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

by Duff McDonald

  Whereas McKinsey could relate to competitors like Bruce Henderson and Bill Bain, in the 1980s the firm came under siege from those it had long disdained: the accountants. But the Big Five accounting firms—Arthur Andersen, Deloitte & Touche, Ernst & Young, KPMG, and Price Waterhouse (later PricewaterhouseCoopers)—had sensed more quickly the profound changes afoot, and they had fielded legions of lower-priced consultants in the new realm of “systems consulting” to help their clients make moves in IT.

  Then the attacks went full frontal: Arthur Andersen launched Andersen Consulting (later renamed Accenture), Deloitte & Touche created Deloitte Consulting, and Ernst & Young and KPMG also had their own efforts. The newer business models were different—they needed fast growth and larger size to make up for their lower price structure—but all this extra competition was clouding McKinsey’s future.

  And that wasn’t all. More tech-focused competitors such as French computer and software company Cap Gemini, Computer Sciences Corporation, Electronic Data Systems, and IBM were also outmaneuvering McKinsey in bake-offs for information-technology consulting business that clients believed increasingly crucial to the survival of their companies.

  In an effort to downplay the competition, McKinsey spread the notion that Andersen was the army to McKinsey’s marines, but that didn’t take away from the fact that Andersen was fielding a much larger—and competitive—force of consultants. The new competition wasn’t just temporary, either. By 1998 Andersen Consulting reported $8.3 billion in revenues, PricewaterhouseCoopers $6 billion, and Ernst & Young $4 billion. McKinsey? A relatively minuscule $2.5 billion.

  Luckily, the firm had just the right man in the wings to confront the challenge: Fred Gluck. Just as his entry into McKinsey had been a rough one, however, Gluck’s first big attempt to tackle the IT challenge was a bit of a misfire as well.

  Fred’s Folly

  It wasn’t as if Daniel and Gluck hadn’t realized that technology strategy represented a paramount concern for clients. They saw it within their own business: McKinsey tested one of the first IBM personal computers in 1982 and, later on, beta-tested the fourth computer Compaq ever made. The firm test-drove one of the first releases of the spreadsheet Lotus 1-2-3—the son of VisiCalc and the father of Excel. But McKinsey was caught flat-footed by the whole new swath of competitors when it came to advising clients on the subject. And it did something uncharacteristic in response: It panicked, making the strategic blunder of acquiring Information Consulting Group, a technology-consulting venture, in 1990.

  Gresham Brebach, the former head of consulting at accounting powerhouse Arthur Andersen, had founded ICG in 1988, bankrolled by a loan from advertising giant Saatchi & Saatchi. ICG’s stated mission had been to provide information-technology consulting to its clients. Brebach found a better target, though: Fred Gluck. “Fred went skiing with Gresh and came back in love,” recalled one of McKinsey’s original technology experts. With the support of Carter Bales—who had found his way back into the good graces of the McKinsey leadership by taking a lead on all things technological—Gluck rammed the decision to buy ICG for a nominally small $10 million past a skeptical partnership.

  Deep down, McKinsey consultants were worried that clients didn’t view them as the answer to crucial technology questions. They were right, and that was the main reason Gluck and his executives pushed through the ICG deal. Given McKinsey’s long-held emphasis on organic growth, it was deeply out of character and required some extra explaining. The firm tried to rationalize it by calling it recruitment instead of an acquisition. “What this is is a massive recruiting effort,” Bill Matassoni told the New York Times when news of the impending transaction leaked out. “About a year and a half ago we felt we really needed to build capability in this area. ICG represents an unusual opportunity to accelerate this process.”11

  The transplant didn’t take. While embracing technical expertise made sense for McKinsey, its elitist generalists couldn’t help looking down on the plumbers of ICG. The merger brought in some major IT engagements, but the marriage was doomed from the start, with powerful McKinsey engagement managers refusing to staff their new geeky counterparts on major projects. Just over three years later, more than half of ICG’s partner-level consultants had left.12 Brebach himself left for Digital Equipment Corporation in 1993. “It wasn’t a particularly big acquisition,” recalled German office head Frank Mattern. “But it wasn’t done well. It was a failure.”13 ICG eventually evaporated entirely inside the hothouse of McKinsey.

