Tuesday, September 29, 2009

A Behavioral Model of Strategy

Strategy is unique among all the domains and disciplines of a corporation. As opposed to various other disciplines which are relatively deterministic (such as operations, materials, information technology and quality), corporate strategy tends to be a domain of forecasts and aspirations, with all the imponderables that could emerge in future. This is in spite of the vast body of theories, techniques and tools that have been developed in the strategy domain over the last five decades (reference my blog on “Thought Leadership in Management” in “Strategy Musings” at cbrao2008.blogspot.com).

Strategy development uniquely requires the strategist to predict a future and lay out an execution pathway with commensurate resource deployment to achieve certain goals. The strategist needs to take professional decisions that could handle uncertainty in a successful manner. There are, of course, couple of other disciplines that are governed by certain non-quantifiable factors.  For example, R&D is as much science and technology driven as it is passion and perseverance driven. Safety is more a matter of behavior than a function of science and technology. Even these disciplines, however, do not provide a free play to emotional decision making as strategy does.

This paper argues that intrinsic attitudes of the strategy makers have an overarching influence on the eventual effectiveness of corporate strategies.  Several bold and successful as well as adventurous and unsuccessful actions taken by corporations are more easily explained when they are viewed in a behavioral decision making paradigm.

Strategic adventures

Corporate actions reflect the way the behavioral models of the key strategists pan out in a company.  Actions taken by corporations in recent years to acquire overseas assets at hefty valuations, for example, reflect irrational exuberance of the strategists.  Decisions relating to product range expansion or renewal, capacity expansion or reduction, business diversification or divestments, mergers and acquisitions require significant strategic thinking.  In such crucial strategies, an inappropriate behavioral component could cost the company dearly in terms of time and resources required to recover from any adventurous moves.

Strategic decisions that are taken without evaluating multiple scenarios of opportunities and risks could be suboptimal.  Strategic acquisitions undertaken without requisite due diligence on current business and future prospects could prove costly.  Examples from the national and international industries are pointers.  A premier private sector airline in India which was indeed flying high hit turbulent skies upon a hasty acquisition of another cash strapped airline.  A pioneering low cost airliner gave up the business all too soon when a longer stay would have provided greater value for the low cost model in a recessionary environment.  An operationally efficient diversified automobile manufacturer focusing on fuel efficient vehicles almost went into a tailspin by acquiring an overseas manufacturing infrastructure at a high cost for making ultra-luxury, ultra-expensive fuel guzzling cars.  Conservative outlook of Indian tractor manufacturers and three wheeler manufacturers have narrowed their business options to obsolete designs and products even as mainline automobile companies grew their product range aggressively.  Inadequate due diligence led an Indian pharmaceutical major and a Japanese pharmaceutical giant acquire companies at high cost and lose goodwill.  Inadequate understanding of the dynamics of generics market led several Indian pharmaceutical companies to establish capacities in excess of demand in a vain pursuit of market shares.

Japan’s leading electronics giant lost the innovation edge due to the short term distortions in strategy caused by its movie and music divisions.  A leading printing solutions and computer company of the US is still to extract the full value of a merger with another computer company.  The disastrous acquisition by the Germany’s leading car major of an ailing US automobile corporation is another example of behavior driven strategy gone astray. The world’s leading software company’s ego state refused to recognize the potent threat of the Internet search firm.  Another Internet search firm’s decision to spurn a takeover offer again was a behavioral response that flew against the dynamics of business.

The above examples suggest the need for a model of strategic thinking that optimizes behavioral approaches with classical conceptual and analytical tools of the strategy domain for effective corporate development.

Behavioral model

The basis of the behavioral model of strategy is that a strategist is essentially an individual as well as a professional who has correspondingly certain intrinsic behavioral traits and certain imparted behavioral traits. These traits influence how a strategist views the environmental opportunities and risks as well as how he understands the corporate competencies and capabilities. 

There are four key pairs of human emotions that influence how the individual in a strategist develops the corporate strategy. These are: (i) passion and diffidence, (ii) hope and despair, (iii) confidence and panic and (iv) ego and humility. There are three key pairs of behavioral traits that influence how the professional in a strategist develops the corporate strategy.  These are: (i) deliberative and impulsive, (ii) consultative and individualistic and (iii) deterministic and abstract.

The behavioral model governing a strategist’s actions is a complex interplay of the individual and the professional traits.

Individual behavioral facets

Fundamentally, a strategist’s role is to grow the company with passion, overcoming all anticipated and unanticipated hurdles. He has to play for the long term, looking beyond the obvious for opportunities and risks. Even as he develops a strategy encompassing and leveraging all the functions he needs to have the passion and perseverance to secure the buy-in of all the functions and ensure their commitment in execution. A strategist who is reluctant to draw up functional strategies and is diffident about securing the functional buy-in is like an engine decoupled from the bogies.

The strategist draws his strategic plans and undertakes course corrections in the context of the business and economic environment that the company faces. Economic volatility and business turbulence need a balanced mind to understand and handle the forces. Professionals whose strategic thinking is only skin deep get carried away by hope, especially in the years of boom and get drowned in despair in times of recession. During the last one year, for example, countless strategists mothballed valuable businesses while in the earlier years they splurged money on ambitious expansion and diversification projects. Strategists who took a balanced view of recession last year and persisted with creative product development activities would be smiling as the recovery gets underway.

The strategist needs to have the ability to handle both opportunities and crises with confidence. Confidence arises from own competencies as well as an understanding of the overall organizational competencies and competencies. Being in a state of eternal preparedness for opportunities and risks, through a continuous focus on developing and evaluating multiple scenarios, helps the strategist remain confident. Being in constant touch with functional performance also helps the strategist understand the potential play in times of growth as well as recession. A strategist who is unprepared with any scenario other than his own is bound to be panic stricken when faced with times of discontinuity.

A strategist’s job is arguably one of the most glamorous jobs in an organization. A responsibility to plan for the organization’s future, proximity to the CEO and the Board and a business practice which requires him to collaborate with the external world could lead to a sense of superiority and infallibility. An obsessive ego could influence the strategist to underestimate competition and land the company into difficulties with excess capacities. Ivory tower planning as a phrase is more a practical reality than an academic idiom in respect of such strategists. At the same time, extreme flexibility to pander to each and every viewpoint may not help the strategic planning process either. Successful strategies, executed with considerable corporate effort, need to be celebrated to reinforce rational risk-taking in the organization. A self-effacing backroom strategist who takes his successes in his silent strides is unlikely to inspire the organization at large.

Professional behavioral facets

It is important for the strategist to be deliberative rather than impulsive.  The domain of strategy involves taking the company successfully into uncharted territories.  It requires that the strategist is fully aware of the various internal and external factors that could support or derail the strategy.  A strategist who chooses appropriate strategies based upon deep deliberation has a much greater of success than one who frames strategies on impulse.  Not only he would have laid out a more enduring strategy, he would also have been prepared with course corrections having considered various alternative scenarios a priory. On the other hand, a strategist who is impulsive, taking decisions on the spur of the moment, can never be a good strategist.  As a matter of fact, impulsive behavior is counter-intuitive to strategic thinking.

A successful strategist would be consultative, rather than individualistic in his approach.  A strategist by virtue of his domain specialization ought to have a high degree of conceptual and analytical skills, acquired through formal education and the very nature of the job.  This by itself cannot be cited by a strategist to act individualistic in his methodology.  A strategist is perhaps like a master craftsman who assembles the several resources available to develop a meaningful program for the future.  The more consultations he has, the more would be the strategic alternatives he would have.

Being deliberative and consultative does not, however, mean that a strategist can be indecisive or flexible.  On the contrary, a strategist needs to be deterministic and quantitative at the end of his deliberative and consultative processes.  Strategies could be abstract and futuristic but it is the challenge of the strategist to convert the abstract concepts into a set of number-driven programs to enable management of the strategic planning process by relevant metrics (see my blog titled “Management by Metrics” in  “Strategy Musings” at cbrao2008.blogspot.com). 

