Monday, November 28, 2011

Reverse Engineering NPV - Part Two

In the last Treasury Café post we discussed approaching the NPV valuation from a different perspective and some of the benefits it holds.
Now we are going to transition from concept-level to demonstration.

The Transformed NPV Equation
By algebra, we can transform the NPV equation in its most familiar form:
To the following:
Notes to this equation are as follows:
a)      EBITDA is equal to cash flow available to investors before tax. This should in theory be equal to pre-tax CF in the first equation. In cases where EBITDA contains a lot of “clutter” with respect to cash, then substitute Cash Flow Available to Investors in the above equation.
b)      Investment is the capital provided by investors
c)      tax_rate is the applicable income tax rate, expressed as a percentage. It is assumed to not change during the investment horizon
d)      dep_rate i is the tax depreciation rate for the investment in year i, expressed as a percentage
e)      discount_factor i is the result of dividing 1 by (1+r)i , where i is the year and r is the required rate of return (calculated using the Capital Asset Pricing Model or other method, see earlier Treasury Café posts)
f)       growth_factor i is the growth (or decline) in EBITDA in year i, expressed as a ratio. For example, if growth is 0%, growth factor would be 1. If growth is 1%, then year 1 would be 1, year 2 would be 1.01, year 3 would be 1.0201, etc.  

The Transformed NPV Equation in Action – Case A
Let’s say we have ²10 TCMU’s (² stands for Treasury Café Monetary Units) to invest, and we want to invest in a project that earns 10%. Any returns due to capital structure, interest deductibility for tax purposes, etc. have been factored into this return requirement (i.e. it is the Weighted Average Cost of Capital). We face a 40% tax rate. The assets are expected to last five years, but for tax purposes are allowed to be depreciated over four. We expect the assets to produce a steady income, neither growing nor declining.
This produces an EBITDA requirement of about ²3.003 per year:

What is the less burdensome series of questions for the operating business units:
1)      Tell us what you will invest this coming year? How much will you make on this investment? What is the resulting rate of return?


2)      If you have ²10 to invest, can you make ²3 per year?
Questions in series 1 involve a number of “pencils and paperclips” exercises on the part of the business unit.
The question in series 2, simple and direct, focuses on the part of the financial statements that the business units most control and with which they are most familiar – revenue, cost of goods sold, and direct overhead.

The Transformed NPV Equation in Action – Now For Some Strategic Fun!
If we imagine the example above as a box, and we have two boxes, we can stack them either vertically or horizontally, as follows:

In the first case, vertical combination, we can examine various investment strategies regarding combinations of business units.
For example, if we have two business units, one that declines 5% per year, and one that increases 5% per year. What do we look like in 5 years if we invest ²10 in each one?

In five years, while EBITDA has remained relatively flat, the composition of the company has gravitated from 50-50 to 60-40. With all respects to the efficient market hypothesis, investors are likely to view our business somewhat differently than before.
In the horizontal case, we can evaluate different investment scenarios for the business unit over time, such as a “Cash Cow” strategy vs. a “Star Performer” if we are using Boston Consulting Group’s famous classification. By assessing each of these, we can draw conclusions and insights as to what is possible and under what conditions, providing a roadmap to strategic flexibility as the future unfolds.

Key Takeaways
Analyzing pro forma requirements for EBITDA allows us to assess strategic alternatives in a manner that “speaks the language” of primary decision makers, allowing us to gather their input more effectively. This analysis can be performed without the inefficiencies of full-scale “pencils and paperclips” organizational efforts.

·         How efficient is your budgeting and forecasting process?
Your thoughts, comments, questions and/or feedback are all welcome! Please share Treasury Café with others. Your support is sincerely and gratefully appreciated.

Wednesday, November 23, 2011

A Blogful of Thanks

While frantically working on the next installment of “Reverse Engineering NPV”, which I am sure everyone is anxiously waiting for, I realized that with Thanksgiving coming up, this will be the last business day for many, so if I were to wish everyone a happy holiday it would best be now (and don’t worry, there will be a second installment of Reverse Engineering NPV coming soon!).
Regular readers know that while I might mention a personal experience here and there, for the most part I focus on topic. Very rarely is that topic me...yet oddly enough, even this one is really isn't either.

