The Firm: The Story of McKinsey and Its Secret Influence on American Business

by Duff McDonald

  Organization Man

  In the 1950s, the Company Man was ascendant. William Whyte’s 1956 book, The Organization Man, gave him a second name, but both figures marched to the steady beat of corporate conformity. Young men happily traded their individuality in exchange for a steady paycheck, an obsequious secretary, and a degree of career stability not seen since before the Great Depression. “They are wry about it, to be sure; they talk of the ‘treadmill,’ the rat race, of the inability to control one’s direction,” Whyte wrote. “But they have no great sense of plight; between themselves and organization they believe they see an ultimate harmony.”11 Such willful compliance was a manager’s dream. “The training makes our men interchangeable,” one IBM executive told Whyte.12

  While novelists and Hollywood saw menace in the conformity of office workers, the truth was that the nation’s suspicions toward large organizations had softened considerably in the aftermath of the war. As Rakesh Khurana pointed out in From Higher Aims to Hired Hands, those millions of Americans who had served in the military or worked in wartime production had firsthand experience with the positive benefits of large-scale bureaucracy in action. They saw little reason to reflexively question authority, especially when loyalty and subservience were repaid in the form of stable careers and ever-rising prospects.13

  A small number of McKinsey consultants did manage to stand out from the rest. In 1951 Arch Patton became the first consultant since the founder himself to pioneer an entire field. General Motors had hired Patton to do a study of executive compensation, and he did so by surveying thirty-seven major companies. The results, published in Fortune and the Harvard Business Review, showed something remarkable: Worker wages had risen faster than management wages. Management took special note of this development, and demand for Patton’s imprimatur on executive pay packages went through the roof. Juan Trippe, then CEO of Pan American World Airways, engaged Patton to work on a study of stock options for his management team. Once started, this demand to increase and “justify” executive compensation became a perpetual motion machine. Patton wrote more than sixty articles on the subject over the years.

  Though it enriched the firm, Patton’s renown stuck in Bower’s craw. Patton himself once overheard Bower tell an associate that the executive comp work was not true problem-solving in the spirit of McKinsey’s practice but merely a specialty. Patton nearly quit at the time, but he was convinced to let the comment pass. And no wonder his partners wanted him to stay: For several years, Patton personally accounted for almost 10 percent of the firm’s billings. But Bower’s distaste for Patton’s executive compensation work, as well as for headhunting in general, meant that McKinsey passed on the opportunity to provide executives with advice on the fundamental issue of succession planning. “If you want to know the one major weakness of McKinsey, I would say that is it,” said a retired partner of the firm. “It has everything else, but not that. Everyone was comfortable with the decision to not be in the headhunting business, but that didn’t mean we couldn’t provide assistance to what constitutes anywhere from a third to a half of a chief executive’s job, which is to think of how to structure people coming through your organization in such a way that it maintains your talent capability. Because of that ‘Marvin versus Arch’ situation, that weakness got built into McKinsey and it’s never been cleared up. It’s our big missed opportunity.”

  Still, Patton’s example inspired McKinsey colleagues to branch out into new areas. In 1958 Dick Neuschel—who had joined the firm in 1945 and was later named to Bower’s three-man Executive Group—successfully proposed a push to serve insurance companies; the practice has been one of the firm’s most successful over the past fifty years.

  Bower insisted that no individual could ever be allowed to eclipse the firm, but in a few isolated cases he had no choice but to let a star shine brighter than the rest. Just as Tom Peters would be years later, Patton was awfully good for McKinsey in the 1950s. His legacy to American business in general, however, is controversial. Patton’s research was, without question, one impetus for skyrocketing executive pay. Asked in the 1980s how he felt about the effect of his work, his reply was simple: “Guilty.”14

  All that came later. In the 1950s, there was little popular outrage about managerial pay. The American public was optimistic about the future, and nowhere more so than inside McKinsey. Between 1939 and 1956, just a single partner left the firm for a reason other than retirement. In the patriotic fervor of the era, some went so far as to conflate managerialism with democracy, giving McKinsey and its peers a perfect sales pitch. They weren’t just helping companies boost profits; they were helping the causes of democracy and freedom. McKinsey’s own privately published history credits the firm with “helping capitalism work better at a time when its credibility was still in doubt around the world.”15

