5. When is a Company (or CEO) Focusing on The Long Term?
Are there metrics that would reveal this perspective?
A question analysts seldom ask, and that many CEOs would perhaps be unprepared to answer, is “What is the time horizon you are managing toward?” It would be interesting to compare the responses of executives to the actions and investments their companies are taking to see how well they match. Companies that have biased toward investment in efficiency innovation (seemingly most large companies!) would seem to be managing toward a very near-term horizon. Conversely, many companies that invest in the next wave of market-creating innovation come under criticism from the investor community. Of course, no CEO would admit that they weren’t focusing on the long term, so how can investors determine whether a company is maximizing its potential versus managing short-term performance? Are there metrics that exist or should be created to reveal the potential future outcomes of the company?
In BSSE, we devote several class sessions to exploring the proposition that the metrics we use most commonly to judge performance are “innovation killers”— ratios and time-based formulas that systematically discourage investment in long-term growth. Have you come across any performance metrics that provide a window into long-term performance?
I wonder if a diversified revenue stream is an indicator worth investigating. In company annual reports, one can find the revenue split between different divisions of the company (e.g. Corning’s 3-4-5 framework and its business segments: display technologies, environmental technologies, optical communications, life sciences, specialty materials). Would a wider, diversified spread of business segments be one sign of a company that’s open to exploring new markets and investing in market-creating innovations?
Nate, I think you are right that evaluating the evolution of the mix of revenue streams is critical to understanding whether a company is willing to invest revenue from “old ideas” into “new ideas” successfully. If an “old business” makes up a large percentage of a company’s revenue streams for a very long time, it is possibly the case that the company simply can’t find, or is unwilling to invest to try to find, new revenue streams. The risk, of course, is that old revenue streams eventually exhibit slowing growth or “stall points” to cite the book Derek Van Bever and Matthew Olson published in 2008, as these businesses become commoditized, face increasing competition, and are disrupted by others with better, faster, or cheaper products or services. So, it seems an unchanging revenue mix would, over time, signal a lack of a culture that supports long term investment, and possibly, vice versa.
Though it’s difficult to define an exact metric, I would look for signs that the company has the built the *capability* to create new businesses into its fundamental operations. Does the company have a division dedicated to testing new ideas, identifying new business models, and (most importantly) *scaling* those new businesses without crushing them under the wheels of the existing business? This is not just an “innovation lab” in San Francisco but rather a demonstrated ability to develop (or acquire and successfully integrate) completely new business lines. If I can find evidence of that, I would believe the company is investing successfully in the long term.
A CEO is focusing on future developments when right now is building his balance sheet and transforming into a fortress. The well known mantra of Jamie Dimon the fortress balance sheet.
Only then a company is set to face either potential investment opportunities that might arise or a potential crisis that hides itself near the corner, which it might eventually turn itself for a company with a fortress balance sheet to a potential investment opportunity.
Only by preparing yourself today for what future holds I believe, as a CEO you focus on the future and long term perspectives rather than short term developments.
I recently finished reading Lean Startup by Eric Ries, which includes innovation metrics like those used by Intuit. I thought these metrics actually serve as a decent proxy for long term focus, so I am recopying them here from an HBR article that includes similar enough ones ( https://hbr.org/2015/05/what-big-companies-get-wrong-about-innovation-metrics):
Revenue generated by new products
Number of projects in the innovation pipeline
Stage-gate specific metrics, i.e. projects moving from one stage to the next
P&L impact or other financial impact
Number of ideas generated
However, to this list, I would add metrics related to the speed at which bad ideas are killed based on data (not gut or financial analysis alone). As Innovator’s Dilemma discussed, most organizations typically have no shortage of ideas, but they do have a shortage on resources to execute and turn those ideas into viable businesses. That money generated shouldn’t be judged on the same token as the existing business–expecting a particular return, but rather just on new money generated in areas the company had not been in previously. I would also want to add some form of metric looking at percent growth of businesses that have been started within the past five years to ensure that what’s being created isn’t just receiving a novelty bump and truly extends into future business.
In addition to HBX, part of my commitment to learning the “business side” of American Airlines has been to listen or read transcripts of our quarterly conference calls. Some of what I learned may help answer the question.
Simply put, airlines “sell” short-term innovations as long-term ones. For example, AA recently unveiled a new pricing strategy where customers can select travel features that suit their needs and budgets. Now a customer can choose more legroom, early boarding, or the bare economy fare. During our last conference call, CEO Doug Parker stated, and I paraphrase, that our new revenue model will ensure long-term profitability for the foreseeable future.
Another inescapable fact is that airlines have to look very far into the future when they make investment decisions. They are faced with the difficult task of “reading the tea leaves” of future travel trends. As such, their investments are weighted towards efficiency innovations–we just took delivery of two Boeing 737MAX jets with more seating and 18% better fuel consumption than our current 737 NextGen fleet.
However, AA has made a significant commitment to market creating investments with the addition of the Boeing 787 Dreamliner. The ’78’ as we refer to it, allows AA to fly “point-to-point” and bypass congested hubs. It will also allow smaller, up-and-coming cities like Austin, Texas grow its economy. It is a great example of synergies generated by MCIs.
However lofty these ideas are, they still face the hurdle of convincing management to jump in with both feet for a new market. It seems like innovation is locked in a dogfight with opportunity costs, and the latter usually wins. We need to think boldly and encourage MCI innovations–perhaps with an ad-hoc department that has the authority to bypass the slow-moving processes that dominate airline management.
I’ll close with two stories to illustrate this point. First, an analyst for AA convinced our CEO, Bob Crandall that AA had to immediately jump into the Latin and South American markets. By his projections, they would be money-makers. Mr. Crandall went with his decision, despite the fact that all of our competitors determined there was no way anyone could earn a profit flying there. Ultimately, those routes became our most profitable routes and kept our noses above water during the severe industry downturn of the early 1990s. On the flip side is the response I received from a question I raised to our former Senior VP of Operations about growth following the end of the fuel spike of 2008-2011. When I asked him if AA was considering getting back into markets we left due to the speculative nature of the fuel spike, he dryly replied, and again I paraphrase: If AA does not forecast a minimum return within a set time period,we don’t even go into the market. As you can see, managers can see either opportunities or minefields. Their perspective is what counts.