Let’s start with a definition of productivity and a little history lesson. Economists define productivity as the quantity of output produced by one unit of input within one unit of time, e.g. 5 tons per hour. Huge gains in productivity powered the first industrial revolution that began in England from 1760 till 1820-40. New inventions and techniques transformed an agrarian society into an industrial society and made this small island nation into one of the wealthiest countries in the world.
In 1776 Adam Smith wrote The Wealth of Nations. At the heart of his theory was the concept of productivity. He argued that supply rises with productivity dropping real prices and increasing real wages, with the benefit to societies of lifting people out of poverty. As an example, in the United States in 1790 roughly 90% of the working population was involved in agriculture but by the year 2000 only about 1.5% of the working population was in agriculture.
If productivity can create wealth for whole societies, think of what it can do for individual businesses. And more specifically, think of what lean can create.
Most traditional companies think of gains in productivity to be comparable with capital spending on new machines or new technologies: when you suggest big gains in productivity the first response will be, “Great, how much will it cost?” This is however the exact wrong way of thinking if you understand lean. For, experience has taught us that improved techniques that cost almost no money can have as big, if not a bigger, impact on productivity than big capital spending projects.
Unfortunately, this is not a widely held belief, and few business leaders tackle the productivity challenge by removing the waste from the current process before even asking the question of whether they even need to spend any money. Instead they plow ahead with expensive and complicated automation projects. With lean we are trying lead with our brain and not our wallet.
One of the best ways I can illustrate this concept of “productivity=wealth” is to tell you about my experience at The Wiremold Company in Hartford, CT. Wiremold was a privately owned company that made raceway and fittings as well as other simple products for the electrical industry. Approximately 70% of our products were “off the shelf” sold through electrical distributors in all 50 states. The other 30% were custom products sold to OEMs. When I joined Wiremold as CEO in September of 1991, sales were flat and earnings had declined by 82% over the past two years. Ouch, what to do?
I knew from experience that we needed to implement an aggressive kaizen approach and convert to lean quickly. And, that to do so, I had to get everyone on board as fast as possible with the vast changes that were going to occur. I presented the initial introduction to lean and personally ran our first lean training myself so that everyone would understand that we were serious, and that the changes were going to happen. I also knew that the changes would be shocking to everyone and that they needed to know what would happen to them as a result. “What’s in it for me?” is a critical question that you should try and answer up front to calm people’s fears and help them understand the upside of a lean turnaround.
As a result, I believe that the first slide I put up simply said:
PRODUCTIVITY = WEALTH
I knew that when we started doing kaizens we could immediately reduce staffing from 10 people to 5, or from 8 to 3; and I wanted people to understand that they shouldn’t get nervous about that—there would in fact be a lot of upside for everyone as we became a better, faster growing company. In my experience, most companies that operate in a batch approach with functional departments based on types of equipment have between 25-40% more people than they need. Wiremold was no exception. Because we knew we would not do any layoffs going forward, we offered an early retirement package before we started our aggressive kaizen approach to address this issue. We thought maybe 15-20% of the work force might take this. It turned out to be closer to 35%.
We promised no layoffs as a result of kaizen improvements right up front, even though we were a union shop and asked for nothing in return, and were able to stick to this. While this helped ease people’s fears, it still took time before they were comfortable with the new approach. People asked: “Hey I used to run one machine and now you have me in this new cell where I run eight machines, what do I get?” Well, fortunately Wiremold’s founder, Mr. Murphy, had established a profit-sharing plan that everyone participated in from the early days. We took 15% of the pre-tax profit and divided it by the total straight time wages to get the profit-sharing percentage. This was then multiplied by everyone’s straight time wages for the quarter to get the amount of their quarterly profit sharing check.
When I arrived, the profit-sharing plan was paying out at a rate of about 1%. We stated a goal of getting to 20% of everyone’s pay as a result of the expected productivity gains. While we achieved this for a few quarters, the more steady state was in the 12-14% area—still a big gain. The best ideas for productivity gains will always come from the people who are doing the work. This was no different at Wiremold and profit-sharing allowed us to reward them for it.
Our aggressive kaizen efforts also helped to debunk the traditional idea that you can only get productivity gains from capital spending. For us the reverse was true: we were generating cash as a result of our productivity gains, which allowed us to free up capacity and lower our lead times and inventory levels. Inventory turns went from 3x to 18x, freeing up huge amounts of cash and reducing floor space by about 50%. (In fact much of these gains happened early on, in our first kaizens.) I insisted that all of my direct staff be on the first kaizen teams and commit to being on 5-6 full week kaizen teams per year.
When I assigned my CFO, Orry Fiume, to a setup reduction team I got a lot of pushback. “I’m busy, we are closing the books that week,” “I’m a finance guy I don’t know anything about setup reduction,” “Blah, Blah, Blah!” But he joined the team. Being the finance guy and under the impression that productivity gains require capital spending, he decided to keep track of everything we spent to reduce the setup. The team took it from 90 minutes to 5 minutes by the end of the week and Orry calculated that we only spent about $150. He was convinced and became one of our biggest advocates for lean. Today, after having written a couple of books on lean, Orry is a much sought after speaker at lean conferences around the world.
Profit-sharing was a great tool to reward our work force for short term productivity gains, but what about the long term? After all, small gains—kaizen by kaizen—accumulate into much bigger gains in enterprise value over time. We felt that our associates should all be able to participate in these gains as well. While we were a private company, we still had stock and even though it didn’t trade we did assign a value to it every year. We also had a 401k plan that employees could choose to participate in. We would match their contribution with an equivalent amount of company stock. We wanted them to participate in all the productivity gains they were creating, so we pushed pretty hard to get as many people into the 401k plan as we could. I think we got up to around a 90% participation rate. This turned out to be the best part of the story because of the results they created.
We doubled in size in the first four years, then doubled again in the next four years. Productivity increased dramatically as we did not need to add any head count or space in our two major plants to do this. Lead times went from 4-6 weeks to 1-2 days, operating income increased by 13.4 times and best of all, enterprise value increased by 2,467% in a little less than ten years. At the time we sold the company the biggest single shareholder was the 401k plan, and therefore 90% of our associates. They produced the productivity and as a result got the biggest share of the wealth that was created.
Productivity is the greatest wealth creator whether you talk about countries or companies. If you go about it correctly, kaizen by kaizen by kaizen, the best ideas for productivity gains will always come from the people doing the work. Make sure you share the gains with them. There will be plenty to go around; and reward the shareholders as well. Think in terms of profit sharing for the short term and some form of equity potential for the long term. A lean turnaround requires a lot of teamwork. Everyone needs to participate and everyone should therefore be rewarded. Being a cheapskate will just restrict your gains.