  Even though the move proved a misfire, it was an understandable one, given the times. In the late 1980s, United Technology picked Ernst & Young over McKinsey for an IT project, and German home-appliance maker BSHG hired Arthur D. Little to help with office automation concepts. As part of a “Worldwide Competitor Review” of technology and systems consulting presented in Rome in September 1991, the consultants explored reasons they had lost consulting contracts for IT and concluded—not uncharacteristically—that those clients had made poor decisions. “Rightly or wrongly,” the review stated, “outsiders sometimes take the position that other service organizations can add value equal to ours.” The review also showcased a lingering denial about the technological changes afoot. “Frankly, [it’s] not that important an issue for the senior executives I serve,” an unnamed McKinsey consultant was quoted as saying.

  In the late 1990s the firm made another run at the technology-consulting action, but this time it was from the ground up, launching a Business Technology Office. The goal wasn’t to compete head-on with the accounting firms—McKinsey’s relatively low associate-to-partner ratios wouldn’t support such economics—but to advise the chief information officer on information-technology management, providing answers to questions like: How do you run your IT department? How do you prioritize projects? How do you keep IT costs down? “Because we’re not actual vendors of technology like most IT consultants, we’re sitting on the same side of the table as the CIO, not the opposite side,” said Mattern. “That’s an enormously powerful and valuable position to be in.”14

  This time it worked. And McKinsey succeeded in getting the upper hand once again. A McKinsey consultant didn’t do mere systems integration. He told you why you wanted one system or another. In this move, the firm was going back to its familiar put-down of the competition. When Hal Higdon wrote in 1969 that accounting firms were making incursions into consulting, he referenced the idea of their built-in advantage to the McKinseys of the world, what with their already doing auditing work for pretty much any client McKinsey might approach. “We don’t have to locate the bathroom,” he quoted one accountant as saying. The McKinsey retort: An accountant who knows where the bathroom is located may be unable to recognize that the bathroom should be located elsewhere.15 And there it was: McKinsey took the high ground of IT consulting away from the pretenders to its crown. By 2011 the BTO was the third-largest “office” in the entire firm, after the United States and Germany.

  Not for Less Than $1 Million

  By the end of the 1980s, McKinsey’s struggles at the end of the Marvin Bower era were long forgotten. The firm had moved into a higher gear, with revenues almost doubling, from $350 million in 1985 to $635 million in 1989. Over the next three years they nearly doubled again, hitting $1.2 billion in 1992. The Gluck-era focus on embracing one’s expertise was paying off in spades.

  Remarkably, McKinsey was at that point demanding—and receiving—a substantial price premium over even its closest competitors. A “Competitive Assessment Review” from June 1989 showed just how powerful the brand had become. In a proposal for a large financial institution, Booz Allen Hamilton had offered to do the work in four to four and a half months, for $125,000 a month plus expenses, or about $675,000. McKinsey required more time—five to six months—and $175,000 per month plus expenses, a total of $1 million to $1.21 million. Despite its nearly double price tag, McKinsey won the assignment.

  In 1982 McKinsey’s revenues per professional had been $180
,000; by 1988 they were $320,000; and by 1992 they were $387,000. Booz Allen Hamilton pulled in just $200,000. And even if Andersen Consulting was by that point larger than McKinsey, its own revenues per professional were less than a third of McKinsey’s.16 It had always been Marvin Bower’s contention that McKinsey had no competition. As the years went on, the more right he became: If your direct competitors can bill at only 60 percent of your level, are they really even competing with you? On the other hand, deep down, McKinsey viewed some firms as threats. “Monitor, though only founded in 1983, is becoming a formidable competitor for the firm,” read one internal report. Booz, on the other hand, “[does] not pose a great threat to McKinsey’s overall preeminence in management consulting.”

