Chapter One: Complacency

The law of entropy has it that all things tend to run down. Only by importing negentropy -- applied information can we stave off this fate. Beavers possess the know-how (information) to keep water from swiftly taking its entropic course -- downhill. Man continually innovates and uses the resulting information to make water climb uphill, keeping crops irrigated and toilets flushing on the uppermost floors of skyscrapers.

Nations and companies run down, too. Their declines follow from not innovating, not applying new information to combat entropy. In social systems such failings often take the form of complacency.

Through much of the twentieth century the United States was the world's manufacturing colossus. By the 1970s decline was apparent and the coverstory topic of any number of business publications. Telling research shows that the downslide actually began in the 1950s. Later, by applying new ideas (some borrowed, others homegrown), U.S. industry renewed itself and regained its global industrial supremacy. The United Kingdom, then continental Europe, followed suit.

The same patterns of ascendancy and decline -- and the need for renewal -- take place in every country and region. We've seen it in Japan, with its own extended period of economic malaise. Japan had sloughed off the devastation of World War II to emerge dominant in world markets for automobiles, machine tools, and a cornucopia of consumer electronics. The principal driving force was innovations in industrial management that originated mainly in the Toyota family of companies. The Toyota system -- just-in-time and related concepts of rooting out wastes and delays-was fully developed by 1970. Those innovations pumped the Japanese economy for another two decades as other companies installed their own versions of Toyota concepts. By the nineties, however, the competitive engine had run out of gas (life-giving new knowledge).

Manufacturers in other countries got a late start. Simplistic explanations of Japan's success (community of the rice fields, quality control circles) had diverted attention. Finally, in the early 1980s, Toyota's get-lean success formula was out in the open. What happened next is remarkable: Western industry (mainly in the United States, at first) avidly learned and applied-and then began to innovate itself. By the late 1980s the United States had taken the baton. It became the globe's fount of new ideas on how to manage a manufacturing enterprise.

Chapter 2 summarizes the most important Japanese innovations, pre-1980s, and the equally notable contributions of the West, late 1980s and 1990s. The body of this chapter probes the complacency problem, especially for manufacturing companies. Main topics are the rising importance of good management, how to size up competitive strength, and why manufacturing leaders fade.

MANAGEMENT: THE DIFFERENTIATOR

When it comes to countries, competitiveness may be measured by economic numbers such as gross domestic product. More to the point, for this books purpose, is competitiveness for a business-most specifically a manufacturer. Earnings and market share are inadequate. They tell where the company was, not where it is going. All too often a company has its best year ever and two or three years later is in a death spiral.

Digital Equipment Corp. (DEC) comes to mind. In 1987 the company's common stock price hit its all-time high, and cocksure executives leased the QE II ocean liner for the three thousand-odd guests invited to its spare-no-expense DECWORLD extravaganza. Exhibit 1.1 shows, one year later, DEC's spectacular rise in earnings suddenly reversing itself and its common stock price failing as far and fast as it had risen. In 1998 DEC was gone, absorbed by Compaq Computer.

Some companies luck out. They stumble upon a technology that gives an instant competitive edge, covering up what may be serious management flaws. Superior companies will take luck but do not rely on it. They import and self-generate two kinds of vitalizing information. One is best management practices. The second is improved technologies and new products emergent through application of superior management concepts.

We are saying, then, that good management is the differentiator. Even economists, who are given to explaining all economic twists and turns in terms of fiscal and monetary policies, have been forced to recognize that management can make a difference. Notably, what catches economists' eyes is, of late, the unusual behavior of inventories, along with a possible dampening of the business cycle. The conventional wisdom is that when the economy booms, inventories grow massively; then, before long, warehouses bulge, so producers retrench and the boom turns into bust-until inventories become
scarce, which re-ignites the boom. That cycle could be depended upon, until the early 1980s, when manufacturing shipments-to-inventories ratios began to improve. (This is a variant measure of what is known as "inventory turnover.") As shown in Exhibit 1.2, the improvements were stutter-step from 1982 to 1990. Then the ratio rose nearly every year. For the seventeen years between 1982 and 1999, the average annual improvement is 2 percent. (The rate would be higher if it omitted industries, such as extraction, that have no incentives to decrease inventories.) The surprising (to economists) explanation: Industrial companies were making hay with new management techniques that continually drive out wastes and drive down inventories.

