Create A Thinking Company

Chief Executive Officer

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Finding ways to pursue short- and long-term results at the same time has never been easy—and a drawn-out crisis of cataclysmic proportions doesn’t help. It’s a challenge David Cote managed to surmount when he took the helm of Honeywell in 2002. Cote—who peers named our Chief Executive of the Year in 2013—succeeded in growing the troubled company’s market cap from $20 billion to $120 billion during his tenure, despite the financial crisis of 2008 that spawned the Great Recession.

To help parse lessons for today’s CEOs from Cote’s Honeywell journey, Chief Executive asked author and business sage Ram Charan, a longtime sounding board for Cote, to dig into strategies and tactics outlined in Cote’s new book, Winning Now, Winning Later: How Companies Can Succeed in the Short Term While Investing for the Long Term. Excerpts, edited for clarity and length, follow.

RAM CHARAN: During the Covid-19 crisis, many leaders have adopted a bunker mentality. As a CEO who went through the financial upheaval of 2008 and 2009, what’s your view on how people should be dealing with the dilemma of managing crises while also needing to think about the future?

DAVID COTE: It can be particularly difficult during a time like this. When you’re up to your butt in alligators, it’s easy to forget that the original goal was to drain the swamp. But, as a leader, it’s important to keep in mind that your job is still to drain the swamp, even if you’re going through a difficult time.

It can sound impossible when you’ve got 120 hours worth of work and 80 hours to do it in, but take an hour or so a week to just put your head above the fray, and ask, “Is what I’m doing right now positioning myself to be successful once I come out of this?” Because if you survive the short term, but you don’t survive the long term, then it hasn’t really done much for you. As a leader, you have to be able to put your head above the fray. It’s no different than a general running a battle who can’t be at the front line. You gotta know what’s going on, but you can’t be out there doing it all yourself. You still need that overview of are you doing the right stuff?

Let’s talk about what you found when you entered Honeywell and the things you installed that developed this wonderful engine for creating and measuring customer centricity. At the same time, you increased the market value from $20 billion to $120 billion, which is particularly remarkable because you did it through the very difficult period of 2008 to 2010.

Well, there’s a lot to talk about there. Let’s just say that when I got to Honeywell, it had been through years of turmoil and there were a number of issues. First, we had three competing cultures. legacy AlliedSignal, legacy Honeywell, legacy Pittway, each of whom thought the other two were fools.

We had a significant amount of aggressive bookkeeping, and, for a decade, our free cash flow conversion had been only 69 percent, meaning only 69 cents of cash for every dollar of earnings. We had unrecognized liabilities and issues like environmental, asbestos and an underfunded pension. I could go on, but I would just add, I couldn’t trust my board, and I couldn’t trust my staff, three of whom had either interviewed or expressed interest in my job. So, they were predisposed to thinking that I didn’t know what I was doing.

On top of that, investor expectations were low for me because I was viewed as having not made it to the first tier in the GE succession race and not even been the first choice to run Honeywell, both of which were true. So, I went and did a bunch of town halls around the world to kind of get a pulse of what was going on. And it became very clear that I had to do something culturally first. You know the old saying about the way to unite people is to have a common enemy? Well, I expanded that to a common cause, instead of a common enemy. I said, “By focusing on the customer, we can make all of our discussions a lot more objective, rather than emotional.”

The second piece was to define the culture we wanted, and that’s where we took the time to develop our 12 [Honeywell] behaviors. When we were working on what those ought to be, one of my staff members asked, “Dave, why are we wasting all this time on behaviors and culture when we have all these strategic issues to address?” My comment was, “I can make all the strategic decisions you want, but if nobody does them because we don’t have a culture where people actually go and make it happen once we’ve decided on something, then it’s never gonna get there.”

The other aspect of culture is that while you have to make jobs financially remunerative so that people feel they get paid fairly, you also want the work fulfilling. People want to be able to go home at night bragging to their spouse and kids about what they accomplished that day. I wanted to create an environment where that could happen.

The last piece was to focus early on how to accomplish things in the short term, but also be investing for the long term. I knew a lot of things needed to be fixed. All the accounting issues, the cultural issues, all that stuff had to get fixed quickly. And I was gonna have to take a hit. But I was also going to have to perform in the short term because investor and media expectations, along with board expectations, were not that high of me. If I wanted to survive, I needed to make sure that I performed well enough in the short term that I would at least earn some regard.

