Lessons from IBM

When Marissa Mayer took over as CEO of Yahoo! last year, I became curious about what it takes for a technology company to sustain itself over the long-term. Consumer products create long-lasting assets in brands and distribution. They can be disrupted, but it tends to be hard. Think Coca-Cola. With technology, however, it’s almost a bygone conclusion that today’s winner will be tomorrow’s also-ran. Microsoft is struggling with this as well, and now with Ballmer out as CEO, they’ll be more explicitly trying to clarify their strategy as well.

Asking this question led me to read Lou Gerstner’s book on IBM’s turnaround, Who Says Elephants Can’t Dance? And it was a worthwhile read.

So, what did Gerstner, having joined IBM February of 1993, do to turn IBM around?

First, he stabilized the immediate problem—mainframe:

  • Drop the price of the mainframe. Mainframe revenue had dropped from $13 billion in 1990 to projected $7 billion in 1993. Dropping the price wasn’t straightforward as it, in fact, made the cash position worse. But it was a customer-friendly move as IBM’s mainframe customers were its most important customers and mainframe pricing was almost 50 percent higher than competitors’. Mainframe pricing per unit of processing decreased from $63,000 to $2,500 over seven years.

  • Commit to mainframe research. Rather than exit, he doubled down. Gerstner lent support to the mainframe technical team’s efforts to migrate from bipolar to CMOS, which would lower the mainframe’s cost dramatically. IBM ended up spending $1 billion over the next four years, but it saved the mainframe business. Gerstner points out that, if not for that investment, IBM would have been out of mainframes by 1997. Staying in mainframe generated $19 billion of revenue from 1997 to 2001.

Second, he came up with a near-term plan to stabilize the company:

  • Keep the company together. The book goes into great depth about this decision, and it’s fascinating reading. Essentially, however, Gerstner initially felt intuitively and later confirmed that IBM had a unique ability to satisfy a significant need to become a technology integrator—the person that could help companies create value from technology by integrating all the pieces and delivering a working solution. This was huge because everyone assumed that the solution was for IBM to break itself apart. This decision drove every other decision. It took enormous vision and confidence.

  • Bring the expense base in line. Having made the decision to stay together and stay in the mainframe by dropping price, there was no other choice but to bring expenses in line. Gross margins on mainframe had dropped dramatically so it only made the problem worse. Gerstner had his CFO benchmark costs and found that IBM was spending 42 cents to generate $1 of revenue versus competitors that were spending 31 cents. This equated to $7 billion of expense that needed to be cut!

  • Improve every business process. The early expense cutting was unfortunately and predictably headcount. IBM cut 35,000 jobs in addition to the 45,000 the previous CEO had cut in 1992. Beyond that, however, it was necessary to improve every basic process, all of which had become cumbersome and bloated. Just one example was that IBM had 128 CIOs across 24 independent business units, each running their own systems and applications. This was unglamorous, grinding, and painful work. But necessary. And it worked. From 1994 to 1998, the expense reengineering effort saved $9.5 billion.

  • Sell unproductive assets to raise cash. IBM was almost out of cash in 1993. Bankruptcy was a possible yet unmentioned scenario. More likely was a painful restructuring with creditors that would have limited options. So Gerstner cut the dividend and moved quickly to sell unproductive assets like the Federal Systems Company for $1.5 billion.

Underlying all of this was improved customer and market awareness. A key aspect of changing the culture of the company was making everyone, from leadership down, more aware of customer needs and competitor actions. 

Another amusing aspect of these early changes was Gerstner’s statement at an early press conference that “the last thing IBM needs right now is a vision.”

Gerstner’s point was:

IBM had drawers full of vision statements. We had never missed predicting correctly a major technological trend in the industry. In fact, we were still inventing most of the technology that created those changes.

Basically, “fixing IBM was all about execution.”

Underlying these tactics was a broader strategy:

  • Keep the company together.

  • Reinvest in the mainframe.

  • Remain in the core semiconductor technology business.

  • Protect the fundamental R&D business.

  • Drive all we did from the customer back and turn IBM into a market-driven rather than an internally-focused, process-driven enterprise.

Gerstner makes the point that “a lot of these decisions represented a return to Watson’s roots.”