For Those Who May Not Know
In the US, the fourth Thursday in November is called Thanksgiving, and it is one of the national holidays. Wikipedia can explain its history better than I, but essentially its roots are in harvest festivals that many cultures hold.
Nowadays it is a holiday where families get together, often traveling in order to do so (in many US airports the busiest travel day is today), eat a large meal, watch football, and in general just hang out together. I like it because of the low-key nature of it. There are not rows and rows of merchandise in the stores or anything like that, though grocery stores stock up on turkeys, sweet potatoes, cranberry sauce, and pumpkin pie among other things.

A Time For Gratitude
The primary emotion of Thanksgiving is gratitude. As a matter of fact, I just heard on the radio this morning that feeling gratitude is critical to mental health and happiness.
Thinking about this in relation to the Treasury Cafe blog, there is a lot to be grateful for. Let me tell you all about it.

Inside the Mind of a Blogger
A new blogger’s primary fear is that we-will-write-it-and-no-one-will-come. Writing that first post takes a lot of time, effort and thought, for several reasons. First, we haven’t done it before, so it is more conscious (think babies walking for the first time). Second, we don’t entirely know what we are doing, so there is little anxiety and concern. Third, there is the technology aspect, which is all new as well, so it compunds those feelings.
So once the “Publish” button is hit, we kick back for a second and go “ahhh, I did it”. That gratifying feeling lasts all of about two seconds, and is then swiftly replaced by a nagging question – “Is anyone going to read this?”
All of a sudden we are no longer in control. Some of us might call friends, or post on LinkedIn, Facebook, Twitter, etc. But the ball has been passed, it is in the potential reader’s power at that point. We are at the mercy of the audience.
One of the most comforting things, then, is to find out real people in real places are reading what we have posted.

The Founders Circle
When a new institution is formed, those who created it are called “founders”. For Treasury Café’s “firsts”, that is what I call these folks:
So, for the first comment ever received on this blog, I am grateful to “fatgreta”. No blog, no website, but I can tell you he makes a great Best Man! (As an aside, because I know him personally, I immediately called to mind all the admonitions you hear about “make sure nothing is out there that employment recruiters might not like” - we were not in a fraternity together, but still…!) Thank goodness “fatgreta” has a sense of discretion (either that or I am to get a request for money really soon!).
The Blogger sites allow you to become a “Blog Member” – my first one was Rene Michau. He is a banker at ANZ, very passionate about treasury management and products and the industry. He publishes a blog - Cash Insight ( ), as well as a daily paper, also “Cash Insight” ( ). He is also active in a program that helps veterans. Thank you so, so, so much Rene. If I ever move to the Pacific Rim you know where I’ll be opening an account!
Most blogs have a “blogroll” (as do I) that provides links for readers to other blogs that are either similar to the bloggers, or well-respected by the blogger, or are interesting in some respects. Adding a blog to a blogroll is a sign of support and respect. We stake a slice of our identity and reputation with it. It’s essentially our word that “check this out, it’s good, you won’t be sorry”.
Getting on these blogrolls is great for someone worried that nobody is ever going to read what they have written, and Treasury Café’s first appearance on a blogroll was….(drumroll, please!)…Rene Michau, again! Thank you, Rene. Did I mention I am going to open a bank account at ANZ if circumstances allow?
In addition to blogrolls, another way a blogger gets feedback that others might think what they’re doing is worthwhile, relevant, or at least entertaining, is to be cited and linked in somebody else’s blog. Treasury Café’s first link was with Wally Bock’s Three Star Leadership blog ( ). Wally’s blog provides excellent daily leadership tips in very consumable quantities (often two paragraphs tops), interspersed with longer, in-depth, informative posts, coupled with a great survey of other information currently available on the web (blogs, book author’s posts, etc.). In my experience his posts always strike the hit- your-forehead-“darn, I knew that” response, even though we haven’t actually thought about the subject for months!
Finally, another way a blogger knows that they have actually communicated with another human being is to trade emails and begin a normal interaction (assuming email interaction is within your definition of “normal”).
My first E-mail dialogue was with maddie. However, to say that she was my first blog-generated e-mail correspondence really does her a disservice, because no matter what happens - in all the rest of my life - I will always have a special place in my heart for maddie.
I ran into maddie by way of another blog. Through that blog, she reached out to me with the wisdom and advice of someone who has “been there, done that” and really took me “under her wing”. maddie is really the first one, who provided the “somebody believes in me” feeling with respect to Treasury Café. And I tell you what, during the first couple months of blogging, you need that feeling! Thank you, maddie!
Maddie has a blog of her own – – and she is a great writer, effortlessly (or so it seems) communicating serious points while simultaneously being funny. She is a vet of corporate IT and has a penchant for seeing the world from the real world point of view (i.e. not from the Four-Seasons if you know what I mean). I think she has been everywhere. “Nomad” is a very complimentary term in her world.  

