Jack welch and the 4 e's of leadership

9Focus Paper - Leadership : Jack Welch

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Research Associate Meg Wozny prepared this case under the supervision of Professor Christopher A. Bartlett. HBS cases are developed solely as the basis for class discussion. Cases are not intended to serve as endorsements, sources of primary data, or illustrations of effective or ineffective management. Copyright © 1999 President and Fellows of Harvard College. To order copies or request permission to reproduce materials, call 1-800-545-7685, write Harvard Business School Publishing, Boston, MA 02163, or go to http://www.hbsp.harvard.edu. No part of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means—electronic, mechanical, photocopying, recording, or otherwise—without the permission of Harvard Business School.

C H R I S T O P H E R A . B A R T L E T T

M E G W O Z N Y

GE’s Two-Decade Transformation: Jack Welch’s Leadership

On September 7, 2001, Jack Welch stepped down as CEO of General Electric. The sense of pride he felt about the company’s performance during the previous two decades seemed justified judging by the many accolades GE was receiving. For the third consecutive year, it had not only been named Fortune’s “Most Admired Company in the United States,” but also Financial Times’ “Most Admired Company in the World.” And, on the eve of his retirement, Fortune had named Welch “Manager of the Century” in recognition of his personal contribution to GE’s outstanding 20 year record.

Yet while the mood at GE’s 2001 annual meeting had clearly been upbeat, some shareholders wondered whether anyone could sustain the blistering pace of change and growth characteristic of the Welch era. And specifically, many worried if any successor could generate the 23% per annum total shareholder return Welch had delivered in his two decades leading GE. It would be a tough act to follow. (See Exhibit 1 for financial summary of Welch’s era at GE.)

The GE Heritage

Founded in 1878 by Thomas Edison, General Electric grew from its early focus on the generation, distribution, and use of electric power to become, a hundred years later, one of the world’s leading diversified industrial companies. A century later, in addition to its core businesses in power generation, household appliances, and lighting, the company was also engaged in businesses as diverse as aircraft engines, medical systems, and diesel locomotives.

Long regarded as a bellwether of American management practices, GE was constantly undergoing change. In the 1930s, it was a model of the era’s highly centralized, tightly controlled corporate form. By the 1950s, GE had delegated responsibility to hundreds of department managers, leading a trend towards greater decentralization. But a subsequent period of “profitless growth” in the 1960s caused the company to strengthen its corporate staffs and develop sophisticated strategic planning systems. Again, GE found itself at the leading edge of management practice.

When Reg Jones, Welch’s predecessor, became CEO in 1973, he inherited the company that had just completed a major reorganization. Overlaying its 10 groups, 46 divisions, and 190 departments

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were 43 strategic business units designed to support the strategic planning that was so central to GE’s management process. Jones raised strategic planning to an art form, and GE again became the benchmark for hundreds of companies that imitated its SBU-based structure and its sophisticated planning processes. Soon, however, Jones was unable to keep up with reviewing and approving the massive volumes of information generated by 43 strategic plans. Explaining that “the review burden had to be carried on more shoulders,” in 1977 he capped GE’s departments, divisions, groups, and SBUs with a new organizational layer of “sectors,” representing macrobusiness agglomerations such as consumer products, power systems, or technical products.

In addition to his focus on strategic planning, Jones spent a great deal of time on government relations, becoming the country’s leading business statesman. During the 1970s, he was voted CEO of the Year three times by his peers, with one leading business journal dubbing him CEO of the Decade in 1979. When he retired in 1981, The Wall Street Journal proclaimed Jones a “management legend,” adding that by handing the reins to Welch, GE had “replaced a legend with a live wire.”

Welch’s Early Priorities: GE’s Restructuring

When the 45-year-old Welch became CEO in April 1981, the U.S. economy was in a recession. High interest rates and a strong dollar exacerbated the problem, resulting in the country’s highest unemployment rates since the Depression. To leverage performance in GE’s diverse portfolio of businesses, the new CEO challenged each to be “better than the best” and set in motion a series of changes that were to radically restructure the company over the next five years.