  Occasionally McKinsey consultants wondered whether they were pushing a little too far on the fee front. Some of their clients told them that they were. In a letter consultant Tom Steiner wrote to his colleagues in the New York office in 1990, he related a conversation with Chase Manhattan executive Mike Urkowitz. “[In a discussion] . . . several weeks ago [he] got up and closed his door and said that among his banking peers at conferences and other gatherings McKinsey’s prices were a subject of conversation,” Steiner wrote. “He said, ‘We all have the view that you won’t do anything for less than $1 million. You have a problem.’ ”

  Still, as recently as the late 1980s, McKinsey’s fee arrangements with clients remained shockingly informal. The firm did not deign to explain to clients like Federated Department Stores how it arrived at a fee of $200,000 a month plus expenses—it was a take-it-or-leave-it proposition. In an interview with Fortune, Amsterdam office manager Mickey Huibregtsen said that the high fees were in the best interests of the company’s clients as well as McKinsey, because “they protect us from not being taken seriously by the client and that protects the client from having the wrong studies done. It also protects the quality of the work. When you charge that much, the quality has to be there.”17

  Even as McKinsey preached the sanctity of high fees to its clients, internally the firm was downplaying individual partner revenues in annual evaluations. In 1990 it was made official: Client impact, people leadership, and knowledge development were now more important than client billings. Huibregsten was also front and center in this development. “Mickey was the first to articulate the idea that we’ll have some people with poor economics, and some with very good economics,” recalled Fred Gluck. “But most of the group was going to fall somewhere in the middle. And so we were going to forget about it, because no one could ever figure out who was behind this dollar of revenues or that one anyway.”18

  Bad Apples and the Return of Arrogance

  By the middle of Fred Gluck’s tenure as managing director, the brand was so powerful that rivals were reduced to competing for second place. Inevitably, the firm began articulating its sense of superiority in ways that beggared belief. The 1989 handbook for new client service staff stressed the necessity of delivering recommendations “that the client understands.” In other words, “Keep it simple, boys. Not everybody went to Harvard Business School like us.”

  McKinsey was equally sure of its superiority to its competitors. One former partner recalled Jim Balloun, onetime head of the firm’s Atlanta office, offering this line to the CEO of a client the firm had just begun to serve: “Let’s say a client asks us what time it is,” Balloun offered. “If you ask Booz Allen, their response will be ‘What time do you want it to be?’ If you ask A. D. Little, who are a little more technical, they will tell you that ‘It’s 9:45:20, Greenwich mean time.’ But if you ask McKinsey, we will say, ‘Why do you want to know? What decisions are you trying to make for which knowing the time would be helpful?’ ”

  Clients clearly bought the image. When Tom Steiner and a few colleagues first left for A. T. Kearney and then later started their own firm, the Mitchell Madison Group, they found that having McKinsey on the résumé mattered little when they were competing against the mother ship. “It turned out to be much easier to sell work when we weren’t competing directly against McKinsey than when we were,” wrote Matthew Stewart in The Management Myth.19 You might have McKinsey training, but if you couldn’t bring the McKinsey machine to bear on a problem, clients weren’t nearly as interested. That’s a dirty little secret of McKinsey: Ask any outside recruiter and he will tell you most McKinsey partners could not sell nearly as effectively outside McKinsey. Tom Steiner was a notable exception, eventually building and selling a significant firm in its own right.

  McKinsey had grown so sure of itself by the mid-1990s that, in contravention of its longtime policy against speaking about itself to the press, the firm cooperated with a substantial profile in Fortune by writer John Huey. What a blunder that turned out to be. “Laconic John Huey shows up,” recalled a former consultant. “You can’t help but like the guy. Fred Gluck insisted that John meet with the eighteen people on the shareholder committee. He met with everyone except for the Machiavellian Rajat Gupta.”

