704J and president of Winslow Management. Reviews Featuring The Halo Effect…and Reprint R0704A the Eight Other Business Delusions That Reprint Case only R0704X Deceive Managers, by Phil Rosenzweig. Reprint Commentary only R0704Z INNOVATION & CREATIVITY STRATEGY & COMPETITION

Going Against 45 | Preparing for the Perfect 66 | Finding Your Next Core the Grain Product Launch Business James P. Hackett Chris Zook Shortly after Jim Hackett became CEO of How do you know when your core needs Steelcase in 1994, the office furniture to change? And how do you determine manufacturer introduced two products. what should replace it? From an in-depth The Leap chair was a great success. But study of 25 companies, the author, a strat- the Pathways office cubicle system ran egy consultant, has discovered that it’s into trouble from the start, plagued by possible to measure the vitality of a busi- R&D disputes, distribution misunder- ness’s core. If it needs reinvention, he standings, and product recalls. says, the best course is to mine hidden How could a company fail as well as assets. succeed? Hackett traced the root of the Some of the 25 companies were in matter to something many organizations deep crisis when they began the process would see as a virtue: the company’s “can of redefining themselves. But, says Zook, do” attitude. People at Steelcase were not management teams can learn to recog- spending enough time thinking things nize early signs of erosion. He offers five “Howard Gardner is the man who changed through before they jumped to execute. diagnostic questions with which to evalu- our notion of what it means to be clever.” The Financial Times Hackett set out to transform Steelcase’s ate the customers, key sources of differ- “doing” culture into a “thinking before entiation, profit pools, capabilities, and or- doing” culture. ganizational culture of your core business. After much research, he developed The next step is strategic regeneration. a four-part process to give development In four-fifths of the companies Zook exam- teams at Steelcase the mental tools, intel- ined, a hidden asset was the centerpiece lectual resources, and time they needed of the new strategy. He provides a map to think a project through to completion. for identifying the hidden assets in your In the think phase, the team finds out as midst, which tend to fall into three catego- much about a potential project as possi- ries: undervalued business platforms, ble. Team members ask questions, con- untapped insights into customers, and tact experts, do research, and come up underexploited capabilities. The Swedish with a range of options. In the point-of- company Dometic, for example, was man- view phase, they select the option they ufacturing small absorption refrigerators will pursue. Once the point of view is for boats and RVs when it discovered a “Essential reading for those who chose to formed and cleared with the company, all hidden asset: its understanding of, and ac- thrive in their most important endeavors.” second-guessing comes to an end and, in cess to, customers in the RV market. The Edward Betof, Chief Learning Officer, the plan-to-implement phase, the group company took advantage of a boom in Becton, Dickinson and Company determines the process by which the that market to refocus on complete sys- project will be completed. Only after full- tems for live-in vehicles. The Danish com- scale practice runs with everyone involved pany Novozymes, which produced rela- does the project actually go forward in the tively low-tech commodity enzymes such implementation stage. as those used in detergents, realized that It takes a great deal of courage and its underutilized biochemical capability in confidence for people anxious to storm genetic and protein engineering was a the world to slow down and explore all hidden asset and successfully refocused their options first, Hackett acknowledges. on creating bioengineered specialty But by bringing thinking and doing into the enzymes. proper balance, everyone is much better Your next core business is not likely to prepared to meet the future. announce itself with fanfare. Use the au- Reprint R0704B thor’s tools to conduct an internal audit of possibilities and pinpoint your new focus. Reprint R0704D; HBR Article Collection “Gives thoughtful, timely, and inspirational advice for managers and their organizations.” “Growth Strategies That Work –Again Academy of Management Review and Again, 2nd Edition” 1904