Key Contributors
There are a couple of ways that bloggers get feedback that the topics they are discussing are relevant, considered, and meaningful. These are blog comments and other forms of interaction.
For these activities, I am very grateful to:
Comments by Barbara Swafford – her blog is – and if there was a dictionary definition of the communities bloggers are able to create, this blog would be it. Barbara’s blog was the one through which I met maddie, by the way.
Comments by Tim Johnson – his blog is – and from the moment you first read it you know this is one smart guy who knows what he is talking about…and is willing to share it with you!
Comments by Mandy Kilinskis – her blog is - and this site is, if not the archetype, a prime, prime example of good social media strategy by a company. They won the Chicago Most Valuable Blogger contest, by the way. While I would have liked to have been the recipient of that title, having been to her site a number of times, I respect the decision (my only caveat is that there is more than one blogger there, so it is a little unfair – 4,5,6 to one!). If ever I am in the market for stress balls or other similar items, this is where I am going to go.
Off-blog interaction - Allan Engelhardt – his blog is . I have written several times about “Big Data”, and Allan’s firm is one of the pioneers and experts in this field. I can’t wait until they open a Chicago office!
Off-blog interaction -  Tom Brakke - .  Tom is a guy you want on your research team when considering investments, because he has the analytical tools, combined with the common sense, along with the ability to explain it all in a way that makes sense. That is a rare combination!
Off-blog interaction - Nicholas Cardot - . Nicholas is someone who understands what is important when it comes to blogging, and what is transitory, faddish, or otherwise not worth your time. He also responds to every comment on his blog, which is in the Blogger Etiquette Rulebook but very few actually do.
Off-blog interaction - Lee Crumbaugh ( ) has helped promote Treasury Café through his Twitter activity. He is the only one I know who, whether the topic is diapers, global famine, or anything in between, his immediate response is to think about the importance of strategic scenario planning (which I love to talk about as well)!

And Finally
Thank you for reading this blog! One of the things that I have been most proud is the fact that Treasury Café has been read on every continent except Antartica (if you know someone there, please get them to visit!). Web 2.0, or my euphemism wikifinance (for the finance folks!), really does have the capability to reach everywhere. It is amazing!
I cannot tell you how grateful I am that you visit, and you come back. It really does help me persevere. Writing this post, thinking about you, and those who I mentioned above, makes my eyes tear up. I am very lucky to have you and to be living in these times. Hopefully I have communicated that through this posting.
Thank you!
Happy Thanksgiving.
  • What are you grateful for today?

Thanks for stopping by the Treasury Cafe!
Please share your thoughts, comments, questions and/or feedback - all are welcome!
If you like it, please share it. Your support is sincerely and gratefully appreciated.

Tuesday, November 22, 2011

Reverse Engineering NPV – Part One

When we hear the term “financial engineering” a lot of us think of a bunch of quants creating exotic market securities based on statistical features. A lot of complex derivatives are based on financial engineering (whether they should be or not!). The mortgage component of the financial crisis of 2008 was partially due to financial engineering of mortgage securities.
In this post we are going to “reverse” engineer, and our subject is a whole lot simpler than the esoteric securities that maybe...just maybe...5 people in the whole world understand.

As we have discussed in prior Treasury Café posts, the NPV methodology is the superior valuation metric. For corroboration, check out Silber, or Harvey, or Brealey and Myers. NPV stands for Net Present Value.
Because of this, when considering potential investments, we would like to know the NPV of these investments.
When evaluating the strategic options of the organization, we would like to determine which ones generate the greatest NPV.
When forecasting the organizations performance over the next year or two, we would like to know if this creates value.

