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RULE MAKER PORTFOLIO
The 12 Simple Secrets of Microsoft Management

By Matt Richey (TMF Verve)

ALEXANDRIA, VA (Dec. 20, 1999) -- Recently, a friend of mine told me that all you need to know about Microsoft (Nasdaq: MSFT) is that they have $19 billion in liquid cash and another $15 billion in strategic investments. He has a point. And a lot of times in this space, we look at quantitative evidence, especially in the financial statements, to verify whether a company is making the rules in its industry.

But cash hoards, gross margins, and flow ratios are really just the end result of business excellence on a more qualitative level -- attributes such as a well-planned strategy, good managerial skills, and a productive workplace. The only problem with studying these qualitative factors is that they're difficult to ascertain without insider knowledge. One alternative way of obtaining this type of insight, however, is through some of the well-written books about Rule Makers. Today, let's take a peek inside the Microsoft corporate campus through the eyes of David Thielen, author of The 12 Simple Secrets of Microsoft Management.

The book, published this year, explains in plain language (and just 175 pages) Microsoft's management style and corporate culture. Although the book is written primarily for business managers seeking to emulate Microsoft's success, I think we as investors can learn a lot of useful info. The author, Mr. Thielen, worked at Microsoft as a senior software developer on Windows 95 and several other projects. In his words, "Microsoft's management style is its core strength," and "Microsoft's management strength is why it will continue to dominate."

Here goes with a few of the main ideas on each of Microsoft's 12 secrets:

1. Total World Domination

Some companies focus on the bottom line. In contrast, Thielen forcefully asserts that every single Microsoft employee is single-mindedly focused on winning 100% of their target market, whatever it might be. Microsoft's culture is one of maximizing long-term profits by, in the near term, capturing market share in strategic markets.

2. The Top Five Percent

According to Thielen, "One of the enjoyable things about working at Microsoft is that even the least talented are pretty damn smart, the average are superb, and the best leave you trying every day to match their work." Microsoft rigorously attempts to hire only the smartest people, those who are within the smartest 5% of the total population. But don't confuse smarts with knowledge. Knowledge is for books on a shelf. Microsoft seeks individuals who can turn on their brains and really think. These are the types of people who create new ideas, catch errors quickly, and come up with a more efficient way of doing things. In essence, by hiring the smartest people, Microsoft goes a long way toward ensuring a highly productive workforce.

3. Bet the Company

Winning in the game of business is about being willing to make bets at good odds. In the early 1990s, Bill Gates bet the company on Windows. In 1996, Bill bet the company on the Internet. By all indications, the principle of "betting the company" is institutionalized within Microsoft management.

4. Require Failure

At most companies, to succeed is good, but to fail is unacceptable. This type of policy means that, as a risk/reward scenario, the risk of failure vastly exceeds the reward of success. Thus, most companies suffer from a workforce that pursues a course of failure avoidance. In contrast, at Microsoft, failure is expected, and even required because risking failure is the only way to push the envelope. As a result, Microsofties relentlessly pursue success without fear of failure. And if they fail, they understand that the key is to fail quickly and not waste time.

5. Managers Are Qualified

At Microsoft, the most important qualification for a manager is expertise in the functional area over which (s)he is managing. According to Thielen, "Managers at Microsoft fully understand the work the people who report to them do. Almost without exception, those managers could do the job of any individual doing the core work for their team." For example, managers of marketing teams are great marketers; managers of sales teams are excellent sales people; and, managers of programming teams are expert programmers. This principle applies all the way up to Bill Gates, who is an expert at programming -- Microsoft's core competency.

6. Perform, Perform, Perform

Performance is all that matters at Microsoft, so much so that excuses are flat-out irrelevant. In fact, Microsoft is so stubbornly focused on performance that Thielen even describes the company as "heartless" and "unfair." But the end result of this single-minded concern for success is that Microsoft performs like a champion sports team.

7. "Shrimp vs. Weenies"

Even with its billions upon billions in cash, Microsoft is as frugal as Ebeneezer Scrooge. It's a company that buys canned weenies for food, not shrimp. Until last year, even Bill Gates and his second-in-command Steve Ballmer flew coach. (For scheduling reasons, the company purchased its first corporate jet.) Bucking the trend of most large, wealthy corporations, Microsoft remains in start-up mode where tight budgets are the rule. When you sit back and think about it, this frugality is less surprising and even explains how a company can come to accumulate such great hoards of cash.

8. Size Does Matter

I, for one, am guilty of describing Microsoft as a "software behemoth." But Thielen takes a different view: "Microsoft is not a single, large company; rather it is a collection of small, independent companies. The primary job functions at Microsoft are creating, testing, marketing, and selling software. And, amazingly enough, these functions are largely performed separately for each and every project." Thereby, Microsoft largely avoids the bureaucracy that weighs down so many large companies. Thus, Microsoft retains the independence and agility of a small company, while also benefiting from the financial resources, marketing muscle, and overall strategic direction of a large, powerful corporation.

9. Bill is Watching

Bill Gates and Microsoft's other senior executives really understand what's happening in their organization. Every month, the lead manager on every project e-mails a status report to Bill and the other key managers, providing an update on the project's status and any major problems. In addition, every Saturday morning, Bill calls every single vice president and spends half an hour discussing the issues in each department. According to Thielen, "Bill's approach, his philosophy, and his strategic vision permeates the entire company." And because Bill Gates has such a deep understanding of programming and technology, he's able -- and willing -- to communicate down through the ranks and even grill the software developers who actually perform the work. Thielen concludes, "Because Bill understands what is happening throughout the company, [his] decisions are generally the correct ones for the strategic direction of the company."

