Category: Business Environment


The King is Dead! Long Live the King!

April 1st, 2009 — 9:51am

Night before last, I was watching AC 360, the Anderson Cooper news show on CNN. Anderson asked David Gergen, the former advisor to four presidents and current member of CNN’s team of political analysts, and two others, about the summary dismissal of Rick Wagoner. Mr. Gergen was generally supportive of the government’s position, but was critical of the fact that the government had forced Mr. Wagoner out, given that he had made progress in transforming GM.

Well, readers of this blog probably anticipate my reaction well: Firing Mr. Wagoner was not only necessary, but essential. So, let me take on the David Gergen’s argument. Imagine, for a moment, that a President of the US (whom I’ll henceforth refer to by the customary acronym POTUS) was at the end of an eight year tenure and he (think of Mr. Obama for now) had not been able to turn around the economy. Would you call him a failure? Sure you would!

Mr. Wagoner has been CEO for 8 years; prior to that he was GM’s CFO, President of North American Operations, and COO. A comparable track record in US national politics would have been Secretary of Treasury, (a hands on) Vice President and then POTUS. In effect, Mr. Wagoner had many more then 8 years to fix GM. Under the circumstances, the fact that he might have “made progress,” is simply not good enough! He has not delivered on the most important issues – GM’s culture, organization and strategy – and indeed, according to published reports chose to bypass these fearing that they would keep him from improving GM’s cost structure.

One of the other guests on the CNN program, an economist who supported the firing, pointed out that GM and Chrysler are so large that they account for almost 2% of America’s GDP. Consider this data point from a different perspective. We want our POTUS to turn around 100% of the GDP (while battling non-economic problems like wars, natural disasters,) and — by recent public criticism — do it in his first 100 days. Yet, we are OK with a very highly paid executive not being able to turn around a company in eight years that is only about 1% of the GDP?

Focusing an 8+ year role at the top on labor costs is leadership? Not in my books. Labor accounts for only about 8% of the cost of a car and on a global basis, as economist and journalist Ben Stein has pointed, even this cost is not wildly uncompetitive. But wait, he hired Bob “Mary Antoinette’s Soulmate” Lutz as Vice Chairman for Product Development and they turned out a few good cars, did they not? A few cars among how many? And what did GM do on core new technology? Oh yes, it caterwauled about unreachable mileage standards. Surely they were producing cars for Europe, where generally the laws are tougher and an End of Vehicle Life law already exists demanding near total recyclability?

No, the issues Mr. Wagoner chose to bypass – GM’s culture, organization and strategy – are the ones which could have saved the company. Had he broken down the Not Invented Here silos that existed within geographic and brand specific fiefdoms, he would have transferred innovations faster. Heck Saturn’s “no haggling” policy could have transformed the industry, instead of remaining a niche strategy. But that would have meant engaging with GM’s vast network of dealers in a new way. Think this does not matter? Then consider this: a couple of months back Hyundai came up with a brilliant idea to stimulate sales by addressing the fear consumers have about the economy. About the same time, I articulated a similar strategy in a radio interview I did that aired in the Boston market. How long did it take GM to do something similar? Until earlier this week!

The King is dead. I hope the new King – or kings, as I have argued earlier – come from middle ranks or better yet, from outside the industry. Ford’s Alan Mulally, after all, has been making faster progress and has so far, not had to reach for the begging bowl.

Comment » | Business Environment, Company Performance, Corporate Culture, Financial crisis, Leadership, Organizational structure, Politics

The Lessons of Camelot

March 19th, 2009 — 3:43pm

I have been trying desperately hard to stay away from politics. But the global financial crisis has made this impossible: virtually every business issue is singed, if not actually charred, by the blaze of the crisis. So, with the deepest of regrets …

Imagine President Obama, announcing at his press conference today that the US Special Forces had arrested Osama Bin Ladin. I would bet good money that the first question he’d get would be, “That’s great, but what about the AIG bonuses? Haven’t Americans been duped enough?”

Near the end Alan Jay Lerner’s musical Camelot, Guinevere and Lancelot offer to surrender and return to England to face justice. Arthur spurns them; his people no longer wanted justice, he says, they wanted revenge. Right now, the American people want revenge. They don’t want to be told about the contractual law, they want someone on Wall Street to feel real pain, just as they are feeling it. Bernie Madoff would have been a great fall guy, but he refused the part written so perfectly for him and pled guilty quickly. The people at AIG Financial Products Division, seen to be holding the country to ransom and getting away with it, have therefore become the focal point of public rage. They are making GM’s now departing Vice Chairman Robert Lutz (see my post “Marie Antoinette’s Soulmate”) look like a paragon of virtue. Which is why no one rebuked Republican Senator Grassley for calling on them to commit hara-kiri.

If President Obama does not display absolute, visceral rage – merely feeling angry won’t count – he seriously risks losing the people. Don’t believe me? Remember the effect on Michael Dukakis’s presidential campaign of his calm response to the question about what he would do if his wife and daughters were raped and murdered? His calmness, combined with his opponent’s blatantly racist campaign, doomed him. Today, similar conditions are present and the stakes are higher.

