Case Study – AES Corporation Free Essay Example

Dennis Bakke, the CEO of AES, a company that develops, builds and operates electric power plants, sat in his office late in 1996 and thought about the question that was perennially posed to him: could AES, soon to have some 25,000 people located literally all over the world following a recent purchase of power plants in Kazakhstan, continue to operate with virtually no staff functions and, specifically, without any human resource staff anywhere in the corporation? The absence of centralized staff — or, for that matter, much staff at all — had been one of the themes guiding the design and operation of the corporation since its founding.

The company, in addition to having no personnel department, had no public relations, legal, environmental, or strategic planning departments. Its chief financial officer, Barry Sharp, saw his job not so much as running a centralized finance function but rather as helping all the AES employees as they made important decisions about financing and investments in a very capital intensive business.

But the company was becoming much larger and increasingly geographically dispersed. Perhaps those early decisions needed to be rethought. Could what worked for so long continue to work as the corporation grew and operated increasingly on a global basis? Could the advantages of flexibility and having virtually every employee feel responsible for almost all aspects of the corporation’s operations continue to outweigh the costs of an absence of specialization and the need to have people always learning new tasks and new things? Was this continuous learning of new things really a disadvantage at all, or as Bakke thought, how one created a real “learning organization?” What Bakke recognized was that AES was different from most other corporations.

How different should and could it remain?

And if it remained different, how should it deal with the strains that growth and geographic differentiation would inevitably place on an organization that had always been managed by a strong set of values and a shared culture? This case was prepared by Professor Jeffrey Pfeffer as a basis for class discussion rather than to illustrate either effective or ineffective handling of an administrative situation. Support for this case was provided by the Human Resources Initiative of the Graduate School of Business. The author would also like to acknowledge Robert Waterman for his introduction to the company.

BACKGROUND AND HISTORY AES (originally called Applied Energy Services) was founded in 1981 by Roger Sant and Dennis Bakke. Originally supplying consulting services to the energy industry, the company began operating its first power plant in Houston in 1986 and went public as AES in 1991. By the end of its 1995 fiscal year, AES was selling electricity to customers in the United States, England, Northern Ireland, Argentina, and China, and had plants under construction in Pakistan. A list of AES operating facilities, their size, and fuel source, is provided in Exhibit 1. The company saw itself as “the global power company” and had as its mission “supplying electricity to customers world-wide in a socially responsible way.”‘

The electric power generation business has always been very competitive and the competition was increasing. Many subsidiaries of large oil and gas companies, organizations with substantial financial resources, were entering the business. The business was also complex. Building or purchasing existing power plants was a process that was heavily influenced by governmental decisions and actions, and often took two to four years at least to complete. AES owned and operated its plants under a number of different financial arrangements. Some plants were whollyowned by AES. Others were owned under various joint venture arrangements. For instance, the Medway plant in England was joint venture between AES and two privatized British utilities, Southern Electric and SEE-BOARD.

The plant in San Nicolas, Argentina was owned by a partnership in which AES held 70% interest and Community Energy Alternatives, Inc. and the people at the plant held the rest. AES’s operations in China were conducted by a separate subsidiary, AES China Generating Company Ltd., that was capitalized in February, 1994 with funds from AES and an initial public offering. The company was traded on the over-the-counter market, but recently AES had announced plans to purchase the interest in the subsidiary it did not own. Thus, financing and ownership arrangements were varied and often required protracted negotiations and the ability to work with a number of different partners. Most of the growth in demand for electricity, as well as most of the privatization opportunities, were occurring in developing or emerging economies and three-quarters of AES’s development people and financial resources were focused on those markets in 1996.

AES saw as its competitive advantage against larger and better financed competitors its agility or speed and its ability to commit corporate equity and to arrange complex financial transactions. It also had some “disadvantages,” particularly its emphasis on integrity that precluded the company from doing some things to obtain business that not all of its competitors were as reluctant to do. The company’s two founders both had extensive experience in government prior to founding AES, and to some extent this helped steel their determination to avoid creating a bureaucratic organization resembling the government.

Bakke, a 1970 MBA graduate from Harvard Business School, had worked following graduation at the Department of Health, Education, and Welfare and then in the Office of Management and Budget before moving to the Mellon Institute’s Energy Productivity Center in Washington, D.C. There, he and Sant, another Harvard MBA who had headed the Ford administration’s energy conservation efforts, worked together and AES 1995 Annual Report, p. 1. wrote a book, Creating Abundance: America’s Least-Cost Energy Strategy. Out of the research for that book and their work on energy policy for the Ford and Carter administrations came the idea to start AES as a participant in the new independent power producer industry. Both Bakke and Sant are individuals with strong moral convictions and indeed both have a touch of the missionary in them. Bakke is very active in both charitable and Christian church (Baptist) activities.

