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Louis V Gerstner Jr chairman and CEO Intel

Driving Success At New Blue

Dec. 6, 1999
Louis V. Gerstner will be remembered as an e-commerce pioneer as well as IBM savior.

The business press has trumpeted that the saving of a national icon is the biggest achievement of Louis V. Gerstner Jr., but the true measure of his accomplishments only begins there. It is likely that business historians will record the leadership skill he demonstrated in resurrecting the company as a mere preamble to something greater. They will marvel at the way he harnessed the technology power of IBM Corp. to help propel world commerce to a new economy -- e-business.

That should prove to be the broader achievement that goes beyond his stated intent in joining the firm. "When I came to IBM [as chairman and CEO] in 1993, frankly, my fondest wish was for the company to return to its former position of leadership," recalls IndustryWeek's 1999 Technology Leader of the Year.

Under Gerstner, IBM already has made its mark with the e-business strategy that evolved from its network-computing push of 1995. From a standing start, IBM turned itself into a multibillion-dollar e-business, transforming core business processes, such as the way it sells and the way it buys. Nearly $20 billion of the company's revenue -- about 25% of the total -- is related to the Internet, says Gerstner. In December 1998 alone, IBM bought more than $600 million in goods and services over the Internet.

By streamlining procurement processes and taking them to the Web, IBM says it will save $240 million in 1999. In 1998 more than 14 million customer questions and problems were resolved via online support systems, avoiding more than $300 million in call-center and field-specialist support costs.

Gerstner's e-business strategy is central to the prospects for recurring growth at IBM. He says the total e-business market is forecast to grow 20% a year -- much more than the total IT market, which is expected to grow about 11%. Gerstner sees services -- not hardware or software -- making up 60% of the e-business opportunity. That's enviable potential for the world's largest service company.

IBM's strength stems from its position as a classic solutions company -- with a significant difference: It controls a lot of its technology. Most solutions companies buy technology from other people, observes analyst John B. Jones of Salomon Smith Barney Inc., San Francisco. "Consider IBM as a vertically integrated solutions company."

In seeking a position of leadership for IBM, Gerstner is not talking about the kind of leadership IBM enjoyed in the past -- "not leadership based on proprietary technology that kind of locked customers in. But we do very much want to be the company customers turn to for leadership in technology innovation, in understanding how to explore the technology for competitive advantage, and the company that can pull together the products, expertise, and insights better than anyone. What's most exciting, I think, is that we're transforming IBM right now, when e-business is taking hold in the world. This is the single most energizing period in this industry's short but very important history."

Six years ago when Gerstner, then CEO at RJR Nabisco Inc., was tapped to succeed John Akers at IBM, some analysts were not only surprised but also critical of the selection. They anticipated a technologist, but this was a professional manager who began his life's work in 1965 at McKinsey & Co. Inc. and who served in senior management at American Express Co. before IBM's board recruited him from RJR Nabisco. (He was at American Express 11 years where he served as president of the parent company and chairman and CEO of its largest subsidiary, American Express Travel Related Services Co.). He arrived at IBM's headquarters in Armonk, N.Y., on Apr. 1, 1993.

Proving his Worth

Gerstner proceeded to prove he was exactly what was needed to transform the stumbling computer company into a technology and services firm. His first step was to reverse a strategy of dismantling that his predecessor John F. Akers had begun to implement. Instead of buying into the argument that creating Baby Blues -- Akers had proposed more than 10 -- was the only route to profitability, efficiency, and shareholder value, Gerstner recognized the greater value in keeping it whole.

"In 1993 we made a very important decision to keep the company together rather than spin off pieces or set up a bunch of autonomous or semi-independent units," Gerstner says. "We made that decision based on our belief that customers valued integration over [fragmentation], that they value total solutions over raw technology. Over and over again our customers have made it clear that at the end of the day they invest in information technology to give them some measurable competitive advantage -- speed, cycle time, market reach, customer acquisition, or globalization."

Gerstner realized that delivering a sustainable competitive advantage required more than just a great server or a database, or a segment of services. He bet that success hinged on being able to deliver it all -- skills, financing, knowledge, and insight as well as the technology. This was a well-founded wager. It was backed up by the experience of having been an IBM customer trying to implement an aggressive information-technology strategy (during his tour at American Express).

