by Adam Hartung | Mar 20, 2006 | General, Innovation, Leadership, Lifecycle
Chipotle’s Mexican Grill went public last week. The stock shot up in price, and ended the week posting a whopping Price/Earnings multiple of 36! As you probably know, Chipotle’s has been a subsidiary of McDonald’s. Now, it is it’s own company – albeit with most of the stock still owned by McDonald’s.
McDonald’s, meanwhile, has about an average market multiple of 17. Why is Chipotle’s P/E roughly double McDonald’s? Analyst views are mixed as to the exact future of the stock, but what all agree upon is that Chipotle’s has a great growth path in front of it. While McDonald’s is struggling to find opportunities to grow stores, Chipotle’s is expected to expand at double digit rates for several years. And profit growth is expected to match.
Now that it’s outside of McDonald’s, Chipotle’s has the opportunity to explore new opportunities for growth. It can expand in new ways, and develop new solutions. It has the opportunity to create, and sustain, White Space to prolong it’s growth. And the result is a 2x market multiple.
Some would say this is a win/win. Chipotle wins, and McDonald’s wins – because MCD shareholders keep ownership in Chipotle’s. I would say that is a back-handed compliment. Why couldn’t McDonald’s use Chipotle’s to attract new talent? Why couldn’t McDonald’s let Chipotle’s manage White Space to create growth avenues while inside McDonald’s? Why couldn’t Chipotle’s be a growth vehicle to help McDonald’s provide new opportunities for not only employees, but suppliers and investors?
It’s too bad that McDonald’s is so Locked-in to its Success Formula that it had to resort to letting Chipotle’s go outside. Yes, this is better than holding Chipotle’s back. But, it would have been best if McDonald’s would learn to Disrupt itself, create and manage White Space. That would insure McDonald’s of a long and viable future. Now, the future growth at McDonald’s remains clouded, while Chipotle’s appears loaded with upside opportunity.
by Adam Hartung | Mar 20, 2006 | Defend & Extend, Innovation, Leadership, Lock-in, Openness
Success Formulas are nested. We have personal Success Formulas, which interact with Work Team Success Formulas, which connect with Functional and B.U. Success Formulas, which tie to Industry Success Formulas those are impacted by Success Formulas within the larger economy. Whew! That’s a lot of Success Formulas. But, in fact, achieving superior results mean these Success Formulas all line up. When they are misaligned, resources are spent ineffectively and results suffer.
We frequently focus on the Success Formulas at the top of the pyramid. But, big Challenges occur when changes happen deep. At the deepest are changes in the economy – which we tend to ignore – and yet they create the biggest Challenges.
Just a decade ago the emergence of all the linked PCs across the world wide web created a change in the economy. It challenged Success Formulas throughout the pyramid to align with the new capabilities. We all had to learn how to move faster, and more effectively to keep pace competitively. And it opened the door for international trade on a previous unheard of scale, as we discovered we could use the web to manage work anywhere, from Indiana to India (as detailed in the book The World is Flat).
Now, there’s a new Challenge emerging. And we need to find White Space to identify new solutions.
Any business watcher knows that complaints are high about the cost of health care. Estimates are that $1,500 of every car’s cost is worker health care. And the auto companies are fighting with their unions to cut this cost. The same has happened with health care cost in the airlines, steel, and most other industries. For those of us working in America, we’ve all seen our employers raise our contribution to the insurance premiums, while watching the dreaded co-pays go up and the services offered go down. According to a 2004 Harris poll, a majority of Americans actually favor price controls!
U.S. employers are learning that in a new, no-barriers world they have to compete with companies that effectively have no health care cost. In most other countries, the cost of health care is handled dramatically differently – with the result that employers do not pay for their worker’s plans. As a result, a manufacturer in the U.S. finds the marginal cost of health care actually causes him to lose sales against a global competitor – such as China. And the same with a U.S. services vendor competing with Indian companies.
What’s happening is that we no longer can look just to how we manage the American economy when we compete. We’re now on a world stage. We have to compete with countries which standardize health care, recover much of the cost through various taxing systems, and leave the employer largely out of the equation. The Challenge to American employers – and thus to all of us who work – is very real.
