Why You Can’t Invest Like Warren Buffett – and Shouldn’t Try

Why You Can’t Invest Like Warren Buffett – and Shouldn’t Try

by | Nov 19, 2014 | Current Affairs, Leadership

Warren Buffett is the famous head of Berkshire Hathaway.  Famous because he has made himself a billionaire several times over, and made his investors excellent returns.

Berkshire Hathaway doesn’t really make anything. Rather, it owns companies that make things, or supply services.  So when you buy a share of BRK you are actually buying a piece of the companies it owns, and a piece of the over $116B it invests in equities of other public companies from the cash flow of its owned entities.

Over the last decade the value of a share of BRK has increased 149%.  Pretty darn good, considering the DJIA (Dow Jones Industrial Average) has only increased 64%, and the S&P 500 69%, in the same time period.  So for long-term investors, putting your money with Mr. Buffett would have done more than twice as good as buying one of these leading indices.

For this reason, many investors recommend looking at what Berkshire Hathaway buys in its equity portfolio, and then buying those same stocks.  On the face of it, seems smart.  “Invest like Warren Buffet” one might say.

Warren Buffett

But that would be a bad idea.  Berkshire Hathaway’s value has little to do with the publicly traded equities it owns.  In fact, those holdings may well be a damper on BRKs valuation.

Of that giant portfolio, 4 equities make up 58% of the total holdings.  Let’s look at how those have done the last decade:

  • American Express (AXP,) about 10% of the portfolio, is up 83%
  • Coke (KO,) about 15% of the portfolio, is up 109%
  • IBM (IBM,) about 10% of the portfolio, is up 64%
  • Wells Fargo (WFC,) nearly 25% of the portfolio) is up 71%

Note – not one of these stocks is up anywhere near as much as Berkshire Hathaway.  There is no mathematical formula which one can use to multiply the gains on these stocks and interpret that into an overall value increase of 149%!

There are several other large, well known companies in the Berkshire Hathaway portfolio which have large (millions of shares being held) but lesser percentage positions:

  • ExxonMobil (XOM) up 86%
  • General Electric (GE) down <26%>
  • Proctor & Gamble (PG) up 61%
  • USBancorp (USB) up 40%
  • USG (USG) down <30%>
  • UPS up 24%
  • Verizon up 38%
  • Walmart up 61%

This is not to say that Berkshire Hathaway has owned all these stocks for 10 years.  And, this is not all the portfolio.  But it is well known that Mr. Buffett is a long-term investor who eschews short-term trading.  And, these are at least randomly representative of the portfolio holdings.  So by buying and selling shares at different times, and using various trading strategies, BRK’s returns could be somewhat better than the performance of these stocks.  But, again, there is no arithmetic which exists that can turn the returns on these common stocks into the 149% gain which Berkshire Hathaway has achieved.

Simply put, Berkshire Hathaway makes money by doing things that no individual investor could ever accomplish.  The cash flow is so enormous that Mr. Buffett is able to make deals that are not available to you, me or any other investor with less than $1B (or more likely $10B.)

When the banks looked ready to melt down in 2008 GE was in a world of hurt for money to shore up problems in its GE Capital unit.  When GE went out to raise $12B via a common stock sale it turned to Mr. Buffett to lead the investment.  And he did, taking a $6B position.  For being so gracious, in addition to GE shares Berkshire Hathaway was able to buy $3B in preferred shares with a guaranteed dividend of 10%!  Additionally, Mr. Buffett was given warrants allowing him to buy up to $3B of GE shares for a fixed price of $22.25 per share regardless of the price at which GE was trading.  These are what are called “sweeteners” in the financial trade.  They greatly reduce the risk on the common stock purchase, and simultaneously dramatically improve the returns.

These “sweeteners” are not available to us average, ordinary investors.  And this is critical to understand.  Because if someone thought that Mr. Buffett made all that money by being a good stock picker, that someone would be operating on the wrong assumption.  Mr. Buffett is a very good deal maker who gets a lot more when making his investments than we get.  He can do that because he can move so much money, so quickly.  Faster even than any large bank.

