Berkshire Hathaway
Good to Great: More Notes

Format for Printing

Format for printing

Request Reprints


By Wotdabny
November 18, 2004

Posts selected for this feature rarely stand alone. They are usually a part of an ongoing thread, and are out of context when presented here. The material should be read in that light. How are these posts selected? Click here to find out and nominate a post yourself!

Hi folks,

I also took some notes on Jim Collins' Good to Great, in my case when the book first came out. I thought I'd share them here. For what it's worth, I recommend the book highly.

Good is the enemy of great. People settle for what works well enough, and avoid the thinking and discipline it takes to become great, even though in the end the effort is no greater than perpetuating mediocrity. Perhaps they are afraid to fail, afraid to think. Perhaps they perceive greater risk, and often there is risk, but no greater than the risk of guessing how to react correctly to changing rules, instead of leading the way.

Companies are run by people; what makes the difference between companies are the people in them, starting with the person at the top.

Level 5 Leadership

A Level 5 leader is characterized by a paradoxical personal humility and professional will. He will do everything for the long-term success of the company, even setting up his successor for greater success, with little regard to his own enrichment other than the pride he takes in the company. Consequently, they are typically paid no more than other company leaders, or even less. "I want to look out from my porch at this company and say, 'I used to work there.'" Their work is about what they build, not what they get.

Level 5 leaders have the stoic resolve to do whatever is necessary for the health of the company, taking action with intelligent rigor. They blame themselves when things go wrong, and credit others or luck when they go well. They use standards, not charisma, to motivate. Lesser leaders do the opposite on both counts.

Level 5 leaders often come from within the company, as veterans or even as family, and are described in the media in tones of modesty; they are not rock star CEOs who parachute in, guys whose personalities loom large, or even noticeably. In fact, little is written about them at all. Because of this, finding them before they've made their mark can be tough. Try looking for extraordinary results where no one has stepped forward to take credit.

Getting Started

The first priority of a Level 5 leader is ousting the wrong people, and hiring or moving around the right people. All other considerations wait until this happens. Instead of leading the company with a vision, he assembles the right team, and then together they figure out where the company is going to go and how it is going to get there. Although many companies thrive for a time on a visionary leader with a mental roadmap and many helpers, that sort of leadership is unsustainable, for eventually the genius leader will leave. Then the company will try to mimic the behavior and outward appearance of their former leader but without the benefit of his genius, and collapse is inevitable. The Level 5 leader, who wants his company to still succeed a hundred years from now, brings everybody into the thinking process, utilizing the collective genius of everyone.

At the outset this probably means a strong spike of layoffs and restructuring, typically followed by a long period of stability. Continuing or indiscriminant layoffs are signs of trouble -- once the right people are on board, there is no reason for further change.

The right people are right more because of their character traits and innate capabilities than their specific knowledge, background, or skills. You can always learn more stuff, but your basic personality isn't going to change.

The right people concept can be extended all the way down from carefully choosing the top management to correctly incentivising the factory workers. But it must be remembered that at every level, finding the right people is a tenet that cannot be compromised. If the right people are not yet available, keep looking until you find them. If revenues are growing faster than the right people that are needed to support that growth, an implosion is inevitable. Stop what you are doing until you have the right people, for even if it hurts now, it will pay off forever; and the wrong people will doom the company to mediocrity. No number of new stores (or any other measure of rapid growth) can change that.

Put the best people on the best opportunities, not the biggest problems; managing your problems can only make you good, whereas building your opportunities is the only means to becoming great.

Corollary: When you decide to sell off your problems, don't sell off your best people. If you create a place where the best people always have a seat on the bus, they're more likely to support changes in direction.

This fosters an atmosphere where the core team operates in a L5 way, arguing energetically what is best for the company, and then getting behind the truth that is revealed through that dialogue. It's a Socratic process, and it cannot be about being right personally. It all stems from finding the right people in the first place. Charismatic CEOs are a terrible detriment to this process -- no one can disagree with a Sun King, so truth never comes out.

It in this kind of environment that companies have the unique ability to employ the Stockdale Paradox 1: To retain faith that you will prevail in the end, regardless of the difficulties, even as you confront the most brutal facts of your current reality, whatever they may be. This is not optimism. Optimism, in its merely passive sense, will lead you down the garden path to nowhere. You must believe that you will succeed, but moreover you must take action to overcome the challenges in your path for that success to arrive -- you must go to it, it will not just come to you. Simple in principle, but it requires great discipline to actually execute.