The issue is no longer becoming "what’s the right answer." Instead, we have to realize that Americans are Locked-in to a system that is globally unique. It is affecting our competitiveness – on a company-by-company basis. This system of employer funded private insurers worked well when constructed as part of our Success Formula post Depression. But now it’s hurting our competitiveness. The world has changed.
So far, we’ve been pretty unwilling to recognize this Challenge. We’ve remained Locked-in. Governmental programs to change have been met with attacks from not only insurers, but by most Americans. What’s needed is White Space for us to test some new approaches. Americans are unlikely to change just because they see merits (and deficits) to programs in Canada or the U.K. Instead, we have to develop our own solution. And that will require us giving ourselves permission, and dedicated resources, to experiment with different solutions.
We compete now globally. Thus the requirement becomes aligning our industries, companies and ourselves with changes in the economy. EVen where such alignment can be wrenching. Where will this White Space occur? Probably not in government, that’s not our way. But rather through some form of private approach where we can experiment and learn. The sooner we create this White Space, fund it and put talented people in it the better. And the businesses that pioneer these solutions have the opportunity to generate enormous value, and wealth for investors.
by Adam Hartung | Mar 15, 2006 | General, In the Swamp, In the Whirlpool, Leadership, Lifecycle, Lock-in
If you’ve read this BLOG for a while you know I am no fan of Sears. Since the merger of KMart and Sears the combined company has done nothing to change its competitiveness versus better managed companies like Target, Kohls and WalMart.
Today Sears stock jumped almost 13%. Oh my, should I reverse my position? After all, the company said (Marketwatch reported) it doubled fourth quarter profitability since a year ago when the companies merged. And revenues are up to $16Billion, from last year’s $5.95billion – wow! And Kmart stores eeked out a .9% same store sales increase during the holidays – the first such increase since 2001! Yeah!
Let’s see… Let’s read a bit more.. what else did they say? "Competitor’s are opening more stores and spending on promotions and marketing – which Sears Holdings isn’t" … Oh, let’s see, these results don’t compare today with combined results from a year ago… Revenues of the combined companies actually declined by 4.5%… well, well… For the year, same store sales at Sears fell 8.4%, while KMart same store sales dropped 1.2%…. oh, the solution — the management is "adjusting its apparel strategy to better meet customer demand" and therefore "expects declines will moderate"…
Those positive headlines, as they said in Oklahoma when I was young, is putting lipstick on a pig.
Sears is still Defending and Extending two completely broken Success Formulas. And the financial heads that put this deal together still haven’t internally Disrupted the operating practices, nor have they created effective White Space to develop a new, more competitive, solution (see previous BLOG on the failure of Sears Essentials). Without those two actions, these results are just financial reporting shenanigans – and those who invest in them deserve the risk they take.
by Adam Hartung | Mar 15, 2006 | General, In the Swamp, Leadership, Lifecycle, Lock-in
Today I got a call from a friend, asking me my opinion of DuPont. I worked for DuPont from 1987 to 1990, and of course DuPont is one of those large and historically great American companies. An early manufacturer of gunpowder for our war efforts, the company went on to innovate such great products as Nylon, Teflon and Kevlar. In The Graduate the famous recommendation to Dustin Hoffman to think "Plastics" is often credited as a plug for DuPont.
But, innovation has been slack at DuPont for quite a few years. They haven’t brought forward one of those great products for a long time. And, their returns have suffered as the company shrunk – through a combination of selling businesses (they owned, and then sold in the 1990s, Conoco for example, and spun off their pharmaceutical business in a joint venture to Merck) and declines in some "core" markets – like printing and other films. Their stock price has suffered.
Today, however, Dupont’s stock broke out to a short-term high after announcing expectations for better earnings. Several technicians said that with only a small additional move upward the stock could jump another 20%. Is this a juicy investment opportunity?
When I read the Marketwatch release, I was disheartened. DuPont didn’t jump up on an announcement of new products. Nor a breakthrough innovation. Nor was there any sign of any major Disruptions happening to their Lock-in, or new White Space projects being created. Instead, I learned that earnings are predicted to rise from closing several labs, shuttering plants and laying off more people. That, plus they think a horrible European market will finally take a turn for the better – no thanks to any new products from Dupont but rather just because enough time has passed while the marketplace stunk to expect an upturn.
