Window into bigger corporate ethics lapses, management homework help

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In the corporate world, some work-mates are notorious for taking and eating other people’s food from the office fridge.

(a) How does this practice of taking other people’s food violate the Judeo-Christian Religious View of ethics?

(b) How might this practice of taking other people’s food be supported by any of the other five views of ethics discussed in chapter 5?


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The Organization 5 Chapter Outline 5-1 Organizational Direction: Mission, Goals, and Objectives W I 5-1a Global Influences on Mission L 5-1b Goals and Stakeholders 5-2 Social Responsibility S 5-3 Managerial Ethics O5-4 The Agency Problem N 5-4a Management Serves Its Own Interests , 5-4b Management and Stockholders Share the Same Interests 5-5 Corporate Governance and Goals of Boards of Directors J5-6 Takeovers 5-7 Summary A Key Terms MReview Questions and Exercises I Practice Quiz ENotes Reading 5-1 5 0 5 1 B U 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning 94 Chapter 5 W hereas previous chapters discussed the external analysis phase of the strategic management process, this chapter begins to consider internal factors. This shift from the industry level to the organizational level reflects a change in focus from similarities, or factors that tend to affect all of an industry’s organizations in a like manner, to differences, or issues specific to a particular firm in an industry. This shift also relates to theoretical perspectives discussed in Chapter 1, marking a movement from an industrial organization (IO) perspective to a resource-based view of the firm. Crafting a strategy for an organization whose purpose and resources are not well understood by its members is a difficult task, however. This chapter discusses the role that an organization’s unique mission and resources, as well as social responsibility and ethics, play in the strategic management process. 5-1 Organizational Direction: Mission, Goals, and W Objectives Mission The reason for an organization’s existence. The mission statement is a broadly defined but enduring statement of purpose that identifies the scope of an organization’s operations and its offerings to the various stakeholders. Goals Desired general ends toward which efforts are directed. Objectives Specific, verifiable, and often quantified versions of a goal. Comparative Advantage The idea that certain products may be produced more cheaply or at a higher quality in particular countries, due to advantages in labor costs or technology Several terms are commonly used to delineate the direction of the organizaI tion. The mission is the reason for the firm’s existence and is the broadest of L these terms. The organization’s goals represent the desired general ends toward S Objectives are specific and often quantified versions which efforts are directed. of goals. Unlike goals, O objectives are verifiable and specific, and are developed so that management can measure performance. Without verifiability and specificity, N a clear direction for strategy. objectives will not provide For example, the mission of an Internet Service Provider (ISP) might be “to , provide high-quality, reliable Internet access to the southeastern United States at a profit.” Management may establish a goal “to expand the size of the firm through acquisition ofJ small ISPs.” From this goal, specific objectives may be derived, such as “to increase access numbers by 20 percent each year for the next five years.” As anotherA example, management’s goal may be “to be known as the innovative leader in the Mindustry.” On the basis of this goal, one of the specific objectives may be “to have 30 percent of sales each year come from new products developed during the Ipreceding three years.” E 5-1a Global Influences on Mission An organization’s mission 5 may be closely intertwined with international operations in several ways. A firm may need inputs from abroad or sell a large percentage of its products to 0 global customers. Consider, for example, that virtually all of Japan’s industries would 5 grind to a halt if imports of raw materials from other nations ceased, because Japan is a small island nation and its natural resources 1 are quite limited. Organizational mission B and international involvement are also connected through the economic concept of comparative advantage, the idea that certain U more cheaply or at a higher quality in particular products may be produced countries due to advantages in labor costs or technology. Chinese manufacturers, for example, have enjoyed some of the lowest global labor rates for unskilled or semiskilled production in recent years. As skills rise in the rapidly emerging nation, some companies have succeeded in extending this comparative advantage to technical skill areas as well. The annual salary for successful engineers in China rose to around $15,000 in 2007, a level well below their comparably skilled counterparts in other parts of the world.1 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning The Organization Global involvement may also provide advantages to the firm not directly related to costs. For political reasons, a firm often needs to establish operations in other countries, especially if a substantial proportion of sales is derived abroad. Doing so can also provide managers with a critical understanding of local markets. For example, Ford operates plants in western Europe, where manufacturing has helped Ford’s engineers design windshield wipers for cars engaged in high-speed driving on the German autobahns.2 95 Source: Ablestock.com 5-1b Goals and Stakeholders At first glance, establishing a mission, goals, and objectives for a firm appears to be fairly simple; however, because stakeholders have different perspectives on the purpose of the firm, this task can become quite complex. Stakeholders are individuals or groups who are affected by or can influence an organization’s operations. Firm stakeholders include such groups as shareholders, members of the board of directors, managers, employees, suppliers, creditors, and customers (see Table 5-1). As owners, shareholders traditionally represent W the dominant group of stakeholders. Top managers, too, should be concerned I objective of profits, but also with not only with the shareholders’ primary those of other stakeholders.3 Ideally, theLmission, goals, and objectives should emphasize goals of the shareholders, and balance the pressures from other S stakeholders.4 It is not difficult to see how stakeholder O goals can conflict with one another. For example, shareholders are generally interested in maximum profitability, whereas N survival so that their loans will be creditors are more concerned with long-term repaid. Meanwhile, customers desire the ,lowest possible prices, even if offering them would result in losses for the firm. Hence, top management faces the difficult task of attempting to reconcile these differences while pursuing its own set of goals, which typically includes quality of work lifeJand career advancement. TA B L E 5-1 S ugges ted Go a ls o f Goals Customers The company should provide high-quality products and services at the most reasonable prices possible. The company should5provide goods and services with minimum environmental costs, increase employment opportuni0 social and charitable causes. ties, and contribute to The company should5establish long-term relationships with suppliers and purchase from them at prices that allow the suppliers to remain profi 1 table. The company should provide good working conditions, equitable compensation,B and opportunities for advancement. The company shouldU maintain a healthy financial posture and a policy of on-time payment of debt. The company should produce a higher-than-average return on equity. Current directors should be retained and shielded from a legal liability. The company should allow managers to benefit financially from the growth and success of the company. Suppliers Employees Creditors Shareholders Board of directors Managers Individuals or groups who are affected by or can influence an organization’s operations. A S tM a k eh o ld er s I E Stakeholders General public Stakeholders 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning 96 Chapter 5 This balancing act is evident when one considers the clash that can occur when top management goals are pitted against those of the board of directors. Although both groups are primarily accountable to the owners of the corporation, top management is responsible for generating financial returns and the board of directors is charged with oversight of the firm’s management. Some have argued, however, that this traditional shareholder-driven perspective is too narrow, and that financial returns are actually maximized when a customer-driven perspective is adopted, a view that is consistent with the marketing concept.5 Consumer advocate and 2000 U.S. presidential candidate Ralph Nader has argued for more than thirty years that large corporations must be more responsive to customers’ needs.6 Firms create value for various parties, including employees through wages and salaries, shareholders through profits, customers through value derived from goods and services, and even governments through taxes. Firms that seek to maximize the value delivered to any single stakeholder at the expense of those of other groups can jeopardize their long-term survival and profitability.7 For example, a firm that emphasizes the financial interests of shareholders over the W monetary needs of employees can alienate employees, threatening shareholder I Likewise, establishing long-term relationships with returns in the long run. suppliers may restrict L the firm’s ability to remain flexible and offer innovative products to customers. Top management is charged with the task of resolving opposing stakeholder S demands, recognizing that the firm must be managed to balance the demands of O various stakeholder groups for the long-term benefit of the corporation as a whole.8 5-2 Social Social Responsibility The expectation that business firms should serve both society and the financial interests of shareholders. N , Responsibility An organization’s direction is governed in part by its value system. An organization’s values can be seen J through its stance on service to society, as well as its support for high ethical standards among its managers. These factors are discussed A in this section. Social responsibilityM refers to the expectation that business firms should serve both society and the financial interests of the shareholders. A firm’s stance on I social responsibility can be a critical factor in making strategic decisions. If social E responsibility is not considered, decisions may be aimed only at profit or other narrow objectives without concern for balancing social objectives that the firm might embody. The degree to which social responsibility is relevant in strategic 5 debated, however. decision making is widely From an economic0perspective, businesses have always been expected to provide employment for individuals and meet consumer needs within legal 5 constraints. Today, however, society also expects firms to help preserve the environment, to sell safe products, to treat their employees equitably, and to 1 be truthful with their customers.9 In some cases, firms are even expected to B provide training to unemployed workers, contribute to education and the arts, and help revitalize urban areas. Firms such as Home Depot, Coca-Cola, UPS, and U Johnson & Johnson recently earned high marks for social responsibility, whereas Bridgestone and Philip Morris were at the bottom of the list.10 Figure 5-1 illustrates the approach to social responsibility at Johnson & Johnson, a firm whose corporate reputation ranked number one in 2002 and 2003 in the Harris Interactive survey.11 Many economists, including such notables as Adam Smith and Milton Friedman, have argued that social responsibility should not be part of management’s 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning The Organization FIGURE 5-1 J ohns on & J ohns on Credo W I L S O N , J A M I E 5 0 Source: Reprinted by permission of Johnson & 5 Johnson 1 B U decision-making process. Friedman has maintained that business functions best when it concentrates on maximizing returns by producing goods and services within society’s legal restrictions. According to Friedman, corporations should be concerned only with the legal pursuit of profit, while shareholders are free to pursue other worthy goals as they individually see fit. Even if one accepts Friedman’s argument, firms should act in a socially responsible manner for two primary reasons. 