The Economic Times

Four fundamental laws for CEOs racing against time

Four fundamental laws for CEOs racing against time

The pressure to perform is familiar to most CEOs these days. Nobody gets much time to show what he or she can do, and achieving performance targets becomes even harder when economic turbulence hits.

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Four fundamental laws for CEOs racing against time

Today's CEOs are facing ever stronger economic headwinds, as well as more pressure from stakeholders for breakthrough results

TATA Motors was stalled in 2001. India's largest vehicle maker faced a net loss of Rs 500 crore due to a slowdown in the economy, and was struggling to win customers for its first passenger car, the Indica.
But by March 2003, executive director Ravi Kant had led the auto giant to a net profit of Rs 280 crore by slashing costs. Five years later in 2008, Tata Motors reported a net profit of Rs 2,170 crore—a nearly eight-fold jump—and unveiled the Nano, billed as the world's cheapest car.

The pressure to perform is familiar to most CEOs these days. Nobody gets much time to show what he or she can do, and achieving performance targets becomes even harder when economic turbulence hits. Between 1999 and 2006 in the US, the average tenure of departing CEOs dropped from 10 years to just over eight; in 2006, the median tenure had fallen to 5.5 years. What's more, about 40% of new CEOs last an average of less than two years.
So there is the challenge: nearly every CEO today is expected by his or her stakeholders to achieve new breakthroughs in performance—and fast.

Despite the intensity of these pressures, the high expectations and the shorter time frames, a number of CEOs turn in truly exceptional results. Ravi Kant is one example, but there are plenty of others. Leaders of performance breakthroughs start by systematically determining the business's current condition.

That diagnosis, typically guided by four fundamental laws of business, enables them to gain a deep understanding of the point of departure. They next map out a realistic point of arrival, using the same four laws. Finally, they craft a few vital initiatives, which can be rigorously tracked, to get them where they need to go.

The fundamental business laws are these: First, costs and prices almost always decline; second, your competitive position determines your options; third, customers and profit pools don't stand still; and fourth, simplicity gets results.

Like the constellation Ursa Major—which always points to the North Star—these laws allow businesses to chart the right path. That's especially relevant in today's challenging economic circumstances.

Let's discuss each law in turn.

Costs are always a critical dimension. Indeed, it is a basic law that inflation-adjusted costs and prices in nearly every industry decline over time. The rate can best be charted on an experience curve, which maps costs and prices as a function of accumulated experience. In most industries, costs and prices (in constant currency units) decline between 10% and 30% every time accumulated experience doubles. When sales slow, cost leaders find that they have more built-in advantages to respond to the economic headwinds.

Toyota, for instance, has recently unveiled the first car—the remodelled Crown Sedan—produced under its latest cost-cutting programme, which should generate $2.8 billion in savings. The strong position of Toyota—the number 2 player in the US market by sales—also stems from the aggressive management of the experience curve by Japanese auto makers over the past few decades. This allowed their costand-performance curves to cross those of America's big three in 1972, and Detroit has never caught up since.

Tata Motors has taken a similar approach to reducing costs by applying its accumulated experience. The Indian automaker slashed break-even points for commercial vehicles from two-thirds of capacity utilisation in the financial year ended March 2001 to one-third in the year ended March 2003. This helped in turning the company's huge loss in 2001 into a substantial profit two years later. The firm then put to use its experience with commercial vehicles to reduce manufacturing costs in passenger cars—a vital discipline which enabled it to produce the Nano.

A company's competitive position is the second critical dimension. Market leaders generally outperform followers—leaders' profits and revenues grow faster, their returns on equity are higher and their customers are more loyal. However, in times of economic turbulence—when inflation is high, markets bearish, and credit tight—the competition for market position grows more intense and existing positions may be vulnerable.

In such a scenario, senior executives have to make choices about which levers to pull to improve performance. But many do so in a vacuum. Performance improvement strategies are successful when they reflect a company's position in the market and rely on specific insights about which actions can improve it in the eyes of its customers. Jack Welch began his term at GE by slashing costs and driving every business down to where it should be on the experience curve. Then he developed his famous strategy that GE should be number one or number two in every business in which it competed. These two approaches together accounted for much of GE's success under Welch.

Customers and profit pools never stand still.

But in tougher economic times, both businesses and consumers are likely to shift their buying patterns faster than ever. These changes in behaviour can significantly rearrange the pools of profits that companies compete for. Winning companies prepare for such shifts. One of these companies is

Starbucks, the world's biggest coffee retail chain. Before the advent of Starbucks, the coffee industry made most of its profits in roasting and relatively little in retailing. But when Starbucks introduced its innovative retail model based on the Italian-style coffee bar, customers began flocking to the experience and profits shifted dramatically from roasting to retailing. The company not only led the shift but also precipitated it. India has experienced a similar shift to coffee retailing over the past few years, led by Café Coffee Day and Barista Coffee.

As the coffee example illustrates, profit pools shift but they don't shift randomly. They shift in predictable directions as customers' tastes and behaviours change, and as other forces in the marketplace (and outside of it) exert their influence. A CEO seeking a performance breakthrough needs quick, detailed information about the company's entire customer base. Is the company focusing on the biggest, fastest-growing and most-profitable customer segments? How well does it meet customers' needs? How loyal are its customers?

Simplicity gets results. This fourth critical concept is not realised often enough in good times, as companies add features, variations, and line extensions. These practices will inevitably complicate both production processes and organisations, and interfere with a company's agility—especially during economic uncertainty when it needs flexibility the most. Japanese carmakers today enjoy a complexity advantage over Detroit—fewer models, fewer options and fewer different parts. A recent Bain & Company analysis found that Honda offered its popular, mid-sized Accord in a total of just 484 combinations, including colour, compared to Ford's Fusion, a direct Accord competitor, which has 35,908 theoretical configurations, including colour. While Honda would require half a day to build all possible

Accords, it would take Ford 92 days to build all possible Fusions. Less complexity has also helped Honda's bottom line: its sales have been growing 6% a year while Ford's have been shrinking 1% a year.
This could be useful learning for India's increasingly ambitious auto firms which aspire to make their presence felt on the world stage.

Today's CEOs are facing ever stronger economic headwinds, as well as more pressure from stakeholders for breakthrough results. It may be useful to remember that the simple path to success guided by the four laws represents the basics of great management. Get them right and you are laying the foundation for success.

(Co-authored by Mark Gottfredson. Singh is the managing director of Bain & Company, India. Gottfredson is a partner at Bain & Company)

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