If Mr. Obama loses the people, the economy will slide into depression. This crisis in our networked world, as I have argued in earlier posts, was aggravated by a failure to manage as if the network matters. Ergo, resolving it will require tackling the ailings of the entire network, not just one of its nodes. Mr. Obama’s multi-sector bailouts and his plan to totally restructure multiple key sectors is exactly what is needed. But if the American people focus on only one node (AIG) of the network, he has no chance of succeeding. The good news is that as a master politician, he publicly repudiated Mr. Geithner’s position that the bonuses are a fait accompli. Now, he should take this repudiation to the next level and get some Hollywood types to teach him how to act furious on camera.

Substantively, Mr. Obama should outsource the work the AIG group does. These people are smart, but unlike Albert Einstein, they are not unique: The very products they used to peddle required them to work with equally smart people in other institutions. They are not unique! So, it is possible to fire them and simultaneously (this is key) introduce an outsourcing firm to take their place. The replacement firm could be one of the companies that participated in this market, but which currently have no (or minimal) such open contracts. If on top of this, the outsource firm were from a lower cost economy, so much the better: Wall Street can’t complain of being subject to the “market discipline” that they urge on others – and the American people would love the irony. (Incidentally, Wall Street already outsources a lot of work to India, albeit very quietly.)

Additionally, Mr. Obama should publicly and forcefully ask the organizations that provide the credentials job – CFAs, CPAs, NASD Series 7, JD, etc. – essential for a Wall Street to decertify (under morality clauses) those at AIG who brought disrepute to their profession. He should explain to Americans that this will deprive these people of their livelihoods in the world of high finance. Not quite Bernie Madoff’s fate, but definitely the equivalent of banishing Mordred from Camelot. Of course, if these people not only repaid this year’s bonus, but also contributed their entire last year’s bonus to charities that are working to help those who lost their jobs and homes, they might, just might, be able to retain their credentials.

I often tell executives that instead of battling a culture, they should focus on skillfully using the elements of the culture that can help them achieve their key goals. That’s what Mr. Obama must do now. In the final analysis, Arthur lost Camelot, as my teenager astutely told me the other day, because his knights saw peace as boring. He could not hold on to their passions and lost their support.

Mr. Obama must take steps that the Puritans of New England, the gun slingers of the Wild West, the Rhett Butlers and Scarlett O’Haras of the South and the flower people (yes, there are still many of them) of the two coasts appreciate. Stated differently, he must apply the lessons of why Camelot failed. Only then will he be able to fulfill his dream of taking the country back to Camelot for a sustained period of time.

Comment » | Business Environment, Financial crisis, Leadership, Politics

“I Wonder What the Ostrich Sees …”

March 13th, 2009 — 3:45pm

“… when he pulls his head from the sand? Probably a transport barreling towards him on the highway that was built while he wasn’t paying attention.” The Internet tells me that Stephanie Martin-Smith crafted this brilliant observation about the last US elections. It is an equally brilliant descriptor of Fortune magazine’s latest “The World’s Most Admired Companies.” Here’s why: 9 of the top 10, 19 of the top 20, 28 of the top 30 and 41 of the top 50 companies are … American!

I actually think very highly of many of the American companies on the list. I currently work with two of the top ten, and help (or have recently helped) several other companies – which rank high on the industry specific lists. I used to work for American Express and in my book, have praised Hewlett-Packard. But in the eighth year of the 21st century, to think that America has a monopoly on good management is short-sighted, if not ridiculous.

All such surveys have methodological biases. So I checked that out. Fortune essentially started with a list of 1000 large US companies and 400 large non-US companies. A bias no doubt, but minor. Then it asked “executives, directors, and analysts to rate companies in their own industry on nine criteria, from investment value to social responsibility.” This became the basis of the industry specific rankings. Finally, to create the list of the 50 most admired, it asked “4,047 executives, directors, and securities analysts who had responded to the industry surveys … Anyone could vote for any company in any industry.” Here’s one major possible source of bias: who ranked these companies? I could not find any description of their nationalities or domiciles or global experiences.

There are several reasons why this matters, but I’ll stick to the most important: Such biases give us a false sense of security about the quality of our businesses. While I think highly of many of the companies on the list, others simply don’t belong there. When one of them gets wiped out, the deliverer of the blow will be a foreign company whose position it had usurped. The wipe out will be a big surprise to many people because the judges, the editors and the companies themselves were not paying real attention to the lessons of Friedman’s Flat World or Zakaria’s Post American World. Think I’m exaggerating? Remember what Toyota and Datsun did to the US auto industry in the 1980s?

Convince yourself if you don’t believe me. If you are a world traveler and have stayed in top tier (highly profitable, innovative, socially responsible, high quality … use Fortune’s nine criteria) hotels, make your own list of the top five chains. If you fly around the world a lot, try ranking airlines. If you know much about the IT industry, do the same. You’ll end up with several European, or Asian companies (I confess I don’t know much about African or South American ones) that do not appear on Fortune’s lists. Your analysis won’t be statistically rigorous, but it will probably give you greater insights than Fortune’s will.

