Tag Archives: agency problem

Strategy’s Eclipse and the Big Chief

One of the more provocative business articles I’ve read lately appeared just last week, on forbes.com. It’s a piece by Steve Denning about the collapse of the consulting firm Monitor. The article has already generated thousands of comments and what its own author, in a follow-up post, calls a lot of “social media brouhaha”.

Most of the discussion so far focuses on Denning’s analysis of Monitor’s collapse. He traces the firm’s demise to Michael Porter’s flawed idea that “sustainable competitive advantage” could be gained in markets “by studying the numbers and the existing structure of the industry.” Monitor, in Denning’s view, was selling an “illusory product” that merely “supports and advances the pretensions of the C-suite.” Where Monitor’s approach to strategy failed was where it matters now more than ever: helping businesses connect with or “delight” customers, or innovate, or do things that customers (or, for that matter, society as a whole) want them to do.

Not everyone agrees with this analysis, of course, and Denning has been responding to criticism and comment on the Forbes site and on Twitter. I am more intrigued by what Monitor’s downfall might signify – whether it indicates that there are larger changes afoot.

Denning himself wonders if the firm’s collapse marks the end of an “era”. Several of his readers and Tweeters (including me) have suggested that pure strategy plays are simply no longer viable. But that observation only scratches the surface, I think. The downfall of Monitor may indicate something else as well – a larger change in the configuration of CEO or executive power within the enterprise, and the end of a certain idea or iconography of the CEO.

Denning approaches this very thought as he lays out his historical argument, which is basically the story of how Michael Porter got lucky and launched Monitor at precisely the right moment. When Monitor first appeared on the scene in 1979, writes Denning, a new era was dawning:

Pursuit of shareholder value (“the dumbest idea in the world”) was just getting going with a vengeance. The C-suite was starting to realize that they could cash in, big time. Along comes Michael Porter with a rain dance that justifies their cashing in. Porter arrived at just the right time. Hopefully that era is now coming to an end. People are starting to see the rain dance for what it is.

I would hasten to add that the dumbest idea in the world, the doctrine of shareholder value, helped usher in another very bad idea that is still very much with us — the idea of the “CEO” that started to take hold at roughly around the time that acronym first appeared on the scene, in the early 1970s. The CEO is largely an invention of that period.

I’ve taken up this theme in a few posts (here and here and here). A number of journalists and academics have addressed this same point, directly and indirectly. For Rakesh Khurana, the cultish construct of the CEO emerges out of the transition from managerial to investor capitalism. In response to the growing power of institutional investors (like pension funds, bank trusts, insurance firms, endowment funds, and money managers), boards had, by the 1980s, come to focus almost exclusively on the search for an outside celebrity CEO “savior” who would not only appease and appeal to newly-empowered institutional investors but also make a big splash in the newly-emergent American business press.

Needless to say, this further consolidated decision-making power at the top of the corporate hierarchy. At the same time, the newly powerful CEO had become a cultural icon of celebrity and success. We made a totem of corporate executive power.

If the mantra of investor capitalism was “shareholder value,” the central mystery of the new faith was the “agency” problem (as described in a now-canonical 1976 paper by Jensen and Meckling [pdf]). The interests of shareholders and managers were now to be “aligned.” Results have been mixed: a myopia set in, putting the “focus more on the short-term management of the share price,” writes Christopher Bennett on a Conference Board blog post, “and less on the long-term management of the business.”

In a Washington Post Op Ed, Michael Useem (who’s written the book on investor capitalism) takes it one step further. He connects the “unrelenting pressure of the equity market on company leaders to meet quarterly TSR expectations” with the offshoring of operations, “regardless of the impact on the domestic workforce.” Worse, it’s invited leaders to behave like sociopaths, or at least irresponsibly: “an incessant equity-market demand on company leaders to focus on their own advantage whatever the disadvantage for others” has made “fewer executives and directors…able to step forward to advocate what is required for a vibrant economy, not just what is required for their own prosperity.”

Shareholder value may have not have been the dumbest idea ever, as Denning would have it, but it was, at best, a Faustian bargain for American society. It was an important article of faith — and not just for the believers, but for society as a whole, during the period in which the celebrity CEO took on his (yes, usually his) unique features and cast, all the trappings of his office.

