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Principles For Growing Value Of An Investment Grade Privately Held Business

This week, as I make decisions, I will choose the options that align us more closely with these Principles, and aid the Company’s Prime Directive to:  “Create more cash dividends this year than last, year after year, decade after decade.”

To achieve the Prime Directive, you travel through each week hunting for and exploiting opportunities to 1) Increase Customer Value, 2) Increase Sales, 3) Increase Gross Margin, and 4) Reduce Expenses – The Business Tetrad.

  1. Customer Value -- Focus our business on superior customer value.
    1. Aggressively invest in those things that allow us to deliver higher value to our customers than our competitors do.
    2. Know our customers’ goals and problems well enough to innovate to keep our products and services indispensable to them.
    3. Ensure everyone continually obsesses over customer satisfaction. Exceed customer expectations.
    4. Measure the quality of our product and service:
      1. Customer retention.
      2. Customer complaints.
      3. Quality failures.
      4. Late delivery.
      5. Presentation competence at customer touch points (wince factor).
  1. Sales -- Develop a formula for perpetually increasing sales.
    1. Typical “Organic Growth” formulas include one or more of the following:
      1. Ramping up an outbound sales force.
      2. Adding new products or services.
      3. Entering new markets.
      4. Outspending your competition on: advertising / marketing / PR.
    2. Work our formula as aggressively as we are able without hurting our goals of:
      1. privately held.
      2. cash profitable.
      3. internally financed, except for large capital expenditures.
      4. competent supervisors at all levels and in all pockets of the business.
    3. Ride a burgeon.
      1. Position the business to operate in “markets with great disparity.”  — Drucker circa 1970
      2. Keep maneuvering the business into growing, non-cyclical markets.
      3. “Surveying the whole field of business, I fixed on the most developing force and the largest field of the day, and determined to attach myself to it.”  — Charles Francis Adams circa 1840
  1. Margin -- Keep our mark-up among the highest in the industry.
    1. Some businesses produce a “Gross Margin” – sales minus cost-of-goods-sold.
      1. With these businesses, issue a Gross Margin Report and continually push for increased margin.
    2. Other businesses produce a “Contribution Margin” – profit after reaching Initial-Break-Even (IBE).
      1. These businesses require minimal increased cost for each additional sale – like at a radio station.
    3. There are three ways to produce high margin:
      1. Have the courage to charge more.
        1. Many examples in luxury and service industries.
      2. Pursue sales opportunities that tolerate higher margin.
        1. Certain industries, products or buyers will more readily absorb higher costs.
      3. Lower the cost of producing what you sell, without reducing quality.
        1. Henry Ford sold cars for less than his competitors yet maintained a higher Gross Margin by producing them more efficiently.
    4. Before creating a new Initial Break/Even by entering a new market or business, ensure that:
      1. we have the entrepreneurial capacity to cover the new activity without harming our existing activities,
      2. sales at existing operations are growing as fast as the market will allow; unless:
        1. We’ve crossed the point of diminishing returns in our existing markets.
        2. The margins in the new market are far superior to our current margins.
        3. Customer demand in the new market is far superior to our current demand.
  1. Drive down costs.
    1. Force our operating-cost-per-dollar-of-sales lower than our competitors; and lower this year than last year.
      1. Management must model behavior that teaches parsimony and frugality.
      2. Outwork our competition – do more work, and better work, with fewer employees.
        1. High employee efficiency and effectiveness.
        2. High employee work quality and accuracy.
        3. Lowest possible employee head count.
        4. “Innovate” to lower expenses.
      3. Lock down cash outflow.
        1. Approach each invoice payable with an “Auditor’s Skepticism.”
        2. Follow written “Contracting Guidelines” and “Employee Authorizations” for spending money.
        3. Teach and follow written “Purchasing Rules” like “Confirm price before authorizing work.”
        4. Maintain a monthly “Cost-side-down” meeting and database.
        5. Ensure error-free payroll processing; resulting in no employees being overpaid or under withheld.
        6. Adhere to our Travel Expense Policies, like: When reasonable, bunk two to a room, and drive if it costs less than flying. With clients, angle for average-priced restaurants vs. “elite” dining.
      4. Have it be true that, “Nobody pays less than us (for the quality we require).”
      5. Plug all leaks in the revenue cycle that cause a variance between “True gross sales” and “Realized sales.”
      6. Be a late adopter of technology-for-efficiency-sake, so we don’t get burned by early-stage, unstable technology. Only upgrade our technology when dysfunctional; or the R.O.I. is massive.
      7. Minimize activities or expenses that customers or shareholders would not be willing to pay for.
        1. Don’t spend your time doing what others want, if there isn’t a strong, near-term benefit to our goals.  E.g. sitting on outside boards, to public speaking, to as little as filling out surveys. 
        2. No political activity. Take no side in public controversy. – Giovanni de’ Medici d.1429
        3. No charitable donations of time or money from the operating unit.
        4. Shun management comforts – and take pride in it.
    2. Meet deadlines, “On time, every time.”
    3. Collect receivables faster.
      1. Strive for prepayment.
    4. Minimize or eliminate the costs of growth.

