Reinventing Management

Smarter Choices for Getting Work Done, Revised and Updated Edition

Julian Birkinshaw

• Publisher: Jossey-Bass
• Year: 2012
• ISBN:
  9781118389676
• Edition: 1
• Topic: Business
• Subtopic: Management
• Index: Business

The economic crisis was not just caused by a failure of regulation or economic policy; it was a story of the failure of management in a fundamental sense—a deeply flawed approach to management that encouraged bankers to pursue opportunities without regard for their long-term consequences, and to put their own interests ahead of those of their employers and their shareholders.

The revised edition of this best-selling book shows convincingly that many of today's major economic problems in the west can be traced to a failure of management. In this updated edition the author draws our attention to new examples of failed management, from Rupert Murdoch's News Corp, and the disaster at BP, to the ongoing problems in financial services companies such as UBS and RBS. Throughout the book the references and statistics have been updated, to make this a current, highly relevant analysis of the problems besetting modern business and how managers need to tackle them.

1

WHY MANAGEMENT FAILED

Here is a simple thought experiment. About forty years from now you receive a text message from your grand-daughter. She has been given an assignment at school: what were the causes of the Great Recession of 2007-13? “You were working during that era,” she says, “Can you tell me the answer?”

Of course, we have all developed our own views about how the current economic crisis came about, and we are inevitably drawn to the proximate causes, such as excessive borrowing, low interest rates, and a lack of financial regulation. But as these events recede into history, our understanding of what happened will evolve. Many of the proximate causes will gradually be downplayed. And other less-obvious and less-proximate causes will become more apparent.

What are these less-obvious and underlying causes? Well, only time will tell. But I believe part of the answer is that we have focused too much on the “policy” side of the story up to now—on the decisions made by central bankers, government officials and regulators. Of course their decisions are important, but these players can only do so much. They set the rules, they operate a few vital levers of control, and they have the right to penalize those who break the rules.

But in a capitalist economic system, I believe firms are the real agents of change. They are the producers of the goods and services that drive economic growth. They employ the majority of people. They have the capacity to act decisively, to put money behind big opportunities, to invest in people and new technologies. They also have the capacity to get it wrong on a large scale—by putting resources into poorly-thought out projects, by allowing negligent and irresponsible behavior, and by creating demotivating and uninspiring places to work.

So here is a prediction. Forty years from now, a discussion of the causes of the “Great Recession of 2007-13” will not just talk about low interest rates, excess leverage and lax regulation. It will also include a recognition of the flawed model of management that most large firms were using in the 1990s and 2000s; a model that led to short-term decision making, poor risk-management, and the creation of ill-thought-out incentive systems. The flaws in this model, it will be argued, exacerbated the problems created by policymakers, and contributed significantly to the length and the depth of the recession.

I don’t know if this seems like a surprising argument, but it isn’t hard to make the case that bad management is part of the problem we are facing today. Consider the following examples from the last twelve months.

• Spring 2011: The National Commission report on BP’s oil spill in the gulf put the blame squarely on the shoulders of management. “The Macondo disaster was not, as some have suggested, the result of a coincidental alignment of disparate technical failures. While many technical failures contributed to the blowout, the Chief Counsel’s team traces each of them back to an overarching failure of management.”¹
• Summer 2011: Rupert Murdoch’s News Corp was dragged through the mud following the phone-hacking scandal at the News of the World paper. One group of shareholders sued News Corp for “failing to exercise proper oversight and take sufficient action,” leading to a “piling on of questionable deals, a waste of corporate resources, a starring role in a blockbuster scandal, and a gigantic public relations disaster.”²
• Fall 2011: The beleaguered Swiss bank, UBS, recorded a $2.3b loss from rogue trader, Kweku Adoboli, despite a tightening up of its risk management systems in the post credit-crisis years. According to one observer, “that sort of fraud is only possible at a financial institution with very lax risk oversight. There has to be a huge gap in terms of internal controls.”³
• Winter 2011: The long-awaited report from the UK’s Financial Services Authority (FSA) into the collapse of Royal Bank of Scotland was published on December 12. It concluded there were “underlying deficiencies in RBS management governance and culture which made it prone to make poor decisions.”⁴

Of course, it is trite to say that “management is to blame”. Any problem in a firm is, by definition, the responsibility of the people at the top. But we can go much deeper here in articulating the precise ways in which management failed. We will do this by comparing two recent, high-profile failures: Lehman Brothers and General Motors.

Lehman Brothers

Since 1993, Lehman had been led by Dick Fuld, a legendary figure on Wall Street, and a “textbook example of the command and control CEO.”⁵ Fuld inspired great loyalty in his management team, but his style was aggressive and intimidating. In the words of a former employee, “His style contained the seeds of disaster. It meant that nobody would or could challenge the boss if his judgment erred or if things started to go wrong.”

And things did go wrong. The company made a record $4.2 billion profit in 2007, but it had done so by chasing low-margin, high-risk business without the necessary levels of capital. When the sub-prime crisis hit, Lehman found itself exposed and vulnerable. Fuld explored the possibility of a merger with several deep-pocketed competitors, but he refused to accept the low valuation they were offering him. And on September 15, 2008, the company filed for bankruptcy.

What were the underlying causes of Lehman’s failure? While Dick Fuld’s take-no-prisoners management style certainly didn’t help their cause, we need to dig into the company’s underlying Management Model to understand what happened. Contributory factors included:

Its risk-management was poor. Like most of its competitors, Lehman failed to understand the risk associated with an entire class of mortgage-backed securities. But more importantly, no one felt accountable for the risks they were taking on these products. By falling back on formal rules rather than careful use of personal judgment to take into account the changing situ­ation, Lehman made many bad decisions.

