The Strategy of Control and Management

SEEK AN APPROPRIATE WAY, NOT A UNIVERSAL MODEL

CONTROL THE HEART, NOT JUST THE BODY

MANAGING THE COMPANY FROM A GLOBAL PERSPECTIVE

RISK CONTROL: THE CORE OF CONTROL AND MANAGEMENT

CONTROL AND MANAGEMENT REQUIRES MECHANISMS AND EFFECTIVE MEASURES

IMPLEMENT CONTROL AND MANAGEMENT AT THE FUNDAMENTAL LEVEL

UNDER THE CRITICAL EYES OF AN AMERICAN INVESTMENT MASTER

SEEK AN APPROPRIATE WAY, NOT A UNIVERSAL MODEL

The market economy is like a vast sea, in which all companies sail like ships. In order to reach the shore of success, you have to maintain the correct direction, sail steadily, and avoid all kinds of risks. This is corporate control and management.

People commonly talk about various business models, such as investment control and management, strategy control and management, business control and management, among others. In fact, there is no universal model in corporate control and management, only a suitable pattern. The Chinese word for model or pattern is mo shi (模式). What is mo (模)? Mo in Chinese means mold and model. Once something becomes a model, it is fixed. But corporate development is constantly changing. Corporate management methods vary as different companies have different development environments, are in different phases, and face different conditions. Even those companies that have created control and management models, such as Six Sigma,¹ did not keep to them. Instead, they continued to revise control and management methods to reflect the changes in the company. Thus, I must reemphasize, there is no universal model in corporate control and management, only an appropriate way.

CONTROL THE HEART, NOT JUST THE BODY

A company is a place made up of many interacting features: employees, tools, and equipment. Among them, employees are in the dominant position. Therefore, corporate control and management is ultimately the control and management of people. The achievements of the company are created by people, while risks are also due to mistakes made by people. The behavior of a person depends on his ideas. Therefore, the highest level of corporate control and management is the control and management of ideas. A company must have uniform core values and an operational theory that fit its identity and operational rules. With uniform core values, the cohesion of a company can be formed. With the right operational theory, the right operational thinking can be formed. This theory is the natural root of corporate control and management, or its “soul,” if you like. This is commonly phrased as, “the theory determines the way of thinking, and the way of thinking determines survival.” A company’s theory actually reflects its core values. The correctness of operational theories directly determines the operational strategy and development direction of a company, and therefore determines the success of that company. In the same way, methods of thinking are the route to corporate

¹ Six Sigma is a set of practices originally developed by Motorola to systematically improve processes by eliminating defects.

development. With a correct way of thinking, you win the war. With a wrong way of thinking, you lose the war. Without any way of thinking, you fight a messy war. Therefore, the promotion and cultivation of correct operational theories is the highest level in corporate control and management.

To promote and cultivate the right operational theories, systematic thinking modes and methods are the keys that require a company to begin any venture with a realistic view, understand the characteristics and operational rules of the company, particularly analyze its specific conditions and characteristics, in order to come up with the guidelines for specific work from a strategically advantageous position. These kinds of guidelines are not just a rulebook. Nor can they be summed up in just a few phrases, like those commonly seen slogans such as Study, Solidarity, Innovation, and Truth seeking. Slogans like this are way too common. It is useless if you just keep shouting slogans. You should combine laws and regulations with the specific conditions of the company and guide and cultivate the thinking of your employees in regard to the mistakes in their thinking and the problems of company operations, in order to lead their thinking to a more informed position. We have attached great importance to this matter over the years.

As mentioned in the previous chapter, the argument about the relationship between security and economic results inside Air China has never stopped. Many people, including the managers, did not dare to raise the idea that all Air China’s operational activities should center on profits, fearing that they might be labeled as focusing only on profit at the expense of security. Targeting this condition, we clearly affirmed our operational theory, which states that operations, management, and control of the company should be centered on the improvement of the company’s profit-earning capability. At the same time, we required that all employees endeavor to achieve our goals. Some dissented, saying, “Isn’t this the same as centering on economic profit?” We answered, “It’s not the same. On the contrary, our goal is even more demanding.” “Centering on economic profit” refers to the daily operations of a company, whereas “centering on profit-earning capability” is the goal of all corporate activities. Profit-earning capability not only covers the former, but is even more demanding. “Then where do you place ‘security as the primary principle’?” This required us to correct their mistaken thinking.

What are the functions of a company? Companies, schools, and armies are all social organizations. Different social organizations have different functions. The function of schools is to educate, which requires a teaching capability. The function of armies is to fight, which requires battle effectiveness. The function of companies is to create national wealth, provide employment opportunities, and bring about scientific innovation. Among these, the creation of national wealth is the basis. Companies are the direct creators of national wealth, which is directly shown by corporate economic benefits and ultimately by corporate profit. Obviously, without the capability to create national wealth, a company cannot create corresponding benefits or profits, cannot create employment opportunities, and is destined to go bankrupt and result in employee lay-offs.

Every company takes profit earning as its purpose. The fundamental function of a company is to directly create national wealth. Even security companies are aimed at profit earning, not at providing services to ensure security. This is simply the way for security companies to realize their purpose of profit earning.

