An ex-Marine, McDonald had joined the firm in 1960 in New York, then went to Europe, where he ran the Paris office and oversaw stupendous growth: The number of consultants climbed from twenty in 1968 to sixty-four just five years later. And yet he was voted in as managing director to do just the opposite: to slash the budgets of a bloated organization.
When Walton stepped down in 1973—he stayed with the firm, opening the Dallas office—the enthusiasm for the top job was muted. Ron Daniel, a favorite of Bower’s who was running the New York office, chose not to run, as did Jon Katzenbach. No one wanted the thankless job of cutting costs and saying no to his colleagues. So into the breach stepped McDonald. He wasn’t an instant favorite. He ran against Jack Cardwell of the Chicago office, and neither he nor Cardwell obtained the 60 percent majority required for election in the firm’s bylaws. The partnership decided to change the requirement to a simple majority, and McDonald won on the next ballot. That vote for managing director in 1973 took place at the Racquet Club in New York City. It was the last time the partnership met face-to-face to elect a managing partner.
Walton had been a laissez-faire leader, with a style that had lulled the firm into a sense that things were going to be okay. But the firm was in worse shape on the day he stepped down than it had been when he took over. Operating profits in 1972 were close to zero. It took nearly a whole year to pay back bank loans the firm took out in June 1973 to pay partner bonuses. The firm had been struggling with its cash position since 1971, with the New York office putting constant pressure on other offices to expedite the transfer of cash back to headquarters. If things got any worse, the whole enterprise might collapse. In a shocking turnaround, London was now operating in the red.
Consultant turnover was also abnormally high. It had been 14 percent annually for the decade through 1972, then jumped to 25 percent in 1972 and 1973. It remained at 20 percent through 1978. But there’s another way of looking at it. McKinsey downsized by tightening its promotion criteria and then invoking the “up-or-out” rules: Whenever business turns down, instead of laying off people, the firm simply lowers the percentage that gets promoted at each level and the problem takes care of itself in a year or two. Voilà! The firm, which had 627 consultants on the payroll in 1971, had just 532 in 1975. Even more disturbing: Some partners were concerned that the value of the firm’s shares might be worth less than what the partnership was asking new principals to pay for them. Considering that most principals took out loans to buy into the partnership, McKinsey was running the risk that newly appointed partners might refuse to buy in completely.
McDonald tried to stop the bleeding as quickly as he could. He negotiated a new credit line at U.S. Trust. He changed the share buyback from departing partners to take place over five years, at 20 percent a year, instead of as one immediate lump sum, making it less attractive for partners to leave for greener pastures while also relieving capital pressures on the firm. And he insisted that the firm raise its fees. The San Francisco office refused at first, and McDonald told it that it would enjoy disproportionately lower income than the rest of the firm. Nine months later, it relented.
McDonald also instituted a number of changes designed to make sure directors still performed in the interests of the firm, including the extension of the up-or-out policy to the director level. Previously, directors effectively had tenure. Henceforth, they had to justify their existence along with everyone else.
“I also put financial controls and higher performance expectations on offices and office managers who had tended to operate as independent baronies,” recalled McDonald. “And I include myself in that group, from my time as manager of the office in Paris and earlier in Zurich.”46 McDonald was ruthless: He changed office managers in half of the firm’s locations in his first eighteen months and terminated a partner a month for nearly the entire thirty-six months he was in office.
