If you’ve been following the news over the last few weeks, you may have heard that Monitor Group, the highly respected consulting firm, declared bankruptcy and is in the process of being acquired by Deloitte.
The question everybody has been asking is, what the heck happened?
To many, Monitor was considered the #4 firm behind McKinsey, Bain and BCG. In my year, I knew people who declined MBB offers to go work at Monitor – yes, Monitor was respected that much.
At McKinsey, I had colleagues who read everything Monitor co-founder Michael Porter ever wrote. The word “brilliant” came up more than once.
So what happened?
To answer that question, I’ll share with you my perspective on Monitor’s fall, what we can all learn from it, and what it means for you.
Let’s start with the basics of why a firm, any firm, goes bankrupt.
A firm goes bankrupt when it no longer has enough cash to pay its bills.
This is usually correlated with Revenues < Costs, but not always. I’ll elaborate on why in a minute.
Traditionally a firm will fail for one of two reasons:
1) Not enough sales (or profit margin)
2) Too much sales
The first reason is more intuitive. When your revenues are less than costs, at some point you can’t pay your bills.
The second reason is a little counter-intuitive, so let me explain that one in more detail.
First, it’s important to realize that in my writings to you, I spend most of my time talking about strategy.
It’s important to keep in mind that strategy differs significantly from how one executes or operationally implements that strategy.
In strategy, we focus on profits… where revenues exceeds costs.
In operations, we (relatively speaking) focus less on profits, and focus much more on cash inflow vs. cash outflow.
Cash inflow = deposits to the bank account
Cash outflow = withdrawals from the bank account
In a case interview, it’s assumed that when a company receives an order from a customer (which causes its revenues to increase), the customer pays the company immediately in full for the order.
Similarly, in a case interview, when a company signs a contract obligating them to some new expense from a supplier, it’s generally assumed that the supplier gets paid immediately.
In these situations, to over simplify a little:
Revenues = Cash Inflow
Costs = Cash Outflow
(Note: For the accounting oriented, I’m excluding some non-cash costs like amortization, depreciation, etc.)
However, when you’re running a company, there are material differences between revenues and cash inflow, and differences between costs and cash outflow.
These differences are based on the timing of when the cash related to a particular order is actually exchanged between customer and company.
The same is true on the cost side. A cost is incurred when you sign a deal with a vendor, but cash outflow is only triggered on the day you actually pay the bill.
As a general rule, it is advantageous for a company to negotiate to get paid by customers immediately, and to deliberately pay its bills 30, 60 or 90+ days after a supplier provides their product or service. Under these ideal circumstances, a company has a “positive cash flow” cycle.
Most Fortune 500 companies have the negotiating power to have a positive cash flow cycle.
For example, if you want to sell your products in Wal-mart, they will place a $10 million order today, but pay you for that order in 4 – 6 months. (Keep in mind, this is negotiated, and any vendors that say “no,” don’t get the order.)
Conversely, if you get paid for your products and services months after the fact, but you must pay your employees and suppliers immediately, this is a negative cash flow cycle.
A small business that’s trying to sell to a Fortune 500 customer will often have a negative cash flow cycle.
They’ll land the $10 million order from Wal-Mart, but have to find some way to pay all their expenses until Wal-Mart pays their bills several months later.
As a result, it is possible to go out of business by having too much revenue (and not enough cash to pay all the expenses during the period between when the order is received and the bill is actually paid by the customer).
My consulting practice covers both strategy and operations. With my clients, I am always talking to them about cash flow. I am constantly reminding my clients that a strategy or an idea isn’t fully implemented, until the “cash is in the bank.”
It’s very easy for a CEO to approve an idea, but sometimes neglect to verify if that idea actually produced cash 6 or 12 months later.
It’s very important to verify that cash actually got to the bank, because quite often the cash you thought a strategy was supposed to generate doesn’t always materialize.
This happens for countless reasons — you had flawed assumptions in your original analysis; your analysis was correct but there was some hidden problem in execution; you’re wasting money somewhere in the business without realizing it.
Welcome to the headache known as “operating a business.”
In my own business, the first thing I do each morning is to check my bank account balance to make sure the cash level is what I expect it to be. When operating a business, cash is your life blood.