Take, for example, the recent deal for Berkshire Hathaway to acquire the Duracell battery business from P&G.  Where most of us (individuals or corporations) would have to fork over the $3B that P&G wanted, Berkshire Hathaway can simply give back P&G shares it has long held.  By exchanging those shares for Duracell, Berkshire avoids paying any tax on the stock gains – thus using P&G shares in its portfolio as a currency to buy the battery business with pre-tax dollars rather than the after-tax dollars the rest of us would have to put up.  In a nutshell, that saves at least 35%.  But, beyond that, the deal also allows P&G to sell Duracell without having to pay tax on the assets from their end of the transaction, saving P&G 35% as well.  To make the same deal, any other buyer would have been required to pay a lot more money.

Acquiring Duracell Berkshire gets 100% of another slow-growth but very good cash flow company (like Dairy Queen, Burlington Northern Rail, etc.) and does so at a very favorable price.  This deal adds more cash flow to BRK, more assets to BRK, and has nothing to do with whether or not the stocks in its public equity portfolio are outperforming the DJIA or S&P.

This in no way diminishes Berkshire Hathaway, or Mr. Buffett.  But it points out that many people have very bad assumptions when it comes to understanding how Mr. Buffett, or rather Berkshire Hathaway, makes money.  Berkshire Hathaway is not a mutual fund, and no investor can make a fortune by purchasing common shares in the companies where Mr. Buffett invests.

Berkshire Hathaway is an extremely complicated company, and deep in its core it is an institution that has a tremendous understanding of financial instruments, financial markets, tax laws and risk.  It has long owned insurance companies, and its leaders understand actuarial tables as well as how to utilize complex financial instruments and sophisticated tax opportunities to reduce risk, and raise returns, on deals that no one else could make.

By maximizing cash flow from its private holdings the Berkshire Hathaway constantly maintains a very large cash pool (currently some $60B) which it can move very, very quickly to make deals nobody, other than some of the largest private equity pools, could obtain.

The process by which Berkshire Hathaway decides to buy, hold or sell any security is unique to Berkshire Hathaway.  The size of its transactions are enormous, and where we as individuals buy shares by the hundreds (the old “round lot,”) Berkshire buys millions. What stocks Berkshire Hathaway chooses to buy, hold or sell has much more to do with the unique situation of Berkshire Hathaway than stock price forecasts for those companies.

It is a myth for an individual investor to think they could invest like Mr. Buffett, and trying to emulate his returns by emulating the Berkshire portfolio is simply unwise.

 

 

Out with a Whimper – HP, B of A, Alcoa and the DJIA

by | Sep 12, 2013 | General, In the Whirlpool, Leadership

This week the people who decide what composes the Dow Jones Industrial Average booted off 3 companies and added 3 others.  What's remarkable is how little most people cared!

"The Dow," as it is often called, is intended to represent the core of America's economy.  "As the Dow goes, so goes America" is the theory.  It is one of the most watched indices of all markets, with many people tracking how much it goes up, or down, every trading day.  So being a component of the DJIA is a pretty big deal.

It's not a good day when you find out your company has been removed from the index.  Because it is a very public statement that your company simply isn't all that important any more.  Certainly not as important as it once was!  Your relevance, once considered core to representing the economy, has dissipated.  And, unfortunately, most companies that fall off the DJIA slip away into oblivion.

I have a simple test.  Do like Jay Leno, of Tonight Show fame, and simply ask a dozen college graduates that are between 26 and 31 about a company.  If they know that company, and are positively influenced by it, you have relevancy.  If they don't care about that company then the CEO and Board should take note, because it is an early indicator that the company may well have lost relevancy and is probably in more trouble than the leaders want to admit.

