investiledysfunction

We’ve seen Kraft, P&G, Pernod and many other companies in the recent past get on the organic growth bandwagon as they’ve also realized it is the least risky and most coveted by investors.  Our analysis of organic growth efficiency of the S&P 500 over the period from 2002-2007 actually reveals that companies with higher organic growth efficiencies also are rewarded with better shareholder returns.

To that list of the enlightened, let’s add Wells Fargo.  John Stumpf, Wells Fargo’s CEO, states this in no uncertain terms in the August 25th issue of the Financial Times when questioned about doing a mega-deal.  He states, “We don’t need to do a deal.  Organic growth is the core growth engine in this company.”

He later added, “We come from a culture where bigger is not better.  You get bigger by being better, you don’t get better by being bigger.”

Mr. Stumpf hits on organic growth in a practical way and also rightfully disparages the size matters credo which has especially infested financial services.  That said, Wells Fargo is no stranger to acquisitions, but it has tended to do smaller, regional deals which it can fold in to existing operations.

The increasing push and discussion around organic growth is one that we find heartening.  If companies invest in measures to improve their organic growth capabilities, we’ve seen that the numbers paint a very good story.

I’d previously written about Time Warner Cable in a prior post (see Time Warner Cable - A Rant on Why I Don’t Like Monopolies) .  In that, I talked about how customer lifetime value doesn’t matter to a monopoly like Time Warner in NYC because in a monopoly, the customer is stuck with you for a lifetime.

Today, I’ll describe (in much less detail) how the matter ended.  Spoiler alert:  Time Warner’s performance got worse (if that is possible).

With my last bill not reflecting the credits it should have received, I called Time Warner over lunch to just inform them of my prior conversations and to get the credit I’d previously been told I’d get.

The summary of my conversation is that Time Warner informed me I wouldn’t get the credits I’d originally been told I’d receive because of Time Warner policy and that the prior customer service representative misspoke.  While I explained that TWC’s policies nor representative misstatements are not my problem, it was to no avail.

The beauty of this situation still remains that I have no choice but to stick with Time Warner Cable.  So once again, monopolies are great (for the company).  It also makes me look forward to the day when I can use the internet as my television.

More generally, this is worth noting for businesses that can lose customers (unlike TWC).  Organic growth is often best enhanced by maintaining existing customers and cross-selling them on new services and products instead of just aiming to acquire new customers.

The popular blog on all things technology, TechCrunch, recently had a post on something you don’t typically see on the blog - organic growth.  The entry entitled “Does Google Have an Organic Growth Problem” - discusses an analysis by Citi equity research analyst who argues that Google’s organic growth is decelerating.

It was an interesting post and something we were glad to see given our work on organic growth.  Below are our thoughts on the post and the findings about Google.  We’ve benchmarked and analyzed the entire S&P 500 (of which Google is a member) on organic revenue generation and efficiency over the period from 2003-2007, and our #s reveal a similar story, but the picture still is very positive.

We would agree with Citi’s analysis that the organic revenue as a % of total revenue for Google as well as a % of total revenue growth is declining over the longer period we studied.  As compared to Yahoo (the closest comparable to Google if there is one), we have seen that Google is destroying their peer from an organic revenue perspective.Our analysis goes beyond just organic revenue and looks at the efficiency of generating this organic growth, e.g., how much are companies like Google, Yahoo, etc spending to achieve organic revenue growth.  We call this efficiency ratio the Organic Growth Multiplier (OGM).  The logic behind the OGM is that if one company can spend $1 to get $3 of revenue and another can spend $1 to get $5 of revenue, the latter company is healthier and has more momentum in its business.

When we look at the OGM of Google versus Yahoo and versus the larger S&P500 tech financials category, the picture is actually quite pretty for Google.  They’re tops as it relates to OGM which means a dollar of investment into their core business generates more revenue than the average tech sector company.  They also outshine Yahoo on this count as well.

The indexed OGM for Yahoo and Google over the period from 2003-2007 are 50.9 and 312.84, respectively.  Without getting into the quantitative models that underlie this, the point is that Google’s organic revenue efficiency is far superior to Yahoo.

Most importantly from all this work is that we’ve seen that higher OGM and total shareholder return are positively correlated.  So having the ability to generate organic growth efficiently is a good indicator of shareholder returns.

While the assertion that their organic revenue is declining does remain true, the news is not as dire as I’ve been reading elsewhere from those who’ve picked up on this TechCrunch entry.  Yes, if they can turn one of their acquisitions into a money maker, this will obviously supplement some of the organic revenue deceleration that might be evident in their historical core business, but on the whole Google is still a star when it comes to organic revenue generation and efficiency.  The fact that Citi retains its buy rating despite the organic picture is testament to this.

A bit on the methodology.

There are some notable differences from the Citi analysis which despite the similar conclusions do make our analysis more robust.