Strategy, especially Monitor’s brand of strategy, played a crucial role here. Denning refers us to a passage in Matthew Stewart’s The Management Myth:

Porter’s theory thus played to the image of the CEO as a kind of superior being. As Stewart notes, “For all the strategy pioneers, strategy achieves its most perfect embodiment in the person at the top of management: the CEO. Embedded in strategic planning are the assumptions, first, that strategy is a decision-making sport involving the selection of markets and products; second, that the decisions are responsible for all of the value creation of a firm (or at least the “excess profits,” in Porter’s model); and, third, that the decider is the CEO. Strategy, says Porter, speaking for all the strategists, is thus ‘the ultimate act of choice.’ ‘The chief strategist of an organization has to be the leader— the CEO.”

With the passing of Monitor, this concept of strategy may start to go by the board. And so, with any luck, will the idea of the CEO as the “superdecider” (Denning’s word) or super-anything. The rain dance is over, and we can now see the Big Chief as he really is.

Can JP Morgan Manage Its Human Rights Risk?

No one questions Jamie Dimon’s competence. It’s just not clear that Mr. Dimon or “any executive,” as the Wall Street Journal put it, “can properly oversee such a large financial institution” as JP Morgan Chase. The complexity of the bank’s balance sheet and the scale and scope of its investments boggle even the best minds. The London Whale losses demonstrate pretty clearly that it’s possible for the bank to overlook, or miss or ignore serious exposure – to do something stupid or sloppy, as Dimon likes to put it. I wonder how many shareholders now wish they could re-cast their vote for an independent chair, to check and govern the CEO; and I wonder, too, how many will question the bank’s claim that it is capable of managing the human rights risk in its portfolio of investments.

As I pointed out in a previous post, most boards reject human rights proposals on three grounds: that they would be restrictive, burdensome, or redundant. The JP Morgan board stuck pretty close to this script in urging shareholders to vote against a resolution for a “genocide-free” investing policy, which would ensure that its investments did not “substantially contribute to genocide or crimes against humanity, the most egregious violations of human rights, and to assist customers in avoiding the inadvertent inclusion of investments in such companies in their portfolios.” (You can read proposal 8 and the board’s response in the proxy statement here [pdf]).

Most immediately at issue are the banks investments in PetroChina and its subsidiary China National Petroleum Corporation, which pose “high risk due to their ties to the Sudanese government and its connection to human rights abuses.” That is not the hyperbolical cry of some outraged human rights advocate, but the sober and clear-eyed assessment of the board at T. Rowe Price; they joined 27 US states, 61 colleges and universities and the European Parliament’s pension fund in their decision to divest from PetroChina. JP Morgan, on the other hand, “increased holdings of PetroChina after being made aware of PetroChina’s connection to genocide,” CNN reports; and this year, again, the board confidently – some might now say arrogantly – asserted its ability to manage human rights risks:

 We use our extensive risk management processes and procedures to consider human rights and other reputational issues associated with our businesses….The Firm has a robust risk management framework…, and management routinely reviews specific business clients and transactions including where appropriate for consistency with our Human Rights Statement.

This year, the board had its way. The “genocide-free” proposal went down in defeat, garnering only 9.2 percent of the vote (which, by the way, means it’s not going away any time soon.) But the losses in London, which could run as high as five billion and will be difficult to unravel, give the lie to the board’s argument that further human rights risk review would be merely redundant. To the contrary, the losses raise serious questions about the bank’s ability to manage risk — of any and every kind. Its much-touted risk management framework does not seem so “robust” as the board makes it out to be. And it appears Ina Drew and crew operated without routine reviews or oversight. How, then, can the bank ensure that its investments in PetroChina and around the world are not exposing investors to other, more serious risks?

I refuse to believe that most investors don’t mind blood on their money; their confidence should be shaken.

As for Jamie Dimon, London harbored his white whale. China may turn out to be his human rights dragon. It’s said that when he first discovered the extent of the losses in London he could not catch his breath. Imagine what might happen if Jamie Dimon really understood the atrocities in Sudan and the part JP Morgan has played in them.