It is interesting to see how two different companies led by extraordinary men with old-fashioned corporate values adapt to the issue of succession and changing market forces. By comparison, Harman International Industries formulated a strategy decidedly different from Munro Shoes.
When Jobs Leave
A supplement article to Munro Shoes—Made in America.
Harman-Kardon Inc. was founded by Sidney Harman and his partner, Bernard Kardon, in 1953. The duo developed the world’s first stereo receiver while working for the Bogen Company. When the company showed little interest in the innovative ideas of its bright employees, Harman and Kardon founded their own company. The rest is history. The company hit it big and continued to grow through the decades.
In 1980, the company was incorporated and became Harman International Industries. The business underwent major expansion when it began to offer specialized sound systems for high-end automobiles. Like Munro Shoes, Harman’s product was considered high quality. The market was ripe for tremendous growth and profits, and Harman was at the forefront. In 1987, the company was worth roughly $250 million. Fast-forward to 2007 when Harman International was valued at approximately $8 billion, employing more than 11,000 people.
Recently the company expanded into “infotainment,” a multimedia platform that includes the installation of navigation, telephone, Internet, and Sirius Satellite Radio systems in automobiles. Harman also set up audio equipment for big names and big events, such as Bruce Springsteen, Neil Diamond, the Grammy Awards, and the Presidential Inauguration.
Like Don Munro from Munro Shoes, Sidney Harman was wary of outsourcing his manufacturing operations and valued input from employees, or as he calls it, the “bottom-up” approach. In his 2004 book, Mind Your Own Business, Harman wrote: “Offshore manufacturing might have been seductive if there were not other considerations. For me the most important of those considerations is the reality that many creative product leaps occur on the factory floor, and a significant percentage of those come from the people in the direct labor force.” In the book, he also questioned the financial benefits of offshore manufacturing because technological advances had lowered direct labor costs to less than 5 percent of material, labor, and overhead in his company and were still going down. He asked, “How much of a genius does it take to recognize that when it falls below 1 percent, it does not matter whether the manufacturing is done in Indiana or in Indonesia?”
However, as Sidney Harman considered retirement, no heir apparent emerged to lead his empire. On April 26, 2007, at the age of 89, Harman announced a merger with Kohlberg Kravis Roberts & Co. L.P. (KKR) and the GS Capitol Partners unit of Goldman Sachs Group Inc. in a deal valued at $8 billion. The merger underway, KKR and Harman decided it best to hire a new CEO from outside the company. Dinesh C. Paliwal, a promising 49-yearold businessman who made a name for himself with the global technology and engineering company ABB Limited, was named CEO on July 1, 2007.
Things changed quickly after the shift in leadership. Ten weeks after Paliwal’s hire, KKR backed out of the merger. As a result, the company’s stock value tumbled.
While the company worked to overcome challenges, it became increasingly clear that Paliwal’s style of leadership was far different than that of Sidney Harman’s. Within months, the company announced plans to close factories, drop unprofitable product lines, and slash new-product introductions. According to a press release, the restructuring was “an essential step to ensure the long-term competitiveness of the business, and the company is committed to implementing a series of strategic initiatives to optimize its global footprint in manufacturing.”
To date, the company has cut 900 jobs and anticipates 1,100 more layoffs by July 2009. At the same time, Harman began to outsource its technology.
“We are strengthening our foothold in the emerging markets, shifting some of the manufacturing and engineering activities to our newly established operations in China, India, Hungary, and Mexico,” Paliwal noted in the December 2008 quarterly report.
But while shutting down U.S. facilities, Harman was simultaneously opening factories in China and India, as well as massive multimedia outlets in Dubai and New Delhi.
The Harman-Becker plant, a division of Harman Industries in Martinsville, Indiana, was one of the factories shut down. At one point, Harman-Becker was Martinsville’s largest employer. Engineer Rick Herold began working for the company in the late 1980s. He remembers the ingenuity that made Harman International a big name in the audio business. “We would design and install systems that were equalized specifically for the car’s interior,” Herold explained. “They were high-end sound systems for luxury cars. We made money, and they made more money when they sold it.”
In fact, growth was so explosive that demand outpaced production. Eventually, there was too much work in Martinsville, so they began to outsource some of the manufacturing duties. Harman acquired a factory in Juarez, Mexico, to focus specifically on Chrysler speakers, while another factory opened in Franklin, Kentucky, to tackle growing business from Toyota.
However, after outsourcing began, it didn’t stop.
Many businesses recognize the economic benefits of outsourcing to other countries. Labor costs are a major consideration.
When the company was opening its new plant near Shanghai, Herold was chosen to assist with the transition. He had serious concerns. “I wondered, ‘What are we doing? We’re going to build this factory, and then you’re going to put us out of business?’” His fears soon proved true. The Martinsville plant was completely shut down by January 2009. As is true of many small towns throughout the country, the factory closing crippled the local economy. After losing its largest employer, Martinsville has little to attract new business.
Herold is also concerned about the exportation of U.S. technology and ingenuity. After training the foreign employees, Herold realized that they “learned our latest, most advanced technology. What they didn’t learn is what drives the next generation of product development.”
Times are tough. Businesses are forced to make economic and unpopular decisions. However, the case of Harman illustrates a strategy that may be used more often in the future. When the plant near Shanghai opened, Mr. Paliwal said that the factory “is a key element of our strategy for growth, while leveraging the attractive infrastructure, talented work force, and new business opportunities in the Asian markets.” China’s labor and environmental laws are more relaxed, the labor is much cheaper, and the Asian market has indeed expanded, so Paliwal’s statement makes sense from a financial perspective.
However, Herold believes other factors should be considered.
“They figure out the cost of labor, the cost of a building, and other costs associated with running the business,” he explains. “Eventually, those costs are broken down into cost per piece. They should also factor in executive salaries. If we weren’t giving CEOs ‘superstar’ salaries, would we have had to go to China? All that money affects the bottom line, and like any other expense such as hourly wages and overhead, they should be figured in the cost containment/reduction formula.”
Despite the company’s plummeting stock value, Paliwal received more than $16.8 million in 2008 and in the future could earn up to $75 million based on stock performance. With this incentive, it is in Paliwal’s best interest to stay focused on the market value of Harman Industries.
In the meantime, Rick Herold has moved on and is working in a new field, but others who have been laid off face the challenge of finding a job, and that is not easy. Herold could have stayed with Harman but would have had to relocate, which did not make sense for his personal situation. He did get an offer from a company in Wisconsin, but it was not feasible for his wife to leave her business. “It was a good offer,” he admitted, “but if I’m going to be away from home, my wife needs her support system, and that’s not in Wisconsin. That’s here. If she’s not happy, I’m not going to be happy.”
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