Background: Dell’s stock has been steadily dropping over the past few years, and a couple of value investors (e.g. Bill Miller) have bought into it. I was doing a bit of research into DELL when I chanced upon this book at a bookstore, so I picked it up and gave it a read.
- M. Dell grew up with an entrepreneurial spirit – auctioning stamps, selling newspaper subscriptions, etc. He realised that the computer stores at that time, bought PCs from IBM, charged a premium and gave no service. He took advantage of that by assembling his own computers, selling them at a cheaper price and giving better service.
- Dell’s Direct Model, v1.0 – From the start, our entire business – from design to manufacturing to sales – was oriented around listening to the customer, responding to the customer, and delivering what the customer wanted. Our direct relationship – first through telephone calls, then hrough face-to-face interactions, and now through the Internet – has enabled us to benefit from real-time input from real customers regarding product and service requirements, producs on the market, and future products they would like to see developed… The direct model is based on direct selling – not using a reseller or the retail channel. Because we built only what our customers wanted when they wanted it, we didn’t have a lot of inventory taking up space and soaking up capital.
- Highest levels of service + products needed – There would always be someone with something that was lower in price or cheaper to produce. What was really important was sustaining loyalty among customers and employees, and that could only be derived from having the highest level of service and very high-performing products.
- Disdaining inventory – Inventory is the worst thing to own in an industry in which the value of materials or information declines quickly. This is especially worse when you are a technological leap, where the price of your old inventory plunges. To compensate, the price of the products have to be raised, slowing the growth of the company. Improving the speed of the inventory flow is a necessity – it combats the rapid decline in the value of materials and requires less cash and has less risk.
- Order of business at Dell – In 1993, we didn’t understand the economics of our businesses. We were consuming huge amounts of cash, while our profitability began to deteriorate, and both our inventory and our accounts receivable were piling up. We had grown too quickly. We realized our priorities had to change. We needed to focus on slow, steady growth, and liquidity. Once we got our cash situation in order, we could then turn on the profit valve and eventually reaccelerate our growth. Instead of “growth, growth, growth” the new order of business at Dell would be “liquidity, profitability, and growth” – in that order.
- Clear metrics – Once we established clear metrics and measurements, it was easy to see which businesses were performing or not, and to change the strategy accordingly. For example, we changed our infomration systems so that a salesperson could see the level of margin for a product literally as he/she was selling it on the phone. Previously, you might have had a case where two salespeople would each sell $1 million worth of our products, but one might have 28% profit margin and the other only 8%. Our improved sales compensation system emphasized profit margins, and since the margins determined the sales representatives’ compensation, they were heavily motivted to change.
- Three Golden Rules at Dell – 1) Disdain inventory, 2) Always listen to the customer, and 3) Never sell indirect.
- Phase reivew process for product development – This process created the common language and an agreement across the organization about how products would be developed and launched. We start with a business contract, which is an agreement among all parts of the organization concerning the product we intend to deliver: what it is, and how it’s supposed to perform in the market. Each phase has its own criteria for achievement. From the beginning, everyone signs on: from design and manufacturing to finance, sales, and services and support. The phase review process becomes a robust planning architecture for teh development of each product because it fosters team responsibility and accountability.
- Dual reporting – You need to maintain functional excellence while injecting business accountability. To achieve this, we instituted a system of dual reporting with our people. Most senior-level managers of specific functions, such as finance or human resources or legal affairs, share responsibility with managers of specific businesses, such as particular regions or product lines. Our lawyers in Europe, for example, report both to the head of our European business, as well as to our general counsel at our headquarters in Round Rock.
- Segmentation – Segmentation offers a solution to the fundamental issue that has challenged Dell since the very beginning: how to sustain our growth as we got bigger. You can grow small companies quickly, but it becomes increasingly more difficult to sustain a high rate of growth in a large corporation. Segmentation allows us to scale our business very rapidly because every time we determine that there is sufficient momentum to segment a unique customer group, we’ll break it off, give it its own organization team, and let it act as a small company.
