Lululemon: How Much "Discretion" Should a CEO Exercise?

This week Lululemon CEO Christine Day announced that she would be stepping down.   Her resignation comes just three months after the substantial product recall of yoga pants that led to the departure of the firm's Chief Product Officer.   On the day of Day's surprising announcement, Lululemon shares fell 17%.  Investors wondered if other bad news might be coming from the company that has been a terrific growth story over the past several years.  Day chose not to discuss the detailed reasons for her departure.  She told Fortune, "There is no difference in strategic vision for the company, we were and are aligned... My values include discretion. While I know everyone would like to know 'the reason' [I'm leaving] there are some things that should remain private because the truth is the good things outweighed the bad and by being respectful and grateful one can remember that."  

I find this incident very interesting.  It raises some difficult questions regarding the responsibilities of a public company CEO.   While I respect Day's right to privacy, I can't help but look at that stunning 17% drop in the firm's shares.  Do the shareholders deserve more information?  Does Day have a responsibility to disclose more information about her departure so as to prevent such a drop in the firm's shares?   It's hard to say, of course, given that we don't know the reasons.   However, it seems clear that investors were spooked by the surprise departure.   Investors simply do not like being left in the dark. 

Is Reputation a Bigger Motivator Than Money?

Erez Yoeli, Moshe Hoffman, David Rand, and Martin Nowak have conducted a fascinating new study that suggests reputation sometimes can be a bigger motivator than money.   They conducted a field experiment associated with a utility company's program in California to try to prevent blackouts. Some individuals were offered financial incentives to participate.  For other individuals, sign-up sheets were posted in common areas of apartment buildings.  Financial incentives did boost participation in the program.  However, the sign-up sheets had a much more significant impact!   Rand explained to the Harvard Gazette:  “When people know it’s a cooperative effort, they feel peer pressure to take part.  They think, ‘If I don’t do this, I’m going to look like a jerk.’ But if it’s not observable, then there’s no problem with not participating.”   Making behavior observable brings reputation to the forefront.  People care a great deal, in many cases, about how others perceive them.   Hoffman explained that Toyota may have used this self-perception concern to its benefit when designing the Prius.    “In fact, we think this is one reason why the Prius, for instance, is such a different-looking car. The designers at Toyota seem to have intuitively had this idea: designing a car that didn’t look like any other car so your neighbors can tell you’re driving a hybrid." 

JetBlue: Does Adding Business Class Seats Make Sense?

According to Businessweek, JetBlue will be rolling out a 16-seat business-class cabin on certain transcontinental routes aboard new Airbus 321 planes in the near future.   JetBlue VP Scott Laurence told Businessweek,  “I think the incumbent pricing at $2,500-plus, each way, is something we think doesn’t make a lot of sense.  It doesn’t stimulate an already existing market. We think we can stimulate demand there and really have an impact on that market.”  In other words, look out legacy carriers!  Your first class service is about to be challenged by a less expensive, high quality service from JetBlue.  

Is this a good idea?   It strikes me that an opportunity does exist in the market.  A significant gap exists between the price (and associated service) of a first class seat on one of those transcontinental flights and the price and service associated with an economy seat.   JetBlue may be able to come in with an attractive offering at a price point that induces some economy customers to upgrade, while stealing some first class customers from other airlines. 

What's the downside?   JetBlue has succeeded in part because it made good tradeoffs.  It chose NOT to do many of the things legacy carriers do (no first class, no bulky cart used to deliver drinks, no hub and spoke system, etc.).  Those tradeoffs made JetBlue unique and hard to imitate.  Now the company is relaxing one of those key tradeoffs.   Companies often find that they violate key tradeoffs when they strive to grow.  Sometimes, abandoning key tradeoffs damages the power of a unique business model.  JetBlue will face some questions: Will it slow down the boarding process when you add a business class cabin?  Will stocking the cabin require more time, and thus slow down turnarounds?   Will providing service to the business class cabin cause flight attendants to sacrifice the quality of service to the rest of the passengers?  Given these questions, it's a good idea that JetBlue is launching this new model as an experiment.  The key will be to learn and adapt quickly as challenges arise.  The deeper question will be:  Are we sacrificing key elements of our competitive advantage by pursuing this opportunity, or are we enhancing our competitive advantage by further differentiating from the competition? 

