WHY DO MANAGEMENT PRACTICES DIFFER ACROSS FIRMS AND COUNTRIES?

1. WHY DO MANAGEMENT PRACTICES DIFFER ACROSS FIRMS AND COUNTRIES? Nick Bloom (Stanford University & SIEPR) Blackrock, March 16th 2010

2. MOTIVATION • Large persistent productivity spread across firms and countries • Britain less productive than the US since about 1900 • Firms at 90th percentile of productivity distribution about twice as productive at those as the 10th percentile • Could this be in part because of differences in management? • Summarize a ten-year LSE, Harvard, Stanford and McKinsey project to measure management across firms and countries

3. “Measuring” management practices • Evaluating the reliability of this measure • Describing management across firms & countries • Accounting for management across firms & countries • 5. Different sectors and evidence of causal impact OUTLINE 3

4. THE SURVEY METHODOLOGY • 1) Developing management questions • Scorecard for 18 monitoring, targets and incentives practices • ≈45 minute phone interview of manufacturing plant managers • 2) Obtaining unbiased comparable responses (“Double-blind”) • Interviewers do not know the company’s performance • Managers are not informed (in advance) they are scored • 3) Getting firms to participate in the interview • Introduced as “Lean-manufacturing” interview, no financials • Official Endorsement: Bundesbank, PBC, CII & RBI, etc. • Run by 75 MBAs types (loud, assertive & business experience)

5. (4) Performance tracking

6. (10) Target time horizon

7. (11) Targets are stretching

8. (15) Removing poor performers

9. (16) Promoting high performers

10. MANUFACTURING SURVEY SAMPLE • Interviewed 7000 firms across Asia, Europe and the Americas • Obtained 45% coverage rate from sampling frame (with response rates uncorrelated with performance measures) • Medium sized manufacturing firms: • Medium sized (100 - 5,000 employees, median ≈ 250) because firm practices more homogeneous • Focus on manufacturing as easier to measure productivity(but show results for Schools, Hospitals and Retail)

11. “Measuring” management practices • Evaluating the reliability of this measure • Internal/External validation • Measurement error/bias • Describing management across firms & countries • Accounting for management across firms & countries • 5. Different sectors and evidence of causal impact OUTLINE

12. INTERVAL VALIDATION: RE-SURVEY ANALYSIS Re-interviewed 222 firms with different interviewers & managers Firm average scores (over 18 question) Firm-level correlation of 0.627 2nd interview 1st interview

13. EXTERNAL VALIDATION OF THE SCORING Performance measure country c management (average z-scores) ln(capital) other controls ln(labor) ln(materials) • Use most recent cross-section of data (typically 2006) • Note – not a causal estimation, only an association

14. EXTERNAL VALIDATION: BETTER PERFORMANCE IS CORRELATED WITH BETTER MANAGEMENT Includes controls for country, with results robust to controls for industry, year, firm-size, firm-age, skills etc. Significance levels: *** 1%, ** 5%, * 10%. Sample of all firms where accounting data is availableStandard errors clustered by firm

15. EXTERNAL VALIDATION: FUTURE STOCK RETURNS Most intriguingly, for an earlier (summer 2004) survey cohort of publicly quoted US firms we find correlated future (2005) stock holding returns 4 29 57 58 49 37 19 # of firms Significant at 1% level Stock holding returns over 2005 (%) Management score (to nearest 0.5) assessed in summer 2004

16. EXTERNAL VALIDATION – ROBUSTNESS • Performance results robust in all main regions: • Anglo-Saxon (US, UK, Ireland and Canada) • Northern Europe (France, Germany, Sweden & Poland) • Southern Europe (Portugal, Greece and Italy) • East Asia (China and Japan) • South America (Brazil)

17. EXTERNAL VALIDATION: WELL MANAGED FIRMS ALSO APPEAR TO BE MORE ENERGY EFFICIENT 1 point higher management score associated with about 20% less energy use Energy use, log( KWH/$ sales) Management Source: Bloom, Genakos, martin and Sadun, NBER WP14394. Analysis uses Census of production data for UK firms

18. “Measuring” management practices • Evaluating the reliability of this measure • Describing management across firms & countries • Accounting for management across firms & countries • 5. Different sectors and evidence of causal impact OUTLINE

19. US MANAGEMENT BEST ON AVERAGE WITH A TAIL OF DEVELOPING COUNTRIES Average Country Management Score

20. US SCORES HIGHLY BECAUSE OF FEW BAD FIRMS Firm-Level Management Scores

21. COUNTRY LEVEL RELATIVE MANAGEMENT Relatively better at ‘operations’ management (monitoring, continuous improvement, Lean etc) Relatively better at ‘people’ management (hiring, firing, pay, promotions etc) People management (hiring, firing, pay & promotions) – operations (monitoring, continuous improvement and Lean)

22. “Measuring” management practices • Evaluating the reliability of this measure • Describing management across firms & countries • Accounting for management across firms & countries • Competition • Family firms • Multinationals • Labor market regulations • Education • 5. Different sectors and evidence of causal impact OUTLINE

23. TOUGH COMPETITION LINKED TO MUCH BETTER MANAGEMENT PRACTICES Various ways to measure competitive intensity (long-run market profits, trade-openess, market concentration, surveys etc.) In every case more competition leads to better management