"I joined [IBM] with the mindset of a customer" is one of Gerstner's favorite expressions. This year he reminded securities analysts what that experience taught him: "The fundamental driving force in our strategy has been our determination to reaffirm and rebuild IBM as the premier integrator of total solutions. When we made that decision, a lot of people shook their heads -- not our customers -- but our competitors and critics. Today those same competitors who scoffed at the idea that integration would be valued by customers are racing to be like us."

Some of his examples: Compaq Computer Corp.'s acquisition of Digital Equipment, Computer Associates International Inc.'s attempt to buy Computer Sciences Corp., and Intel Corp.'s announced move to go into services. Gerstner emphasizes that IBM's size and scope are important elements in putting customer needs at the forefront.

"The reversal of the dismantling decision was probably one of the single most significant decisions in Gerstner's six years at IBM, " says Salomon Smith Barney's Jones. Gains in shareholder value and competitive position are the result. Jones admits the proposed fragmentation probably would have been a near-term benefit for some shareholders, primarily security-industry bankers, but he doesn't think the gains could have been sustained over the long term. "I doubt if the [shareholder] value that has been created over the last six years as a single entity could have been amassed by a group of small businesses."

(The 1998 annual report indicates that market value is up $146 billion since the major restructuring in 1993. In 1997 IBM's share price rose 76%. And as 1999 began, directors approved the second stock split in two years.)

Jones also believes that had a breakup occurred, IBM's competitors would have been the primary beneficiaries. "There isn't anyone in the computer business with a comparable revenue footprint [IBM did $81.6 billion in 1998]. HP [Hewlett-Packard Co.] and the other players at the time couldn't wait for IBM to begin to break itself up." Jones argues that the competition would have had an easier time contending with the individual parts of the organization than with the whole of IBM.

While it appears that Gerstner found that bigger can be better, he tells IW that "size is less relevant than structure. There's a common perception that small equals fast, yet I've never seen a small company that isn't working feverishly to get bigger, to get beyond their niche and, in our industry, to offer a broader portfolio and more of the elements in a real solution. Eventually any company that does that well is going to run up against the challenges of size, complexity, and how to deliver its value proposition to the marketplace. That's structure.

"So the first decision point they get to is the issue of centralization versus decentralization. And I can tell you that in my experience, those kinds of hierarchical terms don't mean very much. They're the wrong things to be thinking about. I would argue that any enterprise has to think about three things: strategy, decision-making, and processes."

Gerstner says, "In the technology of 'central/decentral,' strategy should be central, or common. For example: What are we all about? What do we want to be? What kind of returns do we expect? Those decisions must be driven from the core." He says that decision-making, on the other hand, is "the implementation of the strategy and should be pushed out as close as possible to the person touching the customer."

With a focus on keeping IBM whole, Gerstner began the process of doing something about the culture he inherited -- which some observers described as a troubling replay of a Soviet-style bureaucracy. In IBM Redux (1999, HarperBusiness) Doug Garr recounts the tale of an IBM supplier that wanted to return an overpayment of $20,000. To his surprise, IBM wouldn't accept it. To do so would have required someone to take responsibility for the error!

The basic issue was a culture that had been inbred for 40 years and sustained by success, says Jones. "If you control 40% of an industry -- which IBM did during the early 1960s -- your biggest competition is inside, not outside the company. And if you have a practice of hiring [candidates] out of school, with no work experience, over time the result becomes a workforce with a very unique set of business practices," adds Jones.

Tough Love

Ever wonder who the role model was for the paternalistic cradle-to-grave employment model of post-war Japan? Garr claims the practice, which is considered to be so uniquely Japanese, actually is modeled after the personnel policies of IBM founder Thomas J. Watson Sr., who believed that a large corporation could be run like a family.

Gerstner reversed that with a practice of tough love and setting policies in place to encourage desired behavior. One is an increased investment in performance-based pay programs, the same remedy that corporate Japan is implementing.

For example, since 1994 IBM has increased its variable pay pool by more than 60% to $1.6 billion in 1998. Variable pay is a pool of cash distributed to employees based on the performance of the company, each business unit, and each individual employee. Stock options also are being emphasized. IBM nearly doubled the number of employees who were granted stock options in 1996, doubled that number again in 1997, and then tripled it in 1998.

Guiding Gerstner's efforts is the understanding that "the marketplace is the driving force for everything we do," followed by "we're a technology company."