This is analogous to what a doctor does in the intensive care ward of a hospital. When a doctor enters the room, the first thing she does is check your vital signs (pulse, blood pressure, something called blood oxygenation level — how much oxygen is actually getting into your blood).
Having spent hundreds of hours in intensive care as a family member, I had many opportunities to observe what the doctors do. The reason they check for things like pulse and blood pressure is very simple. They do so to see if you’re dead, alive or somewhere in between (as is often the case in intensive care).
Yes, it is that simple — after all, most of the patients are not awake and well, it’s kind of hard to tell if someone is alive, dead, or just sleeping.
It is the same with cash. As a smart business operator, you watch cash to verify your business is not dead. Hey, it’s a pretty useful discipline.
As my mother taught me when I was 10 years old, “Victor, if you have enough cash, you will never go out of business.” (I have an unusual mother.)
When I was 11 years old, I used to wear a bright yellow T-shirt around school that said, “Happiness is Positive Cash Flow.” (My teachers always thought I was a weird.)
In hindsight, I realized:
1) LOL… I did not have a normal childhood.
2) Positive cash flow doesn’t buy you happiness, but negative cash flow definitely gets you misery.
As it relates to Monitor, they most definitely did not have positive cash flow, and they were most certainly miserable about it.
So what happened to Monitor’s cash? And why did Monitor fall, when other firms did not?
While there are many reasons, I’d speculate their #1 underlying “root cause” issue was likely…
Monitor underestimated the severity of the problem they had, they did too little to address the problem (i.e., magnitude of solution = magnitude of perceived problem… but…. magnitude of solution < magnitude of actual problem), and acted too late.
What likely happened was Monitor was negatively impacted by the global recession of 2008. However, many other firms were as well and they survived.
However, Monitor also suffered a scandalous blow to their reputation when the media discovered the Libyan Dictator Moammar Gadhafi was a client that hired Monitor to improve his image in the Western media.
In particular, Monitor worked on the Gadhafi engagement using means of questionable ethics. In addition, as part of that engagement, Monitor helped one of his sons write a dissertation for his PhD from the London School of Economics.
(There’s a lesson on protecting one’s reputation that I’ll circle back to in a few minutes.)
So between the recession and reputation damage, that almost certainly caused a structural decline in Monitor’s revenues.
At the time, in 2008, the best I can tell Monitor had around 1,500 consultants in 27 offices. While they reduced the number of employees by about 20% and closed a few small offices, it clearly wasn’t enough.
They should have cut much more deeply in order to survive. They didn’t, and four years later in 2012, they ran out of the cash needed to support an unprofitable business.
Remember — even with a negative cash flow cycle, if you have enough cash in the bank, you can survive long enough to hopefully improve the cash flow cycle. Monitor ran out of time and money.
If you’ve been following my work for any period of time, you’ll recall how much I emphasize (and continue to use to this day) my profitability framework.
I’ve recommended that you use it, I use it with my clients, and I use it for my own business because well, profitability is like really, really, really important.
That’s an understatement!
Monitor started becoming unprofitable in 2008 due to both the recession and the news around Gadhafi. They cut expenses by 20% to be at least break even in profitability.
Then between 2008 – 2011, sales continued to decline and rather than cut expenses further (and risk signaling to the world that they were having problems), Monitor likely decided to continue to run the firm at a financial loss, in hopes that either:
1) the economy, and therefore sales, would improve soon.
2) enough money could be borrowed from outside investors to fund the losses until sales could recover.
They miscalculated on both fronts — the revenues did not recover on their own, and despite initial success in borrowing around $50 million from an outside investor, they were unable to get a follow on investment and ran out of cash.
Monitor’s bankruptcy is not only a major failure, but it’s a particularly humiliating failure. This is precisely the kind of problem that clients hire Monitor to solve for them.
It’s like finding out your doctor, who has been telling you to stop eating so much sugar, has diabetes.
It’s embarrassing to say the least.
I mean at this point, would you ever hire Monitor for a profit improvement project?
THREE KEY TAKEAWAYS
In looking at the Monitor situation, there are… (wait for it…) three key takeaways:
1) Always Protect Your Reputation
As Warren Buffet says… it takes a lifetime to earn a good reputation. It takes a few days to lose it all.