INVENTORIES: PROXIES FOR COMPETITIVENESS

For their state-of-the-economy and predictive value, economists keep a close watch on inventories. Investors sizing up a certain company might take a lesson. Of all the pointers of strength or weakness that might be gleaned from a goodsoriented company's financial records, none reveals quite so much as trends in inventory turnover (alternately expressed as days of inventory). Chapter 3 details why that is so. This chapter reviews the inventory patterns themselves.

If you're troubled by the premise that inventory turnover is a worthy proxy for competitiveness, please mark your place here and go read chapter 3. Then come back.

The Good Years

The 1996 Schonberger book, World Class Manufacturing: The Next Decade, includes eye-catching results of a halfcentury analysis of inventory turnovers in manufacturing companies. The database consisted of a few dozen venerable manufacturers, mainly in the United States and France. Nearly all of those companies showed about the same pattern-getting worse on inventory turnover from the 1950s until around 1975 or 1980, followed by sharply rising turns thereafter.

Now the companies in the inventory database number more than five hundred and include manufacturers in Canada, Mexico, Japan, the United Kingdom, and several countries on the European continent. The half-century decline-incline pattern holds up well for this much larger sample. Exhibit 1.3 lists some of the companies, the number of years they've been improving, and annual rates of improvement since bottoming out. The increases in inventory turnover generate cash flows at average rates of almost 3 percent per year. (This is as of the end of 2000. A quick re-check as the book went to press shows lower average rates if the most recent "bad-year" annual report numbers are used.) For the typical twenty-plus years of improvement, it is a whopping amount of cash. It is usable for opening new plants or upgrading old ones, funding new product development, raising pay, distributing dividends, or almost any other purpose. Generating cash on one's own-as opposed to borrowing or diluting ownership by issuing new shares of stock-is everybody's favorite way to succeed in business.

Chapter 3 will show the actual down-then-up inventory turnover patterns for a few manufacturers. It will also zero in on the meaning of these common patterns. We shall see that the period of decline is explained by poor and worsening practices in virtually every function of the enterprise; and that the past two decades of renewal are explained by the opposite -- a period of industrial renaissance based on an outpouring of new knowledge.

The Flattening

But there is distressing new evidence. First of all, in the midst of a global getlean movement, about one-third of the world's best-known manufacturers are not. For at least the past ten to fifteen years, those companies either have shown no loss of weighty inventories or have actually fattened up on them. Prominent among the one-third are the sixty listed in Exhibit 1.4. Their names are Audi and Bayer in Germany, Komatsu and Kyocera in Japan, Nokia and Volvo in Scandinavia, Domtar and Quebeco in Canada, and Conagra and Crane in the United States-to name a few.

Second, the other two-thirds -- who may have thought themselves among the masters of lean-are having their own problems. This is the group whose annual reports show a long run of inventory reductions. A close look at their recent records, however, shows that nearly 40 percent have ceased to improve. Their inventory turnovers have either plateaued or worsened. Among this group are perhaps the two most admired of all manufacturers: Toyota and General Electric. They are joined by fifty-eight others on the list in Exhibit 1.5. All sixty in the exhibit had averaged an approximate 3 percent per year improvement in inventory turnover for fifteen years or more. But in about the last five to seven years all have plateaued or declined. Appendix 1 ranks twenty-four industry sectors according to their success in sustaining at least a fifteen-year improvement trend in inventory turnover-without that five-to-seven year lapse. Some companies in Exhibits 1.4 and 1.5 have been acquired or merged. In such cases, the data reflect the inventory turnover pattern up to the year of consolidation.

Adding the one-third of manufacturers that have not improved to the 40 percent that were improving but have lapsed provides a not-so-grand total of close to 75 percent. That is 75 percent that are at risk, as evidence by bloated and bloating inventories.

Of twenty-five automotive parts manufacturers in the survey group, guess which one has the worst several-decade-to-the-present inventory performance, as judged by the combination of absolute turnover and rate of change? It is Federal-Mogul, which in late 2000 was teetering on the brink of bankruptcy. The company and the press blamed the financial troubles on asbestos suits from former employees of an acquired company. If Mogul had been generating the kind of cash flow that comes from getting lean, however, it might easily have been able to weather the asbestos storm.

