Was GE correct in replacing its CEO?

A nagging thought kept running through my mind when I read General Electric had replaced Mr. John Flannery as Chief Executive Officer after just 14 months on the job: Was he given enough time to fix this huge severely distressed $120 billion company?

My answer is no...

It would take at least 3 years to fix a company with the complexity and size of General Electric. It is extremely difficult to even save a smaller company with sales under $300 million in only one year, based on my own experience completing a number of turnarounds as CEO. This type of challenge takes time.

In my experience, although the chief executive officer I replaced had failed, the Board of Directors were at times also at fault and contributed to the failure. In more than one turnaround, the Board was more at fault than the chief executive officer.

It is not difficult to determine that a company is failing but surprisingly, in my experience, some Boards did not recognize that management failed and that the company was in trouble until the decline was at a desperate crisis level.

One has to wonder....

Why wasn’t General Electric’s decline identified some years earlier when it would have been easier to fix the problems? Siemens, one of General Electric’s competitors, realized it was headed for trouble in 2003 and began a restructuring. Now Siemens is reportedly successful.

News reports suggest GE's entire Board of Directors will be replaced by 2019. There are currently six new Board members.  But 5 of the 11 current Board members recently involved with removing Flannery were also on the Board during the company's decline. Did these five Board members participate in the decision to replace Flannery? If yes, how can anyone be certain the latest move was sound? Or did this Board make another poorly considered decision that got General Electric in trouble in the first place?

Personally I find General Electric’s demise particularly sad, since I started my career at GE. I would have thought this decline would have been virtually impossible after the excellent job Mr. Jack Welch completed in building GE from its troubled condition when he took over.

Bloomberg: GE Ousts Flannery After Slump, Names Lawrence Culp CEO 

Washington Post: Why GE is making a dramaticoverhaul to its board of directors

CNBC: GE was once America's most valuable company. Today it is fighting junk-bond status.

Wall Street Journal: GE Powered the American Century—Then It Burned Out
 

China's Debt Crisis

China may be forced to continue to increase its debt position. Their cash flow future looks grim.

China’s debt is largely held by corporations. The problem is a fair number of their small and large companies are poorly managed. Their inefficient equipment and systems results in high-cost, money-losing operating companies. This results in deficit cash flows which severely limits the capital available for the repayment of debt.

China is reportedly attempting to have lenders restructure weak loans into equity. The majority of the lenders are banks. Banks will be converting their loans into equity in a number of financially distressed companies which may negatively affect a bank’s financial condition.

Will the current tariff challenge affect corporate revenue and further increase operating losses?

As a consequence China may need to increase its debt to support companies incapable of repayment or restructuring.

Debt Articles:

Forbes

South China Morning Post

China Power

Bloomberg

Tariff Articles:

Bloomberg

Politico

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Broken Business Models: Sears & Kmart

The NY Post’s article and others seem surprised that Sears Holdings may not be able to continue as a going concern. Clearly sale of its Craftsman brand was a signal that Sears was in serious financial straits.

The acquisition of Sears and Kmart was completed ten years ago. But twenty years ago, before e-commerce became a major competitor, it was painfully obvious that Sears and Kmart were in serious trouble. Vendors selling to both companies at that time were questioning whether they could survive against Wal-Mart.

Could it be accurate that Wal-Mart’s physical distribution and information technology systems are so efficient that Wal-Mart receives cash for its products prior to having to pay its vendors for the purchases? All? Some? If true, tough to compete against.

Sears’ and Kmart’s business models were unmistakably broken starting in the 1990s. It is virtually impossible to repair a business model once it is broken. At minimum it would have required major capital investments in information technology and restructuring of their physical distribution operation with its high overhead and slow inventory replenishment. Would there have been a positive return on investment?

Mr. Edward Lampert was certainly considered a successful investor when he acquired Sears and Kmart. Possibly he was optimistic that he could repair both companies. Perhaps taking over as chief executive officer was a mistake as he apparently had never worked as CEO of a large retail company.

To be qualified to be CEO of a retail, manufacturing or service company – particularly one as large as Sears and Kmart - one needs to have started their career in the bowels of a company – at the bottom. Mr. JackWelch is an example of a successful CEO who started at the bottom.

