Tja, det er vel mer i GE sitt fall en litt mindre behov for gassturbiner.
GE - How the Mighty Giant Fell
Published on September 17, 2019
James Wong
James Wong
FinTech | Business Management | Market Development | INSEAD Global Executive MBA
2 articles
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On Oct 1, 2018, GE ousted John Flannery as CEO and Chairman after 14 months on the job, and for the 1st time in its 126-year history, GE will be led by an outsider, Larry Culp. For a company famous for its “people factory” in grooming Fortune 500 CEOs, it was no less than a complete cultural shock to be led by an outsider. Yet for many GE observers, this was just what GE needed. Between 2001 and 2018, the company lost almost 90% market value while the Dow Jones Index nearly tripled in the same period. The company lost its coveted “AAA” rating in 2007, and was kicked out of the Dow Jones Index in 2018 after more than a century as the original component. How can such a storied icon with long legacy of successes fall so precipitously? Many would attribute to a series of poorly timed capital allocation decisions, including the disastrous acquisition of Alstom. Some may say it was the earning collapse from its Energy division. However, I would maintain that these are the symptoms of the problem rather than the root causes. For an iconic company to tumble so unceremoniously, it has to do with much deeper elements, the very essence of the company, such as culture, organizational structure and corporate governance.
From “Vitality Curve” to “Management via App”
“…I came to see, in my time at IBM, that culture isn’t just part of the game – it is the game.” Lou Gerstner famously reflected on the importance of culture (Gerstner, 2003). Just like IBM, GE was famous for its distinctive culture as well. Under Jack Welch, GE was synonymous with “meritocracy”, “vitality curve” and “six-sigma”. In his book, Welch fondly told a story about his first raise in GE which almost drove him to leave the company. He was expecting a much higher raise than his colleagues after working his heart out. When he found out that he received exactly the same raise as everyone else, he was so angry that he quit. He was later convinced to stay after getting a hefty raise (Welch, 2001). That story illustrates Welch’s management philosophy succinctly – people should be rewarded for what they contribute, nothing else. The GE under Welch was a company thrived on differential treatments based on contributions, and insisted on removing underperformers every year. To make this work, managers were expected to spend significant amount of time on people management to ensure fairness. Welch himself spent more than 50% of his time on people management, and knew the top 500 leaders of the company by name, and personally reviewed their performance every year (Welch, 2001).
When Jeff Immelt took over the leadership role, he symbolically removed the formal ranking or the “vitality curve” of employees. 10 years later, he also ended the annual performance review, and replaced it with a less regimented system of more frequent feedback via app called “PD@GE”. The move was touted as a response to a younger workforce as “It’s the way millennials are used to working and getting feedback…” according to Susan Peters, GE’s head of HR (Nisen, 2015). Strategically, it might be seen as Immelt’s attempt to recreate GE in his own image since nothing symbolizes the Welch era more than the “vitality curve”. However, the new performance evaluation system lacked the objectivity in linking rewards with performance, fundamentally shaking the company’s meritocracy culture. The performance review became more subjective than objective, and over time, it fostered a culture based on interpersonal relationships rather than performance and contributions.
In Pursuant of Organic Growth 2-3 Times of World GDP Growth
Another major shift in Jeff Immelt’s overhaul of GE culture was the emphasis on sales growth and risk taking with less emphasis on bottom-line results (Brady, 2005). While Welch was no less fervent about revenue growth, he was laser focus on profitability and cashflow. GE leaders were measured not only on the top line, but also the bottom line. However, Immelt steered the company to focus on sales growth amid a slowing economy. He came up with slogans, such as “imagination breakthrough”, and changed the company’s tagline from “We Bring Good Things to Life” to “Imagination at Work”. To enforce the pivot to sales, he tied executive compensation to new idea generation and sales growth, and set ambitious targets to generate organic growth 2-3 times of the world GDP growth (Stewart, 2006). For a company the size of GE, such an ambitious undertaking was unheard of, but Immelt liked to set audacious goals. More importantly, he disliked bad news or pushbacks on growth targets, which created a culture where bad news gets sanitized before it reaches to the top (McGregor, 2018). During business reviews, he would scold executives for not pushing hard enough if the targets were below his expectations. On the other hand, when the leader of the Energy business presented an unrealistic growth target of 5% during the market downturn, he didn’t bother to challenge the assumptions, which turned out to be based on hot air, and directly contributed to GE’s huge earning miss in 2017 (Gryta, 2018).