It’s hard for me to get excited about DuPont. Even though their history is undeniably great. They keep cutting capacity, cutting jobs, taking restructuring charges and waiting for an economic turnaround. Their improved profits are short-term financial machinations. What would excite me would be to hear about some Disruptions in their internally focused Lock-in. Or to hear about new joint ventures, or other White Space projects intended to spark innovation and create new markets. Without those signs, I’d worry that the short-term stock improvement will just be short-term.
by Adam Hartung | Feb 28, 2006 | General, Innovation, Leadership, Lifecycle, Lock-in
I’m a midwestern guy – born in Oklahoma, college in Kansas and now a long-time resident of Illinois. I love Chicago. But, I have to admit, some things have been concerning me lately.
Illinois lost jobs last year. In fact, Illinois has had a net job loss since 2000. That’s a Telltale of problems. The marketplace is shifting, and it’s not clear Chicago is creating an effective new Success Formula.
Across the business landscape, there are lots of signs of problems. Former bellweather Kraft has been locked in a turnaround for 5 years, without much progress. In 2004 the company closed 20 plants and laid off 5,500. Recently it’s announced plans to shut another 20 plants and lay off 8,000 more. Crosstown, Sara Lee has been struggling as it has sold off business after business in search of "focus," yet it has not been able to improve results. Revenues are predicted to halve over the next 5 years in this prolonged turnaround effort – apparently in plans to shrink itself into success.
Sears has shown misstep after misstep since being acquired by K-Mart. It announced in 2005 it would convert 400 KMart stores into Sears Essentials – but as sales fell 20% in the first 40 conversions that decision has now been abandoned. Sears can’t even buy it’s own Canadian operations, having had its offer turned down by the Canadian Board! And McDonald’s is under attack for everything from bad fat in its food, to unannounced ingredients causing asthma attacks and a 30-something hedge fund manager trying to force management to restructure its operations in order to add value to a stuck stock.
For years, I’ve heard people talk about "midwestern paternalistic companies," "mature management in mature industries," and "old fashioned values exemplified by careful management" when talking about Chicago. Unfortunately, these are a pleasant veneering over of unpleasantly Locked-in management teams. Too many companies are blaming a "midwestern culture" for an inability to Disrupt their failing Success Formulas and implement White Space. Too few new products are being created and introduced, and too few new innovations are being introduced into operations.
Do midwesterners lack innovation? Of course not. Go to any of a number of Chicago area angel investing groups, or entrepreneur groups, or venture clubs and you’ll see, literally, dozens of new ideas for businesses of all types. Ask those entrepreneurs where they go for corporate support and you hear "the coasts. None of these big Chicago companies want to get involved with local innovators." And, alas, you don’t see these companies sending representatives to any of these networking events. These venerable laggards keep looking inward for all the answers, instead of looking outward – where White Space creates a flourishing market of innovation.
I would think that the apparent Challenges – the loss of jobs, or the declining stock prices, or the frustration of limited growth – would lead these company executives to do something different. To Disrupt their ineffective operations. But so far, they have remained Locked-in to those old Success Formulas – and the price is being paid (quoting a famous line from It’s a Wonderful Life) "by those people who do most of the working, and eating, and living, and dying in this town."
by Adam Hartung | Feb 22, 2006 | Leadership
HP‘s CEO Mark Hurd is making a difference at the company. The turnaround since his arrival has been large and successful. I’m often asked what a leader should do when their company is in need of change. As BusinessWeek recently reported, you should do what Hurd is doing if you want to turn around a failing Success Formula.
Many leaders have been convinced that their role was to establish a vision for the companay. Or setting strategy and mission. Yes, these are roles of senior leaders. But, more than that, leaders have to be Disrupters. Nothing will change unless the leaders step out and actively Disrupt the old Success Formula.
As reported, Mr. Hurd has been going all over HP engaging directors and managers in reviews. This has some detractors accusing him of being "nuts and bolts" and "pragmatic" or without a vision for the future. A better view is that Mr. Hurd is helping his company recognize its Challenges and Disrupt the Lock-ins so the managers can define new solutions. In a nutshell, he’s doing exactly what he needs to do to change the behavior, and results, of HP.
