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Welch’s Juice

1.

When Jack Welch became chief executive officer of General Electric in 1981, American business was more beleaguered than at any time since the Great Depression. Economic growth in the 1970s had slowed significantly on average from the pace of the 1950s and 1960s. Inflation appeared to be uncontrollable. Stock prices, after falling precipitously in the 1970s, had yet to climb back to the levels they first reached as early as 1966.

Global competition was also intensifying rapidly as Japanese, Chinese, other East Asian, and European products began to win customers from name-brand American companies. In succeeding years, the US consumer electronics business was more or less abandoned. The world market share of the US steel industry fell to less than half its former level. High wages in the US made some migration of businesses overseas inevitable, but even sophisticated manufacturing operations, in which American business should have excelled, often lost market share. Japan emerged as a major competitor in computers and semiconductors. European companies became market leaders in high-quality appliances and machinery. The Detroit auto companies were in difficulty, as both lower-priced Japanese cars and higher-priced European ones lured customers away. Most important, foreign competitors were learning how to make an adequate profit selling to smaller niche markets. American companies were locked into selling highly standardized products that required a huge mass market to make them profitable—a pattern from which they were slow to escape. The US trade deficit rose to record levels as a result—that is, Americans bought many more foreign goods than foreigners bought American goods.

Into this economic environment, Jack Welch injected his intelligence, energy, and ambition as the head of GE. It is not widely understood how much a product of his times he was. Welch’s management philosophy was consistent with an increasingly common view that American business was encumbered by unmotivated and inefficient bureaucracy. It was a version of the theme Adolf Berle and Gardiner Means famously anticipated in their influential book The Modern Corporation and Private Property, published in 1932. Since managers, not owners, increasingly ran companies, such managers might become more concerned with maintaining the status quo and retaining their jobs than maximizing the profitability and competitiveness of their firms. As late as 1978, for example, Ford Motor defensively complained that Japanese companies could make high-quality cars at low prices only because their wages were so low. In fact, Toyota and other companies made better cars in far fewer hours because they adopted revolutionary new managerial practices such as assembly teams with different skills to work together and “just-in-time” inventory techniques. That Americans failed to do so was a classic example of the defensiveness of bureaucrats; American business did not seem able to make the realistic decisions necessary to change.

One of the responses to corporate torpor at the time was a wave of takeovers that got underway just as Jack Welch was rising to the top at GE in the 1970s. The takeovers were led by a relative handful of aggressive entrepreneurs, including two talented lawyers, Joseph Flom and Martin Lipton, four or five investment banks, led by Morgan Stanley and Goldman Sachs, and several maverick corporate acquirers, who would soon become widely known, including T. Boone Pickens, Carl Icahn, and the leveraged buyout specialist firm Kohlberg Kravis Roberts. Because stock prices were so low, acquirers could buy even enormous companies, often against the will of management, by borrowing heavily against the takeover target’s assets rather than putting up much cash or equity themselves.

In the process, of course, investment bankers and takeover specialists who were willing to undertake these so-called hostile acquisitions made fortunes that exceeded any since the days of J.P. Morgan. But the supporters of these takeovers also claimed they were overthrowing the ingrown, stodgy, and narrow-minded managers who were unable to respond to the changed competitive environment and replacing them with people who ran their businesses as if they actually owned them. A new phrase was heard from men like T. Boone Pickens. Their principal and often only goal was to maximize “shareholder value”—that is, increase the wealth of owners.

Whether the takeover movement succeeded in creating a managerial revolution in America that was truly productive is a matter of debate. But when a company was taken over, the strategy to improve the shareholders’ fortunes was often ruthless by the standards of the preceding generation, and in truth rarely imaginative. The acquiring company would cut expenses significantly across the board, including firing thousands of workers; it would sell operations that were not part of a “core” business, and often cut back on corporate activities that seemed expensive, such as long-term research and product development. The severe cost-cutting raised cash flow and profits immediately, which was often necessary to pay the high debt service on the loans taken to pay for the acquisition. But their advocates claimed they at last reduced the bloat of bureaucracy.

