ORIGINS AND METHODS OF THE MASTER CYCLIST PROJECT

It is no coincidence that Always a Winner! shares the same premise of superior financial performance with Good to Great. After reading Collins’s book when it first came out, I and so many others were greatly impressed with Collins’s insight and his compelling stories of great companies with sustainable superior performance. I was also impressed with both the research methods and the overarching question that Collins was seeking to answer: Why do some companies consistently outperform their rivals?

In fact, I had started the Master Cyclist Project at the University of California-Irvine just months before Good to Great was published to answer that very same question, albeit in the very different context of strategic management of the business cycle. After reading Good to Great, I was inspired to use a very similar research methodology. To that end, I assembled a large army of MBA students and immediately began an extensive set of case study analyses. Our initial Phase One goal was to identify the most effective strategies and tactics that could be applied over the course of the business cycle to improve financial performance.

In Phase Two, we conducted a supplementary set of more intensive case studies to identify those characteristics that separate Master Cyclist organizations that skillfully and proactively strategically manage the business cycle from Reactive Cyclist organizations that merely react, often far too late, to changing economic conditions. It was in this phase of the study that we identified the key characteristics of a successful Master Cyclist organization and its leaders. As noted earlier, these characteristics range from a strong business cycle orientation and an executive team with a high degree of economic and financial market literacy to a business-cycle-sensitive organizational structure and culture.

In Phase Three, we moved beyond individual case study analyses to a more rigorous statistical test of our hypothesized association between superior financial performance and skillful management of the business cycle. In this critical phase, we compared the stock price performance of 70 companies sorted into 35 “matched pair” rivals representing 35 subindustries in the Standard & Poor’s (S&P) 500 Index over a five-year period going into and out of the March 2001 recession.

We chose the S&P 500 because it covers roughly three-quarters of U.S. corporations by market capitalization. Each matched pair of rivals in the sample consisted of a high- versus low-performing company in the industries and subindustries that make up the S&P 500—from aerospace, autos, and electronics to pharmaceuticals, railroads, and tires.

For example, one matched pair included the high-performing Walgreens versus the low-performing CVS. Another matched pair featured the high-performing Best Buy versus the low-performing Circuit City.

We chose the five-year period between February 1999 and December 2003 because it allowed us to compare how the rival companies in each matched pair first prepared for the onset of the 2001 recession by applying—or failing to apply—each of the Master Cyclist principles of strategic business cycle management identified in Phase One of the project. By extending the observation period two years after the recession ended, we were then able to measure the effects of the application of the various Master Cyclist principles on stock price performance.

In conducting this matched pair comparison, our working hypothesis was this: High-performing companies would implement strategic business cycle management principles more frequently than their low-performing rivals. In addition, low-performing companies would be more likely to exhibit Reactive Cyclist behaviors contrary to sound business cycle management principles; for example, while a high-performing Master Cyclist organization would countercyclically increase advertising during the recession, a low-performing Reactive Cyclist organization would cut advertising expenditures.

In fact, our study results provided strong support for this hypothesis. The overwhelming majority of high-performing companies were indeed much better at applying Master Cyclist principles than their low-performing Reactive Cyclist rivals. In this way, our study results established a very clear and strong statistical association between organizational performance and strategic business cycle management.

WHY ALWAYS A WINNER ORGANIZATIONS MUST BE MASTER CYCLISTS

Exhibit 2.1 illustrates how the Master Cyclist organizations in our sample dramatically outperformed their Reactive Cyclist rivals in terms of stock price performance and annualized returns. Specifically, this exhibit charts the growth—or lack thereof—of three separate $1 million investments from the start of our study period in February 1999, through the 2001 recession, and to the end of that period in December 2003.

The growth path of the first investment of $1 million illustrated in the exhibit is an investment in the market benchmark the S&P 500 represented by the popular exchange-traded fund with the ticker symbol SPY. The S&P growth path is represented by the middle line in the exhibit. Holding this broad market index through the period would have shaved about $70,000 off your initial investment and yielded a negative annualized return of 1.4%. Of course, that is what recessions do: They make it very hard to earn money in the stock market using a traditional buy-and-hold approach.

Exhibit 2.1 The Superior Performance of Master Cyclist Organizations

In contrast, if you had invested $1 million in a mutual fund comprised of the Reactive Cyclist companies, your investment would have lost more than 5% of its value on an annualized basis and been worth a mere $715,367 by the end period. This negative growth path—and loss of over $250,000—is represented by the lower line in the exhibit. It graphically underscores the point that recessions can be far more injurious to a company’s bottom line than any 10 competitors.

