Wal-Mart Radio Tags to Track Clothing, reported the Wall Street Journal on July 23, 2010. The giant retailer plans to use radio-frequency ID (RFID) tags in some clothing so it can keep shelves and inventory properly stocked with sizes. There are efficiencies to be had, costs to be saved, prices to be cut, customers to be thrilled.

According to the article, Avery Dennison, which makes RFID equipment, says a “pilot program at American Apparel Inc. in 2007 found that stores with the technology saw sales rise 14.3% compared to stores without the technology.” Looks like an advantage, and not inconsiderable.

Surely the 14.3% boost isn’t because customers prefer clothes with RFID tags. “Look, Ophelia, I got those jeans with an RFID tag on ‘em!” We surmise instead that American Apparel’s sales grew because customers were able to find the sizes they wanted, due to RFID-enabled systems goosing sales clerks to replenish sizes as they are sold. We’ve all had the experience of not finding our size.

Now we get to the strategically relevant point. Who gets to enjoy the 14.3% increase in sales, and for how long? Is there a first-tagger advantage, and is it worth having? Let’s think it through.

Customers aren’t going to buy more clothes because they find their size in the store. They may buy more from you, but not more overall(s). If they find their size in your store, they don’t have to look in someone else’s store. So if you get the first-tagger advantage, you may score that 14.3% increase.

As your sales rise your competitors’ sales fall. They don’t like that so they take action, possibly also adopting the RFID tagging system. Their sales recover. And your sales fall. Now the important part happens: you decide what your sales decline means.

You could conclude the first-tagger advantage is ephemeral or was oversold. You could conclude that something else has gone wrong in your stores to cause your sales to fall. You could conclude your competitors have spotted hot new trends. You could conclude that they’re simply catching up to you. The last would be reasonable and would prevent knee-jerk overreactions, and I’ve seen my clients do it by using strategy simulations to set performance expectations. But companies generally insist that results should get better, better, better, and a sales decline happens at your peril, and the short-attention-span performance reports companies use neither remember nor remark on “effects of competitors simply catching up.” So you’re going to feel some pressure and heat. (See also Do Not Overtighten and Do Something.)

Time passes. Sooner or later there is a new floor, a new baseline, a level playing field, in which pretty much everyone who could adopt the tags has adopted them. They become a part of the background in the same way that bar codes, credit cards, and electronic cash registers have. Are they worthwhile only during the time you’re the only one with the technology — the first-tagger advantage — or are they beneficial also when everyone uses them? Do they hurt when everyone has adopted them? (See also Putting the Lesson Before the Test.) That question is answerable, although we won’t answer it here. Note that the Avery study reported an increase in sales in one year; it said nothing about profit or subsequent years. (That may be due to the Journal’s reporting, not to the study itself.) The tags may be profitable if they cut costs by via fewer stock-outs, less over-ordering, and less theft. They may be unprofitable if they mostly add costs, such as equipment and systems to track the tagged items, labor to restock shelves, and higher costs from suppliers. Or they may be neutral, as prices and costs rebalance.

Ironically, the company-centric numbers we use to gauge our performance can make it appear that the benefits are better for the later adopters. The first-tagger appears to get a temporary boost; the later-taggers appear to get a lasting improvement. Translate that into performance reviews: the first-tagger decision-makers seem to have over-promised, the later-tagger decision-makers look like turn-around heroes.

So, there are two dangers in being the first one.

1. You may attract competition and thereby change the path to profits you expected to walk. A risk factor for such disappointment is whether your decision-making is done with company-centric, accounting-based spreadsheets. Recommendation: Consider how your world will look if everyone else follows you. Would you still be glad you made the move?
2. It’s easy to misinterpret the change in your results when your competitors catch up. A risk factor for such misinterpretation is whether your performance assessment looks more at effects than at causes. Recommendation: Consider what external events would have a causal impact on your results. Track those events as well as your numbers.

The best way to avoid those dangers is to think it through before you make your move. The point is not to be first, second, twelfth, or last. The point is to make good decisions.

“It’s an enviable position when you’re the only one.” — Lord Tolloller to Lord Mountararat, lamenting that he’s not the only one in love with the heroine, in Gilbert & Sullivan’s Iolanthe.

Postscript. Hmmm. 14.3% exactly equals 1/7. Could that precise percentage have come from rough estimates? I read in a terrific book, probably one of John Allen Paulos’ Innumeracy series, about the average weight of a species of hummingbird. (I’ve got the story right but perhaps not the specific numbers, so don’t quote me.) The bird’s weight was reported as 113.5 grams, which seemed awfully precise. Except that 113.5 grams exactly equals 4 ounces, and we can easily imagine someone saying “this bird weighs about ¼ pound.”

“The purpose of writing is to inflate weak ideas, obscure pure reasoning, and inhibit clarity. With a little practice, writing can be an intimidating and impenetrable fog!” — Bill Watterson (1958-), author of the comic strip “Calvin & Hobbes”

Based on a recent discussion on the Business Strategy & Competitive Strategy Forum of LinkedIn.com, many strategists must fight their way through intimidating and impenetrable fogs of strategy.

One brave warrior, weary of the fog, asked this clear, straightforward, and provocative question:

Where is the evidence that a clear strategy makes a company more likely to succeed?

Many opinions were offered. Rather than summarize and paraphrase others’, I will share mine. I’ve gently edited what I originally wrote to include stuff I should have included before and to make me look smarter now than I did then. Here we go.

That brave question is stunningly difficult to answer.

We can quickly dispense with any suggestion that clarity is enough by itself. A clear-but-lousy strategy is still a lousy strategy. Clarity might help such a strategy perform better than lack of clarity, and it might not, but even if it helps, that’s small comfort.

I worked for 15 years at The PIMS Program (Profit Impact of Market Strategy), created by the brilliant Sidney Schoeffler. SPI had a multi-year database of thousands of real-life businesses contributed by hundreds of businesses around the world. The PIMS Program was perhaps the largest, most comprehensive effort to learn what’s different between businesses that perform well and businesses that perform badly. The research succeeded. However, whether those differentiating factors were the result of clarity, strategy decisions by the business, strategy decisions by competitors, or just plain serendipity, could not be known even with that monumental effort (note 1).

I did research on the PIMS database with Prof. Robert D. Buzzell of Harvard Business School on how much of their performance-potential businesses actually achieved. The short answer: not much (note 2).  Even strategies that seem to succeed often performed worse than they could have. Our research on how much success is possible reminds us that the strategy-clarity issue begs the question of how to gauge success. Performing better than competitors? Better than targets? Better than last year? A high percentage of potential performance? A rising stock price?