These points about decline could be solidified if the disturbing data from
Exhibits 1.4 and 1.5 could be backed up by alternate measures, especially

Caution: Inventory is necessary in the absence of process management. (Other cautionary statements similar to this are placed in later pages of the book. Their purpose is to dispel any misinterpretations of the data on inventories.)

quality. The huge advances industry has made in quality over the past two decades seem unarguable. But has quality suffered in most recent years, along with inventory? There are no handy records to study to find out; annual reports are clear on inventory but say nothing about quality. Anecdotal evidence of quality problems is available, however. There is, for example, this striking news headline: FORD SAYS LAST YEAR'S [2000's] QUALITY SNAFUS TOOK BIG TOLL -- OVER $1 BILLION IN PROFIT." Ford Motor Co. is a latter-day quality pioneer, having mounted a company-wide quality program in the early 1980s. It was founded on the works of Deming, Juran, and Crosby, who were hired to spark the effort. Ford is the company that had enough success with quality to dare to make its main advertising slogan "Quality Is job One."

Ford may not be alone. Jeffrey Garten, dean of the Yale School of Management, says this: "Among the forty top business leaders I interviewed for an upcoming book, the word quality wasn't mentioned once as a major strategic challenge."

THE PROBLEM

Each company, of course, has its own story. We can speculate in general, though, on reasons for the tapering off of the encompassing inventory indicator; quality, too. Complacency, already mentioned, is one. Six other causal factors join complacency on the list in Exhibit 1.6 (repeated from the preface). These are briefly discussed below and elaborated on in later chapters.

Tendency to Regress

There is a body of academic research that bears on how industry leaders tend to lose their top rank. It goes by various names, including industrial dethronement and market-share erosion. Studies in 1983 and 1986, for example, found that the majority of market leaders lose their top rank within a couple of decades. Using broad economic data, those studies bear out what this book's inventory research shows for specific manufacturing companies. The issue, though, is not how companies lose. It is how to renew and recover from regression, erosion, and complacency. That is the main theme of the book, taken up in most chapters.

Stock-Hyping Deals

What manager could think about staying the course with stars in his or her eyes? In the late 1990s e-business, silicon-tech, and biotech firms repeatedly sprang up, had their initial public offerings, and made large numbers of youthful people quickly rich in stock options -- on paper, if not in the bank. In big industry, one megamerger after another (the majority ill considered) sent stock option prices soaring for layers of executives and managers. The aforementioned Jeffrey Garten, dean of the Yale School of Management, agrees. On what gets in the way of quality, he says, "[Top business leaders] are obsessed with boosting short-term share prices, reaching new markets at warp speed, and ramping up scale through mergers or alliances." In comparison, the rank of continuous process improvement falls low on the priority scale.

There is some method to the madness. Demolition of the Iron Curtain along with momentous trade, political, and single-currency pacts-all in the midst of decades of world peace (blemished, to be sure, by a pack of small wars) -- created a wide-open global marketplace of 6 billion people. The clear imperative: Get one's foot in the door.

f0 It is a giant door. The foot needs to be encased in a combat boot -- in the form of company-wide, customer-focused excellence. In other words, companies that let their world-class journey slide while rushing to acquire, merge, or partner to build power and a global presence may be the worse for the effort.

New Managers

At the core of the world-class journey are the just-in-time (JIT) and total quality (TQ) methodologies, which migrated to the West in about 1980. Their message was revolutionary. Early practitioners treated them as crusades.

Leading companies -- IBM, Motorola, Milliken, and the like-sent scores of high-level executives and managers to Philip Crosby's Quality College. W. Edwards Deming's four-day seminar played to full houses for fifteen years. Joseph Juran's quality-management message had similar prominence. And consultant William Wheeler liked to talk about "born-again JIT'ers" popping up across the industrial landscape.

One reason these complementary approaches -- JIT and TQ -- had such grand impacts is that they were the only games in town. Not anymore. Reengineering, teaming, agility, mass customization, constraints management, 5S, six sigma, supply-chain management, e-commerce, and so on blur the senses. The crusaders have retired or are small in numbers alongside the legions of new, young, job-hopping managers who populate the hierarchies. The new cadre is quick to develop an initiative but doesn't stick around long enough to see it through. (The ardor for jobhopping may have cooled some in the aftermath of the stock market plunge in 2000-2001.) Moreover, it lacks the fervency of forerunners who had experienced mind-set transformations: for the crusaders, the reigning system of inspector-based quality and big-batch, big-system complexity had to go. In its stead is everyone-a-process-manager, along with quick-change, small-lot, visually managed operations. Even where a group of today's new managers has the process-management zeal of the crusaders, they may not be able to act out their preferences, because they typically work in downsized companies and have overly full plates.

Retention of Old, Nonprofitable Customers and SKUs

Plates are heaped partly because of the way companies continually add new customers and stockkeeping units. Trouble is, as the new arrive, the old do not depart. Chapter 12 expands on this failing and how to deal with it. But new managers with full plates usually must contend with another holdover situation: Their company probably still operates in the command-and-control mode, which gets in the way of best intentions.

