Enlightened Businesses - Part 2, Eastman Kodak
The story of a monopoly that lasted for one hundred years, enlightened treatments of workers, and how it all came crashing down.
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In this post, we follow the history of Eastman Kodak, the company that brought photography to the masses. For about 100 years, Kodak maintained a market share north of 80% in the US photographic film market. Yes, 80% market share for a century! At its peak, Kodak generated revenue of $16 billion and employed 145,000 people worldwide. Like Lincoln Electric, which we explored in the previous post, Kodak also adopted many progressive employment practices, such as profit share, a suggestion scheme, a fully insured retirement plan, and even housing support for employees. However, unlike Lincoln Electric, Kodak is remembered as an example of business failure. What happened? Why did enlightened business practices have such opposite effects? This is the focus of our story today.
George Eastman - The Founder
George Eastman was born on July 12, 1854. When he was six, Eastman’s family moved to Rochester, NY, where his father ran a successful commercial college. Unfortunately, Eastman’s father died shortly after the move, and to eke out an income, Eastman’s mother had to take in boarders. The financial situation was so dire that the young Eastman would go through the trash at Bausch & Lomb, which was then based in Rochester, to look for useful things he could sell for cash.
When Eastman turned thirteen, he began working for a local insurance agent, earning $3 a week. In 1874, Eastman became a junior bookkeeper for the Rochester Savings Bank, and by 1876, he was earning $1,400 a year. Ten years after starting work, Eastman managed to save a tidy sum of $3,600, worth $100,000 today. With that money, he began to indulge in his hobby, photography.
At the time, photography was a tedious affair. The process involved cleaning a clear, polished crystal glass with alcohol, then coating it with a mixture of ether, alcohol, gun cotton, and sundry bromides and iodines, before dipping it into a solution of water and silver nitrate. This produced a light-sensitive wet plate, which was then placed inside a camera to take the picture. After the exposure, a photographer would take the wet plate into a dark room and pour a developing solution over it to reveal the negative of the image. The wet plate was then pressed against a sheet of paper that had been covered in egg white, dried, soaked in a silver solution, and then dried again. The combination of the wet plate and paper was exposed to a light source to leave a print on the paper. This print would then be fixed using a solution of water and sodium thiosulfate and toned with a solution of gold chloride and other ingredients. The photographer would give the print a final bath before leaving it to dry. Making photography more challenging was the fact that this whole process had to be completed while the plate was still wet. Outdoor photographers needed to bring with them a portable developing station.
Early Years of Eastman Kodak
As Eastman got more involved in photography, he learned about dry plates, which were quickly becoming popular. Eastman saw the potential of dry plates and began experimenting with different emulsions in his mother’s kitchen. By 1879, he had succeeded at making dry plates and a machine to coat them. That year, he travelled to England, then the centre of the photography world, to obtain a patent for his plate-coating machine. An American patent was granted the following year.
(Credit: George Eastman Museum, gift of Eastman Kodak Company)
To start his business, Eastman turned to one of the boarders at his mother’s house, Colonel Henry Strong. Strong invested $5,000 and became a partner in Eastman’s business. In January 1881, the Eastman Dry Plate Company was founded. By the end of that year, the company was selling $4,000 of dry plates per month, and it finished its first fiscal year with a profit of $15,000.
The company’s early days were not without its challenges. One significant setback came when a batch of dry plates lost their light sensitivity due to a contaminated supply of gelatine. While the fault didn’t technically lay with Eastman, he still replaced the plates free of charge. The experience taught Eastman the importance of controlling supply. He added this lesson to his four earlier business principles: mass production at large quantities, keeping prices low, leveraging global distribution, and advertising extensively.
While dry plates provided Eastman with steady profits, he didn’t rest on his laurels. He believed that photography technology would continue to advance, and he was determined to remain at the forefront. Eastman hired chemists to accelerate in-house research and bought up promising patents developed by outsiders. In 1885, Eastman launched the photographic film. A few years later, one of Eastman’s chemists, Henry Reichenbach, developed a roll-holder system that could wound a strip of film around a spool. As an early sign of Eastman’s character, he insisted that Reichenbach received the credit for the invention.