Let’s not stop with clarifying success. Let’s also clarify clarity. What do we have when we have a “clear” strategy? Agreement on each person’s role in operating a strategy? Step-by-step instructions? Does “clarity” mean execution, in the sense that it’s difficult to execute an unclear strategy well?

This is getting complicated. But wait, there’s more! And don’t worry. I see, of all things, a useful bumper sticker in our future.

Back to the idea of a strategy that succeeds. My recent work on strategy analysis, using decision tournaments or decision tests, makes clear something that’s intuitively obvious though often ignored: our performance is only partly under our control. Competitors’ strategies are relevant and can be more impactful than our own. What Netscape did made a difference to Netscape, but what Microsoft did made a bigger difference to Netscape. By most measures Netscape did not succeed, but what exactly was its failure? (note 3)

I’ve conducted many business war games with companies around the world over the last 18 years. Over and over I’ve seen seasoned strategists surprise themselves with the ideas they come up with, and when they have executed those strategies they have done well. This is hopeful for the clarity question because in war games strategists test and live through their strategy decisions, leading to an unusual level of clarity and consensus. Still, cases and “experience” are anecdotal; they’re not proof that clarity matters. Plus we have a survivor-bias problem: companies with clear strategies that failed aren’t around to tell us their stories.

Which brings us full circle to why the question is so difficult to answer. It’s difficult to satisfy a request for evidence because it is extraordinarily hard to set up an evidence-based test. We have good hints (PIMS), we have simulations (decision tournaments), we have anecdotes (business war games and other stories). We also have questions about the nature of success and clarity. But as far as I know, we don’t have evidence that links clarity to success.

The bottom line: A bumper sticker

I’ve found that when one question is too hard to answer, it’s helpful to ask a different question. Remember the bumper sticker that said “If you think education is expensive, try ignorance”? In this case, the bumper sticker would be this: “If you’re not sure it’s important to have a clear strategy, try an unclear strategy.”

So, here’s the best answer I can offer. Clarity is good, but as an effect, not a cause. To me, the well-intentioned desire to cause clarity by issuing marching orders can lead unintentionally to rigidity. Clarity as an effect of rigorous strategic thinking, stress-testing, war-gaming, and the like, is more successful. I don’t have data to prove it, but at least that interpretation is consistent with my experience, analysis, and research.

If you’re not sure it’s important to have a clear strategy, try an unclear strategy. Assuming, of course, that it’s a non-lousy strategy.

Notes

1) That’s not a flaw in the design of the PIMS database or the research conducted on it. If you think about what would be required to tease apart the necessary variables — and we thought about it, a lot — you’ll probably come to the same conclusion we did, which is that it’s extremely hard to do in any practical way. Moreover, knowing why strategists did something was not the program’s objective. The objective was to know the consequences of what strategists did regardless of why they did it.

2) The methodology is too complex to describe here but it’s available in a Sloan Management Review article that Prof. Buzzell and I wrote, “Managing for Tomorrow.” See Buzzell, R.D. and Chussil, M.J. (1985) “Managing for Tomorrow,” Sloan Management Review, Vol. 26, No. 4, pp.3–14. That article also appears as a chapter in The PIMS Principles by Buzzell and Bradley T. Gale.

3) One could argue that Netscape should not have tried in the first place. On the other hand, some people did make money. AOL bought Netscape in 1998 for stock valued at $4.2 billion. (AOL received $750 million from Microsoft in 2003 as a settlement in an antitrust lawsuit.) Then again, other people lost money. Netscape was disbanded in 2003.

This is my modest contribution to a vigorous LinkedIn discussion about Twitter. I edited it slightly to make me sound smarter than I originally did. Some in the discussion argued good-humoredly that Twitter is an important new force. Others argued good-humoredly that it is a useless new farce. Both groups had copious supporting anecdotes and analogies.

As you read here, think of the arguments about competitive-strategy options you’ve heard.

Fascinating. This is fun. Thank you all. Seriously, thank you.

This is just like politics: anecdote and analogy. And, just like politics, there’s always an anecdote and analogy that supports one’s side. I happen to find one side’s anecdotes and analogies more compelling than the other side’s, but who cares? I haven’t any followers. [If you “tweet” well, you accumulate people who “follow” your every 140 characters.] I don’t tweet, therefore I am not.

Something always works, or at least seems to work, and the people who jump on its bandwagon appear prescient. Something always fails, or at least seems to fail, and the people who stay off its bandwagon appear prudent. This is why we have, and need, the scientific method.

Okay, okay, the quick movers with itchy texting fingers are groaning at the fuddy-duddy who wants actual evidence of efficacy. The lack of such evidence is why I don’t buy into, say, astrology and homeopathy. I do, however, appreciate my late grandfather’s advice: if you eat borscht for 90 years, you’ll live to be old. He missed by six months. He should have eaten borscht longer, I suppose.

But back to Twitter. I appreciate that evidence of efficacy may be hard to come by, especially if no one is collecting evidence other than the bandwidth consumed or the number of numb-fingered twitterers. I would provisionally settle for a testable causal theory that, if true, would explain why Twitter would work under X conditions and not work under Y conditions. We also have to define what it means to “work.” Boost sales? Improve the quality of decisions? Make our lives happier?

In lieu of evidence and a causal theory, I say that if you like to tweet, go ahead and tweet. You don’t need to justify it — and you cannot justify it —any more than you need to justify a preference for cabernet sauvignon over pinot noir. Recognize that the burden of proof (not the burden of anecdote) is on you if you want to convince the rest of us that we “should” tweet.

If you don’t like to tweet, don’t tweet. You don’t need to justify it either, nor can you.

Besides, who needs to be in such constant communication? But enough of that. If you’ll excuse me, I simply must check my email.

A poetic note about the lack of evidence. “I hope that while so many people are out smelling the flowers, someone is taking the time to plant some.” — Herbert Rappaport (1913-1999?).

Further reading: House, MBA and “Brain Food.”

Update, June 2010: And now I tweet, for my book Nice Start: Questions Only You Can Answer to Create the Life Only You Can Live. Follow @NiceStart.

Why “again”? Because this isn’t the first time. See also Honey, We Shrunk The Industry, published in Competitive Intelligence magazine, July/August 2009.

A business war game. Five automaker teams: Ford, GM, Hyundai, Toyota, Volkswagen. Three market segments. Two years. One set of consumer judges, one set of investor judges. Fascinating results, again.

The automaker teams were smart and they wanted to win. Yet collectively their decisions subtracted roughly $15 billion of simulated profits from the industry over two years.