For example, many companies have looked at a mountain of data and realized that, if you can't become number 1 or number 2 in your industry, you're doomed. You've either got to figure out if you can do that, or if you should get out of that business and do other things. All those companies that are number 3 or lower and that aren't moving up clearly lack this simple discipline. They are hardly unusual, and they'll never be great.

Another example: good companies, even number 1s, that make the mistake that what has worked in the past will work in the future, are doomed. They must discover the underlying forces of their industry and act on them, not blather that 100 years of success can't be wrong. Past success guarantees precisely nothing about today. If you don't change with the market you will be buried, regardless of how prominent you once were. Remember: if you have picked the right people, you don't need to worry about motivating them; they are already motivated. But you do have to worry about demotivating them, and one of the most demotivating things you can do is hold forth false hopes soon to be swept away by events.

How do you create a Socratic environment, where everyone is heard and the truth is revealed, where the brutal facts are confronted and the means to overcome challenges are discovered, if you don't already have that?
1. Lead with questions, not answers.
2. Engage in dialogue and debate, not coercion.
3. Conduct autopsies, without blame.
4. Build red flag mechanisms that turn information into information that cannot be ignored.

Once you have a L5 team assembled and can face your challenges squarely, the answers are often self-evident, even as they escape most other companies -- because most other companies don't have the clarity of vision that comes with L5 leadership. They can't see what is right before them, only the success of their past. In execution, the stunningly brilliant strategy is typically quite plain and obvious, and L5 leaders are often quite plain and unremarkable people.

Distilling your challenges and answers through this honest, rigorous process gives you an insight on your company and industry that you cannot arrive at in any other way. The basic truths are simple but profound, easy to say, but complex in their implications. Those who do not understand the basic truths see only the surface complications, and behave like foxes -- scattered, diffused, inconsistent, and unable to gain advantage in spite of being very active and very clever. The hedgehog, however, who understands the distilled truth, looks unremarkable, yet, with his simple clarity trundles along unassailably and profitably.

The basic strategy of a great company is deceptively simple, and provides the framework for all business decisions going forward. The process of arriving at it can even be drawn out, as an intersection of three circles:

1. What you can (and cannot) be the best in the world at (not necessarily related to what you are doing now, even if you are good at it).

2. What drives your economic engine (what single "profit or cash flow per x" has the greatest impact on your economics)? For Walgreens, the switch was from "profit per store" to "profit per customer visit", which are opposites: the first means fewer, cheaper stores in far away places, the second a store on every corner. Convenience at great cost, it turned out, made much more money than running the lowest cost operation. The challenge of the question always yields greater insights.

3. What you are deeply passionate about.

If you see a company stripping itself down to something simple, that's a sign of hedgehog activity. If you see it hiring gurus and conducting dubious yet expensive studies, that's old foxy chasing his tail. And when you see a company trumpeting Growth!, that's foxy, too. A company that is making its decisions relentlessly consistent with its Hedgehog Concept won't be trying to grow, for that momentum will come of itself. It will be trying not to grow too fast. It will have quiet confidence, not bravado, though both will have audacious goals.

Good-to-Great companies took about four years to clarify their Hedgehog Concept. It wasn't an event, but an iterative process, guided by the three circles listed above in each step: asking questions; dialogue and debate; executive decisions; autopsies and analysis. The people who do this corporate soul-searching are the Council, whose characteristics are:

1. The Council exists as a device to gain understanding about important issues facing the organization.

2. The Council is assembled and used by the leading executive and usually consists of 5-12 people.

3. Each Council member has the ability to argue and debate in search of understanding, not from the egoistic need to win a point or protect a parochial interest.

4. Each Council member retains the respect of every other Council member, without exception.

5. Council members come from a range of perspectives, but each member has deep knowledge about some aspect of the organization and/or the environment in which it operates.

6. The Council includes key members of the management team but is not limited to members of the management team, nor is every executive automatically a member.

7. The Council is a standing body, not an ad hoc committee assembled for a specific project.

8. The Council meets periodically, as much as once a week or as infrequently as once per quarter.

9. The Council does not seek consensus, recognizing that consensus decisions are often at odds with intelligent decisions. The responsibility for the final decision remains with the leading executive.

10. The Council is an informal body, not listed on any formal organization chart or in any formal documents.

11. The Council can have a range of possible names, usually quite innocuous. In the good-to-great companies, they had benign names like Long-Range Profit Improvement Committee, Corporate Products Committee, Strategic Thinking Group, and Executive Council.

Most good-to-great companies concluded that they were not, nor had ever been, the best at anything, but, infused with the Stockdale Paradox ("There must be something we can become the best at, and we will find it! We must also confront the brutal facts of what we cannot be the best at, and we will not delude ourselves!") every one of them, no matter how awful at the start of the process, prevailed in its search for the Hedgehog Concept.

