Chapter 72 - The Heart of Doing Business: Memoirs of an Entrepreneur
Today’s Chapter is based on the book “The Heart of Doing Business: Memoirs of an Entrepreneur” by Masatoshi Ito, the founder of Ito-Yokado. Masatoshi Ito is known for acquiring Southland and making 7-Eleven a global brand under his leadership.
Here’s what I have learned:
Customer is King
"There is only one boss. The customer. And he can fire everybody in the company from the chairman on down, simply by spending his money somewhere else.”
— Sam Walton
As we have previously learned from other entrepreneurs working in the retail industry, it is primordial for one to focus on the customers’ need in order to succeed. This philosophy is also embodied in Masatoshi Ito’s business ethos. Ito, who is well-known for building 7-Eleven into a global brand explains that “customers don’t have to come to us.” As such, it is the company’s duty to build sufficient trust to bring customers in.
As a matter of fact, Masatoshi Ito mention that “the simple most important asset a business can have is trustworthiness”, which can only be built through integrity and earnestness. Trust takes time to build and it consists of doing the absolute fundamental of business over and over again. Ito mentions that doing the obvious over and over again is not as east as it sounds, but the efforts of doing so are extremely rewarding as it make sure that your company will earn customers and by consequence, long-term business.
“No customers, no business.”
— Masatoshi Ito
Furthermore, this customer-centric approach to business is also reflected in the way Ito ran Ito-Yokado. Ito believes that "it is not the president who satisfies and wins the trust of each individual customer, but each individual staff member." As such, the organizational structure in the company is purposely designed to keep the customer at the forefront. Ito inverted the corporate hierarchy to place the stores and sales staff who deal directly with customers at the top, with the president situated at the bottom.
In fact, Ito believes that even shareholders’ interest shall not be put before the interest of the customers. As Ito once said, "even after going public, my order of priority remained the customer, the staff, and then a distant third, the stockholder." This can be explained by the fact that in Ito’s opinion, profitability should not be the primary objective of the company, but rather the natural byproduct of a business that consistently puts the needs and expectations of its customers first. As we mentioned previously, without customers, there are no business and therefore no profits.
"It is only with customers that a business becomes viable. First, they have to become your customer, next you have to win their satisfaction, and finally they must become part of your regular clientele. Increasing the number of your regular customers is a business fundamental. A business without customers is totally inconceivable."
— Masatoshi Ito
Ito’s customer-centric approach to business is greatly inspired by Sam Walton, the founder of Wal-Mart, who understood that the customer was the most important part of retail. As we have previously learned from Sam Walton, the concept of passing the benefits of Walmart’s cost-saving measures to the customers was just of many ways to improve customer satisfaction. Walton was consistently looking for new ways to improve customers’ shopping experience, through new product offerings, store layouts or customer services. The two most important words that were on the first Walmart sign was “Satisfaction Guaranteed.”
Walton also understood that to provide better customer services, Walmart had to hire and to motivate great employees. To do so, he gave his storefront employees a great deal of autonomy, empowering them to make decisions that would benefit customers without having to through layers of bureaucracy. More importantly, Walton always treated his associates as partners in the business and encouraged them to hold a stake in the company. As we will see, Masatoshi Ito was also a follower of Walton’s philosophy.
Power of Employees
“Four Seasons is the sum of its people—many, many good people.”
— Isadore Sharp
Masatoshi Ito understood that a retailer’s people should be one of their most valuable asset and that it should be reflected in the way they are treated. As a matter of fact, considering they are the ones at the frontline of the company meeting with the customers, they are the ones that know all about the customers’ likes and dislikes.
As such, in order to keep highly competent employees motivated, Masatoshi Ito understood the importance of setting a great incentive structure, notably by giving shares to his employees. As Ito once said, "one of the reasons for creating a joint-stock company was undeniably to give shares to the staff who had shared our struggle from the start."
"We were always short of staff, so we had to improve staff compensation packages in order to attract good people, and they had to be fair, rational, and long lasting."