It appears that company-centric financial approaches (what are our costs, how much capacity should we mothball) instead of competitive analysis (what will our competitors do, how will consumers respond) led to those problems. In effect, the automaker teams worked by the book, but the book didn’t work.

The good news: Anyone who’d gone through the war game would be less likely to make those mistakes in real life. They would have a competitive advantage.

Background

On September 30, 2009, the front line in the automobile wars could be found in a conference room at Northrop Grumman outside Washington, DC. That’s where a group of 20 strategists converged to war-game the industry. Sponsored by the Greater DC chapter of the Society of Competitive Intelligence Professionals and facilitated by me, the war-game used a simplified version of ACS’ ValueWar™ strategy simulator, customized for the auto industry.

The war-game exercise was designed to demonstrate war-gaming, not to solve the problems of the auto industry. After all, the industry’s problems took decades to build, and it would take our talented strategists more than three hours to fix them all. That said, it was fascinating to see many of the industry’s woes reenacted — and understood — in those three hours. Moreover, the strategists saw for themselves how war-gaming provides a new look at businesses people know well.

War games are not about a consultant or guru dispensing advice to eager supplicants. They are about business strategists living through future scenarios in fast forward and discovering lessons for themselves. They are about strategists making the most of their knowledge, expertise, and creativity. They are about smart people teaching themselves. War games make it possible in a way that conventional strategy development does not.

Why A Business War Game?

Business war games provide a new look at businesses we already know by having us role-play competitors and customers in addition to ourselves, by having us compete as well as compute, by having us encounter action and reaction rather than assume bigger and better. They let us explore and stress-test in a safe environment, where mistakes mean oops instead of ouch.

We can think of business war games as being the highest of three levels of competitive inquiry.

• “What do you think they will do?” This is a basic competitive-analysis question. It explicitly treats competitors as “them.” Strategists, being human, tend to view “them” as less capable than “us.” In practice, answers to this question are often extrapolations of competitors’ past actions.
• “What would you do if you were them?” This question is a major improvement because it encourages the strategist to look through competitors’ eyes. It greatly reduces wishful thinking. Brainstorming or scenario-planning programs may use this question, assuming that they explicitly consider competitors.
• “You are them. You want to win. Go!” This is what happens in a business war game. Strategists don’t only look through competitors’ eyes; they walk in competitors’ shoes. Business war games tap human competitiveness and desires to win. They make tough sparring partners out of genial colleagues. The sparring partners find the flaws in their company’s strategy just as real competitors will. And so strategies get stress tests second only to real life.

The Design Of The Automobile War Game

Teams, segments, judges, and decisions

We divided the war game participants into five automaker teams: Ford, GM, Hyundai, Toyota, and Volkswagen. For the purpose of this war game, these teams/companies competed in three USA market segments:

• Big Tough (roughly SUVs). In the game, this segment was slowly shrinking.
• Slick Style (roughly upscale sedans). This segment was steady.
• Cool Green (roughly eco-friendly vehicles). This segment was slowly growing.

Why five teams? Not to be flip, but three would have been too few for participants to experience the richness of the industry and seven would have been too many to handle in the time we had. Similarly, one segment would have been too few and five too many. Three made for manageable tasks and complexity. Of course, there’s nothing about war gaming that forces those limits. I’ve run war games with eight competitors and with ten segments, and I’ve designed simulation software that can handle dozens of competitors in scores of segments.

We had two judge teams too, representing consumers and investors. The automaker teams would find it difficult to win the war game by creating unidimensional customer-satisfaction or shareholder-wealth strategies. They would have to make real-world tradeoffs.

In addition to excluding some competitors and market segments, we excluded decisions regarding labor, pensions, healthcare, debt service, dealers, government regulations, and suppliers.  We did that for reasons of time and complexity. For the same reasons we limited the game to decisions for pricing, marketing, production, and capacity. That may sound like a short list — real business war games may allow strategists to work with many strategy levers — but it was more than enough to simulate the dilemmas and debacles that real automakers face in real life.

In addition to making pricing and other decisions, the automaker teams presented marketing pitches to the consumer judges and business pitches to the investor judges. The judges’ assessments joined the teams’ decisions in the simulator, which did the arithmetic to estimate demand, sales, profits, and market share.

Calculating outcomes

We used a computer-based strategy simulator, calibrated for the five automakers and the three market segments, to calculate the demand, sales, market shares, and profit consequences of the teams’ strategies. The model took into account common-sense connections like the following. Some of those connections work similarly in other industries, and some don’t.

• Customers have choices. If you invest in marketing or product improvements that customers like, and if you do it better than your competitors, then demand for your autos will rise. If you sit on your laurels, demand is likely to fall.
• Some customers are loyal and will buy again from the same automaker. Other customers are not loyal and will make conscious purchase decisions.
• Price affects both demand and the bottom line. Demand, through customer purchase decisions. The bottom line, by rippling through revenue and costs.
• You decide how much to produce before you find out how much customers want to buy. You cannot sell more than you produce.
• If an automaker cannot satisfy demand, some customers will buy from its competitors (if they have produced enough cars). Other customers will not buy at all if the car they want is unavailable.
• Production capacity costs money. An automaker can save some money by mothballing capacity. However, mothballing will limit what it can produce, and mothballed capacity cannot be brought back on line quickly.
• And more.

There is much more to say about simulation design, customization to industries, and other aspects of business war-gaming, but we won’t say it here. (See other articles and essays on this website.) What’s important is that it is possible to simulate and war-game virtually any industry. My colleagues and I have conducted war games with management in dozens of industries, from airlines to vaccines, on six continents.

About accuracy

All in all, the simulator estimated outcomes pretty well, and definitely better than conventional company-centric analyses. “Estimated” is an important word. We didn’t pretend that this simulator was “accurate” (no analysis of the future is). However, it was definitely realistic and directionally correct, which makes it highly useful for evaluating and stress-testing strategy moves.

Accuracy in future-looking simulations is a fairly complex subject and bigger than I’ll treat here. I’ll just say this. No matter what, strategists will make decisions. The relevant question is not whether a simulation is accurate. The relevant question is whether a strategist can make a better decision with a simulation than without. Oh, and I’ll also say this. There is always a model in strategy decisions. It may be in someone’s head, it may be in a spreadsheet, it may be in a simulator. Choose your model consciously.

Publicly available information and realistic estimates

The war game used publicly available information and realistic estimates as the basis for strategizing and simulating. Nothing proprietary or mysterious, nothing contentious. As in most business war games, the action and the insights come from strategists’ thinking, behavior, assumptions, and decisions, not from decimal points or obscure factoids.

