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Chapter 4
Misused Cliches
His old horse died, his mule went lame,
--Anonymous
Organizations are hobbled by beliefs that have always rested on faulty evidence. This chapter helps you to articulate the critical assumptions you are relying on to run your organization and to check these assumptions for their validity. The misconception stall is particularly harmful because some of your best people realize that the assumptions are faulty, see actions based on these assumptions as folly, and so lose faith in the organization and its leadership.
Misconception: The Danger of False Assumptions Abounds
The misconception stall refers to something that people may have believed all their lives or have believed for a long time, even though the belief is based on faulty evidence. Note that it differs from the disbelief stall that is based on something that is no longer true, but that was at one time.
A belief is not true because it is useful.
--Henri-Frederic Amiel
One of the most serious causes of organizational errors comes from assuming that something is true that is not, never has been, and never will be true. We assume, for example, that the future can be forecast accurately, or that our competitors will stand still while we make rapid progress. Equally worrisome, we assume that agreement among colleagues means the issues are fully understood. Many believe customers will make their decisions in the same way they always have.
It is important to question long-held beliefs and assumptions. Ask yourself the obvious: Is this really true? If you discover that the belief is hogwash, ask why it is accepted as true. Next, find out what would persuade people to change their beliefs. Get that information, and communicate, communicate, and communicate some more.
Titanic Misconception: A Stitch in Time
The fate of the Titanic illustrates the misconception stall at work overtime. To begin with, it was a monumental misconception to believe that the ship was unsinkable and not to provide sufficient lifeboats to save all passengers in case of an accident. However, the ship in fact was wrecked and sunk because of another misconception, one about weather.
Normally, icebergs in the North Atlantic would have been floating far north of the path the Titanic followed on that frigid night in April of 1912. The Titanic's captain had heard a report from another ship that icebergs had moved to a more southerly latitude than normal. If so, the icebergs could pose a threat to the speeding superliner. His fateful misconception was to disregard that report because he believed that icebergs did not travel that far south in that season.
The captain's misconception illustrates the danger of basing key decisions on a single measurement. If he had double-checked with other available sources of information, such as other ships and shore stations, he might have had a confirmation of reports of icebergs in his vicinity in time to turn farther south or to slow down and avoid disaster.
Once the Titanic was in extremis, misconception once again ruled that night. The captain of the Californian, a ship large enough and close enough to the Titanic to rescue everyone onboard, was stalled by an equally tragic misconception. The watch alerted him to the Titanic's distress flares, but he imagined them to be a kind of celebration on the maiden voyage, not a desperate cry for help. All this captain had to do was to wake his radioman and have him ask the Titanic, "You're not sinking, are you?" This was, as they say, a no-brainer. Yet this misconception prevented the rescue of most of the Titanic's passengers, and 1,503 people lost their lives.
Misconceptions bring truly titanic consequences. Let us consider what could have happened instead.
There needn't have been any casualties at all had the ship slowed down in the iceberg-laden North Atlantic or, better still, had the Titanic sailed the longer southern route. The Titanic would have arrived to a traditional festive welcome. A horrific chapter in ship history would have been avoided. After the Titanic went to the bottom, the pace of transatlantic sailings slowed dramatically. So did the rapid interchange of ideas that went with widespread contact among businessmen, scientists, artists, writers, and composers on both sides of the Atlantic.
Had the Titanic arrived safely in New York City, it might have plied the Atlantic for a quarter of a century with her sister ship, the Olympic. Later, the luckier Olympic, fitted, by the way, with sufficient lifeboats to accommodate its entire complement of passengers, endured a less spectacular collision. It survived a 45-foot hull gash and limped back to port for repairs. Both of these giant ocean liners could easily have outrun German U-boats in World War I just as the Cunard Line's Queen Mary did in World War II. Had the Titanic and her sister ship been rigged as troop carriers to transport troops to Liverpool from the United States, time and again they could have delivered entire divisions with each passage. World War I might have ended earlier than it did. Even the threat of undelivered armies might have deterred Germany from its deadly offensives at the war's end.
Clearly, the world might have been a different place. But what would have inspired the safety measures that arose out of the Titanic disaster? Would some other owner have misconceived the dangers of the North Atlantic and sent a different "unsinkable" ship to the bottom? Would the rule calling for lifeboats for all passengers, rich and poor alike, have been delayed? When would radiomen on oceangoing vessels have started manning their posts twenty-four hours a day?
Misconception caused the Astors to lose their patriarch. David Sarnoff, the young telegrapher whose nimble fingers kept the world in touch with the Titanic's survivors for seventy-two hours, might have remained an obscure figure. Or he might have followed a slower route to the top spot at RCA, where his team brought us color television. Perhaps an ambitious person in steerage who went down with the Titanic would have mimicked Sarnoff's rags-to-riches story as CEO of yet another giant company. Or was there an Einstein on board, a Keats, a Michelangelo?
