This is Part 4 in a series on the expertise of capital in business. You may read the previous part here.
This is a companion discussion topic for the original entry at https://commoncog.com/lee-walker-and-the-dell-growth-plateau
This is a companion discussion topic for the original entry at https://commoncog.com/lee-walker-and-the-dell-growth-plateau
Responding to your point about growth plateaus for small businesses, I can’t help but make the comparison to growth plateaus for leaders. People hit various consistent plateaus in their leadership journeys (The Leadership Pipeline identifies 6 stages, for instance), where the skills that got them to one level are now blocking them from the next level. I wonder if there’s a similar maturity model for small businesses where they reach a plateau based on their most limiting constraint of expertise. If so, that feels like a business model for somebody, specializing in helping small businesses crack through that particular growth plateau.
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Walker probably hated the idea of retail because of what it would do to the cash flow of their business. Retailers often buy on payment terms, which means Dell would’ve needed a LOT more cash to have any hope of growing, or at bare minimum be ready to give up significant profits by finding a lender who would lend on retail contracts.
They would’ve also had to deal with unsold inventory getting returned, which could happen if the retailer forecasted incorrectly rather than Dell making a mistake.
Plus, customer data is valuable, especially in mail order.
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Interesting idea. Mark Ford covers it by revenue in Ready, Fire, Aim. A quick lookback shows that he breaks it up:
Constraints by Revenue
- $0-$1M = initial customer acquisition
- $1M-$10M = profitability
- $10M-$50M = systems and management
- $50M+ = raising up leaders that will consistently renew the business’ product lines
I’ve never run a business as large as he’s talking about, but it seems to pass the sniff test!
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Oh wow. I did not think about this aspect. I think this is really good, and probably more plausible than my explanation. Walker was already having trouble keeping Dell liquid; switching to a retail model would have removed whatever (small!) cash advantages they had with their mail-order model.
I’m not sure about the mail-order = data bit, that doesn’t seem to be as big of a deal to Dell’s eventual success as the production system + support promise that they layered over it, but I absolutely buy that the cash considerations must’ve gone into Walker’s rejection of the dealer model!
Good catch — I’m going to update the takeaways post and credit you 
Like @lancejohnson, I find this idea extremely generative. The Permanent Equity folk do have a checklist of possible reasons for an SME growth plateau (which I linked in the takeaways piece), but a maturity model is not something I’ve thought about. It might be worthwhile to keep an eye out for one!
Invisible Asymptotes is a classic description of the growth plateau thing, with several tech companies as case studies.
Regarding the retail thing, I think Dell is known to finance nerds as an example of the benefits of negative cash conversion cycle.[1] Someone who thinks about CCC in that way would really be resistant to retail selling.
[1] The other thing Dell is known for among finance nerds is that later on they excessively tryharded with fancy Capital stuff, and ended up outsourcing everything to Asus and getting wrecked
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Oh, wow, even though I follow Wei now, I hadn’t seen that article before. Thanks for sharing!
It reminds me of my experience with the invisible asymptote at Google, which was that Google’s revenue was correlated with internet adoption - the way to increase Google usage was to get more people on the Internet. When I became Chief of Staff for search ads in 2012, I realized that internet adoption was going to plateau in mature markets (US and western Europe) around 2016. That was our invisible asymptote unless we figured out a new growth strategy. Fortunately, smartphones came along to drive a whole new wave of growth correlated with smartphone adoption. Even more fortunately, that wave was still going when I left the role, so it wasn’t my job to figure out the wave after that
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I was just reading Larry Bossidy’s Execution (published in 2003 or so) and bumped into this passage:
Michael Dell understood that kind of execution. His direct-sales and build-to-order approach was not just a marketing tactic to bypass retailers; it was the core of his business strategy. Execution is the reason Dell passed Compag in market value years ago, despite Compaq’s vastly greater size and scope, and it’s the reason Dell passed Compag in 2001 as the world’s biggest maker of PCs. As of November 2001, Dell was shooting to double its market share, from approximately 20 to 40 percent.