Two rounds (year 1 and year 2) and three hours

The auto teams made decisions about their company’s pricing, marketing, production, and capacity mothballing. They made those decisions for year 1 and we fed their decisions into the simulator. We shared key year-1 results with the teams before they completed their year-2 decisions. They made their decisions for year 2 and we simulated those results too. All, including a debriefing, in three energetic hours (very fast for a business war game).

A level playing field

The five automakers we chose for the war game didn’t start from equal positions and they didn’t have equal resources. We took that into account in the scoring process to ensure that every automaker team had an equal opportunity to win.

It helps for the teams participating in a war game to know there will be a winner because it taps the competitive emotions that affect real-life decision-making. During the business war games we’ve run for real business situations, we’ve seen a company’s own people cheer when they, role-playing the competition, beat their own company! That’s good for the same reason that a boxer wants to practice with a tough sparring partner.

The hard part: Strategic thinking

Competitive strategy is often likened to chess for its complexity and to poker for its competitive interplay. It’s tougher than chess and poker, though, because in competitive strategy the contestants make their moves simultaneously instead of sequentially. You make your strategy decisions before you know your competitors’ strategy decisions.

Take, for instance, this war game.  If you know your competitors will focus on the Slick Style segment and cut production in the Big Tough segment, it’d be reasonable for you to do the reverse. Problem is, simultaneous moves means you don’t and won’t know that. You have to commit to your moves before you know what your competitors will do. (That’s why it’s so helpful to find clues with competitive intelligence and what-if analysis.) It’s a classic and difficult problem, and it affected the automakers in the war game. Here are some of the consequences and the lessons we can draw from them.

Lessons From The War Game

We’ve  run this war game before (June 2009), with SCIP Oregon. We can run it again, too. Contact ACS at info@whatifyourstrategy.com if you’re interested.

Some of the lessons we observed in the previous war game are similar to those from the DC war game, and some are different. The differences are important because they show there’s more than one set of possible strategies and outcomes. The similarities are important because they reveal how strategists commonly think.

These lessons cite various numbers from the simulation. As I said, the numbers are not “accurate.” However, they are sensible and meaningful, and none of the lessons below would materially change if the numbers were off by considerable amounts.

Do not use any information or analysis presented here to make investment or other weighty decisions about the auto industry!

Lesson 1. History isn’t all it used to be

It always happens: strategists tend to think in terms of where they were last year and then adjust up or down. It’s related to a phenomenon that psychologists call “anchoring.” More importantly, it’s due in part to assumptions that there is some kind of static, steady-state, or equilibrium position, assumptions that are reinforced by trend-line and other analyses.

This war game was no exception. Teams went into exquisite calculations with decimal-point precision, figuring out this year in terms of last year plus or minus.

As a result, the Toyota team produced fewer cars than it could have sold. How many? Across the three segments, over 1.2 million in year 1 and 1.3 million in year 2. At prices around $25,000 per car, that means roughly $30 billion in revenue left on the table each year.

The Toyota team wasn’t alone. The GM team was short 581,000 Big Toughs in year 2; there goes $15 billion, more or less. Ford and GM were short 164,000 Slick Style and 260,000 Big Tough cars, respectively, in year 1. Hyundai was low by 138,000 Slick Styles in year 2, which amounts to over 10% of their total sales.

Those shortfalls became unearned bonuses for the automakers who produced more cars than consumers wanted to buy. In other words, automakers who had extra cars to sell were able to sell some to disappointed customers of the out-of-stock automakers. For instance, GM picked up Slick Style sales roughly equal to Hyundai’s shortfall.

Why didn’t the automaker teams know better? Arguably not because they didn’t have enough time, because teams that have hours to develop strategies do the same thing. Definitely not because they were stupid, misinformed, or indifferent, because they were smart, well-informed, and motivated. Why, then? Partly because it’s not the way strategy development usually works. Partly because it’s really hard: it requires analyzing multiple moving parts, including competitors, consumers, production and segment allocations, price, mothballing, marketing spending, and resulting sales. And partly because few people have experience with that kind of systems thinking. All of which are reasons why war games are so surprising and so useful.

Lesson 2. Don’t forget the consumer

In my experience with business war games, teams usually pander to consumers. They promise the earth, they promise the moon, they try to outdo each other by offering shiny baubles and promising elysian delights at bargain prices.

Not this time. Even though I urged the teams several times to produce advertisements to appeal to consumers, and even though I told the teams that reactions from the consumer judges would greatly influence their sales, the teams’ presentations focused almost entirely on the investor judges. There was a minor battle for supremacy of slogans, but that was about it for consumers.

It showed up in the judges’ questions. A consumer judge asked over and over, “Why should I buy a car from you?”

It showed up in the judges’ ratings. On a 0-10 scale, where 0 means not good and 10 means not bad, the average investor ratings were 5.9 in year 1 and 6.9 in year 2. Consumer ratings were 5.1 and 4.8, respectively.

And it showed up in the teams’ results. In year 2, Ford made 1.3 million vehicles it couldn’t sell. They also had low ratings from the consumer judges. The low ratings from the consumers translated into low demand. Low demand in itself doesn’t hurt, but it does when combined with high production and heavy fixed costs for capacity, which is what Ford faced. If Ford had sold those cars, it might have broken even.

GM would have faced a similar fate except it didn’t overproduce quite so much. It only made about 690,000 cars it couldn’t sell, which also represented the difference between a major loss and breakeven.

Volkswagen was hurting too. They had 245,000 leftovers in year 2 (up from 98,000 in year 1). A smaller number, but it was the highest leftover percentage in the game: 51% of the cars made by Volkswagen went unsold.

Meanwhile, Toyota sold out, and Hyundai almost sold out. Toyota was strongly profitable in year 2, and Hyundai was a short drive away from making money. Those were the automakers the consumers liked most and that didn’t over-produce.

Lesson 3. Numbers aren’t only about numbers

Even though we’ve got a bunch of numbers here, the numbers aren’t the point. The point is about the way the teams competed. All of the teams did some things right. All the teams made mistakes, some costing tens of billions of dollars in actual costs or opportunity costs. But the interesting part is where the numbers came from. The numbers — sales, shortfalls, and profits — are, of course, results of doing things right, and of mistakes.

The numbers in the teams’ decisions are expressions of their thinking. The decisions reflected the teams’ predictions and assessments of what moves would work for them. They prioritized their time to focus on investors instead of consumers not because they thought that was a bad idea, but because they thought it was a good idea. They spent $X on marketing because they believed $X was the right amount to spend on marketing, not because they believed $X was the wrong amount. If they thought different decisions would have worked better, they would have made those decisions.