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning 97 98 Chapter 5 Source: Ablestock.com Source: Ablestock.com First, acting responsibly can reduce the likelihood of more costly government regulation. Historically, regulations over business operations often were enacted because certain firms refused to act responsibly. Had some organizations not damaged the environment, sold unsafe products, or engaged in discrimination or misleading advertising, legislation in these areas would not have been necessary. Government regulation is always possible when companies operate in a manner contrary to society’s interests, even if doing so is clearly within the legal jurisdiction of the firm. Second, stakeholders affected by a firm’s social responsibility stance—most notably customers—are also those who must choose whether to transact business with the firm. Prospective customers have become more interested in learning about a company’s social and philanthropic activities before making purchase decisions. Those who believe a firm is not socially responsible may take their business elsewhere. The social responsibility debate aside, many executives—especially those in large firms—have concluded that their organizations must at the minimum appear to be socially responsible or face the wrath of angry consumers. As such, they are greatly W concerned about both the actual behavior of the firm and how it is perceived. Evidence suggests that consumers want the firms that produce the products Iand services they buy not only to support public initiatives, but also to uphold the L same values in terms of the day-to-day decisions of running the company.12 By definition, a firm that is socially responsible is one that is able S to generate both profits and societal benefits; but exactly what is good for society 13 is not always clear. For O example, society’s demands for high employment and the production of desired goods and services must be balanced against the polN lution and industrial wastes that may be generated by manufacturing operations. The decisions made to,balance these concerns, however, can be quite difficult to make (see Strategy at Work 5-1). Social responsibility is a prominent issue in some industries. Pharmaceutical J spend billions of dollars to develop drugs for treating manufacturers, for example, a wide range of ailments. AThe costs of the drugs, however, can determine the extent to which patients will benefit from them. In the United Kingdom, government offiMto stop prescribing various drugs for Alzheimer’s disease, cials called on physicians acknowledging their benefi I ts but arguing that they do not justify the cost.14 The same E S T R A T E G Y A T W O R K 5 - 1 GMAbility: Social5Responsibility in Action The public emphasis that General Motors places0on social responsibility is quite noteworthy. The company’s 5 “GMAbility” initiative (www.gm.com/company/gmabil1 ity) highlights a number of GM activities. For example, according to its 2001 sustainability report, B GM has taken action to reduce emissions and water and U energy consumption, while increasing its community support and number of partnerships. GM is also active in a variety of recycling, education, hazardous waste collection, and pollution prevention programs. GM has partnered with The Nature Conservancy, an international environmental organization. GM spends $1 million annually to assist in the preservation of land and water systems in North America, Latin America, the Caribbean, and the Asia/Pacific region. GM also participates in a variety of philanthropic activities, such as violence reduction programs in schools, Special Olympics, and community development. For example, GM partnered with Sun Microsystems and EDS to contribute more than $211 million in computer-aided design, manufacturing, and engineering (CAD/CAM/CAE) software, hardware, and training to Virginia Tech. Sources: R. Alsop, “Perils of Corporate Philanthropy,” Wall Street Journal, 16 January 2002, B1, B4; General Motors, www.gm.com/ company/gmability, accessed March 14, 2002. 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning The Organization realities can be true for medical procedures, especially in emerging economies. The pay-as-you-go system for medical treatment in China ultimately can deny costly lifesaving treatment for the majority of its citizens who lack health insurance.15 In some instances, society’s expectations of an organization may increase as the firm grows. For example, various constituencies have charged Wal-Mart with socially irresponsible behavior in recent years. Critics allege that the mega-retailer often competes unfairly, does not always follow fair hiring and promotion practices, and even contributes to local economic problems by abandoning strip-mall locations when larger stores are constructed. In 2004, CEO Lee Scott signaled a more assertive approach to countering such claims. As Scott put it, “When we’re wrong, we change, so our detractors don’t have a foothold in attacking us. Where we are right, we will fight and take each issue to the wall.”16 A broader notion of social responsibility, sustainable strategic management (SSM), has received increased attention in recent years. SSM refers to the strategies and related activities that promote superior performance from both market and environmental perspectives. Hence, an ideal strategy should seek market sustainability by meeting buyer demandsW and environmental sustainability by proactively managing finite resources. Organizations able to meet this challenge are more likely to perform well and benefiI t society over the long term. L 5-3 Managerial Ethics S Although social responsibility and managerial O ethics are often grouped together in the popular business press, the terms are not synonymous. Whereas social responsibility considers the firm’s ability N to address issues beyond the financial concerns of the shareholders, managerial,ethics refers to an individual’s respon- sibility to make business decisions that are legal, honest, moral, and fair. Strategic decisions should not require managers or other employees to perform activities inconsistent with their ethical convictionsJconcerning the role that they may be expected to play in firm activities (see Strategy at Work 5-2). The ethics test in A Figure 5-2 provides an assessment of employees’ ethics. S T R A T E M I G Y E A T W O R K Sustainable Strategic Management (SSM) Strategies and related activities that promote superior performance from both market and environmental perspectives. Managerial Ethics An individual’s responsibility to make business decisions that are legal, honest, moral, and fair. 5 - 2 Good Neighbor or Good Business? After creating considerable destruction in the5Caribbean, Hurricane Ivan hammered the Gulf Coast of the United 0 States in September 2004. Because meteorologists had forecast the magnitude of the storm several 5 days prior, many Americans soon to be affected turned to 1 board up rivals Lowe’s and Home Depot for plywood to their homes, for power generators, and forB other supplies. Both retailers stepped into high gear to meet conU sumer needs. Neither chain raised prices amidst the storm preparation and most stores made valiant attempts to remain open as long as possible. In one respect, Home Depot and Lowe’s went the extra mile to assist customers in a crisis. In reality, however, remaining open extra hours was simply good business and helped to minimize local 99 inventories that could be damaged if the stores were devastated by the storm. Indeed, the two rivals were well aware of possible long-term effects that could stem from their ability to help customers prepare for the storm. As Home Depot’s eastern division president, Tom Taylor, put it, “They’ll remember who got them stuff. They’ll remember who stayed open. The better job we can do during a hurricane, [the more] we can gain market share [after the storm].” Could the Lowe’s and Home Depot actions be described as good neighbor or good business? The answer is probably both. Sources: D. Morse, “Competing in a Crisis,” Wall Street Journal, 16 September 2004, B4, B5. 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning 100 Chapter 5 FIGURE 5-2 Employee Ethics Test W I L S O N , J A M I E 5 0 5 1 B The line between social responsibility and managerial ethics can be diffiU cult to draw, as what may be considered by some to be socially irresponsible firm behavior may be a direct result of unethical managerial decision making. Nonetheless, while the debate over social responsibility continues, few would argue that managers should not behave ethically. When executives shun clear ethical principles, corporate scandal or even demise can follow (see Strategy at Work 5-3). What is morally right or wrong continues to be a topic of debate, especially when firms operate across borders where ethical standards can vary considerably. 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning The Organization S T R A T E G Y A T W O R K 101 5 - 3 Ethical Concerns and the Corporate Scandals of 2001 and 2002 The period from mid-2001 to mid-2002 witnessed an unprecedented number of ethical allegations and corporate misdoings that jolted Americans’ confidence in corporate America. In August 2002, Forbes published “The Corporate Scandal Sheet” in an effort to keep track of the dearth of ethical violations and allegations rampant at that time. The Wall Street Journal also followed in January 2003 with an extensive chronicle of events for 2002. In November 2001, Enron, once one of the world’s largest electricity and natural gas traders, admitted overstating its earnings by $567 million between 1997 and 2001 and filed for Chapter 11 bankruptcy protection the following month. In anotherW case, the astute craft and décor authority Martha Stewart I sold a large number of her ImClone Systems shares one day L about an before the company released damaging news experimental cancer drug, raising the specter Sof insider information and thus resulting in a conviction. O Although the deluge of news surrounding such scandals began to slowly subside in late 2002, N public fervor concerning a perceived lack of corporate , accountability and widespread corporate legerdemain has not. This fervor has been sparked further by press reports of executive prosecutions associated with these scandals several years later. U.S. governmental agencies have responded with new policies and procedures designed to foster a more complete disclosure of corporate financial doings and make it more difficult for executives to mislead investors about the performance of their firms. These actions notwithstanding, however, it is clear that a key part of the solution to this problem lies in a willingness of managers at all levels to commit to a sense of fair play and uphold ethical standards at a personal level. Sources: R. Alsop, “Corporate Scandals Hit Home,” Wall Street Journal, 19 February 2004, B1, B2; P. Patsuris, “The Corporate Scandal Sheet,” Forbes,www.forbes.com/2002/07/25/accountingtracker.html, accessed August 26, 2002; L. S. Egodigwe, J. C. Long, and N. Warfield, “A Year of Scandals and Sorrow,” Wall Street Journal Interactive Edition, 2 January 2003; P. Behr, “Ailing Enron Files for Chapter 11 Bankruptcy Protection,” Washington Post, 3 December 2001, A7; C. Gasparino and S. Craig, “Merrill Worker Casts Doubt on Stewart’s Stop-Loss Pact,” Wall Street Journal Interactive Edition, 24 June 2002. J A In the United States, for example, bribes to Mgovernment officials to secure favorable treatment would be considered unethical. In other countries—especially those with developing