  In the 7,500-word story, Huey laid bare the firm’s growing level of arrogance. He quoted partner Mickey Huibregtsen making the infamous claim that McKinsey’s fees were high because such fees forced clients to take the firm seriously. Partner Pete Walker added this beauty: “It’s almost never that we fail because we come up with the wrong answer. We fail because we don’t properly bring along management. And if a company just doesn’t have the horses, there are limits to what we can do.”20

  The article, which had been orchestrated by Gluck, was viewed internally as the epitome of arrogance and prompted healthy debate. McKinsey briefly contemplated severing all relations with Fortune as a result. It did so for a while but later rethought the notion. This was a whole new challenge for McKinsey—the idea of managing its brand as opposed to just its reputation.

  The Fortune article demonstrated the extent to which the firm’s arrogance had grown—to such a point that it treated even valuable clients with disdain. In the United States McKinsey reaped long-running fees from American Express, which had so many McKinsey teams going at once that it was essentially a training program subsidized by a client. “God, we were sucking off that teat for so long,” said one New York–based employee of the firm. “McKinsey should be ashamed of themselves for that.” Others closer to the American Express business were more pointed. “Good business leaders do not hire consultants,” said a former partner of the firm. “Consultants feed off insecure megalomaniacs who are in fear of their own organization. [Amex CEO] Ken Chenault can’t take a shit without calling a consultant. They’re so deep over there, they’re in the phone book.” Daimler-Benz had a similar reputation as an easy mark. McKinsey performed a so-called “activity value analysis,” or AVA, so many times at Daimler and elsewhere that young German consultants bemoaned being staffed on another OVA (the German office’s version of the AVA).

  Institutional arrogance occasionally led to blatantly unacceptable behavior. Suzanne Porter, a consultant in the firm’s Dallas office, put an embarrassing spotlight on the firm when she filed a sexual discrimination complaint with the Equal Employment Opportunity Commission in 1993. Porter claimed she had been harassed by several of the firm’s partners during her time there. McKinsey responded that she was disgruntled because she hadn’t been made a principal. Two weeks after her husband, also an employee of the firm, gave a deposition in support of her claims, he was fired. McKinsey said that move was justified because he secretly recorded phone conversations with “various potential witnesses” in his wife’s case.21 A settlement was later reached with Porter.

  One estimate in 1993 had McKinsey directors earning $2 million a year22 in salary and bonuses, and another pegged Gluck’s take-home at $3.5 million.23 Even the youngsters were raking it in: Associates made more than $100,000 a year and principals made $250,000. A few years before he retired—in 1995—Marvin Bower told Jon Katzenbach that he was concerned about encroaching greed in the consulting industry. If it became all about the paycheck, he told Katzenbach,
it wasn’t going to work anymore. “Do our young professionals really need a lot of money? If we allow money to become the primary source of motivation for our people, greed will override our values. A great professional firm cannot allow greed to take hold,” he told the younger consultant.24

  It was the kind of success that allowed for team-building exercises that strain the imagination. When former senior partner George Feiger was put in charge of the professional portion of a partners conference in 1995 in Portugal, he split the assembled partners (and their spouses) into three groups and made each of them perform an opera. He’d had ex-opera singer David Pearl help him write a libretto, and also hired Barry Manilow’s producer to help out, but the three groups were responsible for everything from assembling the stage to making costumes, learning the music, and performing. The mere transport of all the required materials across the English Channel and down to Portugal cost McKinsey 1.5 million pounds.

  Still, despite the occasional team-building boondoggle, work at the office wasn’t getting any easier: Only one in five associates became a principal, and only half of those who made principal became directors. McKinsey had built one brutally efficient meritocracy. But was it even that anymore? In the Ron Daniel era, the managing director’s take-home pay was around eight to ten times that of associates. Reasonable McKinsey directors were asking themselves whether they were actually paying themselves too much. Was Fred Gluck really worth thirty-five times more than an associate? Was the typical director worth twenty to twenty-five? Most disappointed McKinsey alumni pinpoint the submission to avarice as a time during the tenure of Gluck’s successor, Rajat Gupta. But others claim it started before that. “Fred had to prove he was a player,” said one alumnus. “And in doing so, he sowed the seeds of greed at the firm.”