This is worth remembering in your career… especially a career in consulting where the “product” basically is your personal reputation or your firm’s reputation.
Reputation comes in two flavors:
a) integrity of words and actions, and
b) reputation by association
The first is about actually believing in what you say and acting in a reliable way towards others.
For example, when I recommend a particular skill, process or behavior in a case (or with a client) and you follow my advice, if it works out well for you, my reputation in your eyes goes up. If I were to tell you something that did not work or was flat out incorrect, then my reputation goes down.
Thankfully, my reputation over the years has gone up on more occasions than it has gone down. It takes a lot of work and care to make that happen. It does not happen by itself.
Last year, my writings were read by, and influenced, CIBs and working consultants in 212 countries — which is amazing to me. Anecdotally, I’m told that upwards of 50% of the new consultants at MBB are followers of my work in countries ranging from Australia, Nigeria, Malaysia, South Africa, and of course, the U.S., and EU.
How did my reputation grow to seemingly span the world? (Which again, continues to amaze me.)
The short answer:
One sentence at a time.
(In your case, it might be one meeting at a time, one presentation at a time, one analysis at a time, one day at a time… it’s daily consistency on the micro that leads to the macro reputation.)
The second form of reputation is reputation by association.
You are judged by the company you keep… in other words, your reputation is assumed to be of the same caliber as the reputation of the people around you.
Conclusion: Be careful who you associate with.
Gadhafi as a client? Maybe not the best choice.
Helping a client’s son cheat on his dissertation at the London School of Economics? Perhaps one should think twice on that one.
Secretly hiring prominent academics to write favorable opinion pieces on a Libyan Dictator?
Maybe, just maybe, not a good idea.
Do you really want to be known as the “go to” firm that specializes in cheating and manipulation? The preferred consulting firm of dictators everywhere? Is that really the reputation you want for your firm?
As one Monitor consultant said after the fact…and I paraphrase “we screwed up royally.”
Was Monitor really that desperate for revenue?
Building your reputation for integrity is not without costs. The real acid test is: Are you personally willing to turn down income for the sake of reputation or integrity?
I routinely turn down clients when it’s not a good fit for them or for me.
I actively stay away from people I do not want to be associated with.
In short, I’m very conscious of the choices I make. You should be too.
2) PRIDE and EGO are the most expensive costs in a business.
I have been saying for years that the largest expenses I “see” on a company’s financial statement are the pride and ego of its leaders.
Of course pride and ego are not actual expenses of the company, but the expenses incurred in protecting one’s pride and ego can in my experience be enormous.
What likely happened with Monitor is they continued to shrink even after their initial staff reductions. Rather than continue to cut expenses to be in alignment with the new market demand, they consciously allowed expenses to be higher than revenues.
This is very risky.
Why would a bunch of highly intelligent business leaders rationally run a business unprofitably?
Well, rational leaders wouldn’t (or at least not for very long).
But leaders who had their pride and ego tied up in the business, and couldn’t bear the thought of having the world think less of them, might.
They decided that rather than admit a moderate defeat, they would rather be in denial and pretend nothing was wrong until they accumulated a massive defeat in the form of a bankruptcy failure.
To be fair, there is another perspective — a more flattering (or less unflattering) portrayal of what went wrong.
Let’s say that sales dropped off, and Monitor continually slashed variable costs (i.e., salaries) to keep pace. I didn’t see any mention of this in the news other than the original 20% cut in 2008, but it’s possible it happened quietly.
At that point, perhaps their fixed costs, such as leases and loan payments on buildings, were so high and nearly impossible to reduce partially, without eliminating entirely (e.g., maybe they ideally tried to shrink the real estate size of each office by 50% but perhaps nobody else wanted it, they only wanted 100% of it).
While this is possible, I’m a bit skeptical this is what happened as they had nearly four years of time to restructure their costs to be profitable. That’s typically more than enough time to shed costs — provided you intended to do so aggressively.
As an example, when Steve Jobs re-joined Apple as CEO, he took over Apple when the company had roughly 90 days of cash left in the bank. Only 90 days before the company was bankrupt. Jobs stopped the Apple from “bleeding” cash, and did it in 90 days.
