Let's go very briefly out to San Francisco and we see there the chief executive of a company, I think we all know it because there are many ads that asked us to talk with Chuck Charles Schwab, a very, very large what's called discount retail broker. Most famous company historically in this category is Merrill Lynch. To make it straightforward, if you wanted to buy 1,000 shares of let's make it Cisco, can't call up the New York Stock Exchange to acquire the shares. You call up Merrill Lynch. I want 1,000 shares. Merrill says, great. At that time, cost to rent $129. Charles Schwab is a discount broker offering the same services, more efficient. A little bit like Walmart that offers high quality goods given the price point they're at very well. But they're not a high end retail store. They do something different. That's what retail brokerage here is. They're providing service that is full but more efficiently and less expensively. Such that Schwab can charge $80 for a 1,000 share purchase of a given stock. At the time David Pottruck, gentleman on the right, Chief Executive Officer, Charles Schwab himself is the Executive Chair which means he comes to work every day as a big voice at the table. But so much day to day action with 15,000 employees goes through this manager that we're looking at, David Pottruck, in his office in San Francisco. And what David has [LAUGH] begun to mull over is the fact that he had advocated that Schwab develop at that time a very simple Internet service where you can go on is called e.Schwab. Order 1,000 shares of make a Cisco and because it's the Internet now, $29. Well, who doesn't want to pay 29 when you could have paid 80? Of course, there's less there, and as the business model, if it's e.Schwab where you buy your shares, you can talk to one of the customer service experts per month. Now, if you're a full service costumer at $80, you can call him up 8 times today and I'll take the call and give you some guidance. So a little bit less expensive, quite a bit less expensive, and less service. There's a logic to that. David Pottruck, excellent manager that he is, is acutely sensitive about a past function that he has performed. He comes out of marketing, is in touch with a lot of customers as a result. Always a good idea for anybody, regardless of the kind of organization and he's hearing this. Customers are saying, David, we've got a problem because with e.Schwab we'd love to save the money about a 70% discount over $80 and you're better than some of the competition of the high end. That's true but since you've already got your customer service representatives well trained, they're expert they pull out reports, why can't we talk to more? Why can't we at least read their research? And David says, well look, if you want the full service you gotta pay $80, that's our business model. Well, some of the customers are saying but it says Schwab in both programs. Aren't you one company? Even more worrisome is this. Most people don't see it. David's already spotted it because he's a very analytic guy, he works the numbers. He sees that some of the customers, clever people they are, or keeping open a full service account leaving a few dollars in it, moving $995,000 into the e.Schwab account where they're doing their active trading. They got it both ways. Full service, they can talk to a customer service representative. They can get all the reports, but then they use that information to trade actively at $29. Just to borrow a well known phrase, we've got [LAUGH] cannibalism but in this case it's internal. It's not somebody eating us out from the outside as happened for example to eBay in China was really attacked directly by Alibaba, in this case we got a problem on the end side, we're cannibalizing ourselves. David turns around though and being mindful not explicitly with the eight factors they can get in a way of organizational redesign. Knows or as concluded that this company has to make a radical change. Or somebody else is going to change the company and in particular now he's worried about a bunch of young upstarts, companies that got names like E-Trade, that are full online traders, there's no bricks and mortar to go with them. And they're offering trades often at $19 a trade. Not much research. Not much behind it. But for people who are thinking about keeping a few dollars in a Schwab account, why not even go over to E-Trade. Sooner or later, with the boom of the Internet it's going to change everything as we know so well. David figures we're going to be out of business. Unfortunately, being mindful now of the factors on a prior image, he's also thinking, wow, nobody's going to want to change here because I've looked at the numbers for the last four years and we've been doing extremely well. This goes back to an earlier idea on good and timely decision making. When we're doing well, we tend to become more sub optimal in how we think about decisions. Well, David is saying, we got that problem now. We're getting 24% year on year growth in revenue. Customer assets are up 40% in the last year. Everybody is thinking, we got a great business model, don't foul it up they would say privately. Since David's Chief Executive, they probably won't say that to his face. With that being said, let's move it on now, and I'm going to ask you to think ever so briefly after you've decided your David Pottruck, gentleman in the middle of the screen, Chuck Schwab, Charles Schwab his boss to his right, both smiling. Before you say what you're about to say, Chuck is smiling because you've decided that this company has to go from $80 full service overnight on 1 day down to $29 full service. You've gotta take your product you're selling, and now imagine an airline discounting a seat from New York to Los Angeles by 70%. That's going to be a huge draw for customers, it's also going to be a huge hemorrhage in terms of money coming in. Keep that in mind. David Pottruck decides, literally, in the privacy of his office, he talks to his direct reports, about a dozen people that report directly to him as Chief Executive, he decides, tells them, informs them, ask for their guidance, of course, on how to enact the decision. He says, everybody, January 15th of the coming year, we're going to have to cut our service costs, we're going to have to cut the price of the service by 70%, got to cut our costs as well obviously by 70%. Imagine if American Airlines cut by 70% the cost of a seat from New York City to Los Angeles. Well, there be a boom in air travelers of course. Everybody can see that's a great attraction. On the other hand, you got 70% less revenue coming in to hire a pilot and put gas in the aircraft. So you're going to have to think about this on both sides. Even worse, when it comes to the way the world works, if you're a publicly traded enterprise and everybody's got a kind of a public to worry about even if you're not publicly traded, publicly traded companies are listed on the New York Stock Exchange or elsewhere. I have a particular problem and that is investors have come into you for what you've been doing and not necessarily where you want to go. And thus, David concludes that as they go to a 70% discounted full service trade, $29 per trade, January 15th the following year that the equity analysts that appraise companies. The big investors, some of the big pension funds, for example, that invest in companies, aren't going to have any confidence that this 70% cost or loss of income is somehow going to be made up for by the move that David has made. And as a result of that David Pottruck forecasts that the pretax drop in profits will be at least 20%, let's make it Apple if Apple takes a 20% sudden drop in its after tax profitability, the market's going to have a lot of negative reaction on that David forecasted as it turns out correctly here to be about 20 to 25%. The day he announced it in January 15th full trade, going to be a lot of seller orders going out. Companies investors are stampeding to get out of the stock. So he sits down and let's think about now the art of managing, that's our topic, managing people, he sits down with probably the most important person he has to manage. Oddly, his boss.