economies—smallI“cash tips” are an accepted means of transacting business and may even be considered an integral part of an underE paid government official’s compensation. Ethics is a key consideration, especially at top management levels. Selecting the right individual to serve as 5 CEO can be a perilous task, especially when a leader departs abruptly. Although evaluating a person’s professional 0 characteristics are gaining promiqualifications is still important, personal nence. Consider that Boeing’s CEO Harry 5 Stonecipher was dismissed in March 2005 after directors became aware of explicit e-mails to a female 1 affair. Events such as these have employee with whom he was having an prompted directors to search for personal B behavior that might disqualify them as leaders, including sexual harassment, drinking problems, or failing U to file income taxes properly.17 Wal-Mart’s Thomas Coughlin ended his twenty-seven-year stint with the firm in 2005. Originally appointed as director of loss prevention in 1978, Coughlin was promoted to director of human resources in 1983 and president of the WalMart Stores division in 1999. In 2003, Coughlin was elected to Wal-Mart’s board. He retired as an executive in January 2005 due to health reasons, but was forced to resign from the board two months later when a pattern of expense account abuses was uncovered. The investigation that uncovered the abuses began when 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning 102 Chapter 5 Utilitarian View of Ethics Perspective suggesting that anticipated outcomes and consequences should be the only considerations when evaluating an ethical dilemma. Self-Interest View of Ethics Perspective suggesting the benefits of the decision maker should be the primary consideration when weighing a decision. Rights View of Ethics Perspective that evaluates organizational decisions on the extent to which they protect individual rights. Justice View of Ethics Perspective suggesting that all decisions will be made in accordance with preestablished rules or guidelines. Coughlin asked a firm lieutenant to approve $2,000 in expense payments without providing any receipts.18 Ethical decisions are not always resolved easily and can even be observed differently at different times. In 1991, for example, the U.S. Food and Drug Administration (FDA) banned silicone breast implants in most instances, a decision that fueled the demise of many of its original marketers who lost billions of dollars in lawsuits alleging product flaws, breast cancer, and other serious health concerns. Dow Corning lost $3.2 billion in settlements and remained in bankruptcy protection from 1995 to 2004. Since that time, however, several major studies found no link between silicone implants and major diseases. In 2006, the FDA reapproved the sale of silicone implants. Hence, what was originally termed as “unethical” behavior by Dow Corning is once again being touted as an acceptable product.19 What constitutes ethical behavior can be viewed in a number of ways, six of which are discussed here. The utilitarian view of ethics suggests that anticipated outcomes and consequences should be the only considerations when evaluating an ethical dilemma. The W primary shortcoming associated with this approach, however, is that a decision may have multiple consequences, some of which may I be positive, others negative, and still others undetermined. For example, a decision to layoff 10 percent L of an organization’s workforce will harm those who lose their jobs but may help shareholders by increasing the projected returns on their S investments. The long-term effect of the layoff could be positive if the organization emerges as a moreOcompetitive entity or negative if employee morale suffers and productivity declines. Hence, the utilitarian view is not always easy to apply. N Research suggests that the utilitarian view is the most commonly applied perspective in organizations.20,Note, however, that these views of ethical decision making are not always mutually exclusive. Managers often employ a combination of ethical perspectives when making decisions. J of ethics suggests that benefits of the decision maker(s) The self-interest view should be the primaryAconsiderations. This view assumes that society will likely benefit when its individual members make decisions that are in their own best interest. As Smith andM Friedman argued, firms that attempt to maximize their returns within the legal I regulations of society behave ethically. This perspective limits ethical concerns to the consideration of short-term financial benefits for E the organization. Self-interest can be viewed from either a narrow, short-run perspective or a broader, long-term perspective, however. It can be argued that one who always 5 interests at the expense of others will suffer greater self-promotes short-term loss in the long term. 0 For example, firms whose managers construct loopholes in their product or service warranties to promote short-term profits can ulti5 mately alienate their customers. Hence, ethical behavior has long-term profit 1 considerations. The rights view of ethics evaluates organizational decisions to the extent to B which they protect basic individual rights, such as a customer’s right to privacy Uto a safe work environment. The key shortcoming of this and an employee’s right approach, however, is that it is possible to protect individual rights at the expense of group progress or productivity. The justice view of ethics suggests that all decisions will be made in accordance with preestablished rules or guidelines. Employee salaries may be administered by developing a formula that computes salary based on level of experience, amount of training, years of experience, and previous job evaluations. The key 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning The Organization shortcoming associated with the justice view is that it requires decision makers to develop rules and procedures for every possible anticipated outcome—an arduous task indeed. The integrative social contracts view of ethics suggests that decisions should be based on existing norms of behavior, including cultural, community, or industry factors. Although this perspective emphasizes the situational influences on a particular decision, it deemphasizes the need for clear standards of right and wrong devoid of the situation.21 The religious view of ethics is based on personal or religious convictions. In the United States, the Judeo-Christian heritage forms a distinct notion of ethics, whereas Islam, Hinduism, and other religions comprise the majority viewpoint in distant nations. From the Christian perspective, for example, individuals should behave in ways that benefit others, treating other people as one would wish to be treated.22 In one respect, the religious perspective counters the integrative social contracts view because it emphasizes clear principles of right or wrong with limited regard to situational variables. Needless to say, however, the religious view would result in markedly different ethical W perspectives across cultures with different prominent religious traditions. I analysis may be questionable from Some activities associated with strategic an ethical standpoint. Few would argue that L obtaining competitive information from one’s own customers or purchasing and breaking down a competitor’s S products would be unethical. However, some companies have been known to extensively interview managers with key competitors for executive positions that O do not exist. N Other examples illustrate the complexities of ethical issues faced by firms. , In 2000, Philip Morris introduced the Merit brand of cigarettes designed to reduce the risk of fire when left unattended. The manufacturer claimed that the ultrathin paper used to wrap the tobacco burns more slowly and would J cause fewer fires. Shortly after introduction, however, a company scientist reported that the cigarettes actually increase the risk of fire. Philip Morris A fired the scientist in 2002 and continued to market the cigarette, although the M Department of Justice launched a fire-reduction claim was avoided. The U.S. lawsuit against Philip Morris in 2004 alleging that the action was part of a I broader attempt to conceal the negative effects of cigarette smoke from the E public.23 In 2003, the Recording Industry Association of America launched several hundred lawsuits at teenagers and college students in an effort to emphasize the 5les via the Internet is against the law. notion that swapping copyrighted music fi Critics charged that “suing kids” is both0bad business and unethical; industry executives argued that the law is clear and that widespread violations are taking 5 a serious toll on its member firms.24 1 Kraft, the largest food company in Ethics in advertising is also a key concern. the United States, spends about $90 million annually advertising directly to chilB dren. In 2004 and 2005, however, the company announced plans not to direct U and Lunchables to children under advertisements for products such as Oreos twelve years. When explaining the firm’s decision, executives referenced the link between such products and obesity in children.25 Some firms and individuals indiscriminately use bulk e-mails to “spam” the public by e-mailing unwanted direct response advertisements of pornography sites, mortgage and investment services, and the like. Studies suggest that spam costs U.S. corporations billions of dollars each year due to loss 103 Integrative Social Contracts View of Ethics Perspective suggesting that decisions should be based on existing norms of behavior, including cultural, community, or industry factors. Religious View of Ethics Perspective that evaluates organizational decisions on the basis of personal or religious convictions. 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning 104 Chapter 5 Management Focus on Ethics A Memory Device for Making Ethical Decisions Most people believe it is important that ethics take on a conscious, deliberate role in business decision making. The issue of ethics boils down to asking yourself, “What price am I willing to pay for this decision, and can I live with that price?” This process can be helped by using the word ethics as a mnemonic device. E = EXPERIENCE. The values we carry with us into adulthood, and into business, are those that were modeled to us, usually by a parent, teacher, or other significant adult. How people behave and the decisions they make speak much louder and are more convincing than what they say. T = TRAINING. Training means training yourself to keep the question of ethics fresh in your mind deliberately. H = HINDSIGHT. Success leaves clues that we need to tap into in order to help us make that tough decision. What if the problem you face was the problem of the person you admire most in life? What would this person do? I = INTUITION. What does your gut tell you is the right thing to do? Some call it conscience or insight. How do you know when you’ve gone against your gut feeling? W You experience guilt, shame, remorse, or perhaps a restless night. Now the decision is what to do about it? I C = COMPANY. How will your decision affect the company, coworkers, customers, and your family? No matter the size of your decision, it affects other L people in your life. S is one that builds self-esteem through the accomplishment S = SELF-ESTEEM. The greatest ethical decision of goals based on how these goals positively impact those around you. O N , Sources: Adapted from F. Bucaro, “Ethical Considerations in Business,” Manage, August/September 2000, 14; A. Gaudine and L. Thorne, “Emotion and Ethical Decision Making in Organizations,” Journal of Business Ethics, 1 May 2001, 175–187. J A consumption of bandwidth and other technological of worker productivity, resources, and the useMof technical support time. Although this largely illegal practice is deplored by most industry groups and Internet users, enforcement is a complicated legalIendeavor.26 Strategic managers are challenged to know where to draw the line Econcerning such practices. Why do some organizations portray a pattern of unethical business practices? Anand and Ashforth identified six common rationalization tactics to 27 explain this behavior.5 First, individuals deny responsibility, rationalizing that they have no other choice but to participate in unethical behavior. One 0 that the practice is directly associated with another’s employee may contend responsibility. 