AS THEIR finances go into meltdown, companies are scrambling to cut costs across the board – in every place but the right one. According to a new study on global productivity by Proudfoot Consulting – tellingly entitled ‘A world of unrealised opportunities’ – UK managers are fiddling while their companies go up in flames, spending more than half their time on admin and unproductive activities, compared with just 11 per cent on improvement-oriented training and active supervision. Partly as a result, frustrated managers believe that nearly 40 per cent of potential productivity improvements in the next two years will be left on the table.

Proliferating bumf shows the size of the problem. Thirteen reports a month thump on to UK managers’ desks, more than anywhere except, for some reason, Brazil. More than half are no help in getting the job done, managers say they would like to slash paperwork by 40 per cent, again the second highest figure in the world. All in all, managers in Britain spend nearly a day a week doing things that have no impact on productivity – an 8 per cent increase on last year.

While shocking – aggregated up, time thus wasted would be the equivalent of several per cent of GDP – this is hardly a surprise. Three years ago, General Electric estimated that administration and back-office functions were costing no less than 40 per cent of its revenues. Think about that for a moment. What’s considered one of the best-managed large companies spends $60bn a year on stuff that adds no direct value to customers – or, in plain English, is wasted. At less tightly run ships, the proportion is likely to be much higher.

What’s going on here? After all, companies of all descriptions have been downsizing and outsourcing for decade. In manufacturing, the labour content of advanced products is down to a few per cent. Service personnel are notoriously underpaid (except in finance…) and overstretched – witness dismal customer satisfaction levels. So where’s the fat?

As the GE and Proudfoot figures suggest, the answer lies in indirect costs, or overheads: finance, human resources, marketing, IT, legal – and, of course, management itself. It’s not just, as Proudfoot suggests, that middle management is weak and the workforce lacking in training, although that is true. The fact is that almost all organisations today generate hideous quantities of waste – although it is usually unrecognised, because that is the way they do business.

Take, for example, the contact centres that are the staple of the outsourcing industry. As customers, we know they are always busy – but most of their work is waste. Vanguard Consulting, which specialises in service organisation, estimates that, in financial services, 20 to 60 per cent of all calls represent ‘failure demand’ – demand caused by a previous error. In telecoms, the police and local authorities, a staggering 80 or 90 per cent of calls occur because of the same failure to provide proper service the first time around.

Putting this another way, if organisations were set up to deliver what custom ers wanted in the first place, at least half their call centres wouldn’t need to exist, along with their attendant managers, HR people and expensive IT systems. But the same principle operates throughout organisations. Management feeds on itself. Because of a chronic disconnection between the work and the customer (whether internal or external) at every level, there is a mushrooming need for people to take calls, chase progress, and reschedule and redo work that would be unnecessary if service flowed smoothly to the customer.

According to accounting professor Tom Johnson, in most organisations ‘each person whose work eventually serves customers’ needs is ‘shadowed’ by another whose job is to keep track of other people’s work or patch up mistakes that slip through’. By eliminating the need for such people, companies could cut their short-term operating costs in half, he believes.

In a benevolent circle, by producing things more closely in line with customer demand, they would reduce their dependence on advertising and marketing spending too. As Vanguard’s work with service organisations has shown, there is a paradox here. Counterintuitively, managing costs directly causes overall costs to rise, because managers are looking at the wrong thing. If they manage value to the customer, they cause costs to fall – because they are no longer paying to provide what the customer doesn’t want, for rectifying mistakes, and for managing all that pointless activity.

Costs can’t be suppressed, or at least not for long. They can only eliminated by designing value in. Until companies get that message, overheads in most firms will continue to rise faster than revenues, productivity will stagnate – and managers will spend most of their time on the equivalent of twiddling their thumbs.

The Observer, 7 December 2008

IF YOU THOUGHT you felt the earth shudder on 23 October, you were right. When Alan Greenspan told the House Oversight Committee ‘I made a mistake in presuming that the self-interests of organisations, specifically banks and others, were such that they were best capable of protecting their own shareholders and their equity in the firms’, the effect was the same as Frodo and Sam casting the Ring of Power into the fires of Mount Doom at the end of The Lord of the Rings : the edifice of 21st-century management shook to its foundations.

Self-interest as the driver that, like an invisible hand, permits individuals acting on their own behalf to benefit society as a whole goes back to Adam Smith. But Smith at least realised the drastic inequities it would cause and proposed measures, including progressive taxes, to mitigate the worst effects. No such caution has been in evidence since the 1960s as the concept has become the central belief around which all Anglo-American corporate governance, and thence management as a whole, revolves.

Self-interest (and the need to guard against it) is the reason for dividing the chairman and chief executive’s role, just as it is for setting executive and non-exec directors against each other self-interest justifies and encourages individuals to demand vast pay (including in the public sector) without thought for the consequences finally, a near religious faith in the power of self-interest to both motivate and police is the foundation on which, as Greenspan now regrets, Wall Street’s rocket scientists erected the teetering superstructure of debt instruments crashing down around us.

The real-world consequences of a commercial universe with self-interest at its heart thus give the lie to previous assumptions about how individuals and organisations work. In this sense, Greenspan’s mea culpa might be likened to the Vatican’s admission in 1992 after a 13-year inquiry that Galileo had, after all, been right (‘It’s official – the Earth moves round the sun,’ as the Chicago Sun-Times caustically put it at the time).

