Growth is vital to prosperity. Every person, every company, and every national economy must grow. Are you working for a company that is growing? Is it growing profitably and with no decline in velocity? What happens when the growth rate is low or even negative?
If the company as a whole or your business unit lags behind competitors, your personal progress will suffer. If the company’s sales are flat for five or six years, people will not have the opportunity to be promoted and move forward. Top managers will begin to cut costs, cut the number of employees, cut layers. They’ll start reining in R&D and advertising, good people will leave, and eventually the company will go into a death spiral. People will suffer.
In today’s world, no growth means lagging behind in a world that grows every day. If you don’t grow, competitors will eventually overtake you. Westinghouse, for example, used to be compared with GE. It lost its way, didn’t focus on growth and productivity, and no longer exists. Then there was Digital Equipment Corporation, not long ago the world’s second-largest computer company. It stuck with making mid-sized computers when the world was going to PCs. While upstart PC makers like Dell and Compaq grew, Digital Equipment did not. It lost its independence when Compaq acquired it.
Growth has a psychological dimension. Growth energizes a business. A company that is expanding attracts talented people with fresh ideas. It stretches them and creates new opportunities. People like to hear customers say they’re the best and that more business will be coming their way.
Look at what is happening in the world of Internet and other technology companies. Until very recently, young people were so anxious to get jobs working for dot-com companies that they were postponing their formal education. And venerable old companies had trouble luring graduates from the best schools and retaining their top performers while companies like Cisco, Intel, Nokia, Microsoft, and Oracle attracted a disproportionate number of them. Even a small start-up like Teligent attracted the former president of AT&T, Alex Mandl. What is the attraction? Growth, and all the opportunities and excitement it brings. The chance to build something, make something happen, and prosper.
Growing the Right Way
But growth for its own sake doesn’t do any good. Growth has to be profitable and sustainable. You want growth to be accompanied by improved margins and velocity, and the cash generation must be able to keep pace.
Many entrepreneurs taste success on a small scale and become obsessed with growth, losing sight of the money-making basics along the way. The case of one entrepreneur who supplied beverage equipment to restaurants is typical. He built a profitable business installing beverage equipment at a cost of $2,000 per installation and thereafter collecting $100 a month from the restaurant for the ingredients he supplied. He borrowed money to make the installations. The margin on the ingredients was so slim that it did not cover the interest payments on the borrowed money. Yet he was obsessed with growth.
As this ambitious young man expanded the business, the outflow of cash soon outpaced the flow of money into the business. Eventually, the company went bankrupt, and the lenders decided that the company needed a new CEO.
Sometimes senior management inadvertently encourages unprofitable growth by giving the sales force the wrong incentives. For example, one $16-million injection molding company rewarded its sales representatives based on how many dollars’ worth of plastic caps they sold, regardless of whether the company made a profit on them. Everyone was excited when the company landed $4 million in new sales from two major customers. But in the following three years, as sales rose, profit margins shrank. Finally, the CEO realized that the new business everyone was so excited about was actually a money loser. The price of the new caps did not cover the costs of producing them. Worse, the sales team lowered the price each year to retain the business.
Bankruptcy is often the sad end of misguided expansion plans. In August 2000, one of the largest equipment retailers in the United States joined the list of companies seeking bankruptcy protection when its ambitious growth plans went awry.
In the 1990s, the company had kicked off a rapid expansion that included opening eighty to a hundred stores a year, some outside the United States for the first time ever. Sales grew steadily through the 1990s, from well under $500 million to well over $2 billion, and at least in the early years, earnings per share inched up, too. But beginning in 1995, as the pace of its acquisitions quickened, earnings moved sharply downward for several reasons.
For one thing, the company was conducting business much as it always had, trying to make money on the sale of the equipment itself and also on the highly lucrative business of extending credit to customers. Meanwhile, the credit card industry was blossoming, and customers were using credit cards instead of store credit to buy their equipment. The company lost a main source of income. The loans it did make were more often to high-risk customers, some of whom didn’t make their payments. Also, sales from the new stores didn’t always meet expectations, and sales from older stores were dwindling as the company failed to make needed renovations.