Welch was an eager cost-cutter almost from the start of his career with GE in 1960, when he joined the company soon after getting his Ph.D. in chemical engineering at the University of Illinois. He learned further from the takeover experts—among them Robert Rubin of Goldman Sachs—what made companies vulnerable to being bought out. Although on the face of it GE was financially healthy in 1981 when he was named CEO, Welch told his co-workers that they needed a bold strategy to compete in an era of slow growth. He was determined to make GE as competitive as any foreign company and avoid being undermined by threats of acquisition or by a low stock price. He also did so with the blessings of his respected predecessor, Reginald Jones, who was, despite GE’s financial health when he left, deeply concerned with the dangers of the slow-growth and inflationary business environment.

Within a few years of being appointed CEO, Welch had lopped off more than one hundred GE businesses, reduced payrolls by more than 110,000 of 400,000 workers (nearly 40,000 workers left when businesses were sold, the rest were fired), acquired wholly new businesses, including NBC, and, critics argue, reduced the company’s longstanding emphasis on basic research.

But Welch’s guiding passion was clearly to poke large holes in the corporate bureaucracy. He was determined to make his managers, some 25,000 of them, behave like owners—his kind of owners. He threatened, cajoled, and above all taught them, through formal training and intense discussion groups, to take risks and make sweeping changes unheard of in companies of GE’s size, all of them aimed to improve profits and usually to improve them quickly. He made his managers as rich as owners by rewarding them with stock options, as long as they produced results. Those who did not subscribe to the Welch formula for growth, which almost always included serious layoffs, were, in Welch’s word, “turkeys.” Welch’s good fortune was that a bull market got underway on Wall Street in the 1980s and soon investors were rewarding companies that adopted cost-saving strategies with ever-higher stock prices.

Few if any were as good as Welch at implementing this kind of management. Westinghouse, for example, tried to adopt a similar strategy but floundered by comparison. When Jack Welch took over, GE had profits of $1.5 billion on sales of $27 billion—making it the ninth most profitable company in the nation. Welch made it the nation’s most profitable company by the 1990s. In 2000, it earned $13 billion in profit on $130 billion in sales. It fell to third most profitable in 2000, behind ExxonMobil and Citigroup. But more important to Welch, Wall Street valued GE higher than any other company in the world, at between $400 and $500 billion, depending on fluctuations in the stock price. When Welch took over, GE was worth only $14 billion. Thus profits increased roughly tenfold, but market value increased some thirtyfold. Meantime, companies that were formerly close to GE in market value, such as Westinghouse, US Steel, and the Detroit auto companies, languished well behind it. In 2000, both ExxonMobil and Citigroup were valued at only a little more than half the worth of GE. Welch became the most admired business executive of his time and Fortune magazine named him manager of the century.

Many criticize Welch for his zealous cost-cutting and in particular his wide-ranging firings, which earned him the nickname Neutron Jack. But in truth, American payrolls in the 1970s were high relative to productivity, and it can easily be argued that cutbacks were necessary. As new industries emerge and others fade, a vital market economy will also always have to shed jobs. The question is whether Welch cut not merely fat but well into the bone of his company to produce short-term profits at the expense of the long term. Many of Welch’s supporters presume that what happened in the 1980s, when layoffs rose and wages fell on average, was essentially constructive; but it is also easy to imagine another strategy that would have involved firing workers from some operations with the objective of finding them work, with proper retraining, in other parts of a company as vast as GE. High wages, moreover, could just as easily have induced more capital spending in labor-saving machinery. This was, in fact, the way the US economy grew for two centuries; America always paid by far the highest wages in the world.

Welch, however, will ultimately be judged by two even more demanding criteria. His admirers have justified his scorched-earth labor and cost-cutting policies by claiming he contributed significantly to America’s ultimate prosperity in the 1990s. But companies can achieve profitability and shareholder wealth in ways that contribute less to the “wealth of nations” than it appears. Getting managers to act like owners is a laudable objective, but there are many kinds of owners.