Common sense suggests a number of reasons why self-interest-centred commerce is as flawed a model as an Earth-centred solar system. Self-interest contains within it the seeds of its own destruction. It drives for reward, but once rewards reach a certain size it can no longer function as a discipline. When rewards were less high, self-interest was tempered by the need to nurture the reputation a career depended on. With salaries at current stratospheric levels, however, self-interest provides no such restraint, since careers are redundant.

Anyone who has done one big deal – or worked in the City for more than a few years – never need work again. Far from being a restraining influence, in these circumstances self-interest promotes a short-term focus on transactions that in turn amplifies its second baleful impact: increasing distrust. As anyone not blinded by fundamentalist zeal must see, the obverse of the coin of self-interest is lack of trust – and both are self-reinforcing. The swelling of self-interest is in direct proportion to the draining away of trust, the cumulative results of which are now visible all around us.

An interesting recent article in the science weekly Nature , signalled by a correspondent, laments how dependent economics is on unproven axioms, and how resistant to empirical observation. In the physical sciences, notes the (physicist and hedge-fund manager) author, researchers ‘have learnt to be suspicious of axioms. If empirical observation is incompatible with a model, the model must be trashed or amended, even if it is conceptually beautiful or mathematically convenient’.

Not so in economics, whose central tenets – rational agents, the invisible hand, efficient markets – derive from economic work done in the 1950s and 1960s, ‘which with hindsight looks more like propaganda against communism than plausible science. In reality, markets are not efficient, humans tend to be over-focused on the short term and blind in the long term, and errors get multiplied, ultimately leading to collective irrationality, panic and crashes. Free markets are wild markets’ – for which classical economics has no framework of understanding.

In fact, it’s even worse. It isn’t just that, as the author points out, economics has been remarkably incapable of predicting or averting crises such as the present credit crunch through the medium of management based on its faulty assumptions, it has actually helped to cause it.

It’s an error to think that management, or even economics, can ever be a ‘hard’ science, not least because of their self-fulfilling premises. That doesn’t mean they are unworthy of study and understanding. On the contrary. But, as Greenspan sorrowfully acknowledges, the first step on that path is to bow to empirical observation and stop trying to prove the Earth is the centre of the universe.

The Observer, 16 November 2008

ALONG WITH the election of a black President and the end of 30 years of Reaganomics, here’s another thing to celebrate this week: the 10th anniversary of Divine Chocolate.

Actually this juxtaposition is less forced than it sounds, since in a small way the founding of Divine Chocolate in 1998 was a deliberate counter to Reaganomics. It was an attempt to demonstrate an alternative to unregulated free trade and the market pressures that allow powerful multinationals and their shareholders to benefit from low commodity prices – prices that keep the farmers who grow the crop in such poverty that few have ever tasted the final product.

In theory (as sceptics pointed out at the time), the idea of creating a new brand in an overcrowded arena couldn’t work. Chocolate is a cut-throat, advertising-led global business dominated by big multinationals – Cadbury, Mars and Nestle own 80 per cent of the UK market, half of which goes through the supermarkets.

As a Fairtrade enterprise, Divine gave itself another handicap by deciding to compete in the mass-market rather than the premium segment while paying higher-than-market prices for its cocoa, plus a Fairtrade premium to fund community projects.

Furthermore, Divine is co-owned by a group of organisations with differing agendas, including alternative trading company Twin, which set it up, Dutch microfinancier Oikocredit, Christian Aid and, at 45 per cent the largest shareholder, Kuapa Kokoo, the Ghanaian farmers’ cooperative whose cocoa is Divine’s raw material (this courtesy of Clare Short at the Department for International Development, whose loan guarantee allowed the cooperative to participate in the company as owner rather than just supplier).

Finally, admits Sophi Tranchell, Divine’s feisty and articulate managing director since the beginning, neither she nor the first sales manager knew the first thing about UK food retailing. ‘I just thought, it’s a great bar of chocolate and a terrific story – how could it not work?’ she says. ‘It’s a good job we didn’t know what we were doing. If we had, we probably wouldn’t have started.’

Yet work it does. Divine is not just a worthy project – ‘heavenly chocolate with a heart’ – which is, among a raft of other plaudits, The Observer‘s Ethical Business of 2008.

It is also a profitable one. On turnover that rose to pounds 10.7m, Divine last year made pre-tax profits of pounds 635,000, allowing it to pay a dividend for the second time. In 2007 it launched in the US, giv ing it a foothold in a $13bn market with huge potential.

Tranchell has a campaigning background, and campaign is the best description of the first attempts to get Divine chocolate in the shops. First to take it was Tesco, which promptly took it out again. The Co-op then placed it in a few outlets, as did Sainsbury and, oddly, Iceland. The first real breakthrough came through a Christian-Aid-orchestrated assault on Sainsbury that got Divine into 350 stores – in effect national coverage.

The second turning point came when the Co-op, wanting to make a big statement about Fairtrade, decided to source all its chocolate bars, including own-label offerings, through Divine. ‘That gave us the income and time to grow the brand, develop new products, and sell them in,’ says Tranchell. The company is now in drinking chocolate, boxes and bakery as well as bars.