#1 or #2: Fix, Sell, or Close

Soon after taking charge, Welch set the standard for each business to become the #1 or #2 competitor in its industry—or to disengage. Asked whether this simple notion represented GE’s strategy, Welch responded, “You can’t set an overall theme or a single strategy for a corporation as broad as GE.” By 1983, however, Welch had elaborated this general “#1 or #2” objective into a “three circle concept” of his vision for GE. (See Exhibit 2.) Businesses were categorized as core (with the priority of “reinvesting in productivity and quality”), high-technology (challenged to “stay on the leading edge” by investing in R&D), and services (required to “add outstanding people and make contiguous acquisitions”). To a question about what he hoped to build at GE, Welch replied:

A decade from now, I would like General Electric to be perceived as a unique, high- spirited, entrepreneurial enterprise . . . the most profitable, highly diversified company on earth, with world quality leadership in every one of its product lines.1

But as GE managers struggled to build #1 or #2 positions in a recessionary environment and under attack from global—often Japanese—competitors, Welch’s admonition to “fix, sell, or close” uncompetitive businesses frequently led to the latter options. Scores of businesses were sold, including central air-conditioning, housewares, coal mining, and, eventually, even GE’s well-known consumer electronics business. Between 1981 and 1990, GE freed up over $11 billion of capital by selling off more than 200 businesses, which had accounted for 25% of 1980 sales. In that same time frame, the company made over 370 acquisitions, investing more than $21 billion in such major purchases as Westinghouse’s lighting business, Employers Reinsurance, RCA, Kidder Peabody, and Thomson/CGR, the French medical imaging company. (See Exhibit 3.)

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Internally, Welch’s insistence that GE become more “lean and agile” resulted in a highly disciplined destaffing process aimed at all large headquarters groups, including a highly symbolic 50% reduction in the 200-person strategic planning staff. Welch described his motivation:

We don’t need the questioners and checkers, the nitpickers who bog down the process. . . . Today, each staff person has to ask, “How do I add value? How do I make people on the line more effective and competitive?”2

As he continued to chip away at bureaucracy, Welch next scrapped GE’s laborious strategic planning system—and with it, the remaining corporate planning staff. He replaced it with “real time planning” built around a five-page strategy playbook, which Welch and his 14 key business heads discussed in shirtsleeves sessions “unencumbered by staff.” Each business’s playbook provided simple one-page answers to five questions concerning current market dynamics, the competitors’ key recent activities, the GE business response, the greatest competitive threat over the next three years, and the GE business’s planned response.

The budgeting process was equally radically redefined. Rather than documenting internally focused comparisons with past performance, results were now evaluated against external competitively based criteria: Do sales show increases in market share, for example? Do margins indicate a cost advantage compared with competition?

In 1985, Welch eliminated the sector level, previously the powerful center of strategic control. (See Exhibits 4a and 4b.) By reducing the number of hierarchical levels from nine to as few as four, Welch ensured that all businesses reported directly to him. He said:

We used to have department managers, sector managers, subsector managers, unit managers, supervisors. We’re driving those titles out… We used to go from the CEO to sectors to groups to businesses. Now we go from the CEO to businesses. There is nothing else. Zero.3

Through downsizing, destaffing, and delayering, GE eliminated 59,290 salaried and 64,160 hourly positions between 1981 and 1988; divestiture eliminated an additional 122,700. Even when offset by the acquisitions, the number of employees at GE declined from 404,000 in 1980 to 330,000 by 1984 and 292,000 by 1989. Between 1981 and 1985, revenues increased modestly from $27.2 billion to $29.2 billion, but operating profits rose dramatically from $1.6 billion to $2.4 billion. This set the base for strong increases in both sales and earnings in the second half of the decade (see Exhibit 5).