Comment » | Business Environment, Company Performance

Oh What a Tangled Web do Politics Weave …

February 28th, 2009 — 2:55pm

A few days ago, I read a newspaper article on Secretary Clinton’s Asian trip. In China, she urged the Chinese to buy American debt, arguing that if they did not, China itself would be badly hurt: The recession-bound US economy would not be able to absorb Chinese exports. I found Ms. Clinton’s argument refreshing from one perspective: she eschewed the typical diplomatic mumbo-jumbo, admitting the US was in deep trouble. How the Chinese will react is an open question, particularly given President Obama’s budget. They may see merit in Secretary Clinton’s logic or may consider it as an invitation to throw good money after bad.

If American debt is a good investment, so are real estate and companies. National Public Radio recently ran two stories about organized groups of ordinary, albeit wealthy, Chinese who are visiting the US to buy real estate. So, that raises the question: how will the broader American political establishment react? For long, instinctive xenophobia has greeted investments from outside Western Europe. In the 1980s, the Japanese were demonized. More recently, the Chinese and Arabs were. Even Indians – who, like the Japanese, don’t pose obvious political problems for America – are attacked; a trivial example: The Taj Group’s purchase of Boston’s Ritz Carleton Hotel produced in the Boston media opinions that made me cringe. Never mind that Taj’s CEO is an American and its luxury hotels are among the best in the world!

Every economy should protect itself from harm. At the Darden School, I silenced Ayn Rand capitalists in a managerial economics class by pointing out that objective data showed that semi-open countries with mixed economies outperformed the US. Shouldn’t the US follow suit? Indeed, today, the semi-open, mixed Indian economy has (so far) escaped the worst ravages of this recession. So my concern is not with anyone questioning the worth of a foreign investment. I just want such questioning should to be based on objective criteria, not irrationality. Today, all of us should take on to ourselves the responsibility of injecting such objectivity into discussions we participate in.

The biggest challenge to our doing so is that we just don’t know enough about how the rest of the world thinks. Fareed Zakaria’s book, The Post-American World, (which I mentioned in my first post) can help. Mr. Zakaria brilliantly describes why America no longer dominates a unipolar world. While it still leads on virtually every important metric economic, technical and social metric, the rest of the world has risen. So, today world has other poles anchored on China, EU, India, Japan, Korea, Brazil and Russia. Americans should embrace and celebrate this, because it creates tremendous opportunities and indeed makes the world safer. This argument is well supported by multi-faceted – economic, political, social, technological and cultural – data and anecdote and is therefore very compelling. Unfortunately, Mr. Zakaria does not go far enough. He needed several more chapters addressing how each of the new “poles” see the important issues of the world. Where can the various poles agree? Where do they differ sharply? What principles, if adopted, could help the poles collectively resolve our huge challenges?

So, if you are a Chinese politician, bureaucrat or business person, what do you think of Secretary Clinton’s challenge? Why? This inquiring mind wants to know.

Comment » | Business Environment, Financial crisis, Politics

Marie Antoinette’s Soul Mate

January 20th, 2009 — 6:41pm

I’m back! I hadn’t meant to be away for five weeks, but life intervened. In my defense, I didn’t notice anyone actually breaking my door down asking about my whereabouts …

I am wondering if you heard the recent Robert Siegel interview of GM Vice Chairman Bob Lutz on NPR’s All Things Considered a few days ago. If not, it is definitely worth listening to (http://www.npr.org/templates/story/story.php?storyId=99253055), for it gives a unique insight into the travails of the US auto industry.

Mr. Lutz showed great restraint; he waxed eloquent about the stupidity of the average consumer, without actually using the word. GM produces great cars, he said, but only a handful of experts really know this. It will take time for the experts’ opinion to filter down to the great unwashed masses and GM had no choice but to wait this out. Asked about the effect of the government bailout on the workings of his company, he said, “I’ve never quite been in this situation before of getting a massive pay cut, no bonus, no longer allowed to stay in decent hotels, no corporate airplane. I have to stand in line at the Northwest counter. I’ve never quite experienced this before. I’ll let you know a year from now what it’s like.”

If anyone has any doubts about why GM is really flirting with bankruptcy, Mr. Lutz comments should have clarified the issue. The Vice Chairman of a company which went with a begging bowl to Congress acted as if he was Marie “Let them eat cake” Antoinette’s soul mate. CEO Rick Wagoner and GM’s Board should have repudiated his statements by publicly firing him, but in my heart of hearts, I knew that my life would long be over before any good sense emanated from those quarters. But hope is what keeps the world spinning, does it not?

So, did Mr. Lutz change my mind about the auto industry bailout? No! If anything, his words are proof that the bailout is needed to preserve the company until more drastic steps can be taken.

An argument – also made by a handful of others – is that without the bailout, the industry’s second and third tier companies will be irreparably weakened. This will harm the broader industry’s stronger companies, for they rely on many of these companies too. Ideologues don’t understand this is the unfortunate logic of networks: As I’ve written elsewhere, it is hard to succeed if your network is failing.