It is natural that a company pays due attention to security, but the idea of “security as the primary principle” does not run contrary to the company’s profit-earning capability. “Security as the primary principle” means that an aviation company should prioritize security in all aspects of corporate development and operations. This is emphasized in the operations of all companies, not just in aviation companies. It is just that due to the special nature of aviation companies, this principle is all the more obvious. In any case, security as the primary principle is the process, while profit earning is the purpose. The process and the purpose do not run contrary, but instead, supplement each other. Security lays the foundation for profit earning while profit earning secures the necessary investment for security, and therefore further guarantees security. Thus, we have settled the argument about security and benefits in the employees’ minds, established thoughts of cultivating corporate profit-earning capability among employees, and further stressed the need to adhere to security as the primary principle, therefore realizing the positive interaction between security and benefit within the company.

At the same time, based on the lessons we have drawn from our own development, we managed and controlled the company with the intention of optimizing and strengthening key businesses.

From 1998–2000, Air China suffered an annual loss of as much as RMB 600 million, three years in a row. The asset-liability ratio of Air China used to be as high as more than 95 percent. One important reason for the loss of control of the company was that under the old planned economic system, Air China had pursued “small but comprehensive, big and comprehensive” together with other companies, implemented pluralist strategies, and conducted multiple investments, only to widen the control and management sphere of the company, which had resulted in the diversion of energy and capital from key business operations. Investments on other projects were either of little benefit or no benefit at all, while such problems as liquidation and bankruptcy had caused a lot of trouble for the company. The situation fitted the description, “plant on others’ fields, and your own field is laid waste. In the end, you don’t profit from others’ fields, either.”

After the founding of the group company, the first operation ideas and thinking we established about development in regard to corporate management and control are to do what we are best at, and concentrate our energy on those things which we are best at and most familiar with. Aviation transportation is not only the key business of the group company, but also the business in which we have long been involved. Therefore, we started with the principle to highlight, optimize, and strengthen the key business, and to concentrate our manpower, resource and capital power, so as to help Air China guard against possible mistakes in the dominant development trend of the company. By doing this, we managed to develop Air China into an outstanding company, in times when the global aviation industry was mired in a general depression.

On the operational principle of optimizing and strengthening the key business, we correctly dealt with the relationship between optimizing and strengthening the company, and enlarging it. During the startup period of the group company, we kept stressing the principle of enlarging, optimizing, and strengthening the company from within, and of the three we placed enlarging first. Through detailed research, we found that in the fierce market competition, it is not usually the case where the big companies beat the small ones. Instead, it is usually a case of the fast companies beating the slow ones, the strong companies beating the weak, and the optimized companies beating the poorly managed ones. In particular, a few giant American companies previously referred to as world aviation tycoons collapsed into bankruptcy protection one after the other, while Hong Kong’s Cathay Pacific Airways and Singapore Airlines shrank to the scale where they only owned less than 100 aircraft. However, this condition did not impact their reputation as world-famous aviation companies. This phenomenon gave us the inspiration that giant companies also have their own problems, and instead of only focusing on enlarging themselves, companies should optimize and strengthen themselves so as to remain aviation tycoons. Therefore, we stopped emphasizing scale enlarging. Instead, we only stressed the importance of optimizing and strengthening the company. Thus, we did not compare with others in terms of the number of employees, or in terms of the size of our fleet or the number of air routes. We adhered to the principle of centering on our profit-earning capability, maintaining a steady development speed, and systematically designing all kinds of operational activities. At the same time, we did not emphasize occupation (the more you occupy, the more you must invest). Instead, we focused on a fluent absorption process (meaning a higher resource utilization rate). By persistently pursuing intensive development instead of extensive and blind enlargement, we effectively avoided risks in the market as well as in operations.

In persistently controlling and managing a company with correct theories and operational thinking, sometimes we have to learn to resist temptation and fight against pressure. Once a company has started to do well, it tends to become arrogant. This happens when the desire to get involved in various investment projects emerges, and people come to you for capital investment and all kinds of tempting projects come running to you (in fact they just come for the money). Faced with these temptations, it is important to be clear-headed and stick to the right operational theory. Inside the company, once the capital is plentiful, all branch companies and subsidiary companies wish to raise various suggestions and proposals in order to accelerate their expansion. At that time, senior managers have to resist the pressure, insist on the original policy, and effectively persuade all parties.

One such case did happen to us. It was not long after the founding of the group company when a specialty company, independent of our key business, was in a hurry to propose their development outside Beijing, while they had not even managed their business within Beijing very successfully. Another company that had just been established proposed that the group company should raise RMB 1.5 billion to promote a great leap forward in their business. Faced with such situations, we repeatedly stressed that the group company was not refusing to support specialty companies. It was just that we believed that these specialty companies were newly established, had yet to prove themselves, and still needed to accumulate more professional expertise. Moreover, the key business of the group company had just been developed, and was far from being sufficiently strengthened and optimized. If all member companies dependent on the key business of the group company were in a hurry to develop, it would place the entire group at grave risk.