The push to deliver high growth targets would drive GE to divest valuable businesses during market downturn while pursuing expensive acquisitions when the market was hot. For instance, GE spent $14 billion between 2007 and 2014 to acquire oil and gas assets, such as Lufkin Industries, when oil price was rising. When the oil price collapsed from 2014, profit from Oil and Gas plummeted by 92%. In 2014, GE acquired Alstom for $17 billion, the largest acquisition in the company’s history, with hopes of synergies from cost cutting and market dominance against the advice of its own experts (Bennett, 2018). It was another failed acquisition poorly executed with lots of wasted capital. Eventually, GE wrote off $23 billion of Goodwill from these acquisitions. With GE Capital under strict government supervision after the financial crisis, the business growth slowed down drastically, and Immelt exited the business with a fire sale that shrank the Capital portfolio dramatically in 2015. Instead of using the proceeds from Capital’s asset sale to shore up the company’s balance sheet, Immelt launched a massive share buyback program, costing more than $90 billion, to pop up the stock price.
The mismanagement of company capital in pursuant of unattainable growth targets sowed the seeds of crisis, slowly depleting the company’s moat of defense, and began to unravel in 2017, leading to a cascade of events that brought the once mighty giant to its knees.
General Managers vs. Industry Experts
Under Welch, GE rotated managers across its many business divisions every 2-3 years, giving managers broad exposure to various businesses, which helped the company build a deep bench of talent ready to backfill any leadership vacancies.
Immelt felt differently, and decided to keep managers on the job much longer to build industry expertise. As a result, there was little management movements across the different divisions. For instance, while Immelt had jobs at Corporate, Plastics, Appliances and Healthcare before being promoted to the top job, John Flannery had spent most of his career at GE Capital. Consequently, GE managers knew little about other divisions in the company other than the presentations at company reviews. With that in mind, it was no wonder that John Flannery needed to spend months to dissect the various businesses after he took over as CEO even though he had been with the company for more than 30 years. Unfortunately, John was not able to sort out the mess before he was forced out. The company didn’t prepare him well to take over the job which was another departure from the meticulous succession process GE was famous for.
The lack of management rotation may also explain why the Energy division was able to stretch its service contracts to dress up earnings while the true cost of the long-term care insurance contracts at GE Capital was never fully disclosed until too late. For instance, the head of Energy, Steve Bolze, had been in the position since 2005, and surrounded himself with cronies motivated to help him succeed Immelt as the CEO (Gryta, 2018). With a different business leader at the helm, the problem could have been uncovered earlier with less dire consequences for the company.
Where was the GE Board?
During GE’s long steep decline, why didn’t the board take action to protect the company from demise? The GE board was a distinguished group comprised of accomplished top executives and leaders with relevant expertise to effectively oversee management. How could such a group renegade their responsibilities so badly that some of them would later suggested that they should all be fired (Gryta, 2018)? There are three possible explanations.
1. The board was too large. The GE board had 18 members while the average size of the public company board in the US is 11 (Pozen, 2018). The large number means no single director was able to hold sway of the board, and members could defer decisions to others without being singled out. The CEO was also the Chairman of the board, and had a lot of influence on the appointment and dismissal of board members. For instance, one board member was forced out due to disagreement with Immelt on some key issues (Gryta, 2018).
2. The board was complicit. GE had been accused of managing earnings to meet Wall Street projections since the Welch era through last minute adjustments at the GE Capital division. In 2009, the company was charged by SEC for revenue recognition frauds, and settled the matter with a $50 million fine. The board should have questioned management on the accounting practice or brought in external adviser to scrutinize over the matter, but it didn’t (Pozen, 2018)
3. The board was too accommodating. Many of the board members had started their board membership from the Welch era, and they were accustomed to letting Welch run the show, and share the credit for the outstanding performance. The company’s tradition of having long-tenured CEOs also meant the board was used to giving the CEO more leeway to run the businesses rather than micromanaging. In light of the external challenges, such as 9/11 and the global recession, the board might have also been more sympathetic and patient to Immelt’s performance than it would otherwise.
Final Words
Whilst GE’s downfall may have appeared to be sudden and unexpected, it was the culmination of a series of actions dated back to the beginning of the Immelt era and even from the Welch era. At the very heart of its demise is its culture. A culture that thrived on meritocracy and excellency was replaced with “superficial congeniality” and false competences. Ironically, those were the exact traits Jack Welch disdained the most. That might be the reason why he gave himself a “F” for choosing his successor. Incidentally, Larry Culp was almost cut from the same cloth as Welch, so there is hope that Larry could be the right guy to lead the company’s turnaround. There are still many strong elements in the GE system. With a competent leader in place, the culture could be changed again, and good things will come back to life for GE.