Working ones way up from the bowels gives experience with all the functions (departments) of a business. How do these functions work together. Why is cross-functional communication so critically important - while simple in concept it is difficult to practice. How to submerge oneself into the lower organization levels to find out the priority problems and solutions without being a distraction. CEOs who started at the bottom are more calmly self-confident and make better decisions when they get to the top position.

Regardless of any mistakes that have been made Sears and Kmart seem to fit the axiom: “not every business can be turned around” – particularly if their business model is broken.

Second Best Company to Work For

Fortune Magazine’s 2017 “100 Best Companies to Work For” rated Wegmans Food Markets as the second best company to work for.

As Inc. Magazine’s article reports, Wegmans does not pay the highest wages compared to many of the other companies on Fortune’s list. However, it does have some attractive perks for tuition reimbursement and health care insurance but, in comparison to others on the best to work for list, it falls well short.

Why the high rating? Its culture and its management style receive high grades. This is true even though Wegmans has strict rules for its employees such as: the precise number of minutes for a break and the speed at which cashiers check out customers’ purchases.

Marriott International is number 33 on Fortune’s Best to Work For list. I became aware of Marriott’s rating when I was Chief Executive Officer of a distressed company in Austin Texas. The company I was managing had high hourly employee turnover. We paid minimum wage. Marriott also paid minimum wage to its hourly employees but had virtually zero turnover. I met with the hotel manager. Spent time learning how it was accomplished.

Marriott has similar reasons for being on Fortune’s list. Its culture and its management style. Heavy on employee recognition. Its support of employees and their families when they have a medical or personal issue. At the same time, Marriott also has strict performance measurements for it employees.

One minor example. A Marriott hourly laundry employee’s mother died. The hotel gave him paid time off to take care of the funeral arrangements. The hotel manager attended the funeral. The employee deeply appreciated it. He was moved to tears because the manager attended the funeral. He had thought he was a nobody at Marriott, fungible. He never forgot this gesture. He stayed with Marriott and was eventually promoted to a supervisory position.

It is not difficult to have a Wegmans’ and Marriott’s culture. It is not expensive. It pays off with higher than average profit margins and return on total capital.

Wegmans is a privately owned company. Some estimates put its operating profit margin at above 7% - higher than its largest competitors and Whole Foods.

Recession?

Are we headed into a recession in 2016-2017?

The decline in the key drivers of economic growth say yes:

• Business fixed investment has declined by an annualized 4% over the past two quarters. Business equipment and software declined 5%. Non-residential structures dropped almost 8%.

• Employee layoffs. "U.S.-based companies announced 65,141 job cuts last month (April), up 35 percent from March.” Boeing plans to layoff  8,000 employees - 10% of its workforce. Intel plans job cuts of 12,000 - 11% of its total headcount.

• In 1980 there were 60 USA non-financial corporations rated AAA. Today there are just 2 with the recent surprise that ExxonMobil was downgraded to AA+. This will reduce capital investment and ultimately employment and GDP growth.

Business investment and employment are critical factors in economic growth.

As a result of these negatives:

• The Labor Force Participation rate dropped to 62.8% in April 2016. A 38 year low. Thus 94 million people are out of work. This is a decline over the recent several years from 66%-67%. New job creation is weak and will not improve the participation rate.

• GDP growth is in decline. It registered an anemic 0.5% increase (revised to 0.8% in May 2016) in the first quarter of 2016. In the third and fourth quarters of 2015 it was 2.0% and 1.4% respectively.

China’s struggles area concern. Its growth has consistently slowed. 2015 was its slowest year in 25years. This is a factor in the global decline in the demand for commodities and the 55% reduction in commodity prices since 2014 negatively affecting capital investment and employment. Unfortunately 2016 growth is difficult to accept as real as it has been stimulated by debt in an economy that is seriously overleveraged.

The USA’s growth prospects are muddled by an apparent decision by one of its major industries – automobiles. General Motors, Ford and Chrysler are reportedly not investing in flexible production systems as are its German and Japanese competitors. This is described as: “…technological change that stands to radically reshape the car business.”

Will this result in the Big Three’s costs being higher than its competitors? Probably. It will most likely lead to lower unit sales and lower overhead absorption resulting in lower operating profits, lower cash flows, less capital investment and lower employment.

