Great by Accident?- More Flawed Research by Jim Collins

Several years ago, after seeing multiple references to it, I bought a used copy of Jim Collins' Good To Great, published originally in 2001. I wrote this brief review in 2005 and, judging by the lack of subsequent pieces on the topic, didn't really find more of interest in the book to bother critiquing. Some of my key observations were captured in these passages from that post,

"Much of my work for the last decade has involved measuring the performance of publicly-held U.S. corporations. There is really only one body of work of which I am aware that sounds remotely similar to mine.

What I found upon reading Collins’ methodology was an odd mixture of quantitative and qualitative bases of analyses. There are a variety of problems with his methods, which I will address.....here ......."

I must admit, I was rather shocked that such slipshod and simplistic quantitative definitions of “good” and “great” performances would exist in a book so seemingly well-regarded in the business community. Perhaps it is yet another case of the broad class of mediocre managers and leaders being unable to distinguish “great” work when they see it.

Between his use of market value, rather than total return, and a simple point-to-point measurement, Collins' metrics in his original book left a lot to be desired. As did his mixing in of qualitative measures which tend to be so judgemental as to be nearly useless for interpretation or application in other contexts.

Unless, of course, you were using the book as a marketing tool for your consulting efforts. Which Collins does.

Thus, I was interested to read in this past Tuesday's edition of the Wall Street Journal a review, by longtime Journal executive Alan Murray, of Collins' recently-published book, Great by Choice. The review's title was Turbulent Times, Steady Success, which I found a bit of a reach, for reasons I'll explain later in this post. The highlight, or subheadline for the review read How certain companies achieved shareholder returns at least 10 times greater than their industry.

To start with, Collins uses cumulative returns over long periods of time to judge a company as “good” and/or “great.”

However, my own research on large U.S. publicly-held companies reveals that among companies which outperform the S&P 500 average total return over a period of years, firms which consistently outperform the S&P index, on average, create shareholder wealth at a much higher rate than companies which earn most of their total returns with a few years of outstanding performance.

Just reading those few lines told me a few things about problems with Collins' latest work. In fact, Murray's review contains enough information for me to find significant problems with Collins' latest work without having to actually waste time reading the whole thing.

First, I'm suspicious of published work of this type because no sane, intelligent person in the business world has published complete information on any market-beating strategies for decades. Whether a business school professor, consultant or equity portfolio manager, it doesn't pay to tell all. You always save something so that your published work can't be totally replicated or reverse-engineered, and prospective customers have to engage your services professionally to really benefit from your research findings.

One thing I discovered in my own proprietary research on US corporate performance over many years is that there is a limited timeframe within which most companies can demonstrate superior performance. And it's not a sufficient length of time to typically exhibit "steady success" during "turbulent times."

But, let me get to Murray's review. He begins with this telling paragraph,

 'Great by Choice" is a sequel to Jim Collins's best-selling "Good to Great" (2001), which identified seven characteristics that enabled companies to become truly great over an extended period of time. Never mind that one of the 11 featured companies is now bankrupt (Circuit City) and another is in government receivership (Fannie Mae). Mr. Collins has a knack for analysis that business readers find compelling."

Murray may have written that with his tongue in his cheek, but it lays bare a serious weakness with that type of approach. One I mentioned in an email to Murray after reading his review. I likened Collins' work to that of long-ago consulting guru Tom Peters, of "In Search of Excellence" fame. As I explained to Murray in my note,

"But the other aspect of his work which I noticed, having the benefit now of being aware of two of his works, is how much it reminds me of the Tom Peters' old type of 'great companies' books. Being, like me, of that certain age, I'm sure you recall the book which launched Peters out of McKinsey. Sadly, only a few years later, his great companies were no longer so.

I'd expect Collins' companies are likely to experience similar fates, because both authors use fixed timeframes of specific companies to construct their measures of greatness, rather than observe statistically-valid large samples that include many different time periods.

Peters wrote before the era of cheap desktop computing and inexpensive, exhaustive corporate data. But Collins hasn't. Yet his work still smacks of that 'hit parade' style of spotlighting a few companies for specific time periods, then extrapolating their idiosyncracies into strategic wisdom, rather than the other way around."

Suffice to say, starting with Peters, and now continued by Collins, this type of misleadingly shallow analysis provides business execs with easily-consumable 'best practices' candy, without actually being rigorous or deep in its methodology.

Murray describes the book's objective next,

"Mr. Collins's new book tackles the question of how to steer a company to lasting success in an environment characterized by change, uncertainty and even chaos."

Unfortunately, the objective is a chimera. I'm not going to divulge my own proprietary findings, because, among other uses, they help drive my own equity portfolio management process. Let me just assure readers that 'lasting success' is a good deal shorter time period than you'd ever believe. If more boards knew this, they'd be radically restructuring CEO compensation over time.

But, to provide a little more insight, all truly exceptionally-performing companies fall victim, within a definable number of years, to one or more of three forces: adjusted investor expectations; competition, and/or; regulatory scrutiny and action. Between the three, no company succeeds for too long. Here's a brief list of the once-great, now-fallen: Home Depot, Microsoft, Dell, Compaq, and Wal-Mart.

Murray then provides the reader with some information on the data which drove Collins' latest book,

"The data set that Messrs. Collins and Hansen examine so carefully ends in 2002, well ahead of the change, uncertainty and chaos of the 2008 financial meltdown. The intervening years were spent conducting their research. Still, the lessons of "Great by Choice" are not meant to apply to a particular moment of economic turbulence but to a continuous condition—a business world "full of rapid change and dramatic disruption."

For their study, the authors chose a set of major companies that achieved spectacular results over 15 or more years while operating in unstable environments; Messrs. Collins and Hansen call them "10Xers" for providing shareholder returns at least 10 times greater than their industry. Then the authors compared those companies—Amgen, Biomet, Intel, Microsoft, Progressive Insurance, Southwest Airlines, Stryker—to similar, but less successful, "control" companies: Genentech, Kirschner, AMD, Apple, Safeco, PSA and United States Surgical. It is an indication of the volatile nature of today's business success that, using 2002 numbers, Microsoft came out as a "10Xer" while Apple was its less successful "control" company, a ranking now reversed. More on that below."

Right away, I find serious flaws with Collins' approach.

First, no company posts "spectacular results" for 15 years. Yes, perhaps "over" 15 years, i.e., from point to point, over 15 years, there were some spectacular periods. But consistency has a value beyond a mere endpoint to endpoint total return value.

I've seen this sort of simplistic apparent performance phenomenon many times. Consider the nearby price chart for Dell, Microsoft, Apple, Home Depot and Google. Taken over the right timeframe, early years of stratospheric performance can offset a full decade of subsequent flatlining, as Microsoft's curve demonstrates.

Further, Collins' industry-specific metric renders his whole enterprise useless- except for, well, someone who wants to consult with his results to rather mediocre senior managers who read his book.

Here's why.

Investors can choose from among all public companies in which to invest. Even among private companies, in some cases. So to be truly exceptional, a manager should perform at a level among the best of, say, a broad equity market average. Not just his own industry.

