UK: NOT SO MUCH A CURE MORE A PART OF THE DISEASE - FINANCIALLY-BASED MANAGEMENT FORMULA. - Robert Heller questions the wisdom of the financially based management formula.

Last Updated: 31 Aug 2010

Robert Heller questions the wisdom of the financially based management formula.

Financially oriented conglomerates (or FOGs), in their time, have made a great deal of money for a great many people - including their founders. The other achievements of the breed are negligible.

The only mystery is why so many others believed the conglomerate myth: that the assets obtained by acquisition were being transferred from weak hands to strong. That was only true if strong is equated with mercenary. There is nothing wrong intellectually (as opposed to morally) with being mercenary. But it is no way to build a business. That demands taking a long view, which may involve paying a short-term price in higher expenditure and lower profits. The philosophy of the FOG, in contrast, revolves around lower spending and higher profits. And that is short-termism with several vengeances.

Vengeance is the word. The damage wrought by the FOGs, in their worst assaults, could hardly be greater if it truly were vengeful. Take one example. The way in which Hanson tore the heart out of Ever Ready has been mercilessly documented by David Bowen, writing in The Independent on Sunday. He gives the lie to the legend of the FOG, to the myth that Hanson-style management techniques could miraculously transform mismanaged British businesses.

Like all management formulas, Hanson's sounds deeply convincing and absolutely coherent. The company has a simple, clear and comprehensive purpose: to make money. All decisions are financially based, and all managers are financially judged. If they meet or surpass their targets, they are rewarded accordingly. If they fail, they are thrown overboard. Spurred by the whip and the carrot, easily monitored through their financial reports, the managers have the enabling conditions for super-performance: responsible independence under directed, demanding control.

Now for the reality. Before takeover, in the late 1970s, Ever Ready's factory near Consett in the north of England made over three million batteries a day. After the Hanson treatment, it makes half a million units daily with a workforce reduced by 87%. The market share of what was once among Britain's dominant brands has dropped from over 80% 18e to 30% by value. The greatly reduced company no longer belongs to Hanson: Ralston Purina, the owner of US Ever Ready, bought the British rump for £132 million.

The tragedy reads like an epitome of the English disease, the economic and management murrain to which the FOG treatment was supposed to be an antidote. Under Hanson, Ever Ready underinvested in the technology, the brand, and the factories. It traded declining volume for higher profitability - just as British industry at large, in the first Thatcher recession, traded leanness and fitness for loss of global position in key markets. That set the stage for the reverse miracle of the post-Thatcher years.

The awful irony is that the Hanson management, with its apparently very different motives, repeated the same pattern of decline that made Ever Ready such an easy takeover target. The old management, confused by the belief that biggest was best, also underinvested in the technology, the brand and the factories. Its worst such failure, however, was driven by exactly the same motive as Hanson's: the profit motive.

The old Ever Ready had a vast sunk investment in the old zinc-carbon battery technology. The new alkaline batteries were a threat that management chose to ignore, even to wish away, because of the damage that conversion would inflict on the company's profits. Many managements - for example, tyre-makers confronted by radials - have made the same error. It is almost invariably fatal: it helped to kill Dunlop.

Technology won't stop for anybody. The price has always to be paid in some way. Either you pay now, in lost profit on obsolescent lines, or you pay later, in lost business. The difference between the choices is lost opportunity. The diehard management simply makes a present to its competitors - as Ever Ready did to Duracell. Low spending on research and development (a miserable 1% of sales) was a down payment on a cemetery plot.

Curiously, a successful product emerged from this myopia. While starting alkaline production too late to save their day, the old management (again, like the tyre makers) sought to stave off that day's evil with a technology that could use the existing plant: zinc-chloride. But this stop-gap brand, Silver Seal, was no answer to the basic problem - loss of competitive power to alkaline brands.

The plant making Ever Ready's own Gold Seal alkaline batteries was much too small. Hanson was faced with a choice: heavy investment in the winning technology, or a far smaller, £4-million investment in Silver Seal to hold the fort - until the white flag went up. This capital spending, naturally, was loudly hailed by Hanson publicists as proof positive that the FOG didn't strip assets, but in fact enhanced them.

In its last 21 months of ownership, Hanson stripped £37 million in pre-tax profit from Ever Ready. The sale price in itself yielded no real profit after allowing for inflation. Ever Ready had cost £95 million, but £40 million of that had been recouped by the disposals which deprived the company of its international assets. That financially-oriented strip guaranteed Ever Ready's failure in a variant of the self-fulfilling prophecy. As Bowen notes in his article, the proprietor could later conclude, sure enough, that a single-country battery-maker had no future.

'Efficiently managed decline' thereupon became the only option. Who thus gained, and who lost? Ralston Purina bought a useful extension of its global business for a song or two. The books show that Hanson shareholders recouped their investment several times over. But the books don't show the fish that got away. Suppose that a truly restored Ever Ready had retained the old many-times-higher volume for Hanson: the shareholder value created would have far exceeded £132 million.

Of course, Hanson-style management could never have created that value. The FOG theory held that you could create value by destroying it. Put in that crude but accurate way, the theory is so vapid that its erstwhile acceptance is astounding. It is not accepted any more. Today it is clear that the FOG treatment wasn't the cure for the English sickness. It was part of the disease.

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