The Risk One Cannot Afford to Take

May 212012
 

You can expect to be reading and hearing a lot more about JPMorgan Chase in the coming weeks, as investigators seek to get to the bottom of things: How do you lose billions of dollars in a flash? The latest, from the New York Times, is an article suggesting that an absent boss was at least partly to blame.

Evidently, Ina Drew, who oversaw the bank’s chief investment office, was sidelined a lot because of a bout of Lyme disease. Back when she’d been at her best, “Ms. Drew attended the regular morning huddle with traders and forced them to defend positions and outline the risks they would face during the approaching trading day,” the Times reported. Once she was in the office less, however, “her unit was making riskier bets.”

As we’ve noted before, Peter Drucker had no objection to risk-taking per se. After all, it’s inherent to moving forward as a business. “A business always saws off the limb on which it sits; it makes existing risks riskier or creates new ones,” he wrote in Management: Tasks, Responsibilities, Practices. “Risk is of the essence, and risk making and risk taking constitute the basic function of enterprise.”

But to approach risk the right way, you have to know what kind or risk you’re taking. “Risks . . . need to be classified,” Drucker advised in Managing For Results. “A risk is small or big according to its structure rather than according to its magnitude alone.”

Specifically, Drucker outlined the following four kinds of risk:

1.     The risk one must accept, the risk that is built into the nature of the business

2.     The risk one can afford to take

3.     The risk one cannot afford to take

4.     The risk one cannot afford not to take

Apparently, the traders at JPMorgan did not approach their work with option three in mind. In any case, the point isn’t that making big bets is inherently bad. The point is that things are bound to go wrong absent a clear thinking about what type of risk is being taken.

What about you? How do you classify risk in your work?

Is There a Little Rupert Murdoch in All of Us?

May 082012
 

Rick Wartzman

In his latest column for Forbes.com, Drucker Institute Executive Director Rick Wartzman considers last week’s stinging House of Commons report on the News Corp. phone-hacking scandal and, in particular, its condemnation of CEO Rupert Murdoch for having “exhibited willful blindness to what was going on in his companies.”

In turning a blind eye to problems, Wartzman suggests, “there may be a little Rupert Murdoch in all of us.”

Wartzman notes that Peter Drucker “saw this inclination among companies that face a growing public backlash to their behavior, whether they’re being accused of polluting the air or making unsafe automobiles.” The best executives, according to Drucker, “get ahead of things by offering up sensible rules and restrictions for their business,” Wartzman explains.

“What happens in too many cases is that managers feel intense pressure not to ‘rock the boat,’” Wartzman adds. “Inevitably, this only leads to legislation that is far more punitive than anything industry would have come up with on its own. ‘To expect that there will be no regulation” and thus fail to be proactive, Drucker wrote, ‘is willful blindness’—words that echo exactly the House of Commons report.”

Wartzman says that fighting a predisposition to stick one’s head in the sand takes, above all, “conviction and courage.” “To wait until the crisis hits is already abdication,” Wartzman quotes Drucker as saying. “One has to make the organization capable of anticipating the storm, weathering it and in fact, being ahead of it.”

Joe’s Journal: On Policing Oneself

May 012012
 

“A business that does not show a profit at least equal to its cost of capital is irresponsible; it wastes society’s resources. Economic profit performance is the base without which business cannot discharge any other responsibilities, cannot be a good employer, a good citizen, a good neighbor. But economic performance is not the only responsibility of a business any more than educational performance is the only responsibility of a school or healthcare the only responsibility of a hospital. Every organization must assume responsibility for its impact on employees, the environment, customers, and whomever and whatever it touches. That is social responsibility.”

—Peter F. Drucker

As Peter Drucker asserts, wealth creation is the first responsibility of business. If it does not earn enough to pay its total cost of capital, it is not being socially responsible to its investors and lenders. In addition, sufficient profit is necessary to provide for future innovation.

But a business should also act in a socially responsible way by taking into account the requirements of all stakeholders, first and foremost its customers. Then, it must make sure it eliminates any negative impacts that it creates on society, such as pollution of the air and water, and unethical practices that jeopardize the general welfare.

If operating ethically puts a business at a competitive disadvantage, it should encourage the right kind of regulation of the entire industry.  If it does not, it will almost certainly encounter the wrath of society, and pressure will build for government regulation that may well turn out to be overly and needlessly burdensome.

In recent years, this brand of leadership was sorely absent from executives who were knowledgeable about long-standing abuses in the mortgage and consumer-credit markets. The result was passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act, an 848-page bill that has been widely criticized by business and by elected representatives as an example of over-regulation.

One of the differences between good capitalism and bad capitalism is the practice of socially responsible behavior. We have witnessed the damage irresponsible behavior can create. The challenge now before us is to change the attitude of influential executives toward the interest of society.

—Joe Maciariello

How to Succeed in Mexico Without Really Bribing?

Apr 232012
 

At what point should a company be required to wear an ankle bracelet?

It seems like Wal-Mart, the bad boy of Bentonville, keeps getting called out for some misdeed or another. This weekend, the New York Times reported that it had “found credible evidence that bribery played a persistent and significant role in Wal-Mart’s rapid growth in Mexico.” Moreover, when this pattern of bribery was uncovered by the company’s internal investigators, “top Wal-Mart executives focused more on damage control than on rooting out wrongdoing.”

Now, Peter Drucker did have some sympathy for companies that must navigate different and unfamiliar ethical terrain when they’re in other countries. For instance, in Japan, companies routinely pay retired government officials who have helped the business, and businesses that fail to do this are considered unethical.  That creates an unfair headache for U.S. firms. “The American company in Japan that abides by a practice the Japanese consider the very essence of social responsibility is pilloried in the present discussion of business ethics as a horrible example of unethical practices,” Drucker observed in The Ecological Vision.

There’s also the question of what’s bribery and what’s extortion.  Defenders of Wal-Mart might argue that the company didn’t create the corruption in Mexico as much as adapt to it—by recognizing that absent bribes nothing would get done, or at least not quickly. “No one ever has had a good word to say for extortion, or has advocated paying it,” Drucker pointed out. “But if you and I are found to have paid extortion money under threat of physical or material harm, we are not considered to have behaved immorally or illegally. The extortioner is both immoral and a criminal. If a business submits to extortion, however, current business ethics considers it to have acted unethically.”

Illustration credit: David Simonds

In the end, however, there’s little doubt that Drucker would have disapproved of Wal-Mart’s alleged behavior—above all because of the disconnect between stated principles and actual conduct. “The final proof of the sincerity and seriousness of a management is uncompromising emphasis on integrity of character,” Drucker asserted. “This, above all, has to be symbolized in management’s people decisions.” And what of Wal-Mart’s people decisions? The Times reports that H. Lee Scott Jr., Wal-Mart’s former chief executive, “rebuked internal investigators for being overly aggressive,” and the supposed chief briber got a promotion.

What do you think: How much criticism does Wal-Mart deserve for its alleged behavior in Mexico?

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