By the way, just what defines an industry, anyway? Some companies don't have directly-comparable industry competitors. Others do, but only a very few. Consider auto makers. Do you count three- Ford, GM and Chrysler? Or two, when Chrysler was privately-held? Do you count Mercedes, Toyota, Honda, BMW, et.al., although their parents and sizable operations are located outside the US?

And who believes Microsoft's badly-performing look-alike was ever Apple? Historically, Apple's integrated software and hardware competed with the Wintel combine of Intel and early PC makers IBM, Compaq or Gateway. Microsoft's Bill Gates was actually a guest at one of Steve Jobs' early Apple product debuts, as an example of a collaborative software publisher who appreciated having two platforms for which to create their products. Apple didn't do application software- just its proprietary operating system.

But that would make Collins' simplistic approach nearly impossible to use. So, instead, he opted for a comparison that has no credibility.

Having a point-to-point 15 year total return that is "10X" that of the average of three other firms in a poorly-performing sector like autos is hardly laudable. But if you plan to consult to Ford or GM, well, you could probably hoodwink those CEOs into at least listening to your sales pitch.

It's amazing how often people form impressions, a priori, on what constitutes a high-growth company. I've had some companies in my equity portfolios which few people would have thought would qualify if they knew the criteria for inclusion. Trust me, growth companies aren't just in technology sectors of the US economy.

Murray then provides his meatier treatment of the newly-published book,


"Messrs. Collins and Hansen draw some interesting and counterintuitive conclusions from their research. First, the successful leaders were not the most "visionary" or the biggest risk-takers; instead, they tended to be more empirical and disciplined, relying on evidence over gut instinct and preferring consistent gains to blow-out winners. The successful companies were not more innovative than the control companies; indeed, they were in some cases less innovative. Rather, they managed to "scale innovation"—introducing changes gradually, then moving quickly to capitalize on those that showed promise. The successful companies weren't necessarily the most likely to adopt internal changes as a response to a changing environment. "The 10X companies changed less in reaction to their changing world than the comparison cases," the authors conclude.


The book's organizing metaphor is built around the story of Roald Amundsen and Robert Falcon Scott, the two men who set out separately, in October 1911, to become the first explorers to reach the South Pole. Amundsen won the race by setting ambitious goals for each day's progress but also by being careful not to overshoot on good days or undershoot on bad ones, a disciplined approach shared by the 10Xers, according to Messrs. Collins and Hansen. Scott, by contrast, overreached on the good days and fell apart on the bad, mirroring the control companies in "Great by Choice."


If "Great by Choice" shares the qualities that made "Good to Great" so popular, it also shares some that drew criticism. The authors' conclusions sometimes feel like the claims of a well-written horoscope—so broadly stated that they are hard to disprove. Their 10X leaders are both "disciplined" and "creative," "prudent" and "bold"; they go fast when they must but slow when they can; they are consistent but open to change. This encompassing approach allows the authors to fit pretty much any leader who achieves 10X performance into their analysis. Would it ever be possible, one wonders, to find a leader whose success contradicted their thesis?"

Not content to critique the book generally, Murray fortunately, and shrewdly, provides an accidental example to which he referred earlier in his review,


"Which brings us back to Apple. Messrs. Collins and Hansen had no way of knowing, when they began sifting through their data in 2002, that Apple would become one of the most stunning turnaround stories in business history, soaring past Microsoft in market value. The late Steve Jobs accomplished that turnaround with a run of boldness, innovation, visionary thinking and egotism that might seem counter to the studied conclusions of "Great by Choice" as well as those of "Good to Great," in which Mr. Collins found that one of the leading attributes of the best business leaders was "humility." Steve Jobs?"

All of which satisfies me that Collins hasn't changed his approach much at all. He's still mixing hard-to-define qualitative assessments with quantitative ones. And applying them with, as Murray notes, considerably less than the precision one would wish.

Mr. Murray is not in the business of offending either an author who may advertise his book in the Journal, nor his readers. So he isn't about to land hard punches in his review by concluding that Collins' work is so vague and flawed as to be practically meaningless.

But I don't share Murray's constraints.

As I noted earlier, Collins' recent effort is perfect if what you hope to do is sell a book, for profits, that becomes a resident sales tool in many C-suites. And it even has an impressively-titled co-author from an equally-impressive university. But that doesn't make it valid or profound.

On that note, here's anecdote I learned years ago when I worked for Accenture's predecessor, Andersen Consulting. I had been chatting with Bob Gach, then a partner in the financial service group whose clients included Morgan Stanley and a few other investment banks. Since then, Bob has risen to become a very senior global partner in Accenture's financial services practice.

Back then, Bob was fretting because of the difficulty he was having closing a consulting contract with a Morgan Stanley executive.

As we discussed the firm's, and executive's behavior, Bob enunciated a principle which I've found to be pretty much universally true ever since. To paraphrase his remarks,

'This guy at Morgan Stanley really frustrates me. He's smart enough to force me to keep giving him enough examples of our work in his area, and to sign small pieces of work, that he keeps me from selling him the larger, more profitable interpretative and application modules.

When you think about it, the worst consulting customers are executives who are either really smart or really stupid. The smart ones know how to cherry pick a consultant's work and do the high value-added application of results to the rest of his businesses or operations.

The stupid ones are so thick they don't even understand why they need the consultant.

A consultant's best prospects are in the middle. Smart enough to know they need help. Dumb enough not to be able to get ahead of you in the thought process and rein in the scope of the project.'

Collins' work strikes me as designed to hit that middle group. It's too simplistic and flawed to sell to really intelligent business leaders. And the really slow ones will just never realize where to start to fix their problems.

But I can imagine quite a few middling companies with average executives jumping on Collins' rather shallow analyses as the answer to their prayers for some path out of mediocre performance.

And the beauty of Collins' approach, as Murray so deftly illustrates, is that there's always some other qualitative variable to blame when a CEO pays Collins for a lengthy engagement, follows his advice, and his business still doesn't outperform his peers.

I actually thought through all these issues when I was actively marketing the consulting application of my proprietary research on corporate performance. I even sold an engagement to the current chairman of the NYSE when he ran State Street Bank. Suffice to say, my consulting approach, as well as the research methods underpinning it, remains proprietary. But I will divulge that it is all quantitative, with no qualitative wiggle room.

Carol Bartz Fired....Why Not Jeff Immelt Too?

One of the big business news items out this morning was Carol Bartz' firing in a phone conversation late yesterday. Pundits on both CNBC and Bloomberg were all over the story this morning, harping on the flat performance of Yahoo's stock during her 21/2 year tenure which began in early 2009.

Meanwhile, just yesterday the Wall Street Journal did a Marketplace section lead feature on GE's hapless CEO Jeff Immelt. More details on that in a later post.

For now, let's look at a chart I think I can safely guarantee you will see nowhere else this morning. It's the past five years of performance for the S&P500 Index, Yahoo and GE.

Look closely at the chart from early 2009 onward. I last wrote about Bartz and Yahoo here, in early July, when the rumors of her exit began to heat up in earnest. I noted there that, under Bartz, at least Yahoo's price had stabilized- stalled- in contrast to its decline prior to Jerry Yang begging her to become the firm's CEO. The chart illustrating that is in the linked post.