Faced with a new development environment both inside and outside the company, in order to create a new competitive edge and effectively control and manage the company, we should not only adhere to effective operational theories, but also work to solve problems that the company faces during actual development, and continue to summarize and put new operation theories into practice. Through these methods, the group company has gradually formed eight operational theories, which are to:

• Adhere to the principle of centering on the improvement of profit-earning capability, and systematically planning all types of operational activities;
• Adhere to the principle of optimizing and strengthening the key business, and promoting the balanced development of the key business and supporting businesses;
• Adhere to the principle of a balanced development of both domestic and international business, and promoting hub construction;
• Adhere to the principle of promoting development through cooperation and concentrating capacity through integration;
• Adhere to the principle of implementing the Four Hearts service, and improving the company brand’s international competitiveness;
• Adhere to the principle of highlighting market direction, and zealously working to increase income and reduce costs;
• Adhere to the principle of emphasizing banzi or leading teams in corporate organization, and implementing the strategy of strengthening the company with the help of professional talent;
• Adhere to the principle of laying a solid foundation for development and effectively fighting against all kinds of risks.

In our daily work, we went on deepening and practicing these concepts, ensuring a lasting, healthy development of the company.

MANAGING THE COMPANY FROM A GLOBAL PERSPECTIVE

There is no perfect thing in the world, nor is there a perfect company. It is just like the human body. We count ourselves as healthy as long as we are not diagnosed otherwise, and are not likely to panic if we feel a little unwell. What should we consider a serious sickness in corporate terms? A serious sickness relates to an error in strategy, or similar things that have a great impact on a company. As long as a company does not make major strategic mistakes or other grave mistakes, then it will be able to sustain its development as minor illnesses are easy to cure.

Strategy is an issue for both small and large companies. The only difference stems from the varying scales and conditions of the companies. Strategy seems to be an abstract concept, but in fact it can be explicitly understood. All that is vital to the overall condition, future development, and foundation of a company can be counted as strategy. There are also rules to follow in the management of a company from a strategic point of view. In the era of economic globalization, a global point of view is vital to corporate management. This requires minute and concentrated attention to the changes and developmental trends of the industry. Once the trends are grasped, there will be more initiative. The focus should be placed on Europe and the United States, especially the United States because it is the most influential country in the world in the sense that every one of its moves impacts the whole world. I used to say this to a corporate tycoon from the United States, “Of all the things that happen in the world today, good and bad alike, the United States always has its share of influence.” He asked, “Do we really have that kind of power?” I said, “You don’t have to be modest on this issue. It’s the truth.”

Let me give an example. In 2006, the world oil price witnessed continuous growth. Beginning at the end of August, however, oil prices began to drop from the peak of US$70 per barrel to US$56 per barrel on October 31. At one management conference, I asked, “Do you know why there’s been a decline in oil prices in the past month? The reason lies in the mid-term elections to the Senate and Congress in the United States. Those large financial groups, whose interests are represented by the Republicans, probably controlled oil prices with their capital, in order to win support for the Republicans in the elections. We should pay close attention to this. After the end of the mid-term elections on November 7, international oil prices will rise again. Now is a good opportunity for an oil hedge. We should take this opportunity to buy.” And so it happened. Twenty days later, the world oil price rose once again to US$64.6 per barrel. Through observation, we not only solved the risks caused by fluctuation in the world’s oil price, but also decisively hedged at the low point of world oil prices, and made significant savings. In short, strategy is utilized to manage important events. To manage important events, you have to sharpen your perspective in observing global trends.

Other important aspects in strategically controlling and managing a company are to conduct research on the experience and lessons drawn from the development of the same industry in the world in order to know what to assert, what to deny, and what to develop. Things have common qualities as well as individualities, and we should be good at grasping the individuality through observation and analysis of the common qualities. “Utilize the advantages of backwardness to exceed the traditionally advanced” is commonly heard. The way to utilize the advantages of backwardness lies in studying the development of certain industries in developed countries to avoid their mistakes and take shortcuts to overtake them.

For example, in the early days of civil aviation, all companies around the world adopted the “point to point” operation model, due to a lack of airplanes and small scale. After a period of development when they enlarged their scale, operation hubs were needed to serve as link points and feeder ports in order to bring into play the established scale advantage and produce an amplification effect. Thus, all major airlines in the world built their own hubs, among which some were double and multiple hubs, due to their oversized scale, to serve as nodes in the construction of large operation networks. By doing this, airlines further amplified the agglomeration and spread effects. As Chinese civil aviation started late, Air China initially adopted a point-to-point operational model, as had all other airlines. At the beginning of 2001, we began to realize that the reasons behind Air China’s lower rate of seat occupation on international routes lay in the lack of a “base area” of our own before we had established international routes, which meant that Air China lacked the support of hub nodes.

Since then, the company has established the strategy of building its own Beijing operations hub. Through years of endeavor, Air China’s market share in Beijing leapt from less than 30 percent to more than 45 percent, thus establishing, right from the beginning, the model in which Beijing was the hub, domestic routes supported international routes, and international routes stimulated domestic ones. Through these efforts, Air China’s seat occupation rate on both domestic and international flights witnessed a dramatic growth, resulting in a notable improvement of operational efficiency.

After a taste of success from hub construction, we went on to establish the development strategy that emphasized the development of both domestic and international routes. In the past, Air China positioned itself as an international company mainly engaged in international passenger and cargo transportation businesses, with the capacity investment ratio between international and domestic being about 7:3. Since the 1990s, the Chinese government has gradually promoted an aviation policy of loosening the regulations for domestic companies, while freeing the skies for foreign companies, both of which have had an important impact on the domestic and international aviation markets. Air China’s former irrational domestic and international market structure stood in the way of its development and its improvement of comprehensive competitiveness, resulting in more operational difficulties.