In 1888, Eastman launched a lightweight, hand-held camera that came with a roll of film inside. When customers used up the film, they would send their camera back to Rochester, where employees would remove the film, develop the pictures, and send the camera back with a new roll of film inside. Eastman named his camera Kodak, and four years later, he changed the company’s name to Eastman Kodak. The camera’s launch was accompanied by catchy advertising, with the famous slogan “You press the button - We do the rest”. The Kodak camera was wildly popular. At one point, Eastman was worried that the company wouldn’t be able to keep up with demand and “we will be mobbed”.
Market Dominance
Eastman’s first decade in business proved financially rewarding. By 1890, the company was generating $100,000 in net income per year (worth $3.5 million today), and its return on invested capital exceeded 30%. By 1896, net income rose to nearly $450,000. An early Kodak investor, who put up $10,000, collected over $47,000 in dividends and saw the value of investment rise to $201,000 by 1898, providing a total return of 25 times over a period of fourteen years.
Throughout this period, Eastman continued to invest in the business. In 1891, the company opened the Kodak Park, a giant facility that produced Kodak’s photo-sensitive products, including film and papers. In 1895, Kodak manufactured its 100,000th camera. At the same time, the company expanded abroad, opening its first overseas manufacturing facility in Harrow, England, in 1891. Europe had local competitors, but Kodak carved a strong position for itself. The company’s French representative was the court photographer for Napoleon III, and Kodak was awarded a diploma by the Société Genévoise de Photographie. Similar recognitions in Russia, Germany, Austria, and other countries followed.
Kodak distributed its products through photography specialists, retail outlets, and drugstores. Many distribution arrangements were exclusive, but because Kodak had the best brand and the cheapest products, all parties concerned were happy. This exclusive arrangement was a formidable barrier to entry, and combined with economies of scale in manufacturing, Kodak came to dominate the camera and photographic film market. This dominance soon attracted the attention of the Anti-Trust Division of the US Department of Justice. Had it not been for the outbreak of World War I and Kodak’s role in supporting the war efforts, the company might have ended up like Standard Oil. After the war, Kodak settled with the US government and made several minor divestments, but its market dominance was unaffected. This dominance proved incredibly durable. In 1976, Kodak accounted for 90% of the film and 85% of the camera sales in America. It’s likely that for 100 years, Kodak maintained a market share north of 80%.
Employee Welfare
Eastman was a complicated man. For a time, he supported the National Eugenics League, but he also made substantial donations supporting education for African Americans. He was deeply suspicious of unions but made Kodak a model employer. What’s undeniable, though, was Eastman’s generosity. His philanthropy included support for the Massachusetts Institute of Technology, Rochester City Hospital, and the Children’s Dental Clinic. He was equally generous towards his workers. Eastman’s biographer, Carl W. Ackerman, wrote that Eastman had long believed that “brains were more important than patents, machines, money, monopolies, or processes.”
Eastman shared the financial success of his company with his workers. In 1899, he gave Kodak executives and employees $178,000 in awards (worth just under $7 million today) and loaned money to other executives to help them buy shares in the company. In 1911, he endowed an employee welfare fund by donating $1 million of Kodak shares (worth $30 million today). In 1912, Kodak started a profit-sharing plan linked to the company’s dividends. Employees with five years of service would receive a bonus of 10% of their annual salary. In 1913, Kodak introduced a Suggestion Scheme whereby employees would receive a reward of up to $1,000 for practical ideas that the company adopted. In 1921, the Eastman Savings and Loan Association was established to help fund affordable housing for workers. In 1929, Kodak introduced a pension plan that was contractual, non-discretionary, and fully insured.
George Eastman died in 1932 at the age of seventy-seven. Prompted by his declining health, he committed suicide. Before then, he had transferred the company’s day-to-day management to his successors. In 1925, William Stuber became Kodak’s President, while Frank Lovejoy became the General Manager. Both Stuber and Lovejoy were deeply committed to the enlightened employment practices that Eastman established.