• Speaking about marketing, the teams held their marketing expenses very close to where those expenses began. I don’t know why, other than perhaps taking a budget-oriented perspective: if I overspend I’ll get in trouble, if I underspend I’ll get less next year. (I’ve seen that in other business war games too, where we told participants that they could spend whatever they wanted and all of them kept within a few percentage points of their previous spending.) There were some tweaks, as with prices, but the changes were, in effect, noise.
• The teams focused efforts on the numbers rather than on consumer appeal (i.e., the ads they were encouraged to create), yet the latter could have had tremendous impact. (We could say that the problem wasn’t that some overproduced, it was that they undersold.) Not so dissimilar to what strategists face in real life: huge focus on the numbers and planning, less on blue-sky thinking. It makes incumbents vulnerable to upstarts. Why, after all, is it even possible for upstarts to gain a toehold against incumbents? Incumbents have, or at least can have, all the advantages. The only advantage an upstart can have is thinking differently, and thereby acting differently.
• The calculations some teams recorded for mothballing decisions suggest that the teams were trying to optimize a financial statement rather than to create a competitive strategy. An interesting (at least to me) question is whether it’s better to have a shortfall or to expand capacity to ensure that no demand goes unsatisfied. A strong argument can be made that many woes are due to a desire never to leave money on the table. People can lose a lot of money trying not to leave behind a little bit of money. I’m not saying that a company should go one way or the other. I am saying that there is often a hidden assumption that we should (and can) match supply to demand, and it’s good to notice and challenge hidden assumptions from time to time.

True, the teams didn’t have much time to formulate their strategies. Still, the way they chose to spend their limited time reflects what they believed to be important.

Lesson 4. It’s not enough to be smart

The people participating in our war game were really smart. Those who have participated in other war games were also really smart. The problem is, it’s not enough to be smart. None of us is able to do all the arithmetic in our heads. I’m not saying that any team made mistakes; then again, we all know that no one is always right. Plus, we know that individuals can make rational decisions that, in combination, produce undesired results.

The thing is, when it comes to strategy it’s even hard to tell when an individual or a team is smart. Say you got terrific results. How much of that is because you did something smart and how much is because someone else did something not smart? How much of your decisions were due to luck and how much to thoughtful analysis? How do you know if the same moves will work next year? It can be hard to resist the automatic conclusion that our strategy is working.

We say that people learn from experience. The trick is to get experience where it’s cheap, and to get lots of it. Business war games are cheap, plentiful experience. Cheap, because you’re not playing with real money and real careers. Plentiful, because you can test multi-year strategies in a few hours. With computer simulations, you can test them in a few seconds.

Lesson 5. Define “winning”

The auto team that scored best on profits was Toyota. (That’s a statement about the Toyota war-game team as well as the Toyota brand itself. By no means was Toyota predestined to be big and profitable in the war game.) GM had the biggest overall market share, but Toyota was within rounding error of them. It appears that Toyota had a winning strategy. Appears. However, they were the team that had by far the biggest capacity shortfall in both years. Over two years that team could have sold over 2,500,000 more vehicles. They could have sold roughly $60 billion more.

Other tidbits:

• Toyota gained by far the most share, despite their shortfalls. They wouldn’t have if they had mothballed more capacity.
• Ford took it on the chin. They might not have if they had built less and mothballed more, or if they had impressed the consumer judges more.
• Volkswagen lost a little share. Hyundai gained a bit. GM pretty much held still.

So, did the Toyota team do well (highest profits, biggest share gain) or did they do badly (biggest opportunity lost)? Hard to know. But we do know that it would be hard to see the situation with a conventional spreadsheet, and it was easy to see in a war game with a strategy simulator.

Conversely, the simulation had the Toyota team’s competitors pick up much of what the Toyota team left behind. In effect, the Toyota team’s mistake became a gift that inflated the other teams’ results and that made them look better than their decisions warranted.

Lesson 6. To find better strategies, look again

Of course the teams might have come up with better strategies if they’d had more time. More importantly, the teams would probably have come up with better strategies if we had the time to turn back the clock and try a second round of strategizing.

In the real business war games I’ve conducted, disappointments from the first rounds are essential to getting people’s attention and stimulating people’s creativity. The second set of simulations are where the best strategy ideas come up. Just think: if you’d participated in this business war game, and you knew all these lessons (and more), wouldn’t that help you develop a much better strategy?

Ever see a Fortune 500 company turn on a dime? I have. It’s with the process similar to the one we ran, with those second or third rounds. The key is to get quickly and persuasively to the second or third rounds.

Incidentally, my colleagues and I are strategy agnostic. We don’t come in with a favorite strategy. I for one don’t even care what strategy the company ends up adopting. What I do care about, and I care about this deeply, is the quality of the company’s strategic thinking and decision-making. I don’t care if the right answer for your company is to zig or to zag. I care a lot about helping you find the right answer, whatever it turns out to be.

And In Conclusion

As obvious as those lessons may appear now, they were not obvious before the war game. Corollary: what appears obvious before a war game often turns out to be a really bad idea. That lesson and its corollary are the rule, not the exception, in real business war-gaming.

Business war-gaming and strategy simulations are big subjects and we’ve just scratched the surface. I urge you to learn more about them. Qualitative or quantitative, formal or informal, big or small, facilitated by you or outsiders… business war games help strategists make much better strategy decisions.

Thanks, and congratulations

My thanks to the Greater DC Chapter of SCIP, especially to August Jackson and Jeff Trexel, for inviting me to present the automobile industry business war game.

My thanks to the intrepid strategists who gave their all to the automobile industry for three hours. It was a huge challenge, and you rose to the occasion with intelligence, critical thinking, and humor. You brought great ideas, open minds, and good cheer to the event. Well done.

Congratulations to the Top Strategists on the top-scoring team, Toyota, and to the judges who asked great questions as consumers and investors. Honorable mention to the Hyundai team, which was within a decimal point of Toyota.

The blog essay that used to live here was published  in the July/August 2009 issue of Competitive Intelligence magazine (www.scip.org). You can see the article in the Library section of ACS’ website, or click here to go directly to it.

Our thanks to SCIP Oregon for inviting us to present the automobile industry business war game. Specifically, our thanks to the extraordinary team of Sean Campbell and Scott Swigart of Cascade Insights.

Our thanks to the intrepid strategists who gave their all to the automobile industry for four hours. It was a huge challenge, and you rose to the occasion with creativity, critical thinking, and good cheer. Well done.

Our congratulations to the Top Strategists on the top-scoring team and to the Top Strategist judges who asked great questions as consumers and investors.

