Charles G. Koch is the chairman and CEO of Koch Industries, the largest privately-held company in the world. He developed a unique management philosophy called Market-Based Management (MBM) that is based on principles of economics, ethics, and the science of human action. MBM focuses on five dimensions: vision, virtue and talent, knowledge processes, decision rights, and incentives. It emphasizes applying knowledge to create value, distributing decision-making authority based on comparative advantage, and incentivizing long-term value creation over short-term gains. Koch Industries has seen tremendous success by implementing MBM principles across its diverse set of businesses over several decades.

1. Some Impressionistic takes from the book
Charles G.Koch’s
“The Science of Success”
by Ramakrishnan ( Ramki)
ramaddster@gmail.com

2. About the Author
Charles G. Koch is Chairman of the Board
and CEO of Koch Industries, Inc., a position he
has held since 1967. Since then, the company
has been transformed into a dynamic and
diverse group of companies in refining and
chemicals, fibres and polymers, commodity
and financial trading, and forest and consumer
products.
Familiar Koch company brands include STAINMASTER carpet,
LYCRA spandex, Quilted Northern tissue, and Dixie cups. Koch has
continuously supported academic and public policy research
(including numerous Nobel Prize winners) for more than 40 years,
and has helped build a number of market-based organizations. Koch
received a bachelor's degree in general engineering and two
master's degrees—in mechanical and chemical engineering—from
the Massachusetts Institute of Technology

3. Backdrop
Today, Koch is chairman and CEO of the largest privately-held company in the world, with
80,000 employees in 60 countries and annual revenues greater than Microsoft. It is still in
the oil business, but has added pipelines, refineries, jet fuel, and asphalt to its
capabilities…along with fertilizer, chemical technology, commodities trading, municipal
finance, ranching, carpet, spandex, and toilet paper.
How did Koch achieve such phenomenal success—multiplying its book value 2,000-fold in
the course of 45 years, outpacing even the S&P 500 index by orders of magnitude—with
what seems to be an irrational hodge-podge of businesses? He took the analytical mind-set
he developed as an engineer, dedicated himself to intense study of some of history’s
greatest free-market economists, crafted his own system of Market-Based Management,
and set out to drill that philosophy into all of his employees.
Forty years ago, Charles Koch returned
home to Wichita, Kansas to take the reins
of the oil and gas company that his father
had established and was threatening to
sell.

4. Prelude
What is behind the success of Koch companies? It is Charles Koch’s unique and
transformative management philosophy Market-Based Management.
Developed by Charles Koch, chairman and chief executive officer of Koch Industries,
Inc., MBM ( Market based Management) is defined as a philosophy that enables
organizations to succeed long term by applying the principles that allow free societies
to prosper.
As MBM became the foundation upon which Koch companies grew, the challenge of
sharing it internally and externally led to the creation of "The Science of Success."
In the book, Mr Koch presents the evolution of Koch Industries and the "Science of
Human Action" upon which MBM is based. He also provides a systematic view of MBM
at work within Koch companies by outlining five dimensions:
 Vision,
 Virtue & Talent
 Knowledge process
 Decision rights
 Incentives.

5. “ The solution of the economic problem is a voyage of
exploration into the unknown, an attempt to discover new ways
of doings things better” by F.A.Hayek

6. Market Based Management
What is MBM
 MBM is a holistic approach to management which integrates theory &
practice
 It prepares organizations to deal successfully with challenges of growth &
change
 It is rooted in the Science of human action
How ?
 Best achieved through purposeful behaviour
 It draws on the disciplines of Economics, Ethics, Social Philosophy,
Psychology, Sociology, Biology, Anthropology ( study of humanity),
Management, Epistemology ( means of acquiring the knowledge) and
Philosophy of science
 Draws lessons learned from successes & failures of humans to achieve
peace, prosperity & social progress.

7. MBM- Through five dimensions
Vision
Virtue & Talents
Knowledge Processes
Decision Rights
Incentives
M
B
M

8. Vision
Vision is about “ determining when &
how your organization can create the
greatest long-term value “
Creative destruction
 Destruction of existing structures is
a need to promote innovation &
economic growth
 Drive the creative destruction
internally which will enable
constructive change, if not you are
out of business
Is your vision based on your competitive advantages? Will it
generate significant value for customers and society?

9. Virtue & Talent
Virtue & Talent— Helping ensure that
people with the right values, skills,
and capabilities are hired, retained
and developed
Here, Koch embraces Friedrich
Hayek’s rules of just conduct, which
include both the rule of law and
norms of behaviour. One of the
guiding principles of MBM is
10,000% compliance—100% of
employees complying 100% of the
time
Do your people possess the virtue & talents necessary to
advance your vision ?

10. Virtue & Talent
 KII’s core capabilities are “market-based management,
innovation, operations excellence, trading, transaction
excellence and public sector” participation.
 KII’s core values parallel economist F. A. Hayek’s proposed
societal “rules of just conduct,” which the company
incorporates in its “MBM guiding principles.”
 They are:
 “Integrity” – KII staff must honor all laws and regulations
and operate honorably.
 “Compliance” – KII’s goal is “10,000% compliance,”
which means 100% of the company’s employees comply
with all rules and regulations 100% of the time.