5 Second, individuals deny injury, suggesting that the unethical behavior did not 1 perspective defines behavior only as unethical if directly really hurt anyone. This injured parties can beB clearly identified and then hesitates to acknowledge the injury. U Third, individuals deny rights of the victims, rationalizing that “they deserve what they got anyway.” This perspective rationalizes unethical behavior when competitors or other related parties are alleged to be involved at least at the same level of corruption. Fourth, individuals engage in social weighting by making carefully controlled comparisons. One way this is done is by character assassination of those suggesting that a particular pattern of behavior is unethical. If those condemning us are 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning The Organization corrupt—the argument goes—then how can credence be given to their arguments? Another way this is done is by selectively comparing the unethical action to others whose actions are purported to be even more unethical. For example, falsifying an expense account for meals not eaten on a business trip is not considered a major offense when compared to someone who falsifies expenses for an entire business trip that never occurred. Fifth, individuals can appeal to higher values by suggesting that justification of the unethical behavior is due to a higher order value. In this sense, one might argue that it is necessary to accept some degree of lower level unethical behavior in pursuit to ethical responsibility at a higher level. For example, a sales rep who is brought in to help resolve a dispute between a customer and another sales rep may deny the legitimate claims of the customer, rationalizing that loyalty among sales representatives is a higher order value. Finally, individuals may invoke the metaphor of the ledger, arguing that they have the right to engage in certain unethical practices because of other good things they have done. For example, a manager on a business trip may justify padding a travel expense account because she has W already done “more than her share” of traveling in recent months. I Improving the ethical stance of an organization is not easy, however. Treviño and Brown identify five commonly held L myths concerning ethics in organizations.28 These myths and accompanying realities are summarized in Table 5-2. S In concert, they argue that ethical decision making is a complex process that extends beyond removing the bad applesOfrom the organization and establishing formal ethics codes. It begins with proactive behavior on the part of top N executives that infuses ethics into the fabric of the organization. , 5-4 The Agency Problem J Ideally, top management should attempt to maximize the return to shareA holders on their investment while simultaneously satisfying the interests of other stakeholders. For as long as absentee owners (i.e., the shareholders) TA B L E 5-2 M yths and R ea lities Myth M I o f Orga niza tio na l E Eth ics Reality 1. Ethical decision making is easy. 2. Unethical behavior can be traced to a limited number of bad apples in an organization. 3. Ethics can be managed by developing formal ethics codes and programs. 4. Ethical leadership is really about leader morality and honesty. 5. Business leaders are less ethical today than they used to be. 5 decision making is a complex Ethical process. 0 Unethical behavior can be a systemic part of 5the organization’s culture. 1 codes and programs are helpful, Formal but ethical expectations must be part of B culture and fabric of the organization. the Leader morality and honesty is a good U start, but the leader must also infuse ethics into the organization and hold others accountable. Ethical concern in organizations has always been a pervasive issue. Source: Based on L. K. Treviño and M. E. Brown, “Managing to Be Ethical: Debunking Five Business Ethics Myths,” Academy of Management Executive 18(2) (2004): 69–81. 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning 105 106 Chapter 5 Source: Ablestock.com Agency Problem A situation in which a firm’s top managers (i.e., the “agents” of the firm’s owners) do not act in the best interests of the shareholders. have been hiring professionals to manage their companies, however, questions have been raised concerning the degree of emphasis these managers actually place on maximizing financial returns.29 Of course, managers emphasizing their own goals over those of the shareholders would raise serious ethical questions. This concern has become more prominent in recent years as shares of publicly traded firms are more widely dispersed, making it harder for shareholders to exert control over a firm. For this reason, it is not uncommon to see successful, small, privately held firms seeking to stay small so the owner can remain personally in charge of the major business decisions. The agency problem refers to a situation in which a firm’s managers— the so-called agents of the owners—fail to act in the best interests of the shareholders. The extent to which the problem adversely affects most firms is widely debated, and factors associated with the problem can vary from country to country.30 Indeed, some argue that management primarily serves its own interests, whereas others contend that managers share the same interests as the shareholders. These W two perspectives are briefly discussed in sections 5-4a and 5-4b. I L Serves Its Own Interests 5-4a Management According to one perspective, top managers tend to pursue strategies that S ultimately increase their own salaries and other rewards. In particular, top Ogrow their firms because increases in rewards usually executives are likely to accompany increasesN in organizational size and its greater responsibilities, even if growth is not the optimal strategy for the firm. This perspective is , for management salaries to increase as the organizabased on the tendency tion grows.31 Excessive CEO compensation has been widely criticized in recent years.32 J Although what is considered excessive varies among stakeholders, many CEOs have come under fireA for their annual compensation. According to a number of surveys, most managers believe CEOs earn too much. During the 1980s, CEO M compensation rose by 212 percent, compared to only 54 percent for factory workI ers, 73 percent for engineers, and 95 percent for teachers. After a brief decline in the early 1990s, CEO salaries began to climb once again. E In addition to salary, CEOs typically receive stock options and bonuses, revenues from profit-sharing plans, retirement benefits, and interest-free loans. As a result, CEOs in America’s 5 350 largest publicly held corporations average more than $3 million annually in salary and bonuses, a figure that has declined only once in the past ten 0 years. Recently, however, corporate boards have taken a closer look at CEO pay 5 to ensure a tighter link between company performance and total compensation. 1 Hewlett-Packard’s former CEO, Carly Fiorina, was one of the highest paid chief executives in the Bworld, with a compensation package valued at nearly $90 million when she joined the company in 2000. The intriguing element of U the package, however, was a grant for the equivalent of 580,000 restricted HP shares over three years, a block of stock worth $66.1 million when Fiorina’s tenure began. When HP fired her in 2005, Fiorina received cash, stock, and pension benefits worth about $40 million, prompting protests from union officials and shareholders alike.33 Limiting CEO pay is not easy. Whole Foods Market attempted to restrict the pay of its CEO in the 1980s to eight times that of the average worker, a multiple that crept upward and was raised to nineteen times in 2006 to 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning The Organization keep the firm from losing key leaders to competitors.34 Hence, it is not surprising that political interest in regulating or limiting CEO pay is a hot topic. In 2007, some U.S. lawmakers supported legislation allowing shareholders to veto any CEO pay packages. A number of academics, mutual-fund trustees, institutional investors, union leaders, and politicians have taken a stand on this issue.35 CEO pay can become a complex issue when a firm is going through a financial crisis and demanding sacrifices from the rank and file. Gerard Arpey, chairman and CEO of American Airlines (AMR), accepted stock options as part of his compensation, but turned down promotion raises in 2004.36 In addition, many firms have discovered difficulties when attempting to reclaim pay from executives even in the case of malfeasance. 37 CEOs in the United States earn on average far more than their counterparts in other countries; however, U.S. firms have become more likely than their global counterparts to employ non-Americans as CEOs. Interestingly, a number of studies have demonstrated that CEO salary is more closely tied to company size than to performance. Recently, however, firms W have begun to tie compensation more closely to corporate performance. Most firms appear willing to continue to pay large sums to chief executives, provided Ithe corporation performs at a comparable level. Surveys of CEO compensationLpractices continue to uncover special arrangements and considerable bonuses. S Pay practices in Internet businesses have also changed. Many Internet-based companies have increasingly adopted short-term incentives and bonus plans that O are tied to more traditional business performance metrics, such as increased revN enue or nearing profitability. , Executives may also pursue diversification, the process of increasing the size of their firms by acquiring other companies that may be related to the firm’s core business. Diversification not only increases a firm’s size but may also J improve its survivability by spreading operational risks among its various business units. Diversification pursued only toAspread risk, however, is generally not in the best interest of shareholders, who always have the option of reducing their financial risks by diversifying their own fiM nancial portfolios.38 This perspective does not necessarily suggest that top management is unconcerned with the I firm’s profitability or market value; rather, top managers may emphasize business performance only to the extent that E it discourages shareholder revolts and hostile takeovers. The extent to which this perspective is accurate can create an advantage for 5 whose owners actively manage the relatively small, entrepreneurial organizations firm. For this reason, such firms may be able 0 to compete aggressively and successfully with their larger, more established competitors. 107 Diversification The process of acquiring companies to increase a firm’s size. 5 1 Share 5-4b Management and Stockholders the Same Interests B Because managers’ livelihoods are directly related to the success of the firm, one U can argue that managers generally share the same interests as the stockholders. This perspective is supported at least in part by several empirical studies. One study, for example, found that firm profit—not size—is the primary determinant of top management rewards.39 Another points to a significant relationship between common stock earnings and top executives’ salaries.40 Hence, according to these studies, management rewards rise with firm performance, a relationship that encourages managers to be most concerned with company performance. 