In view of this and with an analysis of various operational elements such as transport prices, mileage, and seat occupation rate, we realized that the revenue per available seat kilometer (RASK) on international routes was lower than that of domestic routes. The basic principle of operations is to focus more on what is more lucrative, and to make money from those people who have more money than others. Therefore, guided by the principle of emphasizing both domestic and international routes, we decisively shifted the capacity investment ratio between the international and the domestic, stressing the increase of investment for domestic routes over a period of time.

This measure encountered opposition. The head of another aviation company said to me, “Mr. Li, you shouldn’t forget the fact that Air China’s full name is the Chinese INTERNATIONAL Aviation Company!” His implication was obvious. I answered him, smiling, “The name of your company is the XX Province XX City Aviation Company, but you’ve never limited your routes to the sky over just that city!” In business, you should not mind what others say. Instead, you should understand what you should do, and stick to it without being deflected.

Air China’s capability used to be focused on international routes served by large planes. As more emphasis has been put on domestic routes, large planes are no longer appropriate as they would only result in greater losses. To meet the demands of both domestic and international routes, Air China has sped up the pace of fleet adjustment. After several years of endeavor, the ratio of large to small planes fell from 6:4 to 4:6, while the capacity input between international and domestic routes has been relatively balanced roughly at the ratio of 5:5. The RASK has increased, thus effectively dispersing market risks.

Besides a close analysis of current international trends and the experience and lessons that can be drawn from the history of an industry’s development, a company must also pay due attention in strategic management to the study of its own organization, seek out the current and potential major flaws in order to repair in time, or better still, prevent them in advance. For example, after the integration of the passenger and cargo transportation business between the former Air China, China Southwest Airlines, and Zhejiang Airlines, we found through investigation that critical flaws existed in the routes structure, such as no business focus, weak main routes, and a loose arrangement of feeder routes. Therefore, for the benefit of the construction of the Beijing hub, we strengthened the main routes, maintained the key feeder ones, canceled some low-profit feeder flights, and conducted unified integration of current routes. Through this measure, the construction of the Beijing hub has been accelerated, which has led to a dramatic increase in Air China’s market share in 28 domestic feeder air routes with the highest profit, thus guaranteeing Air China’s leading position in profitable routes and effectively defending itself against the competition of new airlines for these main routes. By avoiding competition with these new companies in some feeder air routes, Air China was at the same time able to focus on hub construction and main routes.

RISK CONTROL: THE CORE OF CONTROL AND MANAGEMENT

In corporate control and management, management focuses on corporate development while control aims to evade risks. In daily operations, control and management should supplement each other. The most important thing in control is the control of risk .

Risk refers to all major accidents and problems that might occur. Risk is the possibility that something problematic might happen. Once that possibility becomes a reality, a risk turns into an accident or a real problem. Risks are usually manageable. A company faces many risks in its survival and development, such as decision-making, financial, and security risks. These risks can be divided into two major categories. The first is management risks, which are reflected in the behavior of middle and senior managers. The second category is operational risks, which are mainly demonstrated in the activities of the middle and lower levels, especially the frontline employees. The two categories of risks have different characters, and so their control measures and methods differ. The prevention and control of management risks are usually achieved through strict, systematic, and democratic decision making. The prevention and control of operational risks, on the other hand, are achieved through strict regulatory systems. Different companies have different operational characteristics, and so some companies need to put more emphasis on prevention and control of management risks, while others need to emphasize the operational risks.

Aviation transportation is a labor-, capital-, and technology-intensive industry that comes with high pressure from security risks. It is an industry in which “capable men do not want to work while incapable men are not qualified to work.” The capable men do not want to work in the industry, because the risks are everywhere and the risks are huge. The incapable men are not qualified to work in the industry because the operation is complicated and the rules of control and management are hard to grasp. This is quite true. Take flight security, the most important aspect in the control and management of an aviation company, as an example, and you will see that there are a lot of underlying rules that must be grasped.

The main players in regular operations of an airline include the pilot team, the airplane repair and maintenance team, and the control and dispatching team (which is mainly responsible for directing and allocating). Among them, the pilot team and the airplane repair and maintenance team are the production backbone of an airline. They are also the main force for guaranteeing flight security. The pilot team plays the most important part in the regular operations of an airline. For an aviation company, all that is related to pilots and airplanes should be considered as being of the greatest importance, and which has the greatest impact in varying degrees on the public. Unless we realize this, the business will be bogged down in passivity while the control and management will be out of focus.

The risk point of flight security has always been the top priority. Flight security is not only the core interest for passengers, the focal point of public attention, but also requires lasting control and management. In terms of time, only by guaranteeing the security of every moment can there be security every day. Only through the security of every day can there be security every month, and only through the security of every month can there be security every year. In terms of personnel, only through guaranteeing the security of everybody can there be security for the whole company. All leaders must know that control and management activities are about lasting attention and need the cooperation of everyone, being the hardest to achieve and requiring the most energy.