The foregoing leads us to conclude us on an ideal behavioral profile of an effective and successful strategist; that of a deliberative, consultative and deterministic professional who is passionate and never diffident, is not driven unduly by either the hopes or the despairs of the times, and whose confidence and humility are enhanced by his capability.  The CEO and SBU Heads who work closely with the strategist obviously need to share the ideal behavioral profile of the strategist to perform successfully in tandem. A positive behavioral model of strategy would explain why some corporations are more consistently successful than others.

Posted by Dr CB Rao on September 29, 2009

Saturday, September 26, 2009

Global Recession and Indian Response - 3: The Case of Tata Steel Limited

Global recession hit the world economies badly from mid-2008 onwards. The growth prospects of companies were adversely affected. As companies aimed to survive or remain profitable they instituted severe measures to close down or realign businesses and operations and implement severe cost compression measures. Jobs were lost and savings were wiped out while purchasing power crumbled and customer confidence wilted.

Indian economy too faced the adverse impact of the global recession with reduced GDP growth and heightened liquidity crisis. The fiscal year 2008-09 represented one of the most excruciating years for Corporate India. Different companies, of course, were affected by the economic recession differently and also responded to the evolving situation differently. Companies in the core engineering sector and those who made aggressive overseas investments in the previous years were particularly under severe pressure.

The author examines in a series of papers as to how different Indian companies withstood the ravages of recession in a more enduring manner than most overseas firms could.  This enquiry also results in an understanding of relevant business models and strategies as a subject of broader academic interest.

In the third paper of the series, the author examines how Tata Steel Limited (Tata Steel), fared in 2008-09. The conclusion that emerges from the study of Tata Steel (as from the earlier studies on Maruti Suzuki, India’s leading car manufacturing company and BHEL, India’s leading power and industrial equipment company – refer the other posts in this blog) is that Indian companies did acquit themselves rather creditably due to their intrinsic fundamentals and business management skills.  This, in turn, leads us to the interpretation that select Indian companies must set their sights higher and move on to higher trajectories of growth on a global canvas.

Tata Steel – A pioneering venture

Tata Steel Limited, Asia’s first integrated private sector company, is the world’s second most geographically diversified steel producer with major operations in India, Europe, South East Asia and rest of the world.  Listed as a Fortune 500 company with an annual crude steel capacity of around 31 million tones, the company has manufacturing units in 26 countries and a strong presence in 50 European and Asian markets.  Tata Steel India is the first integrated steel company in the world, outside of Japan, to be awarded the coveted Deming Application Prize 2008 for excellence in Total Quality Management.

Tata Steel was established as a private sector enterprise by the renowned nationalist and industrialist Mr Jamsetji Tata 102 years ago, laying the basic foundations of an engineering industry in the British occupied India.  The Company was a beacon of India’s enterprising spirit over a century of tumultuous national and international developments. Tata Steel caters to the core sectors of the Indian economy, viz., construction, automobiles, industry, defense and so on with its wide range of products. Tata Steel’s core competence lies in developing and manufacturing a wide range of steel products, steel tubes, bearings, wires and rods.  Tata Steel was a pioneer in developing high quality sheet steel and high precision steel tubes required for the new generation of automobiles in India. 

An exceptional chapter was written in Tata Steel’s century old history when in 2007 it acquired the Anglo-Dutch steel giant Corus Group Plc (Corus) for USD 12.11 billion in a landmark deal that placed India Inc in the global map. With the acquisition of Corus, Tata Steel’s capabilities extended to more value added products including those catering to European and American automobile and aerospace industries.

Prior to Corus acquisition in 2007, Tata Steel was a predominantly domestic oriented company with a production capacity of 7 MTPA.  With the integration of Corus, the capacity jumped up by 23 MTPA, making the Group the fifth largest steel producer in the world.  Current capacity stands at 31 MTPA.  Tata Steel also owns Jharia coal fields which meet the coal requirements of Tata Steel India.

A global business and operations model

Tata Steel represents a business model which derives sustainability through cost efficiency and growth through globalization.  The company’s domestic orientation, technological sophistication and cost leadership enabled it to continuously lead the Indian steel industry and withstand the recessionary cycles witnessed from time to time, including the global economic crisis of 2008-09.  With the Corus acquisition, in terms of capital deployment and sales the company is well-balanced.  Capital employed and revenues by geographies for Tata Steel, in that order are - India: 28% and 17%, UK:  32% and 34%, EU excluding UK: 26% and 30%, SE Asia: 12% and 12%, and Rest of the World: 3% and 6%.

The turnover of the Tata Steel Group increased by 12% in 2008-09 to Rs 1,473,290 million (USD 30.7 billion; USD 1 = Rs 48). Acquisition of Corus contributed to the significantly enhanced turnover profile of the company.  Stand-alone turnover of the company, Tata Steel India, at Rs 246,240 million was just 16.6% of the Group’s consolidated turnover.  That said, globalization, and in particular the expensive Corus acquisition, took a significant toll on the profitability of the company.  On a standalone basis, the Earnings Before Interest, Taxes and Depreciation (EBITDA) was Rs 90,980 million in 2008-09, compared to Rs 80,810 million of 2007-08, representing an increase of 12.6%, even in a year of recession.  Profit before Taxes (PBT) increased by 10.3% to Rs 73,156 million, while Profit after Taxes (PAT) increased by 11% to Rs 52017 million.  On a consolidated basis, however, EBITDA in 2008-09 was flat at Rs 176,103 million compared to Rs 177,105 million in 2007-08.  Consolidated PBT registered a sharp fall of 59% to Rs 67, 432 million in 2008-09 while consolidated PAT also plummeted by 40% to Rs 49,509 million.

The disparity in the demand profiles of different global markets was evident in terms of Tata Steel’s performance.  The Indian steel division reported an increase of 10% in finished steel production and sales during 2008-09 to 5.231 MTPA while the European finished steel production in 2008-09 dropped by 20% to 16 MTPA.  Sundry debtors at  Rs 6359.8 million were higher by 17% on a standalone basis.  As a percentage of sales, however, the standalone sundry debtors as a percentage of turnover declined marginally from 2.7% in 2007-08 to 2.6%, reflecting the company’s prudent sales and collection policies.  On a consolidated basis too, management of sales and collections reflected prudential principles even in a year of recession.  Consolidated sundry debtors, in fact, declined by 30% to Rs 130,316 million and as a percentage to consolidated sales declined sharply from 14.2% in 2007-08 to 8.8% in 2008-09.  The domestic collection practices were more robust than those of the overseas operations but the progressive discipline that was witnessed in 2008-09 would augur well for the future.

The standalone manpower costs of Tata Steel India increased by a whopping 26.9%, from Rs 18,160 million to Rs 23,060 million in 2008-09.  The consolidated manpower costs, however, increased at a lower rate of 6.4% from, Rs 169,000 million to Rs 179, 750 million, reflecting cost cuts in the overseas operations.  On a standalone basis, turnover to employee ratio (on rupee base) was 10.5 in 2008-09, compared to 10.8 in 2007-08.  This stable turnover to employee cost ratio, despite the 27% increase in employee costs, reflects the high degree of efficiencies achieved in the Indian operations in terms of non-employee costs and also improvements in conversion efficiencies. On a consolidated basis, the value added ratio was 8.2 in 2008-09, compared to 7.8 in 2007-08.  These marginal improvements reflect an effort to optimize employee costs and conversion efficiencies on a global basis.

Manufacture of steel and value added steel products for automobile, infrastructure and industrial sectors is an investment-intensive endeavor. The need for ensuring raw material security through ownership of mines puts an additional pressure.    The fixed assets of the company increased by 8% during 2008-09 to Rs 453,056 million, reflecting a continued asset augmentation policy.  Substantial portion of the fixed assets represent overseas assets in 2:1 ratio (overseas : domestic).  Sales to assets ratio of the standalone operations was 1.7:1 while that of overseas operations was 4:1.  It would appear that the domestic assets need to be sweated much more through enhanced operations on a stand-alone basis. This insight, coupled with the geographical distribution of capital employed and revenue generated brought out earlier, appears contrarian to the general perception that Tata Steel’s domestic operations are one of the lowest cost operations, globally.  New investments in green field and brown field projects in India which have potential to add capacity and turnover and enhance input security could change the profile favorably in future.