— Masatoshi Ito
As we have mentioned earlier, Masatoshi Ito used an inverted pyramid as Ito-Yokado’s organizational structure, with “the stores and the sales staff who dealt directly with the customers being placed at the top and the president right at the bottom." This is eerily similar to Bernie Marcus’ inverted management structure at The Home Depot. As we have previously learned, Bernie Marcus and Arthur Blank considered themselves at the complete bottom of the Home Depot’s organizational chart. In fact, they believed that the main office is only there to provide support to the stores and its sales associates who are the key to the success of the Home Depot.
As Bernie Marcus once said, “The sign at the front entrance of our main offices in Atlanta says "Store Support Center." Not "World Headquarters." It is not a corporate ivory tower. It is truly the store support center. We want everybody in this building to know that we are here to support the stores.”
“But what makes us so different from anyone else in our industry is that we take the inverted management structure so seriously. Hourly associates really do lead The Home Depot; every day, their decision making and independence makes our stores better, and that reinforces customer loyalty.”
— Bernie Marcus & Arthur Blank
Furthermore, similarly to customers, Masatoshi Ito understood that Ito-Yokado had to have the complete trust of their employees and vice-versa. As reflected in Ito-Yokado’s corporate creed, “we want to be a company worth of the trust of our employees.” Inversely, Ito-Yokado, from the beginning used to hire part-time labor force and were authorized and treated the same as full-time staff. As a matter of fact, under Yokado’s HRM style, a part-time worker had the same authority as a full-time staff to order products and the responsibility for managing their floor section.
“Because retailing is all about people, staff quality is crucial. A retailer absolutely requires people who are considerate, attentive, cheerful, polite, ready to dig in, honest and serious. Even in an age in which computerization has become highly developed and we are inundated with information, it is people who make the judgments. The same information will mean different things to someone who knows the customers through and through and to someone who does not."
— Masatoshi Ito
Don’t Use Debt
"The second vice is lying, the first is running in debt.”
— Benjamin Franklin
While it is often common for big conglomerates to use debt to finance their global expansion, Masatoshi Ito, perhaps due to the early beginnings of Ito-Yokado, has always been against taking any loans. As he once said, "From its first days right up to the present, Yokado has never issued letters of credit for the purpose of buying in its stock, the only exception being shop construction costs. We maintained this practice even after our creditworthiness was established, partly because we wanted to remember the struggles of our early days and partly because that was just the way we did business."
As such, if the company was not willing to take any debt, Ito had to find another ingenious way to grow and open new stores while not taking any loans. As he once said, "I have always had an aversion to borrowing, and I have no magic talent for turning land into profits, either.“
One way of doing this was by leasing land. Here’s how Ito describes it:
"Land prices in Tokyo were high, and landowners were not keen to let go of sites they could expect to increase in value. So what Yokado came up with was a method of leasing land. First, the landowner would offer his land as collateral and build us a store with the funds he had borrowed from the bank. Next, Yokado would place a security with the landowner, sign a twenty-year contract, lease the store, and start business. The arrangement allowed for the landowner to pay off his loan and make a profit from the interest earned on the security and the rent on the property. It was calculated so that the landowner would finish paying off his debt when the contract ran out in twenty years' time, and Yokado would get its security back."
— Masatoshi Ito
Furthermore, Ito-Yokado avoided building stores at high-priced locations such as in front of railway stations. Instead, they preferred building stores in second-rate sites,like at the back of stations and in the suburbs.
Ito’s conservatism certainly affected the way he treated Ito-Yokado’s shareholders. While other companies may think of raised capital as “free” money, Ito believed it should still be considered debt. As he once said, "The capital we raise is precious 'principal' that we have borrowed from people, principal that we had to invest to make profits and increase its worth. It is an illusion to consider the capital raised by issuing shares as cheap."