For Tranchell, the lesson of the company’s first decade is a cheering one: that consumers do have power and, if given the opportunity, will use it. The key to getting them to act is personalising the story. ‘I never met anyone who didn’t like the chocolate,’ says Tranchell. But neither customers nor retail buyers knew anything about the farmers who grew the stuff. The same was true the other way round: many farmers had never seen, let alone eaten, a bar of chocolate.

Making consumers and producers visible to each other has a revelatory effect. Tranchell is clear that Divine has to be ‘fantastic chocolate – people won’t buy it if not’. But after that, of huge resonance is farmer ownership. The message goes down particularly well in the US, where ownership is part of the American dream. In fact, at least in the US, it is a stronger message than fair trade.

So what next? Further expansion, obviously, particularly in the US (so far, says Tranchell, sales are holding up in the crunch). Beyond that, she’d like to develop more involvement for UK employees, John Lewis-style, to match initiatives to reinforce the functioning of the co-op. She’d like Divine to become a model for others to follow she says: ‘It’s a good way of doing business’. As her company moves from simple trading that improves the daily lot of poor farmers to fulfil the long-term goal of creating capital for those who previously had none, yes, it is. In more ways than one.

the Observer, 9 November 2008

JOHN CLOUGH smiles wryly at the news that the number of fuel-poor has just increased by a third to 3.5 million. As chief executive of Eaga, a green services company whose job is to help people out of fuel poverty, he can’t ignore the prospect of a few hundred thousand more homes to insulate and heat. As the son of a Northumberland miner who can remember huddling around a coal fire to keep warm, he shivers at the thought.

Newcastle-based Eaga – originally the Energy Action Grants Agency – is a company for which the time ought to have come and the same might go for the forthright, charismatic Clough, its driving force. The inspired offspring of the public sector, Eaga is now a publicly quoted company co-owned by employees, ‘selling’ low carbon and social inclusion – ‘public-sector values delivered in a very effective way’, as Clough puts it.

The company could be a poster-child for post-crunch capitalism, the embodiment of Peter Drucker’s definition of the socially responsible business, turning ‘a social problem into economic opportunity and economic benefit, into productive capacity, into human competence, into well-paid jobs, and into wealth’.

For this, thank a series of bold, entrepreneurial and fortuitous decisions. Eaga came into being in 1990 to manage a pounds 25m contract to insulate and draught-proof poorly built homes under the government’s Heating and Energy Efficiency Scheme. Clough was employee number 1, of five. The luck (or genius) was for Whitehall to establish the organisation as a company limited by guarantee, rather than as an agency, which allowed for a relatively easy transition to the employee-owned business – modelled on John Lewis – which it became in 2000, with 150 on the payroll.

From then on, things speeded up. As Clough intuited, the partnership ethos was a good match for the daily job of improving the homes and living conditions of the less well-off. A clean sweep of the government’s Warm Front residential energy efficiency contracts in 2005 was the cue for Eaga to stop just managing programmes and start delivering services itself. Since then, it has built its own insulation and heating companies – what it proudly calls its ‘national blue-collar delivery capability’ – both organically and through acquisition.

By 2007, though, the company’s ambitions were running ahead of its means. Clough and his colleagues could see other and much bigger issues looming.The move to a low-carbon, inclusive society, he predicts, will throw up a whole range of environmental issues to solve: not just energy efficiency, but access to technology and, in the future, water as well. ‘In a 50-year time frame, the needs – and opportunities – are enormous.’

As early proof, Eaga has picked up a pounds 200m contract to deliver Scottish Power’s commitments to reduce overall carbon emissions, and will earn pounds 500m from the BBC to carry out the digital switchover. Building on its work on fuel poverty, it has developed a one-stop benefits advisory service which has enabled a third of enquirers to claim, on average, an extra pounds 1,500 a year. It is now busily expanding into the social housing sector.

To get into these markets, Eaga needed to take a risk on the balance sheet. The partnership trustees had been signalling for more than a year that this kind of expansion would be impossible without access to the capital markets, says Clough. So after some heart-searching – and scrutiny of eight different options – Eaga went public in June 2007 in an IPO that valued the company at about pounds 450m and handed each partner a pay out of around pounds 100,000. With the Eaga Partnership Trust holding 37 per cent of the shares, and individual partners a further 11 or 12 per cent, the co-ownership ethos is secured, believes Clough, while others can invest in it too.

In fact, even in today’s chilly financial climate, the tighter constraint on Eaga’s growth may not be capital but people. ‘In the established parts of the company, the level of engagement that co-ownership gives is palpable,’ Clough says and maintaining and strengthening it is primordial. Eaga pays a lot of attention to recruitment and induction, and works hard to convince those acquired (there are now 4,500 partners in all) of the virtues of an open, respect-driven management style. And if it can’t? ‘Rome fell because it ran out of Romans,’ notes Clough. ‘The hardest thing is to part with effective people who make the numbers but don’t share the ethos. But it’s stick or twist and if they stick, these are the values we ask them to live by.’

