Disruption vs. Shareholder Maximization

[With our Global Strategy course this semester, I'm going to highlight a bunch of interesting business models and strategies]

I don't think I made too many friends in our Strategy class this weekend when I called the b.s. on two of the foundational principles of MBA programs: Accept all positive NPV projects and Shareholder Maximization Theory. I understand the concepts, and I understand the techniques. I'm just not convinced that it's the right guiding culture to build long-term companies. As Dr.Baliga stated this weekend, "too many times, those projects start with budget and then get wedged into strategy after the fact". I couldn't agree more.

Here is a good example from a recent article about Netflix, and how they are once again innovating to change and disrupt the market.But this time, they are not only disrupting the market with streaming video, they are potentially disrupting their current business model. I suspect that Netflix probably has positive NPV projects (today) that have values greater than their streaming projects, but are they aligned to help Netflix avoid the inevitability that all media will move online? The streaming project would eventually get funded using traditional approaches, but they would probably get started two years late and Netflix would be watching a streaming-only company pass them by.

"Everything in Moderation...Including Moderation"

I've got to apologize in advance for this one, because it has no business being a blog post. It has the potentially to be long, confusing, and maybe not terribly well thought out. I try not to let this blog be a diary, but this one could turn out to be like a notepad capturing a bunch of ideas that I'm trying to piece together in my head.

Before I get started, I should explain the title of this post. I have a family friend that uses the phrase every time we talk about something that goes out of control. I like it because it's simple to remember, and it forces me to take a long-term view on things. It enforces the value of strong fundamentals and being well-rounded, but also encourages risk-taking and exploration within the framework of moderation.

One of the things that I've been thinking about frequently this semester is the idea of value creation, and how to sustain that over long periods of time in the face of growing short-term pressures (profitability, competition, etc.). When the world collapses upon itself because people and companies create artificial value, it becomes an interesting time to look for examples of companies that didn't get crushed and what discipline they used to avoid the mess.

Amazon is a great example of a company that takes very long views of their business, and allows those goals to drive their strategy and decision-making. Back in 2002-2005, Amazon's stock price took a beating after the DotCom bubble burst. They were widely criticized for making major investments that wouldn't pay off for years, and even then were considered very risky. But CEO Jeff Bezos continued to state that his strategy of innovation would allow them to grow in the long-run, and that he would essentially ignore short-term shareholder sentiment in order to execute his plans and go after new market-share.

But what about the shareholders? Aren't they supposed to come first in the outputs of a leader's decision making? How do you measure the patience they should have for curiosity around innovations? How do you get approval for those project which only have positive NPV's if the 100:1 scenario succeeds, and it's success depends on a market, business-model or technology that doesn't exist yet?

Amazon got through the mid-2000's and is now executing very well, and has expanded into several new markets which were not on anyone's radar screen in 2002. And even now, Bezos' need for continued exploration is driving a new phase of innovation.

By employing the philosophy and methods of kaizen across the organization, as Bezos does at Amazon, does this imply that we're going to hit more singles and doubles that home-runs? Home-runs get on ESPN SportsCenter, but they also are frequently associated with strike-outs. Do home-runs and strike-outs give us a better chance of long-term survival and success, or does a high on-base-percentage of singles and doubles lead to greater long-term success?

It's a difficult question to answer. Managers and Entrepreneurs get caught up in the spotlight of IPO's, big bonuses and buy-outs. But is it truly creating value? Andy Grove, former CEO of Intel, recently commented on today's Silicon Valley entrepreneurs and their lack of long-term thinking on building companies and value creation.

As I stated at the top of the post, I knew this wasn't going to be well organized or come to clear conclusions. It's just a set of examples and ramblings as I try and pull together my thoughts on the mindset needed to come out of these challenging economic times. It's the tradeoffs between Shareholders and Stakeholders. Between investing in innovation and investing in concepts that are believed to have positive NPV (in some known time period, using known business models). Between the agency conflict of long-term company values and near-term manager goals.

OK, I'll end it here for tonight. Lots of other work to get done. I'm sure I'll come back to these notes and thought-process at a later time, when I've got more examples from both sides.

Discussion of the Week - Prioritizing Shareholders vs. Stakeholders

Over the weekend, we had our first Financial Mgm't class, with Dr.Sandra Dow. One of the readings for the class was a piece by Michael Jensen (Harvard Business School), entitled Value Maximization, Stakeholder Theory, and the Corporate Objective Function.

[I'm paraphrasing & summarizing here, so my apologies to Dr.Jensen for butchering his theory]

The paper makes the argument that companies need to consistently put the maximization of Shareholder Wealth as their top priority, ahead of goals to enhance Stakeholder "value".

It was an interesting topic for a couple of reasons:

1 - Several other courses have brought up the Balanced Scorecard model as an example of how to manage the business, often showing that Balanced Scorecard provides management with balance across Financial, Customer, Internal Business Processes, and Learning & Growth. This was the first time the Balanced Scorecard was presented as the wrong approach for running the business, and that it led to too many internal conflicts to be able to manage simultaneously.

2 - It was the first class with Dr.Dow, and the first couple hours were spent going over the Pros and Cons of these different prioritizations. Needless to say, it was a healthy discussion as my classmates had very strong opinions (on both sides) about how well each approach worked in their experience, the morality issues, the conflicts of interest with employee/mgm't stock ownership, how much lower-level employees or managers could impact shareholder wealth (ie. stock price), etc.. Dr.Dow has been very generous with her time in extending this discussion with several of us via email since the class, and I expect it will be an on-going discussion throughout the semester, especially given the existing economy (how we got in, and how we might get out).

Overall, it was a good discussion to reflect on how this applies to each of our companies, our existing roles, and if we'd make any changes if we held higher roles within our organizations. I personally used it to contrast some existing thinking I've been having about 20th Century vs. 21st Century thinking that has been inspired by Dr.Umair Haque, and his recent talk at the Daytona Sessions in Sweden.

[UPDATE: An interesting article looking at how Amazon has created an 180* turnaround on their balance sheet (2002-2009) and how it used an unorthodox model of revenue growth vs. profit growth.]