Finally, if you had alternatively invested your $1 million in a mutual fund of the Master Cyclist companies at the start of the period, you would have earned a very robust annualized return of 23% right through the recession, and your portfolio would have been worth $2.1 million by the end of the December 2003. To borrow a phrase from Jim Collins, “You just gotta know how they did that.”

WHAT JIM COLLINS MISSED

Now, here’s the irony in basing the methods of the Master Cyclist Project on those of Good to Great: The superior stock price performance of the Master Cyclist companies clearly indicates that Collins missed a very important factor when he failed to identify the robust performance effects of strategic business cycle management. In some sense, this is a forgivable sin. The study period that Collins used to gauge firm performance overlapped with one of the longest and most robust economic expansions in U.S. history—the roaring 1990s. During that time, the need for strategic business cycle management and any attendant recession-proofing of one’s organization was extremely low.

The failure of Collins to consider the effects of business cycle turbulence on financial performance is underscored by the spectacular collapse of several of his Good to Great companies during the 2008 crash. The poster child for this problem has to be Fannie Mae, which saw its stock price plummet from more than $80 per share to less than a buck. In fact, Fannie Mae would no longer exist if it were not for a massive bailout from the federal government.

A second Good to Great company, Circuit City, provides a very interesting nexus between the sample of companies that Collins used in his book and the sample used in the Master Cyclist Project study. In particular, while Collins has Circuit City on the superior performance side of his ledger, our Master Cyclist research shows that the now-bankrupt Circuit City has played the business cycle management fool to a key rival and far more astute business cycle manager, Best Buy. Of course, the way to reconcile these two radically different assessments of Circuit City is simply to note that Collins found Circuit City to be a Good to Great company prior to the advent of the 2001 recession, and his study failed to anticipate that the vaunted Circuit City executive team would be an abysmal failure at recession-proofing the company.

Likewise, our research team found a third Good to Great company, Kimberly-Clark, on the other side of the performance ledger from Collins. The case analysis of this company has yielded one of the most interesting stories in the entire Master Cyclist Project. This is a story about how to price the business cycle exactly wrong.¹

As explained in Chapter 19, the second worst thing a company can do in the middle of a recession is to raise its prices. However, the worst thing a company can do is try to hide those price hikes. Unfortunately, Kimberly-Clark’s executive team tried to do just that.

In particular, during the 2001 recession, Kimberly-Clark tried to sneak a price hike on unsuspecting moms by reducing the product count in each package of its popular Huggies brand diapers. In a swift, tactical, Master Cyclist response, Kimberly-Clark’s chief rival, Procter & Gamble, immediately cut prices on its competing Pampers brand and exposed Kimberly-Clark’s deception in a massive ad campaign. The result was a considerable loss of both face and market share for Kimberly-Clark.

The point of these comparisons is not that Collins’s work was bad or wrong. The organizational characteristics and leadership qualities that Collins identified in his research certainly do play a very important role in corporate performance. Rather, the point is that Collins missed a very important factor in not considering how companies strategically manage the business cycle as an element of performance. In doing so, he left his Good to Great companies vulnerable to the vagaries of recession and his conclusions open to failing the test of time.

The much broader point to be gleaned from the research of the Master Cyclist Project is this: To always be a winner, every organization should learn how to strategically manage the business cycle for at least two reasons. The first is a matter of defense and survival: The principles and practices of Master Cyclist management can teach any executive team how to recession-proof its organization in today’s turbulent times—and thereby always be a winner.

The second reason to learn how to strategically manage the business cycle is a matter of sound offensive strategy. Recessions are often the very best times to attack one’s rivals and seize both market share and the strategic high ground.

If, paraphrasing the words of Jim Collins leading off this chapter, your organization “consciously applies the framework of ideas” developed in the course of the Master Cyclist Project, it will “substantially improve its stature and performance” and “perhaps even become great.”

Good to Great versus Always a Winner Organizations

CHAPTER 3

What Are the Three Steps to Becoming an Always a Winner Organization?

Recessions teach companies to be prepared even during the good times, because a recession is like a battle—when you’re in it, it’s almost too late to start training for it. If you’re not prepared for it, you will pay for it.

—Leonard Jaskol, former Chairman and CEO, Lydall, Inc.

Corporate profits are highly correlated with business cycle movements. According to more than 60 years of data for the U.S. economy, profits tend to rise fairly steadily during economic expansions and then fall very sharply during recessions. Moreover, this relationship holds true for almost 70% of all corporate activity.

The statistical fact that most companies suffer falling profits during recessions further reinforces the point that the business cycle can be far more destructive to a firm’s bottom line than any 10 competitors. This observation alone should be enough motivation for every executive team in the world to pay far more attention both to forecasting the business cycle and to strategically managing its movements and key turning points.