If you would like to experience the automobile business war game or any of ACS’ other programs, please contact us at info@whatifyourstrategy.com.

The US government’s stress tests of banks found some wanting. That’s excellent! Early detection and preventive treatment are far better than early death and expensive clean-ups. Of course the stress tests aren’t perfect, just as medical screening isn’t perfect. Still, don’t we all wish those tests had been administered, oh, a year and a half ago?

The financial services industry may have precipitated the financial crisis but they are not the only ones who were unprepared for the shock. It’s not only AIG and Lehman Brothers. Chrysler, Circuit City, Filene’s Basement, and General Growth failed their real-life stress tests too. So have numerous companies even without the financial crisis.

Given the nature of the financial crisis it’s prudent to subject major banks to stress tests. It’s an equally terrific idea for companies in other industries to do the same. Not government-designed or -mandated tests. Rather, rigorous internal strategy tests designed to reveal the opportunities and threats that otherwise become apparent only in retrospect, and sometimes not even then.

I know most companies believe they do such reviews. Strategies pass budget reviews to the penny, market reviews to the last decimal place, and forecast reviews as far as the planning horizon can see. But, for the most part, that process is designed to advocate a strategy. It rarely stress-tests a strategy or contrasts the strategy with materially different alternatives. That’s why the stress tests my colleagues and I have conducted — we call them business war games and strategy simulations —lead to big, profitable surprises.

Stress tests for banks focus on capital requirements under a variety of economic scenarios. That’s necessary for banks, though it’s unclear whether it’s sufficient.

Companies in other industries need to be adequately capitalized too. But their capital needs don’t depend only on defaults, unemployment, and growth in the economy, and maybe not even primarily on those conditions. Perhaps (and perhaps not) unlike banks, companies in other industries are vulnerable to each other; that is, to the competition.

That’s obvious and noncontroversial. No strategist says competitors are irrelevant. What’s less obvious is that the traditional tools for stress-testing a business’ strategy do not adequately take competitors into account. Companies’ spreadsheets don’t have lines for “price cut required to match competitor’s panicky move.” Companies’ audits don’t include the quality of their products and services, relative to competitors’. Companies may assert that they will regain their historical market shares as they introduce new products but they don’t note the implicit assumption that those new products are being gauged against competitors’ old products.  Companies may have to disclose that moves by major competitors are projected to have a material impact but not that tiny upstarts are moving into the market with odd new technology.

Those shortcomings happen even though we strategists know better, want to do better, and try hard to do better. They happen because the shortcomings are hardwired into the usual strategy-development tools. Remember that strategy development went on, in good faith, at those companies that failed.

Effective business war games and strategy simulations — that is, stress tests — ask the relevant questions. They ask how we’re going to respond to a panicky competitor. They judge whether our products and service are at a competitive disadvantage. They explore what new initiatives the competition might launch. They imagine how a tiny upstart might change everything. In a spreadsheet, there’s no entry for “my insight about the market.” There is, in a business war game.

There are three major benefits unique to stress-testing with business war games and strategy simulations.

First, they let strategists rehearse before they go on stage. The rehearsal surfaces assumptions and prevents oops-I-forgot-about-that problems.

Second, they let strategists experiment. Try Plan X35a. A flop? No problem. Press the literal or figurative reset button and try Plan B88q. Ditto with competitive, economic, social, and political scenarios.

Third, they let strategists challenge. Not in the sense of “how could you possibly believe that, you stupid pejorative.” Rather, in the sense of “If I were the competition, this is what I would do to derail our company.” Those challenges are intense, illuminating, and tremendously useful.

The point of stress tests isn’t to anticipate every scenario, let alone to prepare for them. That’s neither possible nor a good use of resources. The point of stress tests also isn’t to place blame for mistakes.

Rather, the point of stress tests is to prevent mistakes, including missing opportunities. Superior preparation is a competitive advantage, and it is possible to anticipate and prepare better than we have.

In my experience conducting business war games, the first outcome is to discover unforeseen problems, and the second — usually just a couple of hours later — is to find unrealized potential. The result is action toward improved performance.

You can conduct your own stress tests. For some advice based on ACS’ experience, see The Seven Deadly Sins of Business War Games and Learning Faster Than The Competition. For case studies, a.k.a. war stories, see You’ve Got The Data. Now What? For examples of testing scenarios, see When I Was Wrong and Millions of Pricing Simulations.

The risk many businesses run is not that they’re performing without a net. We all do that, every day. The risk is that they’re performing without rehearsing.

Stress tests aren’t just for banks. Come to think of it, they’re not even so stressful.

Remember that the tough problem a year ago was where to buy a Nintendo Wii?

Many of the events of 2008, great and small, good and bad, can be recalled through single words. Obama. Melamine. Madoff. Lehman. Gaza. Zimbabwe. Bailout. Layoff. Bankrupt. Climate. Oil. Blu-ray. Foreclosure. Olympics. Palin. Earthquake. Discount. Mumbai. Newman. Subprime. Pirates. Green. Add. Your. Own.

And what do those words have to do with the world’s most fascinating and thoughtful blog about strategic thinking and competitive strategy?

Not that the world is unpredictable and chaotic and capricious and we’re all doomed and what’s the use of strategy nothing matters just make the numbers yes I will have another martini.

Not that the world is glorious and we are witnessing creative destruction and markets are working and get out of the way here we come oops sorry about the unavoidable collateral damage.

Not that current events are temporary (they always are) and we will soon have the “return to normalcy” that presidential candidate Warren G. Harding promised in 1920. (We do notice, however, that there is widespread longing / demand for stable growth. Is that possible? Is it desirable? Is it an oxymoron? I’m just asking.)

Rather, all those words to which our planet has devoted so much ink and electricity illustrate a truism about us as human beings, one that bears on gloom, glory, and even strategic thinking and competitive strategy. To wit: all those words are from or about people who thought they were doing the right thing. I don’t mean that what they did was right, or that they would do the same things if they knew then what they know now. I mean only that given what they knew and believed and wanted at the time, they thought they were doing the right thing.

How do I know that? Simple. Because no one — not them, not me, not you — gets up in the morning intending to make bad decisions. No one gets up resolving to make the world a worse place or to screw up his or her own life. You and I may disagree with their mental calculus, and they may disagree with ours. That’s not the point. The point is, we all try to make good decisions, given what we know, believe, and want.

So if you are a strategist or diplomat or official who’s concerned with human dynamics, it behooves you to put yourself in others’ shoes and look through their glasses. Given what they know, believe, and want, what will they do? Not what should they do or what you want them to do or what they have done in the past or what would they do if they continue along a trend line. (Do you aspire to follow a trend line? Neither do they.) Rather, what will they do, given what they know and believe and want. That, by the way, may be the greatest benefit of business war games and strategy simulations: they help us understand others’ worlds. (See I Didn’t Know You Could Do That and Monsters.)