Available wherever books are sold

www.HBSPress.org ORGANIZATION & CULTURE LEADERSHIP

78 | Promise-Based Management: 90 | The Leadership Team: The Essence of Execution Complementary Strengths or Donald N. Sull and Charles Spinosa Conflicting Agendas? Critical initiatives stall for a variety of rea- Stephen A. Miles and Michael D. Watkins sons – employee disengagement, a lack of Senior leadership teams whose members coordination between functions, complex play complementary roles have been organizational structures that obscure ac- chronicled as far back as Homer’s accountability, and so on. To overcome such count of the Trojan War: Although King obstacles, managers must fundamentally Agamemnon commanded the Greek rethink how work gets done. army, Achilles, Odysseus, and Nestor each Most of the challenges stem from bro- played a distinct role in defeating Troy. ken or poorly crafted commitments. That’s Today, complementary-leadership struc- because every company is, at its heart, tures are common and, in some cases, a dynamic network of promises made be- even institutionalized. Think of a CEO tween employees and colleagues, cus- concerned mainly with external issues tomers, outsourcing partners, or other and a COO who focuses internally. The stakeholders. Executives can overcome authors describe four kinds of comple- many problems in the short term and fos- mentarity: task, expertise, cognitive, and STRATEGIC NEGOTIATIONS: ter productive, reliable workforces for the role. The two top executives at the soft- long term by practicing what the authors DEALMAKING FOR THE LONG TERM ware company Adobe Systems, for exam- call “promise-based management,” which MAY 20–25, 2007 ple, represent the second kind. As CEO, involves cultivating and coordinating com- Bruce Chizen draws on his sales and mar- mitments in a systematic way. keting knowledge, while COO Shantanu CREATING CORPORATE Good promises share five qualities: Narayen adds his engineering and product ADVANTAGE: STRATEGY IN THE They are public, active, voluntary, explicit, development expertise. Roberto Goizueta, MULTIBUSINESS FIRM and mission based. To develop and exe- formerly the CEO of Coca-Cola, and Doug- cute an effective promise, the “provider” JUNE 10–12, 2007 las Ivester, his COO (who later became and the “customer” in the deal should go CEO), were famous examples of the through three phases of conversation. The STRATEGIC MARKETING fourth type: Goizueta, the diplomat, main- first, achieving a meeting of minds, entails tained good relations with external stake- MANAGEMENT exploring the fundamental questions of holders; Ivester, the warrior, drove the JUNE 17–22, 2007 coordinated effort: What do you mean? company to defeat the competition. Do you understand what I mean? What Bringing together two or more people MANAGING HUMAN CAPITAL: should I do? What will you do? Who else with complementary strengths can com- should we talk to? In the next phase, mak- KEY STRATEGIC CHALLENGES pensate for the natural limitations of each. ing it happen, the provider executes on JUNE 24–29, 2007 But with the benefits comes the risk of the promise. In the final phase, closing the confusion, disagreement about priorities, loop, the customer publicly declares that and turf battles. Leadership succession LEADING SCIENCE-BASED the provider has either delivered the also presents substantial challenges, es- ENTERPRISES goods or failed to do so. pecially when a COO or president who JUNE 26–29, 2007 Leaders must weave and manage has worked in a complementary fashion their webs of promises with great care – with the CEO moves into the top role. encouraging iterative conversation and STRATEGIC AGILITY: LEADING An organization’s board of directors making sure commitments are fulfilled FLEXIBLE ORGANIZATIONS and CEO can manage the risks by foster- reliably. If they do, they can enhance ing a shared vision, common incentives, JULY 15–20, 2007 coordination and cooperation among col- communication, and trust. They can leagues, build the organizational agility also ensure smooth succession pro- BUILDING COMPETITIVE ADVANTAGE required to seize new business opportuni- cesses in various ways, such as brokering THROUGH OPERATIONS ties, and tap employees’ entrepreneurial a gradual transfer of responsibilities or energies. JULY 29–AUGUST 3, 2007 allowing the CEO and the COO to share Reprint R0704E duties as long as they maintain the logic of complementarity. Reprint R0704F

For more information, visit www.exed.hbs.edu/pgm/uphbr/ ORGANIZATION & CULTURE OPERATIONS MERGERS & ACQUISITIONS