The fact that at least some companies are able to maintain robust profitability during recessions likewise provides hope that there exists a set of strategies and tactics and a broader management method that allows these companies to “always be winners” over the entire course of the business cycle. This set of strategies and tactics and a broader three-step strategic business cycle management method is illustrated in Exhibit 3.1.

Exhibit 3.1 Master Cyclist Superior Performance Triangle

This exhibit illustrates that in order to always be a winner, your organization must become a Master Business Cycle Manager by following these three steps:

Step One. Develop and deploy strong forecasting capabilities to anticipate movements and key turning points in the business cycle and effectively disseminate that forecasting information to key decision makers.

Step Two. Apply well-timed business cycle management strategies and tactics across the functional areas of your organization in a synergistic and integrative fashion in response to your forecasting data.

Step Three. Over the longer term, build your organization with a strong business cycle management orientation, an executive team with a high degree of economic and financial market literacy, and an organizational structure and culture that strongly support and facilitate all strategic business cycle management activities.

By following Steps 1 through 3, your organization will not only recession-proof itself when the business cycle comes crashing down, it will also gain a competitive advantage over its rivals while minimizing costs, maximizing profits, and increasing market share. In this way your organization will achieve superior financial performance and always be a winner over the entire course of the business cycle.

STEP ONE: DEVELOPING AND DEPLOYING A STRONG FORECASTING CAPABILITY

In order to anticipate movements and key turning points in the business cycle, your organization obviously must first develop and deploy a very strong forecasting capability. In this task, it is essential that your executive team move beyond any traditional reliance on either in-house computer forecasting models or outside subscription forecasting services. While such forecasting resources can be quite valuable in guiding your organization, the task of forecasting the business cycle cannot simply be delegated to some distant shop of economists. Instead, one of the cornerstone lessons of this book is this:

Every business executive must learn to become an astute business cycle forecaster!

To this end, in the process of training thousands of executive MBA students and corporate executives, I have developed a relatively simple but extremely powerful method of forecasting the business cycle that every would-be strategic business cycle manager can wholeheartedly embrace. As I shall explain in more detail in the next part of this book, all this forecasting method requires is a working knowledge of a relatively small number of forecasting tools, such as the bond market’s yield curve and the gross domestic product (GDP) forecasting equation, and a disciplined commitment to applying these tools through a daily reading of the financial press. By using these tools, your executive team will never be caught by surprise by a recession again.

STEP TWO: APPLY WELL-TIMED BUSINESS CYCLE MANAGEMENT STRATEGIES

The Master Cyclist Project and its hundreds of case studies and statistical analyses of hundreds of corporations has revealed a comprehensive set of business cycle management strategies and tactics that can be applied over the course of the business cycle to gain competitive or sustainable advantage over your competitors. These Master Cyclist principles span the functional spectrum of the modern corporation—from production, inventory control, supply chain management, advertising and marketing, to human resources management, corporate finance, and acquisitions and divestitures. Each Master Cyclist strategy has been business cycle-tested by highly successful corporations both large and small around the world; and each has been shown to be very effective in enhancing financial performance.

In this regard, many of the Master Cyclist principles featured in this book are implemented countercyclically in the darkest days of a recession. Invariably, they encounter great resistance in Reactive Cyclist companies that lack a strong business cycle management orientation and the requisite skills to manage the business cycle.

For example, while most Reactive Cyclist companies cut advertising during a recession in a desperate effort to pinch pennies, the Master Cyclist organization countercyclically increases advertising to take advantage of lower advertising rates and less congestion in the advertising market. In this way, the Master Cyclist is able to cost-effectively build brand awareness while increasing market share and thereby garner a lot more revenue when the economy eventually turns.

The poster child and a classic example for building a brand through countercyclical advertising is Michael Dell and his brilliant countercyclical advertising coup d’état during the 1990-1991 recession. Seeking to build his fledgling company’s brand and thereby break into the ranks of the big boys at the time, Michael Dell increased his company’s advertising by more than 300% during the depths of that recession. Moreover, while Dell was radically ratcheting up his advertising budget, established players like Apple, IBM, and the now-dearly departed Digital were slashing their budgets by almost 20%. By seizing the recessionary day in this way, Dell was able to build both brand and market share and thereby set the stage for his company’s brilliant ascent during the 1990s.¹

In a similar fashion, while most Reactive Cyclist companies lay people off during recessions, the Master Cyclist human resources manager cherry picks from the much deeper recessionary labor pool to find highly talented staff at relatively lower costs. In this way, this well-timed human resources management strategy improves the quality of the overall organization.

An equally classic case in point is offered up by Avon’s cherry-picking on a grand scale during the 2001 recession. As the economy headed south in 2001, Avon’s executive team realized that this recession would result in “an ever larger pool of women”²