- Dell’s Direct Model, v1.1 – In Version 1.0 of the direct model, we eliminated the resller, thereby eliminating the markup and the cost of maintaining a store. In Version 1.1, we went one step further to reduce inventory inefficiencies. The amount of assets required, in this case excess inventory, is inversely proportional to the quality of your information. With less information about customer needs, you need massive amounts of inventory. So if you have great information – that is, you know exactly what people want and how much – you need that much less inventory. Less inventory corresponds to less inventory depreciation. Let’s say Dell has 6 days of inventory compared to an indirect competitor who has 25 days with another 30 in their distribution channel. In that difference of 49 days, the cost of materials will decline about 6%.
- Inventory velocity – Inventory velocity means squeezing time out of every step in the process. To achieve maximum velocity, you have to design your products in a way that covers the largest part of the market with the fewest number of parts. FOr example, you don’t need 9 different disk drives when you can serve 98% of the market with only four. We also learned to take into acccount the variability of low- and high-cost components. Systems were reconfigured to allow for a greater variety of low-cost parts and a limited variety of expensive parts. The goal was to decrease the number of components to mange, which increased the velocity, which decreased the risk of inventory depreciation, which increased the overall health of our business system. However, without traditional stockpiles of inventory, it is critical to precisely time the discontinuance of the older product line with the ramp-up in customer demand for the newer one.
- Reward success by narrowing responsibility – When a business is growing quickly, many jobs grow laterally in responsibility, becoming too big and complex for even the most ambitious, hardest-working person to handle without sacrificing personal career development or becoming burned out. Segmenting a job happens in a couple of ways. We’ll bring in additional talent and/or divide a business unit, product organization, or functional unit in some way that makes the newly segmented structure more manageable and more sharply focused to the business opportunity. This allows us to keep our people happy and thriving and maintaining a high grwoth rate. Even when we create create two or sometimes three new groups out of one, the new group is often twice as big as the original one had been, say, two years ago. There is no added value in expecting people to be superhuman. In that case, you might as well expect them to fail.
- Information sharing – We share the best ideas throughout our various buesinesses because we’re all working on the same team, toward the same goal. If one team is having great success with medium-size companies, we cross-pollinate their ideas around the world. If another team has figured out how to sell into law firms, we share their learning through the organization. Our best ideas can come from anywhere in the world and be shared instantly.
- Innovative thinking – How can we teach people to be more innovative? Ask them to approach a problem in a holistic sense. We start by asking our customers, “What would you really want this thing to do? Is there a different way to accomplish that?” Then we try to come up with a totally different approach that exceeds the original objectives.
- Don’t try to perfume a pig – We receive constant information on everything from our products to demand trends to quality data both in field performance and in our factories. Metrics are posted in the factories and throughout our company. Salespeople can measure their progress literally minute by minute. Almost every activity within the company has metrics attached to it, even so-called soft activities such as legal, public relations, and human resources. Facing a problem and quickly accepting it enables you to address the issues immediately and move on problems faster.
- Think like an owner (ROIC) – To motivate an employee to think like an owner, you have to give her metrics she can embrace. At Dell, every employee’s incentives and compensation are tied to the health of the business. And one of the best ways we’ve learned to evaluate its health is Return on Invested Capital (ROIC). ROIC became a focusing device. We determined successful strategies by measuring our ROIC and growth for each business. We explained specifically how everyone could contribute: by reducing cycle times, eliminating scrap, selling more, forcasting accurately, scaling operating expenses, increasing inventory turns, collecting accounts receivables efficiently, and doing things right the first time. We decided to reward employees around a matrix of ROIC and growth; higher performance directly correlated to higher ROIC, which came back in the form of higher compensation.
- Add value “beyond the box” – The idea of adjusting our manufacturing and product development strategy based on customer input seemed obvious to us. We are not just going to be a customer’s PC vendor, but to be part of the customer’s own information technology group, help think about your customer’s bottom line, how can you help them cut costs and increase profits.