Bower resented McDonald’s laser focus on finances. While frugal himself, he’d always argued that if the firm focused on serving clients, the finances would take care of themselves. But the economic climate had changed everything. The removal of the United States from the gold standard had resulted in inflation and then recession. United States gross domestic product fell from October 1973 through early 1975, a sixteen-month decline that was the longest since World War II. New investment in the nation dropped by a startling 39.8 percent. “Al made us pay attention to financial planning and budgeting,” said Jack Vance, head of the Los Angeles office. “At first we needed those controls. But as soon as we didn’t, the partners didn’t really want them.”47
When McDonald initiated a project to develop a new “firm description” so the outside world would better know McKinsey, the knives truly came out. Arch Patton, one of the old guard, wrote a scathing memo to McDonald on March 3, 1976, attacking what he saw as a “sales piece.” But Patton’s memo was more revealing for what it said about McKinsey’s inflated self-regard than for what it said about McDonald’s effort. He cautioned against talking down to outsiders, displaying McKinsey arrogance in the process: “This version gives me [the feeling] that we are simply superior people. I think we are, but hate to see us say so.” More important, he killed the sacred cow: “We would like people to consider us a profession (we are not, of course).” It was all a construct, he was saying, and unless McKinsey was careful, people would see right through it.
McDonald’s dramatic changes were driven by a realization that McKinsey wasn’t invulnerable. But many partners preferred to believe in the myth that it was—and to see McDonald himself as the cause of their problems. They derided his focus on costs. They saw imperiousness in his use of gold-toned paper for memos from the corner office. “Al kind of committed hara-kiri by thinking he was in charge,” said one of his colleagues. “That’s a big mistake. You can be very influential and make a lot of things happen as managing director of McKinsey, but you are definitely not in charge. Marvin was in charge, but no one has been since.” A few understood what McDonald was trying to do—“It’s very hard to manage an orderly retreat, but Al did,” said partner Charles Shaw48—but they were a small and not particularly vocal minority.
In short, Al McDonald was the kind of guy you didn’t elect in good times. Even he knew that. And when the next election came around, he didn’t really stand a chance. “I think Marvin was pleased that I wasn’t reelected,” said McDonald. “The same goes for a few others who thought my enforced disciplines and higher performance expectations might put them in a less favorable light. But I had not been elected based on popularity, but because people knew I would do what urgently needed to be done for the firm. And I did it, to the satisfaction and relief of some and to the concern of others.”49 Bower was so excited to see McDonald leave that once Ron Daniel had been elected as his successor, Bower encouraged McDonald to step down immediately, as opposed to governing (as was his right) in transition. McDonald refused.
“There were a few times when things got a little out of control,” said ex-McKinsey consultant Peter von Braun. “In one of those instances, Al McDonald was brought in to clean things up. But they didn’t reelect him because they didn’t want that kind of directive management anymore.”50
In an interview more than twenty years after losing reelection, McDonald was reflective. “At the time, it was a big disappointment since we had achieved a major turnaround of firm results and future prospects in those three years,” he said. “Even so, it was not a big surprise. The partners had accorded me a great honor by choosing me to lead them through one of the firm’s most uncertain and traumatic periods, internally and externally. Although there was still much to do, I was proud to leave office with the [firm] greatly strengthened and rapidly gaining momentum, with a renewed, more confident, and brighter outlook ahead.”51 McDonald, who had been the firm’s largest shareholder, went on to work in the Carter administration before becoming a corporate executive and private investor.
In Bower’s eyes, McDonald also committed an unforgivabl
e sin when he terminated residual payments to Zip Reilly, who had been receiving them since coming up with a much-needed capital injection to the firm in the 1930s. But Bower was angry for a lot of reasons. He couldn’t stand to see his glorious creation under siege. And he chose to pin all that on McDonald: “He was not able to provide the push and drive to take the [firm] forward and he didn’t have the capacity to think in terms of strategy for the [firm,]” the older man later said. And then he stuck the shiv in even farther: “Al McDonald had one fatal flaw,” said Bower. “He was for Al McDonald.” (The firm history concludes: “That judgment was not quite fair.”)52
Bower’s view of McDonald seems myopic in retrospect, another piece of evidence that he was losing sight of the plot in his final years. In reality, Bower was merely fighting the fight that all great leaders eventually must, which is the decline of one’s own relevance. What’s more, for all the strong values he had instilled in the firm, he had never been very good at anticipating changes in the business world. When he stepped down as managing director, the firm was woefully ill prepared for how hard its business was about to become. But by the end of McDonald’s single term as managing director, McKinsey was on a far stronger footing than it had been just five years before. Just as the American economy would soon do, the firm had adapted to a changing world and capitalized on new strengths.