Would You Like That Bonus in Cash or Some Other Form?

How should you reward people?  What concerns should you have about offering rewards to your employees?   One important factor to consider: Will the employees compare rewards with one another?  Will those who receive smaller rewards be highly dissatisfied?   Extensive research shows that people engage in social comparisons.  They care not just about how much they receive, but how much they receive as compared to their peers.  Kellogg Professor Neal Roese and doctoral student Jingjing Ma have conducted some fascinating research with regard to reward comparisons.   They have shown that making rewards less "countable" can reduce the "likelihood that recipients will compare rewards, which in turn increases their satisfaction." 

The original experiment went as follows.  They created two groups of students: an "overbenefit" group and an"underbenefit" group.   The groups split a fixed reward 60/40.   One half of each group received a "countable" reward - i.e. cash.  The other half received an "uncountable" reward - i.e. a slice of cake.   Naturally, people who received higher rewards were more satisfied in both cases (cash and cake).  However, between the two "underbenefit" groups, the recipients of cake were much less dissatisfied than the recipients of cash rewards.  

Kellogg Insights provides the scholars' explanations of this result: "According to Ma, offering cake encouraged the recipients to focus on the experiential aspect of their reward—'oh, this cake is delicious,' she says—instead of 'thinking about how they received less than the other guy.'"

Grandiose goals at Lenovo: Drinking games & hazing rituals?

Did anyone else find this Fortune magazine article about Lenovo a bit disconcerting?    The article describes a "lighthearted drinking game" that occurs each year among top executives at which they set their ambitious goals for the coming year.  The head of human resources even endorsed the ritual!  I understand cultural differences should be respected, but should a global company really be setting management goals while executives engage in "good-natured hazing" rituals?   The phrases in quotes come from Fortune writer Miguel Helft, not me.  Hazing?  Drinking games?  I can see many  executives at leading multinationals cringing when they read these words.  

The article goes on to lavish praise on the Lenovo management team ("a cocksure crew") for the performance it has achieved in recent years:

"Even without a few drinks in them, Lenovo's top executives are a cocksure crew these days, and for good reason: The company's contrarian bet to double down on the PC business has paid off handsomely. In recent years Lenovo invested heavily in R&D and acquisitions. It beefed up its own network of factories, allowing the company to bring innovations to market more quickly than competitors that outsource most of their manufacturing. As a result, Lenovo's growth has outpaced the industry's for the past 16 quarters, and it has tripled in size since the IBM deal to more than $33 billion in sales. This year it's on track to edge out HP to become the world's No. 1 PC maker."

What's missing from this paragraph lavishing praise on the company for its performance?  One little word:  profit.   Yes, the company has grown rapidly. Yes, it has achieved an impressive market share in the PC market.  Has it made any money?   Hmm... that would seem to be a desirable metric on which we should focus.  Late in the article, the author finally gets around to a discussion of margins.  Here's what Helft writes:

"At the same time, Lenovo benefited from its Chinese cultural heritage, in particular the propensity to focus on long-term goals. Lenovo approaches every new market with a similar strategy: pricing products aggressively at first, sacrificing margins. Executives are expected to deliver profitability only after market share gets to double digits. The risky approach has largely paid off. "The company has surprised me over and over," says Alberto Moel, an analyst with Sanford Bernstein. Its continued growth amid the industry's disarray, Moel says, "is a major achievement." But Moel warns that expanding margins, which at 2.5% are about half those of Dell's and HP's PC units, will be harder than management thinks. Such concerns have weighed on the stock, which has been stuck in a narrow range for the past year (its ADRs, now at $18, are down from $23 a share). With net income of $575 million over the past four quarters, Lenovo has a market capitalization of about $9 billion." 