I find this to be amazing. Many CEOs taking over a troubled enterprise would make dramatic, visible changes in strategy. Gerstner’s bold insight was that the basics of the business were, in fact, right. The issues were in execution and structure. The solution wasn’t dramatic and glamorous. It was dramatic yet behind the scenes.

I’m only scratching the surface here. These were just Gerstner’s first steps. He went on to address the leadership team, the reporting structure, the culture, the brand, marketing, the product and services lineup, geographic organization and reporting, etc.

The entire book is filled with insight. Gerstner had no coauthor or ghostwriter. He wrote it himself. 

Payments on Twitter

I sent a friend some money via Twitter today using Dwolla.

Overall, it was a very slick experience. It took me the time it takes to write a tweet (and I did it on my mobile so conceivably we could do it real time, say, as we settle a check at a restaurant). 

The drawbacks/issues: 

  • Funds transfer. I don’t keep lots of money in my Dwolla account so, first, I had to transfer funds. That took four days. Perhaps as I do this more often, I’ll just keep a few hundred dollars there. 
  • Receiver sign up. The receiver, of course, has to sign up for Dwolla. The service is well-architected in that the receiver doesn’t have to be a Dwolla user at the outset. I can send funds, and they can then go through the sign up process to receive them (or at least in theory as I haven’t confirmed with my friend yet whether he received the funds). But, nonetheless, from the receiver’s perspective it’s somewhat a pain as they first have to sign up. (Admittedly, Dwolla’s sign up process is very well-designed so it’s as easy as it can be.) Then, the receiver has to validate their bank account to transfer the funds to their bank account. That requires them to check their bank account and tell Dwolla the amount of two small deposits they made. It can take a few days. That’s frustrating and takes time. 
  • Transfer fee. I had wanted to pay the $0.25 transfer fee (rather than have the receiver pay it, which is the default). When you transfer on the Dwolla site, you can check a box to do that. I couldn’t do that on Twitter. (So, Ahad, I owe you a quarter.)
  • Pending? Immediately after I made the transfer, I checked my balance in Dwolla, and it still hadn’t reflected the transfer. I also couldn’t see the transfer in the Pending section. That seems unusual because I could conceivably send more money than I have in my account. I did see the following tweet sent from my Twitter account immediately after I tweeted so it seems to have worked:

So there’s some overhead in the process and some tweaks that I’m sure the team will iron out.

Tinkering = Optionality

I’ve been spending more time with the quality books that I’ve read. As opposed to reading them once and moving on to another, I’ve been going back to sections and re-reading them, thinking about them more, reconciling them with my own experiences and pre-conceptions, and generally trying to find a way to get them to stick in my mind with more conviction.

After all, the point isn’t reading. It’s reading so that you do something differently in the future. Or better yet, reading so that you can convince a group of people to behave together towards some meaningful end. 

A post on Farnam Street Blog quoting the philosopher Seneca stuck with me:

The primary indication, to my thinking, of a well-ordered mind is a man’s ability to remain in one place and linger in his own company. Be careful, however, lest this reading of many authors and books of every sort may tend to make you discursive and unsteady. You must linger among a limited number of master-thinkers, and digest their works, if you would derive ideas which shall win firm hold in your mind. Everywhere means nowhere. 

Antifragile and optionality

To that end, Nassim Taleb’s book Antifragile has stuck with me, not so much because I actively made the decision to go back and spend more time with it, but because very often I’ll see, read, or hear something that relates to his ideas. It’s had a dramatic impact on how I see the world.

Most recently, I find myself recalling Taleb’s idea that great advances tend to result more from random tinkering than systematic problem-solving.

The essential ideas in Book IV of Antifragile, ‘Optionality, Technology, and the Intelligence of Antifragility,’ are as follows:

  • Optionality exists all over the place. An option is anything that has limited and small downside, with the potential for extreme upside. There are, of course, the explicit options that exist in financial markets, but hidden options exist in life everywhere. Example: show up to a party. If it’s horrible, you can leave. If it’s great, you stay. (This is probably the underlying idea in Woody Allen’s quote “Eighty percent of success is showing up.”) Limited downside, huge potential upside.

Taleb illustrates with the graph below, quoting Steve Jobs: “stay hungry, stay foolish.” He interprets that to mean “Be crazy but retain the rationality of choosing the upper bound when you see it.”