The acquisition logic and challenge

Tata Steel’s acquisition driven strategy to leapfrog into global steel arena is a path- breaking one for the Indian industry. After taking 100 years to reach a 7 MTPA capacity, Tata Steel in one sweep quadrupled capacity and derived 65% of its sales from Europe. Tata Steel became the fifth largest producer of steel in the world, up from fifty-sixth position.  Access to some sophisticated technologies and products has also been part of the bargain. The potential benefits of the Corus deal were widely appreciated. Most experts were of the opinion that the acquisition did make strategic sense. Some analysts had doubts about the outcome and effects on Tata Steel’s performance.  They pointed out that Corus’ EBIDTA (earning before interest, tax depreciation and amortization) at 8 % was much lower than that of Tata Steel which was at 30% in the financial year 2006-07.  Whether the price paid of USD 12.1 billion was worth the leap into the Top 5 global league is a matter that will be answered by the company’s performance in a few years. The comment from the chairman of Tata Steel and a few opinions from some industry experts are instructive.

Commenting on the acquisition, Mr Ratan Tata, chairman, Tata & Sons, said, “Together (with Corus), we are a well balanced company, strategically well placed to compete at the leading edge of a rapidly changing global steel industry.”

Mr Vivek Gupta, Managing Director, AT Kearney (India) said, “The financials for this deal (require) high performance levels, perfect post-deal execution and sustained high steel prices.  It is a risky game and will be okay for Tata as long as the economy is growing and no major bumps occur.  If (these bumps) do occur, they can become a challenge, and I am reminded of the high leverage days of the mid-1980s.”

Mr S Mukherji, Managing Director, ICICI Securities said, “Indian steel companies are on a consolidation mode.  The Tata-Corus deal has set many records.  So far, the only $1 billion-plus deal was done by ONGC, and it’s the first milestone for India Inc, with the Tata deal crossing $10 billion mark.  It’s a landmark deal since an Indian company has taken over an international company three times its size.”

Stressing on the synergies that could arise from this acquisition, Phanish Puram, Professor of Strategic and International Management, London Business School said, “The Tata-Corus deal is different because it links low-cost Indian production and raw materials and growth markets to high-margin markets and high technology in the West.”

On the face of it, the multi-pronged strategy adopted by the company to integrate global assets, enhance raw material security, expand the low cost manufacturing base in India and diversify into logistics could take the company into an era of superior cost and supply chain dynamics. The company is setting up new green field projects in Orissa, Chhattisgarh and Jharkhand states, which are rich in natural resources.  In addition, the company has shown remarkable openness to form 50:50 joint ventures with other domestic and global corporations.  BlueScope Steel, Australia (for coated steel and building products), Larsen & Toubro, India (for deep water port in Orissa), NYK Line, Japan (for shipping bulk cargo), Riversdale Mining, Australia (for coking coal), co-investment with Vale, Nippon Steel, JFE and POSCO (for coal mining in Australia), SAIL, India (for acquisition of coal blocks), New Millennium Capital, Canada (for iron ore) and Al Bahaja Group, Oman (for limestone) are some of the joint venture partners.  These multi-pronged initiatives should strengthen Tata Steel significantly in the years to come.

Six strategic drivers

The success of Tata Steel’s acquisition strategy depends on six primary components: cultural exchange, capital structure stabilization, asset integration, value chain optimization, cost leadership and technological differentiation.  These are also essential to cope with the pressure caused by the acquisition in a period of intense global recession.  The leadership of Tata Steel, headed by Mr Ratan Tata, chairman and Mr B Muthuraman, managing director acted with alacrity from the date of acquisition to put in place a framework that meets the six strategic criteria. 

In one of the first acts, post-Corus acquisition, Tata Steel’s leadership team was expanded to include senior leaders from the Corus group.  The leadership team of Tata Steel continuously engaged the Corus team during the pre- and post-/acquisition phases to ensure mutual acceptance and cultural integration.  To smoothen the integration process, a 3-member Group Corporate Centre and a 6 member Group Corporate Function Team was created with representation from Tata Steel Europe (erstwhile Corus).  The senior management team was also expanded to a total of 23, including 5 senior representatives from Tata Steel Europe.  The integration of decision making and operational review and allotment of key functions such as Group strategy to erstwhile Corus executives helped in smoother cultural and corporate integration.  The two Corus executives were also a part of the five member team which constantly interacted with various stakeholders to address their concerns about the recessionary environment and Tata Steel’s response to the crisis and strategy.  Whether the representation for Tata Steel Europe in the leadership team is adequate or additional skills need to be leveraged could be debated further.

The second critical concern relates to capital structure stabilization.  The equity and debt resources had to be significantly expanded (with more debt than equity) to fund and manage the Corus acquisition.  The gross debt in the Tata Steel Group rose dramatically to USD 10.54 billion in March 2008 essentially because of the Corus acquisition while it increased further to USD 11.78 billion by end March 2009 to fund the growth projects in India and to provide adequate liquidity buffer in the recessionary times.  During 2008-09, the debt instruments were restructured for better terms and the foreign currency term debt in Tata Steel India was hedged into rupees to manage payment pressures and exchange volatility respectively.  The debt-equity ratio which increased from a low of 0.06 in 2005-06 to 1.99 in 2007-08 was contained at 1.65 in 2008-09.  Considering that the company operated at similar high debt-equity levels in the past but managed to improve the situation to a zero debt level eventually, one may expect the company to be successful once again, provided a few other concerns are effectively addressed, as below.

The third important concern is with reference to asset integration.  With Corus acquisition, the assets of Corus accounted for more than thrice the asset base of the original Tata Steel.  Clearly therefore integration of asset base, with implications in terms of paring down of overlapping assets and divesting obsolete assets and building up of required, niche assets in a major challenge.  While several actions were underway at Corus from 2003 to optimize assets, the economic crisis and the acquisition provided a major push to implement a much more aggressive asset restructuring at Corus plants.  Closure of 4 plants, mothballing of 2 plants out of the 15 plants of Corus group was a primary action.  In addition, enhancement of efficiencies and reduction of overheads were taken up at each unit to enhance asset competitiveness.

The fourth plank of the strategy relates to value chain integration.  One of the premises of Corus acquisition was that Tata Steel India would be in a position to provide low cost, high quality crude steel to Tata Steel Europe for conversion into value added products.  This would emerge from a global product-market portfolio plan and integrated supply chain management.  This apart, ensuring raw material security is an essential component of strategy from risk management and value chain perspectives.  Raw material self-sufficiency of the Group reduced to 25% of the requirements post Corus acquisition.  While the current plans envisage enhancement in material sufficiency to 50%, a more aggressive mining and minerals strategy could be required to ensure value chain economics and achieve requisite production assurance.  In addition, tighter integration of the various overseas ventures in the end-product space would be essential for more optimal matching of production and sales profiles across the globe.

Cost leadership is the fifth essential requirement for Tata Steel to enhance its global competitiveness.  Focusing essentially on the high cost, high asset European operations, the Group has taken up “Weathering the Storm” and “Fit for the Future” programs to ensure cost competitiveness in an environment of changed realities.  These comprise a host of measures for asset restructuring, manpower rationalization, overhead review and efficiency enhancement.  Together these programs are believed to have resulted in more than USD 1.2 billion in cash savings to the group during the year.  Durable increases in cost economics would, however, occur only when technology driven cost savings are achieved.  These would relate to better quality of input raw materials, better combustion and conversion efficiencies, energy-efficient operations, reduction of carbon footprint and tighter inventory control through global supply chain management.  Initiatives of continuous improvement in shop floor, logistics and commercial operations need to be combined with break-through initiatives in process and product technologies, for which a more comprehensive plan probably needs to be still developed.