Exact timing to the day is impossible to do from this chart, but, generally, from early 2009, when Bartz assumed the helm at Yahoo, to now, both GE and Yahoo have had about the same relative stock price performance- up slightly, but much less than the S&P500, which rose more than 30%.

So doesn't that make you wonder why Bartz is getting axed, while Immelt gets a softball puff piece in the Journal, complete with friendly reviews from a fund manager?

For the full five years, Immelt's down nearly 60%! And so is Yahoo.

Regarding Bartz, I stand by my comments of my early July post,

"Personally, I think Yahoo's sluggish performance is less about Bartz and more about the wreck she inherited. A wreck with nearly nothing left on which to build the fabled "turnaround."



As I've contended in many posts, after Jerry Yang screwed up the exit strategy of selling the firm to Microsoft, there was little left to do. For shareholders, just selling and walking away was the best option.


Whether Bartz ought to be replaced or not is probably moot. Yahoo's fortunes are unlikely to improve under any other CEO. At this point, though, there may not be any buyers for the firm at prices that the board and shareholders will tolerate, so badly has the firm been mismanaged since when Terry Semel ran it."
Anytime a marquee CEO is bought by a desperate, failing firm, that CEO really has no downside. If s/he succeeds, everyone applauds yet another lustrous chapter in her/his turnaround and leadership career. If s/he fails, many judge the situation inherited as too far gone for even that well-regarded CEO to salvage.

Remember, just 21/2 years ago, Yahoo wanted Bartz so badly that they gave her a contract that runs through 2013.

Not surprisingly, as my many posts about GE under Immelt contend, I believe he should have been gone over five years ago, and GE broken up into its large business units. It's an aged, diversified conglomerate with absolutely no reason for being in the modern financial era.

So if Carol Bartz deserves to be fired for her last 2 1/2 years of performance at Yahoo, so, too, does GE CEO Jeff Immelt.

Bad Financial Thinking On CNBC This Morning

There are really only two free choices for business television channels on cable of which I am aware- CNBC and Bloomberg. Fox Business News seems to be among a premium channel group on my service, or simply unavailable. After this morning's fiasco on CNBC, I'm viewing Bloomberg as potential alternate or main viewing choice in the morning.

With Becky Quick and Joe Kernen away for several days, the morning CNBC on-air team was basically non-existent, as far as business acumen and understanding goes. Carlos Whathisname is on Squawkbox for minority color. He asks softball questions, looks incredulous at every answer, and tries hard to swing most conversations to liberal viewpoints.

To fill in for the missing persons, the networks clueless economics reporter, Steve Liesman, and retired mutual fund manager Gary Kaminsky were pinch hitting. I had some comments on a recent post chiding me for criticizing Liesman as being a moron and an idiot. What I'm about to relate should satisfy that reader, Lisa, and others, that my choice of terms regarding Liesman was neither accidental nor wrong.

This morning's discussion on CNBC disappointingly returned, over and over, to a 'debate' between Kaminsky and Liesman regarding companies which both grow income, buy back shares, and pay healthy and/or increasing dividends.

Kaminsky was a well-regarded fund manager at Neuberger Berman for several decades, and, we learned a few months ago, did not come to the field by accident. His father was also a fund manager, which probably helps explain the son's ability to vault into a large-scale management capacity. Kaminsky co-hosts a noontime program with David Faber, on which he largely makes sensible comments. Though he's not immune to occasionally narrow-minded pursuits of questionable points. Unlike more general business analysts, fund managers tend to adopt a style which can limit their ability to consider alternative viewpoints.

Thus, Kaminsky lauded Travelers posting good earnings, buying back its shares, and paying dividends. The typically wrong-headed Liesman began bleating that if he invested in a firm, he wouldn't want his money back. A fair paraphrasing of Liesman's rant is,

'When I invest in a company, I'm giving my money to the CEO. I trust him. I want him to invest that money, not give it back to me.'

After perhaps the third round of pointless discussion on this point, which both parties mentioned they were continuing off-camera on commercial breaks, Kaminsky inadvertently displayed his ignorance, saying to Liesman,

'You're an economist,' rather than having a business background.

But Liesman is not an economist. He's a journalist who likes to believe and pretend he is an economist. With former Fed board member Rick Mishkin as a guest host this morning, Liesman tried to shout down and over the Columbia professor during another discussion. Liesman literally would not shut up, obviously believing his uneducated, ill-informed views were more important than those of a former Fed senior official.

Kaminsky and the CNBC economics reporter must have wasted about ten minutes of air time on a conversation that wouldn't merit mention in most undergraduate finance courses.

For the record, empirically, Kaminsky, while not completely correct, is much closer to the truth than Liesman.

If one wishes to own equities with consistently superior total returns for at least a year, income growth fueled by revenue growth is desirable. Whether that is dividended or not is not too material if the company is growing. Share buy backs, however, tend not to be associated with long term equity market outperformance.

Kaminsky's beliefs notwithstanding, a company that shrinks its capital base isn't a good candidate for long term profitable growth.

As an investor, you don't want your investments misspent by corporations once they've saturated their primary product/markets. Thus, dividend growth and/or share buy backs signal the beginning of the end of consistent, reliable profitable growth.

But Liesman is wrong to decry dividends, per se. When I have owned a consistently-superior performing equity that paid dividends, I viewed those cash payments as providing more funds for subsequent portfolio expansion. Anyone so stupid as to think that dividends from a growing company constitute an unwanted problem has no business being on a business-oriented cable news network in the first place.

After listening to this pointless discussion on CNBC for far too long this morning, I thought about how badly managed the morning lineup is, that they can't manage to sustain the loss of two anchors without degenerating into meaningless babble.

Bloomberg isn't sounding so bad right now....I may miss Rick Santelli......

Cisco's Troubles- Are They Really Surprising?

Today's Wall Street Journal has a piece calling attention- apparently in surprise- to Cisco's latest earnings disappointment. The article cites slowing revenue growth at the networking gear giant.

 Frankly, like a procession of formerly-consistently superior performing technology icons before it, including JDS Uniphase, Cognizant Technologies, Dell, Microsoft, and Intel, Cisco has been a total return has-been for quite some time.

The nearby five-year price chart for Cisco and the S&P500 Index show the firm has outperformed the latter over the period. But, upon close inspection, it's evident that the outperformance has really been in the brief period of the equity market crash between late 2008 and early 2009. Before and after, the performance patterns were similar, with Cisco declining to nearly the index's level by fall of 2009.

However, a much more revealing chart is the next one, spanning the public life of the firm. It produced shareholder value so fast in its early years that comparisons with the index are really pointless. But it's easy to see that, like Microsoft, Cisco has really 'enjoyed,' or, more pointedly, its shareholders have not, a lost decade. From its peak at the peak of the technology bubble in 2000, Cisco slid dramatically and really never substantially recovered.

I have checked my own records, and do not find evidence of the firm in any of my portfolios after early 2000. Between its dismal total return performance, relative to better-performing firms, and, I expect, slowed revenue growth, the firm joined the list I mentioned earlier in the post. Those technology firms whose charmed life of meteoric total return and revenue growth has slipped into history, almost certainly never to return.

