Sunday, December 07, 2014

Growth champions are different from other businesses

I recently had the opportunity of working with Margaret Exley of SCT consultants and we started talking about the characteristics of hyper-growth companies and how they differed from others.
Margaret's client list is the who's who of giant British business - a decent chunk of the FTSE100. She advises them on improving board effectiveness generally and specifically on increasing their strategic focus.

She has conducted a very interesting piece of research which has many lessons for the slow growing giants as well as those early stage companies aspiring to becoming hyper-growth businesses.
The paper, entitled Designed to grow has not been made public before and is reproduced below by kind permission.

Thank you Margaret.


How growth champions differ from other business and what it takes to become one
Summary of research

The research surveyed 214 companies across the USA and Europe to identify high growth companies, and what makes them different. The overwhelming majority of senior executives said organic growth was a primary goal for them and their organisations. However, only 12% had exceeded their organic growth objectives in the last three years. Barely half rated themselves as having been effective in achieving growth in the same period and a majority believed that creating growth from within will become harder in the next three years.

We identified 23 companies who are growth champions. All had consistent year on year growth as a distinguishing feature. Most had consistently delivered growth in revenue, net operating income and share price over a period of five years, at twice the rate of the rest.

The growth champions have six practises or types of behaviour which clearly distinguish them from the rest. Differences between the growth champions and the rest are clear, marked and statistically significant.

These practices do not include some of the things which have been said to be important by consultants and others in the past, eg creating radically new products and services, risk taking, having an internal venture capital process, or financial incentivisation.

The growth champions transcend sectors, geography, size and business model. There is a mixture of public and privately owned businesses and the growth practices are key differentiators. They work together to give a distinctive footprint. Practices include: creating clarity on sources of growth and well articulated profit models, combined with disciplined execution of those strategies backed up with strong measurement and feedback to the team.

Growth champions focus on a few things and make clear trade-off decisions. They are able to grow because they have few management levels, develop their own leaders and create a culture of continuous adaptability. They are disciplined, focused and minimalist rather than risk-taking opportunist or complex. Not only are the practices mutually reinforcing, but they reflect a clear difference in priorities between growth champions and other businesses. They put companies at a significant competitive advantage. They can be measured and they can be learned.

As a result we are now able to assess companies against the high growth practices, identify where they are weak and focus on the specifics needed to drive organic growth.



Our starting point

Profitable growth is central to the creation of any company’s economic value, providing the cornerstone for ongoing competitiveness. In turn, successful company growth fuels the wider economy and therefore has broader benefits for society. But in the Conference Board’s recent study of the top priorities for CEOs (the CEO Challenge Survey, 2006) over 650 CEOs rated sustained and steady top line and profit growth as the top two challenges for them in 2006.

We have been looking at the characteristics of companies who achieve high ratios of organic growth, ie growth which does not rely on acquisition. Whilst much has been written about the key to organic growth, most of the previous work is prescriptive, ie it suggests a particular strategy or solution to the problem of growth.

We set off in our study with a more open mind. The questions we sought to answer were: are there common practices between high growth companies that transcend sectors, business size, positioning in the business cycle and history?  And can such practices or behaviours be clearly detected and therefore potentially learned?
Much has been written about mergers and acquisitions, and about inorganic growth as a key to success. Less has been published on organic growth.

In a 2004 ‘Industry Week’ article, James McNerney, Chief Executive of 3M, was quoted as saying “In today’s world, our overall business objectives are to be simultaneously strong in operating excellence and unusually strong in organic growth”.

In a 2002 survey of 120 British firms, Edengene found that organic growth topped executive agendas, though few companies were succeeding in achieving it. A subsequent study by Marakon in 2004 showed that for 59% of senior managers worldwide, organic growth is their key issue.

Many of the books written on organic growth focus on the reasons why organic growth fails to take root in companies. Problems range, for example, from the absence of entrepreneurial leadership to poor incentive systems that don’t support growth goals and include the inability to capitalise on the synergies which exist across a company. Those management theorists who have a point of view about how to grow companies, usually promote one or two initiatives with little detail about what they are actually doing. Some talk about innovation, others advise focusing on cultural transformation.

The study set out to:
1.          Learn what organisational practices best support organic growth, how they relate to one another and what types of companies are employing them;

2.          Determine which practices can be tied to actual financial growth;

3.          Develop guidance for executive teams who are trying to grow from within, so that they can most cost effectively focus their time, energy and creativity in the right ways.

Distinguishing exceptional financial performance

In launching this work, a team assembled data from a literature review, and from our own experience which was distilled into a set of 35 practices that purport to create organic growth.