I knew that if I didn’t fix some of this stuff and fill the pipeline when it came to new products and services, geography, processes, I’d just be in the same boat every single year, every single quarter. And I didn’t want to live that way. So, I had to constantly answer investors, who would say, “On this kind of sales growth, why aren’t you generating more margin rate improvement?”

My answer was always, “I need to fill the pipeline, and that takes three to five years.” That’s why you saw us perform so differently coming out of the recession—we had done all the right things in the recession to handle the recession and prepare for recovery. You were seeing the culmination of six or seven years’ worth of seed planting suddenly coming to fruition. And man, that sure was nice when it all came together.

What you did was very courageous. You took a lot of hits on shows like Squawk Box, but you made a clear decision to change the allocation of resources for the short term, take a little beating and then put the money toward building this pipeline. Tell us how you got your team and board to vote with you.

In the beginning, I can’t say that I had total team support because everybody was used to making meeting the quarter work through potential accounting transactions, supplier transactions or getting a deal done. I had to put a stop to all that, and that didn’t go over so well at corporate.

Getting back to the fact that I couldn’t trust my board or staff, I found myself saying, “I’ve got to be careful about declaring my view on things until I learn what everybody else’s opinions are because the information I get will be jaundiced. I need the right facts and opinions.”

So, I came up with this line: My job here is to make good decisions and that means I need to be right at the end of the meeting, not at the beginning. Over time, I found that I was becoming a better leader and making better decisions, because I hadn’t declared what I wanted to do, and that really developed a much fuller argument about the pluses and minuses of each issue or potential decision.

I was getting a lot more people involved, so that it wasn’t just three out of 10 people in a meeting who talked. I would call on people, look for body language, facial expressions, etc. Also, at the end of the meeting, I would start with the most junior person in the room and say, “Okay, based on everything we all just heard, what do you think I ought to do?” In the beginning, you would see this total look of panic on their face. The first thing they did was look at their boss, who would go to interject. And I would say, “No, no. I’ll get to you. I want to know what this person thinks.”

I went around the table that way and at the end, I’d say, “Okay. Here’s what my decision is” and explain it, so it was clear to all the people who had a different point of view that I had listened and understood but just disagreed. Because there’s a big difference between listening and agreeing, and too many people feel that if you don’t agree with them, then you didn’t listen. I wanted to make it very clear that I had. As a result of all that, I started to make better decisions, and it struck me that this is a much better way to do things.

You put a system together to keep the fixed costs fixed, creating cash and resources from which you could then fund more R&D for the future. Take us through that.

It’s a conundrum most people face, “Look, every nickel I’m making is going into earnings, so I don’t have any room to invest.” But for most companies, if you have an operating margin rate of 10 percent and you get just 3 percent sales growth and hold your fixed costs flat, you get a significant amount of income.

Why doesn’t everybody do it? The answer is because it’s difficult. If you look at fixed costs, 60 percent to 80 percent of that is people. People want raises every year, so if you have 1,000 people, and you give them a 3 percent raise, your costs are 3 percent higher than the previous year and 3 percent sales growth just keeps you flat. So, to hold your fixed costs constant, you need to find a way every year to get that fixed cost job done with 3 percent fewer people, even while you’re growing.

That’s why we spent so much time looking for ways to give people more efficient processes so they can get the job done with fewer people. That made a huge difference. We doubled the size of the company, and our total headcount went from something like 115,000 to 135,000. That’s because we just gave everybody much more efficient and effective processes every year. There was never any big bang. It was just that continuous focus, and it makes a heck of a difference.

Another thing you did was put in a rigorous Honeywell operating system. That’s a very critical part of delivering value and having better customer preference than competitors.

Absolutely. During one of my blue book exercises (see sidebar, p. 25), it struck me, “Jeez, half of our total population—half our brain power—is in manufacturing.” I started casting around for the best way to engage them. I had always admired the Toyota Production System, so I sent a group of about 60 people to Georgetown Kentucky Toyota for two weeks. They came back absolutely filled with the Holy Spirit. They wanted to go out to all our 250 factories at the same time and expand it to all of the other functions because it applied everywhere.

It was a great idea, and they were right, but we would be going into plants that were 80 years old, with average lengths of service 25 years. You don’t go into a plant and tell all the hourly employees, “Look, you can keep working the way you are through Friday, but Monday we’re doing something entirely different, so come prepared.” A huge cultural change has to accompany that.