As everyone acknowledges, that takes work – including on outside shareholders, who at the moment don’t much care about partnership, just whether Eaga meets its numbers. If the credit crunch teaches anything, however, it’s that the numbers are only as reliable as the manner in which they are made. Here, too, Eaga may be able to teach the city slickers a thing or two.

The Observer, 2 November 2008

In most companies, turning down the founder and chief executive’s request to look after a pet project would be a career-stopper for a young engineer on her first assignment. But WL Gore and Associates is not most companies. And Terri Kelly, the engineer in question who became its president and chief executive in 2005 – only the fourth in the company’s 50-year history – tells that story to illustrate a couple of Gore’s most singular characteristics.

At Gore – a $2.4bn, hi-tech materials company that most people know best for the Gore-Tex fabric that waterproofs their anoraks and walking boots – no one can tell any of the company’s 8,500 associates what to do. Although there is a structure (divisions, business units and so on) there is no organisation chart, no hierarchy and therefore no bosses. Kelly is one of the few with a title.

As she acknowledges, that makes her job rather different from that of most CEOs. Bill Gore, who set up the company with his wife Vieve (short for Genevieve) in the family garage in 1958, wanted to build a firm that was truly innovative. So there were no rule books or bureaucracy. He strongly believed that people come to work to do well and do the right thing. Trust, peer pressure and the desire to invent great products – market-leading guitar strings, dental floss, fuel cells, cardiovascular and surgical applications and all kinds of specialised fabrics – would be the glue holding the company together, rather than the official procedures other companies rely on.

Traditionalists looking at Gore wonder how it works. Kelly laughs – as she does frequently – and counters that it works just fine, particularly in chaotic times like these. The financial crisis is also a management crisis and the symptom, she believes, of a wider issue: a deficit of trust. Gore, however, has ‘focused on generating value through trust – with our associates [the privately-held company is co-owned by the Gore family and the workforce], suppliers and customers’. Counter-intuitively, the best governance, especially in troubled periods, is the absence of external rules: Gore would rather rely on fiercely motivated people who, having internalised true north, have no fear of challenging leaders to justify decisions, and leaders who know they can’t rely on power or status to get themselves out of a fix.

In Gore’s self-regulating system, all the normal management rules are reversed. In this back-to-front world, leaders aren’t appointed: they emerge when they accumulate enough followers to qualify as such. So when the previous group CEO retired three years ago, there was no shortlist of preferred candidates. Alongside board discussions, a wide range of associates were invited to nominate to the post someone they would be willing to follow. ‘We weren’t given a list of names – we were free to choose anyone in the company,’ Kelly says. ‘To my surprise, it was me.’

Similarly, Gore doesn’t have budgets in the sense that most companies do. ‘When I joined we didn’t have a planning process – budgeting wasn’t in the vocabulary,’ she says. Gore now does a better job of planning investment and forecasting, she maintains, but it still tries to avoid the games-playing and inflexibility of the traditional budget. ‘Budgets hinder associates from reacting in real time to changing circumstances,’ she says. Most of Gore’s investment will only have an impact years ahead: ‘We don’t want folks making short-term decisions that are not in the best interest of the long term. The planning and investment horizon have to match.’

Gore also seems to reverse the usual notions of economies of scale. Kelly cites Bill Gore’s counter-intuitive belief in the need ‘to divide so that you can multiply’. When Gore units grow to around 200 people, they are usually split up. These small plants are organised in clusters or campuses, ideally with a dozen or so sites in close enough proximity to permit knowledge synergies, but still intimate and separate enough to encourage ownership and identity. An accountant might complain that creates duplication of costs Gore believes those are more than offset by the benefits smallness brings.

A Gore lifer, Kelly joined the company as a process engineer in 1983 after graduating with distinction from the University of Delaware with a degree in mechanical engineering. (It’s perhaps no coincidence that, like leaders in many of the most interesting of today’s companies, she has no formal business education – and no regrets at having missed out.) She cut her teeth as a product specialist with the military fabrics business – a unit she eventually led – before moving to head the global fabrics division. Here she helped set up a fabrics manufacturing plant in Shenzhen, China, Gore’s first fabrics plant in Asia, now at the centre of one of the company’s fastest growing operations. While leading the fabrics division, Kelly also served on the enterprise team overseeing Gore’s strategic direction.

Is lack of experience outside the company a disadvantage, or an essential qualification for running Gore? It is hard to imagine an outsider being able to understand, let alone manage, a distinctive culture such as this. Kelly argues that the ability to develop its own ways of doing things is crucial to the company’s success. Proof of the importance of the ‘Gore factor’ is the company’s consistently high ranking in ‘good places to work’ surveys – the UK arm, with units in Livingston and Dundee, headed the Sunday Times Best Companies to Work For list four years in a row.

Most companies find safety in numbers, ending up broadly resembling their industry counterparts in strategy, products and management processes. For the consequences, look no further than the credit crunch, which has overwhelmed the copycats in the financial sector.

Kelly, on the other hand, spends most of her time on emphasising difference and preventing people from reverting to the conventional wisdom that in other firms would be the norm. This is a fine line to tread. Protecting the core heritage is one thing not allowing anything to change is another. Where Gore has tripped up in the past, she says, has been in confusing the core values, which don’t change, with the practices for getting things done, which do. So in the late 1980s there was a furious argument over whether ‘structure’ was bureaucracy and therefore bad and counter-cultural. ‘We didn’t pay enough attention to accountability and decision-making and who was actually leading. It was a good exercise for us to understand the need to distinguish between practices, which change with time, and who we really are, which doesn’t. Otherwise you’re paralysed.’

