Jim Collins on why companies fail
Here is a review from The Economist:
Good to great to gone
Jul 7th 2009
Jim Collins, a management guru, ponders business failure
ONE of the keys to being an inspirational management speaker is not to dwell too long on the negative. No wonder Jim Collins is almost apologetic in his new book on corporate failure, “How the Mighty Fall”. As he writes, “When I sent a first draft of this piece to critical readers, many commented that they found our turn to the dark side grim, even a bit depressing.” Happily, he reaches an upbeat, empowering conclusion: “Whether you prevail or fail, endure or die, depends more on what you do to yourself than on what the world does to you.” He expands on this theme by quoting Winston Churchill’s injunction to “Never give in, never give in, never, never, never, never…”
The risk for a management guru with a sunny outlook is that writing books praising companies creates hostages to fortune. One well-known title, “In Search of Excellence”, left its authors wiping egg from their faces when many of the firms they profiled quickly proved to be anything but excellent. Even worse was Gary Hamel’s celebration of Enron, “Leading the Revolution”, which was still arriving in bookstores when the energy-trading company blew up in 2002.
So Mr Collins has wisely grasped this nettle before any of his critics could sting him with it. As he readily admits, several of the firms praised in his bestsellers, “Built to Last” and “Good to Great”, have since fallen from grace. These include Circuit City, a now-bankrupt electronics retailer, and Fannie Mae, a giant mortgage lender that was taken over by the American government last September to stop it going bust and taking the global financial system with it. Oops.
In his new book Mr Collins examines 11 of the 60 “great companies” studied in his two earlier books that have since deteriorated to “mediocrity or worse”. Mr Collins says that when he charted the factors that led these firms to greatness, he had never claimed that they were certain to remain great. By comparing each one, where possible, with similar firms that had fared better, Mr Collins identifies five stages in the process of decline. Stage one is hubris born of success (possibly brought on by reading the case study of the firm in one of Mr Collins’s earlier books). Firms start to attribute their success to their own superior qualities. They become dogmatic about their specific practices and fail to question their relevance when conditions change.
Stage two is the undisciplined pursuit of more: firms overreach, moving into industries or growing to a scale where the factors behind their original success no longer apply. Stage three is denial of risk and peril. Warning signs mount, but the firm’s headline performance remains strong enough for bosses to convince themselves that all remains fine. Problems are invariably blamed on external causes.
In stage four the problems are clear enough that firms start grasping for salvation. Rather than returning to the fundamentals that made them great (which Mr Collins regards as the most promising route back to greatness), they gamble on a new, charismatic saviour-boss, dramatically change strategy, make a supposedly transformational acquisition or fire some other supposedly silver bullet. The longer a company remains in stage four, the more likely it will spiral downward into stage five: irrelevance or death. However, inspired (at times, perhaps too much) by the Churchillian belief in never giving up, Mr Collins points out that many still-great firms have bounced back even after getting to stage four, including IBM, Nucor and Nordstrom.
At the very least, “How the Mighty Fall” is worth buying as a gift for the hubristic boss in your life, to remind him of the need for humility. Show the recipient the striking chart comparing Wal-Mart and Ames, two retailers with identical strategies, the share prices of which grew in tandem for decades before diverging forever in the mid-1980s. A disastrous acquisition by Ames in 1988, designed to double the size of the firm overnight, was a classic case of overreach. In two years it was bankrupt; in 2002 it was liquidated. Wal-Mart, meanwhile, stuck to its original strategy, and despite a few wobbles, became the world’s largest and most profitable retailer.
The book was finished just as the financial markets crashed last year, so Mr Collins does not explore the implications of this shock as deeply as he might. However, he points out that financial firms can move through the five stages of decline—and particularly the final three stages—much faster than other sorts of company. And companies already in decline, as Fannie Mae was by last year, are extremely vulnerable to turbulence. Without the financial storm of last year, he speculates, “perhaps Fannie Mae would have had an opportunity to reverse its own decline and return to greatness by its own efforts.”
Moreover, what happened to the world’s once-mighty financial firms last year illustrates that the five stages of decline can apply to an entire industry as well as individual firms. Even so, says Mr Collins, companies need not be imprisoned by their industries. “Not every financial company toppled during the 2008 crisis, and some seized the opportunity to take advantage of weaker competitors in the midst of the tumult.”
He has a point. Before the crisis most people regarded JPMorgan as the strongest universal bank and Goldman Sachs the strongest investment bank. Though both came close to disaster during the crisis, both look even more dominant now that things are getting back to normal. Perhaps last summer they got an early look at Mr Collins’s book and followed his advice: “Our research shows that if you’ve been practising the principles of greatness all the way along, you should get down on your knees and pray for severe turbulence, for that’s when you can pull even further ahead of those who lack your relentless intensity.” Amen.