This social conscience and sense of a higher purpose or calling has pervaded the operation and management of AES since its inception. For example, Bakke’s description of the purpose or mission of AES is “to steward resources to meet the needs of society.” 2 From the beginning, AES has had a strong set of core values and beliefs about people that it works hard to operationalize on a continuing basis. The four core values are: Integrity … Integrity comes from the Latin word, `integra,’ which means `wholeness.’ By carefully weighing all factors–ethical concerns, stakeholder interests, and societal needs–AES strives to act with integrity in all of its activities. Fairness . . . the term `fairness’ means `justice.’ Often `fairness’ is confused with `sameness’ … We don’t mean that. AES aspires to give everyone special treatment. Everyone is unique … And the effects of treating people justly in corporate systems and organizations can be profound.

Social responsibility. The most socially responsible thing a corporation can do is to do a superb job of meeting a need in society. Therefore, companies must carefully manage capital, employees and intellect to meet a societal need. For AES, the first step in this process is to ensure that every generating plant is operated in a clean, reliable, safe, and cost-effective manner. But we have chosen to go beyond these essentials … That is why we plant millions of trees to offset carbon dioxide and build new schools and take numerous other steps to improve our environment and build communities. Fun … For us, `fun’ means establishing an environment in which people can use their gifts and skills to make a difference in society without fear of being squelched. Creating a fun workplace environment requires a positive view of humanity that begins with the people who work in the corporation.3 AES also has a set. of core assumptions about people that it tries to use in designing and managing its organization. These assumptions are that AES people: 1) Are creative, thinking individuals–capable of learning and making decisions, like to control their environment and can be trusted; 2) Are responsible–can be held accountable;

An important element of AES is its commitment to four major “shared” values .. . AES believes that earning a fair profit is an important result of providing a quality product to its customers. However, if the Company perceives a conflict between these values and profits, the Company will try to adhere to its values–even though doing so might result in diminished profits or foregone opportunities. Moreover, the Company seeks to adhere to these values not as a means to achieve economic success, but because adherence is a worthwhile goal in and of itself The Company intends to continue these policies after this offering.s To AES, simply maximizing profits is not the primary objective of the corporation. Dennis Bakke has written: Where do profits fit? Profits . . . are not any corporation’s main goal.

Profits are to a corporation much like breathing is to life. Breathing is not the goal of life, but without breath, life ends. Similarly, without turning a profit, a corporation, too, will cease to exist. . . . At AES we strive not to make profits the ultimate driver of the corporation (although I admit we slip from time to time in this regard). My desire is that the principles to which we strive would take preeminence.6 AES operationalizes its values and its commitment to them in myriad operating policies and practices.

An example, drawn from a common stock offering prospectus in 1993, helps to illustrate how the company turns its values into actions: Most of the Company’s plants operate without shift supervisors. The project subsidiaries are responsible for all major facility-specific business functions, including financing and capital expenditures…. Every AES person has been encouraged to participate in strategic planning and new plant design for the Company. The Company has generally organized itself into multi-skilled teams to develop projects, rather than forming `staff’ groups … to carry out specialized functions.

Two examples illustrate these principles of decentralization and empowerment in action. Most financial decisions at this financially-leveraged company are not made by the chief financial officer, Barry Sharp, but rather by AES project teams comprised largely of people with no formal training in finance. For instance, “hard as it is to imagine, CFO Sharp has raised less than $300 million of the approximately $3.5 billion of funding for AES’s 10 power plants. The multidisciplinary project team working on each new plant is charged with that task, even if the team has little finance experience. Bankers phone Sharp expecting him to call the shots, but he demurs and instead gives the bankers a list of the team members so the bankers can call them directly. At the AES plant in Thames, Connecticut, a task force including front-line people invest the plant’s debt reserves, negotiating directly with investment bankers and, in the process, learning a lot about finance and financial markets.

Pam Strunk, the financial superintendent at the plant, said that it was important that “they have the fun and novelty of doing something that’s different from what they do all day. If we lose 100 basis points for a few days, then that’s the price we pay.” 8 Another example comes from a description of how the corporation built a $404 million project in Cumberland, Maryland. The project took ten years to put together and was handled by a team of 10 people who “secured 36 separate permit approvals involving two dozen regulatory agencies and arranged financing that involved tax-exempt bonds and 10 lenders. Normally, such projects require hundreds of workers, each with small specific tasks to perform

within large corporations.”9 What is particularly noteworthy is the composition of the team. With two exceptions, they were all under 40 years old and many had little or no previous experience doing what they did on the project. Paul Burdick, a mechanical engineer with no MBA or any formal training in finance, handled the complex financing of the project. Ann Murtlow, the team leader, was a thirty-five year old chemical engineer who also did not have an MBA degree. The composition and operation of the team illustrates a core AES concept of allowing people to try new things. Although eschewing the pursuit of profits or maximizing shareholder value as the primary objective of the company and, in fact, doing numerous things to operate according to the four core values, the company has nonetheless been very financially successful.