Complacency and Bureaucracy
For the next few decades, Kodak continued to prosper by following Eastman’s original strategy. The company benefited from the general rise in prosperity and people’s search for expression. By the early 1980s, sales exceeded $10 billion. With this financial success, complacency and bureaucracy also crept in. Alecia Swasy documented Kodak’s culture in her book Changing Focus:
“It was a gentle world for Kodak employees because Kodak was the unrivalled king of world photography. Its virtual monopoly on photographic film meant managers simply had to make sure the production machines were running twenty-four hours a day. In the early 1980s, one young employee was told: “You may think of this as a corporation, but it’s really more of a country club.” Managers golfed in the afternoons. Even the CEO dozed off during business reviews.”
With so much profit coming from its film business, Kodak could afford to throw money at problems. For instance, Kodak had a policy that when travelling, all company documents had to go in the carry-on luggage rather than the checked-in luggage. If the documents were too big to fit in the overhead locker, Kodak would buy an extra seat just for the documents. There were few checks on spending at any level of the company, and most managers never saw financial reports, even for their own divisions.
Employee evaluation mattered little. Promotions were triggered when someone higher up retired, and underperforming employees were rarely let go. This created bloat and bureaucracy that could have rivalled a government agency. Pre-meeting meetings were held to avoid confrontation, while all speeches were prepared by the in-house writing service.
The first sign of threat came in the 1940s. Edwin Land had developed a method of instant photography that didn’t require any chemicals or processing for the film. He tried to sell his idea to Kodak, but the company rebuffed him. Land went on to develop the camera himself, which became the Polaroid camera. The Polaroid camera was a huge commercial success, and it took three decades for Kodak to respond with its own instant camera. Polaroid sued Kodak for patent infringement, and after a lengthy legal battle, the court sided with Polaroid. Kodak was ordered to pay damages of $925 million.
Decline and Demise
Kodak’s demise has often been attributed to its failure to adapt to digital photography and smartphones. However, an earlier change was just as consequential. For many decades, Kodak’s extensive distribution network, often on an exclusive basis, was a formidable barrier to entry that helped the company maintain a near-monopoly position in the photographic film market in the US. However, in the 1970s and 1980s, large retail chains like Walmart and Costco began to change where consumers purchased their goods. Those large chains had greater bargaining power and stocked products from Kodak’s competitors. One of them was Fuji Film, the leading photographic film business in Japan. Like many Japanese manufacturing businesses, Fuji Film was highly efficient. In the US, its photographic film was 20% cheaper than Kodak’s.
Kodak’s management did not believe American consumers would switch from Kodak to a Japanese company. However, they would have benefited from keeping Eastman’s business principles in mind: keeping prices low. Between the 1970s and 1990s, Fuji Film steadily ate into Kodak’s market share. Over this period, Kodak’s US market share declined from 90% to 70%. Many management teams would be glad to have a 70% market share, but in a market that was mature and was facing imminent disruption from digital photography, that position looked a lot less appealing.
The story of Kodak and digital photography has been told many times. Famously, it was a Kodak engineer, Steven Sasson, who created the first prototype of a digital camera. However, the narrative that Kodak fell for the Innovator’s Dilemma and didn’t develop digital photography out of the fear that it would cannibalise its profitable film business was simply false. Kodak invested billions of dollars into digital photography and produced very good digital cameras. The reality was that under pressure from Fuji Film and facing the threat of digital photography, Kodak’s management lost the plot.
As pressure mounted, Kodak’s management resorted to layoffs to cut costs. That was a big shock for a company that had rarely laid off workers for decades and treated employees with an indoor golf course, movie theatre, and bowling alleys. In 1983, Kodak offered a voluntary retirement plan, which 5,000 employees took up. In 1986, a brutal layoff saw 13,000 employees lose their jobs. Another round followed in 1989, which reduced headcount by 5,000. In 1993, 2,000 people from Kodak’s research department were let go. In 1995, Kodak announced another round of layoffs for 10,000 employees. With the constant threat of losing one’s job, it wasn’t a surprise that employee motivation and productivity suffered.