Although at present, Gore is being prudent with investment plans, cutting back on hiring in areas most exposed to the downturn, Kelly is not rowing back from the promise that the company will double in size over the next few years. As a private company, Gore doesn’t release detailed figures, but it is no secret that the balance sheet is strong and the company has been in the black every year in its history. It doesn’t lack opportunities, whether geographical or technical, nor is it constrained by ability to invest.

Growth, then, will largely be dictated by its ability to assimilate new people. ‘It’s all about how we bring new folks in, get them to understand our values and focus leadership on fitting it all together,’ Kelly says. ‘For our associates to know we aren’t constrained by markets or finance, just by our own culture – that’s a good problem to have. It’s all in our own hands.’

THE CV

Name Terri Kelly

Age 45

Career 1983, graduates summa cum laude from the University of Delaware joins Gore as process engineer, becoming leader of military fabrics business 1993, becomes one of three global leaders for its fabrics division, helps set up firm’s first Asian fabrics plant in China 2005, chosen as Gore’s fourth president and CEO by peers

Family One of four mechanical-engineering daughters of an engineer father. Lives in Delaware, married with four children

The Observer, 2 Novemeber 2008

IT’S NOT just in finance that the inquests have begun. What part have the business schools and business academics played in the implosion of the world’s banking system? That was the question posed in a letter to the Financial Times last week by Nottingham University Business School’s Professor Ken Starkey.

Hedge funds, private equity, investment banking, venture capital and consulting – the high priesthood of financial capitalism – were overwhelmingly MBAs’ preferred job destinations, he noted. Now the schools needed to ‘reflect on the role of the MBA and MBAs in the carnage of Wall Street’ and consider ‘how management education has contributed to the mindset that has led to the excesses of the last two decades’.

This isn’t the first time that theory and theorists have been called into question. Three years ago the London Business School’s late Sumantra Ghoshal caused a furore by writing that business schools did not need to do a lot more to prevent the emergence of future Enrons they just needed to stop doing a good deal of what they were doing already.

But the questioning takes on a fresh urgency as the crises grow bigger. In this context, the issue is not just the implication of economics-dominated MBA courses in practices that are now seen to be unsustainable. ‘There seems to be no sense of history,’ Starkey complains. ‘How come we haven’t learnt anything from Enron, the dotcoms and Long Term Capital Management?’

Trapped until now in a stampede to emulate the American model, business schools elsewhere need to step back and see how they could, and should, frame the issues differently, he says. The Holy Grail is not to turn them into professional institutes (as two Harvard professors proposed in another FT article the same day) but the more modest one of ‘doing better social science’. They should move away from unquestioned US positivism and the dominance of neo-classical economics towards a broader perspective allowing insights from other areas, including history, literature and art.

Could it happen? Starkey is not the only one who senses an opportunity for the market to move in a new direction. The ‘elite’ business schools are doomed to remain locked in increasing competition for a (presumably) shrinking pool of apprentice masters of the universe. But for others, says Professor James Fleck, dean of the Open University Business School, Europe’s largest, the time is ripe to go beyond the fake certainties of the Anglo-American version, with its emphasis on analytics and separate functions, to develop a more inclusive, less lopsidedly right-brain approach to management.

Most of the world is not well served by the structures or assumptions of financial capitalism. If we could lift our eyes from the financial chaos, Fleck argues, we would see that the world is at the start of a huge technological upswing. As a consequence, there is terrific, unsatisfied demand for people to manage this innovation in ways that benefit more than a tiny financial elite. Management, in the sense of ‘making a difference’, could be the enabling technology of the 21st century. Who better placed to undertake such a project, and rethink the intellectual underpinnings of capitalism, than European business schools?

Many would welcome such a move. At Leicester School of Management, Professor Martin Parker notes that, though long submerged under the ‘there is no alternative’ discourse, an undercurrent of resistance to the market managerialism of the past 30 years has always sub sisted – and not just in the public sector (where, duly adapted, it has ironically been practised with terrifying thoroughness). The surprising rage and venom hissing through the blogs commenting on a recent Economist leader about bankers’ pay show just how deep it runs in the private sector too.

Little of this surfaces in formal management research, however. Analysing 2,300 articles published in prominent journals in 2003 and 2004, Parker and two colleagues found business-school researchers overwhelmingly concentrating on narrow technical questions rather than the larger social and political issues – the environment, war, workers’ rights, the distribution of wealth – which business has signally failed to provide answers to. While the piece, (‘Speaking Out: The Responsibilities of Management Intellectuals’), pre-dated the financial crash, in one sense it reinforces it – underlining that in terms of what academics actually publish, little seems to have changed since Enron, or even the dotcoms.

The underlying question, says Parker, is whether business schools can contribute to the solution rather than the problem. One way of doing this, he suggests, would be to reformat themselves as ‘Schools for Organising’ that can teach and learn from a multiplicity of different forms – ‘and do not simply reproduce the ideology of people called managers’.