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning 108 Chapter 5 Employee Stock Ownership Plan (ESOP) A formal program that transfers shares of stock to a company’s employees. One of the most common suggestions for aligning the goals of top management and those of shareholders is to award shares of stock or stock options to top management, transforming professional managers into shareholders. Stock option plans and high salaries may bring the interests of top management and stockholders closer together.41 Top executives seek to protect their salaries and option plans and can do so only by delivering higher business performance. Indeed, research has suggested that as managerial stock ownership rises, the interests of managers and shareholders begin to converge to some extent.42 This view has gained support from others, but for different reasons.43 Many suggest that managerial jobs contain structural imperatives that force managers to attempt to enhance profits.44 In addition, when managers are major shareholders, they may become entrenched and risk averse, adopting conservative strategies that are beneficial to themselves but not necessarily to their shareholders. In sum, the debate over whether top managers are primarily concerned with their firms’ returns or their own interests continues. Most scholars and practitioners believe both W perspectives have merit, and pursue compensation models designed to bring the two sides together, such as those that emphasize I t sharing for managers instead of fixed pay levels. Many stock options and profi companies have adopted L employee stock ownership plans (ESOPs) to distribute shares of the company’s stock to managers and other employees over a S period of time. 5-5 Corporate Governance The board of directors, institutional investors, and blockholders who monitor firm strategies to ensure managerial responsiveness. O N Corporate , Governance and Goals of Boards of Directors Corporate governance refers to the board of directors, institutional invesJ retirement funds, mutual funds, banks, insurance tors (e.g., pension and companies, among other A money managers), and large shareholders known as blockholders who monitor firm strategies to ensure effective management. M institutional investors—representatives of pension Boards of directors and and retirement funds,I mutual funds, and financial institutions—are generally the most influential in the governance systems. Boards of directors represent the shareholders andE are legally authorized to monitor firm activities, as well as the selection, evaluation, and compensation of top managers. Because institutional investors own more than half of all shares of publicly traded firms, 5 they tend to wield substantial influence. Blockholders tend to hold less than 0 so their influence is proportionally less than that of 20 percent of the shares, institutional investors.45 5 Boards often include both inside (i.e., firm executives) and outside directors. 1 Insiders bring company-specifi c knowledge to the board, whereas outsiders bring independence and anBexternal perspective. Over the past several decades, the composition of the typical board has shifted from one controlled by insiders U to one controlled by outsiders. This increase in outside influence often allows board members to oversee managerial decisions more effectively.46 Furthermore, when additional outsiders are added to insider-dominated boards, CEO dismissal is more likely when corporate performance declines,47 and outsiders are more likely to pressure for corporate restructuring.48 In the 1990s, the number of corporate board members with memberships in other boards began to increase dramatically. With outside directors of the 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning The Organization largest 500 firms in the United States commanding an average of $151,000 in cash and equity in 2005, companies often became concerned about both potential conflicts of interest and the amount of time each individual can spend with the affairs of each company. As a result, many companies have begun to limit the number of board memberships their own board members may hold. Approximately two-thirds of corporate board members at the largest 1,500 U.S. companies do not hold seats on other boards. In addition, some firms are reconsidering board member compensation. In 2006, for example, Coke unveiled a plan that pays its board members only if the company hits earnings targets. The plan, however, does pay new members $175,000 as a signing bonus.49 This change has been underscored by the Sarbanes-Oxley Act of 2002, which requires that firms include more independent directors on their boards and make new disclosures on internal controls, ethics codes, and the composition of their audit committees on annual reports. Analysts have noted positive changes among boards as a result of this legislation in terms of both independence and expertise.50 Evidence also suggests W that many CEOs have become more reluctant to sit on boards of publicly held companies. Increased liability on the part of board members and recentI policy changes that often restrict the number of outside boards on which a CEO L may serve have also contributed to this change.51 S Even with new disclosure regulations, it can be difficult to determine precisely what top executives earn at public O companies. In 2004, for example, Regions Financial, Ryland Group, and Home Depot each reimbursed their N top executives more than $3 million for personal taxes levied on executive perks. Details of such payments are not,always readily available in corporate filings.52 Boards of directors consist of officials elected by the shareholders and are responsible for monitoring activities in theJorganization, evaluating top management’s strategic proposals, and establishing A the broad strategic direction for the firm, although few boards tend to be aggressive in this regard. As such, boards Mthe chief executive officer, establishare responsible for selecting and replacing ing the CEO’s compensation package, advising top management on strategic I issues, and monitoring managerial and company performance as representatives E that board members do not always of the shareholders. Critics charge, however, 53 fulfill their legal roles. One reason is board members are nominated by the CEO, who expects them to support his or her strategic initiatives. The generous 5 issue.54 compensation they often receive is also a key When boards are controlled by insiders, 0 a rubber stamp mentality can develop, whereby directors do not aggressively challenge executive decisions 5 as they should. This is particularly true when the CEO also serves as chair of 1 duality.55 Although research shows the board, a phenomenon known as CEO mixed results concerning the desirability of CEO duality,56 insider board memB bers may be less willing to exert control when the CEO is also the chair of the U career prospects within the firm board, because present rewards and future are largely determined by the CEO. In the absence of CEO duality, however, insiders may be more likely to contribute to board control, often in subtle and indirect ways so as not to document any opposition to the decisions of the CEO. For example, the insiders may ostensibly present both sides of various issues, while carefully framing the alternatives in favor of one that may be in opposition to the wishes of the CEO. 109 CEO Duality A situation in which the CEO also serves as the chair of the board. 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning 110 Chapter 5 S T R A T E G Y A T W O R K 5 - 4 The Growing Responsiveness of Boards The adage on Wall Street is, “If you don’t like the stock, sell it.” Over the past decade, however, dismayed investors have decided to challenge the board instead. Many corporate boards have historically functioned as rubber stamps for top executives. Nonetheless, the directors of many prominent corporations have become increasingly responsible to shareholder interests, thanks in part to the increased influence of institutional shareholders. These large investment firms control substantial numbers of shares in widely held firms and have the clout necessary to pressure board members for change when needed. W Consider the case of Nell Minow. A principal at activist money-management firm Lens Inc., Minow searches I for companies with strong products and underlying L values that appear to be underperforming. After identifying a target, Minow purchases a substantial number S of shares in the company and then advises the CEO O of her ownership position. She requests a meeting with the CEO and/or the board to discuss changes N that could improve the performance of the firm. Activist , owners like Minow have sent a message to both top executives and boards that poor performance is not unlikely to go unchallenged. J However, a number of analysts and executives believe that further change to the system is needed. According to David Leighton, former chairman of the board at Nabisco Brands, Ltd., companies should seek out more independent and qualified board members who will consider the strategic direction of the firm more aggressively. In some instances, boards of directors, pressured by institutional investors, have forced the turnover of top executives. In one prominent example, GM’s market share declined from 44 percent to 33 percent between 1981 and 1992. In 1992, the California Public Employees Retirement System, a significant shareholder, pressured the eleven outside board members (a majority of the fifteen-member board) to reassert strategic control over the firm. As a result, the shareholder forced a complete overhaul of senior GM executives, the first since 1920. GM generated profits of $2.6 billion, $7.6 billion, and $9.7 billion in 1993, 1994, and 1995, respectively. Sources: N. Dunne, “Adding a Little Muscle in the Boardroom,” Financial Times, 10 October 2003, I; W. Royal, “Impeach the Board,” Industry Week, 16 November 1998, 47–50; C. Torres, “Firms’ Restructuring Often Hurt Foreign Buyers,” Wall Street Journal Interactive Edition, 13 May 1996; M. L. Weidenbaum, “The Evolving Corporate Board,” Society, March–April 1995, 9–16. A M I to acknowledge shareholder concerns has increased Pressure on directors over the past two decades. E The major source of pressure in recent years has come from institutional investors, owners of large chunks of most publicly traded companies by way of retirement or mutual funds. By virtue of the size of their investments, they wield considerable power and are more willing to use it than ever 5 before (see Strategy at Work 5-4). 0 have played effective stewardship roles. Many directors Some board members promote strongly the best 5 interests of their firm’s shareholders and various other stakeholder groups as well. Research indicates, for instance, that board members 1 of environmental and competitive information.57 By are often invaluable sources conscientiously carrying B out their duties, directors can ensure that management remains focused on company performance.58 U A number of recommendations have been made on how to promote an effective governance system. For example, it has been suggested that outside directors be the only ones to evaluate the performance of top managers against the established mission and goals, that all outside board members meet alone at least once annually, and that boards of directors establish appropriate qualifications for board membership and communicate these qualifications to shareholders. For institutional shareholders, it is recommended that institutions and other 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning The Organization 111 shareholders act as owners and not just investors,59 that they not interfere with day-to-day managerial decisions, that they evaluate the performance of the board of directors regularly,60 and that they recognize that the prosperity of the firm benefits all shareholders. 