What Does It Take to Get a Number Around Here?
In its original form, the NPV requires 3 inputs – length of time, cash inflows less outflows, and rate of return.
The most complicated of these to determine is usually cash.
For this reason, organizations spend a lot of time focusing on the inputs to this.
But this can get to the point of the ridiculous. In my own organizational life, after participating in a meeting that used six man hours of resources to discuss office supplies, my euphemism for this was “forecasting paperclips”.
Guy Kawasaki talks about business plans being presented to venture capitalists with a line item for pencils.
What motivates going to this level of detail is the desire to get it right. And it is important that this happen, otherwise we can wake up tomorrow to find ourselves out of business. So it is important.
Help From High School
I am convinced that some of this time and effort is spent because the NPV equation is not intuitive, it is something of a “black-box”. Division by factors with exponents and decimals is tough to do in one’s head, so we cannot immediately validate results.
Therefore, to compensate for this uncertainty, we make really darn sure we understand the numbers going into it.
However, by dint of a little algebra, the NPV equation can be re-written to solve for the EBITDA requirements of a project rather than the NPV, keeping other factors constant. It looks a little messier, but it is nothing a spreadsheet can’t handle, and we are already relying on the spreadsheet anyway, so we are not doing anything strange, different, or time-consuming.

Asking Different Questions
This perspective of the NPV equation can save us incredible amounts of time when going through strategic planning, capital budgeting, growth-funding scenario analysis, and similar activities.
This occurs because we will be viewing and evaluating the organization’s possibilities through a different lens. And this lens is EBITDA (this is an acronym for Earnings Before Interest, Taxes, Depreciation and Amortization).
EBITDA is what operating units of an organization are primarily responsible for. It is a measure before any fancy financing done by the treasury folks, esoteric depreciation brought by the accounting folks, or anomalies courtesy of our expert tax department’s knowledge.
Ask them what their EBITDA will be, and their lightening quick answer will be full of rich detail, intimate knowledge, and knowing confidence.
We will go through a detailed example in our next post!

Key Takeaways
By changing perspective:
·         Difficult answers become easy
·         Tedious tasks are replaced with productive ones
·         The focus is on things that matter
Can you share with us a time when changing your perspective made a great difference?

Thanks for stopping by the Treasury Café!
Add to the discussion with your thoughts, comments, questions and feedback! Please share Treasury Café with others. Thank you!

Wednesday, November 16, 2011

Anchors Away!

Often when beginning a project one of the first steps is to document the current process and identify the key requirements of the major participants – suppliers to the process, the process performers, and the customers of the process.
The rationale for this activity is to make sure that all the important elements and components of the process have been accounted for. This makes sense. The last thing we want to do is to get 99% of the way through (spending 100% of the budget along the way!) and then discover we have a “fatal flaw”.
Doesn’t look too good on the annual review. No bullet point on the resume. And the chances of being involved in the next really cool undertaking? Nil minus!

We Interrupt This Blog in Order to Bring You….
There ia a bias people engage in during decision making called “anchoring”. Research has shown again and again that once a baseline has been put out there, or suggested, people anchor around it.
If we are asked to pick a number between 0 and 100, after hearing the number 10, we will pick a number, on average, lower than if we picked one between 0 and 100 after hearing the number 90.

…And Now, Back to Our Regularly Scheduled Programming
If we have a project group, comprising all possible components of the value chain and process flow, then we are likely to get a fantastically complete listing of requirements. People who perform a process day in and day out have a fantastically rich set of detail to inject.
“We need a P&L using a green hue, RGB content of 100:25:35, for revenue and rose hue, RGB content of 25:150:210, for expenses, derived from using an excel spreadsheet using data imported from a tab delimited file (we tried comma delimited once ten years ago and it didn’t work).”
Why are requirements lists like this generated? Because we are asking people with a vested interest in the status quo. And, contrary to what we might think, they did not fall off the applecart yesterday. Any time one of these big projects come around, there is one central question a) from the start of project, b) throughout the life of the project, and c) at the end of the project - “Am I going to have a job?
However, there is an additional problem. Because we have listed out the current process, detailing in excruciating minutia the “requirements”, they now serve as anchors throughout the project’s life!
Should we truly be surprised that the fruits of the project effort…those long, hard spent months (if not years) of meetings, forms, and angst…look remarkably similar to our current process? Sure, some things have been “tweaked” here and there. Yes, we have re-examined things from beginning to end and gained some efficiencies (at least according to the agreed upon metrics). There is no surprise that we have gotten acceptably close to whatever targets or objectives may have been established (and we all agree on what factors might have prevented us from getting all the way there).