Did Welch build a great creative company with technical knowledge at its core, a first-class workforce, and a constant flow of new product ideas? He seems to have been obsessed with reporting rising earnings every quarter in order to captivate Wall Street investors, and this required cost-cutting that may have undermined the search for great products. Welch would certainly claim he emphasized product development at GE, and took some serious “big swings” at new ideas, as he called them. Some of them failed, such as a ten-dollar long-lasting light bulb and a new refrigeration process. Others succeeded, such as CT scanners. But overall, as Thomas F. O’Boyle writes in his informed, insightful, but one-sided critique of Welch, At Any Cost,1 spending on research and development was reduced under Welch, and the company is no longer the leader in new patents. Welch’s reputation is certainly not associated with the new products or technologies that transformed the nation. His successor, Jeffrey Immelt, recently told Fortune that his first priority as CEO will be to emphasize technology, a suggestion that the new CEO may believe something is lacking at GE.2 Aside from medical products, GE is largely absent from the current major new electronic industries, whether in computing, ATMs, or telecommunications.

The second criterion is whether he created a systematic way of managing an enormous corporation that will continue after him. The evidence is persuasive that, instead, he ran a largely one-man show, dependent more on his fertile mind, tirelessness, and good judgment than anything else. He was determined, opportunistic, and unusually talented at analyzing what worked and what didn’t. The principal source of GE’s financial success was arguably, and simply, that he bought good companies and sold bad ones in an endless game of musical chairs—and squeezed these companies’ costs to the bare bones to produce consistent growth in profits.

In fact, the foremost cause of the stunning economic growth in America was not that a new generation of tough American bosses was spawned in the 1970s. After all, their new policies were being implemented for twenty years before the rate of growth accelerated in 1996. Besides the more expansive monetary policies on the part of the Federal Reserve, growth was caused in large part by the popular and ever-cheaper electronic products developed by such companies as Intel, Microsoft, Dell Computer, Sun Microsystems, Cisco Systems, and AOL. It was caused as well by innovative retailing and finance companies, including Wal-Mart, the Gap, Fidelity Management, and Charles Schwab, which were widely popular and whose standardized products and services could generate enormous economies of scale.

The people who ran these companies included Andrew Grove of Intel, Bill Gates of Microsoft, Michael Dell of Dell Computer, Sam Walton of Wal-Mart, Ted Turner of CNN. They were the true successors to America’s great business leaders, from Thomas Edison, GE’s founder, to Rockefeller, Carnegie, Ford, and Morgan in the nineteenth century, and in the twentieth century to Alfred Sloan, who built General Motors, Thomas Watson Sr. and Jr. of IBM, Robert Sarnoff of RCA, Ray Kroc of MacDonald’s, and Jack Dreyfus, who built one of the first great mutual fund companies.

What, then, did Welch really do? Welch retired in September, and published Jack: Straight From the Gut, written with a Business Week editor, John A. Byrne, to trace his career at GE. It seems a hastily composed book. On the one hand, it does not do justice to Welch’s true achievements, because it seems to reflect the author’s desire not to bore his readers with details; it consists mostly of simplistic homilies and easy-to-remember punch lines, and we never get a clear sense of his early and original vision of the debilitating consequences of bureaucracy. The book also fails to provide a serious defense against Welch’s many critics. It does not even describe, beyond two or three paragraphs, the difficult business environment in which Welch made his career, which would have made his harsh tactics more understandable. Welch devotes half a chapter to the controversy over cleaning up dangerous chemicals (PCBs) from a GE plant on the Hudson River, but so far as I can tell he adds nothing new to the defense. He says little about other controversial matters, such as the Justice Department’s antitrust suit against GE for diamond price-fixing. As for his allegedly excessive emphasis on short-term earnings and what critics have seen as his unjustified large-scale firings, Welch denies both charges but presents no serious argument with evidence or examples. We must read between the lines.

2.

