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McKinsey model springs a leak


By John Gapper
Published: March 9 2011 22:07 | Last updated: March 9 2011 22:07

The vast investigation into insider trading on Wall Street that culminated this week in Raj Rajaratnam going on
trial in New York accused of securities fraud was always likely to ensnare a large institution – perhaps a big
hedge fund or a Wall Street bank. No one, however, expected the institution in question to be McKinsey & Co.

It was bad enough for the blue-chip management consultancy when Anil Kumar, one of its partners, admitted to
supplying Mr Rajaratnam with inside information in return for bribes (Mr Rajaratnam denies all charges). But the
Securities and Exchange Commission’s claim last week that Rajat Gupta, who was the head of McKinsey
between 1994 and 2003, passed on tips as a board member of Goldman Sachs and Procter & Gamble, is a
heavy blow.

Mr Gupta insists he did nothing wrong, although he has resigned his directorships of P&G and AMR, American
Airlines’ parent company, having already stepped down from Goldman. But the very fact that a former leader’s
conduct has been questioned has shaken McKinsey’s 1,300 partners. “Anger, disbelief, shock, sadness and
outrage,” is how one describes the mood.

They should also be frightened because the scandal goes to the heart of McKinsey’s business model. Unlike with
past embarrassments such as Enron, which was headed by a former McKinsey consultant and to which it gave
strategic advice, it has become embroiled in accusations of being untrustworthy rather than simply incompetent.

It is hard to believe that trading on price-sensitive inside information from clients is rife inside the puritan, strait-
laced firm – if evidence of that emerged, it would soon collapse, as Arthur Andersen did after Enron. But the
accumulation and sharing of privileged knowledge is integral to how it works and it cannot afford its corporate and
government clients to pull the shutters down.

Thomas Watson Jr, the former president of IBM, wrote in his autobiography Father, Son & Co of being asked by a
company executive in 1956 whether he should share sensitive internal pricing information with a Booz Allen
Hamilton consultant. “‘Sure,’ I said, ‘It’s like your doctor. You have to tell them everything.’”

A few months later, John Burns, the Booz consultant, rang Watson to ask if he would mind Burns becoming the
president of RCA, IBM’s fiercest rival. “I said ‘I most certainly do, John!’ because we had entrusted him with
detailed knowledge of our organisation and methods and plans,” Watson wrote. “Nevertheless, he took the job.”

Watson was wrong. A consultant is not like a doctor because a patient is at worst indifferent to whether a
physician uses the knowledge gained from treating him to cure someone else, and is usually happy to help others.
A company wants a consultant to help it not only to become better but to hurt its industrial competitors.

The calculation every client makes is, in the words of Christopher McKenna, a professor at the Oxford university’s
Saïd Business School who studies professional services firms, that “consultants will carry information in and
information out. The client has to decide which of those flows is worth more.”

Indeed, one of the main reasons companies hire consultants is to make sure they do not fall behind what their
competitors are doing – in return for parting with their own secrets, they gain access to their rivals’ suitably

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disguised “best practices”. The consultant is a broker who attempts to amass so much knowledge that each
company has to hire him, no matter how uncomfortable that feels.

Bill Bain, the founder of Bain & Company, insisted on serving only one client per industry in order to avoid the
conflicts inherent in such an approach. Yet McKinsey, the exemplar of the networked model to consulting, is now
the dominant firm at the elite end of the business, with a client list that includes many of the world’s largest
companies.

McKinsey’s main safeguard against sensitive information being leaked or misused is cultural – it is a serious, even
dour, organisation with a pronounced sense of mission. McKinseyites have to work hard for modest rewards, at
least compared with being an investment banker or a hedge fund manager, for a decade before getting a chance
to make partner. During that time, they are constantly subjected to “up or out” career assessments.

The partner who emerges from this treadmill tends to be a low-key, self-disciplined figure (although often with a
large ego) who can act as the consigliere to a client’s chief executive. Mr Gupta, who has not been accused of
leaking any information while at McKinsey, appeared to be a prototypical partner – he was compared by Alan
Lafley, P&G’s former head, to the religious philosopher St Thomas Aquinas.

Yet the McKinsey culture clearly failed to restrain Mr Kumar from betraying confidences even as a partner and
the accusations against Mr Gupta raise the disturbing possibility that its disciplines are broadly ineffective. This
accounts for the shocked reaction inside the firm – perhaps it is not quite the place that everyone thought.

If Mr Gupta is cleared of the civil charges against him, then McKinsey will probably get through the scandal with
only bruises. But it cannot afford the notion to spread that its clients’ information is not only used to amass a
“knowledge base” that is sold to others in a sanitised form, but may also be exploited for personal gain.

McKinsey must devoutly hope that there is no third man.

john.gapper@ft.com

More columns at www.ft.com/johngapper

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