The global debris of business failures is piling up, but the reasons given for companies going belly-up never seem to change. By Leon Gettler
Some blame interest rates, others cite margins and expense ratios. Some claim that they expected revenue streams to ramp up a lot faster. There are those who say they did not have enough working capital or preserve enough cash in the good times to cover themselves when things turned bearish. A few simply say they pursued the wrong strategy/market/product range/customer group. Other excuses include: managers being badly trained, ignorance of legal changes, and time pressures. Acts of deceit, fraud and rubbery accounting combined with people who deceive themselves that things are other than what they seem to be are there too. In short, managers and executives are blaming anything and everyone but themselves for the global harvest of business failures.
Soviet technocrats, convinced that people were “created” by economics and not the other way around, tried to engineer uncertainty out of existence by imposing rigid and brutal controls.
But as former KPMG chairman David Crawford has often said, there is no new way of going broke. Management failure is due to human frailty, sometimes of Dostoyevskian proportions. More often than not, it is about fear, greed, hubris and a profound lack of self-awareness. Everything else is just a consequence.
Sam Quigley, a long-time corporate doctor and turnaround specialist, says the warning signs are already there when he arrives at a sick company. First are the management layers separating the boss from the other parts of the organisation. The more nervous the leader gets, the more layers there are. Related to this are costs. Top-heavy administration means higher overheads, throwing ratios out of whack and dragging down earnings.
Another danger signal is the proliferation of personal empires. The results are the making of ill-informed decisions, the stifling of individual creativity because good ideas never reach the surface, and the politicisation of internal processes.
Quigley says executives and managers always come up with the same excuses: “They will give you a swag of physical reasons for why they went belly-up. But in giving you all those excuses, there is a human failing to do anything about the problem.”
“And I have never heard a chairman or a chief executive say I came to recognise that I was the problem.”
As one of several ex-chief executives in the corporate recovery team at Pelorus, he should know. Quigley himself has been called in to fix several companies and get them ready for sale. These have included Associated Pulp & Paper Mills for North, Strarch International for Fletcher Challenge and the Jennings Group.
Pelorus named after the instrument used by navigators to set the direction for their ships charges up to $2 million for a year’s work overhauling sick companies, and about half the fee is contingent on the outcome. Its clients have included Austrim Nylex, the troubled conglomerate that was built by Alan Jackson.
What underlies business failure?
Quigley says fear is the biggest human factor underpinning failure. It is reflected in the behavior of every ambitious manager on the corporate ladder who is struck by self-doubt. And you hear it in the tone of voice of chief executive who, when confronted with a world that is scarier and more unpredictable than ever before, will privately admit that he does not have all the answers.
It is about fear that something they have created an idea, a plan, a product will be shot down. It is about fear of change. Fear of losing control. Fear of being found out. And it is this fear that unleashes forces that distort reality, choke creativity and breed risk-aversion. As Lucio tells his friend Claudio’s sister in Shakespeare’s Measure for Measure: “Our doubts are traitors and make us lose good we oft might win by fearing to attempt.”
Quigley says: “Underperforming organisations always start to underperform after the most influential person is gripped by fear. The more senior a person becomes, the more responsibilities they are given. Then they reach a point where they start doubting their own ability to do the job and the behavior pattern changes. And when there is fear, the chief executive says I know I’m scared but I can’t let anyone else see it.”
That is when the layers begin to appear as executives and directors put up buffers to stop messages they do not want to hear from getting through. This produces an even greater lack of self-awareness and critical analysis. In an age when whole industries are up for grabs, when careers are hanging in the balance, buffer zones are appearing everywhere.
A recent study by the listed recruitment firm Hamilton James & Bruce found that business leaders insulated by layers of administration were out of touch with what was happening at the coalface. About 90% of chief executives said morale was “excellent” or “good”, yet only 41% of their managers agreed. Not one chief executive thought morale had hit rock bottom, yet 20% of managers said it had. One can assume that the contrast between the managers and employees perceptions would be just as striking.