The next mistake management made was excessive diversification. Under pressure to find new revenue streams, Kodak expanded into different markets. Kodak started with office copiers, but early attempts were unsuccessful. One model came with a fire extinguisher inside because the copier had the tendency to catch fire. Kodak then explored opportunities in agriculture and animal nutrition before aborting those efforts. In 1986, Kodak introduced a new product line of lithium batteries for its disc and instant cameras. Management wanted Kodak to become a leading battery company, but the quality of its batteries was poor, resulting in frequent product recalls. In 1988, management decided that Kodak should become a pharmaceutical company. It was the white knight in a hostile take-over of Sterling Drug, eventually acquiring the company for $5.1 billion. However, soon after the takeover, most of Sterling’s senior management left. Five years later, Kodak sold Sterling to Sanofi for a third of the purchase price.
Diversification distracted the management team from Kodak’s core business. In a literal example, Kodak’s CEO fell asleep during a meeting with Bill Gates. In 1993, Kodak’s board hired the company’s first outsider CEO, George Fisher, who had a successful spell leading Motorola. Fisher sold Kodak’s non-core businesses and refocused the company on imagining and film. Fisher managed to steady the boat, but by then, the challenge of digital photography was too much for Kodak to overcome. While the company made very good digital cameras, it couldn’t find the right business model to replace the profit from the film business. The advent of smartphones was the final nail in the coffin. In 2012, Kodak declared bankruptcy.
Kodak’s final demise is best illustrated by what happened to Ofoto. In 2001, Kodak acquired Ofoto, an online photo-sharing website. In someone else’s hands, Ofoto might have turned into Instagram or Facebook. However, under Kodak, Ofoto became a website where people could go to get their photos printed. In April 2012, when Kodak declared bankruptcy, it sold Ofoto for $25 million. The same year, Facebook became a public company, valued at over $100 billion, and acquired Instagram for $1 billion. Today, people take and share more photos than ever, but for most of us, the “Kodak Moment” is just a distant memory.
Verdict on Enlightened Employment Practices
There were many similarities between employment practices at Lincoln Electric and Eastman Kodak. Both companies offered well-paid jobs, profit share schemes, and employee benefits that were ahead of their times. So why did those policies have the opposite impact on the companies’ long-term success? The answer had to do with why they introduced the employment practices.
Lincoln Electric operated in a competitive industry with larger rivals like Westinghouse. Its employment practices were designed to enhance the company’s productivity and competitiveness. Rewards were linked to performance, job security was contingent on flexibility and mandatory overtime, and underperformance was not tolerated. James Lincoln’s quest was to get his employees to want to succeed as much as he did, and he believed that a well-designed incentive management system could raise productivity by more than the increase in labour costs. In other words, enlightened employment practices at Lincoln Electric led to a lower unit labour cost and contributed to the company’s competitive advantage.
In contrast, Kodak was profitable from its early years. Thanks to novel innovation and clever business strategy, Kodak became a monopolist and generated supernormal profits. Kodak’s progressive employment practices were born out of Eastman’s desire to share the financial upside with employees. This might be noble, but it can also spell trouble. Niceness and sympathy meant hard decisions were not made. Underperforming workers were kept on because managers didn’t want to fire them, and that a few extra employees didn’t make a dent in profits. In short, supernormal profits were shared with employees in the form of benefits, high pay, or lower performance expectations without a corresponding increase in productivity. Over time, they became ingrained in the culture, and the unit labour cost became structurally higher. When Kodak was making supernormal profits, higher costs were hidden, but when the supernormal profits evaporated due to market and technological disruptions, the higher unit labour cost became evident, and Kodak found itself at a competitive disadvantage.
When it comes to how to treat employees, being ethical doesn’t mean being nice. Rather, managers should create culture, policies, and incentives that maximise the potential of their workers. The corresponding increase in productivity can be shared between workers, customers, and shareholders, so that workers benefit from higher pay, customers benefit from cheaper products, and shareholders benefit from lower unit costs and higher profits. This is the only way to create a win-win scenario.
Sources:
Sanford M. Jacoby, Modern Manors, Welfare Capitalism Since The New Deal, Princeton University Press, 1997
Alecia Swasy, Changing Focus, Kodak and the Battle to Save a Great American Company, Times Books, 1997
Carl W. Ackerman, George Eastman, Founder of Kodak and the Photography Business, Beard Books, 2000
Scott D Anthony, Kodak’s Downfall Wasn’t About Technology, Harvard Business Review, 2016
The Economist, The last Kodak moment? 2012