The more important, and thus far unmade, argument is: bankruptcies will not reform these companies. In the best case scenario, they would file for pre-packaged bankruptcies (in which creditors back the financial restructuring plan) without scaring customers (even though buying a consumer durable is a riskier bet than buying a ticket from a bankrupt airline). Who will manage GM through this process? People like Mr. Lutz will represent the companies. Across the table from them will be their creditors. What will the negotiations focus on? The executives will argue they can fix the problems – if everyone else makes large concessions. The creditors – rightfully – will be trying to get back their money as quickly as they can. No one will be focusing on changing the culture that allow people like Mr. Lutz to be top dogs. And without changing culture – encouraging collaboration, being open to others’ ideas, being willing to take considered risk, managing learning every day, etc. – these companies will stumble from one disaster to another. Changing culture takes great effort, committed leadership and time. All three will be in short supply during the negotiations and during the tightly choreographed marches towards tough milestones that will follow.

I hope the Obama administration’s Auto Czar, backed by the bills that Congress must pass (to provide additional funding) by March, will be able to force change. As I wrote in an earlier post, I would like to see appointees to the Boards, an orderly departure of people like Rick Wagoner and Bob Lutz, and a shifting of power to less jaded executives running smaller companies created by splitting up the behemoths. The ideologues will probably not let this happen, but extraordinary times call for extraordinary steps. Nevertheless, I’ll even take smaller steps along the lines I have proposed while hoping for more. Hope, as I said, is what keeps the world spinning, does it not?

Comment » | Business Environment, Company Performance, Corporate Culture, Financial crisis, Leadership, Organizational structure, Politics

“There’ll Be Spring Every Year Without You”

December 5th, 2008 — 5:01pm

At this week’s Senate auto industry hearing, Senator Christopher Dodd noted that a death sentence focuses the mind. It does, but for the US auto industry, it took a humiliating public whipping of its CEOs for this to happen. In my last post, I took Rick Wagoner to task; in The Spider’s Strategy, in a chapter I mostly wrote two years ago, I expressed extreme pessimism about the industry and called Chrysler “the canary in the coalmine.” I can only shake my head in disbelief at Boards of Directors which trust executives who lack basic common sense: You don’t go begging for alms wearing Armani suits and flying corporate jets!

I have had the good fortune to work with several C-level executives, including CEOs and Board members. The common trait across the very best of them: they are astute politicians, who understand how to build coalitions, not just of the like-minded, but of those whose interests are not aligned with theirs. Detroit’s top executives, in contrast, did not see this in political terms. That they publicly displayed such naïveté speaks volumes about their companies’ culture: Imperialistic, with CEOs as monarchs who believe that the world would be truly worse off if they were not around. No wonder they are isolated from the real world!

In contrast, a very successful Chairman of the Board of a global company I’ve worked with had an office with glass walls which was about half the size of typical bedroom. It was located next to the operating area of a key business unit. It is not unusual for the CEO to walk into the company’s break room to pick up his own coffee. He had lunch with small groups of new hires. When I reported that a long-time employee had asked when old timers would be similarly invited, he immediately asked his secretary rectify his error; he invited his critic and a few other long-timers whom the critic thought he should know. If this CEO ever had to go to Capitol Hill and ask for help (I doubt he’d ever have to), he would not make the errors the Detroit CEOs did. Oh, by the way, this gentleman is probably as rich as, if not more than, them.

In Lerner & Leow’s My Fair Lady, Eliza Dolittle sings to Professor Henry Higgins, “There’ll be spring every year without you/England still will be here without you/ …/And without much ado/We can all muddle through/Without you.” Perhaps Mr. Wagoner, Mr. Nardelli and Mr. Mulally should play this snippet of the movie a couple of times a day on computer/video screens in their offices. It might induce them to leave the rarefied atmosphere of their sanctums and visit the real world more often. Who knows, that might cause them to rebuild their companies with policies more suited for a networked world and so create cars people want to buy. Ironically, of course, there may not be much of a spring for the American economy if these companies are not saved, despite their incompetence.

In the next post – which I promise will be soon – I’ll comment on the substance of the plans and the hearings.

Comment » | Business Environment, Corporate Culture, Financial crisis, Leadership

What’s $700 Billion Among Friends? – Part 2 of 2

September 28th, 2008 — 5:07pm

Like the last one, this lengthy (sorry!) post is also written jointly with Sanghamitra Dutt.

Even if the Administration got a $700 billion blank check, no one could guarantee a resolution of today’s crisis. Network effects can still bring down others. For example, so far GM has only wanted a few measly billion dollars of a separate bailout to make investments that it has ignored for decades. If the financial crisis hits GMAC (see the last post), that amount will quickly become a few measly tens of billions. Add a few more incidents and we’ll be in “We don’t remember ever saying $700 billion would be enough” territory.

The question we should discuss in depth is whether a successful resolution of this crisis will automatically forestall another similar one. Not by a long shot! Irrational exuberance is not rare (think of the 17th century “tulip mania” and the tech bubble a decade ago). Indeed, given our networked world, new crises will emerge much more often and with devastating effect unless we strengthen the role of our financial regulators by explicitly making them responsible for managing negative network effects.

