This series of articles on the work of Peter F

By PETER F. DRUCKER
December 27, 2005 7:01 a.m.

(This article originally appeared in The Wall Street Journal on Aug. 19, 1994)

Management books and courses deal almost entirely with the publicly owned and professionally managed company. Yet the majority of businesses everywhere -- including the U.S. -- are owned and run by family members. They even include some of the world's largest companies.

If the family-managed business is to survive, let alone prosper, it must stringently observe the following rules:

• Family members working in the business must be at least as able and hard-working as any unrelated employee.

 

In a family-managed company, relatives are always "top management," whatever their official job or title. On Saturday evenings they sit at the boss's dinner table and call him "Dad" or "Uncle." Mediocre or lazy family members are therefore -- rightly -- resented by non-family co-workers, and respect for top management and the business as a whole rapidly erodes. Capable non-family people will simply not stay, and the ones who do soon become courtiers and toadies. It is much cheaper to pay a lazy nephew not to come to work than to keep him on the payroll.

DuPont, controlled and managed by family members from its founding in 1802 until professional management took over in the mid-1970s, grew into the world's largest chemical company. It prospered as a family business because it faced up to this problem. All male duPonts were entitled to an entry-level job in the company, but five or six years later their performance was carefully reviewed by four or five family seniors. If this review concluded that the young family member was not likely to be top management material 10 years later, he was eased out.

• Family-managed businesses, except perhaps for the very smallest ones, increasingly need to staff key positions with non-family professionals.

 

The demands for knowledge and expertise -- whether in manufacturing, marketing, finance, research, or human resource management -- have become far too great to be satisfied by family members alone, no matter how competent they may be. Once hired, these non-family professionals have to have "full citizenship" in the firm. Otherwise they simply will not stay.

The first people, perhaps, to realize this were the Rothschilds, who -- two centuries after a coin dealer began to send out his sons to establish banks in Europe's capitals -- are still among the world's premier private bankers. Until World War II, they admitted only family members to partnerships in any of their banks. But during the 19th and early 20th centuries, whenever a non-family general manager reached age 45, he was given a huge severance payment and set up in his own banking firm.

The duPonts, around 1920, found an even better method. While not appointed to top management jobs, non-family members in key positions were given "phantom stock" -- participation in profits and capital gains without diluting family ownership and control, a still popular solution.

• No matter how many family members are in the company's management, and how effective they are, one top job must be filled by a non-relative.
 

Typically, this is either the financial executive or the head of research -- the two positions in which technical qualifications are most important. But I also know successful companies in which this outsider heads marketing or personnel. And while the CEO of Levi Strauss is a family member and a descendant of the founder of this 144-year-old company, the president and chief operating officer is a non-family professional. Such an outsider can be objective and does not have to worry about the reactions of relatives, whether in the business or not.

I met my first "outsider-insider" almost 60 years ago, the chief financial officer of a very large family-managed business in Britain. Though he was on the closest terms of friendship with his family-member colleagues, he never attended a family party or family wedding. He did not even play golf where the family played. "The only family affairs I attend," he once said to me, "are funerals. But I chair the monthly top-management meeting."

• Before the situation becomes acute, the issue of management succession should be entrusted to someone neither part of the family nor part of the business.

 

Even the family-managed business that observes the first three rules tends to get into trouble -- and often breaks up -- over management succession. It is then that what the business needs and what family members want collide head on.

Typical are the two brothers who built a successful manufacturing business, working together for 25 years. Now reaching retirement age, each pushes his own son to head the company. The brothers become adversaries and eventually decide to sell out. Or take the case of the widow of one of the founders of a company. To save her daughter's marriage, she pushes her moderately endowed son-in-law as the next CEO and successor to her aging brother-in-law. Anyone who has worked with family-managed companies could add to this list.

