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ORGANIC
GROWTH -
LESSONS FROM MARKET LEADERS
Introduction
The Enron case motivated me in 2002 to begin
researching the prevalence of earnings created through accounting
elections, related party transactions, and structured financial
engineering. This research took me through the fields of earnings
quality and earnings management to the relatively sparse field
of organic growth.
In 2002, organic growth was not a focus of
business managers or academics, who generally viewed organic growth
in the negative: as nonacquisitive growth. Now, five years later,
many companies have organic growth strategies, make organic growth
financial disclosures, and organic growth has been the featured
topic in business magazine articles.
In the last five years, I have learned that:
(1) there is no commonly accepted definition of organic growth;
(2) there is no commonly accepted way to measure it; (3) in consistently
high organic growth companies, organic growth is more than a strategy,
it is a system; and (4) consistently high organic growth companies
manage a diversified portfolio of growth initiatives both to create
new streams of income to replicate over a large customer base
and to leverage their core operating competencies.
The purpose of this article is to discuss
three of my findings with respect to consistently high organic
growth.
- Organic growth can result from three different
types of corporate initiatives.
- Organic growth systems are seamless, self-reinforcing
systems linking strategy, culture, structure, execution processes,
HR policies, accountability, and measurement and reward policies.
- The goal of organic growth systems is to
produce "replicution" (executable replication strategies)
streams of income and/or to leverage core operating competencies.
I will use examples from some of the companies
I studied, and in particular, I will focus on four of the top
market leaders, UPS, SYSCO, Best Buy, and Home Depot, whose stories
illustrate well my three key points, both from the perspective
of what has worked and what has not worked.
- The Three Prongs of Organic Growth
Organic growth can be defined as growth "the
old fashioned way." By that I mean adding new customers,
new products, new services, selling more to existing customers,
and achieving margin-enhancing operating efficiencies.
Organic growth is not earnings created by
accounting elections, valuations, classifications, related party
transactions, investment income, financial or structured financial
transactions, currency gains, hedging income, nor the serial acquisition
of income.
Organic growth does not however, mean the
absence of acquisitions, as high organic growth companies do make
acquisitions; it is a question of the relative acquisition size
and the strategic purpose. Such acquisitions generally are small
in relative size to the acquirer, and there is a specific strategic
purpose other than industry consolidation, cost synergies, or
buying revenue to make earnings. Such acquisitions either establish
new geographic footholds, new customer segments, or add new technology,
products, or services that can be leveraged through the acquiring
company’s much larger customer base.
High organic companies proactively and simultaneously
manage a portfolio of initiatives involving: (1) top-line growth,
(2) bottom-line growth through operating efficiencies, and (3)
new growth concepts that can be scaled. Underlying most of these
initiatives are an iterative incremental improvement mentality—not
the search for or creation of big "wow" innovations.
Companies can have as many as 20–30 such initiatives
going on at any given time. These types of portfolios can be found
in companies such as American Eagle Outfitters, Walgreens, SYSCO,
TSYS, Tiffany & Company, Stryker, UPS, Best Buy, Wal-Mart,
PACCAR, and Harley-Davidson,
When you chart company growth initiatives
over time, you discover that most companies go through the same
general type of initiatives in the same sequence. These companies
take the following steps:
(1) First growing geographically—domestically
and then internationally
(2) Then adding complimentary products
for existing customers
(3) Next entering new customer segments
(4) Then adding complimentary services
for existing customers and looking to sell those services
to new customers
Once those top-line initiatives are underway,
the focus turns to bottom-line cost efficiencies and productivity.
In doing so, these companies continue taking the steps in this
sequence:
(5) Focusing on supply chains
(6) Concentrating on logistics and distribution
systems
(7) Focusing on manufacturing or operations
(8) Improving customer management
(9) Revising measurement systems
(10) Implementing better HR hiring,
training, promoting processes, etc.
After focusing on bottom-line efficiencies,
companies continue to follow these steps:
(11) Creating new concepts based on core competencies
(12) Redefining business models for a larger
market space
Once a company goes through the entire sequence,
it either restarts the sequence or undertakes annual initiatives
in many of the areas simultaneously.
SYSCO is a good example of a company that
utilizes this three-prong approach to organic growth. As the market-leading
distributor of food and food-related products and services to
the restaurant and food-service industry, SYSCO generates $32
billion of revenue by selling over 300,000 products to more than
400,000 customers, most on a daily basis from its base in Houston.