  Feeding at the Government Trough

  Chicago may have been its heritage and New York its power base, but in the 1950s Washington was McKinsey’s milieu. U.S. military spending was a boon to the consulting industry, jumping 24-fold from 1939 to 1945, from $2.5 billion to $62 billion. That was followed by the emergence of big government in the aftermath of the war. McKinsey could smell money as well as any of its competitors, and it opened an actual office in the nation’s capital in May 1951.

  Less than a year after McKinsey set up shop, newly elected president Dwight Eisenhower hired the firm to advise him on political appointees for the executive branch as well as a reorganization of the White House. One of the major outcomes was the creation of the position of the White House chief of staff. This signaled the start of a near decade of highly profitable, highly influential government work for McKinsey.

  McKinsey had, for a time, been earnestly involved in basic headhunting. A 1940 brochure made J. Edgar Hoover–like claims: “We are prepared to assist our clients in locating candidates for executive positions. To that end, we maintain confidential files of the names of men who are doing outstanding work in various fields.”16 But by this time, the company was backing away from the recruiting business—because, in Bower’s view, it was another activity unbecoming of a true professional. Caught in a quandary, McKinsey came up with handy new jargon—it redefined its charge and promised to answer the question: If you really wanted to be in charge, what were the key jobs? “Once this question was asked,” wrote attorneys Daniel Guttman and Barry Willner in their groundbreaking book The Shadow Government, McKinsey offered to help, as a courtesy, find men to fill the jobs.17

  The executive branch appointment work was headhunting, but it was headhunting informed by a larger strategy. Harold Talbert, a prominent Republican, had told Eisenhower that he would front the money to hire McKinsey to develop a strategy for taking over the government. How many positions did the president need to fill with his own loyalists in order to have the “will of the people” done?

  McKinsey’s final report to Eisenhower calculated that full control of the two-million-people-strong federal government could be achieved by appointing a mere 610 positions.18 “This is very valuable,” Eisenhower told Bower after reading the report. “We’ll use it like a bible.”19 The reward for this crucial work was not small: The firm worked for twenty-five to thirty federal agencies in the 1950s, getting a giant share “of the prestigious contracts awarded by an Administration that it helped create.”20

  One of McKinsey’s key roles was consulting on national security issues. In 1953 the firm worked for Nelson Rockefeller in reorganizing the Department of Defense and in 1955 it helped the Atomic Energy Commission identify potential commercial applications of nuclear power. When former AEC commissioner Keith Glennan became the first administrator of NASA in 1958, he hired McKinsey to organize the new agency. That first study led to eight other engagements with NASA for a total of $232,000 in fees—and a staff position in NASA for a former McKinsey consultant.21

  With deals like this, argued historian Christopher McKenna, McKinsey helped bring about the radical transformation of the
United States into a “contractor state.” In a study of NASA’s contracting policies, McKinsey pushed for “as extensive a role as possible” for private industry, concluding that NASA should “contract for the bulk of research and development services needed.”22 The report quoted McKinsey client Ralph Cordiner of General Electric in support of the idea. And why wouldn’t he be? Firms like GE were the first in line for government contracts.

  As government agencies turned to outside contractors, they also relied on consultants to help in the contractor-selection process, thereby putting McKinsey in a position to recommend its own clients for government work. Instead of being called in on special occasions, consultants thus became “central to the everyday administration of the contract state,” wrote McKenna.23 North American Aviation, a major McKinsey client, snagged more than a third of the $24 billion spent on NASA’s Apollo program.24

  Naturally, those same clients had a powerful incentive for retaining McKinsey’s services. It was a perfect positive feedback loop: McKinsey’s work for the government allowed it to bring in other clients who in turn hired McKinsey to help in their work for the government. Decades later, government watchdogs would no doubt have been all over this kind of mutual backscratching, but at the time nobody was complaining.