Our target is a 30% Return On Sales (pre-tax profit).

A 30% return is easiest to achieve when sales are rising; margins are high; operating costs are low; and customer retention is high.

(Below a 10% ROS it is difficult to produce any free-cash-flow.)

(Above this line are the four aspects of the business you strive to improve each week – The Business Tetrad. Below this line are the main principles that will help you achieve I, II, III & IV above.)

  1. Scrutinize Results -- Develop reports that give us insight into our success at achieving the above-mentioned goals; then scrutinize these financial statements; productivity reports; and quality-assurance reports monthly.
    1. Act on what they tell you to change – in order to achieve the Prime Directive.
    2. Clamor for more 1) dividends; 2) productivity; 3) product quality and customer service.
    3. Emulate Carnegie, who “used productivity reports to make his company so efficient his competitors couldn’t hurt him.”
  1. Establish a “world-class” organization.
    1. Employ only the best.
      1. Attract, hire, and retain top quality employees who can build the business better than our current best.
      2. Recruit new-hires by using a best-practice hiring system. Don’t just “trust your gut.”
      3. “Install managers who are among the ablest, most earnest, and reliable in the field of business.” — J.D. Rockefeller circa 1880
      4. Promote those who demonstrate the Observable Traits of Management Excellence, and LEADERSHIP, and who live by What We Stand For.
      5. “The unable or unwilling must be removed from the enterprise.” – Henri Fayol circa 1900
    2. Affiliate with the best suppliers and outside service providers.
      1. Examples:  accountant, legal counsel, product vendors, subcontractors.
      2. “Engage those with the best reputation; the most prominent; at the top of their field.” – Armand Hammer circa 1950
      3. Reject vendors that are less than “Grade A”— as fast as possible.
    3. Provide tools, equipment, and technology that are good quality, and the most efficient.
    4. Establish Policies and Procedures (P&P) that are considered “Best Practice.”
    5. Occupy facilities that inspire confidence in our customers, and enable us to recruit world-class employees.
      1. i.e. buildings and furnishings, in neighborhoods that our target job applicants will be proud to show their parents or spouse.
  1. Bench Strength -- Build a reserve of capable employees who can move up to fill positions created by growth.
    1. Have at all times at least one subordinate with the ambition, people skills, technical competence and values who could take over my position today.
    2. Cause managers to hire “bench strength” even for their star performers and for themselves.
      1. Only offer jobs to applicants you believe can grow beyond their starting position with us.  To do otherwise runs the risk of not having enough capable employees to fuel our growth.
      2. Offer jobs to applicants capable of solving all the problems they’ll encounter. We’re flunking if it requires the department head to solve the department’s problems.
    3. Make room for capable employees who could grow into a larger role at our company, so we don’t lose them.
  1. Delegate; effectively; and as necessary.
    1. Delegate so you can do timely and well all the things that only you can do.
    2. A top manager delegating too slowly harms company growth and profit.
      1. If for several months you’ve been unable to get to important responsibilities,
      2. and you’ve determined it is not because of a temporary spike in work,
      3. and company goals are being harmed because you can’t get to everything:
      4. Perform a Work Study by recording your activities during the next several weeks, in half-hour increments.
      5. Individual tasks will present that can be eliminated or parceled out to others.
      6. Sometimes groups of tasks can be batched and assigned to a new position you create.
    3. Steps to delegate effectively.
      1. Do the job well yourself.
