Saving struggling legacy companies with self-governed value networks

Good businesses die slowly.

The first steps on the road to non-existence are often so subtle that you have to pay close attention to notice you’ve taken a wrong path. But the signs are always there.

Your alarms as the shareholder or the leader should be going off, when at least one of the following statements holds true.

3 + 1 signs that your business is getting screwed

1. You invest in various productivity tools but don’t see any gains; despite the team’s best effort things aren’t improving - if not deteriorating.
2. You are scaling and growing your footprint but seeing no benefits in terms of profit - only the rising complexity of your operations.
3. As the owner, you have to constantly get involved in operations just to keep things running; this leaves no time for assessing new risks and opportunities, which, as you well know, you should be doing instead.

Sometimes you get “lucky” (4). Meaning: your market gets disrupted.

A new group of young punks who might not even have been born when you started your company are now challenging the entire existence of your business by introducing new technologies and models. Spotting the signs ceases to become a problem. The problem is how to fight back.

As a shareholder, you might be asking yourself:

Has it always felt so shitty to own a business?

Yes, to some extent.

No, not to the extent we’re seeing now.

Globalization, digitalization, social media, mobile, AI - all this creates an unwelcoming world of a fierce, never-ending competition with no borders and almost infinite number of actors clamoring for a diminishing slice of the pie. And this world is constantly changing at a pace that hasn’t been seen before.

You know your business must be changing fast as well. But the old top-down management doesn’t work in this setting. Before you get the chance to plan and implement your changes and even more so to see some results from them, a new wave rolls in to make everything you’ve accomplished obsolete, and you have to start over.

Markets are fast. Companies are still painfully slow.

You might guess that I am here to offer a solution. And I sure do.

The (very much faulty) value creation chain

In a nutshell, every business is simple: you have input (resources), production (transformation of resources into something new) and output (sales).

📦 Input → 🛠️ Transformation → 🎁 Output

You are squeezed by the market from both sides. The market defines the cost and nature of available resources, as well as the perceived value and (consequently) the price of the product you sell.

In a small and even mid-size business, market signals are easy to detect and incentives to react to them are strong. But in enterprise

1. you manage many more inputs
2. the transformation is long and complicated
3. the market signals are hard to detect
4. incentives to react to changes are weak.

📦 Input → …very long and complicated transformation process, handled by hundreds of managers through a set of top-down directives, company regulations and informal rules influenced by internal politics and personal agendas… → 🎁 Output

So what might be the solution?

Tearing your org apart (at least on paper)

Basic logic suggests that we should break down this long process into smaller pieces.

Ideally, you’d want to chop up the entire production process into smaller chunks — and essentially smaller companies. So each company will be buying the result of the previous production step and the entire process will look something like this:

Input → Transformation → [Output / Input] → Transformation → [Output / Input] → Transformation → Output

In a free market where many smaller companies are involved in the value creation process, the market signals are passed down the chain very fast. Due to the pressure of competition and a much more manageable size of each link in the chain, the motivation to react to changes will be high and the means to do so will be available.

Unfortunately, breaking down an enterprise into smaller companies is rarely feasible due to various external factors. Besides, you’ll lose the economy of scale and many more advantages of a large organization.

The question is: can we at least imitate this setup artificially while keeping the enterprise as a whole?

Yes, we can. We can start by splitting one big transformation process into separate modules, set up “virtual” P&Ls for each module in question and even establish quasi transactional relationships between every link in our value creation process.

It will still be far from a free market, since there will be no competition, at least initially. Each module will have only one “buyer,” just as it had before. Still, evidence suggests that even this “simple” transformation can yield significant gains in productivity and adaptability.

Case study #1. How separate P&Ls fixed what Kaizen and Lean couldn’t

The client: a big manufacturer.

↳ Industrial production.
↳ Over 2,000 employees.
↳ Strong legacy, capable management, modern management practices…

They had already implemented almost every concept or framework known to man to improve efficiency of their production facility, including kaizen. Productivity increased to some degree, but the gains were far from what they had expected.

Most of the pain points revolved around deadlines and deliveries. Sales complained production couldn’t deliver on time. Production complained orders weren’t being placed on time. Planning was in the middle and was blamed from both sides.