11. Virtue & Talent
 “Value creation” – KII is in the value-creation business.
 “Principled entrepreneurship” – Workers at KII need to be
moral risk-takers. They should exhibit these traits and
characteristics: “urgency, discipline, accountability, judgment,
initiative,” and “economic and critical thinking skills.”
 “Customer focus” – KII’s customers determine its success,
and KII employees must satisfy customers at all times.
 “Knowledge” – KII’s people should always strive to learn and
share information.
 “Change” – KII staff members must embrace constant flux.
 “Humility”– KII workers must be modest.
 “Respect” – Regardless of rank or position, KII employees
treat others with respect.
 “Fulfillment” – When KII staffers create superior value, they
gain gratification as valued members of the company.

12. Knowledge & Processes
Knowledge Processes — Creating,
acquiring, sharing, and applying relevant
knowledge, and measuring and tracking
profitability
In one case, a failing Koch company
discovered that 60 % of the volume of one
product sold to a few large customers
generated only 20% of the profit. With this
knowledge, the sales force switched its
focus away from these large customers to
the smaller, more profitable customers.
What systems do you have to discover how your
employees and practices can become more profitable?

13. Decision Rights
Decision Rights — Ensuring the right people are
in the right roles with the right authority to make
decisions and holding them accountable
Koch makes a compelling case for private
property rights, pointing out that when people
own a resource, they both realize the benefits
and reap the
costs of consuming it. Where there is no
ownership (e.g., the oceans), the consumers
realize the short-term benefit without paying the
cost, and thus the resource is often depleted.
Do you base authorities on a job title or on an employee's
comparative advantage and proven ability to create long-
term value?

14. Incentives
Incentives—Rewarding people according to the
value that they create for the organization
Koch stresses the importance of aligning each
employee’s individual interests with the overall
interests of the company. He also labels
conventional compensation systems—with their
automatic raises and pay classification scales—
as “destructive.” At Koch, employees are
compensated based on the value they add to the
company.
Is employee compensation based on time in the
organization and job title, or is it based on evidence of long
as well as short-term value creation ?

15. Incentives Knowledge
Processes
Decision Right
Ease of comparison
affects cost of
monitoring &
providing Incentives
Decentralization
enables use of local
knowledge , but may
inhibit coordination
Motivated workers generate more knowledge
With more
knowledge ,
monitoring is easier,
and incentives are
provided more
effectively
Interaction between Incentives , Knowledge & Decision right

16. Points which really hit home
 Opportunity Cost – Surely
everyone knows that an
opportunity cost is “the cost
of the best alternative
forgone to do something.”
Koch stresses how this
simple principle is under-
utilized in most companies,
and that by paying close
attention to the opportunity
cost of EVERY action,
companies can be sure to
work on the most valuable
thing.

17. Points which really hit home
 Comparative Advantage – Here,
Koch reiterates the idea that each
person should do what adds the
most value. This builds on the idea
of opportunity cost saying that
appropriate distribution of tasks
causes people, teams, divisions,
and companies to work on what
they do best and not forgo their
comparative advantage. Doing this
all the time at all levels ensures
minimal waste.

18. Points which really hit home
 Decision Rights – This term is used as an analogue to “property
rights.” By distributing the “ownership” of decision making
privileges in the same way that property might be distributed,
decision makers have clear responsibility for decisions they make.
This means that they will reap all of the benefits for good
decisions as well as the repercussions of bad decisions. Allowing
a person’s decision rights to grow based on how well they use
them makes more sense than allowing them to grow based solely
on seniority or rank.
 Appropriate Incentives – Finally, Koch describes how incentives
are put in place to encourage long-term growth and value
creation. A quote I particularly liked was that a company should,
“take from each according to their ability and give to each
according to their contribution.” Thus, incentives are firmly rooted
in how much an employee actually contributes rather than being
fixed to seniority, rank, or title.

19. Points which really hit home
 Principled Entrepreneurship – Koch suggests rating
performance not just on contributions but also on missed
contributions. Hence, if an employee misses an opportunity
to make $1 million, that should be judged as if the employee
lost $1 million by failing in any other way. This encourages
employees to take prudent risks and remain entrepreneurial
at all times.

20. Can MBM work for you
 For-profit, nonprofit and governmental organizations can apply the
MBM system to achieve their objectives and to operate more efficiently.
MBM will not work if you do not apply it properly.
 Success depends on understanding MBM, something that is not always
easy for busy executives because much of it is theoretical and because
it draws from a wide selection of mental models. Such understanding
depends, in part, on self-directed change – which is always difficult.
 Executives who approach MBM as a series of specific steps to follow
misunderstand the system. MBM is a conceptual framework that relies
first on strong self-knowledge and then on a menu of mental models.
 If you correctly apply its helpful tools, MBM can perform brilliantly. Think
of MBM as a holistic collection of general rules that help employees
effectively challenge standard or bureaucratic operating procedures.
 Well deployed, MBM functions as a robust innovation machine. It spurs
discoveries that result in creating new value

22. Take Away
 Koch Industries Inc. (KII) is a profitable corporation in energy, paper goods
manufacturing, retailing and other industries.
 CEO Charles G. Koch’s “market-based management” (MBM) drives KII’s
success.
 MBM is a conceptual system using “mental models,” not a series of rules or
procedures.
 MBM is based on the “science of human action”: how people achieve goals
through purposeful behavior.
 Koch applied knowledge from science, history, philosophy, economics and
psychology to create MBM.
 MBM’s core aspects are: “Vision, Virtue & Talents, Knowledge processes,
Decision rights, and incentives.”
 KII considers opportunity costs – profits forgone due to failure to seize a
prospective investment – as actual book losses.
 KII employees use MBM mental models to organize and interpret information.
 For MBM to work, companies and employees must embrace constant
change.
 MBM accepts and manages change and so it will always be a work in
progress.

23. Happy Reading, Learning & Application
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ramaddster@gmail.com