While Ito understood that the most important data to be used to evaluate a company’s performance to shareholders is the return on equity (ROE), Ito believed that high ROE should not be prioritized over the company’s healthy balance sheet. He once explained that "I am well aware of the criticism that Yokado's return on equity is low because it is sitting on too much capital. If you believe that the economy is in for an uneventful time of peace, then debt-to-equity in the order of fifty percent is probably excessively conservative. But there is no assurance that the unpredictable will not happen. I find it only natural to think about how my company can survive on its own in a time when perhaps no one will come to our aid."
This reminds me of how Warren Buffett is currently sitting with around $188B (at time of writing) in cash at Berkshire Hathaway for various reasons:
Limited attractive investment opportunities: Buffett is patiently waiting for the right investment opportunities before deploying his capital.
Preparation for economic troubles: In case of potential economic troubles, Berkshire Hathaway will have enough munition to deploy into advantageous opportunities caused by the sudden downturn.
Commitment to never inflict permanent financial damage: Buffett's extreme fiscal conservatism is a pledge to shareholders to never put Berkshire at risk of permanent financial harm, even if the cash seems excessive.
Constant Adaptation and Innovation
“Innovate or die, and there’s no innovation if you operate out of fear of the new or untested.”
— Robert Iger
Masatoshi Ito recognized that in the ever-evolving world of business, the ability to adapt and innovate is paramount to sustained success. He observed that "even in business, innovation is born on the fringes" - a principle exemplified by Sam Walton at Walmart who greatly inspired Masatoshi Ito. As Ito once said, "The law that innovation comes from the fringes has been proved in the United States as well. Wal-Mart, the largest retailer in the United States and the world, was founded in the poorest state in the Union, Arkansas."
As a matter of fact, after visiting the United States, Ito gave up on the idea of building a huge department store because he understood that the “future did not lie in department stores, but in supermarkets.” Ito explains that "The center of business had moved from downtown department stores to suburban supermarkets and shopping centers, and it was normal practice for these huge suburban stores to build adjacent to them parking lots five times the size of their floor space. I did not consider America as a world apart, forever out of reach. I came home with the vague but clear conviction that barring differences in land mass, ethnic diversity, language, and religion, Japan would definitely catch up with the U.S. one day. If that was the case, then we were not heading into the age of the department store but of the self-service chain store.”
This concept reminds me of how Charlie Munger described the way Sam Walton destroyed larger department stores like Sears by playing the chain stores game harder than anyone else with fanaticism and scale:
“It’s quite interesting to think about Wal-Mart starting from a single store in Bentonville, Arkansas against Sears, Roebuck with its name, reputation and all of its billions. How does a guy in Bentonville, Arkansas with no money blow right by Sears, Roebuck? And he does it in his own lifetime—in fact, during his own late lifetime because he was already pretty old by the time he started out with one little store…
He played the chain store game harder and better than anyone else. Walton invented practically nothing. But he copied everything anybody else ever did that was smart—and he did it with more fanaticism and better employee manipulation. So he just blew right by them all.
He also had a very interesting competitive strategy in the early days. He was like a prizefighter who wanted a great record so he could be in the finals and make a big TV hit. So what did he do? He went out and fought 42 palookas. Right? And the result was knockout, knockout, knockout—42 times.
Walton, being as shrewd as he was, basically broke other small town merchants in the early days. With his more efficient system, he might not have been able to tackle some titan head-on at the time. But with his better system, he could destroy those small town merchants. And he went around doing it time after time after time. Then, as he got bigger, he started destroying the big boys.
Well, that was a very, very shrewd strategy.”
— Charlie Munger
Masatoshi Ito understood, like Sam Walton, that in retailing, “respond to customer and market change is the retailer’s lot in life.” Ito mentions that Ito-Yokado had to naturally and consistently change depending on their customers’ needs. This is how Ito-Yokado “started out as a supermarket, went into the convenience store and family restaurant business and has now ended up in finance, having its own bank in the corporate group.”
Beyond the Book
Read "The Power of Incentives: The Hidden Forces That Shape Behavior" by Farnam Street
Watch "Buffett on Berkshire's $188 billion cash pile: 'We only swing at pitches we like'" on YouTube