Picture1.png

  • You have to know it when you see it. Taleb describes an option as follows: Option = asymmetry + rationality. Taleb points out that almost always explicit options are overpriced “…much like insurance contracts…[and] because of the domain dependence of our minds, we don’t recognize [optionality] in other places, where these options tend to remain underpriced or not priced at all.”

  • Don’t outsmart yourself. A key aspect of these ideas is that optionality trumps intelligence. The subtlety is that trying to bring too much linear intelligence is bad. You’ll take a linear approach, come up with a theory, implement an idea, and maybe meet with success. Rather, try a number of things. Place yourself in situations with low downside and huge upside, and then have enough intelligence to know when an upside is taking place. Taleb draws the distinction between the linear approach ‘Academia → Applied Science and Technology → Practice’ and the tinkering approach ‘Random Tinkering → Heuristics → Practice and Apprenticeship → Random Tinkering …’ as two different models of getting to breakthrough, with the latter being far more effective.

The story of Tide

This was all interesting to me but just a vague idea until I read about the story of Tide in a New York Magazine piece titled “Suds for Drugs” that highlighted the incredible market position of Tide detergent.

Shoppers have surprisingly strong feelings about laundry detergent. In a 2009 survey, Tide ranked in the top three brand names that consumers at all income levels were least likely to give up regardless of the recession, alongside Kraft and Coca-Cola. That loyalty has enabled its manufacturer, Procter & Gamble, to position the product in a way that defies economic trends. At upwards of $20 per 150-ounce bottle, Tide costs about 50 percent more than the average liquid detergent yet outsells Gain, the closest competitor by market share (and another P&G product), by more than two to one. According to research firm SymphonyIRI Group, Tide is now a $1.7 billion business representing more than 30 percent of the liquid-detergent market.

I thought that was mind blowing and was very curious how something that huge comes about. And the article talked about it a bit:

Before the advent of liquid detergent, the average American by one estimate owned fewer than ten outfits, wearing items multiple times (to keep them from getting threadbare too fast) before scrubbing them by hand using bars of soap or ground-up flakes. To come up with a less laborious way to do the laundry, executives at Procter & Gamble began tinkering with compounds called surfactants that penetrate dirt and unbond it from a garment while keeping a spot on a shirt elbow from resettling on the leg of a pant. When the company released Tide in 1946, it was greeted as revolutionary. “It took something that had been an age-old drudgery job and transformed it into something that was way easier and got better results,” says Davis Dyer, co-author of Rising Tide, which charts the origins of the brand. “It was cool, kind of like the iPod of the day.” Procter & Gamble, naturally, patented its formula, forcing competitors to develop their own surfactants. It took years for other companies to come up with effective alternatives.

I became more curious about Proctor & Gamble and the deeper story so I checked out the definitive book about P&G that’s referenced in the article, Rising Tide: Lessons From 165 Years of Brand Building at Proctor & Gamble. 

The article already mentioned that P&G was tinkering with compounds, which made me recall Taleb’s ideas. But the book, in Chapter Four, “Science in the Washing Machine,” went into more detail.

At the time, P&G was a good business, “profitable, but by no means comfortable.” It was “unable to achieve anything like breakout success against Colgate or Lever Brothers.”

The chapter echoes Taleb’s ideas right from the start, pointing out that “developing Tide was not a linear process.” In fact, at the heart of it was a renegade engineer, Dick Byerly. 

P&G had an inkling that the synthetic detergent market was interesting, but they weren’t able to crack the code on a compound that would work across the United States, with geographic regions that had different types of water, and would be strong enough to wash heavily soiled clothes without leaving a residue.

By 1939, after a few unsuccessful attempts, P&G had backed away from the area, but Dick Byerly, a researcher in the Product Research Department, just wouldn’t give up.

One of his supervisors described him as follows: “You’ve got to understand the man to understand what he did. He was moody at times, and obstinate as all get out. [His supervisors] had horrible times with Dick on occasion. Just tenacious as all hell.”

"We had a system at P&G that every week you wrote a weekly report," one of Byerly’s colleagues related years later. "Byerly had long since given up on putting this in his weekly report regularly since he had comments to the effect, "What in the hell is he working on that for?"