It had perverse incentive systems. Lehman’s employees knew what behaviors would maximize their bonuses. They also knew these very same behaviors would not be in the long-term interests of their shareholders—that’s what made the incentive systems perverse. For example, targets were typically based on revenue income, not profit, and individual effort was often rewarded ahead of teamwork.

There was no long-term unifying vision. Lehman wanted to be “number one in the industry by 2012,” but that wasn’t a vision—it was simply a desired position on the leader board. Lehman did not provide its employees with any intrinsic moti­vation to work hard to achieve that goal, nor any reason to work there instead of going over to the competitors. And that vision was far from unifying—there were ongoing power struggles between the New York and London centers.

Of course Lehman Brothers was not alone in pursuing a failed Management Model. With a few partial exceptions such as Goldman Sachs and JP Morgan, these practices were endemic to the investment banking industry. It was the combination of Lehman’s model, its fragile position as an independent broker-dealer, and its massive exposure to the sub-prime meltdown that led to its ultimate failure.

The key point here is that a more effective Management Model could have made all the difference. Instead, it was almost as if management didn’t matter. An encapsulated definition of what a Management Model is, something we fully explore in the next chapter, is the set of choices we make about how work gets done in an organization. One of the well-kept secrets of the investment banks is that their own management systems are far less sophisticated than those of the companies to which they act as advisors. For example: people are frequently promoted on technical, not managerial, competence; aggressive and intimidating behavior is tolerated; effective teamwork and sharing of ideas is rare.

Nor are these new problems. In 2002 The Economist reviewed the state of the banking industry and called the investment banks “among the worst managed institutions on the planet.”⁶ And back in 1993, following an earlier financial crisis, the CEO of Citicorp, John Reed, wrote himself a memo, documenting all the managerial failings in his company: “I was frustrated by the bureaucracy…I believe that 75% of our management process is unneeded…we need the courage to change our ways.”⁷ The harsh truth is that most investment banks have been poorly managed for decades despite—or because of—the vast profits they have made. The financial crisis of 2008 has finally exposed these problems for all to see.

General Motors

General Motors (GM) is another company with a long and proud history. In the post-war period, GM was the acme of the modern industrial firm, the leading player in the most important industry in the world. But from a market share of 51 percent in 1962, the company began a long slide down to a share of 22 percent in 2008. New competitors from Japan, of course, were the initial cause of GM’s troubles, but despite the fixes tried by successive generations of executives, the decline continued. The financial crisis of 2008 was the final straw: credit dried up, customers stopped buying cars, and GM ran out of cash, filing for bankruptcy in May 2009. After a restructuring, GM returned to the stock market in November 2010.

As is so often the case, the seeds of GM’s failure can be linked directly to its earlier successes. GM rose to its position of leadership thanks to Alfred P. Sloan’s famous management innovation strategy—the multidivisional, professionally managed firm. By creating semi-autonomous divisions with profit responsibility, and by building a professional cadre of executives concerned with long-term planning at the corporate center, Sloan’s GM was able to deliver economies of scale and scope that were unmatched. Indeed, it is no exaggeration to say that GM was the model of a well-managed company in the inter-war period. Two of the best-selling business books of that era—Sloan’s My Years with General Motors and Peter F. Drucker’s Concept of the Corporation—were both essentially case studies of GM’s Management Model, and the ideas they put forward were widely copied.⁸

So where did GM go wrong? The company was the model of bureaucracy with formal rules and procedures, a clear hierarchy, and standardized inputs and outputs. This worked well for years, perhaps too well—GM became dominant, and gradually took control not just of its supply chain but of its customers as well. We can be sure that economist John Kenneth Galbraith had GM in mind when he made the following statement in his influential treatise, “The New Industrial State,” in 1967:

“The initiative in deciding what is to be produced comes not from the sovereign consumer who, through the market, issues the instructions that bend the productive mechanism to his ultimate will. Rather it comes from the great producing organization which reaches forward to control the markets that it is presumed to serve.⁹”

This model worked fine in an industry dominated by the Big Three. But the 1973 oil-price shock, the arrival of Japan­ese competitors, and the rediscovery of consumer sovereignty changed all that. At that point, all GM’s strengths as a formal, procedure-driven hierarchy turned into liabilities—it was too slow in developing new models, its designs were too conservative, and its cost base was too high. A famous memo written by former Vice Chairman Elmer Johnson in 1988 summarized the problem very clearly:

“…our most serious problem pertains to organization and culture… Thus our hope for broad change lies in radically altering the culture of the top 500 people, in part by changing the membership of this group and in part by changing the policies, pro­cesses, and frameworks that reinforce the current mind-set…The meetings of our many committees and policy groups have become little more than time-consuming formalities… Our culture discourages open, frank debate among GM executives in the pursuit of problem resolution… Most of the top 500 executives in GM have typically changed jobs every two years or so, without regard to long...

Table of contents

• Cover
• Endorsements
• Title page
• Copyright page
• Dedication
• Preface
• Acknowledgements
• About the Author
• 1 WHY MANAGEMENT FAILED
• 2 WHAT’S YOUR MANAGEMENT MODEL?
• 3 COORDINATING ACTIVITIES: FROM BUREAUCRACY TO EMERGENCE
• 4 MAKING AND COMMUNICATING DECISIONS: FROM HIERARCHY TO COLLECTIVE WISDOM
• 5 SETTING OBJECTIVES: FROM ALIGNMENT TO OBLIQUITY
• 6 MOTIVATING EMPLOYEES: FROM EXTRINSIC TO INTRINSIC MOTIVATION
• 7 FOUR MODELS OF MANAGEMENT
• 8 THE CHANGE AGENT’S AGENDA
• 9 THE LEADER’S AGENDA
• EPILOGUE: BROADENING THE DEBATE ON REINVENTING MANAGEMENT
• Index