  Just over a decade into his tenure as managing director of McKinsey, Bower had fully arrived: The man once rejected for a job by a Cleveland law firm was now advising presidents. Bower’s memoirs include a photo of a luncheon card with John F. Kennedy from October 8, 1963. The menu: Quiche Lorraine, Chicken Breast Marengo, and Pears Belle Helène.

  A “Trivial but Well-Publicized” Controversy

  In the 1950s and 1960s, McKinsey’s government work had gone smoothly. The firm’s D.C. envoy, John Corson, had burrowed his way deep into the Washington establishment, popping up on practically every committee of note: the Davis Commission (which studied the organization of the army), the Kestenbaum Commission (federal grants-in-aid), the Gaither Commission (the Russian nuclear threat), and others focused on higher education, public health, and air traffic.25

  But a bruising encounter with hard-nosed municipal politics in New York caused the firm to reconsider the value of public clients. Carter Bales, an up-and-coming McKinsey consultant, was doing some burrowing of his own, and in 1968 he secured an unpaid position in the New York City government as head of the Division of Program Budget Systems in the city’s Budget Bureau. This arrangement was something entirely new. While Corson merely served on commissions, Bales had managed to become a de facto government employee while still working at McKinsey. “McKinsey was . . . in title and in fact, both a public and private organization,” wrote Guttman and Willner in The Shadow Government.26

  Bales—and McKinsey—later participated in the creation of a public benefit corporation designed to take over management of the city’s municipal hospitals. Bales signed, on behalf of McKinsey, a letter of intent to provide $325,000 worth of “management assistance” to the corporation. Who was one of the people on the other side of the (figurative) table? Carter Bales, in his role as assistant budget director. The city also gave McKinsey a $300,000 contract for help in its Model Cities program, as well as a handful of other contracts that fell under the purview of the Budget Bureau.

  When political opponents of Mayor John Lindsay came across Bales’s complicated dual role, they caused a ruckus. Through the summer of 1970, the New York Times raked the Lindsay administration and the consulting firm over the coals. Controller Abe Beame initially withheld $1.5 million in McKinsey fees. The first issue, according to Beame, wasn’t that Bales was working both sides of the fence; it was that, in several instances, McKinsey was working without a contract—and therefore illegally. In which case, said the controller, the city had no obligation to pay. Bales and his McKinsey colleagues were flabbergasted: The contracts for New York City had nearly always lagged behind the work; McKinsey thought it was doing the city a favor by starting work without them. The firm was eventually paid.

  The second issue was whether there had been anything unethical going on. An indignant Bales represented himself at the hearings. Both managing director Lee Walton and New York office head Ron Daniel stood behind Bales, though Marvin Bower, conspicuously, did not. Bower thought Bales had besmirched the firm’s reputation and he implored Walton to fire Bales, to no avail.

  Both the city’s Board of Ethics and the Association of Consulting Management Engineers deemed McKinsey’s role to have been above-board, but the experience focused the firm on the power of perception, and on the idea that doing business with the public sector lacked the safety and privacy of the executive suites in which it was more accustomed to operate.

  McKinsey’s internal history dismissed the controversy as “trivial but well-publicized,” though it certainly did not feel trivial at the time. Walton told a reporter that he’d “suffered and bled with this damn thing,” and Bower called it “excruciatingly painful.”27 In the fallout from the imbroglio, the firm found its “urban practice” overstaffed, and New York office manager Ron Daniel was forced to let go forty consultants.