While Tata Steel could be seen have already covered a significant ground on the above five issues, the strategy on the sixth dimension of technological differentiation is still somewhat abstract.  The technological equity enjoyed by Tata Steel’s products relate to their robust specifications and high quality with reasonable costing, together providing considerable value to the customer.  This, however, cannot be the same as a clear technological differentiation in terms of first-in-class products for the market place.  Tata Steel spends only Rs 415.9 million on R&D, which account for just 0.17% of the company’s total turnover.  Clearly, Tata Steel needs to take a quantum jump in R&D expenditure to undertake fundamental research in new material technologies, new coating technologies, nano-functional materials and fluids and material characterization technologies (to name a few areas) in order to ensure a truly differentiated technological position.

In addition, industry specific research needs to be undertaken to dovetail or even proactively lead product development in other industries through first-in-class or best-in-class steel technologies.  Achieving technological leadership through enhanced R&D effort and commitment of requisite resources is a strategic lever that must be put in place by Tata Steel as soon as possible. 

In sum, Tata Steel has accomplished an incredible feat by catapulting itself into the global steel arena as a Top 5 steel producer through the Corus acquisition.  The sustainability of this strategy has been tested by the global economic recession that hit the steel industry suddenly and adversely in 2008.  It is clear that Tata Steel’s strategic initiatives for cultural integration, capital stabilization, asset integration, value chain optimization and cost leadership are firmly in place and have helped the company weather the storm.  Reinforcement of these strategic initiatives with the sixth essential component of technological differentiation based on higher R&D effort would help Tata Steel achieve an unassailable position in the global steel industry.

Posted by Dr CB Rao on September 26, 2009

Thursday, September 24, 2009

Global Recession and Indian Response - 2: The Case of Bharat Heavy Electricals Ltd

Global recession has hit the world economies badly. The growth prospects of companies were affected adversely. As companies aimed to survive or remain profitable they instituted severe measures to close down or realign businesses and operations and implement severe cost compression measures. Jobs were lost and savings were wiped out while purchasing power crumbled and customer confidence wilted.

Indian economy too faced the adverse impact of the global recession with reduced GDP growth and heightened liquidity crisis. The fiscal year 2008-09 represented one of the most excruciating years for Corporate India. Different companies, of course, were affected by the economic recession differently and also responded to the evolving situation differently. Yet, the fact remains that the Indian government (like most other governments) remained more solvent and liquid than the corporate sector, and with the Indian government, the government owned public sector undertakings (PSUs) too exhibited a rare resilience.

The author examines in a series of papers as to how different Indian companies withstood the ravages of recession in a more enduring manner than most overseas firms could. In the second paper of the series, the author examines how Bharat Heavy Electricals Limited (BHEL), an engineering PSU in the power and industrial infrastructure sectors fared in 2008-09. The conclusion that emerges from the study of BHEL (as from the earlier study on Maruti Suzuki, India’s leading car manufacturing company – refer cbrao2008.blogspot.com) is that Indian companies did acquit themselves rather creditably due to their intrinsic fundamentals.  This, in turn, leads to the interpretation that select Indian companies must set their sights higher and move on to higher trajectories of growth rather than be limited by generic climates of euphoria or depression.

BHEL – An engineering giant

BHEL is the largest engineering and manufacturing enterprise in India in the energy related and industrial infrastructure sectors.  BHEL was established as a PSU more than four decades ago ushering in the indigenous heavy electrical equipment industry in India.  BHEL caters to the core sectors of the Indian economy, viz., power generation and transmission, industry, transportation, renewable energy, defense and so on. The company has a wide network of 14 manufacturing sites, 4 power sector regional centers, 8 service centers, 15 regional offices and one subsidiary company.

BHEL’s core competence lies in developing and manufacturing turbine generator sets for different types of power generation, including hydro, thermal and nuclear energy. It has the capabilities to put up total power generation and transmission systems utilizing different types of equipment and technologies.  Other products include boilers, pumps, heat exchangers, electrical machines, valves, heavy castings and forgings, digital control systems, railway traction equipment and renewable energy equipment, to name a few. 

BHEL is a highly domestic oriented company with only 5% of the order book being received from international operations.  Its fortunes are also dovetailed with the power sector, with 78% of the order book being derived from the power sector. Allocations by the governments in the power sector, investments in public and private power projects and the financial health of the state electricity boards influence BHEL’s corporate plan and growth track to a large extent.  

A monolithic business model

BHEL represents a business model which derives stability and growth based on the strong development needs of infrastructure in a growing economy like India. The company’s domestic orientation and infrastructure emphasis has enabled it to withstand the recessionary cycle witnessed in 2008-09.  The turnover of the company increased by 31% in 2008-09 to Rs 280,330 million (USD 5.8 billion; USD 1 = Rs 48) which, in fact, represented a growth rate that was higher than the growth of 14.2% recorded in the boom year of 2007-08.  That said, the profit before tax grew at a more modest pace of 9.5% to Rs 48,490 million in 2008-09, a growth rate which was lower than the 18.6% recorded in 2007-08.  The profit after tax grew by 10.5% to Rs 31,380 million, which again was lower than the growth rate of 18.4% recorded earlier. Pricing pressures were thus evident and could not be managed.

The order book grew at a slower pace of 18.7% in 2008-09 to Rs 596,780 million which represented a far lower growth compared to a 41% growth rate in the order book in 2007-08.  Sundry Debtors increased by 33% to Rs 159,755 million, in line with sales growth. Sundry Debtors as a percentage of sales stood at 61%, same as in the previous year; however, it represents a relatively high percentage.

The company increased its manpower by 4.7% to 45,666 in a year of recession (growth in manpower in the previous year was 3.6%). While pricing pressures and manpower increases no doubt impacted the profitability, an increase in value added per employee was achieved to counteract the recessionary and pricing pressures. The turnover per employee increased by 24.5% to Rs 6.1 million whereas the increase in turnover per employee was only 11.4% in the growth year of 2007-08.

Design and manufacture of equipment and systems for infrastructure and industrial sectors is an investment-intensive endeavor.  In several cases, erection and commissioning activities are an integral part of the contracts.  The fixed assets of the company increased by 60.3% to Rs 26,273 million, reflecting the need to aggressively invest, to be ahead of the customers’ own investment cycle in the infrastructure industry. Only by optimal turnaround of the investments into saleable machinery and systems, can companies such as BHEL can  protect their profitability.  BHEL’s sales to turnover ratio of 11:1 in 2008-09 has been less than the ratio of 13.4:1 achieved in 2007-08.  This probably reflects the impact of fresh investments during the year and the lead time required to turn investments into sales during a recessionary period. A long term, well managed business and financial model is reflected in a zero debt profile and a healthy cash balance of  Rs 103,147 million (an increase of 23%), which in turn helped the company retain a stable financial profile during the recession.

In sum, BHEL presents a profile of a strong monolithic business, and a robust financial model which performed well based on its preeminent position. In addition, the advantage of being a PSU and the vast number of collaborations it has with other PSUs in the power, infrastructure and industry sectors has worked to the advantage of the company.  However, the question would remain whether the company could have positioned itself for a much greater role in the broader energy and infrastructure space in India.  For eg., Larsen & Toubro which is a private corporation in a similar sector has been able to notch up a turnover of USD 8.5 billion in 2008-09.  In terms of business divisions as well as product profile, L&T reflects a more vigorous growth profile. 

Organization, a key driver

As a company enhances its scale and scope, the design of organization plays an important role in strengthening the business foundations and also in opening up new avenues for future growth.  BHEL’s organization structure, despite its wide range of products and vast spread of customers, does not seem to follow any specific organizational design.  The design does not reflect principles of product commodity segmentation, geographical segmentation or domain specialization in any discrete or synergistic fashion.  Apparently the evolutionary course of the organization has solidified into a highly cross-wired network of overlapping facilities, products and services.  