Ask these folks about Alcoa (AA) and what do you imagine the typical response?  "Alcoa?"  It is a rare person under 40 who knows that Alcoa was once the king of aluminum — back when we wrapped food in "tin foil" and before we all drank sodas and beer from a can.  To most, "Alcoa" is a random set of letters with no meaning – like Altria – rather than its origin as ALuminum COrporation of America. 

But, its not even the largest aluminum company any more.  Alcoa is now 3rd.  In a world where we live on smartphones and tablets, who really cares about a mining company that deals in commodities?  Especially the third largest with no growth prospects?

Speaking of smartphones, Hewlett Packard (HPQ) was recently considered a bellweather of the tech industry.  An early innovator in test equipment, it was one of the original "Silicon Valley" companies.  But its commitment to printers has left people caring little about the company's products, since everyone prints less and less as we read more and more off digital screens. 

Past-CEO Fiorina's huge investment in PCs by buying Compaq (which previously bought minicomputer maker DEC,) committed the rest of HP into what is now one of the fastest shrinking markets.  And in PCs, HP doesn't even have any technology roots.  HP is just an assembler, mostly offshore, as its products are all based on outsourced chip and software technology. 

What a few years ago was considered a leader in technology has become a company that the younger crowd identifies with technology products they rarely use, and never buy.  And lacking any sort of exciting pipeline, nobody really cares about HP.

Bank of America (BAC) was one of the 2 leaders in financial services when it entered the DJIA.  It was a powerhouse in all things banking.  But, as the mortgage market disintegrated B of A rapidly fell into trouble.  It's shotgun wedding with Merrill Lynch to save the investment bank from failure made the B of A bigger, but not stronger. 

Now racked with concerns about any part of the institution having long-term success against larger, and better capitalized, banks in America and offshore has left B of A with a lot of branches, but no market leadership.  What innovations B of A may have had in lending or derivatives are now considered headaches most people either don't understand, or largely despise.

These 3 companies were once great lions of their industries.  And they were rewarded with placement on the DJIA as icons of the economy.  But they now leave with a whimper. Their values so shredded that their departure makes almost no impact on calculating the DJIA using the remaining companies.  (Note: the DJIA calculation was significantly impacted by the addition of much higher valued companies Nike, Goldman Sachs and Visa.)

If we look at some past examples of other companies removed from the DJIA, one should be skeptical about the long-term future for these three:

  • 2009 – GM removed due to bankruptcy
  • 2004 – AT&T and Kodak removed (both ended up in bankruptcy)
  • 1999 – Goodyear, Union Carbide, Sears
  • 1997 – Westinghouse, Woolworths
  • 1991 – American Can, Navistar/International Harvester

Any company can lose relevancy.  Markets shift.  There is risk incurred by focusing on the status quo (Status Quo Risk.) New technology, regulations, competitors, business practices — innovations of all sorts — enter the market daily.  Being really good at something, in fact being the worlds BEST at something, does not insure success or longevity (despite the popularity of In Search of Excellence). 

When markets shift, and your company doesn't, you can find yourself without relevancy.  And with a fast declining value.  Whether you are iconic – or not.

4 Myths and 1 Truth About Investing

by | Oct 18, 2012 | Investing, Trends

Today is the 25th anniversary of the 1987 stock market crash that saw the worst ever one-day percentage decline on Wall Street.  Worse even than during the Great Depression.  It’s a reminder that the market has had several October “crashes;” not only 1929 and 1987 but 1989, 1998, 2001 and 2007.

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For some people this serves as a reminder to invest very, very cautiously.  For others it is seen as market hiccups that present buying opportunities. For many it is an admonition to follow the investing advice of Mark Twain (although often attributed to Will Rogers) and pay more attention to the return of your money than the return on your money.

I’ve been investing for 30 years, and like most people I did it pretty badly.  For the first 20 years the annual review with my Merrill Lynch stock broker sounded like “Kent, why is it I’m paying fees to you, yet would have done better if I simply bought the Dow Jones Industrial Average?”  Across 20 years, almost every year, my “managed” account did more poorly than this collection of big, largely dull, corporations.