Let’s take a step up and think about your next strategy move. Like a chess grandmaster “forcing” her or his competitor’s moves, what can you do to influence your competitors’ options and actions? (You will influence their actions, as they influence yours. The question is only whether you will be accidental or purposeful about it.) For example, in today’s crummy economy it is very, very tempting to cut price, especially if you believe customers are price sensitive and if you want sales. (See Kudos to Abercrombie.) Your competitors face the same choice. Your decisions influence each other: if you cut your price you raise the odds that they’ll cut theirs, and vice versa. Ditto for advertising decisions, R&D budgets, and so on. I’m not saying that you should cut price, advertising, R&D, or anything else, nor am I saying you shouldn’t. What I’m saying is that your decisions have ripple effects outside your company. (Zero percent financing may be a great incentive, if you’re the only one.) Think them through, war-game them through, simulate them through. Based on what I’ve seen, I predict you’ll get helpful surprises.

And now let’s take a step back as we close out 2008.

This year the holiday cards I received came from, among other people, a member of the Bush administration’s Cabinet, the Democratic governor of a state, and a young boy named Cody whom I sponsor through Children Inc. Cody, whom I’ve not met, wished me a “good merry Chrismus” in a child’s careful scrawl. I appreciate the cards from highly accomplished people (keep ‘em coming!) and I am honored and privileged to travel in circles where I meet extraordinary people. And Cody’s card touched me at a different level.

In thanks to Cody let’s add a few more words for 2008, and let’s write them in for 2009 too. Compassion. Gentle. Help. Hope. Support. Kindness. Health. Peace.

All the best to you. Happy New Year, everyone!

I agree that executive compensation can be absurdly high, and I don’t buy the argument that it needs to be absurdly high to attract top talent. Then again, maybe I would buy the argument if I were paid enough. I can be had for eight figures, or for the today-only special sale price of seven. Act now, operators are standing by.

There is much talk about excessive executive compensation in these days of financial crisis. There was before the crisis too, as with New York’s suit against Richard Grasso, former CEO of the New York Stock Exchange, and shareholder revolts against non-performing management. Shareholder actions merely halt future pay, but the lawsuit illustrates that we have a mechanism for getting people to disgorge ill-gotten gains from the past. (The Grasso case was dismissed a few months ago, and I’m making no statement about the merits of the case itself. I’m only saying that there is an existing mechanism.)

Pushback against high pay begs the question as to whether high pay is, by definition, ill-gotten. The mere existence of high pay resulting from a contract between willing, competent (as in mentally sound, rather than skilled) people doesn’t necessarily imply wrong-doing. Perhaps high pay isn’t wise, but lack of wisdom isn’t illegal. Gains gotten by fraud, pilfering, and bad-enough negligence are another matter.

It is a knotty problem.

Should we limit pay for actors and athletes too? Tom Cruise made over $70 million for “War of the Worlds” and well into eight figures for each of nine other movies. New York Yankee Alex Rodriguez will make $28 million for the 2008 season. Use whatever adjective you want to describe those numbers — absurd, outrageous, enviable, well-deserved — but the largeness of the number does not imply wrong-doing.

Should we limit pay for an entrepreneur who becomes a billionaire when he or she sells out? There’s the story of the Blockbuster founders, which I describe in my essay It’s working!. Wayne Huizenga and John Melk started the company and sold it a decade later for $11.6 billion in 2007 dollars. Ten years after the sale, the company was worth one-third of what it was sold for, and three years after that it was worth about 10% of that third. Should Huizenga and Melk be blamed? Should they pay?

Even if we agree that executive pay is too high, there’s a deeper issue, and that is what praise or blame is appropriate to assign to the CEO or other executives. He or she doesn’t do all the work and doesn’t deserve all the credit when the stock is flying high, which is one reason why I think executive pay can be too high. Similarly, though, he or she didn’t unilaterally screw up and deserve all the blame if the stock falls. (One reason why I’m so fond of decision tournaments is that they provide insight into what part of performance is attributable to your decisions and what part is attributable to others’.) It is very hard to assign responsibility in complex systems to a single individual. Should the sellers of Blockbuster have to disgorge their profits because people invented the DVD, Netflix, and streaming video?

A related issue is that you get what you pay for. Not in the sense that you get better talent if you pay $105 million a year than if you pay $104 million (although in accordance with the size of that increase I personally would work 0.961538% harder). Rather, in the sense that if you reward an executive for the company’s stock price, she or he will care about the company’s stock price, and if you reward an executive for something else, he or she will care about something else. The pay-for-performance imperative to “make the numbers” can lead to shortsighted decisions. (See my essay Exalted numbers. See also the second Update, below.)

Going forward, there could be provisions for executive pay that hold some compensation in escrow for a period of time, to be paid when certain conditions are met. Many companies do something conceptually similar, with stock options or grants that vest years after they were awarded. Which has the problem of my successor’s lousy decisions affecting pay I justly earned with my brilliant decisions.

Yes, it is a knotty problem.

The problem might not be high pay per se. The problem might be high pay linked to low performance. We don’t feel outraged (or at least not so much) about Tom Cruise and Alex Rodriguez; they are providing high levels of performance and their performance is clearly attributable to them. We do feel outraged when the executives entrusted with the companies in which we have invested provide low levels of performance, regardless of attribution. [Update: the European Parliament will limit banker bonuses when performance is low. “Europe To Limit Banker Bonuses,” The Wall Street Journal, July 8, 2010, page 1.]

I don’t know how to solve the problem about the highness of pay. Perhaps, though, we can make headway on the different problem, the one concerning the link between pay and performance, because it is paying for bad performance that we resent. So, we might ask how to improve the quality of management decisions so that we don’t highly pay for bad performance.

There are ways to improve the quality of decisions. Most of them focus on financial oversight, which is necessary but insufficient in the sense that they document decisions and measure damage rather than prevent damage or exploit opportunity. No matter how microscopically you pore over financial statements, you won’t get warning of competitors’ moves, the effects of customer dissatisfaction, and more. There are other ways to improve decision quality, such as business war games and strategy simulations that stress-test decisions before risking fortunes and careers on them. (In fact, that interest in improving decision quality is why people like me enter the field of war-gaming and simulation in the first place.) Whatever the technique, though, we need to focus at least as much on the bad performance as we do on the high pay.