There is only one solution: Entrust the settlement of the succession issue to an outsider. This role was played successfully by a CPA who was the outside auditor of a medium-sized food retailer since its founding 20 years earlier. A professor who for 10 years had been scientific adviser to a fair-sized high-tech company saved both it and its parent corporation by persuading two brothers and two cousins -- and the wives of all four -- to accept the ablest member of the next generation as the future CEO.

But it is usually much too late to bring in the outsider when the succession problem becomes acute. Family members have taken positions and have committed themselves to this or that candidate. Moreover, succession planning needs to be integrated with financial and tax planning. Family-managed businesses, therefore, should try to find the right outside arbitrator long before the decision itself has to be made.

Sixth- or seventh-generation family businesses like Levi Strauss and the Rothschild banks are quite rare. The biggest family-managed business today, Italy's Fiat, is run by the third-generation of Agnellis, now in their 60s and 70s. Few people in the company, I am told, expect it to be family managed 20 years hence.

The fourth generation of a family owning a successful business is sufficiently well off, as a rule, for the ablest members to want to pursue their own interests and careers rather than dedicate themselves to the business. Also, by that time there are usually so many family members that ownership has become splintered. For the members of the fourth generation, their share in the company is no longer "ownership"; it has become an "investment." They will want to diversify rather than to keep all their financial eggs in the family-company basket, and thus want the company to be sold or to go public.

By contrast, maintaining the family company is usually the best course for the second or even third generation. Often it is the only course, as the business is not big enough to be sold or to go public. And it surely also is in the public interest. The economy needs entrepreneurship. The growth dynamics in the economy are shifting fast from the giant company toward the medium-sized one -- and that tends to be such an owner-controlled and owner-managed company.

Unfortunately, the family-managed business that survives the founder -- let alone one that still prospers under the third generation of family management -- is still the exception. Far too few of these businesses accept the one basic precept that underlies all four of the rules outlined here: Both the business and the family will survive and do well only if the family serves the business. Neither will do well if the business is run to serve the family.

Mr. Drucker is a professor of social sciences at the Claremont Graduate School in California.

Be Data Literate -- Know What to Know

By PETER F. DRUCKER
November 15, 2005

(This article originally appeared in The Wall Street Journal on Dec. 3, 1992)

Executives have become computer-literate. The younger ones, especially, know more about the way the computer works than they know about the mechanics of the automobile or the telephone. But not many executives are information-literate. They know how to get data. But most still have to learn how to use data.

Few executives yet know how to ask: What information do I need to do my job? When do I need it? In what form? And from whom should I be getting it? Fewer still ask: What new tasks can I tackle now that I get all these data? Which old tasks should I abandon? Which tasks should I do differently? Practically no one asks: What information do I owe? To whom? When? In what form?

A "database," no matter how copious, is not information. It is information's ore. For raw material to become information, it must be organized for a task, directed toward specific performance, applied to a decision. Raw material cannot do that itself. Nor can information specialists. They can cajole their customers, the data users. They can advise, demonstrate, teach. But they can no more manage data for users than a personnel department can take over the management of the people who work with an executive.

Information specialists are toolmakers. The data users, whether executive or professional, have to decide what information to use, what to use it for and how to use it. They have to make themselves information-literate. This is the first challenge facing information users now that executives have become computer-literate.

But the organization also has to become information-literate. It also needs to learn to ask: What information do we need in this company? When do we need it? In what form? And where do we get it? So far, such questions are being asked primarily by the military, and even there mainly for tactical, day-to-day decisions. In business such questions have been asked only by a few multinationals, foremost among them the Anglo-Dutch Unilever, a few oil companies such as Shell, and the large Japanese trading companies.

The moment these questions are asked, it becomes clear that the information a business most depends on is available, if at all, only in primitive and disorganized form. For what a business needs the most for its decisions -- especially its strategic ones -- are data about what goes on outside of it. It is only outside the business where there are results, opportunities and threats.

So far, the only data from the outside that have been integrated into most companies' information systems and into their decision-making process are day-to-day market data: what existing customers buy, where they buy, how they buy. Few businesses have tried to get information about their noncustomers, let alone have integrated such information into their databases. Yet no matter how powerful a company is in its industry or market, non-customers almost always outnumber customers.