Adding to the puzzle about General Motors’ viability is its $500 million investment in Lyft – a Uber competitor. Lyft is a business outside of GM’s vehicle manufacturing core. Is GM losing disciplined strategic focus?

Follow-up articles: 

Business Insider, May 26,2016, “Japan's prime minister is warning world leaders about a 'Lehman-scale crisis'” He interprets economic data as pointing to the reemergence of the global financial crisis of 2007-2008.

InvestmentWatch, May 26, 2016: Interview with former Federal Reserve Chairman Alan Greenspan: “Greenspan: Western World Headed for a State of Disaster”. “…have a very profound long-term problem of economic growth…(not) on the verge of a market…collapse…”

 

A Worthwhile Management Book

Thomas E. Ricks’ book, “The Generals”, is the history and essentially a performance evaluation of more than a dozen US Army Generals from World War II through 2012. It is not very flattering for some generals.

It is a well-written management and leadership book. Although not intended to be a textbook its examples of what led to successes and failures may be helpful for civilian business managers - including members of Boards of Directors and Chief Executive Officers.

Although the entire book is interesting, its reading can be limited to the first chapter. It covers General George C. Marshall, Army Chief of Staff, and describes how he built the Army into an effective fighting force in World War II. Marshall was faced with two equally daunting issues – people and equipment.

In 1939 the Army was too small in the total number of officers and enlisted personnel. Its leadership was poor and needed to be overhauled. There was not enough equipment and what was available was too antiquated to be effective - most of it dated from World War I. He started in 1939 with an unqualified for battle 197,000 soldiers led largely by inept senior officers and ended in 1945 with 8.3 million and victory.

General Marshall’s leadership and management tenets included a “brutally” straightforward style with everyone including President Roosevelt – he practiced “speak truth to power”. He employed the management practice of “removal” of any senior officer with substandard performance – he fired hundreds to build a successful organization. He was a "tough taskmaster" - but consistent, rational and respected throughout the Army's ranks.

For a more complete summary of the book click on this link: “The Generals: American Military Command from World War II to Today” by Thomas E. Ricks.

Henry Paulson's Book “Dealing with China”

Henry Paulson, Jr. has a new book titled “Dealing with China”. Is this a practical treatise on working with China?

Seventeen of the book’s twenty chapters are detailed descriptions of Mr. Paulson’s own personal history while working with Goldman Sachs, as US Treasury Secretary and with the Paulson Institute. It is an interesting personal story. However, the autobiographical review is not truly helpful for dealings with China.

A Wall Street Journal book review by Jeffrey Wasserstrom is quite accurate:
“…careful language that will not bother Chinese censors…Mr. Paulson is too soft on his “old friends,” including the man now in power, Xi Jinping.”

The Financial Times review by James Kynge is on target as well:
“…Paulson’s prescriptions all tend toward forging better relations with China by supporting what China wants…may win friends in Beijing but will be less popular among U.S. allies…such as Japan...the lessons…are…academic.”

These reactions are entirely understandable, leaving the reader to wonder what is clouding Mr. Paulson's vision. His assessment of China consistently glosses over reality. While addressing the needs of the Chinese people, Mr. Paulson curiously concludes: “…they have made good on their vows.” Throughout this book, Paulson is clearly advocating on China's behalf. He encourages a greater role for China internationally, including with the World Trade Organization. Paulson suggests: “We should… make concessions… to encourage China to take a more prominent role.”

In a Fox News’ interview with James Rosen discussing his book Mr. Paulson offered: “I would definitely not classify China as an enemy…they are a competitor.”

The FBI report in Matt Dean’s recent Fox News’ article raises doubt that China is simply a competitor: “China the most predominant economic espionage threat to US…the number of economic espionage investigations undertaken by the agency over the last year…a 53 percent increase…state-sanctioned corporate theft by China is at the core of the problem.”

Are China’s strategic ambitions hostile? Jingoistic?  Its territorial claims as reported by the BBC’s Carrie Gracie and in the Financial Times book review have raised concerns in Taiwan and Japan.

Mr. Paulson is a successful and serious man. He is certainly not naïve. But his glowing praise of China’s economic and social progress, including suggesting a leading international role, raises sincere questions about his impartiality. This book was unfortunately a disappointment for those seeking constructive analytical insight.