Start Clean
Sometimes we are asked to develop a process where we "start with a blank sheet of paper”. This is the process-development equivalent to zero-based budgeting, everything that goes onto the paper needs to be justified.
And before it gets on that pristine, lily white, innocent sheet of paper, we ask the “5-whys” and other penetrating, challenging questions. We make the proponent cost-justify it. We play devil’s advocate. We have other’s play devil’s advocate. We ask for alternatives. We look at the pros and cons of alternatives.
Essentially, it so arduous and painful to put a box on that paper that everyone thinks twice about proposing one and substantiating it.
Go through the process randomly – start from the end, work from the middle outward, swirl around the edges inward like a hurricane, etc. – in order to prevent the existing mentality from gaining that dangerous beachhead.
Then, once this “future-state” has been developed, it serves as the anchor from which we compare the “current-state”. The result is more change, more efficiency and effectiveness, and higher levels of customer satisfaction.

Key Takeaway
When considering change, think carefully about what mental anchors are being set in the process, and seek to take control of their establishment in such a manner so that the change objectives are more likely to be met.

Have you had an experience you can share about a project that was anchored by the status quo?
What processes in your organization are ripe for a “blank sheet of paper” approach?

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Please share your thoughts, comments, questions and/or feedback - all are welcome!
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Monday, November 14, 2011

Managing Towards "Aha"

How are we going to finance our growth expansion plans next year?
What strategic alternatives presently exist that take advantage of our competitive advantage and recent industry trends?
What scenarios might play out over the next five years that would impact our business?
What product or service might we develop that would be a “game-changer” for our company and industry?
The questions above are fairly standard within an organizational setting. And while they require a certain amount of analysis (think newly minted college grads staring into spreadsheets, or decision trees being made on a whiteboard), if we desire to transcend common practices and aspire to be best in class, we will need something extra.

The Missing Ingredient
And this is where we can use creativity.
Tony Schwartz, in his Harvard Business Review blogpost “How to Think Creatively”, identified 4 stages to the creative process, namely saturation, incubation, illumination, and verification.
Some believe this article is an oxymoron because creativity cannot “follow a recipe”. But it is not recipes we are talking about, only stages. Using a restaurant analogy, all food is washed and prepared, cooked, plated and served. Yet we consider some chefs “creative” even though their food goes through all (not all food might be cooked, but roll with me here) the above stages.
The stages in very brief terms (for more info see the blog post):
·         Saturation – become familiar with what currently exists or is “out there” in the world
·         Incubation – let things sift, sort, and organize, mainly in the subconscious, but also through processes such as brainstorming
·         Illumination – the “aha” moment of discovery
·         Verification – challenging and testing the idea

Testing the Limits of Management Processes
Using this 4-stages paradigm, the big problem from an organizational perspective is the second and third stages, incubation and illumination. This is because they are difficult to plan, manage and control.
For instance, one of the tools project managers use to manage a project is a Gantt chart, which breaks down the project into its component steps and the length of each one. In order to implement this tool, our transcendence project would need to answer the question “how long will it take to come up with a great idea for that?”
“Well, who knows?”
This answer does not help them any, though it is probably the correct answer to give.
As an amateur guitarist, I have written a number of songs. One was completed in an hour - another one took a year! Unfortunately, there is no indicator that lets us know beforehand how long we must incubate any particular topic or issue before the “aha” comes.
The article noted that the “aha” often comes at odd times, such as while taking a shower or sleeping. The DNA shape was conceived by one of the scientists working on the project during sleep - they literally dreamt up the double helix!
Showering and sleeping – these are not in the traditional manager’s toolkit – “listen, I want some creative ideas pronto, so the action plan for the next month is to take 5 showers a day, each one to be followed by a nap. Uh, be sure to report on your progress!”

Loosen Up
If we want creative ideas so that we may move from “like everyone else” to “best”, we will need to do a couple of things that are not on the face of it very “executive-like”.
Be Patient – since an idea might take an hour to a year to incubate, we must be willing to wait patiently. If we are to inquire about how it might be going, we will need to ask questions demonstrating our willingness to wait – “what interesting perspectives have we considered so far?” as opposed to “come up with anything yet?”
Cede Control – if we have a team working on things, we do not know the source from which the “aha” seed eventually emanates. It could be the lowest paid member of the crew, or the high-potential candidate. We also need to let folks incubate as they need to (e.g. Joe showers, Sally sleeps).
The good news is that, as we progress towards the era of Wikifinance and Wikitreasury (see earlier blog posts), where the world will be less hierarchical and more collaborative, we will need these traits anyway, so beginning to practice them in this realm is a great start!