Added to this is the uncertainty that comes in a market characterised by ambiguity and a growing range of imponderables, where supposedly foolproof strategies turn out to be badly flawed. In 1998, the market loved the global strategy of National Australia Bank’s then chief executive officer, Don Argus. NAB’s global strategy fell apart when its centrepiece and mortgage home subsidiary HomeSide imploded and lost $3.9 billion of value because it was operating in a home-lending market fundamentally different to the one its owners understood. Now Argus’s successor, Frank Cicutto, is cutting jobs and branches and going back to basics.
Peter Smedley was regarded by many as a textbook example of superb management as he moved from the oil company Shell to become head of the financial services company Colonial, then to the top job at the health-care and logistics conglomerate Mayne Group. But Mayne’s performance is now provoking questions as to whether his model can adapt to an industry more complex and fuzzier than oil production because it is dependent on relationships with doctors who refer patients.
The fearful paradigm
The struggling conglomerate Pacific Dunlop is a good example of the way fear crushes creativity. In the early 1990s, the then managing director Philip Brass and the then chairman John Gough decided PacDun’s portfolio was not suited to the low-growth, low-inflation, margin-crunching environment. Their response was to buy the Petersville business. The rationale was that PacDun’s expertise in manufacturing, brands and distribution, and relationships with big retailers, could be extended to food. But Petersville turned out to be in far worse shape than expected and required more effort to turn around. The market turned on PacDun. Rattled, the conglomerate quit food, and with the sale of that division went its growth opportunity. Pacific Dunlop had made its play and blown it. Earlier this year, it had to jettison its other manufacturing divisions and change its name to Ansell, the one remaining business that retained any prospects of growth.
The story, and there are similar tales around, raises questions on risk and opportunity. No manager wants to fail, but business is about taking risks. Do you play it safe or do you play to win? No company can win by refusing to take a chance; and no business ever cleaned up in the market by being just like its competitors.
Soviet technocrats, convinced that people were “created” by economics and not the other way around, tried to engineer uncertainty out of existence by imposing rigid and brutal controls. All they managed to do was to kill off any chance of social progress and entrepreneurship.
Entrepreneurs feed off uncertainty and change. Recognising opportunities that others don’t, they exploit what economists call “disequilibrium conditions” that create high-margin, high-growth opportunities. Some disequilibriums are created by technology that others create Bill Gates and Rupert Murdoch never invented any technology, they are entrepreneurs and risk-takers with unshakeable self-belief and some are created by changes in sociological conditions.
To quote economist John Maynard Keynes: “If human nature felt no temptation to take a chance there might not be much investment as a result of cold calculation.” And, whatever the outcome, no one ever embarked on a risky venture in the expectation that it would fail.
Richard Searle of the Mount Eliza Business School says many business leaders confuse recklessness with being decisive. “Decisiveness is in the implementation of a decision with boldness, resources, speed and energy. But, being quick to make a decision is just reckless,” Searle says. “What is commendable in the implementation is folly in the formulation.”
As director of the Negotiation and Decision-Making program at Mount Eliza, Searle runs workshops in which situations are recreated that require managers to make judgment calls. When they are surveyed after the workshops, the managers often reveal an exaggerated view of their own brilliance. At the same time, they discount the merits of other parties.
It is a bad sign. When people formulate strategies with a sense of omnipotence they are more likely to fail. They do not heed warnings that might make them reconsider. “The successful ones are the ones who seek disconfirming voices and who listen to weak signals,” Searle said. “Those who listen only to their own counsel and who don’t seek disconfirming points of view come a cropper, and they come a cropper spectacularly.”
Coming the cropper
On the political front, Jeff Kennett and Paul Keating are two examples of the fall from grace through unbridled narcissism.
In the corporate world, one of the more spectacular recent examples was the failed telecommunications company One.Tel. Company management and the workforce inhabited different worlds.
Gail Drummond, a national organiser with the Community and Public Sector Union, said One.Tel managers were joining the union when the company was falling apart simply to get advice on what they should tell employees. “They weren’t being given any direction from higher up, so they came to us,” Drummond says.
In his book Rich Kids, author Paul Barry reveals how One.Tel founder Jodee Rich refused to listen. When a call centre manager told him there was a crisis, with calls backed up and attrition rates of 100% or more, Rich replied “Don’t be a victim” and “Why don’t you focus on the positives?”. The company’s annual report also managed to avoid using the word “loss” in its first 37 pages. No mean feat when $291.1 million had just gone down the gurgler. The report was sprinkled with such feel-good terminology as “achievement”, “growth” and “exciting opportunities.” One top finance specialist turned down the chance to work at One.Tel when he asked for management accounts and business plans and was told “That’s not the way we do things”.