Update, November 30, 2009. See No More Executive Bonuses! in the Wall Street Journal. It was written by Henry Mintzberg, a professor at the Desautels Faculty of Management at McGill University in Montreal.

Update, March 2, 2010. From the Wall Street Journal, page 1: “An excessive focus on market share and profits was a key reason for Toyota’s quality problems, Akio Toyoda said while apologizing to consumers in China.

Over the past few decades, there has been a massive shift in power. Manufacturers like P&G and Coca-Cola used to dwarf retailers in terms of their size and financial prowess. But not anymore. Retailers have expanded across the country and world, consolidated into superpowers, and now collectively have the upper hand. This is a massive industrial power shift that is still happening and it has enormous consequences.

At the same time they’ve gotten bigger, retailers have gotten smarter about managing their brands. They are no longer just the seller of great brands. They strive to be great brands in their own right. Some have managed to accomplish this, often looking across the Atlantic at their European counterparts who have been way ahead of the curve. They are gaining more and more confidence about their ability to stock their own shelves with desirable products. This can be easily observed in looking at the evolution of private labels. Once just generic or copycat products, they are now breaking into the territory of aspirational brands.

What we are witnessing is essentially a massive collision. Two universes that used to be distinctly separate are redrawing their boundaries, and right now, retailers are winning. Catching manufacturers off guard after years of only worrying about other manufacturers, retailers are taking an increasingly larger piece of consumers’ wallets. But while this is the broader trend, there are many examples of forward-thinking manufacturers who have expanded into the retail space.

Burt’s Bees, for example, put on a sophisticated retailer hat when it invented its Bee Hive, the mini store-within-a-store that separates all of its products from others within the likes of CVS and Walgreens. Method is doing pop-up stores in NYC and getting much buzz about it. Apple, the ultimate visionary, took the full plunge and opened its own stores back in 2001 so that it could fully own the retail experience. There are many examples of manufacturers reframing themselves as retailers to different degrees.

Side note: To be fair, there are many manufacturers that have owned their retail experience for a long time. Think apparel (Victoria’s Secret, Nike), jewelry/watches (Tiffany, Swatch), electronics (Bose, Sony) cars. What’s made these categories different is how closely their products are tied to our identities and self-expression. But that’s changing. Our identities are changing. The things we want to express are evolving…becoming more subtle, more simple. We are awakening to the fact that everything is a form of self-expression. It’s just that only certain items are important enough right now (and offer a broad enough selection) to justify the economics of a retail operation. You probably won’t see stores dedicated to sponges, for example, anytime soon. Vacuums? Maybe. Dyson is on its way. They would probably call it a “Cleaning” store, or perhaps “Home care,” to tie it back to our lives in a more natural, emotional way. That’s where we’re headed.

But back to the manufacturer/retailer collision phenomenon…

What makes this collision even more interesting is that a new kind of player has only recently jumped into the game: the Internet company. 15 years ago, Amazon did not exist. Now, despite manufacturing nothing and owning no physical shops, it sells billions of dollars of goods. The same goes for eBay. Then there’s the even newer, smaller Internet companies that are breaking all the rules. Take Threadless. They created a unique way of selling t-shirts online and just last year opened up a storefront in Chicago. Or take Etsy. They have enabled a community of micro-manufacturers – primarily women in their homes who can now sell directly to others without having to open up a store. Will Etsy open up a store anytime soon? Who knows. But what we’re seeing, at the very edge of the shopping universe, is a blurring of the line between consumer and manufacturer/retailer. Practically anybody can open up their own shop and either sell their own handmade goods (Etsy), their own manufactured goods (CafePress), or sell their used goods (Amazon, eBay, Craigslist). Ultimately, this represents a massive power shift away from both traditional manufacturers and retailers toward the people. Those companies that facilitate this power shift win the hearts and minds of the people.

In a less direct way, big retailers have shifted power to the people—famous people. They’re all clamoring to have the next Martha Stewart, Isaac Mizrahi, or Jamie Oliver selling through their stores. In essence, this is what Nike has done so successfully over the years: recognizing that real people who are exceptional at what they do are the best people to partner with. Exceptional talent and personalities cannot be replicated.

So what does all of this mean?

It means be the very best at whatever you do. Which means innovating, learning, working hard, and all of the things you’d expect to hear. But first it means you really have to figure out what exactly you do. You don’t “manufacture,” “sell,” “design”—that’s all superficial. What you do is what you do for people…how you make them feel, how you make their lives better. It’s no different than when somebody asks you “What you are?” You might say “dad,” “banker,” “soccer player,” etc. We all do lots of things, but what is the “you” that unites all of that…the “you” at the center of you that makes you different from everybody else out there?

It’s easy to tell if a business was profitable after the fact, but we have to place our investment bets before the fact. How would you know if a company is worth in­vesting in? How would you know if a business is likely to be profitable and long-lived? Make a list of the characteristics that you believe would separate good businesses from bad. You might find good-business characteristics such as these:

• Strong market share
• Well-differentiated products
• Slightly paranoid management
• Innovative R&D and marketing
• Loyal customers

And so on. Your list may resemble or differ from that shown. Some items may or may not be on your list. For instance, scale. (Would you rather be General Motors or Porsche?) For another instance, fame or charisma. (Do you know what company makes Tabasco brand pepper sauce?) For yet another, track record. Perhaps what we call a track record reflects creating or de­stroying good-business characteristics. You might not put luck on the good-business list, since luck is some­where between ephem­eral and illusory. You also might not put having-ineffective-competitors on the good-business list, since that’s their characteristic, not yours, and their ineffectiveness is merely lucky for you.

What’s not on your good-business list? Surely items better suited for a bad-business list, such as com­placency, denial, bureaucracy, and resis­tance to change.

Imagine that you found a company with all the characteristics on your good-business list. Imagine too that the company was reporting poor results. Imagine that you found a second company, one with all the characteristics on your bad-business list. Imagine too that the company was enjoying great per­formance. Finally, imagine that you can invest in only one of those two businesses. Which one would you choose?

If you chose the good business with poor per­formance, you are implicitly asserting a belief in principles. You are saying that its results will improve because its strengths, its funda­mentals, are strong. Think now of how you, your colleagues, and even the media gauge the attractiveness of a business. Do you and they use good- and bad-business lists? Or are you and they un­con­sciously swayed by current performance?

Incidentally, extensive empirical research on the PIMS database (Profit Impact of Market Strategy) tested the very question posed above. (The PIMS database was built by the remarkable Dr. Sidney Schoeffler, founder of the Strategic Planning Institute. I worked with that database at SPI, though I did not perform the research described here.) The research showed that it’s best to bet on the good business with poor results. In other words, evidence favors the principles.