According to statistics, all plane accidents in the world are related to pilot error except those caused by factors beyond human control. Although sometimes the problems were caused by defective repair and maintenance, or flawed spare parts, dangers can be avoided by pilots through precise operation. Therefore, in guaranteeing flight security, pilots are the most important factor. Thus, Air China’s main leaders (including those in branch companies) have continually placed emphasis on the building of the pilot team in corporate control and management. Through extensive research and study, Air China issued the Outline of Comprehensive Building of the Pilot Team, and adopted a series of measures to address specific problems in this regard. Air China clearly specified that its pilots should think strategically, have outstanding piloting technique, behave well, follow strict discipline, be knowledgeable, have a healthy body and mind, and be highly tolerant. Air China also required that the managers of the pilot team should be able to guide their thinking, serve them in daily life, help solve disagreements, and understand the key elements of piloting. Related leaders should have the mobile phone numbers of piloting captains, in order to stay in touch with the state of mind of the pilot team and help solve problems in time. The company also reformed the pilot payment system, perfecting the incentive and restrictive mechanisms. This stimulated pilots’ enthusiasm for participating in the corporate development, and largely improved the overall quality of the pilot team. We also adopted similar measures to build the airplane repair and maintenance team and the operations and dispatching team. In point of fact, once an airline has built a brilliant pilot team, airplane repair and maintenance team, and the operations and dispatch team, it already gets 80 percent in the flight security examination.

Since the incident of 9/11 in 2001, preventing attacks on aircraft by terrorists and other criminals has become an important issue in flight security control for aviation companies. Air China equipped its airplanes with air marshals and perfected its “air defense” measures. At the same time, Air China fostered more than 300 air security staff. Currently, Air China has altogether 1,028 professional and part-time air security staff. Over the past four years, they have dealt with more than 600 illegal cases, tracked and controlled more than 1,100 potentially dangerous people, and handled more than ten serious incidents. On February 2, 2003, on Air China’s flight CA 1505 from Beijing to Fuzhou, a passenger named Huang Yue hijacked the airplane, ordering the pilot to fly the airplane to Taiwan. He set fire to a gasoline can, but was quickly overcome by air marshals. The fire was quickly put out. This incident, resulting in no human casualties or any loss in property, drew public admiration. This line of air defense further strengthened the overall flight security of Air China.

CONTROL AND MANAGEMENT REQUIRES MECHANISMS AND EFFECTIVE MEASURES

In corporate control and management, there must be a suite of effective mechanisms and measures. Ji zhi (the Chinese word for mechanism) is actually a combination of ji (institutions) and zhi (regulations). To attain a certain control and management goal, it is important to establish necessary institutions and strict operation regulations. Following this way of thinking, we have attached importance these years to the improvement of corporate control and management mechanisms and measures.

The group company was newly established during the reorganization of the national civil aviation industry in 2002. Upon its founding, in accordance with related documents issued by the State Council, the group took strategic planning, capital operations, evaluation and assessment, and supervision and monitoring as the basis, and established a transitional mode of control and management and organizational structure. The control and management of the group company was defined as that of strategic operation. This mode of control and management featured group strategic planning, resource allocation, moderate involvement in key and supporting business operations, and selection of the corporate banzi, ensuring regular operations and management of the newly founded group, and strongly boosting the integration of key business, the specialized operation of supporting businesses, and Air China’s restructure and IPO.

Air China successfully restructured itself and was listed on the stock market in December 2004, causing profound changes to the internal operations and development pattern of the group company. The group management has always prioritized in-depth discussions on control and management measures and the perfection of organizational structure. In February 2006, we released Several Regulations on Corporate Control and Management of the China Aviation HoldingCompany. The regulations consisted of 17 articles, which further clarified the functioning positions of the group’s headquarters, as well as all direct subsidiary companies, and clearly specified the details of control and management in terms of corporate development strategy, corporate culture, human resources, property rights, investment, financial affairs, performance, security, information, internal audits, among other matters. This has become the general guideline of the group company’s control and management. At the same time, it enabled the overall control and management of the group to be more orderly and effective. On the basis of the regulations, we forcefully promoted the organizational transition of the key business of aviation transportation. This was an important strategic step in our perfection of control and management measures. For a long time, under the planned economic mechanisms, the organizational structures of all enterprises before reorganization had been principally formed on the model of production guarantee, and had been hampered by the usual problems of too many management layers, loose resource management, ineffective management links between production and information, and so on. After the joint reorganization, we separated the key from supporting businesses, integrated the key businesses, and initially established new business control and management measures, which paved the way for the establishment of a market-oriented operation model for Air China.

In recent years, despite the positive development trends of Air China, we have remained sober-minded. In a couple of years, Air China will double in size, necessitating the innovation of organizational and operation patterns. Bearing this goal in mind, since March 2005, we have initiated Air China’s organizational transformation. The focus was on organizational reorganization, emphasizing the recreation of management and business processes, and aiming at the establishment of an internal control and management mechanism that fitted the needs of corporate governance. The measures touched all aspects of the group company, including corporate strategy, organizational structure, management and business processes, personnel placement, salary incentive schemes, performance evaluation, and corporate culture. This was a major reform, covering current operation and management patterns, employee mindsets and behaviors, and hiring mechanisms, and one that has laid a solid foundation for Air China’s accelerated development and sustained competitive edge in the future.