Adds Nicholas M. Donofrio, IBM senior vice president for technology and manufacturing: "He understands that at our very core we are a technology-based company, and that the good that we do for our customers is because we understand information technology and the science and technology around it. [IBM garnered three of IW's 25 Technologies of the Year awards.] He understands that value and knows it is the only way we can remain relevant in this industry with our customers."

Gerstner cites an example: "Our leadership in microprocessor and storage technologies has allowed us to sign $30 billion in OEM deals with competitors like Dell, Cisco, and EMC -- companies that wouldn't sign contracts with us for anything less than the world's best technology. Our software experts have made DB2 the leading database technology on the market and produce the critical middleware technologies that serve as the foundation for billions of dollars in e-business transactions."

Gerstner also prizes the support IBM Research provides to IBM Global Services, what he proudly refers to as the world's largest service organization. "We have several hundred researchers working on breakthroughs in services and operations research -- totally reinventing the way IBM delivers services and producing techniques we can replicate for other customers. That's one of the reasons we'll be able to sustain double-digit growth rates in our services business, and it's a capability our competitors in services and consulting can't match, build, or buy."

Remaining relevant is a priority that has meant considerable change since Gerstner arrived. It's even reflected in the Research division's motto, which once read "Famous for its science and technology and vital to IBM." That became ". . . vital to IBM's future success" soon after Paul Horn became research director in 1996.

To fulfill that mandate, IBM researchers have sharpened their customer focus. "Today, two-thirds of our researchers have some sort of customer contact on an annual basis," says Donofrio. "Time-to-market also has been shortened. For example, hardware-development cycle time has been reduced from four years to 16 months, and for some products it's as fast as six months. We used to throw away 25 cents out of every dollar spent on development -- it never saw the light of day. Now approximately 95 cents of every development dollar actually shows up in a product."

Gerstner is counting on IBM's R&D prowess to capitalize on "two clear technological trends that will totally reshape how we think about computers in the coming century."

He labels "Pervasive Computing" as one. "Someday soon, more than one million businesses will be connected to more than one billion people by one trillion devices. It's already beginning to happen with these new 'Net access devices like intelligent screen phones and intelligent smart cards. But we'll see even more tremendous growth when intelligence becomes embedded, when virtually everything becomes a computing device. Technology will disappear into the very fabric of everything we do. It will be embedded in cars, your tools, in your homes, your school, and your workplace. Applications and services will be delivered much in the manner that a utility company provides electricity or water today."

Gerstner's second trend is "Deep Computing," where supercomputer-scale processing power is combined with very sophisticated software algorithms to attack complex problems. He says IBM's researchers already are working with customers to apply it to biomedicine, genetic design, weather forecasting, and petroleum modeling. "One day you may be able to go into a doctor's office, have your DNA sampled and analyzed by a computer, and have a customized prescription prepared and delivered to you on the spot."

He also finds Deep Computing exciting in a business sense. "It will allow our customers to exploit the tremendous amounts of data that are going to be generated by those one trillion pervasive computing devices," he says. "Deep Computing will turn that information into knowledge and competitive advantage. It will optimize companies and their operations, leading to more efficient, productive economies."

Despite all the encouraging metrics of IBM's achievements in a fast-paced marketplace, Gerstner believes two serious challenges remain.

"The first is that IBM's transformation is nowhere near complete. We've sustained it for more than six years now, and that's good. But in any turnaround there's the very natural tendency to look around one day, take a deep breath, and tell yourself you're out of the woods. That's a very dangerous time. We're far from reaching the targets we set for our company and for ourselves as professionals. So we have to guard against any tendency to take [IBM's] foot off the accelerator."

The second challenge Gerstner sees is in executing IBM's Internet strategy. "Beginning about three years ago, when we first started talking about e-business, we earned very important customer mind-share about what the 'Net was all about and what they needed to do to compete in the emerging networked world. We stuck our necks out and said that the 'Net would be used for transactions of all kinds -- commerce, of course, but also education, government services, supply-chain management, health-care delivery. Now everything is an 'e-' this and an 'e-' that. Our challenge now is to capitalize on this mind-share and convert it into hardware and software sales and services engagements.

"Finally, even as we help our customers make the leap to e-business and build e-business solutions today, we've got to stay sharp to spot the next big technical trend or competitive threat."

There is one more challenge -- succession -- which Gerstner hasn't yet addressed publicly. He signed up for five more years in 1997, but he has not yet announced a decision as to what will happen in 2002.

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