Strategic decisions are fraught with uncertainty. Where to locate a new plant, when to enter a particular foreign market, what process management system to adopt – making these decisions is no mean feat. That’s because they can influence a firm’s performance for years, if not decades, to come – yet we don’t know what the future holds or what our industry will look like 10 years from now.
Events like Brexit or Trump are difficult to predict and gauge in terms of their long-term impact, but so are competitive and technological developments. Before we have even had a chance to get our heads around what the internet of things and big data really imply, all the talk has moved on to artificial intelligence and machine learning.
We do know one thing about how firms respond when making strategic decisions under extensive uncertainty: they imitate other firms. When we are not sure what the future holds or what the best course of actions is, firms look around them and then do what others are doing.
Imitating successful competitors can be surprisingly misleading and ineffective
Mostly, firms look at successful others – companies that seem to be outperforming the pack, who are admired in the business press, at conferences and business schools, and by investors in the stock market. Often the process of imitation is formalised through “bench-marking” and the adoption of “best practices”.
Research has provided ample evidence of strategic imitation, studying choices around plant locations, market entry, process management system adoption, product diversification, acquisitions, governance systems and more. But imitating successful competitors can be surprisingly misleading and ineffective, for three reasons.
1. You’re confusing cause and effect
Successful firms’ practices and decisions are often consequences of their success rather than its causes. A simple example is firm size. Size is often given as a rationale for acquisitions: “This acquisition immediately makes us the number two company in the market.” Large firms are often successful, but imitating their size is not necessarily going to make you more successful. That’s because good performance made those firms bigger, not the other way around. Successful firms grow and become big, but making yourself bigger just for the sake of it is not necessarily going to make you better off. We call this reverse causality.
Similarly, successful firms may be entering foreign markets – because they have built a competitive advantage that can be exported and exploited abroad – but following them into these markets may not enhance your performance. Probably quite the opposite.
Many of the best practices identified in popular business books, which often start by making a list of top performing firms and then comparing what they have in common, are known to be consequences of success rather than its causes (a strong, homogeneous corporate culture, to name just one).
So beware of reverse causality when you are making strategic decisions and bear the following image in mind:
Among the aboriginals on the Micronesian island of Ponapae, what contributed to a man’s prestige was owning a very large yam. That’s because it demonstrated his skill as a farmer: good farmers grew larger yams. But anthropologists described how other people’s efforts to obtain or grow one giant yam were often detrimental, distracting time and effort away from other necessary activities. Their families often went hungry and suffered malnourishment.
Don’t be like a Ponapaen farmer trying to grow a big yam. Think through the real causes of success in your business, rather than just emulating the current characteristics of your successful peers.
The most successful firms in your industry probably just got lucky
2. You can’t imitate luck
The most successful firms in your industry probably just got lucky. This may sound extreme and implausible but we know that people tend to substantially overestimate the influence of managers’ deliberate decisions on their performance and underestimate the role of chance.
Different strategies are generally associated with different performance outcomes, but they are also associated with different levels of risk. The very top-performing firms in your industry are disproportionally likely to have been following a relatively risky strategy, and then simply got a bit lucky, perhaps because the industry’s circumstances at the time happened to turn in their favour.
Just as many other firms, sometimes at different points in time, might have experienced seriously sub-par performance as a result of following this exact same strategy. But we don’t look at those in benchmarking exercises, nor does the business press flag and follow them – so they don’t attract as much attention.
I saw this clearly in a research project with my former PhD student Xu Li – now an assistant professor at ESMT in Berlin – when we studied strategic imitation using both lab experiments and company data. When confronted with ample ambiguous information about their industry, people quickly focused on the top-performing companies in their business and tried to emulate their actions, thus often unwittingly imitating relatively risky strategies.
Focusing on short-term wins can have negative long-term effects years later
3. Quick wins can make for long-term losers
The long-term effects of strategic actions will often be different from their short-term ones. I saw this in my research with Mihaela Stan, Assistant Professor at UCL School of Management on IVF clinics in the UK. A “best practice” that quickly swept through that industry was to select and admit patients who already had a good chance of conceiving, to boost the clinic’s success rate and relative position in the industry’s league table.
In the long term this practice backfired, because it deprived those clinics of valuable learning opportunities (complex cases). They ended up worse off. Firms that admitted and treated difficult patients performed significantly better in the long run.
Other studies have shown how focusing on short-term wins can have negative long-term effects years later . Outsourcing boosts efficiency in the short term but can create problems in other places of a firm’s value chain through a loss of vital knowledge. The adoption of the quality management standard ISO9000 boosts short-term productivity and efficiency but can lead to a slump in innovation in the long term. Downsizing lowers costs but often leads to long-term problems with attrition and employee morale. And firms rarely see that these problems are rooted in the practice that they imitated years before.
Three steps towards better decisions
So what can you do? As I explain, among others, in my book Breaking Bad Habits, first, don’t only focus on the practices of top-performing companies. Force yourself to analyse what the industry’s bottom performers are doing as well. If they are doing the same things, those practices might not be “best” at all. This simple measure can help resolve the perception bias that comes with benchmarking.
Second, try to figure out how the top performers’ habits might be causing their success. If that’s not easy, then make sure you ask yourself if it could be the other way around: if success could be the cause of those habits.
Finally, ask your employees what the long-term consequences of a particular decision or practice might be. In our IVF example, we discovered that, while clinic managers had not forecasted the detrimental long-term effects of admitting only easy patients, the doctors on the ground had.
Follow these three simple steps and you are on your way to making better strategic decisions.
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