Some of our greatest leaders are great disrupters. Jack Welch, sometimes called "Neutron Jack," was a great disrupter who helped keep GE in front of competitors for nearly 2 decades. John Chambers, of Cisco, is also a great disrupter as he constantly brings in new technologies and products which obsolete what already exists. To keep you business ahead of competitors, it’s best that you become the Disruptor – and not wait to fall behind.
by Adam Hartung | Feb 22, 2006 | General, In the Swamp, Leadership, Lock-in
Recently GM announced with pride that it had reduced it’s IT expenditures by 25%. The company’s IT spend to sales ration has dropped from 2.4% to 1.6% – a 33% decline. This was held up as a sign of great progress. But, as Baseline recently reported, because GM is looking at the wrong metrics this fact doesn’t matter much.
During this same period, GM’s employment declined by nearly 50%. And the amount of work outsourced (as a percent of revenue) increased from 67.7% to 75%. As a result, the number of transactions undertaken at GM declined markedly. So, while IT costs declined, at the same time the business supported by IT declined even faster. The net? IT costs per transaction actually INCREASED by almost 74%.
Businesses tend to Lock-in on the metrics used, just like they lock-in on behaviors and processes. If they keep looking at the old metrics, they miss the changes necessary to actually improve the business. Often one of the most critical Disruptions is Disrupting the metrics used. In the case of GM, they were caught bragging about peformance on an out-of-date metric. Another demonstration of Defending and Extending a broken Success Formula when what’s needed are entirely different measures to drive new behavior.
by Adam Hartung | Feb 13, 2006 | Disruptions, General, In the Swamp, Leadership, Lifecycle, Lock-in
My three weeks in India were fantastic. I visited twenty-some companies, all developing new business models in their pursuit of new revenues. From company to company, I saw people working in White Space as they sought out Success Formulas that would provide short-term gains and create long-term advantage. Even for companies with tens of thousands of employees, it was clear that operations in India are constantly disrupting themselves as they seek to compete with each other, and continue driving enhanced value.
While there, I thought about all the U.S. companies that are blissfully ignoring this phenomenon. What I saw in India wasn’t just low-cost competitive undercutting, but in fact people doing the work differently – and as a result creating considerable new value for not only themselves but their customers. I kept wondering, "why do so many U.S. and European business leaders remain so unmoved by what is happening here?"
Then I recalled the story of CSC. Entering 2000, CSC had a robust commercial consulting business with revenues reportedly over $1B. According to industry analysts, this consulting division was by far the most profitable part of CSC, contributing nearly 3 times the profit for its revenue base compared to other divisions. Further, it was claimed to be growing at nearly 20%+ year.
Now, just 6 years later that same division is reported to be under $200M revenues (an 80% decline). And insiders say it has operated at losses to break-even since 2001. The division simply ignored the oncoming avalanche of opportunity being created by the internet and offshore IT services vendors – an avalanche they could readily see from their perch creating e-business opportunities and installing new technologies.
Unfortunately, as they missed the first wave of offshoring their revenues slumped and their profits vanished. In reaction, they brought back a President who had left during the dot-com days in order to provide new "focus" to the business. Upon his return, this President declared that from his 20 years of experience he knew that customers wanted their IT services to be done locally. He re-opened a slew of local offices in the U.S. and moved the P&L from a national service line model to a geographic P&L. He expected these local offices to get into clients and "slug it out" for revenues against the competitors. And he repeatedly said that he knew this would work – because it had worked in the 1970s and 1980s.
He was Locked-in to his old Success Formula. Unfortunately, he was perilously ignorant of the oncoming wave of qualified IT consultants in India now available to his clients across the internet. Year after year he, and CSC, watched as business was lost to new competitors, layoffs followed to "stabilize" the business, only to be followed by more pressure on prices, and fewer revenues and more layoffs. A vicious circle that was inevitable.
To this day, CSC has practically no commercial consultants in India. While Tata has 60,000, Infosys 40,000, Cognizant 30,000 and WiPro 30,000 – the vast bulk of which are supporting U.S. clients. Not to mention the dozens of smaller companies doing everything from IT services to business processes. Even Accenture has nearly 20,000 and Office Tiger (both U.S. companies) has 6,000. In reaction, CSC has retrenched to large outsourcing contracts (the profitability of which is highly doubtful) and increased its federal government business – where it can avoiding competing with Indian firms.