The Observer, 26 October 2008

IF, AFTER 30 years of effort, the only solution on offer to a problem is to ‘try harder’, you know there’s something wrong with the premise. So it is with City pay. The credit crunch has written it out in huge red letters: incentive pay may work for Chinese peasants, but in situations of any complexity, and especially where the quality of the decisions made is only apparent in the long term, pay that truly reflects performance is not only unachievable: the attempt to make it so is catastrophically counterproductive.

In a recent interview, ex-Lloyds TSB chairman Sir Brian Pitman disarmingly noted that banking was essentially a simple commodity business. Unless you are brilliant at identifying undervalued assets (ie, you are Warren Buffett) or a venture capitalist who can transform an idea into an income stream, the only way to bump up profits is by taking greater systemic risk (known as ‘beta’ in the trade).

If, in the first half of this decade, British banks have been colossally profitable, it is because highly incentivised bankers have devised ever more complex instruments to disguise risk as value creation (‘alpha’). The crunch may have dramatically revealed the difference between the two, but the bonuses have already been paid. Systemically, high profits, high pay and high risks go together and they do so because – an exquisite irony – as long as banks act in unison, they will be underwritten by a tacit but iron-clad state guarantee.

As Martin Wolf wrote in that well-known socialist organ the Financial Times , ‘either banking should be treated as a utility, with regulated returns, or it should be viewed as a profit-seeking industry that operates in accordance with the laws of the market, including, if necessary, mass redundancies’. Since the latter is unacceptable, he concluded, we have to move towards the former – and regulation must include pay above all.

In this context, the dire warnings from the free-market champions about the perils of interfering with today’s pay-setting methods take on a surreal air. If companies and shareholders really are ‘better at setting salaries than bureaucrats’, as The Economist affirms, given that ‘better’ has resulted in the almost complete meltdown of the global financial system, what, please, would ‘worse’ look like?

The same objection applies to the argument that paying bankers less would choke off innovation. If this is innovation, give us less of it. Let’s be clear: the cause of the crisis is not impersonal economic entities such as capital flows, asset bubbles or credit default swaps it is the behaviour of human beings strongly incentivised to devise fake innovations, and pass off ‘beta’ as ‘alpha’, in ways that, as a torrent of impending investigations and court cases will soon show, were on the very edge of legality if not beyond it.

As for the final argument, the tired old threat that if City folk aren’t paid 10 times more than anyone else they’ll leave – let them. Bloated way beyond ‘normal’ size, in bubbles of their own, the City and Wall Street were destined to deflate anyway as the economy rebalances away from financial smoke and mirrors towards the boring, neglected tasks of long-term investment, innovation and organisation-building.

Beyond that, the offshore island that is financial services needs re-attaching to the real economy. One way of doing this is via pay. Since the bureaucrats are now shareholders, we have a one-time chance to do so. As Will Hutton has noted, despite official disclaimers, the government is in the business of running banks, whether it likes it or not. It has already told them to stop paying dividends and start lending again.

But it should also be thinking far more radically about pay. It’s the whole system of corporate governance, based on aligning executives and shareholders, that’s broken. That’s what we’ve been trying vainly to make work for 30 years. It’s time to face up to the evidence: it is simply a recipe for increasing pay whatever the performance. This year, FTSE 100 CEOs’ pay climbed by a ‘gravity-defying’ 11.5 per cent, according to IDS. And, bang on cue, the FT reported last week that companies are already softening performance targets ahead of the downturn.

The government should take on board what a slew of top-performing companies have known for years – internal equity in pay is more important than external. Directors shouldn’t be aligned with shareholders: they should be aligned with the company as a whole. If that puts off some candidates, fine. John Lewis has no trouble attracting good people despite limits on top pay and bonuses that are shared equally. Whole Foods Market (publicly quoted, note) is even more extreme, paying its top people no more than 19 times its least paid. That was once the norm there’s no intrinsic reason why it shouldn’t be again.

The cover of The Economist last week bore the headline ‘Saving the system’. The point, however, is to change it.

The Observer, 19 October 2008

SPEAKING UP for trust in recent years has been about as thankless as hippy Neil’s exhortation of ‘peace and love, man’ against the brutal realpolitik of Vivian in The Young Ones. The latter has all the good lines, and if they don’t work, a swift head butt will finish the argument. In the same way, what weight does namby-pamby trust carry against the arguments of self-interest and the knockout blow of Loadsamoney?

We now know the answer. As today’s banking paralysis demonstrates, trust is something business can’t do without. It isn’t some fuzzy nice-to-have it’s the lubricant without which the City and Wall Street are as frozen as a rusted motor.

If there is debt or credit, there has to be trust. It doesn’t have to be personal, or even direct: when you use a card to buy a meal in a restaurant, it’s not you the restaurant is trusting, it’s HSBC or American Express, which will do nicely.

Just how important this impersonal or institutionalised trust has become is described by Paul Seabright in his book The Company of Strangers. When you buy something as simple as a shirt, he says, you are the final node in a global trust network straddling a dozen countries, the whole chain dependent on confidence among all the other nodes that their unseen customer or supplier on the other side of the world will keep their side of the bargain. According to one estimate, in developed economies all but a tiny proportion of GDP is ultimately attributable to trust.