Thus my amazement that pundits still put so much emphasis on the firm's every move. The information is clearly available for all to see- Cisco hasn't been a consistently superior performer worthy of long term holding for a decade. You'd have to be a market timer to have earned significant gains by owning the firm during that period. And if you simply bought and held, you'd be a big loser.

But, I guess analysts have to create interest and drama in order to be noticed and, well, get paid. As for me, I won't be expecting Cisco to be returning to its former, attractive performance profile of the 1990s, when it hasn't managed to do so in the intervening decade.

BofA's Dismal Performance

Bank of America announced a $7.3B loss this week. By way of explanation of the gigantic lawsuit involving mortgage servicing, the firm's spokesman informed investors,

"We're not responsible for the poor performance of loans as a result of a bad economy."

True, but doesn't the bank pay a high-priced economist to forecast economic conditions? And shouldn't underwriting standards have allowed for less-than-rosy economic conditions for the next 30 years?

Of course, if the excuse is that the loan loss-related servicing issues came from purchased portfolios, well, that would suggest other management mistakes. But mistakes, none the less.

The huge loss apparently came from writing down credit-card business goodwill.

As is so often the case, the bank and, I assume, analysts will urge investors to view this as an 'exceptional' item.

Too bad that making questionable acquisitions wasn't all that exceptional for BofA a few years ago. One suspects they'll have a lot more 'exceptional' losses in years to come, thanks to Ken Lewis' misguided strategic moves.

The nearby price chart for BofA and the S&P500 Index shows how far the former has declined since late 2007. That was the last time that BofA's rate of return neared that of the S&P.

Now, it's down about 70% while the S&P has more or less flattened over the period.

Hardly the type of performance that makes investors cheer, is it? I suppose there are those that will believe it's the perfect time to bottom fish.

But with BofA and its checkered recent past, I would think that investment decision would come with substantial risk.

KKR & Toys "R" Us: Valuations

Dennis Berman recently wrote a piece in the Wall Street Journal on KKR's (and co-owners) imminent floating of an IPO for Toys "R" Us.

The failed toy chain had been sold to a group of private equity firms on the advice of management, which, five years ago, contended that the company's future performance had,

"been adversely impacted by significant developments in the retail toy industry."

The private equity shops hope to sell the retooled toy firm to public investors for something in the range of 1.5 times the $6.6B it cost the group to buy Toys R Us in 2005.

According to the IPO's prospectus, the toy firm's new management, under the private equity group, had performed major surgery on expenses. These are activities that tend to be one-off actions. You can't close the same store twice, multiplying the savings.

Berman frames the interesting question in the last paragraphs of his column,

"The question for future Toys "R" Us investors is whether there are still improvements and opportunities for left for the company which is in a notoriously competitive, low-margin business.

But the bigger challenge will be about setting the narrative. Do investors really want to play in the KKR sandbox? Toys "R" Us will be an important way to find out."

Precisely.

I've never found comfort in corporate performances which are the result of one-time, radical cost-cutting. Rather, my proprietary research provided me with evidence that consistent performance, over time, is worth far more to shareholders.

Given the earlier troubles of Toys "R" Us having been blamed on industry structure and practices, Berman is right on target to wonder why that would have changed. And why new, public investors would be any better off, over time.

In fact, this is the key point. A point with which I struggled for years, before my research confirmed my suspicions.

Buying an equity right after someone else has extracted huge value from restructuring is asking for trouble. If a management has managed for maximum shareholder gain, as the Toys "R" Us management surely has done for is private equity owners, why would you believe there is continuing value creation left?

If there were, why would KKR and its co-owners be selling all of Toys "R" Us?

It's rather like buying the Goldman Sachs IPO. Why would you buy equity when the smartest guys in the room are selling from their private supply of the stuff?

That's essentially what is occurring with Toys "R" Us. Everyone who has been associated with the failed toy firm from its purchase by the private equity group, until now, has likely been compensated on the IPO price.

Not an equity price of the firm five years from now.

Berman is correct to note the immense risk that any new Toys "R" Us shareholders run in buying the IPO. They won't have the leverage which KKR & Co. had when they owned the failed company. Worse, they'll be buying after the largest value extraction at Toys "R" Us in something like a decade.

More Bad Research On Corporate Performance From Deloitte

I read a reference in a recent Wall Street Journal column by Holman Jenkins to a recently-popular piece of research by two Deloitte consultants, Michael Raynor and Mumtaz Ahmed, along with a "researcher" from the University of Texas, Andrew Henderson.

The book they wrote is described here, and the paper from which it sprang, may be found here in a Deloitte website post, and downloaded/read.

Whenever I read of a reference to some new empirically-based work purporting to diagnose the bases of corporate performance that is desirable to emulate or duplicate, I naturally am curious to learn who did the work, the methodology employed, and their conclusions.

In this case, it appears that Raynor is the leader of the group. His bio can easily be found, as well as his own website. From what I've gathered, he is clearly an intelligent individual, but doesn't seem to be described as having any significant working experience in business, outside of his academic pursuits at Harvard (DBA) and as a consultant at Deloitte. Deloitte, it should be noted, is not exactly in the vanguard of management consulting. Neither is Harvard known as a source for the best empirical approaches to business performance analysis. And it would appear that Raynor is in a sort of 'of counsel' role at Deloitte, as he has his own speaker's bureau representative and website.

In the beginning of their article, the authors state that they believe most prior studies of excellent US businesses have, in fact, been portraits of lucky, rather than skillful firms.

It's also not all that surprising, to me, at least, to learn that Raynor's methodology has little relationship to the real world in which most businesses operate, i.e., a need to produce results that create wealth for business owners. The most easily-accessible data for this, which, conveniently, also is the business form which accounts for the bulk of US business activity, is total returns of publicly-held corporations.

Because I linked to the authors' original article, I won't duplicate their text with reposted passages here.


In their piece, the authors essentially put down total returns as too reflective of future performance, as anticipated by investors, than actual management skill.

Instead, they chose ROA as their preferred measure.

As I mentioned to a colleague, this choice, alone, virtually guarantees the uselessness of all of their efforts.

Yes, they got their article in HBR, won a prize, expanded it to a book. Fine. Tom Peters got a lot of accolades, too, at first. But his work sunk like a stone into the vast sea of strategy and management 'how to' tomes. As, I would expect, will this latest effort by Raynor, Ahmed and Henderson.

Their description of what total returns are is wrong. It's not simply a measure of future "surprises" to investors. Taken as a pattern, over time, total return measures, in a presumably reasonably efficient market of investors and analysts, the ability of a firm's performance to exceed expectations. It does involve expectations, but it also involves expectations based upon prior and evolving performance.

And, more importantly, it is the measure of wealth created by management of the firm, regardless of the exact source of that wealth. It may have been a fortuitous purchase of a patent, a discovery in the research labs, a marketing edge, the discovery of some mineral deposit, or other unpredictable competitive advantage.

In fact, the very unpredictability of the advantage is what generates surprises and wealth. If all gains or excellent performance stemmed from reproducible methods, then those methods would quickly be copied, implemented, and all competitive advantage due to them would vanish.