Jack Welch was born in 1935 in Peabody, Massachusetts, and grew up in Salem. His father was a conductor on the Boston & Maine commuter line; his mother, he writes, had unbounded confidence that her son could do almost anything. Among many other things, she took him to baseball games, told him his youthful stammer was simply the consequence of his fast mind, and kept a scrapbook of his achievements well into adulthood. When his mother died in 1965, long before his extraordinary rise to the top of GE, Welch says it was the saddest day of his life.

Welch writes that he always felt like an embattled outsider. Nothing came easily or naturally to him. He spent his early years, he writes, “with my nose pressed up against the glass.” He goes on to describe how he and his friends collected empty bottles for the pennies that would enable them to go on rides at the fair. Sports were his greatest joy and provided a model for striving against the odds. He was a successful high school athlete, but only through very hard work. He was neither big enough nor fast enough to succeed in sports in college. He also says he was not the smartest in school, and had to work hard to excel.

One of his youthful disappointments was not winning an ROTC scholarship, which would have made it possible for him to go to Dartmouth or Columbia. He attended the most prestigious of the Massachusetts state schools, the University of Massachusetts at Amherst, but didn’t seem to feel he got enough out of it. He took a master’s degree and Ph.D. in chemical engineering at the University of Illinois and graduated only to find the market for engineers in decline. Here was a clearly gifted young man, the son of a railroad conductor with no college education, who earned an advanced degree in a difficult field; yet he took little satisfaction in it. If Welch had attended Columbia or Dartmouth, one wonders if he would have been as driven as he was. It is not that Welch was unduly deprived. He seems to have experienced the frustration of a young man with large talents and perhaps even larger ambition who came to view as the enemy the elitist establishment that kept young people like him down.

What I didn’t know when I showed up for work my first day on October 17, 1960, was how quickly I would become frustrated,” he writes about joining GE. “In just one year, GE’s bureaucracy would nearly drive me out of the company.” Welch, earning $10,500, got the same $1,000 raise that his three peers received, though he believed he had shown himself the better employee. He also felt that GE was stingy with the funds needed to develop a new plastic, called PPO, the project to which he was assigned. He threatened to quit, but his boss got him a bigger raise and gave him more responsibility. “[His] recognition—that he considered me different and special—made a powerful impression,” Welch writes. “Ever since that time, differentiation has been a basic part of how I manage.”

A few years later Welch became the general manager of the polymer products operation, and, after many setbacks, his research team perfected a new plastic, Noryl, in 1965. Characteristically, Welch does not describe here the scientific research that produced the new product, which might have been fascinating. He was more interested in motivating his people than in joining them in the laboratory. In 1968, at age thirty-two, Welch was named the youngest general manager in the company, on the basis of Noryl’s success. By then, he was widely known to be abrasive and impatient, as his superior’s appraisals noted. One wrote, “[He] has something of an ‘anti-establishment’ attitude toward General Electric activities outside his own sphere.”

He was also already quick to fire people. “I’m the first to admit that I could be impulsive in removing people in those early days,” he writes. But Welch got results and kept rising in the company. In 1973, he became a group vice-president, and only a year and a half later at thirty-eight became a group executive in charge of 46,000 people, forty-four factories, and $2 billion in sales. Among his successes was the development of the new, fast GE CT scanner that competed successfully with the earlier breakthrough by the British company EMI.

Welch does not bring even this moment to life, however. Arthur Marks, a young member of the team then, and now a venture capitalist, recalled when I talked to him that Welch was willing to pour more money into the project than the managers themselves asked for. “He had more guts than anyone I ever knew,” he told me.

With all his experience in technical products, Welch was promoted to executive in charge of the consumer products and services division, with some $4.2 billion in sales of such products as refrigerators and other appliances, lighting, and TV sets as well as a few TV stations and what was then a relatively small financial operation, General Electric Credit. He cut back the venerable but slow-growing appliances division and encouraged the growth of GE Credit, which became one of the largest consumer and business finance companies in the US. “With fewer than 7,000 employees, GE Credit’s net income in 1977 was $67 million,” he writes. “In contrast, it took a payroll of more than 47,000 employees in appliances to make $100 million. I’m sure this is obvious to almost everyone today—but to me it was a big insight in 1977.” The appliances division now employs only roughly 20,000 workers and managers compared to nearly 50,000 in the late 1970s. But GE Capital became the most important moneymaker in Welch’s empire. It made four hundred acquisitions of finance and similar companies in the 1990s, and by the year 2000 accounted for 40 percent of GE’s profits, growing at a pace of 22 percent a year, almost four times as fast as the rest of the company.

