MGT 5531, Class 1
January, 2011


Course introduction
– Topics, readings
– Activities

Team Class Assignments

Ethics Revisited: Enron & Worldcom
–
–
What have we learned already?
Is there any more to learn?
• About how the world works?
• About how we think?
• About ourselves?


Topics
–
–
Thinking like a senior executive
Aligning:
• structure, strategy and environment
• people, purpose and culture
– Doing the right thing

Books
– Bolman & Deal, Reframing Organizations
– Collins, J. Beyond Entrepreneurship: Turning Your Business into an Enduring Great Company.
– Gallos, Business Leadership

Activities
– Class leadership
– Case memos
– Final paper

February 5
February 19
March 5
March 19
Team: T 3 Columbia
Philips/Matsushita Team:
Cypress Semiconductor
Big/small: Starbucks
Meg Whitman @ eBay
Paul Levy @ BDMC
GE’s Talent Machine: the
Making of a CEO
Zappos.com 2009
Team: Countdown
Team: Resilience
Team: Team One
Team:
Team: Carl
Team: Chhart


Multimedia and print cases. Basically, this tells a story about organizational change as viewed from the perspective of the change agent – in this case
Paul Levy, the new CEO of a large Boston teaching hospital that provided quality care but was going broke. The multimedia case includes substantial interview material with Levy, and assorted auxiliary material.


Written case and brief video. The written case is a big picture story of two firms – Philips in the
Netherlands, and Matsushita in Japan – who evolved to become global competitors. The case provides a multi-decade historical sweep of how each firm evolved its leadership, strategy, and structure. The video clip shows one of the
Philips CEOs talking to an executive class at
Harvard.


The case chronicles Zappos rise from dot com startup to the net’s dominant player in shoe retailing, with a particular emphasis on how the company manages people and culture. The case ends as Zappos faces the possibility of being acquired by Amazon.


Syllabus: questions, suggestions

Class leadership: decide on your preferences


Ron Dittemore – Space Shuttle Program Manager
 Linda Ham – Mission Manager

Don McCormack – Mission Evaluation Room Manager

Rodney Rocha – Debris Assessment Team Co-Chair,
NASA Engineer

Pamela Madera – Debris Assessment Team Co-Chair,
United Space Alliance Engineer
 Calvin Schomburg – Thermal Protection System expert,
NASA Engineer


What went wrong at Enron and
Worldcom?

Could it happen to you?

Realist/Contingency :
 Leader’s job is to do what’s necessary to achieve leader’s ends and move organization forward
 What’s necessary “all depends”
– In a crisis, tough, even tyrannical leadership may be necessary
Rushmorean
 Values-based

Respect followers: expressed through
“listening to them, faithfully representing them, pursuing their noblest aspirations, keep promises made to them, and never doing harm to them or their cause”


Which are you?
– Realist?
–
–
–
Rushmorean?
Some of each
A pretending to be B?

Which do you want to be?

Which do you think you need to be?

“If everyone will follow their own best instincts – do their own jobs ethically and legally – businesses and business people will be known for what the vast majority truly are: honest, productive, constructive, competent, and deserving of the country’s trust.
----Dick Thornburgh, Former U. S. Attorney
General

“
We’re going to make money without having to do anything but the right thing.”
--Andy Fastow, Chief Financial Officer, Enron
[Fastow was indicted in October, 2002, on 98 counts of conspiracy, fraud, money laundering, insider trading and other charges. In a plea bargain this month, he pleaded guilty to two counts of wire and securities fraud, in return for two five-year prison terms.]

 CEO Jeff Skilling describes Enron’s values







Skilling was described by subordinates as a
“Darth Vader” who created an environment of fear and cut-throat competition while turning a deaf ear to anyone who offered input he didn’t want to hear. “After Enron’s collapse in late
2001, one of the interviewers, Professor Robert
F. Bruner of the University of Virginia, said that
Skilling was ‘very smooth, very, very smooth.’
But, he added, it later became clear that Skilling was not doing what he said he was doing”
(Dewan, 2002, p. C7).


Born in merger of Houston Natural Gas and
Internorth (Omaha) – changed name to Enron

Ken Lay – born in Tyrone, Missouri, son of a
Baptist preacher, with a Ph.D. in economics, became Enron’s first CEO

Largest gas pipeline business in U.S.

Low-cost producer with economies of scale

Slow growth and cyclical profitability dependent on price of gas


What do you see ahead of you?

What options would you consider for where to take the company?

Would you
– Play it safe?
– Reach for the stars?