Texas. The company operates through 137 separate business units
and employs over 49,000 employees. For the past twenty years,
it has produced a sales CAGR of 12% and a net earnings CAGR of
14%—an impressive feat in a low-margin industry.
SYSCO’s growth has resulted from geographical
expansion, product expansion, adding customer services, adding
new customer segments, operating efficiencies, breaking operating
units into smaller more entrepreneurial units, and strategic acquisitions.
The engine behind SYSCO’s operating efficiencies
is its technology platforms. SYSCO built its own technology platform
in 1995, and with it has iterated operating efficiencies through
its supply, logistics, and distribution chains, which have generated
margin improvements.
Tiffany & Company also uses a three-prong-growth-initiative
strategy. Tiffany is the leading luxury jewelry brand in the United
States and ranks second in the world. The company operates through
167 locations globally and generates over $2.6 billion in revenue.
Its growth strategy has been a combination of top-line and bottom-line
initiatives. First, Tiffany expanded geographically. Next, it
introduced new products annually across its jewelry lines and
then moved to capture value along the jewelry supply chain by
vertically integrating its diamond business. Then, it added new
distribution channels and more designer jewelry. Finally, Tiffany
created IRIDESSE, its new pearl jewelry store chain, which it
is now scaling.
Best Buy is the leading electronics retailer
in the United States with an 18% market share. It generates $31
billion in revenue through 941 stores. Best Buy first grew by
geographic expansion; then by product expansion. It then moved
to bottom-line cost efficiencies through an extensive technology
initiative. Next, it made small acquisitions to acquire services
and new market segments with Geek Squad, Magnolia Hi-Fi Buys,
and Pacific Sales Kitchen & Bath Centers. Recently, it has
moved into creating privately branded complimentary products and
entering China with an acquisition and the opening of the first
Best Buy store located there.
Best Buy—through technology—has created material
margin-enhancing operating efficiencies in its value chain by
moving from supply chain to distribution, inventory management,
store operations, and now to customer segmentation, data mining,
and HR processes.
Even with all those initiatives, Best Buy
is also testing three new focused store concepts and formats and
looking to create its own entertainment content.
When you study high organic
growth companies like Best Buy, you see some interesting consistencies:
- Technology is mission critical. These
companies move to process engineer their entire value chains
for operating efficiencies through technology. These efficiencies
can translate into additional bottom-line margin of up to
4%, allowing these companies to move into lower margin customer
segments or to invest in their people (e.g., Best Buy, Tiffany,
Wal-Mart, Walgreens, PACCAR, American Eagle Outfitters, Harley-Davidson);
- The movement to push "ownership"
of the customer and growth initiatives to smaller units in
the field (e.g., Best Buy, American Eagle, Stryker, Bed Bath
& Beyond, SYSCO);
- The broad movement into complimentary
products and services for the customer base (e.g., Best Buy,
Harley-Davidson, Omnicom, PACCAR, Stryker, SYSCO, and UPS);
and
- The movement toward becoming a solutions
provider (e.g., SYSCO, UPS, Best Buy).
Summary
High organic growth companies grow through
three different types of growth initiatives and generally undertake
growth initiatives in similar sequences resulting in multiple
initiatives focused on top-line growth, bottom-line growth and
new concept initiatives.
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GROWTH INITIATIVES
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Company
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Geographical Expansion
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Product
Expansions
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New Customer Segment
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Technology Driven
Operating Efficiencies
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Spin-Offs
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Strategic Acquisitions
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New
Concepts
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American Eagle
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ADP
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Best Buy
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UPS
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Outback
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SYSCO
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Tiffany
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Stryker
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Walgreen
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TSYS
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Wal-Mart
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(2) Organic Growth Is More Than a Strategy—It
Is a System
Growth has generally been the domain of
corporate strategists, senior management, and management consultants.
In consistently high organic growth companies, growth is more
than a strategy—it is a system, involving managers across domains.
First, good growth companies are great execution
companies, and to be a great execution company you usually are
a great employee company with high employee engagement. Secondly,
for a growth strategy to be executed well all parts of the company
need to be aligned and managed to send consistent messages that
drive growth-producing behaviors.
