Normally when I come across an important piece, I put it in Links and instruct readers accordingly. Lambert and Mike B pinged me about a new Bob Cringley piece, The U.S. computer industry is dying and I’ll tell you exactly who is killing it and why, which makes such a powerful and compact statement of how American management has become virtually incapable of building successful, durable enterprises that I wanted to make sure I did what I could to help make sure it gets the attention it warrants.
Cringley correctly focuses on the single worst management idea evah to gain legitimacy: the idea that the job of executives is to maximize shareholder value. That catchphrase is widely presented as if it were a legal obligation. It isn’t. It’s an idea made up by economists that got traction because it was useful to the capital owning classes. As we wrote in 2013:
If you review any of the numerous guides prepared for directors of corporations prepared by law firms and other experts, you won’t find a stipulation for them to maximize shareholder value on the list of things they are supposed to do. It’s not a legal requirement. And there is a good reason for that.
Directors and officers, broadly speaking, have a duty of care and duty of loyalty to the corporation. From that flow more specific obligations under Federal and state law. But notice: those responsibilities are to the corporation, not to shareholders in particular…Shareholders are at the very back of the line. They get their piece only after everyone else is satisfied. If you read between the lines of the duties of directors and officers, the implicit “don’t go bankrupt” duty clearly trumps concerns about shareholders…
So how did this “the last shall come first” thinking become established? You can blame it all on economists, specifically Harvard Business School’s Michael Jensen. In other words, this idea did not come out of legal analysis, changes in regulation, or court decisions. It was simply an academic theory that went mainstream. And to add insult to injury, the version of the Jensen formula that became popular was its worst possible embodiment.
Cringley simplifies, and arguably oversimplifies how the “maximize shareholder value” myth took hold. Its father was Milton Friedman, in New York Times op ed noteworthy for its internal incoherence in 1970. Cringley is correct to point out a 1976 paper by the University of Rochester’s Michael Jensen and William Meckling, Theory of the Firm: Managerial Behavior, Agency Costs and Ownership Structure, as officially putting this thesis on the map. But what gave it real impetus was the leveraged buyout wave of the 1980s. Swashbuckling takeover artists who gobbled up companies (typically overdiversified firms trading at conglomerate discounts) magically created fortunes by breaking them up and selling off the pieces for more than they’d paid for them. Their success was depicted as proof of the Jensen/Meckling theory, that company executives had bad incentives, and “aligning” theirs with those of shareholders would produce better outcomes…well, certainly for shareholders, right?
Cringley points out that there were plenty of other remedies for the problem that Jensen and Meckling were pretending to solve, that the interests of managers and shareholders weren’t aligned. And he stresses that as CEO pay has skyrocketed by virtue of granting them more equity linked-pay, which in turn puts them in the business of goosing the stock price rather than running the business, underlying economic performance has deteriorated:
The average rate of return on invested capital for public companies in the USA is a quarter of what it was in 1965. Sure productivity has gone up, but that can be done through automation or by beating more work out of employees.
And he really gets rolling on how greedy and destructive the executive classes have become:
Now let’s look at what this has meant for the U.S. computer industry.
First is the lemming effect where several businesses in an industry all follow the same bad management plan and collectively kill themselves…
The IT services lemming effect has companies promising things that can not be done and still make a profit. It is more important to book business at any price than it is to deliver what they promise. In their rush to sign more business the industry is collectively jumping off a cliff.
This mad rush to send more work offshore (to get costs better aligned) is an act of desperation. Everyone knows it isn’t working well. Everyone knows doing it is just going to make the service quality a lot worse. If you annoy your customer enough they will decide to leave.
The second issue is you can’t fix a problem by throwing more bodies at it. USA IT workers make about 10 times the pay and benefits that their counterparts make in India. I won’t suggest USA workers are 10 times better than anyone, they aren’t. However they are generally much more experienced and can often do important work much better and faster (and in the same time zone). The most effective organizations have a diverse workforce with a mix of people, skills, experience, etc. By working side by side these people learn from each other. They develop team building skills. In time the less experienced workers become highly effective experienced workers. The more layoffs, the more jobs sent off shore, the more these companies erode the effectiveness of their service. An IT services business is worthless if it does not have the skills and experience to do the job.
The third problem is how you treat people does matter. In high performing firms the work force is vested in the success of the business. They are prepared to put in the extra effort and extra hours needed to help the business — and they are compensated for the results. They produce value for the business. When you treat and pay people poorly you lose their ambition and desire to excel, you lose the performance of your work force. It can now be argued many workers in IT services are no longer providing any value to the business. This is not because they are bad workers. It is because they are being treated poorly. Firms like IBM and HP are treating both their customers and employees poorly. Their management decisions have consequences and are destroying their businesses.
At this point some academic or consultant will start talking about corporate life cycles and how Japan had to go from textiles to chemicals to automobiles to electronics to electronic components simply because of limited real estate that had to produce more and more revenue per square foot so it was perfectly logical that Korea would inherit the previous generation of Japanese industry. But that’s not the way it works with services, which have no major real estate requirements. There is no — or should be no — life cycle for services.
So evolution is not an option because there’s no place to evolve to… You can’t succeed by merely saying you will solve your problems by selling more. You have to run your business a lot smarter. The way for an IT company to succeed is by being being smarter than the competition, not sneakier, dirtier, or less empathetic.
Even though I’ve highlighted some of the really good parts, there’s plenty more. Go read the entire article, now, and circulate it. And I hope some of you will come back and chat it about it here.