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ROBERTNEUBECKERQ3_performance_v46/23/031:55PMPage94Managingforimprovedcorporateperformancehatdoesitmeanforacompanytoperformwell?Anydefinitionmustrevolvearoundthenotionofresultsthatmeetorexceedtheexpectationsofshareholders.Yetwhentopmanagersspeakwithuspri-vately,theyoftensuggestthatthegapbetweentheseexpectationsandman-agement’sbaselineearningsprojectionsiswidening.Shareholderstendtothinkthattoday’searningschallengesarecyclical.Executives,whofindthemselvesfrustratedintheireffortstoimprovetheperformanceoftheircompaniesnomatterhowhardtheyswimagainsttheeconomictide,increasinglyseetheproblemsasstructural.Thisanxietyisunderstandable.Theovercapacityspawnedbyglobalizationshowsnosignofeasinginmanyindustries,includingmanufacturingsectorssuchasaerospace,automotive,andhigh-techequipmentaswellasservicesectorssuchastelecommunications,media,retailing,andITservices.Com-binedwiththeincreasedpricetransparencyprovidedbydigitaltechnology,thisovercapacityhasgivencustomersgreatlyenhancedpowertoextractmaximumvalue.Theresult—theruthlesspricecompetitionthatrulestoday’smarkets—hasconvincedmanytopmanagersthatprofitswon’trisedramaticallyevenifdemandpicksupfromtherecessionlevelsofrecentLowellL.BryanandRonHulmeGeneratinggreatperformancerequiresamoredynamicapproachtobuildingandadaptingacompany’scapabilitiesthanmerelysqueezingitsoperations.W95Q3_performance_v46/23/031:55PMPage95years.Inshort,theperformancechallengecompaniesfaceisn’tcyclical;itwillpersistforyearstocome.Thestakesarehigh.TheS&P500,despitea40percentdeclinefromitspeak,stilltradesataP/Emultipleof15,andconsensusforecastsofearningsgrowthaverage8percentayear—abouttwotothreetimesthegrowthofGDP.Lowerexpectationsmaywellbewarrantedinacompetitive,deflation-aryeconomicenvironment,butreducingexpectationsofearningsgrowthto4percentwouldimplyareductionincorporateequityvaluesofnolessthan15to25percent.Sotopmanagershaveachoice.Theycantrytoclosetheperfor-mancegapbyscalingbackthemarket’sexpectationsforfutureearnings—anapproachthatimpliesanacceptanceoflowerstockprices(andmightgetthemfired).Ortheycanimprovebaselineearningstomeetorexceedthemarket’sexpectations.Shareholdersandmanagersalikepreferthelattercourse.Companiescanfindadditionalearningsintwoways:theycantrytoimproveoperatingperformancebysqueezingmoreprofitoutofexistingcapabilities,ortheycanimprovecorporateperformancebyorganizinginnewwaystodevelopinitiativesthatcouldgeneratenewearnings.Bypursuingbothoftheseapproachessimultaneously,companiescantakeapowerfulorganiza-tionalsteptowardmeetingthechallengesoftoday’shypercompetitiveglobaleconomy.ThelimitsofoperatingperformanceTopmanagershavetraditionallychosentorelyonoperating-performancetacticswhentimesarehardandonlyduringgoodtimestoundertakemorefundamentalperformance-improvementinitiatives.Thispredilectionmustchangeif,aswebelieve,thechallengesfacingcompaniesarestructuralandpersistentratherthancyclicalandtemporary.Companiesthatdependtooheavilyonimprovementsintheiroperatingperformancewillrunintoreallimitsinthelongerterm.Tobesure,topmanagement,pressuredbyintenseglobalcompetition,hasreactedcorrectlyoverthepastfewyearsbypushingoperatingperformanceeverhardertomeetearningsexpectations.Discretionaryspendinghasbeenslashed,theleastproductivecapacityeliminated,corporateoverheadcut,96THEMcKINSEYQUARTERLY2003NUMBER3Topmanagerscouldtrytoscalebackthemarket’sexpectationsforfuturecorporateearnings—butthatapproachmightgetthemfiredQ3_performance_v46/23/031:55PMPage96marginaloperationsandbusinessesshed.Companieshavebecomefarmoreaggressiveinpurchasing.Thesesteps,necessarytoeliminatewastebuiltupduringtheboomofthelate1990s,haveboughttime.Butmerelyactingtosecureincreasedreturnsfromexistingcapabilitieswillyielddiminishingreturnsandeventuallybecomecounterproductive.Squeezingoperatingperformancewhentimesaretoughisatried-and-truepractice,butitisinadequateintoday’shypercompetitiveglobaleconomy.Duringtheentirepost–WorldWarIIera,mostlargecompaniesenjoyedextraordinarystrengthintheirhomemarkets.Theircorebusinesses,oftendefinedgeographically,usuallygavethemprivilegedaccesstocustomersandtolabor,capital,andtechnology.Theprofitabilityofthesebusinessesoftensufficedtosupportinvestmentsforexpandingbeyondthecore.Withsuchextraordinary“homecourt”advantages,topmanagementcouldsetfinancialtargetsanddeveloplong-rangeplansand“visions”toreachthem.Theseplanswereincorporatedintotheoperatingbudgetsofbusi-nesses.Thehomecourtadvantagegavecompaniesthemuscletodrivetheiroperatingperformanceandtogeneratetheexpectedprofits.Giventheopaquenessoftheinformationprovidedtoshareholders,thestrengthandprofitabilityofcorebusinessesoftenmaskedfailingssuchasrelativelypoorreturnsfromnoncorebusinessesandineffectivecorporateover-head.Inotherwords,topexecutivesmanagedtosustaintheillusionthattheycouldpredictthefutureandcouldthuscreateexpectationsoffutureresults.Iftimesgottough,moreearningscouldalwaysbesqueezedfromimprovedoperatingperformance.Duringthe1990s,executivesinmanyanindustrybetthattheycouldexploitthishomecourtstrengthtobecomescale-basedwinnersintheglobalmarketplace.Profitsmadeinho