In addition to questions about the 35 organic practices, a small number of questions were included to characterise the role and importance of organic growth in the participating companies and their industries. Three financial criteria were assessed: the extent to which participating companies are falling short, meeting or beating their organic growth goals for:

·            sales;
·            earnings;
·            cashflow.
The sample included CEOs, CFOs, and other members of the executive team and data was gathered by a combination of face to face interviews and questionnaire completion.

In some cases participation was delegated to one level below the executive team. All the respondents in this study are senior executives in prime positions who know what their companies are doing to grow from within, how those actions are supporting organic growth, and what is actually being achieved.
The data was collected in 2005 and 2006. From the data given and as a first screen we created a pool of growth champions, ie those who reported that they were beating expectations for the last three years on all three dimensions. Once the database was complied, published financial information for the publicly traded companies was reviewed as a second screen.

In this way we were able to corroborate the financial performance of the companies in our sample over the period. Furthermore we examined revenue, net operating income and share price over the previous five years. By doing a further check in this way, we reduced by two the number of companies who we identified as growth champions, ie those who had grown consistently over the period, giving us an identifiable group of 23 such companies.

A majority of organisations in the total sample (56%) believe that creating organic growth will become harder in the next three years. However a similar proportion (50%) believe their own company’s capabilities to drive organic growth are not getting any stronger. So not only is growth important, not only is it a struggle to achieve, but it is predicted to get harder.

It is not surprising therefore that given the right conditions, many large businesses choose to grow inorganically through acquisition rather than building their core business. The bad news is that many of these acquisitions then do not deliver good financial performance and therefore may not be the solution to underlying financial growth that companies hope for.

A large proportion of the sample (59%) had articulated specific, quantifiable goals for organic growth for which senior leaders were being held to account. A further 30% reported that they had tasked their managers to grow the business organically. It is not that companies do not seek to grow, or task their leaders to focus on growth, but some are inherently incapable of delivering growth. Most companies have strategies for growth and task their leaders to deliver them. However the challenge is to ensure that delivery.

Profile of participating companies

We surveyed a total of 214 companies across the USA and Europe. We believe this to be the largest investigation into organic growth to date. Participating companies included some of the world’s largest and most successful businesses, eg. Procter & Gamble, as well as some of the smallest, eg Piatkus Books (a small publishing firm with a turnover of $15 million).

Further checks were undertaken, having identified the growth champions, to see whether there was any revenue size or industry bias among the 23 in relation to the rest of the sample.

No revenue size or industry bias was found. Growth champions can be large or small companies, and can come from almost any sector as can be demonstrated by the charts following.

Participating companies – industry breakdown
  


















Ninety-three percent of companies in the total sample indicated that organic growth is critical to the success of their companies, even though only half report that organic growth is the dominant growth strategy in their industry. Only 51% of companies rated themselves as having been effective in achieving organic growth in the last years on all three criteria (sales, earnings and cashflow).

The growth champions

Only 23 of the 214 companies had consistently exceeded their organic growth objectives. For these companies who answered the questionnaire in 2005, we covered the five year period leading up to that year. For those who answered the questionnaire in 2006, we covered the five year period leading up to 2006.

Therefore we were able to select those companies who had shown consistent growth over five years in all three dimensions, ie revenue, net operating income (profit after tax and interest), and share price. The performances for each are shown below in the following tables. They show that the growth champions on average hit more than twice the growth rate of the other companies over the period, for all three dimensions.

Five year revenue performance (annual increase)

                                           Year 1-2          Year 2-3        Year 3-4          Year 4-5     5-year av.    
Growth champions
10%
77%
37%
21%
38%
Other companies
8%
6%
22%
14%
10%

Five year net operating income performance (annual increase)

                                      Year 1-2               Year 2-3        Year 3-4          Year 4-5      5-year av.    
Growth champions
49%
162%
68%
42%
83%
Other companies
8%
48%
24%
32%
26%

Five year share price performance (annual increase)

                                      Year 1-2               Year 2-3        Year 3-4          Year 4-5        5-year av.    
Growth champions
12%
42%
21%
29%
25%
Other companies
8%
9%
6%
26%
12%

This data therefore supports the self-reported financial performance of the companies concerned.

The growth champions not only have tremendous revenue growth performance, but they also accomplish it without compromising net operating income. This should also put to rest the argument that a company has to sacrifice profitability in order to grow.

Furthermore the market rewarded the publicly traded growth champions, compared with those in the other companies, for their performance. In this way financial performance feeds through directly to share price.

Size doesn’t matter

One could speculate that very large companies may be more severely challenged than smaller companies in implementing certain practices due simply to their organisational complexity. An alternative hypothesis is that the larger the company, the more financially able it may be to deploy particular practices to grow from within. Neither case is true.