5-6 Takeovers When shareholders conclude that the top managers of a firm with ineffective board members are mismanaging the firm, institutional investors, blockholders, and other shareholders may sell their shares, depressing the market price of the company’s stock.61 Depressed prices often lead to a takeover, a purchase of a controlling quantity of a firm’s shares by an individual, a group of investors, or another organization. Takeovers may be attempted by outsiders or insiders, and may be friendly or unfriendly. A friendly takeover is one in which both the buyer and seller desire the transaction. In contrast, an unfriendly takeover is one in which the target firm resists the sale, whereby one or more W individuals purchase enough shares in the target firm to either force a change in top management or to manage the fiIrm themselves. Interestingly, groups that seek to initiate unfriendly takeovers often include current or former firm L executives. S rely heavily on borrowed funds In many cases, sudden takeover attempts to finance the acquisition, a process referred O to as a leveraged buyout (LBO). LBOs strap the company with heavy debt and often lead to a partial divestment of some of the firm’s subsidiariesNof product divisions to lighten the burden.62 , Corporate takeovers have been both defended and criticized. On the positive side, takeovers provide a system of checks and balances often required to initiate changes in ineffective J management. Proponents argue that the threat of LBOs can pressure managers to operate their firms more A efficiently. 63 Takeovers have been criticized from several perspectives. The need to pay M back large loans can cause management to pursue activities that are expedient in the short run but not best for the firm Iin the long run. In addition, the extra debt required to finance an LBO tends toEincrease the likelihood of bankruptcy for a troubled firm.64 Takeover The purchase of a controlling quantity of shares in a firm by an individual, a group of investors, or another organization. Takeovers may be friendly or unfriendly. Leveraged Buyout (LBO) A takeover in which the acquiring party borrows funds to purchase a firm. 5 0 An organization’s mission outlines the reason 5 for its existence. A clear purpose provides managers with a sense of direction and can guide all of the organization’s 1 ends toward which organizational activities. Goals represent the desired general efforts are directed. However, managers, B shareholders, and board members do not always share the same goals. Top management must attempt to reconcile U and satisfy the interests of each of the stakeholder groups while pursuing its own 5-7 Summary goals. Inherent in the notion of mission and goals is the organization’s position on social responsibility and the ethical standards it expects its managers to uphold. Takeovers and leveraged buyouts have emerged as mechanisms for resolving some of the goal conflicts that occur among various stakeholder groups. The usefulness of these mechanisms continues to be widely debated, however. 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning 112 Chapter 5 Key Terms agency problem CEO duality comparative advantage corporate governance diversification employee stock ownership plan (ESOP) goals integrative social contracts view of ethics justice view of ethics leveraged buyout managerial ethics mission objectives religious view of ethics W I 1. What is and should be the relationship between L an organization’s mission and its strategy? S 2. What is the difference between social responsibility O and managerial ethics? 3. Select a company that has published a mission stateN ment on its Web site. Evaluate its mission statement , along each of the following criteria. rights view of ethics self-interest view of ethics social responsibility stakeholders sustainable strategic management takeover utilitarian view of ethics Review Questions and Exercises a. Is the mission statement comprehensive? Is it concise? Practice Quiz J A M I E True or False b. Does the mission statement delineate, in broad terms, what products or services the firm is to offer? c. Is the mission statement consistent with the company’s actual activities and competitive prospects? 4. Why do stakeholders in the same organization often have different goals? Would it not be best if they shared the same goals? Explain. 5. What are the key advantages and disadvantages of leveraged buyouts? Multiple Choice 1. Goals are specific and often quantified versions5of objectives. 0 2. If a firm is able to consistently earn above-average profits, then it is effectively balancing the goals5of its stakeholders. 1 3. The agency problem refers to the balancing act a B firm must exhibit when attempting to satisfy the myriad of governmental agencies. U 4. A firm’s managers may pursue diversification even if performance is likely to suffer because diversification can reduce the risk of firm failure. 5. A common suggestion for aligning the goals of top management and those of shareholders is to award shares of stock or stock options to top management. 6. Most boards of directors include both inside and outside directors. 7. The reason for the firm’s existence is known as A. the vision. B. organizational goals. C. organizational objectives. D. none of the above 8. The idea that certain products may be produced more cheaply or at a higher quality in particular countries due to advantages in labor costs or technology is known as A. comparative advantage. B. competitive advantage. C. strategic advantage. D. national advantage. 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning The Organization 9. Which of the following is not an example of a stakeholder? A. customers B. suppliers C. employees D. none of the above 10. An individual’s responsibility to make business decisions that are legal, honest, moral, and fair is known as A. social responsibility. B. the social imperative. C. managerial ethics. D. all of the above W I L Notes S 1. NewswireToday.com, “Software Development Engineer in India Vs China, accessed June 14, 2007, http://www. O newswiretoday.com/news/4319; P. Wonacott, “China’s Secret Weapon: Smart, Cheap Labor for High Tech NGoods,” Wall Street Journal (14 March 2002): A1. 2. T. Eiben, “U.S. Exporters on a Global Roll,” Fortune, (29 June 1992): 94. 3. R. Jacob, “The Search for the Organization of Tomorrow,” Fortune (18 May 1992): 93. 4. A. L. Friedman and S. Miles, “Developing Stakeholder Theory,” Journal of Management Studies 39 (2002): 1–22. 5. S. I. Wu and C. Wu, “A New Market Segmentation Variable for Product Design-Functional Requirements,” Journal of International Marketing and Marketing Research 25 (2000): 35–48. 6. For an example of his early work, see R. Nader, Unsafe at Any Speed: Design and Dangers of the American Automobile (New York: Grossman, 1964). 7. H. A. Simon, “On the Concept of Organizational Goal,” Administrative Science Quarterly 9 (1964): 1–22; J. Pfeffer and G. Salancik, The External Control of Organizations (New York: Harper & Row, 1978). 8. R. M. Cyert and J. G. March, A Behavioral Theory of the Firm (Englewood Cliffs, NJ: Prentice-Hall, 1963); J. G. March and H. A. Simon, Organizations (New York: John Wiley & Sons, 1958). 9. M. J. Verkerk, J. DeLeede, and A. H. J. Nijhof, “From Responsible Management to Responsible Organizations: The Democratic Principle for Managing Organizational Ethics,” Business and Society Review 106 (2001): 353–378; A. E. Randel, “The Maintenance of an Organization’s Socially Responsible Practice: A Cross-Level Framework,” Business and Society 41 (2002): 61–83. 10. R. Alsop, “Survey Rates Companies’ Reputations and Many Are Found Wanting,” Wall Street Journal (7 February 2001): B1, B6. J A M I E 5 0 5 1 B U 11. R. Alsop, “Perils of Corporate Philanthropy,” Wall Street Journal (16 January 2002): B1, B4. 113 11. The board of directors is responsible for A. selecting the CEO. B. determining the CEO’s compensation package. C. overseeing the firm’s strategies. D. all of the above 12. Leveraged buyouts can A. strap the company with a large amount of debt. B. serve as a system of checks and balances. C. lead to the sale of company assets. D. all of the above 12. Ibid.; A. Maitland, “No Hiding Place for the Irresponsible Business,” special report in Financial Times (29 September 2003): 1–2. 13. R. J. Ely and D. A. Thomas, “Cultural Diversity at Work: The Effects of Diversity Perspectives on Workgroup Processes and Outcomes,” Administrative Science Quarterly 46 (2001): 229–273. 14. J. Whalen, “Britain Stirs Outcry by Weighing Benefits of Drugs Versus Price,” Wall Street Journal (22 November 2005): A1, A11. 15. A. Browne, “Chinese Doctors Tell Patients: Pay Upfront, or No Treatment,” Wall Street Journal (5 December 2005): A1, A12. 16. A. Zimmerman, “Defending Wal-Mart,” Wall Street Journal Online (6 October 2004). 17. C. Hymowitz, “The Perils of Picking CEOs,” Wall Street Journal (15 March 2004): B1, B4. 18. J. Bandler and A. Zimmerman, “A Wal-Mart Legend’s Trail of Deceit,” Wall Street Journal, (8 April 2005): A1, A10. 19. R. L. Rundle and A. W. Mathews, “Breast Implants Made of Silicone Win FDA Backing,” Wall Street Journal (18–19 November 2006): A1, A5. 20. D. J. Fritzsche and H. Becker, “Linking Management Behavior to Ethical Philosophy—An Empirical Investigation,” Academy of Management Journal 27 (1984): 166-175. 21. E. Soule, “Managerial Moral Strategies—In Search of a Few Good Principles,” Academy of Management Review 27 (2002): 114–124. 22. G. R. Weaver and B. R. Agle, “Religiosity and Ethical Behavior in Organizations: A Symbolic Interactionist Perspective,” Academy of Management Review 27 (2002): 77–97. 23. V. O’Connell, “U.S. Suit Alleges Philip Morris Hid CigaretteFire Risk,” Wall Street Journal (23 April 2004): A1, A8. 24. C. Bialik, “Will the Music Industry Sue Your Kid?” Wall Street Journal (10 September 2003): D1, D12. 25. S. Ellison, “Why Kraft Decided to Ban Some Food Ads to Children,” Wall Street Journal (31 October 2005): A1, A13. 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning 114 Chapter 5 26. M. Mangalindan, “For Bulk E-Mailer, Pestering Millions Offers Path to Profit,” Wall Street Journal (13 November 2002): A1, A17; B. Morrissey, “Spam Cost Corporate America $9B in 2002,” (7 January 2003), study by Ferris Research reprinted at www.cyberatlas.com. 27. B. E. Ashforth and V. Anand, “The Normalization of Corruption in Organizations,” in R. M. Kramer and B. M. Staw, eds., Research in Organizational Behavior 25 (2003): 1–52 (Amsterdam: Elsevier Publishing). 28. L. K. Treviño and M. E. Brown, “Managing to be Ethical: Debunking Five Business Ethics Myths,” Academy of Management Executive 18(2) (2004): 69–81. 29. B. M. Staw and L. D. Epstein, “What Bandwagons Bring: Effects of Popular Management Techniques on Corporate Performance, Reputation, and CEO Pay,” Administrative Science Quarterly 45 (2000): 523–556. 30. K. Ramaswamy, R.Veliyath, and L. Gomes, “A Study of the Determinants of CEO Compensation in India,” Management International Review 40 (2000): 167–191. 31. J. E. Richard, “Global Executive Compensation: A Look at the Future,” Compensation and Benefits Review 32(3) (2000): 35–38. 32. J. S. Dublin, “Why the Get-Rich-Quick Days May Be Over,” Wall Street Journal (14 April 2003): R1, R3; J. S. Lublin, “Executive Pay Keeps Rising, Despite Outcry,” Wall Street Journal (3 October 2003): B1, B4; C. Hymowitz, “Does Rank Have Too Much Privilege? Wall Street Journal (26 February 2002): B1; C. Dembeck, “Is Amazon.com’s CEO Package Too Generous?” E-Commerce Times Columnist (31 August 1999); C. Dembeck, “HP’s New CEO Package Is a Sweetheart Deal,” E-Commerce Times Columnist (27 September 1999); L. Enos, “Study: Dot–Compensation Going Mainstream,” E-Commerce Times (22 August 2000); P. Wright, M. Kroll, and J. A. Parnell, Strategic Management:Concepts (Upper Saddle River, NJ: Prentice Hall, 1998); C. Hymowitz, “Foreign-Born CEOs Are Increasing in U.S., Rarer Overseas,” Wall Street Journal (25 May 2004): B1, B6. 33. R. Mark, “HP Stockholders after Fiorina Severance,” Internet News (9 March 2006). 34. P. Dvorak, “Limits on Executive Pay: Easy to Set, Hard to Keep,” Wall Street Journal (9 April 2007): B1, B5. 35. J. S. Lublin and P. Dvorak, “How Five New Players Aid Movement to Limit CEO Pay,” Wall Street Journal (13 March 2007): A1, A20. 36. J. S. Lublin, “Cost-Cutting Airlines Grapple with Issue of Executive Pay,” Wall Street Journal (25 January 2005): B1, B9. 37. P. Dvorak and S. Ng, “Companeis Discover It’s Hard to Reclaim Pay from Executives,” Wall Street Journal (20 November 2006): A1, A12. 38. D. J. Teece, “Towards an Economic Theory of the Multiproduct Firm,” Journal of Economic Behavior and Organization 3 (1982): 39–63. 39. W. G. Lewellen and B. Huntsman, “Managerial Pay and Corporate Performance,” American Economic Review 60 (1970): 710–720. 