Foxes, having never gone through the process, proclaim their supposed strengths with much fanfare. Hedgehogs really do know what it is they are going to be best at. It comes to them eventually, and when it does, it comes to them in a straightforward, plain manner. There's no denying the truth of it to themselves. Not needing to convince themselves, they don't set out to convince anybody else, either. They simply do it.

Having the right people also means being able to limit bureaucracy and hierarchy, which really exists to compensate for incompetence and lack of discipline. A culture of discipline -- not an unsustainable discipline enforced by one man on an entire company -- combined with an ethic of entrepreneurship, is the formula for superior performance and sustained results. Discipline here means a well-defined framework, defined by the Hedgehog Concept, within which entrepreneurial leaders have freedom and responsibility to act. Planning is priceless; plans are worthless. If the right self-disciplined people have been hired, and a thoughtful culture of discipline has been created, then the people don't need to be managed, only the system, as the people will take disciplined action that is fanatically consistent with the three circles.

From the outside, this looks like a boring company. Look closer, though, and you see a company full of people who display extreme diligence and a stunning intensity.

Everyone would like to be the best, but most organizations lack the discipline to figure out with egoless clarity what they can be the best at and the will to do whatever it takes to turn that potential into reality. They lack the discipline to rinse their cottage cheese, to sell the mills, to shut down the profitable restaurants that are safe but holding them back. On balance, it takes tenacity, not brilliance.

The good-to-great companies at the best followed a simple mantra: "Anything the does not fit our Hedgehog Concept, we will not do. We will not launch unrelated businesses. We will not make unrelated acquisitions. We will not do unrelated joint ventures. If it doesn't fit, we don't do it. Period." Unexpectedly, those companies that faithfully remained inside the three circles had more opportunities for growth, happily passing up once-in-a-lifetime opportunities that didn't fit while waiting for the many more that would come later. In contrast, a lack of discipline to stay within the three circles, either because they were not understood or because the company strayed, was a key factor in the demise or persistent mediocrity of nearly all comparison companies.

Most of us lead busy but undisciplined lives, with ever-expanding "to do" lists. Those who built the good-to-great companies made more use of "stop doing" lists than "to do" lists. They displayed a remarkable discipline to unplug all sorts of extraneous junk, from playing Wall Street forecasting games to getting rid of corporate jets and silly office buildings. Focusing on what helps make the company great is at least as much a subtractive process. Budgeting becomes a discipline to decide which areas should be fully funded, and which should not be funded at all -- either they are part of the Hedgehog Concept, or they should go.

Running a company is like having all your capital in one stock. You should do your best to insure it is the right one, which means making everything about it fit inside the Hedgehog Concept, or cutting it off.

Forget industries. Companies aren't great because they happen to be in the right place at the right time. In fact, great companies are found as often in indifferent or even terrible industries as they are in better ones. Companies become great by making the right choices. In fact, it may be more difficult to find great companies in industries that are currently on top -- at the very least, those companies get much more attention, and are much more likely to fully valued or more so.

In the end, companies are made up of people, and people aren't different across industries, or across time. The new economy isn't any newer than the new economy of electricity, the telephone, airplanes or railroads. The instantly available information is largely self-canceling, and besides, it isn't the availability of information that has affected companies in the past, but rather what companies decided to do about what they knew.

Forget technology. Technology is a tool, one that can give you leverage on your Hedgehog Concept. But it is the Hedgehog that uses the tool, not vice versa. Good-to-great companies wound up being technological leaders, but not because they sought technology -- it came as a natural and slow development of figuring out how to best develop their Hedgehog Concept, carefully selecting and applying the right technologies. The technologies themselves may not even have seemed cutting edge, but their application was new because the thinking about how to use them was new.

Technology of itself has never created momentum, only added to it. If you see a neat piece of technology and are wondering if you should pick it up, ask: Does it fit directly with your Hedgehog Concept? If yes, then you need to become a pioneer in the application of that technology. If no, then ask if you need that technology at all. If you do, parity is all you need (you don't need the world's best phone system to be a great company). If you don't, then ignore it utterly.

[An old Road & Track article comes to mind, in which the best driver in the slowest car was faster than the slowest driver in the fastest car. In real races, this is also true: the primary variable is not the vehicles, but the drivers.] So it is with management and technology. There are technological differences, but they aren't typically nearly as important as the gigantic differences in the people. Technology, for example, can't turn a good enterprise into a great one, or by itself prevent disaster. Only people can.

Furthermore, early technological pioneers have historically been failures, beaten by people who better knew how to execute the concept. Again, the underlying concept, not the surface level technology, is what matters over the long run.