1.  We’ve looked at a more extensive time period (2003-2007)
2. We strip out market growth for each company.  In essence, if the market is growing at 10% and your company grows at 10%, we don’t give you credit for this.  This is rising tide growth and is not due to management’s actions and investments in the core business.   Organic revenue, therefore, in our models is only the growth we can attribute to management’s prowess (or lack thereof).
3. In our Organic Growth Multiplier, we also look at the efficiency of generating organic revenue by determining how much is spent by each company to achieve its organic revenue.  This gives a truer sense for the efficiency of the company’s organic revenue capabilities.

Amtrak is federally subsidized and to call it’s forecasting capabilities a train wreck (pun intended) would not be an overstatement.  The pseudo-company hasn’t made a profit or met its ridership goals in 37 years.  And yet they’re asking for more money (to the tune of $15 billion) to replace old locomotives and rail cars with more efficient models.

There is a rule of corporate portfolio management and the organic growth it aids and that is you compare promise vs performance for projects and then give resources to those areas where past results and future opportunities are best.  I sincerely doubt that Amtrak’s past projects have done very well, and so it’s fair to assume that this time is not going to be different.  From a federal resource allocation perspective, there are probably better places to place bets.

Managing Director, Pierre Pringuet, of Pernod is looking for some tequila and bourbon.

And while it may make sense for Pernod, the 2nd largest drinks-maker in the world to think of such acquisitions, the organization has for a variety of reasons realized that “organic growth is a must” as Pringuet told the Wall Street Journal in the 7/24/08 issue.

The company’s liquor cabinet is full of brands,  many of which have been gotten through acquisitions (some quite pricey), and now the time and effort turns to generating organic growth.  This is where Mr. Pringuet and his team’s management prowess will really be tested as they aim to generate growth through their actions and investments in marketing, product development, sales, etc.

It’s good to see they’ve seen the light with reference to organic growth.  Now comes the hard work.

Given all of our work focusing on organic growth and its predictive value for revenue growth and total shareholder returns (TSR), I am always glad to see organic growth getting its due in the media.

So when a Financial Times headline from yesterday pronounced that “Kraft Chief Targets Organic Growth“, that was music to my ears.  Kraft CEO, Irene Rosenfeld, commented that the company’s “three-year plan is predicated on organic growth” although she did leave room for M&A to shore up the company’s international footprint.

It’s good to see prominent, world-class companies realizing the power of organic growth and basing their goals on growth measures tied to it.

The Monday, July 7th Wall Street Journal had their monthly Business Insight section which they do in collaboration with the MIT Sloan Management Review.  Usually, the section is full of interesting perspectives which, irrespective of my views,  are well considered and constructed and make you think about numerous management topics.

This latest installment had an article entitled “In Search of Growth Leaders” by Sean D. Carr, Jeanne M. Liedtka, Robert Rosen and Robert E. Wiltbank which discussed organic growth.  As I’ve argued many times in the past, organic growth is less risky/more predictable and ultimately more manageable than M&A growth or market growth and as a result, it is a great predictor of shareholder returns.  Organic growth is the manifestation of management’s ability to extract growth from their core business through their decision-making skills.  I was pretty excited to see that this method of generating growth was getting its due.

But unfortunately, the article fell flat.  Instead of arguing for improved management processes to deliver organic growth, the authors, based on a sample size of 50 mid-level managers, argued that it is a handful of managerial beliefs, talents and behaviors that drive organic growth. They missed the mark.

While I wouldn’t argue that having capable managers at the helm of a business is not important or desirable, the idea that organic growth is driven by recruitment of the right managers possessing “vision, leadership and entrepreneurial talents”makes organic growth appear much more elusive than it need be.

Based on our experience working with organizations seeking organic growth, here is what needs to happen:

1. Organizations must first understand that resource allocation decisions, e.g., investments and projects in marketing, R&D, sales, operations, innovation, etc are what drive organic growth and that they generally have too many ideas and not enough funding
2. Because of this resource constraint, they need a way to better determine the selection and prioritization of organic growth projects.  This can be done by forcing the quantification of these investments in a more data-driven way.  By understanding the strategic, financial and risk benefits and risks of these projects in a consistent and rigorous way, the projects can be considered against one another and selections can be made that leverage data.  I’m not arguing the decisions be made on the basis of a spreadsheet but am calling for decisions that balance analytical and intuition led decision making.  This is very contrary to what the authors of the article argue which seems to push for more intuition-led, decibel-driven decisioning based on the ‘prowess’ of the manager.   This is already the norm in most organizations and doesn’t need to be exacerbated.
3. Creating projections for these investments is obviously not enough as creating fancy, elaborate models is always wrong.  The point is not to create perfect projections which is a fool’s task but to create a mechanism for always improving projections.  As the business adage goes, “What gets measured gets managed” and so the critical step at this point is to actually close the loop on these investments and determine which delivered and which did not.
4. Taking this promise versus performance data, we can use the results to inform future year projections.  Our projections are still not perfect but they are continuously improving and with this, the organization’s ability to select the right projects to deliver organic growth.

With all this information, we’re actually able to objectively determine who the best managers are based on information and not abstract and nebulous determinations of vision and leadership capabilities.  These managers’ practices and ideas can be shared across the organization, and the managers themselves can be put into positions of greater responsibility.  At the same time, those managers unable to deliver are exposed and corrective action can be taken.