Such performance can't, won't, and doesn't typically last for very long. But that timeframe can be years, not days or months.

In fact, my own research began with my simple quest to learn what the distribution of company performances was on the basis of being able to consistently outperform the equity markets averages on total return. From that knowledge, I was able to discern a range which constitutes an average length of time of outperformance.

In the same research, I tested ROA's association with patterns and levels of market outperformance, and found it absent for firms which grew revenues at above-average rates. Simply put, ROA is a point estimate of little value in deducing ongoing behavior of firms that are growing at a healthy pace.

And ROA doesn't automatically or tautologically translate into shareholder wealth. So it's going to be of passing interest to both investors and CEOs.

Thus, for all their extensive, hard quantitative work, the authors of the Deloitte study have pretty much doomed it to insignificance because it doesn't generate operable conclusions which directly lead to increased wealth for shareholders or their CEOs.

Then there's the matter of choice of patterns of outperformance.

In my research, I first reviewed real corporate performance over time. From these analyses, I constructed patterning variables which grouped companies by the pattern which their performance exhibited.

By contrast, the Deloitte study authors began by arbitrarily deciding to set a threshold of occurrence of 9 out of 10 years for a variety of unspecified fundamental performance measures.

Why should 9 out of 10 be the appropriate screening value? Why impose a value on the date a priori, instead of simply letting the data describe the true situation?

Thus, the authors proceeded down a path which features their own subjectively-chosen patterns for outperformance on a measure, ROA, which has no direct relationship to the growth of shareholder value in most companies.

As I read their paper, I reflected on my own background being a curious confluence of several important streams of influence. Over many years and with different companies, as a marketing and strategy professional, internal consultant, external consultant and research director, in several different sectors, including financial services, I happened to absorb several key lessons for this type of research.

Being in consulting at Oliver, Wyman & Co., I didn't approach research on the sources of consistently superior shareholder wealth creation with the scepticism that a true believer in efficient financial markets. When I produced my financial services sector results and presented them to retiring Chairman Alex Oliver, he exclaimed, to paraphrase,

'For years we've been saying we had knowledge of what drives superior performance, but we never really did. Now, with this, we do. This is a strategy consultant's ultimate tool.'

Alex was a lot of things, including cheap and petty, but he was arguably one of the best strategy consultants of his time. In his day, he headed Booz Allen Hamilton's strategy practice, leaving to co-found Oliver, Wyman. I took his praise as justifiable proof that my research approach was unique, effective and applicable in a very pragmatic manner.

When I extended the research, on my own, to the entire S&P 500, the results were even more powerful and applicable.

What Raynor, Ahmed and Henderson have produced has no real applicability other than a sort of minor confirmation that what can be easily duplicated is of little lasting value. And that what typically creates significant shareholder wealth can't be reduced to easily-duplicated management dicta.

So, there you have it. The Deloitte study authors and I agree that unexpected innovation can't be easily duplicated as a management style.

But I already knew that, and, if you read this blog regularly, so did you.

Ford's Big Quarter

I saw in Friday's Wall Street Journal that Ford finally posted a profitable quarter. Granted, much of it was due to various restructuring-related, non-comparable income statement items. But evidently analysts and investors are whooping it up.

Pardon my lack of interest.

Truth is, Ford is unlikely to ever appear on my equity and option strategy's list of investments.

There are several reasons why Ford's quarterly performance is probably not the beginning of a pattern of consistently superior total returns which would truly reward investors.

For some perspective, observe the nearby 6-month, 2-year and 5-year performances of the price of Ford, compared with the S&P500 Index.

Ford is up 200%, meaning it's price quadrupled in the past six months, but is down 20% over the past two years. Over the past five years, Ford is down about 50%, while the S&P is just below flat.

Much of Ford's recent gains are simply the snap-back after the entire sector was in trouble at the end of last year. Like many other companies, values in the first quarter of this year were often far below longer term values, if the company survived. Thus, the six-month Ford stock price performance isn't really due to operating improvements.

It's not at all clear, and, actually, is pretty unlikely that this phenomenon can continue into the future.

Granted, Ford borrowed heavily while it could, during Mulally's early tenure, and generally cleaned up its balance sheet, thus avoiding GM's need to file for bankruptcy. But it still has the UAW with which to contend, and, now, is competing with two government-assisted auto makers, GM and Chrysler.

Finally, auto making just isn't the sort of business in which a has-been, ailing competitor like Ford is likely to suddenly surge forward and become a consistently superior total-return performer.

Barriers to entry are so low that Chinese cities are building cars. Newer vendors of alternative energy cars, such as electric, stand ready to compete Ford back to the point of merely average profits and growth.

Vehicle production just isn't the sort of business that has characteristics of defensible advantages, low union involvement, and high growth that are so often found in the best companies.

Ford reported one good quarter. Maybe it'll have one or two more. But the probabilities that Ford is going to be a long term bet for consistently beating the S&P500 just aren't very high. And that's as much a function of the sector in which the company competes as it is of the company's particulars.

Samuelson's & Stout's Wrong Views On Executive Compensation & Related Matters

It's rare that the Wall Street Journal's editorial page carries two completely erroneously-reasoned, ill-logical and, frankly, bone-headed pieces in the same day. But yesterday was such a day.

The two editorials to which I refer, of course, are "Are Executives Paid Too Much?" by Judith Samuelson and Lynn Stout, and "We Cannot Delay Health-Care Reform" by Senators Max Baucus and Teddy Kennedy. I'll deal with the first piece in this post, and the second in a later one.

In order to make the most focused, germane comments possible, I'll intersperse my remarks between the italicized text from Samuelson's and Stout's article.

"Our economy didn't get into this mess because executives were paid too much. Rather, they were paid too much for doing the wrong things."

This is true. I have long held, going back to the early 1990s, well over fifteen years ago, as a result of my proprietary equity research, that senior executives should be granted incentive compensation as a function of a five-year-lagged difference between their firm's total return and the S&P500 Index. Thus, Samuelson and Stout are observing nothing new whatsoever.

"In the summer of 2006, well before most economists had any inkling of the calamity that was about to unfold, the Aspen Institute brought together a diverse mix of high-level business leaders, investment bankers, governance experts, pension fund managers, and union representatives. When you put successful people with such disparate and conflicting backgrounds and loyalties together in the same room, the result can be a shouting match. But the members of the newly formed Aspen Corporate Values Strategy Group found they shared an unprecedented consensus: Short-term thinking had become endemic in business and investment, and it posed a grave threat to the U.S. economy."

I wonder what a "governance expert" is? Who is s/he? What are such a person's credentials? This seems like another one of those loony "institutes" cooked up by so-called experts on the outside, with no prior, inside experience actually doing any of that about which they opine.

Honestly, the term "Aspen Corporate Values" seems a contradiction in terms to begin with. The entire name of the group seems an amalgam of feel-good, sound-good business terms with no discernible meaning.

"This collective myopia had many causes. One cause, the Aspen Group concluded, was the demands of the very shareholders who are now suffering most from the stock market's collapse. It is extremely difficult for an outside investor to gauge whether a company is making sound, long-term investments by training employees, improving customer service, or developing promising new products. By comparison, it's easy to see whether the stock price went up today. As a result, institutional and individual investors alike became preoccupied with quarterly earnings forecasts and short-term share price changes, and were quick to challenge the management of any bank or corporation that failed to "maximize shareholder value."