Line employees are ultimately the ones who
execute growth strategies. Managers must dissect these strategies
down to what specific behaviors are desired, measured, and rewarded.
Consistently high organic growth companies have over time iterated
to create an internal consistent seamless system-linking strategy,
structure, culture, execution processes, HR policies, accountability,
and measurement and reward policies together in a self-reinforcing
manner.
The creation of such a system is both an
art and a science. The science part is the engineering process
of strategy—the drilling down to desired employee behaviors
that execute specific growth initiatives and the creating of
consistent domain policies to drive the desired behaviors.
The art part is managing the inherent tensions
in a growth system between the need for both centralized controls
and decentralized entrepreneurial structures, and the tensions
between high employee accountability and high employee engagement.
To be successful, these holistic growth systems require (a)
a maniacal sensitivity to inconsistency of messages and unintended
consequences and (b) a paranoiac vigilance against complacency,
hypocrisy, and hubris.
When I studied SYSCO, Wal-Mart, Best Buy,
UPS, American Eagle Outfitters, Stryker, Tiffany, TSYS, PACCAR,
NVR, Waters, Gentex, Harley-Davidson, Walgreens, and ADP, I
did not discover brilliant strategies or visionary leaders.
What I did find were leaders immersed in the details of their
businesses who were at heart operators and not financial engineers
or manipulators of assets. I found people who still remember
what it is like to be an employee and leaders who are like "farmers"—into
the daily hard work of tilling the corporate soil, pulling weeds,
planting new plants, and harvesting crops.
Interestingly, in studying these high organic
growth companies, I found different kinds of cultures. Some
were customer-centric; some were employee-centric; some were
growth-centric; some were product-centric; and some were brand-centric.
It did not seem to matter as long as their systems were aligned
to send consistent messages that enabled and promoted the desired
growth-producing behaviors.
Irrespective of the culture, every company
had underlying "be better" DNA. This "be better"
focus was the underpinning of every growth initiative whether
it was top-line, bottom-line, or new concepts. Iterative improvement
was expected.
Communication was also critical. Communications
have to be concise, clear, and capable of being understood and
internalized by line employees. Other interesting consistencies
across the companies were the following:
- Focus on measuring behaviors and not
just financial results
- High employee engagement, retention,
productivity, and stock ownership
- Promotion from within policies
- Relatively stable and highly transparent
measurement and reward policies engendering trust in the system
- One set of rules for management and employees
with the devaluation of elitist perks
- Positive learning environments instead
of environments of fear, vicious politics, or autocratic patriarchy
Employees were able to focus on the task
of being better daily because they generally believed in the
system: that if they worked hard and performed they would be
treated fairly and have the opportunity to advance.
A Growth Strategy Must Be Executed
John Brown, the chairman of Stryker Corporation,
who as CEO led a team that took a business with $13 million in
sales to over $4.3 billion in sales, said it best: "A ‘B’
strategy executed well will win every time over an ‘A’ strategy
executed poorly."
Stryker’s story is an interesting one. The
company’s strategy, culture, and mission for more than 25 years
are embedded in the four words: "Annual growth of 20%."
To promote this, Brown decentralized his company by continuously
breaking it down into smaller entrepreneurial units .The company
value system was, likewise, simple, clear, direct, and understandable:
"Do not lie, cheat, or steal to accomplish the result."
And Stryker did produce results—better than 20% compounded annual
growth for over 20 years.
Three other examples of the power of this
systems approach to growth are UPS, Best Buy, and Home Depot.
The UPS and Home Depot stories show how the power of an existing
system can hinder growth, and the Best Buy story shows the interrelationship
of the different parts of the system.
UPS is a leader in the package delivery industry—a
consistently high organic grower. In 1998, it redefined its business
model to "Synchronized Commerce." UPS operates in more
than 200 countries, employs over 428,000 employees, and generates
over $47 billion in revenue. Its strengths historically have been
its culture and the "UPS Way" of doing things—an engineering
process mentality.
UPS wanted to change its business model from
package-delivery service provider to solutions provider all along
the chain of commerce. A solutions provider is more like a consultant
than a deliverer of packages—a major change. The motivation behind
the change was to move from a $90-billion market space to a much
bigger $3.2-trillion market space. If you are going to redefine
or reframe your business model or your market space, you should
review whether your existing system—culture, structure, leadership
model, HR policies, etc.—supports or hinders your desired change
and whether corresponding enabling changes have to be made.