- Complexity kills – Maintaining many supplier relationships adds tremendous complexity and cost to our business. There were the costs of designing all the different components into our computers, qualifying them, and testing them. There were the costs of initiating lots of different relationships and supporting them in the field. There were the costs from confusion to our sales and service teams and to our customers. Our rule is to keep it simple and have as few partners as possible. Fewer than forty suppliers provide us with about 90% of our material needs. Closer partnerships with fewer suppliers is a great way to cut cost and further speed products to market.
- Proximity pays – Once we could measure the true returns to our shareholders from buying one component versus another, it was very clear that those suppliers that located their factories close to ours helped us to deliver a higher ROIC than those who were farther away. Obviously if they were closer to us, we had lower shipping costs. But since component costs decline in value an average of 0.5 to 1% per week, proximity also meant that they could get us products more quickly and we could take full advantage of the component cost reductions.
- Supplier management – Suppliers need to have a sprint capacity to work with us, and our demand can’t represent a disproportionate amount of their total capacity. We tell suppliers exactly what our daily production requirements are, e.g. “Tomorrow morning, we need 9,762. Deliver them to door no. 7 by 7am.”. One of our tools we use to gauge a supplier’s performance is our supplier report card. In it, we set our standards very explicitly: We detail the number of defects per million we will tolerate; we outline what we expect to see in field performance, on our manufacturing lines, in delivery performance and in the ease of doing business with them. We also evaluate suppliers on cost, delivery, availability of technology, inventory velocity, support of our global business, and the ways in which they do business with us over the Internet. We set quantitative measures for success so they know what we expect and we provide regular progress reports to they know how they’re doing.
- Inventory velocity revisited – One of the first things we had to do was try to get suppliers to stop thinking about how much inventory they were going to ship to us. Instead, we had to encourage them to think about how quickly that inventory was going to move from the end of their production line through our manufacturing line and on to the customer. “Ship us inventory every day or every hour as we need it. We’ll buy from you faster. And if you can do that, we’ll buy a whole lot more”. Speed to market is important for two reasons. One is that it creates competitive value that can be shared between buyer and supplie. The other is that when it comes to delivering the latest product – no matter what it is – you’re either quick or you’re dead.
- Using the Internet – Given that our factories run on a continuous-flow manufacturing model, our goal is to get to a point where when we use a component, another one immediately shows up and the supply just keeps replenishing itself, automatically, as we need it. By using the Internet to maintain a continuous flow of materials from our suppliers into our factories, our people spend less time placing orders or expediting parts and more time adding value. The other thing the Internet gives us is immediate transmission of product quality data. We’d like our suppliers to see the information real-time. If we can accelerate the availability of the data, our chances of encouraging suppliers to improve also will increase exponentially. By providing real-time information on the day-to-day mix and volume, we can help our suppliers level-load their factories and minimize their level of inventory. By helping our suppliers do a better job of reducing their supply chain lead times and moving to a higher degree of flexibility within their supply base, we can reduce the total cycle time from when we place the order to when they fulfill it.
Conclusion: The book is a very good read, and the business principles highlighted above are truly excellent. The very core thing that drives the business is the fact that everything revolves around the customer. Listening to customer feedback, acting on it promptly, adding value to the customer, etc. One thing to note is that the book was written in 1999. However, since then, from 2002, DELL has suffered from poor customer satisfaction – the very thing that supposedly drives DELL. Despite an attempt in late-2002 to improve customer service, DELL’s customer service has gone from bad to worse. With reports of long-time customers being ignored, and finally moving to other competitors out of frustration, coupled with the fact that DELL outsourced its customer service call center to India and its related problems, it is not clear whether DELL will be able to turnaround. With the problem in plain sight for years, and the solution clearly available, what exactly has been preventing DELL from fixing the problems and moving to greater heights? As Michael Dell puts it, “Time will tell”.