On the other hand, just as well-run companies turn adversity to later profit, some good came out of the disaster. Harvard's famed Widener Library was financed by the Wideners in memory of a family member lost with the ship. Without the sinking, some scholarship from the library's massive resources might have been lost to humanity. Both good and bad result from decisions following misconceptions. Had the Titanic somehow survived the iceberg in the North Atlantic on that fateful night, Great Britain's White Star line might still be that nation's top ship operator. The Titanic's devastated insurers might have remained prosperous.
The misconceptions that sealed the fate of the Titanic and its last passengers could have been corrected. The lesson to be learned is that we can change course and avoid icebergs. We don't have to steam at top speed through treacherous waters simply because we misconceive the dangers.
Round Out Your View
The voyages that Christopher Columbus took to the New World ended one of history's greatest misconception stalls. While it was clear to the Vikings from the year 1000 that there was a huge landmass just a few months' voyage away, most European sailors were terrorized by the apparent end of the earth at the horizon. Convinced the world was flat, they thought the horizon led to the abyss and oblivion. Columbus was convinced otherwise even as Copernicus was establishing the modern view of astronomy with a global earth spinning around a global sun.
Columbus was confident there was nothing to fear. He had made a point of studying the early Viking explorations. In fact, in 1477, fifteen years before he set sail for what was to become known as the New World, Columbus arrived in Iceland on a Portuguese ship. He went there to find out more about the northern "islands" beyond the Atlantic. So why did he later sail farther south on his famous trip of 1492? Columbus was not seeking a new continent, only a shorter route to India. In sailing the ocean blue, he broke the 400-year European misconception stall. Had they been less timid, the Europeans might have learned about the existence of the Americas in the eleventh century.
Exam Cram
In a wonderful book, The Unschooled Mind (Basic Books 1991), cognitive psychologist Howard Gardner argues that people think at three different levels. Gardner defines the five-year-old's mind as the first level. Think back to your beliefs when you were in kindergarten. When you are a small child, someone feeds, clothes, and takes care of you. Five-year-olds develop a whole set of perceptions that guide their conduct 90 percent of the time. Surprisingly, most of these persist through their entire lives. A few poor souls figure that someone will always play that role for them, and this keeps them from being independently effective in many areas of their lives. Another common example is that almost every confident person believes that he or she is superior in every way as a person, a common five-year-old belief.
The second level of knowledge occurs when training, usually at the high school and college levels, gives teens and grown-ups a grasp of sophisticated concepts--temporarily. The student memorizes the concepts long enough to pass the examination. But, Gardner argues, relatively few adults reach the third level: retaining the sophisticated learning concepts to apply them successfully in everyday life. They revert to the five-year-old's misconceptions that serve him or her in everyday life, or at least for the most part.
The person who can apply the principles learned in school in a real-life situation becomes a disciplinary expert. If that person thinking at the third level faces a mechanical problem, he or she will solve the problem through something remembered from physics, algebra, and so on. Gardner reported that a very small percentage of the world can do that in any field. Basically, he says, in everyday life the vast majority of all human beings are operating at the levels of their five-year-old minds. Think of what could be accomplished if you consciously shed those misconceptions and applied sophisticated, adult reasoning based on expert knowledge to questioning existing assumptions.
I'll Get Right on It
Random Acts
Even if people habitually apply sophisticated lessons, they will still tend to jump to conclusions too often. If service is slow the last two times you go to a given store, you may decide this store offers poor service, so you don't go back. Statistically, two experiences do not constitute a trend. You need many slow days in a row to prove the case. It's possible the storekeeper had to be out of town both days you were in and the clerks took advantage. The best restaurant may be mediocre when the chef is away. If the newspaper's critic eats there on the chef's night off, the review won't be a good one.
The executives of one award-winning multibillion-dollar manufacturer were clearly intelligent and were widely admired for their decisions. Ever curious, these managers wanted to measure the actual quality of their decisions. They knew good decision making has to reflect solid statistical values, and they wondered what top statisticians would think of the way they made their decisions. Therefore, they assigned statisticians to follow them around for six months, watching them in action. It was discovered that almost without exception the executives treated random events as representing what was actually occurring in the business.
For a sense of the serious potential consequences of this behavior, view the matter on a personal level. Say you dress in the dark one day. You leave the house unaware that you are wearing casual socks, one green and one black. You attend a meeting and discover your mistake when you cross your legs and expose the socks. This has never happened to you before and you are mortified. But would you buy a color scanner to check your socks and match up pairs as they come out of the laundry? Of course not. That solution to this transitory event would be absurd. All you need to do is turn on the lights before you get dressed in the morning, as usual.
But the billion-dollar corporation's executives would likely view such a random event as the norm. They might waste time creating a process so that the random event would never occur again. Executives at the billion-dollar corporation did in fact spend too much time on trivia while overlooking far more promising chances for gain. In the end, they discounted the statistical study they had commissioned and corporate profits plunged due, in part, to their misconceptions about random events. The lesson: Focus on the areas where action is really needed.