In describing his philosophy, Welch cites the advice of the corporate consultant and widely read business writer on management subjects Peter Drucker. “If you weren’t already in the business, would you enter it today?” asked Drucker. And if not, “What are you going to do about it?” Welch’s strategy was straightforward. It was either “fix it, sell it, or close it.” He should have also included “buy something else.”

Welch’s purchase of RCA Inc. in 1985 for $6.3 billion, the largest acquisition in America up to that time, was a classic case in point. Over the following years, Welch believed he could not generate the critical amount of sales and cash flow to make some of RCA’s businesses work. So he sold off pieces to those who could, including RCA’s TV manufacturing business to the French company Thomson, the semiconductor business to Harris Corp., and the aerospace operation to Martin Marietta. And then he cut costs aggressively with what remained, mostly NBC, then the number one TV network.

Some economists claimed this was the best strategy available.3 But Welch did not only want fast-growing companies. He wanted only those that were the largest or second largest in their businesses. In my view, this was the key to his success. He built oligopolies that could benefit most from economies of scale, but they also enjoyed both pricing and marketing power in their fields. Sometimes size enables companies to invest aggressively in marketing, research, and worker training—and such power is increasingly important as competition becomes global. But at what point do such oligopolies become anti-competitive, suppressing innovation and keeping prices too high in order to generate near-term profits? It is a hard line to draw. The recent Justice Department antitrust suit against Microsoft was based on such issues. What is good for an oligopoly, and might bring with it high stock prices on Wall Street, however, is not automatically good for the economy as a whole.4

Welch’s celebrity, however, rests on his managerial programs. He put his managers through a constant round of educational sessions, led by professors from Harvard Business School and other institutions. He developed strict ways to measure people’s performance and insisted that weaker employees be let go. He tried to create a “boundary-less” company, in which ideas in any operation or function could flow to any other operation. He insisted on reducing defects in products almost to zero, a program famously known as Six Sigma. He broke out what he thought were good product ideas from the bureaucratic pack and had them developed on their own.

Probably his most successful effort to stir up bureaucracy was what he called the Work Out. He mixed workers with managers in open discussion sessions to encourage the free flow of complaints, suggestions, and constant interchange about how to make operations ever more efficient.

No one can yet say how heavily these managerial innovations weighed in GE’s growth. Welch’s book constantly credits his managers with success, though his praise is almost always for the manager who was willing to fire workers and cut costs aggressively. They were the knights who enforced his vision. Cutting labor and other costs was their mission. Welch did not seem as cautious with dispensing capital. GE’s return on capital is, in fact, not impressive compared to other companies in the Fortune 500.

The best return on capital, however, is usually the result of great new product ideas. I could not find a single research scientist or engineer praised in this book, unless he became a Welch-style manager. Welch invested aggressively in a super-efficient factory of the future in the early 1980s, but his attention wandered. In this book, he says little about new products. Furthermore, in a time when the training of workers is especially important, he devotes few words to the quality of GE’s workforce, or to workers at all. He is hurt that he was widely criticized for spending $75 million on luxurious headquarters and management training facilities in the mid-1980s while he was firing so many workers. He was merely creating standards of excellence, he says. But in truth, Welch, once an anti-elitist looking in from the outside, was creating tens of thousands of corporate outsiders, all of whom now had to look in on these lavish facilities. Through his own efforts, he was now the ultimate insider.

There are now, I think, serious doubts about how systematic and long-lived Welch’s managerial approach will be. Welch was a constant meddler, and proud of it. He discusses his so-called “deep dives,” in which he got closely involved with major decisions by his division leaders. He even took part in choosing Jay Leno as the successor to Johnny Carson over David Letterman, now on CBS.