American department stores had a very large customer base, perhaps 30% of the middle-class market, and they had far more information about their own customers than any other industry. Yet their failure to pay attention to the 70% who were not customers largely explains why they are today in a severe crisis. Their non-customers increasingly were the young affluent, double-earner families who were the growth market of the 1980s.

The commercial banks, for all their copious statistics about their customers, similarly did not realize until very late that more and more of their potential customers had become non-customers. Many had turned to commercial paper to finance themselves instead of borrowing from the banks.

When it comes to non-market information-demographics; the behavior and plans of actual and potential competitors; technology; economics; the shifts signaling foreign-exchange fluctuations to come and capital movements -- there are either no data at all or only the broadest of generalizations. Few attempts have been made to think through the bearing that such information has on the company's decisions. How to obtain these data; how to test them; how to put them together with the existing information system to make them effective in a company's decision process-this is the second major challenge facing information users today.

It needs to be tackled soon. Companies today rely for their decisions either on inside data such as costs or on untested assumptions about the outside. In either case they are trying to fly on one wing.

Finally, the most difficult of the new challenges: We will have to bring together the two information systems that businesses now run side by side -- computer-based data processing and the accounting system. At least we will have to make the two compatible.

People usually consider accounting to be "financial." But that is valid only for the part, going back 700 years, that deals with assets, liabilities and cash flows; it is only a small part of modern accounting. Most of accounting deals with operations rather than with finance, and for operational accounting money is simply a notation and the language in which to express nonmonetary events. Indeed, accounting is being shaken to its very roots by reform movements aimed at moving it away from being financial and toward becoming operational.

There is the new "transactional" accounting that attempts to relate operations to their expected results. There are attempts to change asset values from historical cost to estimates of expected future returns. Accounting has become the most intellectually challenging area in the field of management, and the most turbulent one. All these new accounting theories aim at turning accounting data into information for management decision-making. In other words, they share the goals of computer-based data processing.

Today these two information systems operate in isolation from each other. They do not even compete, as a rule. In the business schools we keep the two apart with separate departments of accounting and of computer science, and separate degrees in each.

The practitioners have different backgrounds, different values, different career ladders. They work in different departments and for different bosses. There is a "chief information officer" for computer-based data processing, usually with a background in computer technology. Accounting typically reports to a "chief financial officer," often with a background in financing the company and in managing its money. Neither boss, in other words, is information-focused as a rule. The two systems increasingly overlap. They also increasingly come up with what look like conflicting -- or at least incompatible -- data about the same event; for the two look at the same event quite differently. Till now this has created little confusion. Companies tended to pay attention to what their accountants told them and to disregard the data of their information system, at least for top-management decisions. But this is changing as computer-literate executives are moving into decision-making positions.

One development can be considered highly probable: Managing money -- what we now call the "treasury function" -- will be divorced from accounting (that is, from its information component) and will be set up, staffed and run separately. How we will otherwise manage the two information systems is up for grabs. But that we will bring them together within the next 10 years, or at least sort out which system does what, can be predicted.

Computer people still are concerned with greater speed and bigger memories. But the challenges increasingly will be not technical, but to convert data into usable information that is actually being used.

Mr. Drucker is a professor of social sciences at the Claremont Graduate School in California.

Sell the Mailroom

By PETER F. DRUCKER
November 15, 2005; Page B2

Peter F. Drucker died on Friday. The following article ran in The Wall Street Journal on July 25, 1989.

More and more people working in and for organizations will actually be on the payroll of an independent outside contractor. Businesses, hospitals, schools, governments, labor unions -- all kinds of organizations, large and small -- are increasingly "unbundling" clerical, maintenance and support work.