Key Takeaways
A creative approach, determining what and how things get done, is required in order to achieve best in class status. To that end, we will need to maneuver around and / or manage conflicts between the demands of the creative process against the demands of organizational control.
In order to achieve this, we will need to practice some very non-managerial mindsets, such as patience and letting go.

When was the last time you were able to let go of controlling an outcome for which you were accountable for? What was the result?
What is the advantage to depicting leaders and managers as “demanding results immediately” types of individuals?

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Please share your thoughts, comments, questions and/or feedback - all are welcome!
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Thursday, November 10, 2011

Small Bets - Big Challenge

This past week I attended Anne Marie Slaughter’s innovation presentation to an Association of Finance Professionals (AFP) luncheon audience. There are lots of folks who opine on innovation, but part of what makes her unique is that she works in the field of politics - having held roles in both academia and government.
Why is a pocket full of change better than a large note?
One of Dr. Slaughter’s presentation slides was of an innovation center layout in Shanghai – a couple of universities, a talent growth center, and lots of peaceful forests and rivers (from which to draw inspiration presumably) among other things.
Illustrative of a “big plan”, Dr. Slaughter questioned this approach, noting that innovation is usually a process that starts with “small bets”.
The small bets element reminded me of Skunkworks projects, whereby a small group of people are separated from the rest of the organization in order to allow them to push envelopes, get outside boxes, breath bureaucracy free air, and avoid being stifled by its organizational culture.
In fact, this “small bets” thinking has been visited here in prior posts such as “Oops! We Made the Company Analytical” and “How to be a Corporate Revolutionary in 50 Easy Steps” posts.
Analogously, small bets thinking is the practice of venture capital, who invest in many in order to manage uncertainty about which firm might succeed and which ones will fail.
So if we have the good fortune to find ourselves with large denomination notes, if we want innovation we should convert them to many units of small change and spread it out accordingly.
Organizational Paradox
Dr. Slaughter then went on to discuss the characteristics of a society that encourages innovation. One of the identified elements is “challenge authority”.
Organizations are a paradox. An organization is created to accomplish things collectively, either because these things otherwise simply cannot be done (e.g. building a jumbo-jet) or can be done more efficiently and effectively (e.g. lawn care service).
In order to coordinate the collective activity to achieve the goals, a leadership and management structure is established, and voila - airplanes get built, lawns get mowed.
Because leadership and coordination are necessary to achieve the collective effort, it is generally not wise to tolerate those who would rebel against that authority. “My boss told me to bolt that wing onto the airplane, but I just ain’t gonna do it – I’m gonna make another wheel for this baby instead!”
Guess what? Not many airplanes get built under that scenario, and the ones that do have serious defects, like 6 wheels and only one wing!
Thus a paradox – to achieve the goal we need to follow authority, yet in order to innovate we need to challenge authority. Is it any wonder a common complaint in organizations is the lack of innovativeness?
Balance or Synthesis
If we view challenging authority and following authority as the ends of the same continuum, then it is possible to achieve a state of balance between the two extremes. The proverbial “middle road”. In all likelihood, this is a situation that can allow small innovations to occur, though not likely to achieve major breakthroughs.
If we can allow both of these forces to exist at the same place at the same time, then some type of synthesis or transcendence occurs, and we can achieve something totally different. This is difficult to accomplish, however, because it means being able to live in the paradox. Not all are cut out for this.
Key Takeaways
We need to decide what type of innovation we want to occur within our organization, and then we need to manage organizational authority accordingly to achieve this objective.
Does your organization allow authority to be challenged? How much on a scale of 1 to 10?
What name would you give to a synthesis of following and challenging authority at the same time?

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Please share your thoughts, comments, questions and/or feedback - all are welcome!
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Sunday, November 6, 2011

X Marks the Spot (or is it Y?)