To implement its new model, UPS made approximately
30 strategic acquisitions acquiring the skills and necessary product
components to deliver a complete solution. Nine years later, UPS’s
new model has not been as big a success as expected. The adoption
of its new model has, in my opinion, been made more difficult
because of the UPS system—its culture and the UPS way of doing
business. UPS’s historical strengths in this instance may have
become its weaknesses. The UPS culture is egalitarian and team
oriented. It devalues individual stars. . To scale its new model,
UPS had to violate its sacrosanct promotion-from-within policy
and hire or acquire many people. And to implement it, UPS had
to sell to different internal corporate buyers.
Best Buy tired a different approach in 2005
when it adopted its new "Customer Centricity" business
model. Likewise, this new model was intended to make solutions
providers of Best Buy store employees and not just product sellers.
Best Buy was a highly centralized top-down
business with a strong sales culture, and it worked on the presumption
that headquarters knew best. The company then designed and tested
a new model in a few stores in California. It sent senior executives
from headquarters to work in these stores for extended periods
of time in order to learn how to teach and to live the new model
with employees. What did they learn?
As a result of these tests, Best Buy learned
that it had to decentralize its structure to a store-business-unit
model, change its culture, change its leadership model, change
how it measured store managers, and devise a new employee-training
program. The change in business model required consistent corresponding
changes all across the system.
Best Buy did change its culture and its leadership
model. Its culture is now defined by the statement, "Our
Customers are Kings and Queens; our Employees are Royalty; and
our headquarters people are Servants." And its leadership
model was changed to a servant-leadership model. To align executive
compensation with this new leadership model, a portion of each
year’s stock-option grant was made dependent on servant-leadership
behavior.
Home Depot is another interesting story. This
company is the largest home-improvement retailer in the world
with over 2400 stores generating $91 billion in revenue. From
1979 until 1997, founder Bernie Marcus was the CEO growing Home
Depot primarily by geographic expansion. In 1997, Arthur Blank,
a co-founder, became CEO, and he initiated several growth initiatives:
(1) testing a new neighborhood store concept to compete against
True Value and Ace Hardware; (2) international expansion to Chile
and Argentina; (3) direct mail and telephone ordering; (4) market
expansion of the professional builders segment; and (5) opening
Expo Design Centers. During Blank’s tenure, the number of stores
grew nearly 50%.
Home Depot under Marcus and Blank operated
in a very entrepreneurial and decentralized manner with lots of
autonomy and control given to store managers and divisional leadership.
Home Depot’s culture was a rah-rah "bleed orange" team
culture with both customer-centric and employee-centric promotion
from within and encouragement of all employees (Associates) to
acquire stock through a guaranteed "no-loss" stock buyback
program.
Many store employees came from home improvement
backgrounds and were taught to teach customers how to make home
improvements and give customers the right solutions instead of
just pushing the products.
In 2000, Bob Nardelli was made CEO of Home
Depot after not being chosen as Jack Welch’s successor at General
Electric. Nardelli had no retail experience and, in fact, was
the first executive with no retail experience to be the CEO of
a nonfood retailer. He immediately focused on bottom-line operating
efficiencies as his growth initiative moving quickly to install
controls, processes, and technology to create the margin-enhancing
efficiencies that Home Depot needed. In addition, Nardelli made
corresponding changes to Home Depot’s structure, culture, HR policies,
and leadership team. In his first six months, he attempted to
drastically change the Home Depot system resulting in the departure
of 29 of the top 34 executives.
Nardelli continued to open new stores growing
the number from 1331 to 2147, and significantly expanding the
wholesale business with a major $3.5-billion acquisition. And
he added the rendering of home improvement services to the Home
Depot repertoire by acquiring service companies. Nardelli sold
the Home Depot Chilean and Argentine operations but expanded the
business to Mexico and China. But because nearly 50% of the store
managers left in reaction to Nardelli’s changes, the number of
part-time employees increased and, as a result, customer service
declined. When Nardelli resigned in January 2007, he left Home
Depot stock selling for a lower price that when he arrived although
he increased revenue from $53 billion to $91 billion.