Had the House Republicans objected to the bailout because of the lack of such regulatory measures, I would have sympathized with their position. (Strengthening these as a part of the conditions attached to the bailout bill would have been easier than trying to get these adopted once the crisis fades from public view.) Instead, their finding religion after facilitating the dismantling of existing regulations (see, “S.E.C. Concedes Oversight Flaws Fueled Collapse” in The New York Times, 27th September), is nothing but a cynical election ploy.

Simply restoring the status quo will not help; the problem with how our financial networks operate is that individual players have very little visibility across it expanse. So no one sees problems arising early enough and even innocent bystanders get dragged down. To correct this situation, Congress should authorize/enable five critical steps, which are based on my “Design Principles” for networked organizations:

1. Unify the structural relationships among the myriad of regulators. Some time back, recognizing that the lack of cooperation among intelligence agencies was problematical, Congress unified the intelligence agencies under one national office. Though the execution was flawed, the idea was sound. We need a similar step now. If one financial regulator has weaker standards than the others, in a networked world, all financial institutions will still be exposed. I am not recommending centralization of all regulators; I am arguing in favor of legally mandating a coordinating structure that can drive the next four steps.

2. Require regulators to create processes to identify possible emerging crises and empower them to mandate proactive corrective action. In a networked world, seemingly local events traverse great distances rapidly and strike with devastating power. No one pays them attention initially, and even when some get affected, others consider themselves safe. Chairman Bernanke identified (“sensed”) this crisis a year ago; earlier this year, their was much wider awareness of the sub-prime crisis, but most people did not expect AIG to go bankrupt. Today GMAC and others are still at risk.

Assembling coherent corrective actions (“respond”) to head off a growing crisis is even harder. No individual company can do so; collectively many can, but few CEOs would be gutsy enough to expose their own companies if they did not have to. JP Morgan Chase bailed out Bear Sterns only because the Treasury protected it against losses. It is anyone’s guess whether its acquisition of WaMu without similar government protection will help or hurt it.

Moreover, and this is critical, in a networked world, responding to a specific effect of a crisis does little to stop it. That is why the rescue of Bear Stearns, Freddie Mac, Fannie Mae and AIG did not calm the markets. WaMu got liquidated calmly, but now Wachovia looks like the next domino. Stopping the entire crisis cold requires enormous power. That is the real value of the $700 billion. It is large enough to send a strong signal that the government is ready to tackle not AIG or Freddie Mac or Fannie Mae, but the whole enchilada.

To prevent future crises, we need regulators armed with strong sense-and-respond capabilities. Which is why in the last post, I took Secretary Paulson and Chairman Bernanke to task; they sensed (how?), but did not respond (why not?). The how must be analyzed and turned into a robust, replicable process not dependent on the Chairman’s brilliance; that process should be used by all regulators. The why not may have embedded in it serious policy and legislative implications, which must be addressed. For example, if the regulators had no authority to order AIG or Freddie Mac or Fannie Mae from acting in ways that put everyone at risk, they should be given such authority. Note also that the other “safety net” built into the system – the rating agencies like A.M. Best, S&P and Moody’s – also missed the emerging crisis. Were they all asleep at the switch, or were there fundamental underlying issues to which no one paid attention?

3. Require the Treasury and the Fed to immediately begin negotiations with major foreign regulators to create a consistent set of ground rules. The media has reported that European governments are demanding cooperation from the US and the Fed is responding. (E.g., it helped the European Central Bank and others, contributing to a $60 billion liquidity injection to ease the tightness in the LIBOR market.) The real question is: what should the Treasury and the Fed do proactively for the future? America’s financial networks don’t end at its borders. So, it will be difficult to sense the next emerging crisis without the collaboration of foreign regulators. Recent media reports have indicated foreign regulators, even from other G7 nations, grate their teeth at the patronizing behavior of senior US officials. Without a sea change in attitude among US officials, we will continue to be at risk. We must negotiate with them rules and regulations that are consistent across national boundaries. We have to ensure that robust, replicable processes are adopted by everyone. And we have to ensure that knowledge of impending crises are passed on to other regulators quickly. When UBS earns a huge chunk of its revenues and profits in the US, it is no longer a European bank. When Bank of America earns a huge chunk of its revenues and profits outside the US, it is no longer an American bank.

4. Create new analytical tools to better predict effects of market events. National Public Radio reported on the 27th that when he was a professor at Princeton, Chairman Bernanke, co-developed a computer simulation (“Financial Accelerator”) with the type of analytical capabilities mentioned in the last post. If Princeton has this, I sure hope the Fed and the Treasury do too. And yes, let’s share this knowledge with foreign regulators – or adopt their tools if they have better ones. Equally importantly, we need to authorize the regulators to mandate the adoption of such tools by every major financial institution. We have to get past the “one lender – one borrower/one lender – one sector of borrowers” mindset criticized in the last post. I am mindful of the fact that in the post “Beware the Model All Logic,” I cautioned against blind reliance on models; nevertheless, not using essential decision-making tools is equally bad.