Lock-in leads to blinders. Blinders lead to ignorance (as my teacher once said "ignorance can be fixed"). When CSC commercial consulting faced its Challenge (offshore competitors) leading to a big problem (declining margins and revenues) they did not use this Challenge to Disrupt their model and create White Space. Many American companies, such as Accenture and IBM, did just that – creating large and very viable Indian organizations supporting clients competitively. Those companies are using the White Space to develop their own new Success Formulas. But CSC has lost the commercial consulting market. And they are threatened in all their commercial business. They are under attack from hedge fund operators who want to split up the company and capture value before more is lost.
Ignorance is perilous. If we allow Lock-in to determine our behavior we lose the ability to Disrupt and face our Challenges – leading to failure. Instead, we have to use Challenges to Disrupt and open White Space so we can find new Success Formulas. And via that route, we can remain competitive in the new marketplace.
by Adam Hartung | Jan 15, 2006 | Defend & Extend, General, In the Swamp, Leadership, Lifecycle, Lock-in
The Chicago Tribune ran a great overview of the situation facing McDonald’s leadership today. In a nutshell, an upstart hedge fund manager (William Ackman of Pershing Square Capital LP) is pushing McDonald’s to restructure itself by spinning off restaurant operations, selling real estate and otherwise changing the company. He is supported by a large REIT (Vornado Realty Trust) which would like to participate in the real estate restructuring. McDonald’s management is fighting off these efforts.
The really interesting question is, how did McDonald’s get itself into this mess? Quite simply, Lock-in to the past has kept McDonald’s from seeing its real Challenge. McDonald’s business today is remarkably like it was in the 1960s. The company still franchises and operates a hamburger chain. While there has been an amazing amount of change in the last 40 years, little of it has affected McDonald’s as they have continued Defending and Extending their early success. Now McDonald’s is mired in the Swamp, unable to control its own destiny due to the attacks from outsiders.
McDonald’s has had lots of opportunities. It has bought other restaurant concepts (such as Chipotles), yet it never really supported their growth as it kept focused on hamburgers. It built expertise in franchising as well as food and restaurant supplies distribution strengths. But it never moved into those businesses beyond supporting its core business. And as nutritional habits have changed among its baby boomer customer generation has aged, while an entirely new generations of customers has come along, McDonald’s steadfastly ignored the Challenges and kept trying to grow its old Success Formula.
You can’t blame the hedge fund operators and REITs for taking aim at McDonald’s. Any time a company becomes a slave to its Lock-in it becomes an easy target. Management is too easy to predict, and their unwillingness to address Challenges with their resources makes those resources a juicy desire for outsiders. Sometimes competitors take advantage, and sometimes its unexpected outsiders – like in this case.
We all have a natural tendency to support the incumbent. They’ve worked hard to get their positions, and we want them to succeed. But when the incumbents can’t address Challenges and overcome Lock-in the interests of shareholders, suppliers, employees and customers are best served by those who would force a change in behavior.
by Adam Hartung | Jan 8, 2006 | Defend & Extend, In the Swamp, Leadership, Lifecycle, Lock-in
Harley Davidson is a great, well known brand. But as one of my old professors used to say "a good product, and a good company, doesn’t necessarily make for a good stock."
Despite it’s brand image, for the last 2 decades things have been changing at Harley. Half of revenues now come from brand merchandise (like jackets) rather than motorcycles. The average age of its customers has kept rising, until now its over 50. Its new product introduction has been between anemic and nonexistent.
No one has done a better job of hiding an inherently no-growth story better than Harley Davidson. It has raised prices, faked shortages and found more ways to Defend and Extend its brand as it has done almost nothing to bring in a new generation of customers. Its big effort to move forward was the launch of the V-Rod 3 years ago with an engine, no joke, made by Porsche. Unfortunately, Harley’s dealers bad-mouthed the machine and wouldn’t sell it as they continued to stay Locked in to the old business (and the old-fashioned "hogs"). And Harley knuckled under, downplaying the new bike to appease these dealers. And a new generation of customers, to whom the new bike appealed, continued going to Honda and Yamaha.
Harley has had a P/E multiple of 25. Recently it has fallen to 14. Some folks think this might make Harley a value. I’d say that given the Lock-in, and the complete capitulation to Defend & Extend management at Harley, they have been merrily floating along the Flats not realizing how close they were to the Swamp. Fourteen might be a very high P/E once the market realizes how few 50 year olds are left looking for a $25,000 motorcycle based on 30 year old technology.