A decade ago I dropped my broker, changed my approach, and things have gone much, much better.  Simply put I realized that everything I had been taught about investing, including my MBA, assured I would have, at best, returns no better than the overall market.  If I used the collective wisdom, I was destined to perform no better than the collective market.  Duh.  And that is if I remained unemotional and disciplined – which I didn’t assuring I would do worse than the collective market!

Remember, I am not a licensed financial advisor.  Below are the insights upon which I based my new investing philosophy.   First, the 4 myths that I think steered me wrong, and then the 1 thing that has produced above-average returns, consistently.

Myth 1 – Equities are Risky

Somewhere, somebody came up with a fancy notion that physical things – like buildings – are less risky than financial assets like equities in corporations.  Every homeowner in America now knows this is untrue.  As does anybody who owns a car, or tractor or even a strip mall or manufacturing plant.  Markets shift, and land and buildings – or equipment – can lose value amazingly quickly in a globally competitive world.

The best thing about equities is they can adapt to markets.  A smart CEO leading a smart company can change strategy, and investments, overnight.  Flexible, adaptable supply chains and distribution channels reduce the risk of ownership, while creating ongoing value.  So equities can be the least risky investment option, if you keep yourself flexible and invest in flexible companies.

Hand-in-glove with this is recognizing that the best equities are not steeped in physical assets.  Lots of land, buildings and equipment locks-in the P&L costs, even though competitors can obsolete those assets very quickly.  And costs remain locked-in even though competition drives down prices.  So investing in companies with lots of “hard” assets is riskier than investing in companies where the value lies in intellectual capital and flexibility.

Myth 2 – Invest Only In What You Know

This is profoundly ridiculous.  We are humans.  There is infinitely more we don’t know than what we do know.  If we invest only in what we know we become horrifically non-diversified.  And worse, just because we know something does not mean it is able to produce good returns – for anybody!

This was the mantra Warren Buffet used to turn down a chance to invest in Microsoft in 1980.  Oops. Not that Berkshire Hathaway didn’t find other investments, but that sure was an easy one Mr. Buffett missed.

To invest smartly I don’t need to know a lot more than the really important trends.  I don’t have to know electrical engineering, software engineering or be
an IT professional to understand that the desire to use digital mobile
products, and networks, is growing.  I don’t have to be a bio-engineer to know that pharmaceutical solutions are coming very infrequently now, and the future is all in genetic developments and bio-engineered solutions.  I don’t have to be a retail expert to know that the market for on-line sales is growing at a double digit rate, while brick-and-mortar retail is becoming a no-growth, dog-eat-margin competitive world (with all those buildings – see Myth 1 again.)  I don’t have to be a utility expert to know that nobody wants a nuclear or coal plant nearby, so alternatives will be the long-term answer.

Investing in trends has a much, much higher probability of making good returns than investing in things that are not on major trends.  Investing in what we know would leave most people broke; because lots of businesses have more competition than growth.  Investing in businesses that are developing major trends puts the wind at your back, and puts time on your side for eventually making high returns.

Oh, and there are a lot fewer companies that invest in trends.  So I don’t have to study nearly as many to figure out which have the best investment options, solutions and leadership.

Myth 3 – Dividends Are Important to Valuation

Dividends (or stock buybacks) are the admission of management that they don’t have anything high value into which they can invest, so they are giving me the money.  But I am an investor.  I don’t need them to give me money, I am giving them money so they will invest it to earn a rate of return higher than I can get on my own.  Dividends are the opposite of what I want.

High dividends are required of some investments – like Real Estate Investment Trusts – which must return a percentage of cash flow to investors.  But for everyone else, dividends (or stock buybacks) are used to manipulate the stock price in the short-term, at the expense of long-term value creation.

To make better than average returns we should invest in companies that have so many high return investment opportunities (on major trends) that the company really, really needs the cash.  We invest in the company, which is a conduit for investing in high-return projects.  Not paying a dividend.