During the process of key business integration following the reorganization, we took the lead in implementing vertical management in Air China’s marketing departments, so as to seize the emerging opportunities. This move was soon followed by the measures to integrate related business departments such as marketing, and the establishment of the Air China Commercial Committee. By then, the efficiency and benefits of integration had already been demonstrated. During Air China’s organizational transition, the Commercial Committee was a pilot unit, one important task of which was to integrate marketing resources from home and abroad to establish regional marketing centers in all major zones of China and key countries and regions. Since 2006, regional headquarters in Europe, the western United States, and Japan have been established. Take the situation in Europe as an example. Originally, Air China had 12 business departments in Frankfurt, Rome, and other cities, two terminals in Munich and Berlin, and ten sales representative offices in Istanbul, Budapest, and other cities. After we established the European regional headquarters at the end of 2006, we effectively integrated Air China’s marketing resources in Europe. Overall coordination and interlinked sales saw quick results: the sales income in the first half of 2007 witnessed an increase of 58 percent. These measures have improved Air China’s competitiveness in the European market, and served as an example of the successful integration of sales offices for other regions.

At the same time, we promoted a centralized purchasing of aviation materials and bulk materials. We set up the Air China Centralized Purchasing Department, which was actually the same organization as the Air China Import and Export Trading Company, but with two different names. We exercised unified management in adopting a tendering system for purchasing bulk materials, which ensured lower costs and a reasonable stock of such bulk materials. Moreover, we also effectively integrated Air China’s repair resources to improve the level of airplane repair. These measures have further perfected the corporate control and management mechanism, and effectively prevented risks from becoming incidents.

As we continued to perfect our control and management mechanisms, we also worked to improve control and management measures. Financial affairs are at the heart of the healthy operation of a company. In the past, undesirable practice such as unfocused capital management and the opening of multiple bank accounts have resulted in a series of problems. After the founding of the group company, we realized that cash flow was huge in the aviation industry; the settlement was complicated and comparably outdated. Capital leakage would cause a huge loss for the company. All these would likely lead to capital shortage or a rupture of capital chain, causing catastrophic results. Therefore, implementing appropriate monitoring and centralized management of capital became one of the control and management measures to which the group company gave top priority. It is stipulated that the headquarters of the group company should manage the capital of all direct subsidiary companies in such a way that the revenues and expenditures are separated from each other. At the same time, the headquarters of the group company implemented unified management of the financial affairs of the whole group company. This meant that the headquarters was responsible for making regulations on financial accounting and financial management, preparing group financial reports, auditing, approving and adjusting annual financial budgets of all direct subsidiary companies. It also supervised budget enforcement, decided on the financing power of each direct subsidiary, audited the budget financing behavior of each direct subsidiary above the specified limits, set all expenditure standards for each direct subsidiary, negotiated for the support in taxing policy and administrative fee policy for the whole company, and organized common tax planning inside the group company. Moreover, we took advantage of advanced information technology to establish a profit management system for Air China, which not only ensured the sales to the right passenger at the right price at the right time to guarantee the maximization of corporate benefit, but also helped eliminate under-the-counter sales.

Performance evaluation is fundamental to our group company’s control and management. Since the founding of the group company, we kept on perfecting the performance evaluation system, trying to cover every aspect of our work. We have initially established an operation responsibility system which “passes on pressure from level to level, fulfills responsibility from level to level, and links incentives from level to level.” At the same time, the group company’s performance evaluation system was closely connected with various evaluation indices of each company, such as strategic planning, financial budgets, production plans, and aviation security management to highlight the core criterion for the improvement of profit-earning capability. Targeting different business fields, the company implemented scientific categorized evaluation methods and made the result of performance evaluation closely linked to cadre adjustment and income distribution. Thus we formed a powerful control and management restriction system, which effectively enhanced the cohesion of the group company. Other than that, we have established an internal audit system to supervise economic activities of related companies in which the group company invested and fulfillment of economic responsibilities by leaders and cadres. Also, we conducted daily audit, special audit, and post-leaving audit while at the same time guiding as well as checking the internal auditing of subsidiary companies. All these measures have further improved our corporate control and management.

The group headquarters also put in place a system of daily operation updating and major issue announcement. Besides the eight direct subsidiary companies, we have also incorporated the operations of 13 key independent companies under our control and management, thereby effectively preventing possible market and operational risks.

IMPLEMENT CONTROL AND MANAGEMENT AT THE FUNDAMENTAL LEVEL

I still remember my first summer spent on the grasslands of Inner Mongolia. The grasslands spread like a huge colorful carpet, stretching out from where I stood all the way to the sky. We, the newly recruited soldiers, all loved to play on this huge carpet in our spare time. Sometimes, we could not help but lie down on it to see who could roll faster. However, the carpet, woven by a plant called Allium Bidentatum Fisch, disappeared after ten days of burning sunshine, leaving only patches of greenery. One day, out of curiosity, I tried to pull a bunch of them up but in vain. I pushed aside the floating sand, only to find out that the roots firmly grasped the earth. This prompted me to write a short poem:

The burning heat has destroyed countless blossoms,
Only you paint the summer meadow green,
Beside you, I removed the burning sand searching for truth.
That’s when you inspired me: the power of life lies in the firm roots!

