Industrial Model

Albert Hawkins became president of his mid-sized engineering firm a few months ago. Some time after that, he and I began talking about his goals and I asked him to write down his ideas about the firm’s future.

Albert arrived at my office about half an hour late and when I joined him in our boardroom, he said, “I’ve found this a very difficult exercise.”

“Why is that?” I said.

“I’ve kicked around some ideas about strategy with our senior partners. Also a couple of us read a Harvard Business School book on strategy. It didn’t help very much. One thing we all agreed on, we’re not going to be able to create strategies the way 3M or GE does. We don’t control markets or product. And we don’t have a worldwide reach. Basically, we operate in Southern Ontario. That’s not going to change. We’ve identified the major customers in our market, and we deal with about 10% of them. Essentially, we react to our clients’ needs.

“I understand that,” I said. “And I agree with you. In fact, if you had read a few more strategy books, you might have become even more disillusioned with them. That’s because the hero companies of one generation, the HP’s and the Motorola’s, often become goats in the next generation.”

“True,” Albert said. “For years Motorola was considered one of the great stars of management. Now it’s fallen out of favour and Texas Instruments is in. It makes us wonder if there’s a point to thinking about strategy. It seems like a waste of time.”

“Most of those books talk about things like the development of a culture and the attributes of good leaders,” I replied. “In a sense they’re like anthropological studies trying to figure out why one system works instead of another at a point in time.

“For companies the size of yours” I continued, “it makes more sense to simply focus on a culture of execution and achievement. But to do that you need to communicate where you want to go and how you will proceed. You must give people a sense of direction if you want them to travel with you. When we got together last time, we talked about the objectives of your partners. Their main goal was to increase the value of their goodwill in the firm. In fact, when I suggested that was possible, you were surprised since you believed that new partners joining would offset any increase in company value.”

“Typically we’ve developed a new partner for every $2 million increase in firm revenues,” Albert said. “That dilutes the value of our equity interests. In the past, the partners have gained only a marginal benefit from the growth of the firm.”

“When you talk about creating partners to deal with your company growth,” I said, “you’re combining two functions. On one hand, you’re saying you need a high level manager for every $2 million in revenues. But on the other you’re saying that your high level manager must be a significant shareholder in the firm, and he must be allowed to purchase his shares at a relatively cheap price.”

“It depends what you call cheap,” Albert said. “Compared to shareholders in GE, our associates buy into the practice cheaply. But we think the price is fair to the vendors, who are the older generation of partners. The goal is to give the younger people a stake in the business so the company will continue to exist.”

“Understood. But that goal doesn’t preclude you from thinking about the development of your business in the way industrial corporations do.”

“We focus on service delivery,” Albert said.

“But thinking operationally is more complex than that. It encompasses all the crucial functions of business: (1) finance, (2) marketing and sales, as well as (3) delivery of services.”

“No argument there. And you left out human resources. We have VP’s of finance, marketing, operations and HR.”

“Once you decide on a strategy, it provides the direction for finance and sales and service delivery. The same with the people process. Each functional group will have to establish its need for people and talents. For example, if you intend to grow by 15% per year, you’ll need the operations people to deliver the services. You’ll need the financial strength to be able to support the increase in activity, and you’ll have to figure out in advance how your marketing program will be able to get the business. You just can’t take a strategic goal, make a wish and hope you achieve it.”

What kind of strategic goals are you suggesting for our company?” asked Albert.

“Your partners already seem to have a goal. They want to increase the value of the company equity. You’ll need a measure to determine a baseline and to gauge your progress. You might use a multiple of earnings, a percentage of sales or a weighed average of the two. That would focus you on looking for ways to increase profits and sales, and it might lead you into new areas or away from some less profitable ones.”

“That’s not bad for a start, and it would give us a sense of overriding purpose.”

“That’s right. Remember, increasing the value of goodwill is really a kind of sales strategy. You want to develop a product — company equity — that will fetch a high price from a target market. Like any other sales strategy, you should focus on the customer. You want to develop a pool of motivated buyers. Right now they’re your young associates. You should ask them what they’re looking for in the company’s attributes. My guess is that they’ll want to buy into a business with a history of growth, with good talent and with strategic direction. They may have different interests from the older generation. They may want to target specific markets that they believe will grow faster than the market in general. They’ll also have other ideas in mind, relating to the management style of the office and employee selection. In other words, develop the equity product that your customers desire. And tie your best associates into a deal early. That way you won’t risk losing them later on.”

“How would we do that?”

“You could have them set aside part of their remuneration for company equity within a couple of years of their joining the firm.”

“Won’t that give them partnership rights?”

“It will give them shareholder rights. But many companies encourage all their employees to become shareholders, including receptionists, warehousemen and janitors. Why does it have to be different for you? Right now you’re regarding share ownership as a sacred privilege. I don’t think that’s necessarily the best model. If most of your employees owned shares, they might be more motivated to perform well.”

“Whew,” Albert said. “I have to admit I didn’t expect the conversation to go this way. But I like the concept of developing equity for sale just as we would develop any other product. In fact, thinking about the business itself as a product is interesting. It certainly challenges some of our assumptions.”

Hank Bulmash, MBA, CA is a principal of Bulmash Cullemore, chartered accountants of Toronto