5. Use modern information technology to cross link approval structures. As our financial institutions are becoming larger, lending silos make approval decisions about risks in their market niches without talking to each other. Consequently, it is not unheard of for different arms of an institution to offer the same creditor different types of debt with inconsistent legal rights and responsibilities. As such the institutions are losing the ability to see and understand their total exposure across their networks. When crises loom, they can’t tell how they could be affected. (This is a manifestation of a problem that affects all networks: distribution of work across time and space compromises visibility.) This confusion is mirrored externally by the existence of a myriad of (albeit defanged) regulatory bodies with overlapping jurisdictions.

To assure better visibility and to facilitate analysis of complex decisions, we must use modern technologies more effectively. For example, technology can flag problems that could arise from inconsistencies far more quickly and more thoroughly than a human can. Being forewarned, decision-makers can now act – or be held accountable for not doing so. Regulators should be empowered to demand the implementation of modern IT both within their own bailiwicks and also to transfer critical information on a timely basis to regulators. The regulators should be able to use the information to question executives about actions that could threaten the network – and force them to cease-and-desist.

Implementing this guideline will raise all sorts of difficult policy questions about protecting proprietary information, the governance responsibilities of Boards and the like. But that is the fundamental conundrum we are not wrestling with today: modern technologies have created the networked world. We have embraced the networks with both arms because of the benefits they offer, but we have not re-thought how our laws, strategies, processes, values, analytical tools and yes, even technologies, must be updated to function within them.

There’s no question that many executives involved in the present crisis were rapacious and deserve to be penalized. There is also no question that many policy setters are ideologues who would like to do nothing better than demonize each other rather than solve problems. But unless we actually reform the underlying mindset, processes, tools and technology, we – and other major economies –will be doomed to shelling out trillions of dollars of pocket change ever so often.

Comment » | Business Environment, Business Tools, Company Performance

Looking for Risk in All the Wrong Places! Part 1 of 2

September 23rd, 2008 — 1:21pm

I was trying to avoid writing about the financial crisis since it is hard to say anything substantive briefly and in order to stay away from politics. However, since my book’s subtitle refers to averting crises, I cannot. So, here is the first of two posts. This one expresses three ideas: (1) We need a mindset change from a bilateral to a multilateral (or networked) perspective in business. (2) Unless work practices change, such crises will recur. (3) The (regulatory) culture must change, for it affects perceptions of risk.

20+ years ago, I was a junior banker at an American owned international bank. Today, I understand finance from a strategist’s perceptive, but am not an expert. So, my wife and business partner, Sanghamitra Dutt, has co-authored these posts. Before we co-founded Ishan Advisors, she was a Managing Director at a “money center commercial bank.” In the 1990s, the US Office of the Controller of the Currency recommended that other major banks adopt the information and analysis packages she had designed for use by her bank’s top managers and Board.

Let’s understand that financial innovation did not cause this crisis. Financial innovation has been with us ever since Europeans reshaped the world centuries ago by creating the first stock market. Nor is the complexity of innovations the problem. As an MBA, I had considered doing a Ph.D. in Finance and had learned risk analysis at levels beyond those taught to my peers. So, when my bank entered the new commodities lending business, I got tasked to understand the credit issues – and these to teach others, including my bosses. That fact did not depress our stock price or sink the markets! Blaming innovation for the crisis is akin to blaming Edison for destroying the livelihoods of candlestick manufacturers.

Now consider a simplified description of how financial institutions assess risk. Let’s say Bank A asks an analyst to evaluate whether AIG is a good credit risk. She would study its financials (including confidential information) and pass a judgment. However, unless Lehman Brothers was also A’s client, no one would analyze its financial statements in depth. If both were clients, any direct interactions between them would be looked at, but no one would necessarily evaluate how a failure of a partner of a Lehman client could affect AIG. To address such broad issues, an analyst would be asked, “Given our capital structure, should we be comfortable with our exposure to all financial institutions in this particular sector?” He would perform “what if analyses” (or “stress tests”) and posit an opinion. A group of senior executives would debate these analyses and reach consensus on policy, keeping in mind the revenues A was earning (no risk, no reward). A’s board might provide oversight over this decision (by mandating “portfolio limits”) but would not delve into details. It could not; look at a few annual reports to see for yourself how many Board members of financial institutions actually have deep financial expertise.

If you asked any executive involved, “Can you precisely describe a situation that could cause every financial institution in the market to implode over a matter of a week?” they would probably answer “No.” The idea would seem irrational, given this type of analysis and decision making. Scientists have established that humans are notoriously bad at estimating, understanding and acting on probabilistic information.

The root cause of the crisis, then, is the limited ability of financial institutions to estimate risk that arises from sources beyond their immediate trading partners. In the past, they operated as relatively isolated organizations linked loosely to each other by specific transactions. Today, they form a global network that is constantly managing flows of monies; here, any institution’s failings can affect every other institution it touches.