5. A RETURN TO FORM
The Man from Central Casting
If Hollywood were to cast the part of a McKinsey consultant, Ron Daniel would win the role hands down. Intelligent, gracious, and of regal height and bearing, he was once described by a colleague as “so smooth he could skate on your face and not leave a mark.” Daniel succeeded Al McDonald as the firm’s managing director in 1976 and led the firm over the next twelve years.
When Daniel was elected, McKinsey was still managed intuitively. He would change that on the basis of a conviction that in order to thrive in the next cycle, McKinsey had to institutionalize. He established committees to elect and evaluate junior partners and installed more formal ways to evaluate senior partners. The personnel processes he put in place allowed McKinsey to govern itself effectively as it grew. Equally important, Ron Daniel yanked the firm out of its generalist torpor and invested systematically in the creation of domain knowledge. He also proved the best judge of talent the firm had yet known, nurturing a number of McKinsey superstars during his tenure.
A mathematics graduate of Wesleyan, Daniel went to Harvard Business School and then served in the navy before landing at McKinsey in 1957. As of 2012, he still held an office at the firm, which means he’s worked there for more than half a century. He recalled one of his first clients—a public utility in Arkansas—that took four or five flights to get to: New York to Washington to Knoxville or Memphis and then Little Rock. “[After arriving,] I had Sunday night dinner at the Toodle House,” he told McKinsey’s in-house magazine in 1996. “You could get a steak wrapped in bacon, french fries, chocolate cream pie, and chocolate milk—all for $1.19.”1
Elected principal in 1963, Daniel took over Harvard recruiting for the firm in 1965. In 1970 Lee Walton asked him to manage the New York office, and in 1973, when the job of managing director opened, Daniel presciently chose not to run, waiting until 1976, when the firm had regained its footing. This time around, Daniel ran against Al McDonald and Jack Cardwell. Fearful that Daniel and Cardwell would neutralize each other and McDonald might be elected again, a group of partners got together and convinced Cardwell to bow out. Cardwell dutifully agreed and soon after left the firm to become president of Sara Lee and later of New York investment house Bessemer Securities.
The firm was already on the mend when Daniel took office. Austerity had stopped the internal bleeding, and client hours, which had bottomed in 1974, were rising along with the American economy. Only one office was in the red in 1976—Tokyo—and its losses had been halved. The firm’s net operating profit was twenty times its low in 1973, and it was sitting on the largest capital reserve in its history. Shares were worth more than four times what they’d been worth when Marvin Bower stepped down in 1967.
McKinsey men were supposed to be great communicators—sufficiently wise and trusted to tell their clients bad news without losing the business—and on that front, Daniel eclipsed all those who had come before him, including Bower. “Marvin was cantankerous and sharp edged,” recalled one McKinsey consultant. “He was like medicine. But it didn’t feel that way with Ron. He brought force of opinion and strong will but delivered it in a way that was polished as well.”
Through his tenure, as the media’s fascination with McKinsey grew, Daniel kept an extremely low public profile. “We can’t see how it serves the firm’s interests,” he told BusinessWeek in 1986 while declining an interview request. “Besides, we’re kind of a dull, anonymous bunch, and we cannot talk about our clients.”2 Of all the long-serving managing directors in McKinsey’s history, Daniel stayed the farthest beneath the public’s radar.
Yet, other than Bower, he also stayed on as managing director longer than any in the firm’s history. During Al McDonald’s tenure, the shareholders committee had approved increasing the voting requirement for an incumbent director to remain in office: 60 percent in the director’s first election, 70 percent in the next, and 80 percent in a third, making it nearly impossible for a director to stay on for more than two terms. During Daniel’s first term in office, the change was rescinded, reducing the requirement to just 60 percent regardless of tenure, thereby allowing Daniel to glide through four elections. “But that’s okay,” said one former director. “He deserved it. He sacrificed his whole life for the place, just like Marvin.”