1985 2000
Revenue $10.2 billion $100 billion
Net income $125 million $979 million
Market cap $2 billion $96.0 billion


Gene Humphrey

Ken Lay

Jeff Skilling

Gene Humphreys, Ken Lay, Jeff
Skilling)

In the late 80s and early 90s, Enron was evolving in two distinct directions at once:

Merchant (Skilling): buying, selling, making markets
–
–
Exploit deregulation and overbuilt existing domestic infrastructure
“Asset light”

International (Rebecca Mark): big capital investments in energy assets (primarily abroad)
–
–
Power plant in India
Water in Latin America


Jeff Skilling


In September, 2001, a month before the collapse,
Enron came in at the 30 th position on Fortune
’s list of the 50 fastest growing companies – it was by far the largest company on the list

For six consecutive years through 2000, Enron was voted the most innovative of Fortune ’s
“most admired companies” – and it was duly hailed by analysts, reporters, and business school professors

PBS Interviewer: A general comment that I've heard about
Enron, and to a certain extent about you, [is] that you're very, very smart, very aggressive. You'll lay out your argument, "The rules in California are terrible," but then once you see what the rules are, you guys push those rules to the edge in an effort to make a buck.
Skilling: That's probably fair, yes. Once you set the rules to a marketplace, we adhere to the rules. If that's what you're saying, that's what we do.

 “Death Star” and “Load Shift” – create appearance of overload on the power grid, and then get paid to relieve the congestion

Buy capped power ($250 megawatt) in
California, sell it outside California (at up to
$1200 megawatt
 “Ricochet” – buy capped power in CA, sell it to
3 rd party, then buy it back and resell it in CA at a much higher market price

 “Mark to market”Accounting


Selling the dogs
– Sell underperforming assets to an “independent” partnership controlled by Fastow
– Partnership borrows the money from banks (or other financial institution)
– Enron books a profit on the sale and guarantees the loans
– Or: sell to a financial institution (e.g., power barges off Nigeria sold to Merrill Lynch) with a promise to buy back at a premium in 6 months

 “Pre-pay”
– Enron is paid up-front for promise of future delivery of gas or oil to an “independent entity” controlled by a lender, such as Chase’s “Mahonia”
–
–
–
Mahonia promises to deliver gas to Chase
Chase promises to deliver gas to Enron
No one has to deliver any gas, but Enron gets money now which it books as operating income, and the lender gets its money back later – along with a profit on its energy “sale”


Accrual releases

Capitalize line costs


Managers cope with complexity through:
– Planning and budgeting
– Organizing and staffing
– Controlling and problem-solving

Leaders cope with change through:
–
–
Setting a direction
Aligning people
– Motivating


Enron & Worlcom got a lot of help – from all the best people


Arthur Andersen, until the 1990s, a highly successful and respected gold standard in the accounting business “stamped its approval on the dirty books of Sunbeam, Waste Management,
Enron, Global Crossing, Qwest, and WorldCom.
The scandals that enveloped those corporations alone have cost investors more than $300 billion and have put tens of thousands of people out of work.” ( Business Week , August 12, 2002)

 1980: Andersen and other “Big 5” firms derived most of their income from auditing, where professional standards and ethics were central
 “Slowly, auditing went from being the soul of the firm to a loss leader used to attract and retain the consulting contracts. Just as the vast riches represented by stock options helped corrupt ethics at some corporations, consulting helped push Andersen and its rivals off course.”
( Business Week , August 12, 2002)

 “One of the most sordid aspects of the Enron scandal is the complicity of so many highly regarded Wall Street firms—a complicity that is stunningly documented in internal presentations and e-mails….They show banks helping Enron mask debt as cash flow from operations and create phony profits at the end of a quarter. They also show how almost all of them put money into Fastow's partnerships because of—not in spite of—their potential for abuse. Most of all, the documents show that the banks weren't merely enablers; they were truly Enron's partners in crime.” (McLean & Elkind, The Smartest Guys in the
Room: The Amazing Rise and Scandalous Fall of Enron)


J.P. Morgan, Citigroup, and Merrill Lynch originally cast themselves as Enron’s victims, but later admitted abetting fraud, paid a total of $366 million in fines, and promised internal reforms


The 1933 Glass-Steagall act mandated separation of banks, brokers, and insurers

The walls of separation gradually crumbled, particularly in the 1980s as the
Federal Reserve carved out growing loopholes

After repeated attempts, Glass-Steagall was finally repealed in 1999

 McKinsey & Co., “the high priest of high-level consulting” worked so closely with Enron that managing partner Rajat Gupta sent his chief lawyer down to Houston after Enron’s collapse to see if the consulting company might be in legal trouble. The lawyer reported that McKinsey was safe, and Gupta insisted bravely,” We stand by all the work we did. Beyond that, we can only empathize with the trouble they are going through. It’s a sad thing to see.” (
Business Week,
July 8, 2002)