So, we tested the idea in 10 plants for six months…it worked in five, didn’t in five others. Reexamined, went out again to five plants for another six months; it worked in three. Came back and refined it again, said, “Okay, now we got this thing down.” Then, we picked 25 plants and resourced the hell out of making sure it worked. From there, we started to get pull, where the good people in the other plants wanted to do it.

When you push something because the boss made a decision, you get what I call “compliance with words, rather than compliance with intent.” They’ll put in the processes, use the terms, but productivity, quality, delivery three years later will look the same. I wanted the other 225 plants to say, “Jeez, I want to do that. That plant is doing great now, and they were always a basket case.”

You also made significant changes to the talent development and review process. Give us some insight into how and why.

One big change involved appraisals. First, we started measuring everybody on the 12 behaviors. Second, employees used to do their own appraisals, and then the manager would agree, disagree or modify, which makes no sense because it puts managers in the uncomfortable position of telling an employee, “Look, you’re wrong about this.” So, we required that managers do it themselves.

We also redid the management resource review process. I conducted three a year instead of just one. What you find in any large company is HR issues a bunch of templates and business and functions dutifully fill them in. So, we had succession planning charts full of names, ready now, ready in one to two years, in three to five years, that kind of a thing. I started pushing on the “ready now.” I’d say, “Okay, so if this person left the job, would you actually put the ‘ready now’ person in that position?” About half the time the answer was, “No.”

Again, that was compliance with words instead of compliance with intent. You’re looking for a robust succession plan with names that you would actually do something with. Instead, it became, “I need to fill in the blanks.”

By changing that and seeing that there were a lot of blanks, we had a better understanding of where our issues were and ended up significantly better off with succession planning. We got to the point where when someone left, we were saying, “No, we don’t need the two weeks. Appreciate it. We’ll be ready in the next two or three days.”

The last change was that nobody went into the top 200 positions unless both I and my HR leader interviewed the final candidate. It gave us three advantages. The first was quality control. In the beginning, we probably rejected, you know, a quarter to a third of the candidates sent in. That got down to only 5 percent to 10 percent.

Second, it gave me the chance to say, “Here’s how I want you building on what your predecessor did, here are the issues.” Third, it impressed upon whoever was coming in, “Wow. I really gotta think about what I’m doing here, because both the CEO and the HR leader are making the time to spend an hour with me just to talk about it.” That significantly upgraded our leadership core, the top 600 people or so.

One of the things I’ve picked up from you a long time ago is your art of asking very penetrating questions. Tell us more about this.

Rather than say, “Here’s what I think you need to do,” I would go through a series of four or five questions, depending on what the situation required. It would create a logic path and cause people to have to think through things themselves so that I’d have more buy-in at the end.

One of my favorites was increasing R&D spending. I would go through: Why is it worth spending this kind of money? How much do you think you’re gonna get for the amount of spending you put in? How are you gonna go through the ideation process to come up with all the ideas? How will you pick which ideas to support? How will you discern between the person who puts a big sales forecast on so that you fund their program, versus somebody who puts the small forecast on, even though it’s a great program because they don’t want to be held to it? How will you monitor it and make sure you’re getting something from it, so that if you have a really good program, you accelerate it or fund it more, but if you have one that doesn’t seem to be delivering, you can tell whether it’s a bad idea or it’s just not being done very well?

Going through that causes people to spend more time thinking, “how am I going to actually get the results I’m looking for, which is more sales, not more spending?”

In most companies, people come in front of the CEO with 150-page polished presentations. But you asked for something different.

Yeah, I did. I can’t say that everybody always found it a pleasant experience, but I had always been a big believer that if somebody can’t explain their strategy in just a few minutes, that’s a good indication they don’t really understand it themselves. As a result, there would be ambiguity in the organization, and organizations do not handle ambiguity well.

I put limits on how long a pitch could be, and I required an executive summary up front. More than once, we spent the first four hours of our all-day strategy session on the executive summary. We’d have 50 people in the room because the more people who hear all this, the greater the chance that we make something happen. So, they’d think, “My God. We have 100 pages, and we just spent four hours on the first four.” Only we’d get through the next 96 pages in three hours because we’d talked about all this stuff already.

In the beginning, people found it disconcerting because they really wanted me to watch a performance. I’d say, “If the point is for me to watch you perform, then we can do that, but I think the point is for me to understand your business and whatever issues you’re facing better, so whatever helps me learn better and faster is how we ought to do it.”

People got used to thinking, “I better know my stuff when I get in there because we jump around all over the place.” As a result, we ended up with much better discussions and decisions, and people knew it wasn’t a big deal if I disagreed with them.