Margins are half of those found at Dell and HP, and as it is, those American rivals have very thin margins in the PC business.  The firm apparently focuses on margins after getting to double-digit market share.  Yet, Lenovo has 15% market share in the PC business.  Will the margins improve?  How much?   Consider that the personal computer industry has been one of the least profitable markets on earth in recent years.   A simple structural analysis of the industry shows that it is highly unattractive - high buyer and supplier power, high threat of substitutes, and intense rivalry.  Increasing margins will be challenging. Lenovo has brought many product innovations to market.  It has developed strong relationships with many corporations and institutional buyers.  It has many positive attributes.  However, it will be challenging to make high profits in the PC business.  As Warren Buffett once said, "When an industry with a reputation for difficult economics meets a manager with a reputation for excellence, it is usually the industry that keeps its reputation intact."

The Power of Independent Executives

Does a CEO bring in many new members on his or her top management team after taking charge at a company?  Or, does the CEO have a number of key holdovers from a previous administration?  Does this key factor in the composition of the top team make a difference?  New research by Augustin Landier, Julien Sauvagnat, David Sraer, and David Thesmar (published in the Review of Finance) suggests that having more "independent" executives on the senior team can have positive effects on decision making and financial performance.   The scholars define "independent" to mean executives not appointed by the current CEO.  

The scholars collected data on over 1,800 American companies over a 17 year period.  According to this article in Strategy and Business, here are their results: "Controlling for a variety of factors, they found that even the smallest uptick in the nonindependence of executives caused a decrease in the firm’s annual return on assets of between 0.5 and 0.8 percentage points."

What's going on here?  They argue that CEOs tend to hire people who think like they do. Moreover, executives hired by the current CEO may feel more beholden to that leader.   As a result, they may not be as willing to express dissenting opinions.   On the contrary, an executive hired by a previous CEO may be more willing to push back on high-stakes, potentially risky decisions.  The authors go on to argue that "independence" of senior executives may matter much more than the independence of board members, since the top team meets much more frequently and is much more directly responsible for strategic choices and performance at most large corporations. 

Additional research by these scholars shows that firms with fewer independent executives on the top team also are more likely to make acquisitions that destroy shareholder value.  Here is the key finding:  "Although acquisitions, on average, led to decreases in shareholder value for the companies in the study, firms with fewer independent top subordinates fared much worse, losing about 45 percent four years after they made an acquisition, almost triple the 16 percent loss posted by firms with more of those executives." 

Do you care? How to increase employee engagement

In this Fast Company interview, Gallup's Jim Harter comments on the sad state of employee engagement in American corporations.  According to Gallup's research, only 30% of the U.S. population is engaged in the workplace, i.e. deeply committed to their jobs.  52% of the employee population is disengaged, and 18% is actively disengaged, meaning that they are "actively against what the organization, and their boss, is trying to get done."  Those statistics are rather alarming. Some companies, of course, have begun to focus intensively on employee engagement over the last decade.  Harter comments on what leaders need to do to increase employee engagement:

So, what are the qualities of leaders that businesses must now be seeking? According to Harter, it begins with a combination of being results oriented and authentically concerned about the development of every worker. “Some people are better at getting results and some are better at developing. But, we’ve found both are equally important.”  Harter describes the most effective managers as being deeply caring--and capable of seeing, supporting, and adjusting to the differences in people. “They help people build jobs that fit them as an individual person, while still helping them get to the outcome they need from an organization perspective.”

Authentically concerned - it's such a simple, yet powerful idea.  Think about what makes great professors or teachers.  Beyond simply knowing the material or being able to explain concepts clearly, great teaching is about showing students that you care.  My colleague, Jane McKay-Nesbitt, has this great saying about teaching: "They must know that you care before they will care what you know."  The same principle holds true for leaders.  People will not follow you if they do not believe you care about their well-being and development.  Engagement starts with authentic concern.