What we did:

↳ split them into separate modules with their own virtual P&Ls
↳ set up client-service relationships between sales, planning and production and formalized the “product” every unit was “selling” and “buying”
↳ defined compensations for defects in each “product”

After the first trial, sales demanded compensation of hundreds of thousands from production for late delivery. Production in turn asked for about the same amount of compensation for late order placement. On balance, they ended up where they started. But now they could clearly see the root of their problems.

Planning and sales thought they were placing orders just on time. But this new setup unearthed that some of the products required more time in manufacturing than the others. And production even argued that everyone knew about it. In reality, a list of such products was non-existent.

Even though it included hundreds of SKUs.

At that point, the solution was obvious: sorting the entire portfolio into categories based on their average delivery time. After that the number of orders delivered on time increased by 17%, which raised utilization of the facility by 12%. A really big deal on that scale.

How a motivated module owner raises productivity

Here is a hard truth: in most orgs, there are only two actors who are really motivated to raise productivity. The shareholder - and the CEO (if you are lucky).

Many of them imagine that having OKRs, KPIs or annual bonuses makes their team equally motivated to increase productivity. It rarely does due to the complexity of the entire system. People aren’t evil or lazy. But the distance between your actions as an employee, even at the C-level, and the company’s overall performance is often so huge that you fail to see your impact on the end product.

When you break down your org into smaller modules and introduce separate P&Ls for them, you create a situation where the distance between manager’s actions and their results becomes sensible again. So you get a truly motivated manager as a result - a manager with agency over their module.

What can this motivated manager do to improve their P&L?

1. Optimize the transformation process they manage
2. Create more value for their “buyer.” The buyer will sell more in turn down the line and can pass on some of the gains to the seller thus increasing the revenue.
3. Work with the supplier to make them deliver more value for you, the way you need it and for the price you can afford.

All these processes will be revolving around the most important question every module owner will have to ask themselves:

What’s exactly the value I’m buying and selling?

Case study #2. What does “well-trained” exactly mean?

A client asked me to look into a problem.

They were building a network of MRI labs and experiencing various productivity issues.

↳ Doctors weren’t happy with the quality of the scans they were getting from their labs.
↳ The labs in turn weren’t super thrilled with the skills of MRI technologists provided to them by their training department.
↳ The training department was under the impression they were doing a terrific job.

I asked everyone involved how they defined the value they were delivering and receiving.

Training: “We produce well-trained technologists.”
Labs: “We buy technologists that won’t be making mistakes and we produce quality scans.”
Clinics: “We buy scans that are easy to process.”

Do you see the problem?

On the surface, these definitions seem the same. They aren’t. On every step of the process there is a mismatch between how the “seller” defines the value they create and how this value is seen by the “buyer.”

↳ The clinic measured the quality of the scan that reached them in how fast it could be processed - botched scans could take up to 3 times longer!
↳ But the lab didn’t care about quality as long as the scan was readable - only about how many scans a technologist would screw up totally so it would have to be redone (which is costly)
↳ Training department didn’t know anything about scan quality in the clinic or total screw-ups in the lab and was instead optimizing towards a vaguely defined standard of a “well-trained technologist”

This is a classic example of a mismatch in the value creation chain.

The power of a precise value definition

Imagine you go to a Michelin-star restaurant expecting to experience food as a form of art - and they would think that they just need to serve you enough calories for your money. And vice versa: you go to quickly grab a sandwich during lunch break at your local joint - and the owner would imagine you’re here for a culinary entertainment of a lifetime.

Such discrepancies are easy to spot with products and services sold on the market due to the pressure of competition - but extremely hard within one monolithic structure. So breaking up your org’s monolith into quasi-separate modules helps identify and fix such mismatches (as in example above).

The concept of value creation chain and the importance of coordination between the chain links was introduced by Michael Porter as far back as 1985. Since then, things have changed. Businesses are now run and managed on computers, and digitalization allows us to make a much better use of Porter’s powerful concept.

If you have a decent accounting in place, introducing a new layer with separate P&Ls on top of it doesn’t take more than two weeks. Then your entire value creation chain process becomes transparent. You can calculate expected ROI of any improvement in one module and see the gains along the entire chain. It’s pure magic.

It doesn’t end there. Actually, this is just the beginning.

You can (and I’d say you should) push this concept much further and transition from a value chain to a value network.

Case study #3. Manage rules instead of people

About ten years ago, I took on the role of CEO at a company providing same-day city-wide delivery service for businesses.

It employed its own drivers - plus outsourced deliveries to freelancers. The workload was split 50/50 between staff and free agents.