100 | Avoiding Integrity Land Mines 111 | The Process Audit 124 | Human Due Diligence Ben W. Heineman, Jr. Michael Hammer David Harding and Ted Rouse How does a large multinational keep Few executives question the idea that by Most companies do a thorough job of fi- thousands of employees, operating in redesigning business processes – work nancial due diligence when they acquire hundreds of countries, honest in a high- that runs from end to end across an enter- other companies. But all too often, deal pressure business environment? As the prise – they can achieve extraordinary im- makers simply ignore or underestimate chief legal officer at General Electric for provements in cost, quality, speed, prof- the significance of people issues in merg- nearly 20 years, Ben Heineman was part itability, and other key areas. Yet in spite of ers and acquisitions. The consequences of the senior management group that their intentions and investments, many are severe. Most obviously, there’s a high sought to do just that – to make sure its executives flounder, unsure about what degree of talent loss after a deal’s an- executives and employees are moved to exactly needs to be changed, by how nouncement. To make matters worse, do the right thing as strongly as they are much, and when. As a result, many orga- differences in decision-making styles lead motivated to make their numbers. nizations make little progress – if any at to infighting; integration stalls; and pro- Heineman describes a set of systems all – in their attempts to transform busi- ductivity declines. that combine the communication of clear ness processes. The good news is that human due dili- expectations with oversight, deterrence, Michael Hammer has spent the past gence can help companies avoid these and incentives. Nowhere are the expecta- five years working with a group of leading problems. Done early enough, it helps actions higher – and the sanctions more pow- companies to develop the Process and quirers decide whether to embrace or kill erful – than for top executives. Heineman Enterprise Maturity Model (PEMM), a new a deal and determine the price they are recounts example after example of senior framework that helps executives compre- willing to pay. It also lays the groundwork leaders terminated for ethical lapses even hend, formulate, and assess process- for smooth integration. When acquirers when the business consequences of based transformation efforts. He has iden- have done their homework, they can un- doing so were painful – and even when tified two distinct groups of characteristics cover capability gaps, points of friction, they had no direct knowledge of the viola- that are needed for business processes to and differences in decision making. Even tions occurring on their watch. perform exceptionally well over a long pe- more important, they can make the critical To make expectations clear throughout riod of time. Process enablers, which af- “people” decisions – who stays, who the company, GE has systematically fect individual processes, determine how goes, who runs the combined business, sought to set uniform standards that stay well a process is able to function. They are what to do with the rank and file – at the well ahead of current legal developments mutually interdependent – if any are miss- time the deal is announced or shortly and stakeholders’ changing attitudes ing, the others will be ineffective. How- thereafter. Making such decisions within about corporate accountability. Responsi- ever, enablers are not enough to develop the first 30 days is critical to the success bility for implementing those standards, high-performance processes; they only of a deal. Hostile situations clearly make which are embedded in GE’s operating provide the potential to deliver high perfor- things more difficult, but companies can practices, rests with the business leaders mance. A company must also possess or and must still do a certain amount of in the field. establish organizational capabilities that human due diligence to reduce the inevi- Oversight is both methodical and multi- allow the business to offer a supportive table fallout from the acquisition process faceted. A host of auditing and assess- environment. Together, the enablers and and smooth the integration. ment systems enables GE to compare the the capabilities provide an effective way This article details the steps involved in performance of its various business units for companies to plan and evaluate pro- conducting human due diligence. The ap- against one another and against industry cess-based transformations. proach is structured around answering five benchmarks. Perhaps the most powerful PEMM is different from other frame- basic questions: Who is the cultural ac- is the company’s ombudsman system, works, such as Capability Maturity Model quirer? What kind of organization do you requires which doesn’t just allow but Integration (CMMI), because it applies to want? Will the two cultures mesh? Who employees to lodge concerns. Failures to all industries and all processes. The au- are the people you most want to retain? report into the system or up the line, or thor describes how several companies – And how will rank-and-file employees retaliation in any form, are firing offenses. including Michelin, CSAA, Tetra Pak, Shell, react to the deal? Unless an acquiring The current intense focus on board- Clorox, and Schneider National – have suc- company has answered these questions level governance has missed the point, cessfully used PEMM in various ways to its satisfaction, the acquisition it is mak- Heineman argues. It is time to shift the and at different stages to evaluate the ing will be very likely to end badly. debate from board oversight of the CEO to progress of their process-based transfor- Reprint R0704J how top company leaders can most effec- mation efforts. tively infuse integrity at all levels of the Reprint R0704H corporation. Reprint R0704G

142 Harvard Business Review | April 2007 | hbr.org Reprints and Subscriptions

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hbr.org | April 2007 | Harvard Business Review 143 PANEL DISCUSSION | by Don Moyer

PTIMIZING, THE ART OF FINDING the best choice among all choices, is a luxury Satisficing we can seldom afford. Instead, we settle for the first adequate solution we can find, whether it involve deciding where to have lunch, hiring staff, or defining a Ocareer. Nobel laureate Herbert Simon coined the term “satisficing” to describe decision making that takes the short cut of defining a set of aspirations and then settling on some (usually the first) alternative that meets the minimum requirements. It is a prag- matic and often necessary approach: In situations in which there are many choices or when choices are presented one by one, optimizing can be a hopeless quest. Given our tendency to satisfice, we’re unlikely to end up with anything much better than what we’re willing to accept. So business leaders must set the bar high. As Peter Drucker, making a similar argument, pointed out in “The Effective Decision” (HBR January– February 1967), “The effective executive has to start out with what is ‘right’ rather than what is acceptable precisely because a compromise is always necessary in the end.” Don Moyer can be reached at [email protected].

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