You also upgraded people’s capabilities because you got them to see the root causes.

Right. It’s not just making the decisions, it’s having people learn in the process. How do I think about things to exercise judgement rather than just implement decisions?”

I was trying to create a thinking company, not one where people just executed whatever they were told from the top. Sometimes I did want that, but even then I wanted people to understand why. And I always felt like I did a better job if I understood the purpose of something and why we were trying to accomplish what we were. It just created better buy-in all around.

Let me go to something you did that I don’t see anywhere else: transforming functions to add value, short term and long term. You had a very clear way of pursuing that.

It struck me that all the corporate functions would be involved with the business strategic plans and feel comfortable opining about what businesses were doing well or not so well or needed to do differently. But no business ever got the chance to opine on how the staff functions were doing. So, I started to require that every corporate function—primarily finance, HR, legal and IT—also had to do a strategic plan that showed their costs going down, or at least staying flat, over the planning period, and how they would increase internal customer service levels at the same time.

I’d say, “Every one of you will conduct twice-annual, anonymous surveys of your internal customers, and it needs to be showing improvement. The only way you’ll get at this is to improve all your processes.” It changes how those staff functions do their jobs because too often, the general counsel can be a terrific lawyer. But they don’t realize that a big part of their job is making sure all the other lawyers working for them are able to work effectively and efficiently.

The only way they do that is to reexamine processes. The same thing is true for the CFO, the IT leader and the HR leader. It just created a much better dynamic and much better staff interplay because we were all in it together.

What else about your experience do you think would benefit other CEOs?

People, by their nature, want to know, “What’s the one thing, boss, you want me to do?” Once you start looking at that, you see it’s always two seemingly conflicting things. You want lower inventory but customer delivery to be just as good or better. You want people empowered, but you want good controls so nothing bad happens. You want lower functional costs, staff costs, but you also want better internal service.

I was not the first person to discover that. But it’s something I talked about a lot. And it was always rewarding when somebody three or four levels down would be talking to me about something and say, “ I don’t know if you’ve ever heard this, but this is the same as accomplishing two seemingly conflicting things at the same time.” It always brought a big smile to my face because it meant the organization gets it.

You took a large organization through one of the most difficult times in business history. What advice do you have for today’s CEOs managing a difficult time?

The big piece of advice that I would like to give is, so far, we have not experienced a forever recession. In other words, the good times do come back, and any leader who forgets that is spending all their time on the alligators and not looking at the swamp. In the middle of the recession, be thinking about recovery and reevaluating your business model.

This is an important time to say, “Do I need to reexamine my business model? And when recovery comes, am I prepared for it?” You gotta find the opportunity in the disaster.

 

TOOLS YOU CAN USE: Cote’s ‘Blue Notebook’ Exercise

“Early in my tenure at Honeywell, it struck me that I was becoming a victim of my calendar, with one-hour meetings at 9 a.m., 11 a.m., 2 p.m., 4 p.m. and 6 p.m. every day. When you’re only allowed an hour break between meetings, that leaves you no time to really think. So, when we laid out the corporate calendar for strategic planning sessions, management resource reviews, budget reviews, board meetings, all that stuff, I started going through and putting an X through two to three days a month, where I could do whatever I want to do.

“You lose some as you go along because things happen, but you still end up with one or two days a month. I used some of that time to visit particular customers or do a surprise plant visit—surprise as in nobody knew I was showing up. But I would also allocate two to three of those days to just free-thinking about the company.

“I might ask for some information ahead of time, like census breakouts, sales or about a particular business. But I would literally just sit there with a blue notebook—I called them my ‘blue notebook days.’ I’d say, “Okay, geographies, macrotrends, people, processes, particular businesses…” and just think about the things that I ought to do.

“I did this because for the first time in my life, I was gonna have a job that would, with any luck, last 10 to 15 years. Up to that point, growing up in a big company, you have a kind of a natural stimulator to think anew each time you get promoted into a new job. I thought, “I don’t want to get stale after two to three years. So, how do I make sure I stay fresh?”

“I came up with this, and it worked. It was painful—well, let’s say not easy—for somebody like me because I have a predisposition to be action-oriented. So, it wasn’t always convenient, but it ended up being really important, and some big ideas came out of that. The Honeywell operating system, Functional transformation and the Honeywell user experience all came out of that. It was important, because it was a way of getting my head above the fray.”

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