Executives were asked to rate the extent to which their companies are engaging effectively in each of the 35 practices. The statistical correlation between their deployment of each of these practices and company annual revenues was close to zero. One important conclusion therefore is that the size of the company is irrelevant to its ability to act in a way that supports organic growth.

Therefore, based on the self reported scores for growth, the demographic comparisons with the balance of the sample, and most importantly the comparative financial results among the publicly traded companies, the label ‘growth champions’ is more than reasonable.

Having identified this pool of high growth companies, we then examined the best practices for organic growth.

Best practices for growing from within

The executives rated each of the 35 organic growth practices on a five point scale in terms of the extent to which their company is deploying the practice. The questions asked included the strategic direction and deployment of resources, the basic work patterns and how people work together, culture and commonly well regarded behaviours such as innovation, and team working, as well as people aspects, ie the characteristics of those who are responsible for organic growth.

For each of these factors we compared the scores of the growth champions against the rest. There were a small number of growth practices which were consistently highly rated, and when tested the differences between the growth champions and the rest were statistically significant.

There were six practices which were statistically different at the 98% level of confidence. That is to say it is almost impossible that the differences occurred by chance. The chart which follows shows the results for the growth champions and the rest of the sample.

Key practices of growth champions

The growth champions have clear and well articulated profit models which are linked with strong metrics and feedback. They are very clear on their sources of growth and make effective trade-off decisions about where to invest for growth.

These businesses focus on a few things and this focus is amplified by a capability to engage in disciplined execution at all levels. These practices are noticeably much less present in the remaining 189 companies, who put effort into a variety of other practices.

It is also worth noting the practices the growth champions do not pursue. Very few of them focus on building radically new products or services. They stick to what they know. They do not support multiple business models simultaneously, preferring instead to operate a single clear business model. Just over half report that they foster innovation, but this is not significantly different from the non-growth champions. Few of them have an internal venture capital process or share resources across the organisation to fund initiatives.



The top six key practices





The four enablers

There are also a series of enabling practices which support the six high growth practices identified above which are statistically significant at the 95% level of confidence. These are four further practices which are statistically different between the growth champions and the rest and which relate to the way the companies are organised and led.

1.          The first of these is that the growth champions build leaders to grow from within. They put considerable effort into building leadership capability which will focus on organic growth.
2.          A significantly larger number of them also have fewer levels of management.
3.          They engage in cross-cutting forums to drive innovation.
4.          Finally, the growth champions have developed a culture of adaptability. They actively encourage their employees to be adaptable and flexible to a changing environment.

The ten distinguishing practices of the high growth companies, which are statistically different in those companies from the remaining lower growth businesses, are set out below.



The growth practices


Growth champions
% practiced
Non-growth champions
% practiced
Top six practices


1.      Create clarity on sources of growth
96%
74%
2.      Clearly articulate and have well understood profit models
91%
56%
3.      Engage in disciplined execution at all levels and promote excellence in execution
78%
44%
4.      Make effective trade-off decisions about which opportunities to invest in
70%
45%
5.      Have strong metrics and feedback loops
70%
38%
6.      Focus the business on a few initiatives
70%
44%
The four enablers


7.      Build leaders’ capabilities to grow from within
70%
49%
8.      Develop a culture in which people readily adapt to change
70%
48%
9.      Maintain fewer levels of management to enable faster decisions
61%
49%
10.   Engage in formal, cross-functional or regional forums to drive innovation
61%
35%

A further analysis was performed to examine the average inter-correlation of the ratings of these ten best organic growth practices. The inter-correlation was high and statistically significant. This supports the premise that these practices are contingent upon one another.

They go hand-in-hand, and are mutually reinforcing and supportive.

In CB Richard Ellis, a worldwide real estate business, for example, every year the company examines which businesses to enter and exit. They avoid getting into what might appear on the surface to be related business lines (eg maintenance services) because they recognise they are not expert in those businesses. They are clear on their sources for growth and they steadfastly refuse to invest in businesses unless both can work synergistically with existing CBRE businesses. They also strive to keep things simple.

Brett White, the CEO, explained “We don’t spend weeks in seclusion working on strategic plans because the business changes faster than we plan”. Brett and his colleagues have focused their management team on six key objectives which have remained consistent for many years. People understand the sources of growth and the financial metrics that count. Furthermore, they focus on building leaders. Every year thousands of people (employees and customers), attend their in-house university for up to a week.

However CBRE does not spend a lot of time investing in new products or going on management retreats. Instead, CBRE executives focus their business meetings on tactical initiatives with a goal of keeping things practical and action oriented. Brett reports that “We are very empirical. We’ve cut out the nonsense and focuses on what makes money. The question is always “How does the action you are taking today tie to revenue margin and EBITDA?”.