If you ever find yourself thinking that technology alone holds the key to success, remember the Vietnam war: Thoughtless reliance on technology is a liability. When linked to a simple, clear, and coherent concept rooted in deep understanding technology can bring great momentum. When thought as a solution of itself, it only brings momentum to your failure.

Frequently companies will adopt technology because they are afraid of being left behind. But great companies are motivated by a deep creative urge and an inner compulsion for sheer unadulterated excellence for its own sake. They are building greatness, and so feel no fear, whereas mediocre companies are just trying to get by, and are thus easily threatened, and therefore reactive, not adaptive.

Great companies develop their adaptations to rapidly changing or stressful environments calmly and carefully, with a crawl, walk, run approach. Lesser companies are afraid of what will happen if they don't do something, and wind up with a run, walk, crawl approach. A wise man speaks because he has something to say. A fool speaks because he has to say something.

The development of the Hedgehog Concept takes years. Setting it in motion takes years more, often many years more. The media doesn't pick up on a company until after the momentum has already built up and the company is breaking through -- like Sam Walton's 20-year "overnight" success story. It's like the papers running a story on an egg miraculously and almost instantly turning into a chicken. Because that's all we see, that's how we think it is. But inside the company, no matter how dramatic the end result, it was always a slow process, one step at a time, like turning a gigantic flywheel, and often only afterwards did people even realize that they had been in a period of such great and fundamental change. Because the flywheel begins to show results as it gets turning faster and faster, you don't need to motivate people. They can see for themselves what is happening, and you can ask them to figure out what's going to happen if they just keep doing what they're doing. People are never so motivated as when they can see results for themselves. The opposite is the launch of the new program with much fanfare, sometimes coupled with abandoning the momentum of the previous CEO to start anew, pushing the flywheel in another direction. They sell the golden, glowing future, to compensate for lack of results. But you don't have to sell anything to inspire or align your troops if you have results and momentum.

That momentum cannot be bought, borrowed, or stolen; it must be earned. Acquisitions are made by great companies, but only after they have a working Hedgehog Concept and think that it'll add directly to their momentum. Lesser companies acquire companies in order to get momentum started, which doesn't work; it must already be there. It may diversify away their troubles, it may provide growth, but since it can't answer the unasked questions about their Hedgehog Concept, an acquisition cannot prove the path to greatness. Two big mediocre companies never make one great company.

Core values are essential for enduring greatness, but it doesn't seem to matter what those values are. Enduring great companies preserve their core values and purpose while their business strategies and operating practices endlessly adapt to a changing world. This is the magical combination of "preserve the core and stimulate progress."

The only company to make the cut for both Good to Great and Built to Last was Philip Morris (through decades of concentration in tobacco, later expanding to beer, coffee, and chocolate, and later other products such as fatty foods -- the company's products revolve around sinful consumption). Clearly it is not the moral content of a company's values, but the strength of conviction with which it holds those values, whatever they might be. That is the only conclusion the data support.

It is no harder to build something great than to build something good. It's more rare, but it does not require more suffering or work than perpetuating mediocrity, and quite possibly less. Much of what we do is a waste of energy. If we organized the majority of our work time around applying these principles, and pretty much ignored or stopped doing everything else, our lives would be simpler and our results vastly improved.

1: Admiral Jim Stockdale, the highest-ranking US military officer to spend time in the "Hanoi Hilton" POW camp during the Vietnam war, there endured 8 years of torture, and came up with numerous schemes to survive and teach his men to survive. And survive he did. Today he studies and teaches philosophy at Stanford, but if you read his book you find yourself getting horribly depressed, even though you know that the story has a happy ending. During his dark and terrible time there, however, he had no such assurance. Yet "I never lost faith in the end of the story. I never doubted not only that I would get out, but also that I would prevail in the end and turn the experience into the defining event of my life, which, in retrospect, I would not trade." Stockdale was asked who didn't make it out. "Oh, that's easy," he said. "The optimists."

"The optimists? I don't understand," I said, now completely confused.

"The optimists. Oh, they were the ones who said, 'We're going to be out by Christmas.' And Christmas would come, and Christmas would go. Then they'd say, 'We're going to be out by Easter.' And Easter would come, and Easter would go. And then Thanksgiving, and then it would be Christmas again. And they died of a broken heart.

"This is a very important lesson. You must never confuse faith that you will prevail in the end -- which you can never afford to lose -- with the discipline to confront the most brutal facts of your current reality, whatever they might be."

Become a Complete Fool
Join the best community on the web! Becoming a full member of the Fool Community is easy, takes just a minute, and is very inexpensive.