April/2002 Case Studies

The big bang theory By BJ Lee Big bangs cost big bucks, or US$150 million for South Korean steel manufacturer POSCO. Following a series of dramatic changes — at one time 1,000 staff were on the innovation team — POSCO now boasts a marketleading customer focus. Soon after POSCO chairman Yoo Sang-Boo took over the helm of the world’s largest steel producer in early 1998, he felt a looming crisis. An international consulting firm evaluated his company’s long-term competitiveness. As was expected, POSCO was assessed as world-class in manufacturing excellence and product leadership. But in customer intimacy, it scored only 2.4 points on a scale of one to five, below the minimum of three needed for global leadership. For a company that has South Korea’s remarkable economic development, it was a disappointing result. And it came at a crucial time: POSCO was about to be privatised. Privatisation would fail without customer support. With a sense of urgency, Yoo launched a comprehensive process innovation program in early 1999. After 30 months and 200 billion won (US$150.6 million), the new system went live last July with great fanfare. “POSCO will maintain global leadership through this win-win program for customer and supplier,” Yoo declared before launching the new system. Measurable Benefits Eight months after the big bang, POSCO has been transformed. Management’s focus has shifted from producer to customer. All processes now put customers first. Response time for delivery queries shra nk from more than two hours to just six seconds. Now, 95 per cent of orders are delivered on time, up from 83 per cent. It

now takes only 18 months to develop new products, compared with four years before. The system has worked so well that company executives unofficially call the process innovation (PI) “the POSCO Innovation”. And experts are noticing the progress. “POSCO was top global steel producer even before the PI,” says Steve Whang, a steel analyst with J.P. Morgan. “With the change, its global leadership will last at least five to 10 more years.” In 2001, POSCO’s operating profits fell about 30 per cent, but the company is bullish about its future performance, citing the long-term positive impact of the process innovation on its books. Lee In Bong, manager for POSCO’s process innovation department, says the company recouped 100 billion won (US$75.3 million), or half of the total investment in innovation, during the second half of 2001 because of the innovation program. This year, he expects the company will recoup another 300 billion won (US$225.9 million). PricewaterhouseCoopers, which helped POSCO initiate the change, estimates total cost cuts, revenue gains and new valuation at 4.7 trillion won (US$3.3 billion) during the next 10 years. Overcoming resistance But the benefits are not limited to POSCO. Its customers also gain as their average inventories have fallen from 30 to 24 days. POSCO’s suppliers enjoy higher profits as the new system got rid of unnecessary brokers by establishing a thorough ebusiness network that penetrates both inside and outside the company. The reason for the success of POSCO’s process innovation was that it was a big bang-style change rather than a gradual and incremental one. In the mid-1990s, POSCO implemented a number of ambitious innovation programs but they mostly failed because the programs were carried out without central coordination or planning. This was understandable. With annual steel production capacity of 28 million tons, the company had grown too big to accommodate drastic changes at once. And some were afraid of pursuing a company-wide innovation program because that

would invite massive resistance from both within and outside the organisation. Employees would revolt because of the possibilities of layoffs. Suppliers and customers would also resist, fearing inconveniences and uncertainties. Yet the biggest obstacle was complacency. When POSCO began the process innovation, the Korean economy was gradually recovering from the 1997 economic crisis. “The main complaint was [about] why we have to change when things are getting better,” Lee recalls. But POSCO’s management thought differently. With China’s emergence as a major competitor, the future looked uncertain. Up to the 1990s, POSCO grew rapidly because of a chronic domestic supply shortage, where auto, shipbuilding and other heavy industries constantly needed steel. “In a way, we were rationing our products to local buyers because of [an] imbalance between supply and demand,” Lee says. But all that was about to change as South Korea was opening its steel market by phasing out tariffs and other trade barriers. And some buyers were already complaining that POSCO, as a virtual monopoly, neglected customers by forcing them to follow their production system. Founded by a former army officer who was a confidant to former president Park Chung Hee, POSCO inherited some of the authoritarian aspects of the Korean military. Another incentive for the change was looming privatisation. As a state-owned organisation, POSCO had only one master to serve, the government. But new private shareholders demanded different standards from POSCO, ranging from higher profits to more transparent management. Executive Support As a result, chairman Yoo religiously preached the need for process innovation. “In nearly 300 regular board meetings during the past three years, Yoo mentioned the PI at least 270 times,” Lee says jokingly. “The other 30 times, he was out of town.” To ensure the program’s success, Yoo provided plenty of support. Firstly, more than 100 elite employees were selected from throughout the company to form the process innovation task force. Hundreds of other employees joined the team as part-time members, along with outside consultants and system integrators. At one point, 1,000 people were involved in the task force. Labour costs, in fact, accounted

for the bulk of the process innovation investment. Executives were also asked to help. They were given 36 tasks to facilitate the process innovation. For the system, POSCO also adopted advanced enterprise resource planning (ERP) packages and modules. For ERP, it acquired 40 modules from Oracle, 12 from Maximo and one from Artemis. POSCO also purchased one of the world’s most powerful supercomputers from Hewlett-Packard. The new system now handles 50,000 work orders daily, 500 times the average for South Korea’s manufacturing industry. With this, POSCO simplified and standardised its processes and data. Nearly 200,000 data items were cut to 43,000 and the number of procurement items was halved to 280,000. To make the innovation a comprehensive one, POSCO worked to change processes at its customers as well. “Without collaboration with suppliers and buyers, the new system cannot work,” Lee says. As a result, POSCO’s inventories have fallen from 1 million tons to 600,000 tons and will fall further to 500,000 tons. On-time deliveries are also forecast to rise from 95 per cent to 99 per cent. The most difficult task in pushing the program was overcoming resistance. Outside suppliers, for example, protested as POSCO implemented the e-commerce system that bypassed some distributors. Nevertheless, POSCO was able to carry out most changes with few headaches because it publicised its changes from day one. “Most companies try to persuade the victims of innovation programs towards the end of the programs,” Lee says. “But we talked about the upcoming changes from the start. Those who prepared had [a] soft-landing and those who didn’t, [a] hardlanding.” Fortunately, POSCO did not have to lay off many employees because it pursued the change when times were good. Instead, the company relocated its employees to different departments. “POSCO didn’t have to lay off many people because it was an already efficient organisation,”

J.P.

Morgan’s

Whang

says.

“The

innovation

was

more

an

improvement and further streamlining rather than cleaning house or major remodelling.” But he adds that the program will not improve POSCO’s earnings dramatically because the bulk of the company’s production costs comes from raw materials: “The significant [change] is in management perspective rather than in earnings perspective.” Lee Namuh, head of research at Samsung Securities, says POSCO needs continuous innovations because the steel industry is a declining industry. “POSCO’s long-term growth rate isn’t that high,” Lee says. “It had to change itself continuously to survive in the competitive steel industry.” For that reason, POSCO will continue the process innovation. This year, it is implementing the three-year second stage of the process innovation, which aims at polishing the initial innovation. “With the first stage PI, we have established the big framework,” Lee says. “We now have to complete that with such initiatives as Six Sigma

[a

quality

management

technique]

and

CRM

[customer

relationship

management].” To do this, Lee hopes to utilise the process innovation task force members, who are now back at their original departments. “They are like missionaries who will spread the ideas of PI to their colleagues,” he says. If chairman Yoo is an innovation leader, he now has fervent followers everywhere at POSCO.