The authors are wrong in their basic contentions, as expressed in this paragraph.

It is precisely the company's total return that is the sum total and expression of whether the company is "making sound, long-term investments by training employees, improving customer service, or developing promising new products," as such activities add comparative value for that enterprise.

To denigrate the maximization of shareholder value per se is wrong. Short-term maximization, yes. Again, I wrote about this in a Directorship piece over fifteen years ago. But long term, consistently superior total returns is the hallmark of corporate success. Samuelson and Stout mention this basic, simple and rather obvious concept nowhere in their piece.

"Meanwhile, inside the firm, executives were being encouraged to adopt a similarly short-term focus through the widespread use of stock options. The value of a stock option depends entirely on the market price of the company's stock on the date the option is exercised. As a result, managers were incentivized to focus their efforts not on planning for the long term, but instead on making sure that share price was as high as possible on their option exercise date (usually only a year or two in the future), through whatever means possible.

Executives eager to maximize the value of stock options began adopting massive stock-buyback programs that drained much-needed capital out of firms; jumping into risky "proprietary trading" strategies with credit default swaps and other derivatives; cutting payroll and research-and-development budgets; and even resorting to outright accounting fraud, as Enron's options-fueled and stock-price obsessed executives did."

The authors mix too many examples from vastly differing sectors, and attempt to give the impression all are alike. They are not. Rather than provide credible evidence, the authors simply advertise their lack of understanding of business.

And, for the record, next time, ladies, use the correct, pre-existing English language term, "incented," rather than the made-up, goofy-sounding "incentivized."

Did "massive stock-buyback programs" drain "much-needed capital out of firms?" Perhaps not. When managers believe that their firm's equity is undervalued, it is a reasonable use of resources to buy some of that equity back, then reissue it when investors realize the intrinsically higher value later on. Of course, if an inept management is, in fact, destroying value, then buying back stock hastens the proper result- withdrawal of capital from an ailing firm.

Samuelson and Stout miss this fact entirely, railing instead at any withdrawal of capital from any enterprise. In effect, the authors of the editorial seem to claim omniscience, implying that any cost-cutting of R&D budgets, staff, or mitigation of risk with reasonable employment of hedges via derivatives, are wrong on their face.

The business world is not that simple, but, evidently, Samuelson and Stout are, in their own mindset.

"The system was perfectly designed to produce the results we have now. To get different results, we need a different system.

To get business back on track, the Aspen Group concluded, it is essential to focus on not just one but three strategies: designing new corporate performance metrics, changing the nature of investor communications, and reforming compensation structures.

Starting with metrics, we need new ways to measure long-run corporate performance, rather than simply relying on stock price. In terms of investor communications, companies need to ensure corporate officers and directors communicate with shareholders not about next quarter's expected profits, but about next year's and even next decade's."

The authors begin this passage correctly. A change is required, and it is the change about which I wrote for my Directorship article over a decade ago. It's simple and requires no new measures, just the extension of the measurement of existing ones over more years, and subtracting the free ride of the S&P500's effect on corporate total return over five-year periods, in arrears.

The idea that any corporate officer can speak with clarity and credibility concerning expected profits over a year in the future is ludicrous. A decade? What are these women smoking? The only thing that would arise from such practices is frivolous shareholder lawsuits.

Oh, wait. I get it. Lynn Stout is a professor of corporate and securities law at UCLA. Makes sense. Demand that business executives make more litigation-producing earnings forecasts. Great business for law school grads, eh?

Only a lawyer out of touch with real business could write that and believe it has any relationship to the modern, fast-paced world of global business. Company fortunes can change in just a few years, due to competitive actions half a world away.

"Finally, and perhaps most importantly, companies must change the ways they reward not only CEOs and midlevel executives, but also institutional portfolio managers at hedge funds, mutual funds, and pension funds. Executives and managers should be rewarded for the actions and decisions within their control, not general market movements. Incentive-based pay should be based on long-term metrics, not one year's profits. Top executives who receive equity-based compensation should be prohibited from using derivatives and other hedging techniques to offload the risk that goes along with equity compensation, and instead be required to continue holding a significant portion of their equity for a period beyond their tenure."

Huh? You're going to forbid an executive from hedging stock options? I seriously doubt that is legal. And, anyway, all that will happen is that they will find a way, or some smart trust attorneys (wow, there are those smart lawyers again) will find it for them, to have an unrelated trust or a family relation hold the hedged position.

And how in the world can you not compensate "institutional portfolio managers at hedge funds, mutual funds and pension funds" based on their correct bets on market index movements? Not everyone invests directly in equities. Or even equity options. Some managers simply buy and sell indices and their options.

Mutual fund managers rarely, if ever, are paid incentive compensation by customers. Perhaps by the firm's managment, but not the customers directly. Hedge and pension fund managers, if they have 2/20 compensation, typically have their "20" subject to a high water mark, i.e., they can't get incentive compensation when the value of the fund declines, until the fund value rises above the prior highest value. Some funds even have escrows which hold back the 20% incentive fees for a year or more, so the manager doesn't even receive that money if short results are reversed. Samuelson and Stout once again display their naivete about that which they write so emphatically.

It's clear Samuelson and Stout aren't living in the real world of business and finance. Perhaps too much time in that Rocky Mountain air?

"So long as our metrics, disclosures and compensation systems encourage executives and institutional fund managers to look only a year or two ahead, we have to expect that that is what they'll continue to do. It's time for a long-term investment in promoting long-term business thinking."

Well, their conclusion is correct. But, as I noted in my first remarks to their opening paragraphs, this is not a new idea by a long shot. Their overall goal is fine, but their details are all wrong. And completely lacking in common sense, real world applicability, and credibility.

I wonder how this piece of bad reasoning ever made it onto the Journal's editorial pages.

My Equity Stategy In 2008

I haven't posted about the performance of my equity portfolio strategy since this piece on July 1st of last year. I wrote,

"I am very, very sorry to note that my proprietary equity allocation signal has finally gone to "short" for the first time since 2001.

Believe it or not, even January's rollercoaster ride and March's collapse didn't trigger it. Almost, but the April bounce lifted the S&P just enough to keep us long for a while.

June's S&P return of at best -9%, on first glance using a simple Yahoo-sourced price difference, is the worst in ages, and sends my proprietary market turbulence/allocation signal firmly into short/put territory."

And there it has remained ever since.

The equity strategy racked up a 5% gross loss for the first half. However, by going short with a theoretical 50% of assets for the next six months, it earned 18% in the second half. Netting the two halves resulted in what would have been a +13% gross return for the full year.

I don't even have my own money in the equity strategy now, since the optionized version that my partner and I use is far more profitable. But I still run the underlying equity model to assure the validity of the tool that underpins the options approach derived from it.

Thanks to the risk management tools which I built in the midst of the 2000 equity market crash, the equity portfolio was correctly positioned for this past fall's carnage. While the short portfolio had as much as a 48% return at its peak, it of course gave back some profit as the S&P climbed some 23% from its late November bottom.