 When Rajat Gupta became McKinsey’s managing partner in 1994, “some colleagues argued for keeping McKinsey small, to safeguard its culture and quality. Gupta was of another mind: He aggressively expanded abroad, opening up far-flung branches throughout Asia and
Eastern Europe. In all, he expanded McKinsey's network to 84 worldwide locations from 58, boosted the consulting staff to 7,700 from 2,900, and lifted revenues to $3.4 billion from $1.2 billion in 1993.” ( Business Week, July, 2002)

 “[Worldcom’s] board played far too small a role in the life, direction and culture of the company. The Audit
Committee did not engage to the extent necessary to understand and address the financial issues presented by this large and extremely complex business….The compensation committee dispensed extraordinarily generous awards without adequate attention to the incentives they created, and presided over enormous loans to Ebbers that we believe were antithetical to shareholder interests and unjustifiable on any basis.[Worldcom Special Investigative Committee.]

 Enron’s Board of Directors allowed the company “to engage in high risk accounting, inappropriate conflict of interest transactions, extensive, undisclosed off-the-books activity, and excessive executive compensation” and “was compromised by financial ties between the company and certain Board members.” (Report of U.S. Senate investigating committee, July, 2002)
 “In 2000, over several meetings, the board's compensation committee approved $750 million in cash bonuses to Enron executives [$253 million to top five] in a year when the Houston-based company reported net income of $975 million.” (
Business Week , July 29, 2002)


"Whatever else their failings, Enron's non-executive directors were as well qualified as almost any group of outsiders could have been to judge the regulatory and business risks which arose from the company's business.
That they failed to do so is testimony to the complexity of the monitoring task." “(Deakin and Konzelmann,
“Learning from Enron.” Centre for Business Research,
Cambridge University, 2003.)
 Yes, they’d been warned about high-risk accounting practices, and they’d voted to waive the ethics policy so
Andy Fastow could manage the off-books partnerships, but wasn’t that what made Enron successful: innovation, risk-taking, “new-economy?”


In September, 2001, a month before the collapse,
Enron came in at the 30 th position on Fortune
’s list of the 50 fastest growing companies – it was by far the largest company on the list

For six consecutive years through 2000, Enron was voted the most innovative of Fortune ’s
“most admired companies” – and it was duly hailed by analysts, reporters, and business school professors


Keeping the stock price high and rising was vital to both Enron and Worldcom – but as they grew, that became harder and harder
 “Enron is laser-focused on earnings per share and we expect to continue strong earnings performance.” (Enron Annual Report, 2000)
 Enron’s target was 15% growth year-over-year in
E.P.S

 CEOs and CFOs, at Enron, Worldcom and everywhere else, live in a world of turbulence and uncertainty, but they’re rewarded for providing steady growth (in Enron’s case, 15% a year, in Worldcom’s the 42% expense ratio)
 “ One bad quarterly earnings report these days and a company’s stock gets hammered. This quarterly vision practically forces senior managers to look for short-cuts that will inflate short-term results at the expense of longterm sustainability.” (David Batstone)
 Enron and Worldcom’s dilemma: they couldn’t afford to miss targets, but dug themselves into ever deeper financial holes in massaging the numbers

 Staying home is safe and we’re protected by the anchors of familiar people, surroundings, and expectations

But
..it’s also stultifying – it blocks learning, development, learning who we can become and what we can do


The frontier challenges us, forces us to learn, and breeds innovation

But
…we leave behind many of the social and ethical anchors that provide direction

The rules are often fuzzy, and there may be no sheriff in town

So …we’re thrown back on our individual or group moral compass (inculcated by family and culture) to guide us – if that fails, we’re in trouble

Jim Collins, Beyond
Entrepreneurship
Authenticity
Decisiveness
Focus
Personal touch
Hard/soft people skills
Communication
Ever forward
Bolman and Gallos, Reframing
Academic Leadership
Focus
Passion
Courage
Wisdom
Integrity


Is about change and possibility

So it requires willingness to innovate, create, take the risks of going to the frontier

But
, how do we know if we’re ready? Do we have the intellectual, personal and ethical capacities that tilt the odds in our favor?

 “Leadership is intertwined with culture formation, evolution, transformation, and destruction. Culture is created in the first instance by the actions of leaders; culture is also embedded and strengthened by leaders. When culture becomes dysfunctional, leadership is needed to help the group unlearn some of its cultural assumptions and learn new assumptions.
The leader of the future must be a perpetual learner.”

 “The person who lives his or her life in pursuit of success – be that measured by wealth, fame, or social status – will be sorely disenchanted with the pot of gold at the end of the rainbow. Success alone cannot satisfy our deepest longings for significance.”

A good company:

Motivated by strong sense of calling

Driven by deep sense of mission

Embraces subsidiarity

Sensitive to human dignity

Committed to stewardship of resources

Is attentive to the common good, justice, needs of the poor