Of course, the trend is not altogether new. A great many American hospitals -- and European and Japanese hospitals as well -- now farm out maintenance and patient feeding; 40 years ago none did. "Temporary help" firms go back more than 30 years; but while in the beginning they handled file clerks and typists, they now provide computer programmers, accountants, engineers, nurses and even plant managers. Cities farm out "waste management" (once known as street cleaning and garbage disposal); even prisons are being run by private contractors. . .

Support work is rapidly becoming capital-intensive. In many manufacturing companies, the investment in information technology for each office employee now equals the investment in machinery for each production worker. Yet the productivity of clerical, maintenance and support work is dismally low, and is improving only at snail's pace, if at all. Unbundling will not by itself make this work more productive. But without it the productivity of clerical, maintenance and support work is unlikely to be tackled seriously.

In-house service and support activities are de facto monopolies. They have little incentive to improve their productivity. There is, after all, no competition. In fact, they have considerable disincentive to improve their productivity. In the typical organization, business or government, the standard and prestige of an activity is judged by its size and budget -- particularly in the case of activities that, like clerical, maintenance and support work, do not make a direct and measurable contribution to the bottom line. To improve the productivity of such an activity is thus hardly the way to advancement and success.

When in-house support staff are criticized for doing a poor job, their managers are likely to respond by hiring more people. An outside contractor knows that he will be tossed out and replaced by a better-performing competitor unless he improves quality and cuts costs.

The people running in-house support services are also unlikely to do the hard, innovative and often costly work that is required to make service work productive. Systematic innovation in service work is as desperately needed as it was in machine in the 50 years between Frederick Winslow Taylor in the 1870s and Henry Ford in the 1920s. Each task, each job, has to be analyzed and then reconfigured. Practically every tool has to be re-designed. . . .

The most important reason for unbundling the organization, however, is one that economists and engineers are likely to dismiss as "intangible": The productivity of support work is not likely to go up until it is possible to be promoted into senior management for doing a good job at it. And that will happen in support work only when such work is done by separate, free-standing enterprises. Until then, ambitious and able people will not go into support work; and if they find themselves in it, will soon get out of it.

It is hardly coincidental that the productivity decline in American factories set in as soon as finance and marketing were taking over from manufacturing in the early '60s as the main avenues of advancement into senior management. Nor is it coincidence that stock brokers have been plagued by recurrent "back office" crises despite steadily increasing employment and increasing investment in clerical and support work. Until very recently even the head of the back office (though responsible for half the firm's expenses), was at best a "titular" partner. Promotions, bonuses, but equally the time available on the part of top management were reserved by and large for traders, analysts and sales people.

They are "we"; the back office is "they." And one explanation why non-instructional costs in colleges and universities have risen twice as fast as instructional ones since World War II -- to the point where they now account for almost two-fifths of the total bill -- is surely that the people who run the dorms or the business office don't have Ph.D.s and are therefore non-persons in the value system of academia.

Forty years ago, service and support costs accounted for no more than 10% or 15% of total costs. So long as they were so marginal, their low productivity did not matter. Now that they are more likely to take 40 cents out of every dollar they can no longer be brushed aside. But value systems are unlikely to change. The business of the college, after all, is not to feed kids; it is teaching and research.

However, if clerical, maintenance and support work is done by an outside independent contractor it can offer opportunities, respect and visibility. As employees of a college, managers of student dining will never be anything but subordinates. In an independent catering company they can rise to be vice president in charge of feeding the students in a dozen schools; they might even become CEOs of their firms. If they have a problem there is a knowledgeable person in their own firm to get help from. If they discover how to do the job better or how to improve the equipment they are welcomed and listened to. The same is true in the independent firm that takes over customer accounting in the mutual-fund company.

In one large hospital-maintenance company, some of the women who started 12 or 15 years ago pushing vacuum cleaners are now division heads or vice presidents and own substantial blocks of company stock. As hospital employees, most of them would still be pushing vacuum cleaners.

Of course there is a price for unbundling. If large numbers of people cease to be employees of the organization for which they actually work, there are bound to be substantial social repercussions. And yet there is so far no other option in sight for giving us a chance to tackle what is fast becoming a central productivity problem of developed societies.