Myth 4 – Long Term Investors Do Best By Purchasing an Index (or Giant Portfolio)

Stock Index chart 10.20.12

Go back to my introductory paragraphs.  Saying you do best by doing average isn’t saying much, is it?  And, honestly, average hasn’t been that good the last decade.  And index investing leaves you completely vulnerable to the kind of “crashes” leading to this article – something every investor would like to avoid.  Nobody invests to win sometimes, and lose sometimes. You want to avoid crashes, and make good rates of return.

Investors want winners.  And investing in an index means you own total dogs – companies that almost nobody thinks will ever be competitive again – like Sears, HP, GM, Research in Motion (RIM), Sprint, Nokia, etc. You would only do that if you really had no idea what you are doing.

If you are buying an index, perhaps you should reconsider investing in equities altogether, and instead go buy a new car. You aren’t really investing, you are just buying a hodge-podge of stuff that has no relationship to trends or value cration. If you can’t invest in winners, should you be an investor?

1 Truth – Growing Companies Create Value

Not all companies are great.  Really.  Actually, most are far from great, simply trying to get by, doing what they’ve always done and hoping, somehow, the world comes back around to what it was like when they had high returns.  There is no reason to own those companies.  Hope is not a good investment theory.

Some companies are magnificent manipulators.  They are in so many markets you have no idea what they do, or where they do it, and it is impossible to figure out their markets or growth.  They buy and sell businesses, constantly confusing investors (like Kraft and Abbott.)  They use money to buy shares trying to manipulate the EPS and P/E multiple.  But they don’t grow, because their acquired revenues cost too much when bought, and have insufficient margin.

Most CEOs, especially if they have a background in finance, are experts at this game.  Good for executive compensation, but not much good for investors.  If the company looks like an acquisition whore, or is in confusing markets, and has little organic growth there is no reason to own it.

Companies that are developing major trends create growth.  They generate internal projects which bring them more customers, higher share of wallet with their customers, and create new markets for new revenues where they have few, if any competition.  By investing in trends they keep changing the marketplace, and the competition, giving them more opportunities to sell more, and generate higher margins.

Growing companies apply new technologies and new business practices to innovate new solutions solving new needs, and better solve old needs.  They don’t compete head-on in gladiator style, lowering margins as they desperately seek share while cutting costs that kills innovation.  Instead they ferret out new solutions which give them a unique market proposition, and allow them to produce lots of cash for adding to my cash in order to invest in even more new market opportunities.

If you had used these 4 myths, and 1 truth, what would your investments have been like since the year 2000?  Rather than an index, or a manufacturer like GE, you would have bought Apple and Google. Remember, if you want to make money as an investor it’s not about how many equities you own, but rather owning equities that grow.

Growth hides a multitude of sins.  If a company has high growth investors don’t care about free lunches for workers, private company planes, free iPhones for employees or even the CEO’s compensation.  They aren’t trying to figure out if some acquisition is accretive, or if the desired synergies are findable for lowering cost. None of that matters if there is ample growth.

What an investor should care about, more than anything else, is whether or not there are a slew of new projects in the pipeline to keep fueling the growth. And if those projects are pursuing major trends.  Keep your eye on that prize, and you just might avoid any future market crashes while improving your investment returns.

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Profit from growth markets, not “core” markets – Virgin & Nike vs. Dell & Sears

by | Aug 25, 2010 | Books, In the Rapids, Leadership, Lock-in


Summary:

  • We are biased toward doing what we know how to do, rather than something new
  • We like to think we can forever grow by keeping close to what we know – that’s a myth
  • Growth only comes from entering growth markets – whether we know much about them or not
  • To grow you have to keep yourself in growth markets, and it is dangerous to limit your prospects to projects/markets that are “core” or “adjacent to core”

Recently a popular business book has been Profit from the Core.  This book proposes the theory that if you want to succeed in business you should do projects that are either in your “core,” or “adjacent to your core.”  Don’t go off trying to do something new.  The further you move from your “core” the less likely you will succeed.  Talk about an innovation killer!  CEOs that like this book are folks who don’t want much new from their employees. 