The whole story is fascinating, including details of how Byerly cautiously looped in his new boss into his research, how his boss was wary but intrigued, how they were pressured to stop diluting resources in an already-strapped research organization, how that pressure increased during World War II, how they stopped and then restarted, how they had to beg for expensive plant resources (and sometimes fly under the radar) to make the granules, and so on.

And then in the early 1940s, they had a breakthrough when Byerly reversed the typical ratio of the key components. All of a sudden, it worked. They didn’t know why (echoing Taleb’s ideas about tinkering trumping intelligence), but it worked. 

The chapter goes into incredible detail about what happened thereafter, but essentially, here’s what happened:

Voice

I’ve been spending time recently getting to know a technology company that helps companies succeed by allowing them to more effectively listen to their customers. Among many innovations, they do so by giving their client companies tools that give their customers a voice. 

Coincidentally, it happened that today I was reading Malcolm Gladwell’s excellent essay, "The Gift of Doubt," in the most recent issue of The New Yorker about the economist Albert O. Hirschman, and the idea of voice presented itself there as well. 

This happens often in my reading. I’m not sure it’s coincidental so much as me picking up on subtle aspects of what I’m reading that match what I’m thinking about. In this case, I’ve been thinking about organizations and dissatisfied constituents. 

In the broad sense, I’ve always been interested in the topic, particularly since, about a decage ago, I decided I wanted to focus on building great companies. I believe in the ability of a well-run company to improve this world—by hiring and training people, by delighting customers with great service and customers, and by generating returns for investors. At its core, the idea is powerful: groups of people come together to create something that creates value for sellers and buyers. There’s an honesty in the market, and (generally speaking) the better offerings and the better companies win.

As part of that exploration of what makes a company great, the idea of being connected to customers is a constant theme. It saddens me when a once-great company becomes obviously disconnected. I certainly acknowledge the difficulty of the problem. Large organizations are hard to manage and tougher to lead. Listening to customers is difficult. Reacting to that feedback is even tougher. The ability to give companies tools to solve this problem is why this company’s mission resonates with me so strongly. 

More recently and on a similar note, I’ve been affected by disenchantment with governments. As I wrote, the unrest bubbling to the surface with varying intensity in almost every major country is too significant to ignore. 

I hadn’t realized these ideas were connected until I read Gladwell’s essay. Gladwell mentions that Hirschman’s most famous book is Exit, Loyalty, and Voice: Responses to Decline in Firms, Organizations, and States. As Gladwell describes it:

The closest Hirschman ever came to explaining his motives [for fighting in the Spanish Civil War and World War II] was in his most famous work, “Exit, Voice, and Loyalty,” and even then it was only by implication. Hirschman was interested in contrasting the two strategies that people have for dealing with badly performing organizations and institutions. “Exit” is voting with your feet, expressing your displeasure by taking your business elsewhere. “Voice” is staying put and speaking up, choosing to fight for reform from within. There is no denying where his heart lay.

I’m going to read that book after I finish the (admittedly daunting) one I just started: The Idea of Justice by Amartya Sen. I ordered Sen’s book and What Money Can’t Buy: The Moral Limits of Markets by Michael Sandel to try and come up with a framework for the role business, and in particular we in the technology industry, might play in the global events I’ve mentioned. 

In his book The Idea of Justice, Sen echoes some of Hirschman’s ideas. The central idea he puts forth is that we don’t need to agree on the exact shape of a perfectly just world. Rather, he argues, reasoned discussion and debate among parties with different views and philosophies can still lead to enough agreement about what sorts of actions and institutions increase or decrease justice that we can move forward.

It’s a subtle and beautifully argued idea within which is the same idea of debate…voice. People have to participate. They have to speak up. 

I’m still developing this idea, but at its core, the idea of voice is something that resonates within me deeply as does the related idea of participation, as opposed to exit. I’m going to write more about this later because I'm observing that some of the ideals that seem to be emerging in the Valley eschew participation. There seems to be a belief that government is so broken—so “90s-era enterprise software company”—that it can’t be fixed, that the best strategy is to avoid or marginalize it. 

I disagree. I argue we in the Valley have an incredible opportunity to improve government and, through it, the lot of many who are suffering.