As seen in Exhibit 2 using data drawn from its 1995 Annual Report, the firm enjoyed a 105% growth in revenues between 1991 and 1995 and during that period grew its earnings per share more than 113% while its total assets grew almost 70% and its shareholders’ equity grew 289%. The annual report also illustrates some other unique things about the company and how it views itself. The document lists by name each of the 1,258 people who work for the company on pages 49-53.

The discussion of operations in the letter to the shareholders has, as its first section, one on Shared Values/Principles. That section reported on the results of the annual employee survey and discussed both improvements (“there is less concern this year about an imbalance between shareholder and other stakeholder interests. There is also less fear that our principles will erode as we create businesses in many nations”) as well as problems (“Some of our people at Thames .

In eight years, the value of a share of AES stock went from $2 to $250, and $10,000 invested in AES in 1982 would now be worth $10 million. In late 1996, the company’s shares were near an alltime high and were selling at a multiple of about 30 times earnings, indicating that Wall Street appreciated — even if it did not always fully understand — at least the financial aspects of the AES story. THE THAMES, CONNECTICUT PLANT Although no plant at AES is exactly like any other, in part because of the value placed on decentralization, the operation in Connecticut is typical of AES. The Thames plant is located in Uncasville, Connecticut, near New London, and about 45 minutes from Providence, Rhode Island. The plant is located on only seven acres and is in close proximity to neighboring houses.

The plant cost $260 million to construct and uses coal for fuel. It began commercial operations in March, 1990, supplying 181 megawatts of electricity to Connecticut Light and Power and up to 100,000 pounds of steam per hour to Stone Container’s paper recycling plant that is adjacent to AESThames. The plant has operated on average at over 95 percent of capacity since it opened, compared to 83 percent for the industry as a whole. Consistent with the AES value of social responsibility, the plant strives to be a “good neighbor” to those living nearby. A visitor to the plant is immediately struck by its cleanliness, and the people who work in the plant are proud of its appearance. The walls of the plant exterior are very light colored (off-white), so that any dirt would be immediately visible.

The color of the walls was intentionally chosen to encourage respect for the physical environment and cleanliness. The place where the coal is unloaded from the barges that bring it up the Connecticut River is also immaculate. The coal handling system is covered to avoid excess dust or debris getting into the surroundings and the unloading dock and surrounding area is swept by a mechanical sweeper after the once a week delivery. There is no smell of sulfur in the air, and in fact, no odor at all. The attitude of cleanliness extends inside the plant as well. For instance, there are two “lunch rooms,” although both have stoves, and one has a microwave oven, cooktops, refrigerator, and  dishwasher as well, which makes them more than a typical plant eating area. Quite elaborate meals are cooked there. Both lunch rooms are clean with no dirty dishes sitting around. The cabinetry is of excellent quality and appearance as are the appliances. The turbine rooms are also immaculate. In keeping with AES’s social responsibility and concern for the environment, the AES Thames plant has funded a project to plant 52 million trees in Guatemala, designed to reduce the greenhouse effect produced by the burning of coal to produce power.

The number of trees was selected based on estimates of the number required to absorb the entire amount of carbon dioxide produced in the plant during its anticipated 40-year life span. In the fall of 1996, Thames employed a total of 59 people, including five in adininistration, seven area superintendents, nine in maintenance, five in material handling and processing, eight instrument and electrical repair technicians, and 20 operations technicians. The full staffing level for the plant is 63 positions, and hiring was occurring at the time. A number of the plant’s employees had previously worked either for the Navy or General Dynamics at the nearby Groton, Connecticut shipyard. About 20% of the people in the plant have college degrees, including Associate’s degrees. Recall, these are the people that are handling the investment of the plant’s debt reserves of several millions of dollars and essentially making all of the decisions in a collaborative environment.

There is very little emphasis on formal credentials in the hiring process. And this is true throughout AES. The company has about twenty to thirty MBAs, many of whom have been in the company a while. Most have come from their home (non-U.S.) countries. At AES, no one gets hired into the company at a senior level, and the company tends not to use headhunters for jobs at any level. The company also has tried not to hire directly into project director (new development) positions. AES-Thames has an extremely low turnover rate, as does AES generally. One of the reasons for the low turnover is that AES is a different and special place and people know it and value that fact. To be written about in the Wall Street Journal and other publications, to receive many visits, reinforces the pride and feeling of uniqueness that AES people share.

People do often move within the company. Out of perhaps 70 people who were in the Thames plant when it began, only 4-5 people have left the company in seven or eight years. The low turnover is also because, as one person put it, “we all have the ability to expand what we do.” The plant organization has three levels — the plant manager, the seven area superintendents, and the front-line people. Because the facility operates continuously, there is some shift work. After some experimentation, people now work three twelve-hour shifts and then have three days off. They then rotate between the night and day shifts. The first shift is from 6:30 in the morning until 6:30 at night, and the second shift is from 6:30 P.M. to 6:30 A.M. Maintenance has a standard 40 hour week but the individuals have pagers, and they rotate responsibility for off-hours coverage.