Wally Bock, in his Three-Star Leadership blog the other day, posed the question as to what type of leader we wanted to be. Back in the day when I was learning about organizational behavior from the textbooks, this type of question was referred to as whether we believed in Theory X or Theory Y. 
Theory X
The underlying belief of Theory X is that the natural state of the worker is laziness, that they will do as little as possible, and they need to be motivated and incentivized to achieve the minimum of productivity. The leader’s role under this philosophy is to ride herd, closely monitor, and enforce working behavior through rewards and punishments. The leadership is oppositional to the workforce.
Theory Y
In the world of Theory Y, the worker’s objective is to actualize themselves, and the innate desire of the worker is to make a meaningful contribution to the world. They require guidance, encouragement, and resources to achieve this, and the leader’s role is to ensure they have what they need. The leadership is allied with the workforce.
Which One Are We?
When discussing these theories, there is usually an underlying (if not outright stated) premise that we must choose to be in one camp or the other. It is this assumption that I end up questioning. I just don’t think it is that simple.
It would be nice if it was.
Looking at my own leadership style, there is certainly a tendency to gravitate towards the Y side of the equation. However, having had the honor and the pleasure to supervise many different teams over the course of my career, ranging in size from 4 to 20, I know that I have not always evidenced that tendency.
Is this a flaw in my personality? Am I a “closet Theory Xist”?
Blame it on…
While I will not deny that I play a part in the drama, any interpersonal dynamic is a function of many forces - the leader, the direct report, the co-workers, the nature of the work, the culture of the company, and the influence of the local population among others.
I have led people who needed to be told what to do, and if they were not one could notice the personal phone time increase, the periods away from the desk socializing increase, and the work that needed to be done postponed or delayed.
I have led others who always had an idea of something new to do, who took initiative and developed innovations and improvements to existing processes, who got things done before they even needed to be asked, and then asked for more.
Nature of the Work?
I am all for self-actualization. I am all for achieving our true potential. I am all for realizing our gifts and talents. I am all for you achieving these, and all for me achieving these.
Yet I have the sneaking suspicion that if you and I spent our entire day washing dishes, or cleaning toilets, or picking up garbage, etc., we would not go home at night feeling like we were achieving those lofty ends (we might be achieving other lofty ends, such as feeding our families!).
I am not knocking the people who do these things day in and day out, nor am I demeaning the importance of the activities. They need to be done. We hear stories of people who are able to work these activities into their “personal mission”. But there probably is a shortage of those naturals vs. the jobs available. There are a lot of waiters and waitresses in the world who are marking time on their way to a big break in the theater.
Company Culture?
The same can be said for the company culture. I have worked in very hierarchical organizations and in very “flat” ones – believe me there is a difference. People are less likely to listen to peers, or those in other departments no matter the rank, in a strong hierarchical organization. They are waiting to hear from their leader, the only voice that counts (other than the leader’s leader!). If the leader doesn’t throw their weight around from time to time they begin to lose respect for them, merely out of principle.
Conversely, in flat organizations there is much more listening, interacting, and questioning of each other. Decisions are often made based on common and acknowledged criteria, usually tacit. People trying to throw their weight in this environment lose respect quickly.

Leadership is a complex function involving many elements. In executing this function we therefore need to make judgments about the situation, and we need to be flexible in our approach. We cannot possess only a hammer and treat every leadership situation like a nail, we need saws, sanders, screwdrivers, c-clamps, and drills in our toolbox as well.
And we need to know how to use them.

What is your experience with leaders who have had a “robust” style versus ones who have not?
What elements are primary in your organization?