This drastic restructuring in the early- and mid-1980s earned Welch the nickname “Neutron Jack,” a term that gained currency even among GE managers when the CEO replaced 12 of his 14 business heads in August 1986. Welch’s new “varsity team” consisted of managers with a strong commitment to the new management values, a willingness to break with the old GE culture, and most of all, an ability to take charge and bring about change. Despite his great dislike for a nickname he felt he did not deserve, Welch kept pushing the organization for more change. The further into the restructuring he got, the more convinced he became of the need for bold action:

For me, the idea is to shun the incremental and go for the leap… How does an institution know when the pace is about right? I hope you won’t think I’m being melodramatic if I say that the institution ought to stretch itself, ought to reach, to the point where it almost comes unglued… Remember the theory that a manager should have no more than 6 or 7 direct reports? I say the right number is closer to 10 or 15.4

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The Late 1980s: Second Stage of the Rocket

By the late 1980s, most of GE’s business restructuring was complete, but the organization was still reeling from culture shock and management exhaustion. Welch was as eager as anyone in GE to move past the “Neutron-Jack” stage and begin rebuilding the company on its more solid foundations.

The “Software” Initiatives: Work-Out and Best Practices

Years after launching GE’s massive restructuring effort, Welch concluded, “By mid-1988 the hardware was basically in place. We liked our businesses. Now it was time to focus on the organization’s software.” He also acknowledged that his priorities were shifting: “A company can boost productivity by restructuring, removing bureaucracy and downsizing, but it cannot sustain high productivity without cultural change.”

In 1989, Welch articulated the management style he hoped to make GE’s norm—an approach based on openness, candor, and facing reality. Simultaneously, he refined the core elements of the organizational culture he wanted to create—one characterized by speed, simplicity, and self-

confidence.a Over the next few years, he launched two closely linked initiatives—dubbed Work-Out and Best Practices—aimed at creating the desired culture and management approach.

In late 1988, during one of Welch’s regular visits to teach in the company’s Management Development Institute, he engaged a group of GE managers in a particularly outspoken session about the difficulty they were having implementing change back at their operations. In a subsequent discussion with James Baughman, GE’s director of management development, Welch wondered how to replicate this type of honest, energetic interaction throughout the company. His objective was to create the culture of a small company—a place where all felt engaged and everyone had voice. Together, they developed the idea of a forum where employees could not only speak their minds about how their business might be run more effectively, but also get immediate responses to their ideas and proposals. By the time their helicopter touched down at GE’s headquarters, Welch and Baughman had sketched out a major change initiative they called “Work-Out”—a process designed to get unnecessary bureaucratic work out of the system while providing a forum in which employees and their bosses could work out new ways of dealing with each other.

At Welch’s request, Baughman formed a small implementation team and, with the help of two dozen outside consultants, led the company-wide program rollout. Assigned to one of GE’s businesses, each consultant facilitated a series of off-site meetings patterned after the open-forum style of New England town meetings. Groups of 40 to 100 employees were invited to share views about their business and how it might be improved. The three-day sessions usually began with a talk by the unit boss, who presented a challenge and a broad agenda. Then, the boss was asked to leave, allowing employees aided by facilitators to list their problems, debate solutions, and prepare presentations. On the final day, the bosses returned and were asked to listen to their employees’ analyses and recommendations. The rules of the process required managers to make instant, on-the-

a Interestingly, Welch’s first attempts at articulating and communicating GE’s new cultural values were awkward. For example, in 1986 he defined 10 desirable cultural “attitudes and policies” which few in GE could remember, let alone practice. Furthermore, he communicated his new organizational model as the GE Business Engine, a concept that many found depersonalizing since it seemed to depict people as inputs into a financial machine. Gradually, Welch became more comfortable articulating cultural values which he continued to refine into what he termed “GE’s social architecture.” Eventually his concept of The Business Engine evolved to become The Human Engine.

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spot decisions about each proposal, in front of everyone to 80% of proposals. If the manager needed more information, he or she had to charter a team to get it by an agreed-upon decision date.