Yet, they lack the management mechanisms essential for this changed world. Their standard risk approval mechanisms, anchored on an “one lender, one borrower” and “one lender, one sector of borrowers” mindset, are outdated. Their standard tools of risk analysis focus on individual institutions or sectors and cannot reveal risks buried in the network. The data they have available to do any analysis is weak: these are usually, but not always, available in the US and less so in Europe; they are usually unavailable or unreliable for institutions from the rest of the world. So, without being the demons they are being made out to be, financial managers have for long been on the edge of today’s crisis.

The loosening of regulatory requirements, particularly under the present administration, exacerbated this weakness by encouraging a culture tolerant of imprudent risk. We can recall saying “There goes the neighborhood” when investment banks abandoned the partnership model and became common stock companies. When their partners’ personal wealth was at risk, they were more cautious. Even when risks were apparent, important people looked away. Consider The New York Times report (“A Professor and a Banker Bury Old Dogma on Markets” September 21) that Secretary Paulson praised Chairman Bernanke for identifying the possibility of today’s crisis a year ago. He meant to praise Chairman Bernanke’s brilliance; we were outraged. Messers Paulson and Bernanke, what did you do over the last year to head off the crisis before it occurred? If you did nothing, why not? If you did act behind the scenes, what caused you to fail? Congress should ask these two gentlemen these questions before giving them a blank check.

Keep in mind that the paucity of financial information about ‘Rest of the World’ institutions suggests the possibility of a widening crisis. Think of this not as the falling of “another” shoe, but in terms of a well shod millipede! Foreign banks with exposure to Lehman could be grossly weakened by its bankruptcy. Their weakness could precipitously weaken other US banks that are (thus far) healthy. Some European banks have already lobbied for their share of the $700 billion and in principle, Secretary Paulson has already acquiesced to their request.

Moreover, what about the “non-bank banks” in the US economy? GE and GM get more than 50% of their profits from their financial arms. GE might be financially sound, but will the meltdown be the straw that breaks GM’s back? Trickle down network effects can reach pension funds, state and local governments and the like.

Networks at their best, are wonderful. Networks that are not managed appropriately are deadly. Nokia and Ericsson tried to teach us these lessons. Too bad we haven’t learned them yet.

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Membership has its privileges (and should be privileged) Part 2 of 2

September 7th, 2008 — 8:43pm

Visa’s failure to honor its promises on the Upside program (See the post “Visa – We Aren’t Even Where We Promise to Be.”) left us desperate. S was borrowing cash from her cousins to pay her bills (many youth hostels only accept cash, and the types of eateries they were patronizing prefer it). And we were losing valuable time on our vacation.

I am an American Express Platinum card member. With little hope, I called them for help, telling them up front that I did not expect them to be able to do so. The customer service staff who heard my tale raised my hopes by saying that she was sure Amex would be able to do something. She connected me to an got “Amex Global Assist” agent – after she had relayed to him accurately my entire tale of woe.

Immediately on taking over the call, the Global Assist agent proposed a solution. Since S was by now in Salzburg, Amex would wire the money to Western Union and S could pick it up at any of its 50 locations there. “Only €250?” the agent asked me, “Are you sure? You can send much more. Mr. Mukherjee,” As he delved deeper into his solution, he realized that Austria did not allow minors to receive money. So he asked me if there was anyone over 18 in Salzburg whom S trusted? If not, he’d craft a different solution. I told him about S’s cousin. No problem, he said, we will send him the money. And then, he set up a 3-way call with S. He wanted to see if he could find a Western Union near her youth hostel that was open at that time of the night (10 pm), so that S could get the money immediately. After getting S on the call, he described the forms Western Union would ask my nephew to fill and the responses my nephew should give. He said that if anything went wrong, S should call Amex immediately (collect, of course) from the Western Union office. He provided a case file number to quote to whichever of his colleagues took the call. Then he told me – casually – that since this was an emergency, Amex would waive all fees. Truly, membership has its privileges.

In my last post, I argued that Visa could not deliver baseline Plan and Execute effectively. Moreover, I noted that it was tarnishing its brand by allowing partners to use it to sell services that Visa/they could not – would not – deliver. A different way about thinking about the second point is: membership in a network should be privileged — it should be restricted to those who are capable of upholding the network’s branding.

In contrast, American Express flawlessly displayed its mastery of the other three critical capabilities of a great networked company: Sense, Respond and Learn. It was ready to Sense the occurrence of a type of event that could happen to any of its members, though it could not anticipate who would be affected, to what degree, when, where, why or how. Once it sensed an individual occurrence, it immediately Responded with a semi-custom solution. No one told the Global Assist agent what to do; Amex’s culture, processes, technology and yes, network, enabled him to find a solution for my specific problem, even though it had nothing to do with Amex. And then, the very next day, Amex contacted me to get my views on how well it had met my needs. Undoubtedly, someone will analyze its handling of this event to see what Amex could Learn from it for the future.

My wife and I resolved to talk about Amex’s performance to our network of friends and business partners. I have already urged several people to upgrade to a Platinum if invited to do so by Amex; the $400 annual fee is worth it. And yes, while we cannot stop using Visa cards because of its wide acceptance, we can – and will – use our Amex cards whenever we have a choice, and particularly for all large purchases (our MasterCards will get next priority and Visa the last). Given our travel and spending patterns, there’s no question that whatever Amex invested in its Sense and Respond effort to help us, it will earn back – and a lot, lot more – in a handful of months, maybe even weeks or days.