Any company that sells direct has certain advantages: control over pricing, no retail markups, and a sales force dedicated to its own products. But that wasn’t Dell’s secret. After all, Gateway sells direct too, but lately it has fared no better than Dell’s other rivals. Dell’s insight was that building to order, executing superbly, and keeping a sharp eye on costs would give him an unbeatable advantage.
In conventional batch production manufacturing, a business sets its production volume based on the demand that is forecast for the coming months. If it has outsourced component manufacturing and just does the assembling, like a computer maker, it tells the component suppliers what volumes to expect and negotiates the prices. If sales fall short of projections, everybody gets stuck with unsold inventory. If sales are higher, they scramble inefficiently to meet demand.
Building to order, by contrast, means producing a unit after the customer’s order is transmitted to the factory. Component suppliers, who also build to order, get the information when Dell’s customers place their orders. They deliver the parts to Dell, which immediately places them into production, and shippers cart away the machines within hours after they’re boxed. The system squeezes time out of the entire cycle from order to delivery-Dell can deliver a computer within a week or less of the time an order is placed. This system minimizes inventories at both ends of the pipeline, incoming and outgoing. It also allows Dell customers to get the latest technological improvements more often than rivals’ customers.
Build-to-order improves inventory turnover, which increases asset velocity, one of the most underappreciated components of making money. Velocity is the ratio of sales dollars to net assets deployed in the business, which in the most common definition includes plant and equipment, inventories, and accounts receivable minus accounts pay-able. Higher velocity improves productivity and reduces working capital. It also improves cash flow, the life blood of any business, and can help improve margins as well as revenue and market share.
Inventory turns are especially important for makers of PCs, since inventories account for the largest portion of their net assets. When sales fall below forecast, companies with traditional batch manufacturing, like Compaq, are stuck with unsold inventory. What’s more, computer components such as microprocessors are particularly prone to obsolescence because performance advances so rapidly, often accompanied by falling prices. When these PC makers have to write off the excess or obsolete inventory, their profit margins can shrink to the vanishing point.
Dell turns its inventory over eighty times a year, compared with about ten to twenty times for its rivals, and its working capital is negative. As a re-sult, it generates an enormous amount of cash. In the fourth quarter of fiscal 2002, with revenues of $8.1 billion and an operating margin of 7.4 percent, Dell had cash flow of $1 billion from operations. Its return on invested capital for fiscal 2001 was 355 percent-an incredible rate for a company with its sales volume. Its high velocity also allows it to give customers the latest technological improvements ahead of other makers, and to take advantage of falling component costs-either to improve margins or to cut prices.
These are the reasons Dell’s strategy became deadly for its competitors once PC growth slowed. Dell capitalized on their misery and cut prices in a bid for market share, increasing the distance between it and the rest of the industry. Because of its high velocity, Dell could show high return on capital and positive cash flow, even with margins de-pressed. Its competition couldn’t.
The system works only because Dell executes meticulously at every stage. The electronic linkages among suppliers and manufacturing create a seamless extended enterprise. A manufacturing executive we know who worked at Dell for a time calls its system “the best manufacturing operation I’ve ever seen.”
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I love how the passage presents it as if Michael Dell knew all of this in advance, but thanks to his (and Lee Walker’s) biographies, we know its more accurate to say they literally stumbled into this competitive advantage … and then doubled down.
Effectuation … for the win? 
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What I think is so interesting here is that while Walker clearly stumbled backward into this advantage, once he was there he intuitively recognized the benefits in a way that he (and others) couldn’t clearly articulate or defend to others at the time. By the time “Execution” was written, it was a lot easier to communicate this in clear numeric terms and to see it as an obvious path.
Maybe this ties in with with what @joepairman quoted from Good Strategy / Bad Strategy about the “missing theory of strategy creation”
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