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As IBM marks its centennial, its finance team plays a critical role in driving continuous transformation. CFO Mark Loughridge explains how, and why.
Scott Leibs, CFO Magazine
July 15, 2011
On a drizzly day in late May, IBM CFO Mark Loughridge welcomes a visitor to the company's Armonk, New York, headquarters by offering him a printed PowerPoint deck. Nothing new in that — executives of all stripes, and particularly in finance, like to work from a script.
What is different, however, is the first page. It features three magazine covers spanning the years 1984 to 2006. In the aggregate they form a reverse bell curve, with IBM lauded at the two extremes of that period, but derided as a dinosaur on the cover of a 1992 issue of Fortune.
For Loughridge, this is more than just a history lesson. Having joined IBM in 1977 as a development engineer, he has not only endured its fall from grace and subsequent resurgence, he has helped propel it. Now, as both CFO and senior vice president for finance and enterprise transformation, he must preserve and extend IBM's return from the brink of extinction.
Not that he would ever put it that way. Calm and self-effacing, Loughridge seems the very embodiment of a prevailing corporate modesty that, as one IBM insider quips, can be summed up by the slogan "There is no 'I' in IBM."
Indeed, even as the company was preparing to celebrate its 100th anniversary, the vibe at headquarters was as far removed from Silicon Valley metaphorically as it was literally. The whisper-quiet halls, lined with exhibits that commemorate Big Blue's technological milestones, had gained a few centennial-specific additions overnight, yet no one seemed to notice. As employees made their way to the company cafeteria at noon, conversations were muted and polite. By every indication, "Think," a company motto as old as IBM itself, was anything but an empty slogan.
Going forward, the designers who concoct the historical exhibits that line IBM's hallways will have to do some impressive thinking of their own. When the company was focused on hardware, there was an embarrassment of riches to choose from, everything from typewriters and cash registers to microchips and mainframes. Today, with 83% of its revenue coming from software and services, those hallway displays seem likely to consist of little more than photos of smiling customers.
The important thing, of course, is that IBM's current profitability, stock performance, and uncanny ability to meet its targets give it plenty to smile about. As Loughridge explains, it didn't necessarily have to turn out that way.
Twenty years ago, IBM was being written off as a dinosaur. Today, you are number 18 on the Fortune 500 and about to crest the $100 billion revenue mark. While many people are familiar with the broad outlines of the comeback, just how bad did it get?
Many people say you're never as good as your good press or as bad as your bad press, but in the case of this Fortune cover, we were identified as the biggest of the three dinosaurs [the other two were General Motors and Sears, Roebuck], and we deserved to be. We had hit the wall in a big way. We brought in lots of new management talent, including Lou Gerstner as CEO and Jerry York as CFO. They took over a ship that was listing in a fog and taking on water. And that was made worse by the fact that, organizationally, we were hampered by some trappings of a day gone by.
So, did life change for the finance department when this new team joined with a mandate to effectively rescue the company?
Our mission was to become the radar, the GPS, for the organization, and at the time that was very difficult to do. Our international expansion involved setting up many individual headquarters around the world, which had become very powerful fiefdoms. They would even put out their own annual reports and have their own boards of directors, for no real purpose.
From an information standpoint, we couldn't gather data consistently across all these regions, and given the pressure we were under, people were not as forthcoming as we needed them to be. We grappled with this for a couple of quarters, and we knew we were failing. These were the darkest days in my 34-year career here, because we in finance weren't bringing the data to the table that we needed to bring.
But it wasn't just about data.
No. We took a very big step and went to all of the countries, to the business units and the manufacturing and development sites, and said, "Hey, you know all those accountants who work for you? They now work for us." A lot of executives objected, and many were summarily fired.
There's a lot to be said for the urgency of a situation — when the oxygen is running out you make decisions and you get going on them. So we consolidated all of the accounting globally, built a central information warehouse, and made substantial progress toward having a single, consistent source of data that everyone could access. Over time we extended its use, from accounting to cost estimating to expense and revenue planning, and even to sales metrics downstream.
This also allowed us to unpeel the business equation. We could pull out data pertaining to software and establish software as a separate business, for example, and the same for services. We could see the real economics, the real profitability, and create a distinct management structure around each business.
When you sum it up that way, it almost sounds easy.
It was a pretty desperate period for us! We weren't sure whether we would even make payroll, so we were working around the clock. We'd have a full [finance] staff meeting at 8:00 a.m. on Saturday and leave at noon on Sunday. Then, on Sunday, the controller and I would meet at a local deli and draw straws to see who would deliver the data book to Lou Gerstner versus Jerry York. If you got to go to Lou's house all you had to do was drop it off. But if you had to go to Jerry's, it was like dental surgery as he went through all of the numbers with you.
There was also pain of a different sort as IBM divested many products, some of which were considered the core of its identity.