The final component of CBRE’s success is the disciplined approach to measuring business performance. The company has an established comprehensive set of financial metrics which track the growth performance of each manager and which are visible to all. People are measured on top line as well as bottom line growth.



The growth blueprint

The diagram below summarises the growth champion ‘blueprint’, ie the distinctive footprint of the 23 companies which exhibited outstanding growth. These companies are focused and very selective, and not radically innovative. They execute very effectively because they are so focused and have simple structures and move quickly to respond to their environment. The culture is disciplined and adaptable. These are not organisations that ‘let a thousand flowers bloom’, but they do expect people to continually adapt. The various elements of the distinctive blueprint are mutually supportive and together fuel organic growth. The elements are inter-correlated – ie they move together and are inter-dependent.

The growth champion blueprint



The $60 billion Procter & Gamble company (P&G), now the world’s largest consumer goods company, is a good example of this. Its health, beauty care, household and food products are used an estimated two billion times a day by consumers around the world.

Its success in sustaining growth is based on continuous attention to detail, sound processes and conservative decision making. Disciplined leadership, disciplined execution and remaining faithful to the consumer is the key to P&G’s success.

Amongst the growth champions, the organisation arrangements are simple, have few management levels, and strong metrics and feedback loops. P&G has reorganised from five divisions into three to simplify its operations and is quick to eliminate brands that aren’t profitable and growing.

P&G is remarkably centralised and aligned towards a set of shared goals. Divisions don’t head off on their own. Shared processes have a lot to do with this, as does the fact that P&G executives are grown from within; they know each other and they understand the procedures that need to be followed. While some companies would find this centralisation a barrier to creativity and innovation, P&G uses its structure to do just the opposite: force innovation where it is required and cut off unsuccessful investments early on before they drag the division or company down.  

Similarly, if you understand your profit model and focus on a few key initiatives, this gives a solid basis for having strong measures and feedback loops.

Texas Capital Bank was founded in 1998, and targets small to mid-size businesses, providing the full gamut of banking services. Its revenues grew 22% from 2002 to 2003 and another 29% between 2003 and 2004. In the same period, operating income grew 16% and 49% respectively.

Texas Capital takes a P&L view of all its work: each customer relationship has the full P&L. Each person controls and bills his or her own business and this creates a real sense of ownership and an incentive for individual initiative. Each month everyone sees their performance and that of their colleagues. Texas Capital has not lost anyone in the top 80% of performers, and the bottom 20% of performers get the message and weed themselves out of the organisation. The bankers’ relationships however focus not on short-term revenue production but on long-term profitability. Because of this long-term measure, a banker’s incomes may drop, but over the first few years of their time with the bank their income will exceed that of competitors.

The relationship between sales, earnings and cash growth

We looked at the organic growth practices to see the extent to which statistical modelling might show how combinations of the ten best organic growth practices correlate with the three financial performance outcomes against which executives rated their companies.

We looked at the extent to which the participating  companies are falling short, meeting or beating their growth objectives for sales, earnings and cashflow, and explored whether there was a specific link between any particular practices and these aspects of financial performance. The regression analysis identified subsets of the ten best organic growth practices that have statistically significant correlations with different financial outcomes. The results were interesting and are shown in the table below.

This analysis shows that sales growth is associated with disciplined execution and a culture of adaptability. Earnings growth is linked with good decision making and focus, whilst cash flow growth is strongly related to measurement and promoting excellence in execution.

These findings provide insights for organisations who are interested in launching internal efforts to grow particular financial outcomes. However, while different practices correlate more strongly with one outcome than another it is important to remember that the practices themselves are contingent on one another.  Leaders who focus their companies on growth and who pay attention to the ten growth practices are likely to see the needle move on all three dimensions.

The key practices which drive financial outcomes

Practices that best support growth in sales
Practices that best support growth in earnings
Practices that best support growth in cashflow
Disciplined execution at all levels
Focus whole business on a few initiatives
Maintain strong metric/feedback loops
Develop a culture in which people readily adapt to change
Make effective trade-off decisions about investment opportunities
Promote excellence in execution

Conclusions

In summary, there are clear and distinctive practices which differentiate growing companies and which are mutually reinforcing. These exclude many which the literature says should fuel growth. They transcend size, sector, and history, but the growth is consistent year on year.

The practices are characterised by focus, simplicity and discipline and dispel some misunderstandings about the importance of, for example, risk taking, radical innovation and involvement of high potential leaders in growth opportunities. Not only are they mutually reinforcing, but they reflect a clear difference in priorities between growth champions and other businesses.


In short: these companies have deliberately chosen this set of practices and have become good at them. The practices put them at a significant competitive advantage. They can be measured and they can be learned.