Now if only I could interview the people who designed this capability for my next book …!

If you’ve had experiences similar to the ones described in these two posts, do let me know. I would be really interested in understanding what you learnt from them and how they affected your subsequent behavior.

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Visa – We Aren’t Even Where We Promise to Be, Part 1 of 2

September 7th, 2008 — 8:39pm

This tale of two companies operating in the same networked world fell into my lap when I didn’t want it to do so. To keep it digestible, I will tell it over two posts. Even so, each is long; bear with me, for there are key issues here for today’s companies.

While my wife and I were vacationing in Switzerland and Italy, my daughter (“S”) (17+ years), niece (17+) and nephew (19) were backpacking through Switzerland and Austria. Our paths crossed for only 2 nights, in Wengen. Each teen had a debit card; after searching extensively, we loaded $1,000 of S’s hard earned summer-work money on “The Upside Visa Prepaid Card,” a program “specifically designed for the younger generation and their family (sic)” (www.upside.com/HowDoesItWork.aspx). The website, with its prominent Visa logo, explicitly said, “The card can also be used to withdraw cash at the tens of thousands of ATMs which have the Interlink or Cirrus logos. In a nutshell, it combines the safety of an FDIC-insured bank and the universality of the Visa® network …” The possibility of cash withdrawal is also discussed under FAQ.

In Wengen, S told us that she had not been able to get money at any ATM. We called the customer service number (which promptly charged the account $0.99) and were told that S had the wrong password – even though Visa/Upside had provided it. It took us a couple of days to get a new password, since we did not have with us the information needed for a change. By then, we were in Milan and S was in Innsbruck. She called us; the card was still not working. We paid Visa/Upside $0.99 to talk to an agent named Sami, who told us categorically that the Upside program did not work with ATMs. After a long argument, he personally verified from the website that our complaint was valid. Chastened, he promised to email Visa technical services (relevant fact: everyone involved spoke of “Visa”). In exactly 4 hours, he said, we would hear from a person with more authority than he had about what could be done.

7 or 8 hours later, we called back Visa/Upside ($0.99 again, plus our international calling charges) and after arguing with the agent, got to speak to the call center manager, Taylor. Taylor cried crocodile tears (“Do you think I like hearing about your 17 year old being stranded?”). Yet she continued imply that that we were wrong the Visa/Upside program; it was not designed to work at ATMs. She supposedly could not access Sami’s work files. Visa’s policy only promised customer responses to in 48 hours and so, Sami she said, could keep his own promise of a faster response when he returned for his next shift (in 7 hours). And no, we could not speak to her boss.

Our suggestion of a human-to-human intervention (e.g., authorize a correspondent bank to pay S €250 across a teller counter) just couldn’t be done, “even by Visa’s CEO;” our request for such help simply meant that we did not understand modern financial systems. My wife, who was until a few years ago, a Managing Director of a money center bank, took that one well! I too learnt a new lesson about the powerlessness of a CEO of a global institution; this one had escaped my understanding in all my years of working with top executives. Taylor, however, did authorize a credit for $0.99 to S’s account. Her generosity warmed our hearts.

The baseline performance requirement for any company is Plan and Execute well. Visa/Upside failed to deliver even at this level. It had not given Sami – and what is worse, its call center manager, Taylor – the capabilities to address a genuine problem created by its own inability to execute its website promise (plan). Moreover, 3 weeks after these incidents, Sami’s “4 hours” and Taylor’s “48 hours” have still not elapsed in the time that ordinary mortals experience. And if either did let anyone at Visa/Upside know about the untruth on the website, no one has acted to rectify it.

But in a networked world, the Visa business unit responsible for the Upside program is guilty of an even greater sin: lending its brand to partners who are at best incompetent and at possibly, dishonest. A couple of days ago, I finally noticed the very small print on the website: Upside is offered by a no-name bank under license from Visa. Had we noticed that the first time, we would not have put S’ money in its care, just as we don’t make online purchases at no name websites. A very brief online search effortlessly revealed other instances of failure by other Visa partners offering similar peace-of-mind programs to teens and their parents (“They still haven’t returned my son’s money”).

I wanted to complain to Visa itself, here’s what I found on its website: “If you have a question about your account, please contact the financial institution that issued your Visa card.” In other words, go complain to the people who did you wrong! I am sure that Visa can escape legal liability for the failure of its partners, but I have no doubt that it is compromising its most important asset: its brand name. In The Spider’s Strategy I urged executives to adopt the Hippocratic oath when dealing with consumers in a networked world. In a world in which the logos of blue chip companies can be mortgaged for billions of dollars, some executive officer at Visa should review the processes and decision making culture that is allowing such shoddy business practices to thrive. Individual consumers may not have much power against the huge financial resources of a large company, but they have their own network – the Internet – to tell their tales to the world at large.

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