For now, my allocation signals still indicate a short position in equities for quite a few more months.

In the worst year for S&P equities on record, it's gratifying to know that, if I had managed just equities with my strategy, it would have not only outperformed the S&P500, but actually had a positive return when many well-known funds lost heavily.

Revisiting Compensation: Lagging Incentive Comp To Match Long Term Performance

The Wall Street Journal's Scott Patterson wrote a piece in Wednesday's edition entitled "Securities Firms Claw Back at Failed Bets."

Mr. Patterson began his article by stating,

"As securities firms rein in risk-taking that ran amok when times were good, the use of clawback provisions is spreading, with Morgan Stanley and UBS AG rolling out rules that allow them to take back money paid to traders and other employees whose bets blow up later.

But the push to clean up an old problem on Wall Street may create some new ones. By giving themselves the power to reclaim bonuses and other compensation, firms might unintentionally make traders too skittish about taking even healthy risks, nudge some of the best talent out the door or encourage employees to conceal their losses, some observers warn.

"It would be hard for traders to hide losses for more than a year or two, but if we incentivize them to do so, they will find a way," said Frank Partnoy, a University of San Diego law professor who has written about corporate malfeasance.

The clawback "has far too long a memory and makes your most successful traders the most risk-averse," added Aaron Brown, a hedge-fund risk manager who used to work at Morgan Stanley."

I must admit, I have no concept of what Mr. Brown could mean. Isn't most of what has befallen traders, and the companies for which they work, in the last year or so too much focus on short term profits of trades, while disregarding the longer term ramifications?

In fact, in this year, of all years, it is ludicrous to be quoted publicly as saying that traders may not take enough risk in the future.

To me, the following comment in the article makes much more sense,

""We're making what we see as a good-faith effort to more closely tie employee compensation to longer-term performance," said Morgan Stanley spokesman Mark Lake.

I have argued for years, beginning with the application of my proprietary corporate performance research for consulting with CEOs, that incentive compensation needs to be vested some 3-5 years after the year in which it was earned. Shareholders benefit from consistently superior returns, not yo-yoing, inconsistent returns. Thus, Morgan Stanley finally seems to be on a credible, effective track for matching employee incentive compensation with shareholder interests.

Regarding other banks, Patterson continued,

UBS, which announced its clawback provision in November, will hold about two-thirds of eligible cash bonuses in an escrow account from which the Swiss bank will dole out payments based on employee performance and UBS's overall profitability."

"UBS acknowledged that its clawback rule could cut into short-term profits if employees become too risk-averse. Overall, though, the policy is expected to result in more consistent and less volatile long-term gains. Reginald Cash, head of U.S. investor relations at UBS, said the provision could create "some limit to chasing the last dollar on any given strategy." "

Again, this is precisely what shareholders should want. Long-tailed investment positions may be profitable trades in the initial year, but come back to haunt the company. Consider how many of the mortgage-backed securities or CDOs may have performed in their early years, versus their valuation changes in 2007 and -08.

Thus, anyone who argues that traders should not bear the risk of their positions in their compensation for the life of the positions is clearly not paying those traders with their own money. And doesn't care about shareholder interests, either.

This is an idea whose time is long, long overdue. In fact, even the name given the approach by financial services companies promotes incorrect thinking.

It's not 'clawing back' compensation from employees after the fact. It's releasing the incentive compensation in concert with each year's successful earning of the money by an employee, on a lagged basis.

Had this type of compensation approach been in place five years ago, there would have been much less damage from toxic structured financial instruments in the most recent cycle.

"Target-Proofing" Corporate Performance- How Probable Is It?

Friday's Wall Street Journal carried an editorial entitled, "Target-Proof Your Company," by Robert Pozen. Pozen is chairman of MFS Investment Management, and evidently adapted this piece from one he wrote for the Harvard Business Review.

Ironically, explaining that last part goes a long way toward explaining the rather ho-hum nature of his recommendations for how public companies may avoid becoming targets of private equity firms.

As I recall from many years reading HBR, it frequently would feature 'so-what' sorts of corporate pablum that espoused laudable, if largely unattainable goals.

For instance, Pozen's five questions for target-proofing a company are:

Is there too much cash on the balance sheet?

Is the capital structure optimal?

Does the operating plan significantly increase shareholder value?

Is executive compensation tied closely enough to shareholder value?

Do directors devote enough time and have enough incentive to increase shareholder value?

The first two questions are truly inane, at this point in modern corporate development. Any firm significant enough to merit private equity attention can afford a decent CFO who can make sure these tactical matters are appropriately managed.

The third question is, frankly, probably the toughest, hardest to achieve of any single question for modern corporate CEOs.

My proprietary research shows that, at best, only 10-20% of the S&P500 CEOs can figure out what to do in terms of fundamental, operating peformance, that leads to consistently superior shareholder returns.

Jeff Immelt's never done it. Chuck Prince never did, either. Nor most of the CEOs of large-cap companies. The best way to increase the odds of such shareholder return performance is, according to my findings, deceptively simple, and requiring of exceptional management talent and discipline.

Thus, Pozen's question, while useful, is, for all practical purposes, unanswerable by most CEOs and their boards. They simply have no clue.

If they did? They'd be doing it!

Questions four and five have elicited a myriad of posts from me over the past two years. Read my posts under labels such as 'corporate governance,' 'private equity,' 'executive compensation,' or 'Immelt.' Suffice to say, I've written about these topics prior to Pozen.

Don't pay CEOs for failure. Give them about $250-300K per year in cash, and the rest subject to a 3-5 year return performance that beats the S&P500. Lag that incentive compensation to force the CEO to focus on sustained outperformance of the S&P.

As for boards, I wrote this piece which pre-dated and anticipated Pozen's recommendations. I wrote,

"Here's another insight. If, as I wrote last summer as a solution to America's corporate governance problems, board members were required to "run" for the post, and invest significant assets of their own in the company, thus clearly aligning their financial interests with those of shareholders, it might improve corporate board oversight and involvement in the operation of companies.

Suppose private equity firm partners offered their services to a publicly-held company. Would they not, in effect, take board positions, in exchange for options to own much of the firm, or be paid a percentage of the value they created over, say, a function of the firm's prior total returns, relative to the S&P500? In effect, like my idea, they'd commit their financial fortunes to, and align them with those of the firm's. But what mechanism exists for shareholders to do this? None."

Pozen's ideas,

"Directors of private equity companies hold substantial equity in them, and share in the performance fees of the private equity funds -- typically, 20%-30% of the returns realized by these funds.

Such small boards may be particularly effective in smaller public companies, which have trouble recruiting outside directors,"

are precisely for what I have been arguing in this blog for years. They are not new.

Nor are they likely to happen. It's one thing to observe better practices. It's another to expect a set of wealthy, and growing wealthier, mediocre CEOs who sit on each other's boards to really care about their shareholders.

That's why, per this post, I forsook consulting with my research findings many, many years ago. Rather than try to change the culture of large-cap American businesses, it's easier just to invest in the ones that do what Pozen suggests, and leave the rest to muddle along on their own.