  Despite predictions by industry insiders that he was “finished” at McKinsey, Bales emerged largely unscathed from the controversy. For many years in the 1980s, he was the firm’s largest biller. A bull of a man bursting with self-confidence, Bales headed several hundred engagements for the likes of Merrill Lynch, Chase Manhattan, and CBS over a thirty-three-year career with the firm. He was a fierce, unapologetic proponent of McKinsey’s methods, including its long, involved relationships with clients. “Difficult problems don’t yield to an ‘aha!’ moment,” he said. “Instead, there is the sandpaper, sandpaper, sandpaper theory of progress. Take the performance management system at Merrill Lynch. Their retail brokers were, in effect, subsidizing their wholesale business. We helped them come up with a new way of evaluating and rewarding performance, but it took us eighteen months of hard work.”28

  Bales was also a risk taker. He tried—a little too early for client tastes, it proved—to start an environmental practice at McKinsey, and he ran unsuccessfully for Congress in 1972. Years after the New York City controversy, Bower stood up at a partners conference and decreed Bales to be the most successful consultant in the firm. As one colleague observed, “Marvin acted off a very strong set of principles and had strong opinions. But when his opinion changed, it changed.”

  McKinsey eventually moved away from government work almost entirely, ceding federal turf to competitor Booz Allen Hamilton and doing only sporadic work for local administrations. McKinsey veterans claim that this was in response to the ever-growing bureaucratization of the federal consulting process. Over time, the procurement function was separated from the users of consulting services, meaning that the building of relationships with its ultimate customer—McKinsey’s forte—no longer helped in terms of new assignments. Well, there was that, and the more pecuniary fact that margins were coming down. McKinsey was accustomed to charging high fees, and if government wasn’t going to pay them, there were plenty in the private sector who would. Or, in McKinsey-speak, as Bower himself later wrote, “Congress, the press, and the public at large have a negative attitude toward a sensible [emphasis added] level of fees.”29 By the end of the 1960s—before the Bales imbroglio—government work accounted for just 5 percent of billings. Nonprofit assignments added up to just 1 percent.30 For the next forty years or so, McKinsey was content to make its contributions to the world almost entirely through the corporate sector.

  London Ho!

  As McKinsey established its Washington presence, Marvin Bower began to look beyond national borders. In 1953 he and his wife, Helen, traveled abroad for the first time in their lives—to France and Portugal—and when he returned, he raised the question of establishing a European beachhead in a memo to his partners.31

  At the time, McKinsey’s ambitions were still confined to the United States, where its clients came from all across the corporate spectrum. Between 1959 and
1961, the firm worked for clients in twenty industries, with only one—petroleum—accounting for more than 10 percent of billings. Strategic planning was its largest practice area, accounting for nearly one-fifth of revenue, and the firm was still quite small. “When I joined in 1960, the place was only a hundred consultants strong,” said Jon Katzenbach. “I remember the first firm conference I went to at a country club in Sleepy Hollow, New York. We had to room together. The youngest associate and the oldest director shared a room.”32

  By the end of the 1950s, though, McKinsey was ready to expand. It so dominated the domestic market that growth opportunities were dwindling, and some of its clients had already opened offices overseas. Even though the decentralization movement in the United States was still going strong, Europe was virgin territory for deploying the idea. The war had battered most European multinationals, lending their healthy American counterparts a spectacular advantage: There were 93 subsidiaries of American manufacturing firms in Britain in 1948. By 1971 there were 544.33

  Broader technological developments also played a part in the firm’s global expansion. In the 1950s jet travel became cost-effective for corporate executives, and the first transatlantic phone cable began operating in 1956. Europe suddenly wasn’t so far away. Booz Allen Hamilton and Arthur D. Little both opened offices in Zurich in 1957. In December of that year, BusinessWeek even criticized McKinsey for thinking it could merely send Americans abroad instead of establishing a presence on the ground. It wouldn’t be long until that changed.

  In 1955 McKinsey hired Charles Lee, an expert on business in Europe, to work with partner Gil Clee in formulating expansion plans. Clee, who briefly followed Bower as managing director before succumbing to lung cancer, was one of Bower’s right-hand men at the firm, and his expertise in finance served as a complement to Bower’s obsession with values. Clee and Lee spent the next few years making the case for an expanded overseas experience, but it was slow going. By 1956 McKinsey could count only the overseas operations of Heinz, IBM, and ITT as clients. Its work for IBM World Trade in Paris was credited with helping the computer firm make significant European inroads. But the consultants had made scant progress beyond that.