Another plant, called Moso Bamboo, which grows in the south, also demonstrates a similar magic. When Moso Bamboo first makes its appearance above the soil, it looks just like an ox horn. In the next four years, the Moso Bamboo remains the same size with no obvious growth. However, starting from the fifth year, Moso Bamboo can grow more than 70 centimeters per day and spurts up to 30 meters high within 40 days. Afterwards, the Moso Bamboo will stand strong even in severe weather conditions. Why? It is because Moso Bamboo spent the first four years growing its roots.

As an old saying goes, “Without a solid foundation, even the earth and the mountains could be shaken down. With a solid foundation, there is no fear of collapsing even if someone plans to do so.” Corporate control and management should stress the laying of foundations. Here, the first principle is to avoid blind emotion. In corporate control and management we are faced every day with various incidents, a majority of which are practical and substantial. Company managers are required to take a down-to-earth attitude. Some managers like to travel around and take great delight in receiving guests and making appearances on various occasions. They seldom apply themselves to research and study in order to uncover the truth and resolve practical problems. This is a serious flaw in corporate control and management. Essentially, the main managers of a company should concentrate their energy on the company itself. Once the work inside the company is well done, the work outside will naturally be taken care of. If the work inside the company is not well done, no one from outside the company will do it for you. It requires a clear mind and more efforts to consolidate the foundation of corporate control and management. The second principle is that a manager should be prepared for risks in times of safety, and weed out as many weaknesses as possible. The phenomenon of “many sentences in reference to achievement and a mere colon in reference to weaknesses” must be avoided. Failure is the mother of success, but in real life what we often see is the contrary, that success is the mother of failure. Isn’t this true? Many companies collapsed at their peak time, driving home the expression, “Their prosperity was vigorous, their collapse sudden.”

We are now living in an age of information and economic globalization. Faced with an increasingly complicated world political and economic situation, companies seem to have entered a period of “high incidence.” Bill Gates said that there are always only 180 days before Microsoft goes bankrupt. In recent years, the incidents of China Aviation Oil, Skyworth, among others, proved that these former star companies could fall into pools of trouble or even go bankrupt in times of sudden crisis. They are living examples on how damaging the potential risks in companies can be in modern economy. Therefore, to prevent and control corporate risks, we need to have an acute awareness of possible crises and unexpected developments ahead. Air China has continually stressed the following principles: Achievements are only about the past while risks could endanger future business. We can achieve more if we speak less about our achievements, while we can encounter fewer problems if we pay more attention to them. And we should lay the foundations for later generations instead of leaving future risks for them . Thus, at our annual review at the end of each year, instead of reporting achievements, we required that each unit should report problems they have faced in detail. In problem reporting, current, future, and potential problems were clearly categorized and the correction measures and principles were laid out. The company would follow up on the correction of problems in order to prevent the sad case of “losing Jingzhou out of carelessness.”²

² A story from the Romance of Three Kingdoms which describes how Guan Yu, a very famous general in the Kingdom of Shu, lost a battle with the Kingdom of Wu and had to retreat from Jingzhou because of his arrogance and carelessness when dealing with Lu Xun, the general of the Kingdom of Wu.

We also need to spend more energy on overcoming the negative factors. Positive and negative factors always coexist in a company. While corporate control and management should foster positive factors, more energy should be devoted to the elimination of negative factors. We should be able to recognize a potential risk by looking at a small negative factor, and deal with it decisively so as to nip it in the bud. In 2005, hundreds of Air China retirees and honorary retirees planned to gather together to negotiate with the corporate leaders on their pension. At this, we sent an effective work group, so as to turn a grassroots’ petition into leadership visits to the grassroots. On the basis of research, communication, and negotiation, we came up with a solution that pacified the group.

To tackle negative factors, the main leaders must sometimes spend more time, and even get personally involved. Here I would like to prove my point with my experience of selecting civil servants when I was in the army. In the army, company commanders usually choose those better looking and well-behaved candidates. However, the core problem in a company is usually caused by those who lag behind. After I became the commander, I broke away from this institution by choosing those laggards. The idea is that, as these soldiers spent much of their time with the leaders in the company, the leaders were able to help and supervise them and their motivation for progress was stimulated. Last but not least, in corporate control and management we must spend more time on the grassroots. Corporate control and management are founded on many aspects, such as mindsets, organization, institution, and infrastructure, among others. However, the most fundamental aspect lies in the grassroots or the production front line. As the proverb goes, “Having studied experience after experience, we realize that the key is to strengthen the front line.” Profit and problems are both generated by the front line. For aviation companies, the key to strengthening the front line lies in the building of a captain team, a chief steward team, and a team leader team. To this end, Air China released Responsibilities of Captains and Chief Stewards, Work Regulations on Team Leaders, and other regulations, prompting them to take the lead in cultivating their technical skills and improving their professional qualities.

In laying a solid foundation at the level of grassroots in corporate control and management, a company sometimes has to adopt special measures in order to see the effects. For example, for an airline, steady operations are rooted in flight security, which is then determined by pilot training. The crucial parts of pilot training are take-off and landing, because 70 percent of flight security problems surface during take-off or landing. Among these, 70 percent occur during the landing phase. That is why landing is more crucial than take-off. The most important factor of all is the captain. In order to enhance the captains’ skills in take-off and landing, Air China allocated two Boeing 737 aircraft and created a take-off and landing training team in 2003. Captains must enhance their skills in take-off and landing, and must be able to lead the flight team before passing the training program. Otherwise, they will be stripped of their title. This unprecedented measure in Chinese civil aviation industry has effectively improved Air China’s flight security on a more solid basis.