40. R. T. Masson, “Executive Motivations, Earnings, and Consequent Equity Performance,” Journal of Political Economy 79 (1971): 1278–1292. 41. J. Child, The Business Enterprise in Modern Industrial Society (London: Collier-Macmillan, 1969). 42. S. L. Oswald and J. S. Jahera, “The Influence of Ownership on Performance: An Empirical Study,” Strategic Management Journal 12 (1991): 321–326. W I L S O N , J A M I E 5 0 5 1 B U 43. D. R. James and M. Soref, “Profit Constraints on Managerial Autonomy: Managerial Theory and the Unmaking of the Corporation President,” American Sociological Review 46 (1981): 1–18. 44. C. R. Weinberg, “CEO Compensation: How Much Is Enough?” Chief Executive 159 (2000): 48–63. 45. S. Chen and K. W. Ho, “Blockholder Ownership and Market Liquidity,” Journal of Financial & Quantitative Analysis 35 (2000): 621–633; J. J. McConnell and H. Servaes, “Additional Evidence on Equity Ownership and Corporate Value,” Journal of Financial Economics 27 (1990): 595–612. 46. W. J. Salmon, “Crisis Prevention: How to Gear Up Your Board,” Harvard Business Review 71 (1993): 68–75. 47. See B. Hermalin and M. S. Weisbach, “The Determinants of Board Composition,” Rand Journal of Economics 19(4) (1988): 589–605; E. F. Fama and M. C. Jensen, “Separation of Ownership and Control,” Journal of Law and Economics 26 (1983): 301–325; M. S. Weisbach, “Outside Directors and CEO Turnover,” Journal of Financial Economics 20 (1988): 431–460. 48. P. A. Gibbs, “Determinants of Corporate Restructuring: The Relative Importance of Corporate Governance, Takeover Threat, and Free Cash Flow,” Strategic Management Journal 14 (1993): 51–68. 49. C. Terhune and J. S. Lublin, “In Unusual Move, Coke Ties Pay for Directos to Earnings Targets,” Wall Street Journal (6 April 2006): A1, A11; P. Plitch, “Ready and Able?” Wall Street Journal (24 February 2003): R3, R5; J. S. Lublin, “More Work, More Pay,” Wall Street Journal (24 February 2003): R4, R5. 50. N. Dunne, “Adding a Little Muscle in the Boardroom,” Financial Times (10 October 2003): I. 51. A. Raghavan, “More CEOs Say ‘No Thanks’ to Board Seats,” Wall Street Journal (28 January 2005): B1, B4. 52. M. Maremont, “Latest Twist in Corporate Pay: Tax-Free Income for Executives,” Wall Street Journal (22 December 2005): A1, A11. 53. J. H. Morgan, “The Board of Directors Is No Longer Just a ‘Rubber Stamp,’” TMA Journal 19(5) (1999): 14–18. 54. B. R. Baliga and R. C. Moyer, “CEO Duality and Firm Performance,” Strategic Management Journal 17 (1996): 41–53; P. Stiles, “The Impact of Board on Strategy: An Empirical Examination,” Journal of Management Studies 38 (2001): 627–650. 55. S. Finkelstein and R. D’Aveni, “CEO Duality as a DoubleEdged Sword,” Academy of Management Journal 37 (1994): 1079–1108. 56. P. Allan and A. A. Widman, “A Comparison of the Views of CEOs and Public Pension Funds on the Corporate Governance Issues of Chairman-CEO Duality and Election of Lead Directors,” American Business Review 18(1) (2000): 49–54; W. N. Davidson III, D. L. Worrell, and C. Nemec, “CEO Duality, Succession-Planning and Agency Theory: Research Agenda,” Strategic Management Journal 19 (1998): 905–908. 57. J. Goldstein, K. Gautum, and W. Boeker, “The Effects of Board Size and Diversity on Strategic Change,” Strategic Management Journal 15 (1994): 241–250. 58. M. S. Mizruchi, “Who Controls Whom? An Examination of the Relation between Management and Board of Directors in Large American Corporations,” Academy of Management Review 8 (1983): 426–435. 59. C. Wohlstetter, “Pension Fund Socialism: Can Bureaucrats Run the Blue Chips?” Harvard Business Review 71 (1993): 78. 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning The Organization 60. J. A. Conger, D. Finegold, and E. E. Lawler III, “Appraising Boardroom Performance,” Harvard Business Review 76(1) (1998): 136–148. 61. P. Wright and S. Ferris, “Agency Conflict and Corporate Strategy: The Effect of Divestment on Corporate Value,” Strategic Management Journal 18 (1997): 77–83. 62. S. Perumpral, N. Sen, and G. Noronha, “The Impact of LBO Financing on Bank Returns,” American Business Review 20(1) (2002): 1–5. 115 63. M. C. Jensen, “The Eclipse of the Public Corporation,” Harvard Business Review 67(5): 61–74; P. H. Pan and C. W. L. Hill, “Organizational Restructuring and Economic Performance in Leveraged Buyouts,” Academy of Management Journal 38 (1995): 704–739. 64. R. B. Reich, “Leveraged Buyouts: America Pays the Price,” New York Times Magazine (29 January 1989): 32–40. W I L S O N , J A M I E 5 0 5 1 B U 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning 116 Chapter 5 R E A D I N G 5 - 1 Insight from strategy+business This chapter’s strategy+business reading highlights the fact that progressive firms can meet social challenges while securing profits. South African power company Eskom anticipated the end to apartheid and has facilitated social change in the country by providing electricity to sections of the country dominated by a poor, predominantly black population. The Company that Anticipated History By Ann Graham D riving along the old two-lane road from the Republic of South Africa’s political capital, W Pretoria, to its commercial hub, Johannesburg, a visitor sees two strikingly different nations. I The first South Africa looks like an emerging econL omy in hypergrowth. Hundreds of acres of rolling hillsides are rapidly giving way to new four-lane highways, S office parks, shopping centers, and housing developO ments of modest and McMansion-style homes. Parking lots in Johannesburg suburbs are jammed with BMWs, N Mercedes-Benzes, and Range Rovers. A supermarket , called Woolworth’s resembles the American hautehealthy food emporium Whole Foods; an apparel store, Kozi Kids, looks like the Gap. Bars and restaurants J cater to young, university-educated, upwardly mobile professional blacks—a category that didn’t exist 15 A years ago. It emerged after the 1994 national election, M which brought Nelson Mandela and the African National Congress (ANC), the country’s oldest black rights orgaI nization, to power. E The second South Africa consists of a predominantly black population mired in poverty. Next door to many of the new malls and mansions are sprawling shantytowns 5 of rusting metal shacks. Men and women in tattered 0 clothes walk from them daily through tall grasses down to the urban roads. On their heads, some balance bas5 kets filled with fruits and vegetables or trinkets they will 1 try to sell to travelers. Day laborers jam themselves into ramshackle minivan taxis that take them to pickup points B for construction or farm work. If they’re not lucky enough to land those jobs, these itinerant workers might end U up in a crowded shopping center parking lot, directing cars to open spaces and hoping to receive a small tip for their service. South Africa’s president, Thabo Mbeki, calls these two South Africas the “first” and “second” economies. They are a legacy of apartheid, the system of racial segregation that governed South Africa from 1946 to 1994, effectively excluding nonwhites (who make up 79 percent of South Africa’s 47 million people) from the nation’s economy and politics. Even with GDP growth averaging 3 percent since 1994, and more blacks rising out of poverty to enter the first economy, whites’ per capita income of 82,000 rand (US$11,000) is still more than five times that of blacks, and black unemployment remains a problem. Officially, unemployment nationwide stands at about 27 percent. Unofficially, the rate is anywhere from 40 to 75 percent among blacks. Access to electricity is always an important first step up the economic ladder. In South Africa, Eskom Holdings Ltd. provides that first step. A government-owned corporation headquartered in the Johannesburg suburb of Sandton, Eskom generates 95 percent of the country’s electricity. Many organizations debate whether their business has social responsibilities, but Eskom’s core business is itself a social responsibility. Without electricity, educating children is difficult; families must heat their homes with coal or wood, a major cause of respiratory diseases; and new businesses and employment opportunities can’t grow. Eskom receives 80 percent of its revenues from industrial customers, but the company also has a self-imposed mission: to deliver electricity to all individuals, especially those who, in every sense, have lived without power. Eskom adopted this mandate not in the wake of apartheid’s fall, but in the mid-1980s, when it was legally prohibited from providing electricity to black communities. The company’s early embrace of “electricity for all” (as the policy is called) allowed the company to play a leadership role early on in the social transformation of South Africa. Not only did the company rethink the value of serving black customers and remake its work force to bring blacks into positions of responsibility—both in defiance of the laws then in place—but it thus positioned 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning The Organization itself as one of the very few African companies that could make a play for international expansion. (South African Breweries, now SABMiller, is another.) Ahead of Change “One cannot manage change,” wrote noted management author Peter Drucker. “One can only be ahead of it.” That maxim could be Eskom’s motto. By preparing in advance for the end of apartheid, risking its own executives’ lives in the process, the company established a pivotal role for itself in the South African economy, and arguably in its culture as well. Eskom’s story is the sort often recounted under the banner of corporate social responsibility, but the company’s efforts were not primarily motivated by the desire for a good reputation. They had much W more to do with resilience and growth as an enterprise. Eskom’s leaders take the position that Ibecause no business can perform to its full potential in aLsociety that is failing, companies must be involved in the societal S needs health of their country. “It’s not only that society strong and sustainable businesses. Businesses O need sustainable societies in which to operate,” says Wendy N Poulton, Eskom’s general manager of corporate sustain, as a busiability. “Our view is if you don’t recognize this ness, you’re going to be out of business.” Since the inception of “electricity for all,” Eskom has J homes electrified an average of 300,000 additional annually. In 2006, Eskom reported delivering A electricity to 3.3 million homes, compared to only 120,000 during M cation the last years of apartheid. To be sure, this electrifi rate lags behind those of other emergingI economies, such as India and China, but it means that 66 percent of E is up from the South African public has electricity, which 30 percent a decade ago. This rate is more than four times the percentage in the rest of sub-Saharan Africa. 