As Seabright’s example hints, historically business and trade were considered a civilising influence on humanity. Trust is a kind of moral leverage. Making trade (and wealth) rather than war required people to be honest, respect contracts and collaborate readily with strangers – all essential elements in the ‘commercial syndrome’ of behaviours identified by Jane Jacobs in her masterly investigation of the moral roots of business and politics, Systems of Survival

Alas, few people advance the doux commerce thesis these days. Rather the reverse: the City and Wall Street have become bywords for selfishness and greed not for nothing was the book about an earlier outbreak of insider greed, the leveraged buyout of RJR Nabisco in 1990, entitled Barbarians at the Gate. Trust may be crucial, but is also extremely hard to manage. As the present crisis graphically shows, too much is as bad as too little, a succinct description of today’s situation being that investors have gone from trusting anybody to trusting nobody almost overnight.

The institution of management bears much of the responsibility for this debacle, having eagerly adopted a model that encourages managers to maximise short-term profits (and their own pay packets) at the expense of the greater good. This doctrine enshrines suspicion and lack of trust at its heart, and deliberately declines any concern with morality. By this means managers have indeed enriched themselves, but at the expense of wholesale loss of their own trust and legitimacy, which has come back to bite them. Company executives have not only forfeited the trust of their own employees and society as a whole – they don’t even trust each other.

This is serious. Not surprisingly, and rightly, regulation is in the air. New rules will inevitably come, but it is not inevitable that they will have the effect intended. Consider Sarbanes-Oxley (Sox), the US legislation hastily passed after the Enron and WorldCom scandals in 2002. Sox is now thought in many quarters to have been a disaster, increasing frictional costs and bureaucracy and providing a field day for legal and accountancy firms, without changing the behaviour which causes the problems. Witness Northern Rock, AIG and Lehman: they may not have committed legal offences, but in their excessive short-termism they are Enron’s spiritual heirs.

If son of Sox can’t prevent the emergence of another generation of Enrons in a decade’s time, what can? One radical answer is put forward in the October issue of Harvard Business Review. Two prominent Harvard professors, Rakesh Khurana and Nitin Nohria, argue that to repair managers’ shattered legitimacy, ‘business leaders must embrace a way of looking at their role that goes beyond their responsibility to the shareholder to include a civic and personal commitment to their duty as institutional custodians. In other words, it is time management became a true profession’.

Unlike doctors and lawyers, they say, managers ‘don’t need a formal education, let alone a licence, to practise. Neither do they adhere to a universal, enforceable code of conduct’. They think managers should have to swear a version of the Hippocratic oath, a rigorous code of ethics covering personal conduct and responsibilities to society. Controversial? Certainly. But unless managers urgently find ways to restore society’s broken trust, they will find their legitimate jobs hemmed in by much tighter restrictions – and have only themselves to blame.

The Observer, 12 October 2008

ONE OF the glaring fault lines running through the financial crises of recent years is ownership. In the days of hedge funds and day-trading, who owns companies? And what rights and obligations does ownership bring?

Finding a balance between these competing claims will be a key element in whatever emerges as post-crunch capitalism, according to Mark Goyder, director of the think-tank Tomorrow’s Company, which is launching a report on the subject next month. It’s the point where the otherwise diverging fields of finance and the real world intersect – and an area where theory and practice have grown so far apart they have almost lost touch with each other.

Ownership matters, although not always in the ways you might expect. Thus all current corporate governance is predicated on it. At the heart of the Financial Services Authority’s Combined Code is the assumption that the central issue of corporate governance is the ‘agency problem’ – how to get managers and directors to act like owners. The separation of chairman and chief executive roles, the bonus culture, and the emphasis on non-execs, among other things, all have their origins in the assumed need to prevent managers from using their inside knowledge to usurp the rewards of ownership from the rightful beneficiaries.

Ownership makes a difference in more direct ways. For example, empirical research suggests that partly or wholly employee-owned companies can benefit from an ‘ownership dividend’ – a well of commitment not available to others. A firmness of purpose that looks beyond making money – ironically, a key to making much more money than those companies without it – is dependent on stable ownership. So much so that many distinctive companies opt to remain private rather than submit to the pressures to conform inherent in public ownership. Stable ownership also favours the patient work of organisation – and relationship-building, as opposed to financial engineering. Few would argue that the companies acquired by Warren Buffett (preferred holding period: forever) would have done better outside his benign long-term embrace.

Yet ownership is a surprisingly slippery concept. While few people would dispute the ownership claims of an entrepreneur over his or her start-up or a farmer over a family farm, the rights afforded by a parcel of shares in a public company are clearly much weaker. Even long-term shareholders do not ‘own’ the company in the sense that the owner of a house or a car does and the distance is increased by the growth of pension and other funds as intermediaries. This also means that there is no longer a single identifiable shareholder interest. In any case, as Goyder points out, fund managers who formally own the majority of a firm’s shares can’t act as owners (as they are often urged to do) in a stewardship sense, since they owe their fiduciary duty not to the company but to their funds’ beneficiaries. Since fund managers are often judged on their short-term performance, the ironic result of what Peter Drucker identified as ‘pension-fund socialism’ has actually been an intensification of short-term pressure on companies. The rhetoric of corporate governance is based on a fiction.