It may be noted that several of BHEL’s plants were set up with multiple overseas collaborations and reflect diverse ethos.  A review of the organization and key responsibilities suggest that the company is organized in a typical departmental organization manner rather than in terms of product or domain specializations.  In addition, it is surprising that a behemoth like BHEL has at present a Chairman & Managing Director with only a 6 month tenure as the appointment period.  BHEL has in the past contributed such stalwart-leaders as Sri V Krishnamurthy and Sri S V S Raghavan to the Indian industry. It should not be difficult to carve out a stable and high profile leadership team from the vast talent pool that the company has.

The key to BHEL’s future growth would seem to lie in a complete reorganization of its business and operations in terms of a product-market matrix structure, which would enable required autonomy, empowerment as well as responsibility to drive growth across several product-market segments, each of which has significant growth potential in its own right.  It would perhaps be ideal to segment the business drivers in terms of key sectors such as power, transmission, industry, transportation, oil and gas, renewable energy and so on.

Alongside, a reorganization of operations based on manufacturing flow and product specialization would strengthen product-market delivery. Given the fact that common products serve multiple industries (albeit with customization), an integrated asset back-end and a diversified business front-end would be a powerful organizational driver.  As an alternative to the matrix structure, however, an SBU structure whereby each business sector is treated as a standalone vertical can also be considered.

In redesigning its business model and reorganizing its value chain, BHEL can perhaps pick a leaf out of Maruti Suzuki, which in spite of being a joint sector undertaking with government participation, until a few years ago, operated with an efficient business and operational structure from the very inception.

Maruti was one of the few public sector corporations which succeeded with an integrated operational excellence model. The Japanese parentage has helped the company to implement the famous Japanese automobile management systems from the very beginning. Maruti was a pioneer in India in terms of a massive vendor development system covering both tier-I and tier-II, and even tier-III vendors. This has helped the company create a contiguous vendor eco-system and implement a just-in-time inventory system, customized to Indian scenario. In terms of manufacturing too, Maruti Suzuki adopted well the parent’s practices of balancing high throughput and high product variety. An end-to-end optimized supply channel drives Maruti’s business efficiencies.

A robust financial strategy well supported by a strong product-market strategy and an efficient supply chain strategy provided Maruti with strong fundamentals and the capability to withstand the severe recessionary climate. Maruti’s example illustrates that an integrated operational framework that is strategically designed and assiduously reinforced over the years helps companies withstand turbulent times.  Japanese management philosophy is reflected in the uniqueness of operations of engineering giants in Japan such as Chiyoda, Toyo and Hitachi as well.  BHEL could profitably also adopt some of the value chain management concepts from Maruti or any other Japanese engineering giant.

Traction for an electrifying future

The product range that BHEL leads the industry in not only generates energy but also contributes to consumption of energy in a significant manner.  Research and development in the fields of new materials and technologies which leave a low carbon footprint would not only provides significant cost saving to BHEL as well as its customers but also contributes to the global environment in a positive manner.  Surface coatings and nanotechnology can contribute substantially to the efficiency of its basic products.  In addition,  BHEL would need to diversify in a big way into alternative energy, digitization and robotics as new growth drivers.

BHEL spent a sum of Rs 127.4 million in 2008-09 on R&D, constituting 2.5% of the total turnover.  Most of the R&D investments have been channeled towards enhancing the efficiency and operating life of its products. To enable BHEL  fulfill a new technological mission, R&D expenditure would need to be significantly upgraded to achieve requisite and newer state-of-the-art competencies.

While BHEL has, no doubt, achieved self-sufficiency in terms of technology, the company should not be averse to bringing in newer technologies and products through collaborations in a more proactive manner.  Technologies for bullet trains, nuclear energy, space exploration, oil exploration, geo-thermal exploration, energy recycling are a few of the domains where collaborations could provide a new drive into the future.

Technology would be one prime area of change; equally important would be a strategic plan that sets 5-10-15 year perspectives for quantum leaps based on development of technologies, their deployment into businesses and generation of resources to execute successive transformation of businesses.

Leadership in Indian PSUs is notable for its virtually selfless service which is reflected in highly endowed managers and leaders working their heart out for compensation packages that are mere fractions of their private sector counterparts. It is unbelievable but true that the Chairman and Managing Director of BHEL draws a remuneration of just Rs 1.63 million per annum, a level any front line manager easily exceeds in an information technology company in India. The shareholders of BHEL, of which the Government of India holds the dominant majority at 68%, must ponder if the current scale of responsibilities and future scope of business development do not deserve a more motivating and equitable pay structure.  

With a renewed R&D focus, new technology perspective, multi-stage strategic plan and a well-rewarded and empowered leadership, BHEL can drive itself, and the Indian infrastructure sector, into a new electrifying future.

Posted by Dr CB Rao on September 24, 2009

Monday, September 21, 2009

Global Recession and Indian Response - 1: The Case of Maruti Suzuki

The global recession has hit the world economies badly. The growth prospects of companies were affected adversely. As companies aimed to survive or remain profitable they instituted severe measures to close down or realign businesses and operations and implement severe cost compression measures. Jobs were lost and savings were wiped out while purchasing power crumbled and confidence wilted.

Indian economy too faced the adverse impact of the global recession with reduced GDP growth and heightened liquidity crisis. The fiscal year 2008-09 represented one of the most excruciating years for Corporate India. Different companies, of course, were affected by the economic recession differently and also responded to the evolving situation differently. 

The author examines in a series of papers, the first of which is this paper, as to how Maruti Suzuki, India’s leading automobile manufacturer responded to the situation.

Maruti Suzuki – the small car titan

Maruti Suzuki India Limited (Maruti Suzuki) requires no introduction. Maruti Suzuki was set up on 14th December 1983, in collaboration with Suzuki Motor Corporation, Japan, which was an innovator in small car technology. Maruti Suzuki revolutionized the Indian automobile industry with its small cars and vans, and provided unprecedented choice to the Indian automobile user, consistently from the 1980s. Set up to produce 100,000 cars a year the company grew by leaps and bounds to reach a production capacity of a million cars a year by 2009. Maruti has become an icon of India’s industrial capability with four plants, nineteen related companies, several hundred dealers, vendors, service entities and business associates.

Despite the entry of several global automobile majors into India and the foray by India’s own leading truck and bus maker, Tata Motors, into the car sector, Maruti continues to hold an impressive market share of  55% in cars and vans. The company has sold over 7 million cars cumulatively and despite the domestic orientation exported over 500,000 cars cumulatively.

Like every other company, Maruti Suzuki was buffeted by the adverse economic developments of 2008 and 2009. Recession hits automobile markets rather instantly and intensively, with sharp curtailment of automobile finance and postponement of automobile purchases by individuals and institutions. The car industry did register a healthy growth of 15% in physical sales during Q1 of FY09 but saw the growth plummet to 0.5% in Q2 and then to a negative growth of 15.5% in Q3. The growth recovered to 1.6% in Q4. In the overall for the year, it was creditable that Maruti’s vehicle sales increased by 1.6% to 792,167 and the total income increased by 14.3% to Rs 214,538 million (USD 4.47 billion; USD 1 = Rs 48).

Yet, given the growth impetus that existed in the company, total expenditure increased faster by 17.6% to Rs 187,610 million,  Earnings before interest, depreciation, tax and amortizations (EBIDTA) reduced by 22.3% to Rs 24,333 million, Profit before tax (PBT) reduced by 33.1% to Rs 16,758 million and  Profit after tax (PAT) reduced by 29.6% to Rs 12,187 million. Three other critical parameters of performance showed interesting trends. Inventories declined by 13.1% to Rs 9,023 million and sundry debtors understandably increased by 40.2% to Rs 9,189 million.

Fixed assets increased by 22.3% to Rs 49,321 million, given the significant capacity creation that was effected. Given that around 75% of the company’s components are outsourced working capital management plays a key role. It is significant that the company’s inventory turnover ratio increased significantly increased from 15.7 in FY08 to 16.7 in FY09 while the average receivables holding period increased only marginally from 12.2 days in FY09 to 12.4 days in FY09.