In comparison, Monitor had close to 1,400 days to do the same, but couldn’t.
Monitor just did not execute.
Slashing costs is not difficult. It is, however, extremely unpleasant.
Medically speaking, cutting off a patient’s leg to save their life is not mechanically difficult, nor logically difficult. Alive with one leg is logically better than dead with two legs.
This makes completely rational sense… unless you’re the person with the axe and it’s your right leg we’re talking about. Can you really lift the axe up and swing it down?
I know it’s a bit of a gruesome visual, but this is basically (sort of) the sort of “tough decision” that both Steve Jobs and Monitor faced. Jobs was willing to swing the axe. Monitor opted for using nail clippers instead — not enough in the end.
If you look at where Apple and Monitor are today, I think the results of those pivotal decisions speak for themselves.
Which leads me to my third and final lesson:
3) Execution is harder than it looks.
Amongst MBB-caliber consultants, especially the younger ones, there’s an enormous bias that:
Strategy = Hard
Execution = Easy
The bias is rampant inside these firms. Here’s how it plays out.
(And I’m going to apologize in advanced to any Harvard folks reading this.)
Let’s say you have a hot shot Harvard undergrad, who also has a Harvard PhD, working at MBB.
In one of his early engagements, he discovers the client has been focusing on a segment of the market that’s shrinking in size where profit margins have eroded.
The consultant recommends the client switch market segments to a different segment — one that’s growing and much more profitable.
After the final presentation, it’s very easy for that consultant to think:
“Geez… it was like so obvious the client was focusing on the wrong segment. I can’t believe they didn’t do this on their own. Clearly, I / we are smarter than they are, and that’s why we earn the big fees.”
Now nobody in consulting that I know would say that out loud, but I know a lot of people who quietly think this to themselves.
In fact, at some level, I used to think this way… that is until I ended up going into industry, helping to run public companies, and becoming a business operator of my own.
Let’s say I have way more empathy for my previous clients than I did at the time.
Execution is hard.
Let me give you an example.
Since we’re on the topic of Apple (which I am a fan of), let me give you an example.
Apple has one glaring vulnerability. It has extraordinarily high profit margins. You could slash Apple’s profit margins by 50% and it would still be an incredibly profitable company.
The entire history of technology and Silicon Valley is one of initially inferior technology that’s dramatically cheaper, eroding the market position of a superior high priced technology (e.g., PCs vs. mainframe computers).
To oversimplify, one strategy is to compete against Apple at the low end of the market by selling products that are 70% as good, at 30% of the price .
That’s “obvious,” right?
Now, to actually do that is hard.
Apple has decade-long exclusive contracts with all the major component suppliers in the world. They get preferred pricing and they get supplied first before you do. You have to replicate that somehow.
Apple has an enormous head start on innovation and design. You’d have to come close to matching that.
Apple has an enormous portfolio of patents.
Apple has a ton of cash.
Apple has an incredible brand following.
Apple has… well, a lot going for it.
To compete against Apple requires billions of dollars, incredible levels of talent, enormous resources in 100 countries around the world to all execute simultaneously and then maybe, maybe it might work… barely.
As a consultant, I thought strategy was “hard” and operations “easy.”
Today, having been (and continuing to be) both strategist and operator, my point of view has changed completely.
Strategy is “easy” and operations is “hard.”
At this point in my career, I can take pretty much any business and within an hour or two, find the core strategic issue and often figure out how to fix it. Basically, my initial client meetings are really just what you and I would call a case interview. The difference is that my meetings are usually over the phone or over lunch.
Now, it might take that client working 12-hour work days, 6 days a week, and getting thousands of employees to change what they do every day… and to nudge, push, fight, and battle every work day for 10 years to execute what I sketched out on the back of a napkin over lunch.
Do you want to know why those in industry sometimes dislike and criticize consultants? It’s because many of them completely fail to grasp the last three paragraphs.
And you know what? Many of those criticisms are warranted.
Don’t be one of those consultants where the criticism is warranted.
Execution is hard. Never forget that.
And in case you ever do, just look at Monitor.
They failed to execute, and it cost them dearly.