Retention of Command and Control

Command starts with commanders -- those high up. Control employs a network of specialist-agents who count everything and make reports for the commanders.

Command and control is at odds with employee-driven process management. By one set of standards, it is also out of whack with continuous process improvement, total quality, and flexibility/agility, along with statistical process control, just-in-time, total preventive maintenance, and 5S. These initiatives can be advanced under command-control -- but by a small group of specialists and managers, leaving out the bulk of the workforce.

Further limiting workforce involvement is heavy use of external consultants to guide new program installation. Consultants find it easier to deal with like-minded managers and staff experts than with folks in the ranks. Moreover, there is always pressure on the consultants to get quick results, but turning on a whole workforce is anything but quick. Training and prodding managers and experts is much faster.

And it works. The professional staff, with consultants standing by, maps the processes and designs the work cells. Together they install sophisticated work-tracking systems and advanced statistical analysis methods to zoom in on causes of defects and down machines; these are systems and methods beyond the ken or the sight lines of the general workforce. They put improvement charts on walls throughout the plant. And never mind that the charts track remote management concerns, not the things that aggravate or stimulate the troops. It works -- at least long enough to make a few competitive inroads and maybe even drive up the stock price. But it doesn't last. Before long, the advantage goes permanently to a superior competitor who takes the time to get all the minds and bodies of the company involved, instead of just a minority of professionals.

Legacy of Bad Equipment, Systems, Job Designs

Years of command-control often leave in their wake misfitting equipment, information systems, and job designs.

As for equipment, there is little point in rehashing the by now well-known arguments in favor of smaller-scale machines and production lines. The outsize, high-volume monuments to the economy-of-scale concept are out of step. Making in small or one-piece lots in synch with customer usage works best with smaller-scale, high-flex equipment. Many manufacturers, however, have large sums tied up in still capable supermachines bought years ago. Continued use of such equipment holds the manufacturer hostage to the batchand-queue system. Sometimes there are no affordable alternatives. Quite often there are, but executives lack the will or the wits to switch.

Criticizing systems -- manufacturing information technology (IT) systems, that is-hits at the giant, well-endowed software industry. IT applications have their place in industry. But the legacy systems that schedule, dispatch, release, track, count, and cost everything that moves are, by today's standards, largely non-value-adding wastes; their use sacrifices hands-on visibility. Best practice calls for a host of visual-management devices -- kanban flow management, 5S discipline, process data in the workplace, and so on.

As to job design, Frederick Taylor had it partly right. For any set of conditions there is one best way. Though it can never be found, it must be continually sought, documented, timed, taught, and practiced. In the Toyota system, the result is called "standard work." Employees improvising -- doing the work their own ways -- causes variation, which, as Dr. Deming beat into our heads, is the root of any number of ills. Since things change, standard work must, too. The workplace should be, to use Robert Hall's language, an improvement laboratory' hosting a neverending sequence of work studies. The main research tool in the lab is 1900-vintage Taylor-Gilbreth process flowcharting.

However, Taylor and the whole reductionist/command-control school has it wrong about who designs the work and what the best way should look like. job design and job improvement is not, properly, a staff function. As already stated, it must be largely in the hands of those who do the work. Too often, companies give their workforces training in process analysis and problem solving but then retain the system of professional staff and consultants actually to do most of the analyses.

Here the term reductionist refers to the common bent of job designers, which includes industrial engineers, human resources staffers, or bosses. They tend to apply the division-of-labor concept down to minute levels of detail. jobs may end up so squeezed down that any newly hired warm body can be up to speed on them the first day -- at minimum wage. This holds down the payroll. It also ensures high turnover, dissatisfaction, and an untrained, nonthinking workforce.

Erratic Application of World-Class Concepts

These days, many companies do spend a lot on training. It's a good thing. The reservoir of best-practice knowledge that exists today, there for the learning, is massive, as compared with the meager, poorly respected offerings of twenty-five and thirty years ago. Companies keep sending their professionals to seminars' launch in-house workshops, and even establish their own versions of Motorola University. Moreover, growing numbers of manufacturers have gravitated toward forty hours per year as a minimum amount of training. It's for all employees, not just professionals.

For all that, our own benchmarking research shows that even best manufacturers have serious blind spots when it comes to application. In the next chapter, that research, called "World Class by Principles" (WCP), is summarized briefly. Most of the remaining chapters blend in specific results of the research.

Copyright © 2001 by Richard J. Schonberger