Creating organic growth is possible in a systematic way, and it should be treated as a strategic and managerial discipline the organization can continuously improve through consistent attention and management.  Pegging your hopes for organic growth on a few ‘gifted’ leaders and their abilities is foolish and is not a way for an organization to consistently generate organic growth.

While I’m glad to see organic growth coming to the forefront in a publication of this stature, the superficial treatment it received shows there is still more to do to create an understanding of what really drives organic growth.

Today, an article authored by Kenneth Klee was featured on TheDeal.com entitled “Better scorekeeping for investments in organic growth“ and highlighted comments by yours truly and Brilliont about the beneficial impact on organic growth that a corporate portfolio management discipline can enable. 

It’s interesting and actually quite progressive on the part of TheDeal.com to feature an article about organic growth as most of their readership are focused on deals, e.g., M&A - bankers and corporate development people within organizations.  And to some extent, organic growth and M&A are competitive levers that an organization can employ to grow.  Obviously, all organizations invest in organic growth (lowering attrition, acquiring new customers, selling more to existing customers) and many do evaluate and do M&A deals, but the two strategies can compete for resources and mindshare, e.g., build decisions (organic growth/corporate portfolio management) vs buy decisions (inorganic growth/corporate development). 

If you want to read the article, please click here.

Fortune’s March 17 issue contains an excerpt from a book entitled The Game-Changer: How You Can Drive Revenue and Profit Growth with Innovation which is by P&G CEO, A.G. Lafley, and management consultant, Ram Charan, which has a couple of passages which are brilliont (nice, eh?). Before I share Lafley’s awesome insights, it is worth looking at P&G’s stock chart since he took over in 2001. So take a look at the chart below and notice the stocks dismal to pathetic performance until 2001 and then look at when Lafley took over. That is some chart, eh? So how did he do it?

Organic Growth

“We made sustainable organic growth the priority. Organic growth is less risky than acquired growth and more highly valued by investors…Adding a few points in market share can mean hundreds of millions in new revenue.”

Instead of chasing inorganic growth through M&A, Lafley astutely realized that optimizing their portfolio of internal investments in product development, marketing, etc could drive significant value in a much less risky. And the price chart shows the fruits of this effort. This really is one of the best examples I’ve seen of the power of organic growth and the fact that it works. Managing your investments as part of a corporate portfolio really drives performance.

On Innovation

“Long known for a preference to do everything in-house, we began to seek out innovation from any and all sources. Innovation is all about connection, so get everyone we can involved: P&Gers past and present, customers, suppliers, even competitors. The more connections, the more ideas; the more ideas, the more solutions. And because what gets measured gets managed, we established a goal of that half of new-product and technology innovations have some contribution from outside P&G - such as licensing or buying a technology, finding a partner, or making an acquisition. We are already beyond that figure, compared with 15% in 2000.”

I’m really beginning to like this Lafley guy. On the topic of innovation, he hits on so many key elements of innovation and the best part he actually did this in his organization - didn’t theorize or pontificate on it. Let’s dissect his most brilliont points.

• Set goals and measure it - Innovation doesn’t happen. And proclamations about innovation are just that - proclamations. You have to set goals and put them into people’s objectives and then make sure they are achieved. They did this.
• We’re not the smartest guys in the world - Innovation doesn’t happen because the top 10 people in the company think of an idea and go do it. There is no monopoly on ideas. And so opening up the organization and being receptive to ideas from everywhere is smart business.

I hope to meet Mr. Lafley at some point. In the meantime, I’ll settle for his book. For more info on the book, check out it’s Amazon listing by clicking here.

BusinessWeek’s March 24, 2008 issue has an article about Comcast CEO, Brian Roberts, entitled “Deal or No Deal” and the supposed “fork in the road” that he is at.  Wall Street and numerous significant stockholders are hoping and pushing for Roberts to stick to Comcast’s knitting (content distribution) and not go for media mogul-dom.  I’m sure investment bankers are pushing for the big sexy acquisition of a large entertainment company.  As you may remember, Roberts did make an unsuccessful overture to Disney several years ago.

For once, I think the Street is really getting this right.  There is no reason aside from ego or shear boredom for Roberts and Comcast to go after an acquisition especially one so outside it’s core business.  Every few years, the distribution vs content debate emerges with people arguing that one is more important than the other and then people rushing to buy whatever is “hot” at the time.  AOL Time Warner was an attempt at this, right?  Wildly successful, eh?

But the main point here is not that these deals don’t work.  No actually, that is the main point.  M&A really doesn’t work esp when trying to smash two businesses together that aren’t that similar and for which the rationale for the smashing are ever-elusive “synergies”.  So I hope Mr. Roberts continues to focus on his ‘core’ business and grow that and not give into the temptation of becoming a media mogul.

The other assertion made in the article is that the cable business is a low-growth utility.  Ultimately, there should be plenty of room for Comcast to develop new, innovative ways to distribute content.  Pursuit of these efforts would serve to strengthen Comcast over the long-term and at considerably less risk.

If Comcast does pursue the mega-deal by acquiring a content play, does anyone want to bet it will destroy shareholder value?  Any takers?