Compared with McDonald’s forced rehabilitation, Daniel was a soothing balm. “Al McDonald made Ron Daniel both possible and necessary,” reads the firm’s internal history.3 Why? Because McKinsey men don’t like constraints. More important, they don’t like autocratic rule, even if the times demand it, and they needed a leader after McDonald who would loosen the reins again.
“The funny part about Ron Daniel is that he wasn’t much of a consultant,” said one of his longtime partners. “He only had one big client, and that was Mobil. But he was a gifted judge of talent.” Daniel nurtured future McKinsey managing director Fred Gluck from the get-go, while also presiding over the emergence of McKinsey standouts like Tom Peters and Kenichi Ohmae.
Daniel wasn’t much of a revolutionary thinker himself. But he believed, above all, in the partnership. He knew how to bring people inside and how to lead. He took risks by pushing as yet unproven consultants into important positions. Within five years of his election, 40 percent of the members of every committee—except for the members of the shareholders committee, who were elected—owed their appointments to Daniel.4 But he didn’t overly rely on committees. He was too smart for that. He wasn’t going to come up with the next great theory about economic value, but he, as much as anyone, was responsible for helping McKinsey transition from a primarily domestic concern to a global partnership. The man sailed through twelve years of leadership without a challenge.
Some managing directors of McKinsey enjoyed a rising economic tide as the backdrop to their tenure—Marvin Bower, for example, and Rajat Gupta in the late 1990s. Ron Daniel had the 1980s boom at the end of his term, but when he took over in 1976, neither the U.S. nor the global economy could be called healthy. This was the era of Jimmy Carter and stagflation. How did Daniel keep McKinsey headed up and to the right of the growth chart? One major way was by embracing the idea of the “transformational relationship” and encouraging consultants to push it to their clients. McKinsey no longer pitched itself as a project-to-project firm; from this point forth, it sold itself to clients as an ongoing prodder of change, the kind a smart CEO would keep around indefinitely.
The sell worked: Once ensconced in the boardrooms of the biggest corporate players in the world, McKinsey rarely left, ensuring a steady and growing flow of billings for years if not decades. In 2002, for exa
mple, BusinessWeek noted that at that moment, the firm had served four hundred clients for fifteen years or more.5 Not only that, but the firm continued to raise billing rates even in the face of stiff competition.
Some problems are solved once and solved forever. Others are piano-tuner problems. McKinsey decided that the real money was in the latter. One great trick was to issue a progress review at the end of any study—raising the implication that the completed work should necessarily lead to further work. An internal joke at the company, according to journalist Dana Milbank: “A transformational relationship is where we transform their money into our money.”6 You will never hear this from McKinsey, but with its business concentrated in continuous clients, a huge part of its effort is spent figuring out how to turn a middling client into a $10 million-per-annum cash cow.
Critics of the firm conveniently ignore that it wasn’t just luck that turned one-off clients into relationship clients. Even when there was no hope of any billings, either immediately or in the near future, McKinsey partners would make it their business to meet the CEO and his top team on a regular basis. They would inform the C-suite on an issue they knew its members were grappling with or an emerging issue that the industry might be addressing. “I never thought twice about boarding a plane and flying from New York or London to São Paulo or New Delhi to accompany my partners in meetings for clients where there was no hope of any commercial benefit right away,” said former partner Partha Bose.7
One former consultant recalled that the only time he heard talk of a client’s actual profitability was when a young principal had just learned that a senior director he’d managed to cross had just used the firm’s internal billing processes to put him in his place. The director ran a big proposal effort for the client and then billed the effort to the principal, who then saw his internal profit and loss measurements collapse. The principal left McKinsey soon after, acrimoniously.
The Firm: The Story of McKinsey and Its Secret Influence on American Business Page 13