10. Esprit de Corps

Again alluding to Microsoft being less like a big company than it appears, Thielen asserts that Microsoft has esprit de corps like that of a start-up where everyone involved is focused on a common goal. Microsofties take great pride in their work, partly because they have a great deal of freedom in how they go about their jobs. Pranks, jokes, and games are all part of the atmosphere. It's a work hard, play hard culture.

11. Stop the Insanity

The plague of most big companies is bureaucracy and stupid rules. Thielen gives the example of an un-named high-tech company that sent a four-page memo to all of its employees on proper security badge procedure, including infinitesimal details on how and where to wear the badge. To that, Thielen states, "Does Microsoft manage to avoid this type of inane garbage? By and large, yes." Unlike most companies, Microsoft actually assumes its employees are smart (perhaps based on principle #2). Rules at Microsoft are few and far between, and the ones that exist tend to make sense. Having only a few important, logical rules means that employees actually remember and follow them.

12. Home Away From Home

Microsoft has a simple way of maximizing its employees' productivity: It allows each individual's office to be as individualized as one desires. That means making the office more like home. Everything from real offices (not cubicles) to windows in most offices, from free soft drinks to no dress code, from an open supply room to anything-goes work hours. Quite simply, these policies improve employee morale, and thus increase overall productivity.

Conclusion

In sum, Microsoft has a big company's resources with a small company's agility and focus. The 12 Simple Secrets of Microsoft Management makes a convincing case for the competitive advantage that exists in Microsoft's management style.

One final note -- our Foolanthropy efforts are really gaining steam. We've now collected more than $160,000. A generous Fool, who wishes to remain anonymous, has just issued a $30,000 challenge. He'll match each dollar contributed between 12/20 and 12/27 to Foodchain, Grameen Foundation USA, or Heifer Project International, up to $10,000 for each charity. Another generous Fool rose to our challenge and will match donations to the Polycystic Kidney Research Foundation and the Make-A-Wish Foundation -- up to $5,000 per charity. Remember, just a few dollars from each one of you out there will help us reach our goal of raising $500,000. Click here to find out how.

Have a Foolish night, everyone. Phil's back tomorrow.

- Matt Richey


 




Rule Maker Portfolio

12/20/99 Closing Numbers
Ticker Company Dly Pr Chg Price
AXPAMER EXPRESS7/16$155.56
CHVCHEVRON CORP-2 3/16$85.31
CSCOCISCO SYSTEMS9/16$103.25
DPHDELPHI AUTOMOTIVE SYSTEMS-3/4$14.50
EKEASTMAN KODAK-1 5/16$59.81
GMGENL MOTORS3/4$72.75
GPSGAP INC-2 7/8$42.31
INTCINTEL CORP-1$81.06
KOCOCA-COLA CO1/2$60.25
MSFTMICROSOFT CORP-2 1/2$112.75
PFEPFIZER, INC-7/16$32.81
SGPSCHERING-PLOUGH-11/16$42.00
TROWT.ROWE PRICE ASSOC3/8$34.88
XOMEXXON MOBIL CORP-23/32$81.91
YHOOYAHOO INC19 1/2$369.50

  Day Week Month Year
To Date
Since
2/2/98
Annualized
Rule Maker .14% .14% 10.80% 35.17% 68.30% 31.89%
S&P 500 -.21% -.21% 2.09% 15.36% 44.66% 21.69%
S&P 500(DA) -.21% -.21% 2.09% 15.94% 46.43% 22.48%
S&P 500(DCA) n/a n/a n/a n/a 29.79% 14.87%
NASDAQ .82% .82% 13.42% 72.57% 133.66% 57.02%

Trade Date # Shares Ticker Cost/Share Price LT % Val Chg
6/23/9875CSCO32.865$103.25214.17%
2/17/9916YHOO126.309$369.50192.54%
2/3/9859MSFT49.352$112.75128.46%
5/1/9882GPS22.708$42.3186.33%
2/13/9859INTC50.624$81.0660.13%
5/26/9818AXP104.067$155.5649.48%
3/12/9820XOM64.335$81.9127.31%
3/12/9817GM60.399$72.7520.45%
2/3/9866PFE27.433$32.8119.61%
2/3/9856TROW33.673$34.883.57%
3/12/9815CHV83.343$85.312.36%
3/12/9820EK63.148$59.81-5.28%
8/21/9844SGP47.993$42.00-12.49%
2/27/9827KO69.107$60.25-12.82%
3/12/9811DPH17.202$14.50-15.71%

Trade Date # Shares Ticker Cost Value LT $ Val Ch
6/23/9875CSCO$2,464.86$7,743.75$5,278.89
2/17/9916YHOO$2,020.95$5,912.00$3,891.05
2/3/9859MSFT$2,911.79$6,652.25$3,740.46
2/13/9859INTC$2,986.79$4,782.69$1,795.90
5/1/9882GPS$1,862.06$3,469.63$1,607.57
5/26/9818AXP$1,873.20$2,800.13$926.93
2/3/9866PFE$1,810.58$2,165.63$355.05
3/12/9820XOM$1,286.70$1,638.13$351.43
3/12/9817GM$1,026.78$1,236.75$209.97
2/3/9856TROW$1,885.70$1,953.00$67.30
3/12/9815CHV$1,250.14$1,279.69$29.55
3/12/9811DPH$189.22$159.50($29.72)
3/12/9820EK$1,262.95$1,196.25($66.70)
2/27/9827KO$1,865.89$1,626.75($239.14)
8/21/9844SGP$2,111.70$1,848.00($263.70)
  Cash: $135.63  
  Total: $44,599.75  


Notes
The Rule Maker Portfolio began with $20,000 on February 2, 1998, and it added $2,000 in August 1998 and February 1999. Beginning in July 1999, $500 in cash (which is soon invested in stocks) is added every month.





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