Armand Lauzon, a manager at a GE Aircraft Engine factory, described to Fortune how he felt as his employees presented him with their suggestions in a room where they had carefully arranged the seating so his boss was behind him. “I was wringing wet within half an hour,” he said. “They had 108 proposals; I had about a minute to say yes or no to each one. And I couldn’t make eye contact with my boss without turning around, which would show everyone in the room I was chickenshit.” In total, Lauzon supported all but eight of the 108 proposals.

By mid-1992, over 200,000 GE employees—over two-thirds of the workforce—had participated in Work-Out, although the exact number was hard to determine, since Welch insisted that none of the meetings be documented. “You’re just going to end up with more bureaucracy,” he said. What was clear, however, was that productivity increases, which had been growing at an average annual rate of

2% between 1981 and 1987, doubled to a 4% annual rate between 1988 and 1992.b

As Work-Out was getting started, Welch’s relentless pursuit of ideas to increase productivity resulted in the birth of a related movement called Best Practices. In the summer of 1988, Welch gave Michael Frazier of GE’s Business Development department a simple challenge: How can we learn from other companies that are achieving higher productivity growth than GE? Frazier selected nine companies, including Ford, Hewlett Packard, Xerox, and Toshiba, with different best practices to study. In addition to specific tools and practices, Frazier’s team also identified several characteristics common to the successful companies: they focused more on developing effective processes than controlling individual activities; customer satisfaction was their main gauge of performance; they treated their suppliers as partners; and they emphasized the need for a constant stream of high- quality new products designed for efficient manufacturing.

On reviewing Frazier’s report, Welch became an instant convert and committed to a major new training program to introduce Best Practices thinking throughout the organization, integrating it into the ongoing agenda of Work-Out teams. As a result of the Best Practices program, many GE managers began to realize they were managing and measuring the wrong things. (Said one, “We should have focused more on how things get done than on just what got done.”) Subsequently, several units began radically revising their whole work approach. For example, the head of the corporate audit staff explained: “When I started 10 years ago, the first thing I did was count the $5,000 in the petty cash box. Today, we look at the $5 million in inventory on the floor, searching for process improvements that will bring it down.”

Going Global

During the early- and mid-1980s, internationalization had remained a back-burner issue at GE, but strong advocates of globalization such as Paolo Fresco, the Italian-born president of GE Europe, understood why Welch had to concentrate his early efforts on the rationalization of the U.S. operations. “It’s very difficult to jump into the world arena if you don’t have a solid base at home,” said Fresco, “but once the solid base was created, we really took the jump.”

The first rumblings of the emerging globalization priority came in Welch’s challenges to his Corporate Executive Council meetings during 1986. Reflecting his own early experience in GE

b In GE, productivity was defined by the following calculation: Productivity = Real Revenue (net of price increases)/Real Costs (net of inflationary increases).

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Plastics, he did not try to impose a corporate globalization strategy, preferring to let each business take responsibility for implementing a plan appropriate to its particular needs:

When I was 29 years old I bought land in Holland and built the plants there. That was “my land” for “my business.” I was never interested in the global GE, just the global Plastics business. The idea of a company being global is nonsense. Businesses are global, not companies.5

This did not mean, however, that Welch was uninvolved in his business managers’ globalization plans. In 1987, he focused their attention by raising the bar on GE’s well-known performance standard: from now on, “#1 or #2” was to be evaluated on world market position. As if to underline his seriousness, a few months later he announced a major deal with Thomson S.A., in which GE agreed to exchange its struggling consumer electronics business for the large French electronics company’s medical imaging business, a business in which GE had a leading global position.