What seems to me to raise the largest question about Welch’s managerial effectiveness is his failure to undertake e-business on a large scale until he himself thought of it in mid-1999—by Welch’s own admission, very late. “The Internet revolution nearly passed me by, until Jane [his second wife] made me comfortable with it,” he writes. Since GE had excellent managers who were supposedly free to share ideas and opinions, it seems odd that the company did not undertake a major e-business program until the idea dawned on Welch himself.

The constant rise in earnings at GE is also under scrutiny. Fortune magazine writes that GE’s overfunded pension fund has been used “to pad its bottom line.”5 GE Credit’s flow of acquisitions was also a handy way to ensure that earnings keep rising. In some respects, Welch’s true predecessor was Harold Geneen, who transformed IT&T into a conglomerate in the 1960s and who was almost as celebrated then as Welch is now. He ruled by the financial numbers, cut costs aggressively, and produced constantly rising earnings to the delight of Wall Street. But the company faltered after he left.

Did the economic challenges of the time require Welch’s aggressive tactics? I doubt that they did. The American economy was able to grow for a century and a half until the 1970s and still pay the highest wages in the world. Income inequality declined, if unevenly, during this long period. And the country was willing to support progressive social programs to compensate for the occasional ravages of free markets. Now much of this has changed.

To some degree, American businesses were excessively complacent in the 1970s. But the kind of revolution Welch led went too far. While top managers made unprecedented sums, wages on average for male workers throughout the nation either fell or stagnated. Incomes grew widely unequal. Child poverty became the worst in the developed world. More than 40 million Americans have no health insurance. Some economists say income inequality motivates people. What would motivate them more is fair pay for their work. Productivity did not begin to grow rapidly again in America until 1996; by then, Welch had been CEO of GE for fifteen years.

Earlier this year, Welch tried to complete the $44 billion purchase by GE of Honeywell International, a conglomerate with businesses that were complementary to GE’s own, including aircraft engines. Again, it a was classic Welch strategy; he built oligopolies. He may also have wanted to defend himself from too much dependence on GE Capital. But this time, the European Union’s competition commission disallowed the sale. It felt that GE would simply have too much market power because of its overall presence in the aircraft industry. Welch was irate at having lost the last of his battles.

I worked for NBC as a reporter and commentator ten years ago and always thought of Welch as open to new, iconoclastic ideas. If you met him, you would like him. He is straightforward, unpompous, and, it seems, afraid of nothing. I was disappointed to find some low-brow boasting in his new book. He makes much of his dislike of opera and his preference for the New York Post. He tells us about taking the D train to a Yankees game. I fear he protests a little too much that he is a common man.

In a time of unusual challenge to American business, Welch made GE an extraordinary cost-cutting machine and maximized shareholder value, though the stock price is down by half this year. But the executives whose reputations will live on did more than this. Andrew Grove, Bill Gates, and Henry Ford, among many others, were not only company founders but also leaders who built complex, technologically innovative organizations. There were many competitors in their fields, but these men succeeded not simply because they had good product ideas but because they built great businesses. Their institutions were, in turn, the sources of the creative transformation of the nation. It would be difficult to argue that GE, for all its success, ranks at the top of such a list.

  1. 1

    At Any Cost: Jack Welch, General Electric, and the Pursuit of Profit (Knopf, 1998).

  2. 2

    Jerry Useem, “It’s All Yours, Jeff. Now What?,” Fortune, September 17, 2001, p. 66.

  3. 3

    See Michael. C. Jensen, “The Modern Industrial Revolution, Exit, and the Failure of Internal Control Systems,” The Journal of Finance, July 1993.

  4. 4

    See Big Business and the Wealth of Nations, edited by Alfred D. Chandler Jr., Franco Amatori, and Takashi Hikino (Cambridge University Press, 1997), for a broad, insightful discussion of these issues.

  5. 5

    It’s All Yours, Jerry. Now What?” p. 68.

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