Don McLay, who is establishing Australia’s first activist fund aiming at undervalued and underperforming companies, says management foul-ups are usually a result of bad governance. “Management failure is the product of the board’s failure to manage the manager,” he says.
“There is no right or wrong strategy, it’s just about different strategy, and that sometimes has unexpected outcomes. We know the risks go up when the checks and balances are removed. If the company is following a particular strategy, the managers need to have performance indicators to know whether they are on track.”
Can a culture of endemic management failure be turned around? Corporate doctors agree that when things go awry, staff tend to focus on getting on with the job.
One human-resources specialist says: “It happens despite management because, at the end of the day, they know what’s best for their survival and they don’t tackle issues that are beyond their control.” The key to change is to involve all levels of the organisation and maintain momentum until change is ingrained in the system.
Pelorus adopts a “business renovation” program in which the shop floor and management work together to identify support relationships between, for example, marketing, IT and finance, and to identify all interdependencies. Multi-function teams are then established and people start seeing the effect that each link has on earnings.
Processes that do not add value are eliminated and ratios are improved. A core team of people from across the organisation, elected by secret ballot, starts benchmarking key drivers. It usually identifies the non-value-adding parts. It is a radical approach in which employees, in effect, vote other employees out of a job. However, according to Quigley, it can be implemented in stages, with full union support.
The aim is to have employees taking “ownership” of the organisation.
Enron: One for the books
It was not that long ago that Enron’s brand of radicalism was hailed as a management triumph. A boring power company had turned itself into a global trading entity that used complex derivative instruments to enter new markets, like broadband capacity and water treatment. A flood of books hailed it as the epitome of brilliant management. One of the most prominent was Leading the Revolution by Gary Hamel. “As much as any company in the world, Enron has institutionalised a capacity for perpetual innovation,” Hamel wrote. “No wonder Fortune magazine named Enron America’s most innovative company for five years running.”
Enron filed for bankruptcy the following year, burdened by bad investments, piles of debt and dubious accounting a textbook example of management failure.
Hubris and the fall of Westpac
Westpac was once Australia’s biggest and strongest bank, but it fell apart and became a financial cot-case in the mid-1980s and into the 1990s. Blinded by hubris typified by its corporate yacht in Sydney harbor and hobbled by the incompetence of management and directors, it ignored fundamental principles that are the cornerstones of every bank worldwide: sound judgment of credit quality, pricing for risk, and knowing what direction customers and markets are taking. And not trying to take over the world. Since deregulation it had worked hard to stay ahead of the pack without really seeing where it was going.
Westpac had global ambitions. But it was so focused on market share that it forgot the most important banking rule: how likely is it that this loan will be repaid? There were many mistakes. One of its biggest was the failure to implement sufficient credit controls. Westpac had no system for tracking the quality of its loans and, as a result, the bank and its subsidiaries built a loan book that was the banking equivalent of Friday the 13th: Abe Goldberg’s Linter Group, Russell Goward’s Westmex Ltd, Adsteam, which had set in place a structure that few understood, and the property company Hooker, run by disgraced entrepreneur George Herscu.
What nearly destroyed the bank, however, was AGC. The bank’s finance arm got itself caught up in the asset bubble of the late 1980s and invested in disastrous property developments. Even worse, it was picking up loans that Westpac itself had turned down. Worse still, AGC was playing the role of developer instead of financier.
Still, Westpac continued to ignore the warnings. As far back as 1986, the British management consultant LEK reported that the bank’s global strategy made no sense. Coopers & Lybrand traced discrepancies in the bank’s foreign exchange transactions caused by its own forex dealers ripping it off which subsequently led to the notorious “Westpac letters”.
As Westpac’s former chief executive, Bob Joss, told Edna Carew in her book The Bank that Broke the Bank, deregulation was the big test and Westpac bombed.
“People were not prepared for what life would be like in that real competitive jungle,” Mr Joss said. “It was like letting your house cat out in the jungle.”