To provide continuing momentum to the internationalization effort, in 1989 Welch appointed Paolo Fresco as head of International Operations and in 1992 made him a vice-chairman and member of his four-man corporate executive office. Fresco, a key negotiator on the Thomson swap, continued to broker numerous international deals: a joint venture with German-based Robert Bosch, a partnership with Toshiba, and the acquisition of Sovac, the French consumer credit company. As Eastern Europe opened, he initiated a major thrust into the former Communist bloc, spearheaded by the purchase of a majority share in the Hungarian lighting company, Tungsram. Fresco became the locator and champion of new opportunities. “I fill vacuums,” he said. “All these assignments are temporary—once they are complete, I get out of the way.”

Like subsequent strategic initiatives, globalization was not a one-time effort, but an ongoing theme that Welch doggedly pursued over the years. Taking advantage of Europe’s economic downturn, GE invested $17.5 billion in the region between 1989 and 1995, half on new plants and facilities and half to finance 50 or so acquisitions. Then, in 1995, after the Mexican peso collapsed, the company again saw the economic uncertainty as a great buying opportunity. Within six months GE had acquired 16 companies, positioning it to participate in the country’s surprisingly rapid recovery. And as Asia slipped into crisis in 1997-1998, Welch urged his managers to view it as a buying opportunity rather than a problem. In Japan alone the company spent $15 billion on acquisitions in six months.

By 1998, international revenues were $42.8 billion, almost double the level just five years earlier. The company expected to do almost half its business outside the United States by 2000, compared with only 20% in 1985, the year before the first international push. More important, global revenues were growing at almost three times the rate of domestic sales. (See Exhibit 6).

Developing Leaders

While the global thrust and the new cultural initiatives were being implemented, Welch was also focusing on the huge task of realigning the skill sets—and, more important, the mindsets—of the company’s 290,000 employees with GE’s new strategic and organizational imperatives. Amidst the grumbling of those who felt overworked in the new demanding environment and the residual distrust left over from the layoffs of the 1980s, he recognized his challenge was nothing short of redefining the implicit contract that GE had with its employees:

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Like many other large companies in the U.S., Europe and Japan, GE has had an implicit psychological contract based on perceived lifetime employment. This produced a paternal, feudal, fuzzy kind of loyalty. That kind of loyalty tends to focus people inward. But in today’s environment, people’s emotional energy must be focused outward on a competitive world… The new psychological contract, if there is such a thing, is that jobs at GE are the best in the world for people willing to compete. We have the best training and development resources and an environment committed to providing opportunities for personal and professional growth.6

Like all GE managers, Welch grew up in an organization deeply committed to developing its people. He wanted to harness that tradition and use it to translate his broad cultural changes down to the individual level. This would mean adapting GE’s well-established human resource systems to his goals. For example, for as long as he could remember, the company’s top executives had committed substantial amounts of time to the rigorous management appraisal, development, and succession planning reviews known as Session C. He began using this process to help achieve his objectives, predictably adding his own intense personal style to its implementation.

Starting in April and lasting through May each year, Welch and three of his senior executives visited each of his businesses to review the progress of the company’s top 3,000 executives. Welch kept particularly close tabs on the upper 500, all of whom had been appointed with his personal approval. In these multi-day meetings, Welch wanted to be exposed to high-potential managers presenting results on major projects. In an exhaustive 10- to 12-hour review in each business, Welch asked the top executive to identify the future leaders, outline planned training and development plans, and detail succession plans for all key jobs. The exercise reflected his strong belief that good people were GE’s key assets and had to be managed as a company resource. “I own the people,” he told his business heads. “You just rent them.”

As these reviews rolled out through GE, all professional-level employees expected honest feedback about where they were professionally, reasonable expectations about future positions they could hold, and the specific skills required to get there. Managers at every level used these discussions as the basis for coaching and developing their staff. (As a role model, Welch estimated he spent at least 70% of his time on people issues, most of that teaching and developing others.)

A strong believer in incentives, Welch also radically overhauled GE’s compensation package. From a system driven by narrow-range increases in base salary supplemented by bonuses based on one’s business performance, he implemented a model in which stock options became the primary component of management compensation. He expanded the number of options recipients from 300 to 30,000 and began making much more aggressive bonus awards and options allocations strongly tied to the individual’s performance on the current program priority (globalization, for example, or best practices initiatives).