Japan: New Strategies for a New Reality

By PETER F. DRUCKER
November 15, 2005

(This article originally appeared in The Wall Street Journal on Oct. 2, 1991)

Quietly, and with a minimum of discussion, the leading Japanese companies are moving to new business strategies. They are embracing two radically new theories: To do blue-collar manufacturing work in Japan is a gross misallocation of resources that weakens both the company and the national economy. And leadership throughout the developed world no longer rests on financial control or traditional cost advantages. It rests on control of brain power.

These companies are also fast restructuring their organizations on the assumption that the winner in a competitive world economy is going to be the firm that best organizes the systematic abandonment of its own products. And they are moving from Total Quality Management toward Zero-Defects Management based on drastically different principles and methods.

The Japanese now hold about 30% of the U.S. automobile market and expect to increase this share substantially in the next few years. Yet they also expect to stop exporting Japanese-made cars to the American market within the next three to five years; by 1995 or so, most Japanese marques sold in the U.S. should be manufactured in North American plants.

Similarly, the Japanese expect to have something like one-third of the automobile market of the European Economic Community by the year 2000 (whatever their present promises to the EC to the contrary), but again without exporting many cars from Japan. And Japanese multinationals -- Toyota, Honda, Sony, Matsushita, Fujitsu, the ceramics leader Kyocera, and the Mitsubishi companies -- are pouring staggering amounts of money into manufacturing plants in developing countries. They are in Tijuana on the U.S.-Mexican border, throughout South America, in Southern Europe, and in Southeast Asia.

The standard explanations for moving manufacturing out of Japan are "foreign protectionism" and "Japan's growing labor shortage." Both explanations are legitimate, but they are also smoke screens. The real reason is the growing conviction among Japan's business leaders and influential bureaucrats that manufacturing work does not belong in a developed country such as Japan.

Before youngsters can go to work on the assembly line, my Japanese friends say again and again, Japan pours $100,000 in school expenses into them. And then they have to get a middle-class income, lifetime security, a pension and health care. In Bangkok or in Tijuana, youngsters require very little capital investment in their educations; and they are "middle class" if paid a 10th the wages of the U.S. or Japan. Yet their productivity after two or three years of training is as high in Tijuana or in Bangkok as it is in Nagoya or Detroit. When you figure the enormous social capital invested in them, my friends say, the return that blue-collar workers make to society in developed countries is at most 1% or 2%; in Latin America or Indonesia, it's 20 times that.

Whenever I then argue that a country is highly vulnerable without a strong manufacturing base, they respond that the supply of young people in the developing world will be so large in the next 30 years that it's absurd to worry about the "manufacturing base," the way Americans do. Indeed it's my friends' social responsibility to Japan, they say, to make sure that as few as possible of its high-investment, high-cost young people are being misused for low-yield manufacturing work.

Instead, the new Japanese strategies call for total control of what now matters. To be competitive, the argument goes, Japan requires leadership in technology, marketing and management, and firm control of what my Japanese friends are beginning to call "brain capital."

The Japanese are willing to pay large sums to gain access to knowledge -- through a minority participation in a Silicon Valley computer specialist; through similar investments in U.S. and European pharmaceutical or genetics entrepreneurships; above all, through financing research in Western (mainly U.S.) universities. The direct financial return is usually zero. But the Japanese are paying not for dividends but access to the knowledge their partners will produce, and control over it -- or at least priority in using it.

Increasingly Japanese companies employ foreigners in their international operations, both as professionals and as executives. The large Japanese auto makers now all have design studios in Southern California and Westerners running their international marketing. But the use of the knowledge these foreigners produce is "proprietary" and tightly held within the Japanese management team. And while in the past some Japanese companies granted licenses on their knowledge to Western companies -- e.g., on some Japanese-developed cardiac drugs -- they are now revoking or not renewing them.