Point Estimates of Value: Accenture's 'Latest' Concept

A few weeks ago, in the Wall Street Journal's weekend edition of October 27-28, an article in their special section associated with MIT, entitled, "The Future Is Now," appeared.

The piece is the fruit of work by the Accenture Institute for High Performance Business. Essentially, it retraces valuation work done over a decade ago by allocating the current value of a company between current financials, and all else, which, according to the authors, must be 'future value.'

My own research, which, ironically, had some of its early roots at Andersen Consulting, Accenture's predecessor, has demonstrated the lack of validity that any point-estimate approach to valuation has for strategic or long-term investment applications.

Back in the mid-1990s, I led research in the financial services practice of Andersen Consulting which addressed the question of linking strategy, performance, and valuation for our client companies. My work was sufficiently advanced to become a funded worldwide industry program for our segment, with marketing support to implement it with clients.

Then, in 1995, Andersen reorganized its major axis of management from industry to geography. The new head of our practice was a partner from Texas, who eschewed any type of intellectual property-related work, in favor of raw IT-style consulting. It was then that my managing partner, who remains a senior executive at Accenture even today, and I agreed that my ability to pursue my work at Andersen had reached an end. Shortly thereafter, I became the first director of research for then-independent Oliver, Wyman & Company. At that time, OWC was a financial services consulting boutique, spun out of Booz, Allen Hamilton.

I continued to develop my ideas and research at OWC, and thereafter. Upon completing extensive research on both financial services and the S&P500 companies, I contacted my former managing partner at Andersen to ascertain the firm's interest in my work.

As it happened, they were attempting to do something conceptually similar, though far more primitive. Further, they were, as usual, trying to do it using spare time from idle junior staffers, managers and a consulting partner.

Even back then, in the late 1990s, I had realized the importance of measuring corporate performance through time. As I stressed in my presentations for the consulting application of my work, point-in-time valuation methods had a number of serious flaws. For one, they had no normative prescriptive component. With just a single number, or a few numbers which deconstructed a single time value number, nothing could be said of the result with any confidence.

Second, a snapshot made any subsequent analysis victim to a particular point in time which might not be representative of the recent past, or imminent future, of the company's market performance, either technically or fundamentally.

For instance, the Journal piece describes the Accenture approach thusly:

The Objective: Executives who are managing with the goal of increasing shareholder value need to be able to analyze their company's future value -- the portion of the share price that isn't based on the earnings from current operations or products.

The Process: A relatively simple mathematical formula can be used to determine how much of a company's share price is based on current value and how much on future value. Those proportions can then be compared with those of competitors and can be monitored for signs of changes in how the stock market is evaluating the company's prospects.

The Payoff: A clear picture of both the current and future components of a company's share price can give executives a better sense of whether they have struck the appropriate balance between short-term and long-term goals.

If the method involved looking at total returns through time, I'd say it might be more valuable. As it is, Accenture's old-style approach of capitalizing income streams and assigning values to debt and equity is needlessly complex and, to some extent, indefensible. It is quite similar to Stern Stewart's outdated 'EVA-MVA' approach, which suffers from similar point-in-time measurement weaknesses.

I don't believe a management "need(s) to be able to analyze their company's future value -- the portion of the share price that isn't based on the earnings from current operations or products."

Rather, it is simpler for a company to simply measure its total return, relative to the S&P500, in step with its fundamental performance over time. It is the change in value of the company, or the total return to shareholders, that matters, not the value of the assets, per se.

My own work along this line, for consulting applications, has resulted in much simpler, but more powerful diagnostics of corporate performance. Benchmarks have been developed, irrespective of industry or time. And they are related to the simplest, yet most important and powerful of all performance measures, total returns through time, relative to the market.

After I read this piece by the Accenture-related authors, it took me a while to understand how such an antiquated, simplistic view of valuation could result from a putatively leading consulting firm's 'institute.'

However, in discussing it with my business partner, we agreed that Accenture's work must be seen as having value to its clients. And clients who look to Accenture, and/or its Institute, for guidance and ideas, are bereft of their own.

In short, Accenture can't really serve up the very latest, leading edge valuation concepts to managements that are, typically, mediocre. If the managements were better, they'd be able to realize that methods like the ones described in this article were dated, rather ineffective, and have dubious value in application for strategy.

Rather, what Accenture has to sell is what middling managements will buy. And that won't be something normative.

In fact, this article, and its relationship to my own work, takes me back to a conversation I had at the end of my second involvement with Andersen Consulting, circa 1997.

The Financial Services Global executive for Strategy, Mike May, had originally seen, and become interested in, the work I presented to my former MD, Steve Racioppo. Mike had put me in touch with his Chicago practice partner who was heading their internal effort. That partner expressed relief that he would soon be able to hand off the effort to me, get back to consulting, and stop trying to solve the problem I already had, with a team of underpowered junior consultants.

At one point, May even solicited my interest in licensing my approach to Andersen on a global basis, for his segment.

Then a curious thing occurred. A few months later, May, his lieutenant, and I had a breakfast meeting in New York. While his junior partner silently sat and watched, May reversed his stand and told me he was no longer interested in my work.

He stressed that, at the time, in the late 1990s, strategy consulting in the financial services segment was growing 'faster than we can staff it.' Andersen had projects in backlog so far they were evidently worried about being able to staff everything they had sold.

In that environment, May told me, my technique had become an unnecessary minor item. A product whose revenues would be lost in the rounding error of his major strategy engagements, and whose door-opening value was not needed at that time. Products, May told me, were of little actual value to him anymore. Their return was too small in his current situation of mega-strategy projects for large financial services clients.

In conclusion, May told me something which, in hindsight, was a gift, although it took me a few days to realize it. He said, in effect, to paraphrase his words,

'This is an excellent tool for measuring valuation and return. It's without question the best I have seen. It will enable us to assure a client that the recommendations we have for them are, in fact, going to improve their performance, and are the best recommendations.

However, we have so much work we don't need it. Furthermore, our clients don't really care whether we can prove to them that our advice is right. They'll hire us and listen to our conclusions, whether we know those conclusions are going to improve the client's total returns, or not.

So I really don't need your technique to prove that our advice is the best thing for our client. They'll do it anyway, just because we say so.'

And that is one reason why I abandoned consulting applications of my research soon after, to focus on equity management.

When the largest consultants in the business- Andersen/Accenture, McKinsey, Mercer/OWC- didn't worry about demonstrating the actual value creation of their work, it was obvious my approach, which focused exclusively on improving a client's total returns over time, would never be competitive.

As I reflect on my equity strategy work, which is the other, non-consulting application of my research over the past 20+ years, I realize that Mike May did me a big favor. Had I licensed my work to Andersen/Accenture, I'd probably have spent years in a far less satisfying type of work than applying my research to equity management.

So, reading about Accenture's latest valuation concepts in the Journal last month brought a smile to my face. The technique they espoused isn't even close to being as powerful as what Andersen, and I, were working on over a decade ago. But, then again, I believe what the Accenture Institute folks are doing will be well-received by middling managers of struggling companies the world over. It won't tax their minds too much, and it dispenses with any promise of actually improving anything.

It's a perfect tool for a large consulting firm.