Sound finances and robust strategies

The manner in which Maruti Suzuki withstood the recession underlines the fact that a cumulative set of virtuous strategies can help a company withstand the volatility of economy and the vicissitudes of business. Being virtually debt free and enjoying healthy cash balances (Rs 44,907 million), the company’s ability to fund growth from internal generations has laid a solid financial foundation for operational resilience. The company consistently followed prudent financial policies whether relating to dealer incentives or vendor payments which helped the company to build strengths in these two vital stake holders. In addition, continuous efforts at cost cutting and productivity improvement, even in good times, helped the company make reasonable profits despite the higher commodity prices and a weaker rupee. The company recorded complete capacity utilization and provided full employment to its workforce despite the recession.

Maruti Suzuki’s strength lies in its emphasis on product-market equity. Continuous expansion of product range (8 new models in 40 months; a new car and a new engine in the year of recession), focus on product quality, service infrastructure and customer connectivity. Maruti’s products continuously rank high in J D Power surveys on excellence in automotive performance as well as in customer satisfaction. The company’s continuously expanding distribution network of 681 sales outlets spread over 454 cities and towns, 315 pre-owned car outlets in 181 cities and towns, and 2767 service workshops across 1314 cities and towns remains the bulwark of a foresighted marketing strategy that the company steadfastly pursued. A network of over 50 driving schools further reinforces customer connectivity.

Maruti is perhaps one of the leading companies with an integrated operational excellence model. The Japanese parentage has, no doubt, helped the company to implement the famous Japanese automobile management systems from the very beginning. Maruti was a pioneer in India in terms of a massive vendor development system covering both tier-I and tier-II, and even tier-III vendors. This has helped the company create a contiguous vendor eco-system and implement a just-in-time inventory system, customized to Indian scenario. In terms of manufacturing too, Maruti Suzuki adopted well the parent’s practices of balancing high throughput and high product variety. An end-to-end optimized supply channel drives Maruti’s business efficiencies.

A robust financial strategy well supported by a strong product-market strategy and an efficient supply chain strategy provided Maruti with strong fundamentals and the capability to withstand the severe recessionary climate. Maruti’s example illustrates that an integrated operational framework that is strategically designed and assiduously reinforced over the years helps companies withstand turbulent times.

Organizing for core competencies 

A forward looking organization innovates in organization design to ensure core competencies for a sustainable future. A competent board that comprises the representatives of Suzuki, the parent, the full time executive directors of Maruti Suzuki and eminent retired CEOs of leading Indian companies as independent directors brings scholastic vision to the company. A business and operations team well honed in the Japanese management techniques provides business and operational efficiency.

Simplicity in organizational design leads to focus, empowerment, responsibility and accountability, and results in superior performance. The latest Maruti organization design comprises five verticals: marketing & sales business vertical, production business vertical, supply chain business vertical, engineering business vertical and administration business vertical. Each is headed by two managing executive officers, one of whom is also a board member. Together with the MD & CEO they constitute the core leadership team. This unique system has enhanced decision speed, execution agility and business performance in the company.

Each business vertical has its task cut out. The marketing & sales business vertical has the task of strengthening the sales and service infrastructure, increasing the reach to rural markets on one hand, and entering relatively untapped urban segments such as taxi and institutional markets on the other. The production business vertical has the task of enhancing manufacturing standards to higher and more exacting levels.  Reducing line change set-up time, which was reduced from 7 days to current 1.5 days, to even lower levels is a key factor for manufacturing flexibility. Balancing automation and human intervention is a particularly relevant factor.

The supply chain business vertical has a major task in terms of enhancing localization and upgrading quality continuously. The engineering business vertical has perhaps the most exacting task of building a total engineering capability to develop new models with granular cost points. The administration business vertical which provides corporate services has the tasks of enhancing human resources base, leveraging information technology, framing financial framework and assuring corporate governance. The combined set of objectives of these five business verticals constitutes Maruti’s quest for future, which Maruti calls as quest unlimited.

Sufficient for today and superior for future?

There is no doubt that by charting through the recessionary waters successfully Maruti Suzuki has demonstrated its strengths and capabilities. These have been a result of the typical hands-on Japanese approach of focusing on fundamentals and continuously enhancing competitiveness through kaizen. Maruti Suzuki brought a new wave of world class industrialization to India, long before the economy was liberalized in the 1990s. Should Maruti Suzuki be content with retaining its exemplar role or play a pioneering role once again? Is Maruti conceptualizing the necessary strategies and building the enabling competencies for such a breakthrough iconic role again? Will Suzuki’s tight ownership and management offer an opportunity or pose a constraint in such an endeavor?

Industrial scenario in India is significantly different from what existed in the early 1980s when Maruti Suzuki entered the country. At that time Maruti with the technological  backing of Suzuki and a creative leadership team led a technological and business revolution in the automobile industry, virtually single handed. Today, however, industrial competencies are resident in a much wider spectrum of companies and the competitive dynamics are far more complex. Launch of an indigenously designed micro car, Nano, by the very Indian Tata Motors reflects the maturing of skills in the Indian industry.

Maruti’s FY09 Annual Report discusses the enhanced design and engineering competencies the company now has. There is no evidence, however, in the report that the company is geared to design and develop a whole new automobile by itself. Maruti’s R&D expenditure at 0.42% of the sales turnover is hardly sufficient to design and launch a new car. While it is commendable that the engineering talent base has been virtually doubled to 730 people in just one year (FY09) and would be increased to 1000 people by 2011, the potential to further harness Indian engineering talent to design new cars and vans needs to be more comprehensively leveraged. Higher levels of capital and revenue expenditure in the R&D domain are called for.

Clearly, India is emerging as a global hub for small car production, an initiative ironically is being led by Hyundai Motor, which never believed in small cars until it entered India. In contrast Suzuki Motor was a pioneer in small car design and manufacture for decades. Perhaps, Maruti Suzuki India Limited and Suzuki Motor Corporation need to develop a new global strategic plan for small car design and manufacture for global needs. The plan could also focus on the van segment which could lead a new revolution in intra-city movement of goods and passengers.

It is clear that a focused business model with technological strengths and management efficiencies has assured market and financial leadership for Maruti Suzuki, even in the toughest of the times. Strong fundamentals should therefore continue to ensure a vibrant future for the company.

Posted by Dr CB Rao on September 21, 2009

Sunday, September 13, 2009

The Perpetual Corporation: The Leadership Role

The concept of corporation is perhaps the most innovative and enduring byproducts of human civilization and economic development. Corporations are organizations of individuals, be it the founders, managers, leaders or professionals, set up to deliver products and services to the society. Individuals would have to retire but institutions have in them the capability to endure in perpetuity. Companies and businesses may be merged, acquired, de-merged or divested but the corporation survives in its own original form or as a morphed entity.

Some perpetual corporations

Pfizer which was founded in 1849 remains strong as the world’s largest pharmaceutical company. Ford founded in 1903, Mercedes Benz that became operational in 1901, Daihatsu established in 1907, Datsun (now, Nissan) formed in 1914 and Toyota founded in 1934 continue to dominate the global automobile industry. AT&T, founded by Alexander Graham Bell, the inventor of telephone, in 1876 is USA’s leading telecommunications carrier despite the government engineered split into 8 companies in 1984. Ericsson, also founded in 1876, continues to be a leading European telecommunications player. Matsushita (now, Panasonic) founded in 1927 and Sony founded in 1946 are clearly two other global perpetual corporations. Indian Railways, founded in 1849 as one of the oldest railways continues to serve and thrive.

Some companies may partially divest while some may morph but their core character continues to enrich the new corporation. Merck KGgA, founded in 1668 as a pharmacy, evolved as an integrated pharmaceutical corporation, and despite certain divestments and mergers remains as a noted global pharmaceutical company. Tanabe founded in 1678 and Fujisawa founded in 1894 as two of the oldest pharmaceutical companies in Japan may have morphed into Mitsubishi Tanabe and Astellas respectively but their core capabilities continue to dominate. While IBM continues to endure the rapid changes in the technology domain, Microsoft, Google, Oracle, Samsung, TCS, Infosys could be a few other perpetual corporations in technology and electronics fields. What then makes corporations, and their core characters, perpetual?