By 1998, the company was losing money, and in 1999, it began to retrench. It closed stores and sold off some of its business units. Still the debt burden was too great, and in August 2000, under the leadership of a newly appointed CEO, the company filed for Chapter 11 bankruptcy.
So don’t use size as a measure of success. Pushing for more sales dollars isn’t necessarily good business. You have to know how and why you’re growing. And you have to consider whether you are growing in a way that can continue.
Look at what is happening to your cash. Maybe sales are increasing, but the cash situation is getting worse. Step back. Are you growing in a way that is generating or consuming cash? Is your profit margin improving or getting worse?
If the money making is improving and the cash is growing too, you have some interesting choices. You can use the funds to develop a new product, buy another company, or expand into a new country. Maybe you want to add some new features to make your product more appealing. Maybe you can cut the price and expand demand profitably.
Finding opportunities for profitable growth when others can’t is part of business acumen. Sam Walton, the founder of Wal-Mart, knew how to grow a business, even when his industry peers thought it was impossible. In 1975, the CEO of Sears, Roebuck told my class at Northwestern University’s Kellogg School of Business that retailing in the United States was a mature business and a no-growth industry. That’s why he diversified into financial services. Meanwhile, Sam Walton was opening new stores while maintaining a return on assets substantially above the industry average.
Wal-Mart has widened the gap between itself and Sears. Though the businesses were roughly equal in size in 1992, Wal-Mart had sales of $165 billion for the year ending January 31, 2000, versus Sears’s sales of roughly $40 billion for the same period. In the process of expanding, Wal-Mart’s margin and velocity have both improved. Wal-Mart’s superior return on assets provides resources for it to expand internationally.
Opportunities for profitable growth may not be obvious, especially for big, established companies. But with drive, tenacity and risk taking, you and your colleagues can discover them. Take, for example, Ford. As Jac Nasser told the investment community at a meeting with securities analysts in January 1999, Ford was evaluating several avenues of growth and would pursue those that had the greatest potential to create value. One of Ford’s growth options was to provide a range of services that have to do with vehicle ownership. Nasse intended to have Ford venture down this path by making acquisitions and exploiting adjacencies. Adjacencies is the word he uses to describe market segments that are different from but closely related to the core business — like Nike’s selling of athletic apparel along with its core business of selling athletic shoes.
As Ford saw it, a consumer who buys a vehicle needs to finance it, insure it, and, over time, maintain and buy replacement parts. Financing, insurance, maintenance, and auto parts are separate market segment: but they are closely related to the initial vehicle purchase. Over the life of the car, an average person spends $68,000 in total — almost three and a half times what the average consumer pays for a vehicle. Ford hoped t grow and create shareholder value by participating in all these segments. That’s why in 1999 it acquired Kwik-Fit, a European auto repair chain, and Automobile Protection Corporation, which provides extended service contracts on all makes of cars.
Ford also planned to fuel growth by using e-commerce aggressively. The company plans to use the Internet to connect with more customers more quickly and to communicate with suppliers and dealers to shorten the time it takes to provide consumers with the vehicles they desire. That way both customer satisfaction and sales would rise.
Excerpted from the book What the CEO Wants You to Know by Ram Charan.
Copyright © 2001 Ram Charan. Published by Crown Business a division of Random House, Inc.; February 2001;$18.95US/$28.95CAN; 0-609-60839-8
Ram Charan is a highly acclaimed business advisor, speaker, and author, well known for his practical, real-world perspective. He was a Baker Scholar at Harvard Business School where he earned his MBA degree with Distinction, as well as his DBA. Dr. Charan is also the author of What the CEO Wants You to Know, Profitable Growth Is Everyone’s Business, The Leadership Pipeline, and Boards at Work. His articles have appeared in Fortune and Harvard Business Review.