All this, moreover, before the hardcore financialisation of the last 15 years, which has seen ownership sliced, diced and reconstituted into instruments and derivatives that are even further removed from the world of customers, products and relationships. When derivatives can be used to hide a raider’s identity, and hedge funds can borrow shares from a fund manager to take a punt on driving the price down, ownership has simply lost the sense of obligation that attached to its original meaning.

With hindsight, the hole at the heart of ownership – with the nominal owners disqualified from acting as such and directors browbeaten (not unwillingly) into adopting the travesty of ‘shareholder value’ – has been an important factor in the economic transformation of the last few years, in which the City has grown to believe itself the ‘real’ economy, while companies that produce things have let themselves be turned into abstractions to be chopped up and sold on.

However, as it usually does, the real world has reasserted itself – and in resounding fashion. The limitations of virtual ownership now having become abundantly apparent, at least one of the questions Tomorrow’s Company asked itself – is the idea of ownership obligations a sentimental anachronism getting in the way of the efficient allocation of capital? – seems to have answered itself. Those obligations do still matter, as they do to the farmer and entrepreneur. Renaming and redefining the roles combined in ownership – and particularly separating the investment and stewardship functions – may sound boring. But the real world is just as broken as the financial one, and fixing it is just as important.

The Observer, 28 September 2008

MANAGEMENT IS mostly left out of the pontificating about the credit crisis. But we’re now beginning to see how much it matters. As the scariest financial auto-destruct of the last 75 years unfurls, it suddenly becomes clear: it’s no longer the public sector that is the priority for reform it’s the private.

This is long overdue. But with the emperor’s stark nakedness revealed for all to see, reconstituting a wardrobe for 21st-century capitalism may be easier, because at least we can see in merciless detail the bits that it needs to contain.

Many commentators are already resigned to the impossibility of regulating to prevent future crises – for them, technical financial regulation will either create opportunities for regulatory arbitrage or stop innovation dead (although some might consider that no bad thing). But thinking of it in terms of management – both of companies and markets – opens up a different and more optimistic vista.

To do that, we – particularly the left – need to get much more sophisticated than in the past about what the public sector, private sector and markets actually do. It’s usually carelessly assumed, for example, that markets and the private sector are the same thing. Markets are what companies and other organisations (including some public-sector ones) operate in, as different from each other as a forest and the animals that live in it. As in any ecology, it is the interaction between the different entities that constantly moves the system forward or back. Managing the system as a whole starts here.

In doing so, the first thing to dispose of is the idea that today’s institutions are somehow God-given. As a correspondent remarks, the ‘free market’ is a myth all markets have rules and restrictions, or have the edges softened by other means. Thus companies over the years have gained immense privileges in their relationship with markets: limited liability, legal personality and easy incorporation.

Both markets and corporations are creatures of state power, established to serve the public good. To underline this point, note that today’s crisis is primarily one of the Anglo-Saxon model. It is the ‘Washington consensus’ that is on trial. Other countries whose economic ecology has developed differently, such as France and Germany, are trying hard not to let their schadenfreude show.

By definition, a vibrant economy needs a combination of successful companies, dynamic markets and (as many people have suddenly remembered) a solid public sector to function that’s what a vibrant economy is. But the current system is massively unstable. Rebalancing it requires looking again at both companies and markets, as well as the public sector.

The credit crunch conclusively demonstrates that we can no longer afford a corporate model that generates repeated crises for society as a whole as a byproduct of pursuing vast rewards for a few. This makes a mockery of the corporate social responsibility movement, of which the City is a pillar. CSR is simply incompatible with the unbridled incentive schemes, lemming-like pursuit of risk and unaccountability that have produced today’s meltdown. It is time to bring CSR inside – to do what New Labour flirted with ever so briefly in 1997 and then abjectly abandoned – and lay on companies the formal obligation to take into account the wider interests of all stakeholders, including the community, on pain of having their charter removed. To the conventionalists who object that the notion of benefiting all stakeholders is a recipe for fudge and compromise, tell that to rivals of Toyota (largest auto company in the world), Whole Foods Market (fastest-growing retailer), John Lewis, and many other successful companies that include wider social wellbeing in their corporate aims.

Internalising these costs and disciplines in companies would go some distance towards preventing further outbreaks of madness. But markets, too, should be enlisted to add their discipline to this endeavour. The market’s ‘messy processes of experiment and correction’, in John Kay’s words, work because they do a better job of mobilising dispersed knowledge and dispensing feedback than any central authority, however powerful or well-meaning: see the Soviet Union.

So, for example, in the case of energy, mobilise that knowledge not by dictating technologies but, as George Monbiot has suggested, by setting strict CO 2 and public safety conditions and then allowing the energy companies to find the cheapest means of delivering it. It will be harder to find a simple formula for finance, where there is no single overriding end, but surely not impossible.

Ecologies are always evolving. Unchallenged, companies have grown arrogant and self-serving, and the market has become an end rather than a means. But they are what we have and, for all their flaws, they remain immensely powerful. They got us into this mess the ultimate management task is to create incentives for them to get us out again.

The Observer, 21 September 2009