      2. Let the other person watch you do it well.
      3. Watch them do it until they do it well.
    4. “The growth of small companies is capped if they don’t install Systems & Controls. These allow you to delegate yet keep work-quality high.” — Jon Slabaugh 1998
  1. Management must set a good example.
    1. Strive for honesty and high integrity, especially from myself.
      1. This relates to my treatment of employees, customers, suppliers and laws.
      2. Comply with all software licenses, plus health and safety regulations eagerly.
      3. Decide in favor of paying less tax this year; but pay happily the tax we do owe.
      4. Don’t take product, office supplies, or equipment home; or use company-paid services for personal benefit.
      5. Promote making high-character choices, as they arise, throughout the company.
      6. Lying or deceiving should result in termination.
  1. Company Culture -- Establish the correct “Working Climate.” – Henri Fayol circa 1900
    1. The first requirement of organizational health is a high demand on performance – managers must set high standards for themselves and their teams. – Drucker circa 1970
    2. “Build a force of enthusiastic, loyal, harmonious co-workers.” – Harvey Firestone circa 1920
    3. Incentivize to make employees feel the way the company feels.
    4. Transmit to employees an active, unrelenting drive to affect process improvements promptly, at all levels and in all parts of the business – what the Japanese call KAIZEN.
    5. Create a culture that celebrates cost saving in every corner of the business.
    6. Involve all employees in keeping our facility organized, orderly and clean – what efficiency experts call “5-S”.
    7. Treat each other with respect.
      1. Decide in favor of the employee or subordinate when the written policy is unclear.
      2. Thank, praise, and compliment daily; to comply with the 4-to-1 rule.
      3. Model friendly, fair, courteous, compassionate behavior.
      4. We promise our incoming employees a work environment where they will not be subject to:
        1. yelling; loss of emotional control
        2. sarcasm
        3. humor at the expense of others
        4. profanity or vulgarity
        5. group reprimands
        6. moodiness or rudeness
  1. Failure Analysis -- “Analyze and profit from our failures.” – Jim Rand circa 1920
    1. Whenever we find ourselves frustrated, in pain, failing at our goals, confronted with a problem, or having made a mistake, we stop the flow of our day.
      1. We recognize this as an opportunity to improve the business, and ask:
        1. What changes can we make to our process, or
        2. What form, policy, checklist, system or control can we install, or
        3. What training can we institute, so we don’t repeat this problem in the future?
      2. Before the next opportunity to encounter this problem again, we install the permanent solution.
      3. The cost of the solution must be less than the cost of the problem.
      4. For a company to suffer from the same mistakes, year after year, is the opposite of “Best Practice.”
  1. Avoid debt.
    1. "Debt, grinding debt, which consumes so much time, which cripples and disheartens. – If you are wise, you will avoid a prosperity which loads you with more debt.” – Emerson circa 1850
  1. Save -- stockpile cash -- stuff the war chest.
    1. Feel angry, determined, redoubled resolve any month we don’t create free-cash-flow.
      1. It’s the free-cash-flow that allows you to accelerate debt payments, add to safety capital, fund growth or pay dividends.
    2. There will always be a next recession; at these times Cash is King.
    3. Grow our “Safety Capital” accounts until we reach our targets of:
      1. Internally financed Credit Line = 1 payroll minimum.
      2. Recessionary Savings = 2 month’s operating expense.
      3. Safety Reserve at the Holding Company = 1 month’s operating expense.
      4. Sinking Funds and Revolving Funds = as needed.


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