We divested things that had become commoditized, including PCs, printers, hard drives, flat-panel displays, and D-RAM chips. That last one was particularly traumatic for our R&D guys. We invented D-RAM, and the guy who invented it has been with us for 50 years and still goes to work at the Watson Research Lab in Yorktown.
But the proceeds from those divestitures helped us make major investments in R&D. We've been averaging a consistent $6 billion per year for the past five years, but what we spend it on has changed a lot, to a much higher mix of software and services development.
And along with this transition, you really embraced the idea of selling "solutions" versus products?
Yes, in the 1990s our gross profit margins were declining about a point to a point-and-a-half per year. To put that in perspective, at our current size of about $100 billion in revenue, a one-point erosion in gross margin requires us to add another billion in revenue in order to drop a nickel of growth to the bottom line. Part of the problem was that a larger percentage of our offerings were becoming commodities, and our customers were buying them as point solutions. We wanted to create partnerships with customers, where the engagement is about solutions. When we do that, we have a better win rate, better margins, and better customer satisfaction. So we saw that we had to get out of commodity content and emphasize higher-value content.
Getting back to corporate structure, it's interesting that the nature of your global expansion proved so troublesome given what a pioneer IBM has been in expanding overseas.
Fifteen years ago, if you had called a general manager in Europe and said, "What are you focused on today?" he might have talked about a supplier problem, or an HR issue, or an import regulation, or how he had a lot of accounting work to do. Today, I guarantee that if you call any one of them they will talk only about client issues — deliverables and execution milestones. They are completely customer-based. We handle finance, not them. And the same is true in terms of HR and other functions.
The interesting thing for finance is that by taking all of that on, we were able to straighten out all of the wiring diagrams and the plumbing, so to speak, so that today we have 70% of our staff doing real value-added work, and only 30% chasing data, a complete reversal of where we were in the mid-1990s. So finance is not just rolling out numbers, but serving as a true co-pilot, a trusted adviser to the business. And in that same period, we've cut the overall cost of finance from 3% of revenue to 1%.
This transformation has also affected the kinds of skills we look for in finance staff — for example, the ability to place financial information in a business context. We value line-of-business experience as part of the development of finance talent. And, conversely, we've seen more people from finance move into line-of-business roles.
Aside from centralizing key functions, have you changed your global strategy in any other way?
Yes. In 2007 we switched from a system where we paired a major market with a growth market, such as Germany with Eastern Europe. Now we segment countries based on whether they are major markets or growth markets, and they run on different operating platforms accordingly. For example, in major markets we drive for productivity, whereas in emerging markets we drive for growth. So even in the recession we invested in growth markets at a rate about 10 points higher than in major markets. As a result, we've seen the revenue from growth markets grow from 12% of our business in 2003 to 21% last year, and we expect to approach 30% by 2015.
One interesting note is that while the overall growth rate in those markets has been very predictable, on a country-by-country basis it's been very volatile. That really emphasizes the value of running back-office operations not within each country but in a [centralized] way. You don't want finance trapped in a country that is up 30% one year, down 30% the next — you want it in a shell so it can apply its capabilities across all countries.
IBM's performance over the past few years makes it appear almost unaffected by the recession, yet that can't be the case.
A couple of things helped us. First, our roadmap told each unit what its commitment was through 2010, and each was expected to stay on that trajectory. We made it very, very clear that we weren't coming off our numbers because of the recession. And second, the fact that a large part of our business is annuity-based reduces the impact of turbulent times.
What is the "roadmap" all about?
In 2007 we realized that, as a result of our transformation, investors weren't sure how to model us, so we developed a roadmap explaining where we were going through 2010.
It began as a communications tool, a way to articulate both strategic and tactical goals so investors would have more clarity, but soon we were using it internally for all kinds of goal-setting, because it really helped us look well beyond the next quarter. It was very galvanizing, so as we reached the end of the period covered by that map, we developed a new one through 2015.
The first version was created top-down, but the one we're operating under now was developed bottom-up. It's a roll-up of the business plans of every unit, and I can go to managers anywhere in the world and ask them to tell me how they stand in relation to the roadmap and I'm sure they could all do it. It's a different kind of collaboration between finance and operations, and it gets back to that co-pilot concept I mentioned earlier. We aren't here to mark people's papers. We're here to be part of the team. We're really against cost-cutting just to make it through a specific project or situation.
The current roadmap calls for $8 billion in savings between 2011 and 2015. To what degree does finance "own" that goal, or take front-line responsibility for driving it?
The power of the roadmap is that it is not simply a financial plan. It is owned by every leader in the business who is accountable for results, and that includes my team. It's a bottom-up approach planned with, plumbed through, and executed at every level of the business.
What risks are most top-of-mind for you right now?
We see several tremendous opportunities in the marketplace: business analytics, cloud computing, Our Smarter Planet initiative [using data to drive actionable insights, particularly to solve large-scale problems], and emerging economies. For me, the biggest risk is missing one of those opportunities. That's what has motivated us to continue to invest throughout the downturn and into the future.
Scott Leibs is editor-in-chief of CFO.