Through all of these human resource tools and processes, Welch’s major effort was increasingly focused on creating an environment in which people could be their best. Entering the 1990s, he described his objective for GE in these terms:

Ten years from now, we want magazines to write about GE as a place where people have the freedom to be creative, a place that brings out the best in everybody. An open, fair place where people have a sense that what they do matters, and where that sense of accomplishment is rewarded in the pocketbook and the soul. That will be our report card.

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A key institution that Welch harnessed to bring about this cultural change was GE’s Crotonville management development facility. Welch wanted to convert Crotonville from its management training focus and its role as a reward or a consolation prize for those who missed out on a promotion to a powerful engine of change in his transformation effort. In the mid-1980s, when he was cutting costs almost everywhere else, he spent $45 million on new buildings and improvements at Crotonville. He also hired some experienced academics—Jim Baughman from Harvard and Noel Tichy from Michigan—to revolutionize Crotonville’s activities.

Under Welch’s direct control and with his personal involvement, Crotonville’s priority became to develop a generation of leaders aligned to GE’s new vision and cultural norms. Increasingly, it evolved from a training center to a place where teams of managers worked together on real priority issues and decided on results-oriented action. And this led to the gradual replacement of outside faculty by GE insiders acting as discussion leaders. Leading the change was Welch, who twice a month traveled to Crotonville to teach and interact with GE employees. (“Haven’t missed a session yet,” he boasted in the late 1990s.) (See Exhibit 7.) It was during one of these sessions that the idea for Work-Out emerged, and it was at Crotonville that many of the Best Practices sessions were held.

Despite all the individual development and the corporate initiatives, not all managers were able to achieve Welch’s ideal leadership profile. (See Exhibit 8.) Of greatest concern to the CEO were those who seemed unwilling or unable to embrace the open, participative values he was espousing. In 1991, he addressed the problem and the seriousness of its consequences:

In our view, leaders, whether on the shop floor or at the top of our businesses, can be characterized in at least four ways. The first is one who delivers on commitments—financial or otherwise—and shares the values of our company. His or her future is an easy call. Onward and upward. The second type of leader is one who does not meet commitments and does not share our values. Not as pleasant a call, but equally easy. The third is one who misses commitments but shares the values. He or she usually get a second chance, preferably in a different environment.

Then there’s the fourth type—the most difficult for many of us to deal with. That leader delivers on commitments, makes all the numbers, but doesn’t share the values we must have. This is the individual who typically forces performance out of people rather than inspires it: the autocrat, the big shot, the tyrant. Too often all of us have looked the other way and tolerated these “Type 4” managers because “they always deliver”—at least in the short term. 7

To reinforce his intention to identify and weed out Type 4 managers, Welch began rating GE top- level managers not only on their performance against quantifiable targets but also on the extent to which they “lived” GE values. Subsequently, many of GE’s 500 officers started using a similar two- dimensional grid to evaluate and coach their own direct reports. And when coaching failed, Welch was prepared to take action on the type 4s. “People are removed for having the wrong values,” he insisted. “We don’t even talk about the numbers.”

To back up this commitment to the new leadership criteria, a few years later GE introduced a 360° feedback process. Every employee was graded by his or her manager, peers and all subordinates on a 1 to 5 scale in areas such as teambuilding, quality focus, and vision. Welch described it as a powerful tool for detecting and changing those who “smile up and kick down.” Tied into the evaluation process and linked to the Session C human resource planning exercise, the 360° feedback became the means for identifying training needs, coaching opportunities, and, eventually, career planning— whether that be up, sideways, or out.

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Into the 1990s: The Third Wave

Entering the 1990s, Welch felt that GE’s new foundation had been laid. Despite the slowdown in the industrial sector in the first few years of the new decade, he was committed to the task of rebuilding the company at an even more urgent pace. The new initiatives rolled on.