Our staff was on salary but at some point we introduced a system of bonus payments and penalties as a way to increase speed and quality of the service. But the couriers didn’t like it at all. So much that they went on strike and refused to work.

All of them.

Our options were:

- give in and roll back the changes
- offload their orders to freelancers

We chose the latter. With a bit of trepidation, since I expected the quality of our service would plummet. After all, we didn’t manage these people — they just signed up themselves via an app. And they were paid per order, without any fixed salary.

In reality, exactly the opposite happened.

In hindsight, I realize that we almost accidentally came up with a robust set of rules that gave them the right incentives - and clear feedback on their performance. Every courier made a deposit in the amount of the declared value of the parcel. When someone made a late delivery or lost a package, they paid a fine immediately - and it also impacted their ranking in the system. And the ranking impacted their ability to earn more on the platform - the higher it was, the more profitable orders you could get.

Rules were simple, just, and clear - and they worked like a charm.

The rate of delayed or problematic orders of our freelancers turned out to be just 1.6%. With our own employees - sourced, vetted and managed by our team - it had been 4%.

From that moment, the company didn’t have any employed couriers anymore.

This was the first moment in my career as a CEO when I saw the true power of a value network — and that managing the rules of a system is much more fun than managing people.

Value networks: one-to-one → many-to-many

In a traditional value chain, relationships between modules are based on the “one-to-one” principle.

But imagine a system where instead of a “one-to-one” relationship a module can engage in “one-to-many”, “many-to-one” or even “many-to-many” relations, which will unlock the second magic ingredient of the free market model — competition.

1. A module can find other buyers in the organization for the value they are creating.
2. A module can find suppliers outside of the organization - thus making internal suppliers compete for their money.
3. A module can sell what they do out in the open making their operations more efficient.

Wait a minute… Didn’t we say at the beginning that this would be impossible? Yes, for a traditional enterprise — not in a million years. But you — totally, since you have already transitioned to a module-based architecture.

You have clear definitions of the value your modules buy and sell. Most transactions now happen online. So you can now create interfaces that allow you to connect modules in various configurations, bring in outsiders as buyers or sellers and start managing the rules of the system instead of the people under your command(the way we did it with our couriers).

As a result, the whole organization, while still being a single entity, will be constantly recalibrating and adapting to the ever-changing situation without your direct involvement.

Yes, I know, it sounds far-fetched. Futuristic. Unreal.

Yet there are companies that have already successfully implemented this approach to its full extent (Haier and Kyocera among those in the spotlight). Many other have at least some elements in place.

I believe such companies will be dominating the markets in the future. The rise of AI makes it almost inevitable — by enabling smaller units to be much more efficient and powerful and by accelerating the pace of change in every market.

How do I know? I helped 20 companies transform

When I first encountered this new approach to corporate governance about a decade ago I was instantly fascinated by its beauty. The fact that an intricate ecosystem of independent agents could outperform traditional companies run by a hierarchy of managers truly captivated me.

Since then, I’ve helped over 20 companies increase efficiency by harnessing the power of value networks and by shifting from traditional models to such self-balancing platforms.

I won’t say it was easy. It still isn’t.

All this was very much new even ten years ago. Even now not that many managers and shareholders really understand how this works.

That’s why I’ve decided to build on my experience and develop a framework that would bridge the gap between theory and practice and would help companies set up a proper corporate architecture optimized for internal economies and modular self-governance.

I call it DOMA™ (Domanitskiy Modular Architecture).

Currently, I’m providing long-term support for 6 companies representing various industries and markets (half are enterprises with over 5,000 employees), all undergoing radical transformations of their core business models and transitioning into self-governing ecosystems.

If you feel intrigued or maybe fascinated by the concept, I encourage you to…

…if not join these companies right away then at least make one step forward, towards a future where your company can survive whatever comes next in your industry.

Your next step: a 3-day event to ask me tricky questions

Doubts? Concerns? Tons of questions?

It’s understandable. Let’s talk!

Join me and like-minded founders at a 3-day event where you’ll be able to explore the topic of value networks in general and DOMA™ in particular. Among other things, we’ll discuss key questions, such as:

• what are the key principles and real-life examples of modular self-governance?
• what challenges do companies face during their transformation to value networks?
• how can this approach be applied to your industry and your business?

This year, I’m planning two offline introductory workshops - one in the US and one in Europe. Join the waitlist for detailed info and updates.