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Wednesday, November 2, 2011

Opportunity, Opportunity Everywhere

According to The Wall Street Journal, 52% of US companies reported difficulty filling jobs. This is an amazing fact considering a) the unemployment rate, b) the underemployment rate, and c) the amount of employed workers either “not engaged”, “actively disengaged”, or looking to move to different companies.
This difficulty is explained due to the fact that “employers are demanding more of job candidates than ever before. They want prospective workers to be able to fill a role right away, without any training or ramp up time. In other words, to get a job, you have to have had that job already”.
The Set-Up
So, let’s say we want a forex trader for our Treasury department. If our organization is large enough, we need to work through our friendly neighborhood Human Resources (HR) department to achieve this process.
We sit down with our eager HR rep, who tells us that with the economy the way it is we can certainly find a forex trader who can hit the ground running, and not only that we can do it on the cheap.
They ask us all kinds of questions so they can screen candidates: How many years of experience? How many years in our particular industry? What degree qualifications does our candidate need to have? And so on.
They leave our meeting with the criteria list – 10 years of forex experience, 5 of which were in the banking industry (since it is high volume experience), with a Bachelors in Finance (Masters preferred), reported to bosses whose name starts with a T, and likes to make home-made jam on the weekends.
Afterwards, we are supplied with a list of questions chosen from a standardized list to ask each candidate and forms to fill out once the interview is completed. And let’s be clear, each candidate needs to be asked the same questions, no more or no less. The forms need to be completed for each interview.
We interview the top 5 candidates HR screened for us and make our pick from among them. HR then makes an offer and establishes the starting date. Time from beginning to end is 41 days.
What is wrong with the above?
We Are Letting Someone Else Do Our Work
Contrast this approach to that of Larry Bossidy, raised in the legendary GE people development fold prior to leading the turnaround at Honeywell. He says in his book Execution (co-authored by Ram Charan) that selecting people is a job that “should never be delegated”. He further notes that during the first two years at Honeywell he spent about 40% of his time on people, and 20% thereafter. That is a lot of time for a CEO!
Does this approach take more time? Yes! But it also makes a lot of sense – after all, leaders get things done through others. It just might pay off to devote a little attention to who those “others” are going to be! And how they develop and grow…and the experiences they get…and the challenges they face…and the strengths they build upon and utilize.
We Are Not Setting Our Sights High Enough
Jim Collins, in Good to Great, identified seven factors that went into companies that were able to ascend from the ranks of the good to the great. The second factor identified, right after the leadership attributes of the CEO, was the people. Not any kind of people, mind you, but the right people.
The “right people” is a crucial distinction. According to Collins it is much more a matter of “who” rather than “what”, going on to say “In determining the ‘right people’, the good-to-great companies placed greater weight on character attributes than on specific educational background, practical skills, specialized knowledge or work experience”.
Hmmm…don’t recall HR asking us about the character attributes.
We Are Not Playing to Strengths
In Now, Discover Your Strengths, the authors define strengths to be a combination of “talents”, “knowledge”, and “skills”. Whereas “skills and knowledge can be acquired through learning and practice”, talents are “innate”. Therefore, focusing on talent is the best practice to determine the best potential candidates. Skills and knowledge are teachable, transferable, and trainable - talent not so much.
Come to think of it, our HR rep did not talk about this during our preparation phase.
We Are Ignoring Our Team
Going one step further with Now, Discover Your Strengths, if our Treasury team comprises x number of people, do we want them to each possess a certain strength, thereby creating in aggregate a departmental signature strength, or do we want them to each possess different strengths in order to make our group “well-rounded”?
Finally, what of our culture? If we have a strong, team based approach, those individual achiever types are not going to play well with our team, whether they have 1 year of forex experience or 10. If we are in a very political organization, certain types will thrive while others will be crushed.
Why Do These Problems Persist?
Part of the problem here is metrics. A lot of HR organizations, eager to join the metric craze, have an “on-boarding” objective, from posting the job notice to first day of work in less than 60 days for example. How likely is it that HR will be working with us or against us when we say the first round of candidates did not exhibit the right fit with the team?
Part of the problem is legalities. HR does not want us to be sued, and if we are they do not want us to lose. Noble goal, really. Yet it is certainly possible to achieve our objectives while simultaneously meeting this goal. The bad news is it will be somewhat more costly (e.g. more testing of applicants). If HR is in control of that budget, how likely is it that they will be working with us or against us?
Part of the problem is hard work. Screening for years of experience is easy. They had this job from 2003 to 2010. Seven years. This number can be calculated automatically. Screening for character, or talent, requires a whole lot more effort that cannot be performed entirely by computers. With limited FTE’s available, how likely is it that HR will be working with us or against us to enable us to determine these “softer” skills.
If we are like most organizations, the answer to at least one of these questions is “not likely”
Opportunity, Opportunity Everywhere
Because the vast majority of organizations will not perform these tasks sufficiently, those of us who do, given the current environment, have a fantastic opportunity to position our teams with the right talent, the right character, and the right fit now, with sustainable benefits and competitive advantage for years and years to come!
Happy Hunting!

Are your hiring and management metrics conducive to creating a great organization or do they create mis-alignment?
What strengths does your team need to have to achieve great things?
Are we willing to work hard to achieve the highest goals?

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