I was greatly heartened by a well written blog article at Growth Science International  (www.GrowthSci.com) “Profit from Your Core, or Not.. The Myth of Adjacencies.”  Author Thomas Thurston does a masterful job of pointing out that the book authors fall into the same deadly trap as Jim Collins and Tom Peters.  They use hindsight primarily as the tool to claim success.  Their analysis looks backward – trying to explain only past events.  In doing so they cleverly defined terms so their stories seemed to prove their points.  But they are wholly unable to be predictive.  And, if their theory isn’t predictive, then what good is it?  If you can’t use their approach to give a 98% or 99% likelihood of success, then why bother?  According to Mr. Thurston, when he tested the theory with some academic rigor he was unable to find a correlation between success and keeping all projects at, or adjacent to, core.

Same conclusion we came to when looking at the theories proposed by Jim Collins and Tom Peters.  It sounds good to be focused on your core, but when we look hard at many companies it’s easy to find large numbers that simply do not succeed even though they put a lot of effort into understanding their core, and pouring resources into protecting that core with new core projects and adjacency projects.  Markets don’t care about whatever you define as core or adjacent.

It feels good, feels right, to think that “core” or “adjacent to core” projects are the ones to do.  But that feeling is really a bias.  We perceive things we don’t know as more risky than thing we know.  Whether that’s true or not.  We perceive bottled water to be more pure than tap water, but all studies have shown that in most cities tap water is actually lower in free particles and bacteria than bottled – especially if the bottle has sat around a while. 

What we perceive as risk is based upon our background and experience, not what the real, actual risk may be.  Many people still think flying is riskier than driving, but every piece of transportation analysis has shown that commercial flying is about the safest of all transportation methods – certainly much safer than anything on the roadway.  We also now know that computer flown aircraft are much safer than pilot flown aircraft – yet few people like the idea of a commercial drone which has no pilot as their transportation.  Even though almost all commercial flight accidents turn out to be pilot error – and something a computer would most likely have overcome.  We just perceive autos as less risky, because they are under our control, and we perceive pilots as less risky because we understand a pilot much better than we understand a computer.

We are biased to do what we’ve always done – to perpetuate our past.  And our businesses are like that as well.  So we LOVE to read a book that says “stick close to your known technology, known customers, known distribution system – stick close to what you know.”  It reinforces our bias.  It justifies us not doing what we perceive as being risky.  Even though it is really, really, really lousy advice.  It just feels so good – like sugary cereal for breakfast – that we justify it in our minds – like saying “breakfast is the most important meal of the day” as we consume food that’s probably less healthy than the box it came in!

There is no correlation between investing in your core, or close to core, projects and high rates of return.  Mr. Thurston again points this out.  High rates of return come from investing in projects in growth markets.  Businesses in growth markets do better, even when poorly managed, than businesses in flat or declining markets.  Where there are lots of customers wanting to buy a solution you simply do better than when there are lots of competitors fighting over dwindling customer revenues.  Regardless of how well you don’t know the former or do know the latter.  Market growth is a much better predictor of success than understanding your “core” and whatever you consider “adjacent.”

Virgin didn’t know anything about airlines before opening one – but international travel from London was set to boom and Virgin did well (as it has done in many new markets.)  Apple didn’t know anything about retail music before launching the iPhone and iTunes, but digital music had started booming at Napster and Apple cleaned up.  Nike was a shoe company that didn’t know anything about golf merchandise, but it entered the market for all things golf (first with just one club – the driver – followed by other things) by hooking up with Tiger Woods just as he helped promote the sport into dramatic growth.  