Institutionalization of competencies

Any of the above examples mentioned above as well as several others not mentioned here point out that technology and management are the basic foundations of perpetual corporations. Continuously innovative automotive technology is an institutionalized core competence in Benz and Toyota. Just-in-time production management system is institutionalized in Toyota. Leadership development, both in businesses and individuals, is institutionalized in GE. In these firms, leaders and individuals may have invented the core technologies or core management processes but it is the capability of the leadership to institutionalize the inventive capability has been the hallmark of such acclaimed ‘best practice’ companies. How can a leader institutionalize core competencies and contribute to a company becoming a perpetual corporation?

Leaders, who look beyond

Leaders must not only grow their companies but also imbue their companies with the strength and resilience to successfully withstand the ravages of the time. This is the only true legacy that the leaders of the companies can leave behind. At first sight, a statement that leaders should look beyond the immediate would appear to be an oxymoron. Leadership is all about envisioning something which others, even managers, cannot see and creating the framework to turn the vision into reality. This definition of leadership unfortunately fits well only on select leaders even in a global context.

The widespread corporate failures, bankruptcies and frauds can be traced invariably to leadership values and styles that fail to put the interests of the companies ahead of the interests of the leaders. The fundamental covenant of all leadership must therefore be to ensure strength, solidity and strategic ability for the firm to exist in perpetuity. Leadership strategies must not only expend cash to build a rosy future but also pool cash to outlast a nasty future. How does this come about?

Leadership is about sustainability

Very often leadership is seen in terms of businesses, products and markets, and strategies to execute them. These are, however, subject to competitive dynamics. The true capability of a leader comes out when he or she develops and implements business strategies that provide sustainable competitive advantage. This arises from a clear understanding, on the part of leaders, of the forces that shape an economy, industry and the firm and creating products that the customer needs.

Successful leaders refuse to be typecast into trademark templates of strategy. Carlos Ghosn, despite his image as a ruthless cost leader, emphasized product innovation and diversification to revive Renault and Nissan. By judiciously combining strategies of innovation and diversification, specialization and customization, and integration and disintegration, product-market combinations that will stand the test of time can be created. Sustainability does not, however, get created only by clever product-market strategies.

Competencies ensure sustainability

Leadership is more about people and processes than about products and markets or even about science and technology. Products and markets, science and technology are the end products of people competencies harnessed through organizational processes. The legacy that a true leader aims to build is the spectrum of competencies in an organization. Sony, Apple and Samsung, for example, are committed to building organizational teams that constantly develop new technologies and practices.

All successful global firms understand the competency lever of sustainability not merely in terms of technology but in respect of management too. Firms in food and technology sector, for example, are able to straddle even conventional product-market segments characterized by low entry barriers with superior management. These organizations also are able to create pools of talent that ensure smooth leadership succession. Competencies should be continuously adaptive to ensure continued sustainability in the face of environmental opportunities and challenges.

Adaptive resilience

Competencies if they are not calibrated and benchmarked on a continuing basis could result in a level of corporate nonchalance that hurts sustainability. This has occurred in respect of Hindustan Lever in the detergents domain. It has happened in respect of Microsoft with respect to operating systems and search businesses. Sony was a loser for some time due to non-recognition of new technologies in the television domain. These and other firms regained competitive strengths by adapting new platforms. IBM, for example, moved away from mainframes to desktops and servers as well as consulting, thus redefining its core competencies.

The ability of a company to continuously modify or reinforce its core competencies to changing competitive dynamics strengthens its resilience. Very often, professional egos that maintain a “we-are-the- the-best” syndrome end up clouding leadership clarity on the emerging changes in competitive landscape. Leaders must therefore make professional competitiveness and open competitive architecture key ingredients of organizational culture.

Competing for career growth

The American university system is an organizational role model that calibrates professional competencies on a continuous basis. The fundamental barrier to cross over from entry level to the tenure professorial cadre through publications, patents (where applicable) and teaching record inculcates early on the motto that the aspirant has to be competent to be a successful careerist. Thereafter the opportunities and challenges of recognition through thought leadership and fundamental research continue to ignite the active minds in the university system.

In contrast to a university system, corporations tend to be introverted, with inbreeding of silo talent and rejection of superior talent from outside. The leadership has to continuously keep the organization in a state of internal and external competition on the talent dimension. A competent, competitive and collaborative talent pool makes a virtuous organization. GE under Jack Welsh not only mastered the ability to provide direct feedback to week leaders by calling a spade a spade but also ensured due equity by providing the infrastructure for leadership training for the aspirants. When leadership becomes a grassroots capability organizations achieve virtuosity in strategies as well as operations.

Strategic virtuosity

Companies look for simplistic choices in strategy, hoping that quick strategic decisions influence early positive outcomes. Inflexible decisions choosing between inventive leaps and incremental improvements, acquisitive growth and organic development, product specialization and product diversification, manufacturing integration and input outsourcing, and equity financing and debt financing, for example, are made hoping for outcomes that meet preset expectations. Many times singular strategic choices fail to ensure engineered outcomes.

Realistically however strategy is a continuous, and at times iterative and corrective, set of actions (not decisions) – a complex process that integrates shades of multiple strategies and technologies under a dominant strategic theme. A virtuous organization therefore does not look at strategy as a departmental preserve but as a mandatory qualification for the leadership team to be known by that name. Leaders in a virtuous organizations would be willing to be evaluated on their own competencies in an objective framework that combines strategic virtuosity with operational excellence and making the company ‘future perfect’.

Operational productivity

Profligate and unproductive firms lack the ability to generate cash that can help implement futuristic strategies. On the other hand, productive firms build the financial capability to implement virtuous strategies. Productivity is an all-encompassing concept covering development to delivery. By spending less for earning more and by balancing long gestation projects with short gestation earners companies establish a virtuous cash cycle.

Industry leading productivity combines efficiency with creativity, which is a complex task. Creativity is driven by knowledge, passion and serendipity. Productivity is driven by simplification, repetitiveness and learning improvements. Creativity is difficult to measure but the steps that are encompassed by creativity can be measured. Continuous value engineering and project management approaches can help firms discover the synergy of productivity and creativity.

Future perfect

By combining strategic virtuosity with operational productivity leaders can set a winning combination for firms. True leadership competencies are not confined to delivering results in the current performance horizon; rather they are determined also by a passion and ability to plan and execute for uncharted territories. Conglomerates and diversified companies have typically grown by having leaders who could conceptualize and establish projects in new business horizons. Such leaders have an open mindscape that accepts new skill sets and updates native talent.

Leaders need to have a pioneering spirit because they need to not only lead their companies into newer technologies but also manage change in a continuous manner. An ability to appreciate new technologies and bet on them, in research, manufacturing and logistics is a critical attribute of future perfect leaders. Leadership requires taking calculated bets on future while consolidating the present for supporting future investments.

Institutionalization of the several leadership traits discussed in this paper would help corporations become institutions for perpetuity.

Posted by Dr CB Rao on September 13, 2009

Sunday, September 6, 2009

Management by Metrics: From Organizational Escapism to Corporate Competitiveness

What cannot be measured cannot be designed; nor can its performance be monitored. So is the case with organizations which are the instruments of corporate performance. Yet, it is paradoxical to see many managers and leaders who believe that not all of organizational performance can be quantitatively measured due to the preponderant human element and its emotional component that are involved. This view represents a mode of organizational escapism that erodes corporate competitiveness. On the contrary, leaders and managers need to accept management by metrics (MbM) as a core value as a means to enhance corporate competitiveness.

Defining MbM

Management by Metrics, or MbM for short, is the author’s prescription of a managerial approach that believes that the science of metrology can be applied to the practice of management. If weather around our planet can be forecast with precision or satellites can be landed with perfection on distant planets there is no reason why human behavior in organizations cannot be forecast and managed for optimal performance.