UNDER THE CRITICAL EYES OF AN AMERICAN INVESTMENT MASTER

In January 2007, as the domestic stock market was hotter than ever, I received a distinguished guest at the headquarters of Air China. Jim Rogers is a world investment master, who enjoys the same fame as Warren Buffett and George Soros. He had grasped every investment opportunity in the 116 countries he had been to, creating a miraculous profit rate of as high as 3,300 percent.

After more than ten hours of flight from Stockholm to Beijing, this legendary figure came visiting Air China directly. It turned out that he had held a considerable number of Air China’s shares for six months and was eager to know more about Air China before deciding whether to buy more, sell them, or just do nothing.

The purpose of his visit was to know about my experience, the operation of Air China’s oil hedge, as well as the company’s infrastructure and workflow. This renowned investor had done his homework. He researched the potential problems that might have existed in Air China. He even knew all about my past military experience. After his visit, he decided to buy more of Air China’s shares.

Warren Buffett said, “Buy businesses, not shares.” What did he mean? The rise and fall of share prices are determined by both rational and irrational factors. Share prices cannot fully and objectively reflect the internal value of a company. What a real mature investor focuses on is the value of the company as well as whether there will be huge risks. He focuses more on the fundamental profit-earning capability of companies. If the growth of a company is only demonstrated in such aspects as expanded business scale, increased capital, and enlarged teams and institutions, this superficial prosperity is likely the result of speculation by investors and the market and a very dangerous sign. In reality, there are a lot of successful people as well as companies that collapse during their peak time. It is really a case of witnessing the rise and collapse of a building. A company must be able to adapt to and dominate the market, and enhance its risk control capability. This is the foundation for the lasting prosperity of a company, as well as the focal point for investors and shareholders.

Since Air China was listed on overseas markets in 2004, it has been very popular among investment institutions both at home and abroad. Famous investment institutions such as Citibank, Goldman Sachs, and Merrill Lynch have all graded Air China as “recommended” and “buy.” The important reason behind this was not that Air China’s skyrocketing share price had earned them huge profits, but that Air China always attached importance to risk prevention, maintained a positive profit-earning capability, and rewarded investors with lasting returns against a fluctuating market environment. Instead of making people feel surprised, we should make them feel secure. This is the principle that Air China has always held in business. This is also the investment culture advocated by a mature market environment .

On the other hand, company managers must be alert at all times. They should be able to hold on to correct operational policies and principles when investors become irrational. Blind optimism of investors usually results in irrational overrating of share prices. Some managers may indiscriminately expand operational scale out of personal interests, which is extremely harmful to the company’s long-term development.

Since 2006, the robust domestic stock market has stimulated continuous share price rises of domestic airlines, such as Air China. The market capitalization of some airlines even exceeded that of some top-notch foreign airlines. This engendered blind optimism that the domestic aviation industry was already qualified to outstrip the aviation industry in Europe and the United States. This misinterpretation resulted from subscription to the rallies of capital markets. Looking into the very nature of the operation and development of aviation companies, it is easy to see that the domestic civil aviation industry, albeit growing vigorously, still has much to be desired in overall quality and competitiveness. They remain still at the stage of long-term development in the business circle.

On the whole, the domestic civil aviation industry is faced with four pairs of contradictions now as well as for some time to come. First is the contradiction between a high market demand and an inadequate development capability. Second is the contradiction between rapid increases in production and relatively weak foundations. Third is the contradiction between the liberalized international aviation and poor competitiveness. Fourth is the contradiction between fierce market competition and a lack of rational supervision. These contradictions are reflected in aviation companies as the contradiction between intensive and extensive development. For one thing, companies must strengthen themselves by cultivating core competitiveness and enhancing profit-earning capability. For another, they must maintain certain development speed, prudently enlarge business scale, and expand the company within manageable limits. How to correctly handle the relationship between strengthening and enlarging is always a huge challenge for growing aviation companies. It is definitely not easy to find a balancing point. However, if this pair of contradictions is not appropriately dealt with, the consequences will be very serious.

In terms of earnings, Air China ranked ninth in the world in 2005. Looking at this rank, you should consider such factors as high taxation (for example, Air China pays four times as much as Cathay Pacific Airways in tax), high aviation oil prices (the domestic price of aviation oil per ton was about RMB 1,000 higher than the international price; Air China’s annual consumption of about 3 million tons means a total cost of around RMB 3 billion), and other factors (such as the payment of civil aviation construction fund). Were it not for these, Air China would have ranked even higher. As the profit-earning capability of Air China and its position in the industry increased, Air China has also been undervalued, doubted, and imitated like all good companies. During a period like this companies tend to neglect their control and management. However, the managers of Air China were on full alert all the time, guarding against overconfidence.

Capital is a double-edged sword. Without outstanding skills and profound internal qualities, wielding your sword unwisely is likely to hurt yourself. The means of capital is also a magnifier, which can exaggerate a company’s advantages as well as its risks. Corporate operators should cautiously handle the relationship between risk management and utilization of capital markets. A correct understanding of this and a smooth communication with investors will harmonize the relations, create a win-win situation for all interested parties, and evade negative influences on corporate risk management.