5 in 20 subWith wholly owned electric power operations Saharan countries and partnerships in 10 others, 0 Eskom is also trying to be an economic engine for all of Africa— 5 intending to bring electricity to more than a billion people, many of whom still live by candles and 1 kerosene lamps. Currently, Eskom is among the largest utilities B in the world, ranking 11th in generation capacity and U report. seventh in sales, according to its 2005 annual Electricity sales reached R36.6 billion (US$4.61 billion), with pretax profits of R4.6 million (US$579,710) in the 2005–06 fiscal year. Throughout its history, Eskom has had to manage the complex relationship among South Africa’s government, financial, and industrial sectors. The utility traces 117 its origins to private entrepreneurs at the beginning of the 20th century who won the first concessions to transmit electricity to the newly discovered gold deposits of the Witwaterstrand, the mountain range in northeastern South Africa that now houses the richest gold mines on earth. In 1910, when the Union of South Africa was formed, the Transvaal provincial government, representing the heart of the mining region, declared that supplying electricity was too important a public service to leave in private hands. In 1923, when apartheid was still a relatively informal policy in the country, the Electricity Supply Commission, abbreviated to Escom (the spelling was later changed), was created to absorb and run South Africa’s electricity assets, with no profit requirement. Escom was one of the first parastatals—South Africa’s state corporations. Together with Iscor, which produces iron and steel; Sasol, which refines liquid fuels and other products from coal; and Foskor, which mines phosphate, Escom provided the infrastructure and raw materials to grow South Africa’s economy. The parastatals also provided critical support to the government’s increasingly separatist regime. After 1948, when apartheid became national policy, the government and therefore Escom effectively wrote off most black townships, arguing that their inhabitants would one day return to the so-called homelands. This homeland policy, or “grand apartheid,” inhibited investment in township infrastructure, schools, and other basic services. However, the demand for electricity increased among the white population—enough to drive Escom to expand its generating capacity dramatically in the 1960s and early ’70s. When the utility made plans to erect five coal-fired power stations, Dr. Ian McRae, then the head of power station operations, saw a large problem ahead: a shortage of white workers with the skills needed to staff those plants. “We realized we had all these new power stations coming on and we didn’t have the people to operate them,” recalls Dr. McRae. His solution was to begin training blacks to fill these positions, even though most were illiterate and apartheid outlawed them from being anything more than unskilled laborers. At the time, the laws reserved certain jobs for whites, and white trade unions jealously guarded those rules. (Black trade unions were illegal until 1979.) Breaking the law, though, wasn’t what most concerned Dr. McRae; rather, he worried whether Escom’s employees would support such radical measures. So he set up meetings at each power station with trade union representatives, plant managers, and black laborers to discuss the idea of blacks’ 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning 118 Chapter 5 doing jobs traditionally performed by whites. Reassured that there would be minimal resistance, Dr. McRae started introducing blacks into the ranks in the new position of “operating assistant” and providing them with the training to develop their technical skills. He removed the existing educational barriers so that nonwhite operators could move into the position of shift supervisor. “I got people to agree that a good operator, with some experience, could move up,” says Dr. McRae. By the late 1970s, worldwide condemnation of apartheid had left South Africa isolated, and its economy was stagnating. Demand for power plummeted, and it soon became clear that the power stations Escom had committed to build were no longer needed. After W the company jacked up prices to offset the costs of construction and operational misfires, it found itselfIin financial difficulty. L That’s when the government stepped in. In May S 1983, a commission appointed by the Minerals and Energy Ministry and led by mining executive W.J. O de Villiers found fault with Escom’s management of foreN casting, governance, accounting, and investment. Amid , the commission’s inquiry, a scandal broke concerning a company accountant who had defrauded Escom of nearly $4 million; he was convicted and the finance J chief was forced to resign. Escom was now a national embarrassment. The De Villiers Commission replaced A its existing hierarchy with a new two-tier governance M structure. An Electricity Council, appointed by and reporting to the government, represented the stakeI holders, including consumers and unions, and set E policy. Below that was the management board, which ran the company. For the first time, Escom would be accountable for profits and losses. 5 In 1984, the De Villiers Commission nominated Dr. McRae to be Escom’s chief executive. For chairman 0 of the new management board, South African President 5 P.W. Botha chose Dr. John B. Maree. The two men, tem1 peramentally quite different, took on financial and cultural reforms together. Dr. McRae was the consummate comB pany man. Soft-spoken and professorial in demeanor, he had started at Escom as an artisan’s apprentice U in 1947. He was well-liked and respected inside the company and in the industry. Dr. Maree, a turnaround specialist, was renowned for his shrewd political instincts and his blunt management style. A former divisional chair at Barlows Ltd., one of the country’s oldest and largest conglomerates, Dr. Maree came to Escom following a three-year stint as the chief executive of Armscor, South Africa’s defense parastatal. Drs. McRae and Maree began by looking inward. Using Dr. McRae’s signature “walkabouts,” a technique he had developed years earlier to make sure he never lost touch with his employees, they met with small groups of senior and middle managers in regional offices, power stations, and distribution and service departments. Morale was low. Consumer criticism had hurt, and Escom-bashing in the press made it worse. At the head office, the two assembled Escom’s best and brightest managers and strategic thinkers into a senior management council they called the “Top 30.” A few outsiders were also invited, including Reuel J. Khoza, a management consultant recognized for his entrepreneurial acumen and commitment to social change. (In 1997, he would become Eskom’s first black chairman.) Escom’s leaders defined their most pressing task as fixing the fiscal mess and turning Escom into one of the world’s top utilities. “John and I knew our performance had to be first class, or the government would take over,” remembers Dr. McRae. “I had seen all over Africa how disastrous such political interference could be. We had to keep the government out of the engine room.” Electricity for All Downsizing was a critical step—and a move unheard of at Escom. Over the years, Escom had developed a reputation as an undemanding workplace. People joked that Escom stood for “easy, slow, comfortable.” Dr. Maree pushed through instant work-force reductions from 66,000 to 60,000. By 1995 the head count was 39,000. (Today it’s just under 30,000.) A name change from Escom to Eskom symbolically cemented the shift and distanced the company from its former identity as the government’s supply commission. While Dr. Maree drove the company to higher performance, Dr. McRae started to champion the vision of “electricity for all”—a response to the change he believed was inevitable. “South Africa was facing political transition, either through armed struggle or political negotiation,” he wrote in his memoir, The Test of Leadership (EE Publishers, 2006). “When (not if) the ANC came into power, Eskom needed to be performing to the satisfaction of everyone in our country and that included making electricity available to all, not just one third of the population.” Dr. McRae proposed that Eskom begin offering electricity directly to households in the townships. 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning The Organization Other executives agreed, but saw his plan as too risky, politically and financially. They weren’t convinced blacks really wanted electricity; the few who could afford it complained of poor service and exorbitant bills. Furthermore, there was no commercial logic for growing a customer base of poor households, especially because at the time it was still illegal for Eskom to do so. “To me the threat of not getting people electricity was greater,” recalls Dr. McRae. “In these urban townships, there was no commercial or industrial infrastructure. What really worried me wasn’t the lack of electricity; it was poverty.” Before pressing for further support within the company, he decided to see for himself if there was market demand. At great personal risk, he went to Wtownships, where few whites had ever ventured, to ask residents directly whether they wanted electricity, Iand if they would pay for Eskom’s service. With the helpLof the thenbanned ANC, he met at night with people in churches SDr. McRae and in their homes. On one visit to Soweto, learned why the bills were so high: Meters O were locked in cubicles on the sidewalks and were not read regularly. N “When I went to those meetings, I got a clear signal that , they did want electricity if the price was reasonable and they could get decent service,” he says. To buttress his argument, he pointed to the favelas of J are similar Rio de Janeiro. In these squatter cities, which to South Africa’s shantytowns, the residentsA were eager to buy electricity when delivery was reliable. Dr. McRae won the support of Eskom’s board, and M in 1989, he launched a drive to bring affordable, safe Ielectricity to the townships. To achieve that goal, the utility had E to devise a completely new way to collect payment. There was no postal service, and most residents had no fixed address 5 up with a and did not hold regular jobs. Eskom came revolutionary prepayment system that is still 0 in use; an inhome metering system that changed the dynamics of 5 the black political struggle—withholding payment was a frequent form of protest—and forever altered 1 the business model of Eskom. The in-home system used fare B cards purchased at the post office; customers inserted U flow. Four them into the meter to activate the electricity lights in the meter box allowed residents to monitor how much electricity they had left. The system also helped residents and the company avoid a mishap that both hated: service disconnections for nonpayment. Township activists continued to play an advocacy role; for example, they pressed for the replacement of unreliable meters. 119 Meanwhile, as Dr. McRae recalls, new stories of township entrepreneurialism emerged. A man who had baked his family’s bread over an open fire invested in two electric ovens, which he used to start a successful bakery business that grew to have seven employees. A skilled welder launched a business with two other men making fencing, security bars for windows, and small steel chairs. Successes like these were the clearest vindication of Eskom’s prescience. Equalizing Opportunity As the company worked to desegregate power delivery, its leaders attacked segregation inside Eskom. Dr. Maree recalls becoming committed to the idea when the company opened its Matimba power station, near the Botswana border, in 1987. “I’ll never forget one man who came up to me and said, ‘Dr. Maree, electricity has no color. Eskom should not have color.’ That really hit me.” To be a top-performing utility, he and Dr. McRae declared, Eskom had to fast-track development of the staff from all races. They also argued that Eskom would better serve black customers if black workers at Eskom held positions of authority. Integration was painful, especially for middle managers. “I remember sending young engineers, one black and one white, to the power stations,” says Dr. Steve Lennon, who was then a middle manager and is now Eskom’s managing director of resources and strategy. “They were expected to work together, but they weren’t allowed to sleep in the same place. I had a fight with one station manager, and ended up transferring a black scientist to another project because of the segregation.” At the same time, it was Eskom’s social progressiveness and its growing reputation for technical excellence that attracted highly skilled individuals like Dr. Lennon in the first place. And it also attracted those few black students who had beaten the odds to become engineers. When Ehud Matya graduated from engineering school in 1986, he committed to a four-year stint with Eskom. He had been the first black at his school to win an Eskomsponsored scholarship, and Eskom had gone out on a limb to award it to him. Assigned to a team piloting a software system at Duvha Power Plant, the largest in the world, he broke the managerial color barrier. Yet lavatories and lunchrooms were still closed to him. Before the year was over, he left Eskom for a job at South African Breweries. “The race issues were more challenging than I had expected,” he says. 9781111219802, Strategic Management: Theory and Practice, John Parnell - © Cengage Learning 120 Chapter 5 Dr. Mare...
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