Every major Japanese industrial group now has its own research institute, whose main function is to bring to the group awareness of any important new knowledge -- in technology, in management and organization, in marketing, in finance, in training -- developed world-wide. On my last trip to Japan, a few months ago, I spoke at the 20th anniversary of one of these think tanks, that of the Mitsubishi Group. At lunch after my talk, one of the most respected elders of the Mitsubishi clan said to me: "In another 20 years the entire Mitsubishi Group will be organized around this research institute."

Everybody now knows that the Japanese can bring out a new product in half the time it takes their American competitors and in one-third the time it takes the Europeans. And everybody also knows that major U.S. companies are reorganizing their research and development work on the Japanese model, along cross-functional lines. But the Japanese are already moving to the next stage.

They are reorganizing R&D so that it simultaneously produces three new products with the effort traditionally needed to produce one. And they do this by starting out with a deadline for abandoning today's new product on the very day it is first sold. "The faster we can abandon today's new product, the stronger and the more profitable we'll be" is the new motto.

To most Western businessmen, this is madness. They believe that a product becomes more profitable the longer its product life -- for then the money spent on developing it has been written off. But "writing off" to the Japanese is useful to cut taxes but otherwise self-delusion.

Money spent on developing a product or a process is not "investment" to the Japanese; it is "sunk cost." But the main reason the leading Japanese businesses are now shifting the life cycle of their products is their conviction that the only alternative is for a competitor to do so -- and then the competitor will have not only the profits but the market.

My Japanese friends acknowledge that some Western companies -- 3M, for example -- have long operated on the policy that 70% of their sales five years hence will have to come from products that do not exist today. But these companies rely on a spontaneous upswelling of entrepreneurship from within.

By deciding in advance that they will abandon a new product within a given period of time, the Japanese force themselves to go to work immediately on replacing it, and to do so on three tracks:

One track ("kaizen") is organized work on improvement of the product with specific goals and deadlines -- e.g., a 10% reduction in cost within 15 months and/or a 10% improvement in reliability within the same time, and/or a 15% increase in performance characteristics -- and enough in any event to result in a truly different product. The second track is "leaping" -- developing a new product out of the old. The best example is still the earliest one: Sony's development of the Walkman out of the newly developed portable tape recorder. And finally there is genuine innovation.

Increasingly, the leading Japanese companies organize themselves so that all three tracks are pursued simultaneously and under the direction of the same crossfunctional team. The idea is to produce three new products to replace each present product, with the same investment of time and money -- with one of the three then becoming the new market leader and producing the "innovator's profit."

Finally, the leading Japanese companies are moving from Total Quality Management to Zero Defects Management. "We can't use TQM," one of the top manufacturing people at Toyota recently said. "At its very best -- and no one has reached that yet -- it cuts defects to 10%. But we turn out four million cars, and a 10% defect rate means that 400,000 Toyota buyers get a 100% defective car. But Zero-Defects Management is now possible and actually not too difficult."

What the Japanese now practice is very much a return to Frederic Taylor's Scientific Management. Only the operators themselves, rather than the industrial engineer, take the initiative in studying the task, the work and the tools. And instead of stopwatch and camera, they use computer simulation.

What triggered this shift was an American import: the huge and hugely successful Disneyland that opened outside of Tokyo. "We all knew that it would take Disney three years to work the bugs out of this huge undertaking," a leading Japanese industrialist told me. "Instead, it ran with zero defects the day it opened. Every single operation had been engineered all the way through and simulated on the computer and trained for -- and it suddenly dawned on us that we could do this too."

Since the mid-1980s, he said, American firms have been rushing to install TQM. "That'll take 10 years before it really works -- at least that's what it took here. This means it will work in America around 1995. By that time we'll have Zero-Defects Management and will again be 15 years ahead of you."

These new Japanese strategies may not work. Or they may work only for the Japanese. But even if they are the wrong responses, they are at least responses to reality: the emergence of the highly competitive and world-wide knowledge economy.

Mr. Drucker is a professor of social sciences at the Claremont Graduate School in California.

A Tribute to Peter Drucker