Although, Nardelli did implement organic growth
strategies, the difficulty was that at the same time he tried
to completely remake the entire Home Depot system based on his
experience at General Electric. The power of the legacy system
is a lesson to learn from both UPS and Home Depot. Summary
Growth is more than just strategy. It has
to be executed by line employees. Execution requires a systems
approach aligning growth strategies with culture, structure, execution
processes, HR policies, accountability, and measurement and reward
policies.
(3) Organic Growth Systems: Two Objectives
Organic growth systems should have two over-riding
objectives: (1) to create new income streams that can be replicated
quickly and efficiently across a large distribution or customer
base; and (2) to leverage core operating competencies into new
income streams or new cost efficiencies. These two goals should
determine or drive what growth initiatives are undertaken along
the three-prong approach to organic growth. Success or failure
of top-line, bottom-line, and new concept growth initiatives
are judged by their ability to be scaled or leveraged from "streams"
into "rivers" of income or margin improvement.
New streams of income can be derived from
new products, complimentary products, add-ons, services, new
customer segments, geographical expansion, or new concepts.
Streams become rivers through large-scale replication. The ability
to execute replication efficiently and quickly is a significant
core competency that I call "replicution."
Not all growth initiatives work or work
well enough. So, both a portfolio and experimental mentality
should underlie managing the three-prong-growth initiatives
process. These initiatives also have to be managed along a time
continuum to produce a phased pipeline of growth initiatives.
Look at Best Buy’s growth portfolio. It
is expanding into China; it is creating branded complimentary
products; it acquired new service and customer segments with
the Geek Squad and Magnolia Hi-Fi that it is scaling through
Best Buy stores; it has moved into appliance and kitchen products
with an acquisition, and it is testing three new retail concepts.
American Eagle Outfitters is another good
example of organic growth The company operates 911 retail stores
and generates $2.8 billion in revenue. American Eagle grew first
through geographical expansion. Then it turned to technology
to increase operating efficiencies and productivity in its supply,
logistics, and distribution chains. Next, it built a world-class
in-house technology group of 70 people that it imbedded into
each operating function. Now American Eagle is leveraging its
core customer base of 15-to-25-year-olds with the opening of
its teen lingerie/sleepwear store chain called Aerie, which
it hopes to grow to more than 300 new stores by 2012 and leveraging
its core competencies to enter the 25- to 40-year-old customer
segment with a new chain, Martin & OSA.
SYSCO is a master of the replication and
leveraging process. The company makes deliveries every day to
more than 360,000 customers. What if SYSCO was able to put one
more case on each truck for each customer each day? Think of
the margin impact. That is what has been driving much of the
company’s initiatives.
Harley-Davidson leveraged clothing, financing,
and branded toys across its customer base. Wal-Mart leveraged
groceries, gasoline, computers, and then financial services
across its customer base. ADP took its core back-office products
and leveraged them in different industries. Then it added front-office
products to leverage through its existing customers. TSYS likewise
expanded its servicing expertise with customer relationships
for its financial service client base and now is moving its
competencies into another major industry.
The goal of organic growth systems is to
create new, scalable streams of income or cost efficiencies.
Conclusion
Consistently high organic growth companies
have built a seamless, linked, self-reinforcing growth system
that links their growth strategy to their culture, structure,
execution processes, HR policies, accountability, and measurement
and reward policies. These systems have two primary purposes:
to generate new streams of revenue that can be replicated through
a customer base and to leverage core competencies into new revenue
streams or margin improvements. Additionally these companies manage
a diversified portfolio of growth initiatives along a three-prong
approach: top-line initiatives, bottom-line initiatives, and new
concepts.
Author
Professor
Edward D. Hess is a full-time Adjunct Professor of Organization
and Management, and Founder and Executive Director of both the
Center for Entrepreneurship and Corporate Growth and the Value-Based
Leadership Institute at Goizuetta Business School at Emory University.
He is the author of five books, over 40 articles, and is a frequent
speaker. His three most recent books are The Successful Family
Business: A Proactive Plan for Managing the Family and the Business
(Praeger, 2005); Leading with Values: Positivity, Virtue and High
Performance, Hess and Cameron, Eds. (Cambridge University Press,
2006); and The Road to Organic Growth: How Great Companies Consistently
Grow Marketshare from Within (McGraw-Hill, 2006. Professor Hess
has an active family business consulting practice. His resume
and other publications can be found at www.EDHLTD.com. He can
be reached at Edward_Hess@bus.emory.edu or 404-727-4891.
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Copyright © 2007