24. OWNERSHIP MATTERS – FIRMS WITH PROFESSIONAL CEOS ARE WAY BETTER RUN THAN FAMILY, FOUNDER OR GOVERNMENT FIRMS Distribution of firm management scores by ownership. Overlaid dashed line is approximate density for dispersed shareholders, the most common US and Canadian ownership type Average Management Score

25. Foreign multinationals Domestic firms MULTINATIONALS APPEAR ABLE TO TRANSPORT GOOD MANAGEMENT AROUND THE WORLD Average Management Score

26. LIGHT LABOR REGULATION ALSO FACILITIATES GOOD MANAGEMENT (PITY THE FRENCH) Average people management(hiring, firing, pay and promotions) World Bank Employment Rigidity Index

27. Non-managers Managers EDUCATION IS ALSO STRONGLY LINKED WITH BETTER MANAGEMENT PRACTICES Percent with a degree Management score (rounded to nearest 0.5)

28. “Measuring” management practices • Evaluating the reliability of this measure • Describing management across firms & countries • Accounting for management across firms & countries • 5. Different sectors and evidence of causal impact OUTLINE

29. ALSO RAN A SMALLER RETAIL MANAGEMENT SURVEY (USING AN ALMOST IDENTICAL GRID) WITH BROADLY SIMILAR RESULTS Retail Found a strong correlation between management and profits and productivity in retail United States Canada United Kingdom Overall management scores

30. RECENTLY ALSO BEEN RUNNING A HOSPITAL MANAGEMENT SURVEY Hospitals Again, found a strong correlation between management and performance (e.g. patient survival after heart-attacks) Management practice scores

31. MAJOR REASON FOR HIGH US SCORES ARE PRIVATE HOSPITALS ARE MUCH BETTER RUN Hospitals (US data) Private Public Average management score

32. ALSO RUNNING A SCHOOLS MANAGEMENT SURVEY, IN WHICH US MANAGEMENT SCORES ARE POOR (THINK RUBBER ROOM & UNIONS) Schools Again, found a strong correlation between management and performance (e.g. pupil exam grades) Average management score

33. FINALLY, IN SEARCH OF CAUSATION WE ARE RUNNING MANAGEMENT EXPERIMENTS IN INDIA To investigate the causal impact of management I am working with the World Bank to run experiments in large Indian firms Find large performance impact from improving basic management for operations, quality, inventory and HR Outside a typical Indian factory in our experiments Inside a typical Indian factory in our experiments 33

34. Many parts of these Indian plants – as in most developing countries - were dirty and unsafe Garbage outside the plant Garbage inside a plant Flammable garbage in a plant Chemicals without any covering 34

35. The plant floors were also disorganized – the land that Lean forgot Instrument not removed after use, blocking hallway. Old warp beam, chairs and a desk obstructing the plant floor Dirty and poorly maintained machines Tools left on the floor after use

36. The inventory rooms had months of excess yarn, often without any formal storage system or protection from damp or crushing Yarn without labeling, order or damp protection Yarn piled up so high and deep that access to back sacks is almost impossible Different types and colors of yarn lying mixed A crushed yarn cone, which is unusable as it leads to irregular yarn tension

37. Not surprisingly, modern management practices led to large performance improvements – e.g. defects down by 50% Start of Diagnostic Start of Implementation End of Implementation 97.5th percentile Control plants Average (♦ symbol) 2.5th percentile Quality defects index (higher score=lower quality) 97.5th percentile Average (+ symbol) Treatment plants 2.5th percentile Weeks after the start of the intervention Notes: Average quality defects index, which is a weighted index of quality defects, so a higher score means lower quality. Plotted for the 14 treatment plants (+symbols) and the 6 control plants (♦ symbols). Values normalized so both series have an average of 100 prior to the start of the intervention. Confidence intervals from plant block bootstrapped. 37

38. SUMMARY • Variations in management practices (for monitoring, targets and incentives) account for large differences in performance • Huge differences in these management practices across organizations in every sector and country we have looked at • Competition, ownership, regulations and education seem key factors in explaining these differences • Quotes:

39. BACK-UP

40. WE USE LARGE SAMPLES BECAUSE THE WIDE VARIATION IN MANAGEMENT MEANS SMALL SAMPLES CAN BE POTENTIALLY MISLEADING Case studies provide rich firm-level details, but the variation in management practices means these can easily be misleading(e.g. Enron, was a case-study favorite with many HBS Enron cases) Log of Sales/employee ($’000) Management score

41. WE ALSO GOT MANAGERS TO SELFSCORE THEMSELVES AT THE END OF THE INTERVIEW We asked: “Excluding yourself, how well managed would you say your firm is on a scale of 1 to 10, where 1 is worst practice, 5 is average and 10 is best practice” We also asked them to give themselves scores on operations and people management separately

42. MANAGERS GENERALLY OVER-SCORED THEIR FIRM’S MANAGEMENT “Worst Practice” “Average” “Best Practice”

43. SELF-SCORES ARE ALSO UNINFORMATIVE ABOUT FIRM PERFORMANCE Correlation 0.032* Labor Productivity Self scored management * In comparison the management score has a 0.295 correlation with labor productivity