Employees and managers need to understand that they come together in organizations to achieve corporate wealth as a corollary of which individual prosperity is also assured. Once this common understanding is in place in an organization, the perspective for measurement, be it of talent, skill or performance of each and every human resource in an organization, is well set. It is the responsibility of the chief executive officer and chief talent officer of an organization to institutionalize such a perspective.

Metrology establishes specification when an unknown material is characterized. It also compares the profile of a designed product with respect to its specification. The setting of specifications, the sophistication of the instrument, the cleanliness of the product and the integrity of the measurement process determine the accuracy of measurement. In organizations, the definition of metrics, the digitization of information, the transparency of transaction and the equity of performance analysis determine the perfection of management.

Infinite ambition; finite vision

MbM starts from the top. Every corporation needs a vision and a leader to articulate the vision. Over time, however, the task of developing a vision has become a play of strategic gamesmanship or philosophical meandering. A vision that is so individualistic that it ignores all competitive dynamics or a vision that is so general that it fits every company in the industry can hardly qualify as a meaningful vision. Neither a global Toyota nor a local Reliance became what each of them is today by envisioning international or national leadership when each was a fledgling entity. They became what they are today by defining successive horizons of growth based on measured commitments and measurable achievements.

Leadership has a major role in encapsulating its vision in quantitative parameters that are sensible, logical and achievable. An Indian software company may motivate itself by declaring that it would be the next Microsoft. If, however, it understands that the only way it can become a new Microsoft is by developing and commercializing a new operating system that beats Windows 7 or its upgrade by, say, 2015 it may discover how stiff the challenges of translating a dream into a reality would be. The system of metrics imposes sanity, discipline and accountability on leadership, which is the starting point of any constructive endeavour.

Metrics which are not backed by methodological rigor are self-defeating and counter-productive. MbM requires computational leaders who understand goal setting in the context of what it takes to achieve a metric. Indian government may find it politically inspiring to say that its goal is to make India a larger economic power than China. If, however, the government seeks to define the intent with well planned numbers, it may discover that the Indian economy has to grow at twice the pace of China’s growth rate consistently over the next twenty years to make that intent achievable.

MbM therefore requires that the language of metrics is logical and universal within an organizational setting and its environmental context, with a conceptual discipline that flows from the top and a computational rigor that springs from the bottom. Prior to expressing the vision in the form of a metric a significant amount of work needs to be carried out by the leaders and the managers to play out different scenarios, with applicable inputs and outputs in each case and arrive at the visionary quantitative expression. It may be expedient but certainly not ephemeral to articulate a vision without appropriate groundwork which can stand the test of time.

Metrics in structure, strategy and execution

A vision needs a structure and strategy to execute. Structure is a finite form of an organization with a finite number of managerial points, each with an applicable finite span of control to execute the strategy. Strategy itself is a sequential and parallel cluster of projects to achieve end goals with applicable resources. Setting out to achieve a vision without quantification of strategy, structure and execution is bound to end in failure, or at best in mixed results. Achievement of vision therefore must start with a complete listing of strategic metrics and structural metrics that are essential to support execution.

Aspirations set in just a few domains, such as a product plan or a sales plan cannot constitute a total strategic plan. Strategy has to be multi-component, covering not only the three core functions of research, manufacturing and also the enabling functions of materials, quality, information technology, finance, project engineering and maintenance, to quote a few. A count of all the organizational domains that play a role in strategy formulation and execution is the starting point in the strategic planning process, and integrating such domains in the strategic plan is the essential requirement for coordinated resource allocation and execution. A typical five year strategic plan that is inclusive would take at least six months to formulate. A company would need to start work in October to unveil a strategic plan from the April of the next year.

Linearity in structural design is the bugbear of corporations. Strategic metrics evolve and change over time. Year over year increases in manpower counts are rarely called for but are usually resorted to. Talent and skill metrics vary with strategy and time which means that human resources have to be retooled and redeployed to deliver changing metrics. Organizational design that is contemporaneous with changing needs is a key metric of successful corporations. Here again, an ossified leadership structure is an impediment for flexible and dynamic organizational metrics. Leadership structure has to constantly change to lead business variation and maximization.

Language of metrics

MbM is not about plain numbers or descriptive statistics. The core of MbM is a system of time-scaled and indexed metrics. In human endeavor everything except time can be augmented or recreated. Adding a timeline to every project, initiative and activity and even every statement is the core foundation of MbM. A fundamental change in organizational and professional culture which ensures that timelines are well thought-out in discussions, planning and are well respected in execution is the sine qua non of successful MbM.

Plans usually are annual and budgets monthly. Not all strategies are, however, appropriately planned or monitored in such standard lengthy time units. MbM requires that organizations pursue multiple time units to plan and monitor different activities. Daily production, sales and cash generation are, for example, extremely time sensitive metrics which need to be compiled and reviewed at applicable levels without fail. Similarly all non-repetitive initiatives should be treated as projects and monitored as per relevant milestones. Monthly budgets and annual plans help assess directional progress but time-sensitive reviews matter more for assured growth.

Metrics can be absolute or relative. Absolute metrics rarely are helpful; they can be often misleading. All metrics have to be indexed to be meaningful. Energy consumption, for example, has to be linked to production output to be reflective of efficiency in energy usage. Employee costs have to be indexed to cost of production to establish efficiency of value addition. Process yields have to be benchmarked with maximal theoretical yields. In sales force related businesses sales rather than per person sales productivity would be more relevant. Time series analysis has to deploy base year indexation.

Metrics can be physical or financial. Both have their applicability. Although common wisdom is that financial results are more relevant as financials often drive sustainability, physical metrics which are more reflective of efforts and outcomes are as important as financial metrics which are reflective of viability. Generation and analysis of financial metrics have to differentiate intrinsic performance from external implications. For example, global companies have to view the metrics with and without the impact of external variables such as foreign exchange rates. Similarly, each revenue or profit variance has to be judged in terms of volume related variance and price related variance.

Information technology can play a major role with Finance to generate information systems which are incisive and extensive. Corporations would need to supplement monthly reporting of absolute income and expenditure statement and balance sheet items with a comprehensive book of indexed metrics. Transparent analysis of problems and rewards of performance helps in more sustainable growth.

Universality of metrics

Many companies believe that there exist qualitative aspects of human behavior and management that cannot be quantified. Nothing can be further from truth. Can there be an index for talent in an organization? Can there be individual metrics when cross-functional performance is involved? How does one identify value addition across levels of hierarchy? How does one quantify the culture of an organization? The answer to all these, and such other questions can be found in the affirmative with adaptive analysis.

Well designed tests of knowledge can index the talent pool in an organization not only at the levels of entry but also reassess as the talent pool progresses in an organization. Designs of cross-functional teams with clarity in domain activities as well as service level agreements between domains will help capture individual metrics even in team context. Letting professionals at different levels of hierarchy make individual presentations and enabling 360 degree feedback would crystallize value addition across hierarchy. Periodic surveys of organizational culture can quantify the culture as well as morale of an organization. Various collateral markers like suggestions for improvement, intellectual property applications, employee attrition and referral indexes can reflect on the culture of an organization.

In an organization, decisions are as important as transactions. Management processes are as vital as operational systems. Quite often, measurements are directed only at transactional and operational matters. Decision making efficiency and effectiveness of managerial processes are rarely covered in metrics. MbM requires that vested interests in organizations are eliminated by a universal coverage with metrics of all activities of an organization.

Leaders and managers must be willing to subject their leadership and managerial effectiveness to a transparent system of management by metrics as much as they would like their businesses, operations and subordinates to be subject to quantitative analysis of gross revenue and net profitability. In addition, all metrics must be in terms of ratio analysis or indexation, with applicable time scales, as discussed herein to develop meaningful insights. Leaders should institutionalize a collaborative digital information highway in their organizations by enabling key departments such as cost accounting, information technology, industrial engineering, internal audit and strategic planning to develop the science and practice of metrics relevant for the organizations.

Posted by Dr CB Rao on September 6, 2009