by Erik Dolson
I blame Jack Welch.
Yeah, I know, Welch was one man at one time and in a much larger web of interconnected ideas in a changing world. I blame Jack Welch, anyway.
Do your own research into “Neutron Jack Welch.” I’m not going to repeat it here.
But here’s the deal. Welch was a genius engineer, and uncompromising, and as CEO was enormously effective at refreshing General Electric which had become bloated. He sloughed less profitable divisions, fired the least productive 10% of his workforce regardless of their absolute productivity, and insisted on being paid a portion of the resulting profit.
I can see course titles at business schools in the mid 90s, maybe the 2000s, I don’t know exactly when: “What Jack Welch teaches us about profit.” Or perhaps “Neutron Jack bombs poor productivity,” or “The rebirth of G.E. under Welch.”
His minions went out into the world. They ran other companies with principles they had learned from Welch. Others ran companies using the same principles learned in business school from Welch-influenced professors. They adopted the mindset, the algorithms, the math.
All of which is fine … except … well, there were dangers in the Welch model. Even at G.E. it turned out.
I’m not going into depth. I don’t have the chops, nor the time. But someone should do an analysis of corporate America based on “Six degrees from Jack Welch.” I think it would show that the closer to Welch a management is, the more likely the company is facing some unanticipated consequences.
Boeing is my favorite whipping boy in this regard. Run by Welch acolytes for about the last 30 years, Boeing distanced itself from its core competence, destroyed the relationship with its most important asset (engineering culture), and created a corporate culture in its place at best unmanageable and at worst lethal, that may still reward lying, cheating, and short term gain.
Okay, maybe that was a bit harsh. But maybe not. I’ll defend it over beers (for you, coffee for me.)
That has to do with “how” it happens. The “why” also involves Welch’s insistence on being rewarded with a portion of the profit via bonuses, shares, etc. On the surface it makes sense to give management an incentive that parallels the goals of shareholders.
However, it can leave out some rather important concerns, and, again, create some rather perverse consequences. Sometimes it’s to a company’s advantage to reduce profit in the short term while investing for the long term. This might not show up during the watch of any particular CEO, or worse, the next CEO may get the credit and several million $ while the current CEO gets the boot.
Even worse, the attempt to maximize profit might lead to the deaths of 346 people because Boeing did not put two air speed sensors on the 737 MAXX and screwed up the programming, possibly by subcontracting it out to the lowest bidder, and created a corporate culture that encouraged lies to customers, animosity between employees, and airplanes flying into the ground.
Okay, okay, okay. Enough with Boeing. Want to talk about Wells Fargo? Halliburton? Enron? No? Okay, we won’t.
But you see, when you introduce a recursive loop into a process within a system, that system is likely to experience chaotic consequences. A focus on profit for its own sake, to be rewarded in the stock market or with a bonus, instead of on quality of production, will result in an unpredictable outcomes.
Let’s talk about today. You know that inflation worry that’s been tossed around a bit lately? There’s another storm cloud on the horizon, and it has nothing to do with Ukraine, COVID or China.
It has to do with Jack Welch!
It appears that American railroads are displaying a structural weakness. According to an outlet of financial information, “Union Pacific (UNP) asked fertilizer companies to cut the amount of shipments sent via its rails by 20%” (Corey McLaughlin, Tradesmith).
And apparently, farmers can’t get rail cars to ship their grain.
And apparently, railroads aren’t picking up all the containers still stranded at ports.
Smart people in the industry blame “Precision Scheduled Railroading,” a process for — wait for it — boosting “operating ratios.” Margins. Profit. See “Jack Welch” above.
According to Cory McLaughlin of Tradesmith, "The idea behind the system is to basically run freight trains on a fixed schedule... to maximize profits, and run longer trains in many cases, as in miles-long, congesting popular lines while there's less traffic on routes that don't do enough business to turn a profit.”
Wait! The real world does not operate on a precision basis! Flexibility is required to handle variations. Cutting workers to an ideal level for an ideal situation may make sense if one never has to deal with a scheduling delay at a rail hub, but …
The industry cut its workforce by 29%, or 45,000 workers.
McLaughlin quotes Brooks Bentz, a contributing editor at Logistics Management...
“Wall Street eagerly latched on to this monolithic metric, which has incented [sic] rail carriers to continue pursuing the halcyon goal of cutting operating cost and improving margin, not for the benefit of their customers, but so Wall Street would speak kindly of them.
“The largest problem the industry is facing isn't profitability now, but rather how it can build sustainable growth and profitability in the long term... something Wall Street cares nothing about, but ultimately the industry must.”
McLaughlin quotes Surface Transportation Board (STB) Chairman Martin Oberman that “farmers, shippers, government officials, and rail experts during the hearings highlighted ‘grave concerns’ for the American economy.”
Oberman said, “… the evidence produced at last week's hearing is overwhelming that the railroads' longstanding practice of reducing operating ratios by cutting employment levels, mothballing locomotives, and eliminating other essential resources are the central reasons why farmers have been hours away from depopulating herds (killing cattle and burying them), manufacturing facilities have reduced operating hours, and shippers cannot get their products to market on time or receive essential raw materials for their companies.
“These failures are harming the nation's economy and, in my view, are contributing to the inflationary forces affecting food and fuel in particular.”
Oh, by the way, these shortages of service self-induced by railroads also allow them to raise prices. Now, that’s not wrong. It’s just capitalism.
Do you see the influence of Jack Welch here?
Sure, profit is a good thing, as is cutting waste, and capitalism has done more than any other system to raise the standard of living world-wide and especially here in America.
But it also can result in a certain amount of chaos that displays itself in out-of-control inflation, or inflation controlled by penalizing the poor and middle class with job cuts and higher prices for food and fuel, people who for the most part did not participate in the gains realized from higher “margins.”
I went to business school in the early 2000s, and there was nothing like that. We did talk about Welch, of course, but not as any kind of hero - just an example with plusses and minuses. People tend to think of B-Schools as places where normal people are perverted into sociopaths, but it's not the case. They teach (or try to) good, solid, defensible practices. The sociopaths who come out of business school (and I knew a few of them) were that way when they went in - and they went in to learn to hone their sociopathy to a razor's edge. One key benefit I got from B-Skool was learning to ID those people and avoid them.
But the rest of this is spot on. Capitalism as we practice it carries perverse incentives - one being that a company that ignored Wall St. and planned for long-term stability that was sustainable would be sued by someone who would see it, buy stock, and then sue because the management was negligent in its fiduciary duty to maximize shareholder value in the immediate term.
The "inflation" we see today is not classic inflation - it's simply raising prices past what the market will bear and finding out just how much you can gouge people for before your profit starts to fall again. There is *no* true sense of community in America today - there are those grabbing all the money they can and stuffing it into a flight bag a la the unlamented ex-President of Afghanistan, and those standing around wondering what's happening and coming to the conclusion that it must somehow be Joe Biden's fault.