Success comes from entering new markets where there is growth.  Growth can overcome a world of bad management choices.  When there are lots of customers with needs to fill, you can make a lot of mistakes and still succeed.  To restrict yourself to “core” and “adjacent” invites failure, because your “core” and the “adjacent” markets that you know well simply may not grow.  Leaving you in a tough spot seeking higher profits in the face of stiff competition — like Dell today in PCs.  Or GM in autos.  Sears in retailing.  They may know their “core” but that isn’t giving them the growth they want, and need, to succeed in 2010.

Go to Jail? – RICO, BP, Enron, Worldcom

by | Jul 12, 2010 | Current Affairs, Defend & Extend, In the Swamp, In the Whirlpool, Leadership, Lock-in


What do Tony Hayward, Jeff Skilling and Bernard Ebbers possibly have in common?  They all might end up convicted felons. 

While this may sound ridiculous, and very, very scary to corporate CEOs, nobody expected Skilling, the CEO of Enron, or Ebbers, the CEO of Worldcom, to go to jail.  They were hailed as heros, and admired for their leadership of large, high growth companies.  Yet, Ebbers is waiting out a 25 year sentence, convicted of acting illegally in the value destruction at Worldcom (CNNMoney.com “Ebbers Gets 25 Years.”)  And Skilling is working on a 24 year sentence for the downfall of Enron (CNNMoney.com “Skilling Gets 24 Years.”)

Now, BusinessWeek.com is asking if the same fate awaits Tony Hayward in “The Oil Spill:  Will BP Face Criminal Charges?“  As the spill goes on and on, and the damages increase, the public sentiment against BP is increasing.  If the spill goes around Florida to the east coast there will be millions more citizens, and businesses, affected.  It is clear that many laws were broken, as the article lays out.  So it’s not a mute question that an aggressive prosecutor would go after imprisoning Hayward.

As reprehensible as many may find each of these 3 men, how did they end up facing criminal prosecution?  Even The Washington Post has asked “Did Jeff Skilling Do Anything Illegal?“  A Harvard MBA and former McKinsey partner, Mr. Skilling calmly described the practices at Enron completely unapologitically. He was certain he’d done nothing wrong.  Mr. Ebbers was a devout Christian and Sunday School teacher who claimed all through the trial and to reporters on the way to jail he’d done nothing wrong.  I’m sure Mr. Hayward believes similarly.

What all 3 did was simply push the Success Formula too far.  Worldcom, Enron and BP were wildly successful companies.  They created Success Formulas that earned billions of dollars.  For years they grew.  But unfortunately, they kept trying to push the Success Formula to better results when market shifts left that formula earning lower returns.  Rather than recognize that lower returns were an indication of a Success Formula needing change, they dug in their heals and “got creative” in Defending & Extending it.  They used “best practices” to lower costs, and to seek out financial machinations which would allow the business to look more profitable – even as they undertook more, and more risk. 

To them, taking risk rather than change the Success Formula wasn’t thought of as risk.  They were out to protect something they felt had to be protected, at all cost.  The Success Formula that had made money for years, enriching not only themselves but investors, employees and suppliers.  They were blind to the added risk, because it was assumed that doing incrementally more was the “right thing to do” for the company.  They were doing what they believed were “best practices” for the “health” of their companies.

Defending a Success Formula can become very risky, as I wrote in Forbes “BP’s Only Hope For Its Future.”  Years of doing the same thing, only more, better, faster, cheaper, makes it harder and harder to do something different.  The culture and decision-making systems are designed, and modified — Locked-in — to push employees to make the same decision over and over, regardless of risk.  In BPs case we now know that cheaper parts and practices were employed to improve profitability – something each employee felt was in the company’s best interest.  Only, in the end, it served to layer risk upon risk – and lead to an eventual disaster.

Are you “doubling down” on risk in your business?  Are you investing more and more into trying to improve returns in a business that is earning less and less – and growing less and less?  If so, you could be setting yourself up for disaster as well.  Let’s hope in doing so you don’t run afoul of the law.  25 years in prison is a hefty price to pay for spending too much energy “focused on your core” business at a time when you should be looking for new ways to expand and grow where the risks are less.