This example shows how wide the gap can be between the perceptions of management quality and the actual effectiveness--another example of misconceptions. You have probably noticed how many "widely admired" companies quickly fall from grace.
When Borrowed Money Is a Drag
Managers know they must reduce costs in this era of fierce global competition. So they may press for lower material costs and, in the same quest for savings, sometimes cut workers to a reckless degree. However, they often miss their largest profit-improvement opportunity: less expensive ways to pay for the capital they use.
Corporations can have any number of misconceptions about the cheapest way to finance their businesses, but the most common of these is the Capital Asset Pricing Model (CAPM). This theory (by definition an unproved assumption) is used in part to help managers compare the cost of equity capital with the cost of debt. It has been frequently revised since its appearance in the early 1960s. Even so, many companies use CAPM to justify taking on debt in countless instances when equity capital is demonstrably cheaper, using a different mind-set and measurements. On occasion, equity even offers a free ride.
Corporate executives have no problem determining the cost of capital if they borrow from a bank. The bank makes the company pay back whatever sum is borrowed plus the interest that is agreed to in the loan agreement. But the cost of equity capital is less easily derived. Based on the performance of the Standard & Poor's 500 stock index, CAPM suggests debt is usually cheaper. However, the model ignores the fact that some companies' shares lag the market, and it overlooks other equity financing benefits as well. If you sell stock, you will, of course, have more cash on hand. But unless you pay dividends, you don't set yourself up for annual cash costs like the interest payments and principal repayments you have with debt. You can earn more profit on the entire cash infusion until the day you decide to buy the stock back in. And you could decide not to buy the stock back for ten years, or twenty years, if ever. Furthermore, if, in fact, your share price dropped, you could buy the stock back for less than what you sold it for. Then you would wind up with the same number of shares you had before the financing and have cash left over. And if you had experienced a gain on the round trip with the stock, you would have done so without paying taxes on that gain!
In employing the CAPM model, theorists begin by hypothesizing that each corporation must compete for equity capital with every other corporation. A key measuring stick used in pursuit of this theory is the Ibbotson Associates studies of the performance of the Standard & Poor's 500 stock index. The studies are for the years from 1926 through 1997. Over the 71-year period, holders of the S&P index shares would have averaged 11 percent gains from market appreciation plus dividends. CAPM theorists insist company stock prices must outdo the S&P with 15 percent to 20 percent annual returns, depending upon a company's risk profile. When managements consider the cost of equity capital, they generally factor in this CAPM assumption, then choose debt.
But CAPM theory ignores the fact that some companies' shares haven't advanced much for years. Ironically enough, investors buy lagging shares every day on the assumption that the situation is about to change. They do so even when there is no evidence whatsoever that a change in market valuation is at hand. Let's look at the cost of equity for a company whose shares tend to lag the market.
Let's factor in the actual performance of the stock in recent years. Isn't it wiser to assume that a given stock will grow the way it has in the past than to use the S&P proxy for the growth of stocks generally as with the Capital Asset Pricing Model?
Let's say the stock of a company that pays no dividend offers a 3 percent net market gain to investors per year. Let's treat that stock as if it were bank debt for a moment. If that low growth rate continues, you might well buy this stock back in the future at a price reflecting the 3 percent growth. Thus 3 percent is the approximate annual cost of equity capital for this concern, not some theoretical cost several times higher, as implied by CAPM. If this company must pay 8 percent to take on debt, net cost after deducting the taxes saved would be about 5 percent. That's far more than the implied 3 percent cost of equity capital for this company.
For a cyclical company, this use of equity can be a smart strategy. Let's say a cyclical stock periodically moves from $10 up to $20, then drops back to $10. Once this stock rises to $15, you have a pretty safe bet that someday you will be able to buy it back at $10. Thus, this management would be smart to sell some stock at $15 with the likely prospect that in two to ten years, it could likely buy the stock back at a lower price (even $10). Ergo, the gain is a free source of capital.
In fact, Wall Street doesn't like cyclical companies that issue equity. For the Capital Asset Pricing Model suggests to the Street that cyclical companies must pay more for equity capital than virtually any other type of company. Yet when a cyclical's fluctuating stock is managed appropriately, it can have a lower cost of equity capital than a steady grower.
The CAPM can be an elaborate, widely accepted misconception stall when applied in many circumstances. Taken without reflection, it appears valid, but it has faulty underpinnings for comparing the cost of debt and equity. Using CAPM, many weak companies take on excessive debt at too large a cost: They experience unwarranted risk. In addition, carrying excessive debt slows their ability to grow, especially during bad economic times. Thoughtful analysis of a company's own circumstances can better determine the likely cost of equity capital.
When the CEO Speaks, People Act
"I crossed a parrot with a tiger."
--Anonymous
Here's a misconception stall more common than the CAPM stall. Top executive assistants at select companies were asked what single thing the CEO did that could be done better. The aides spoke almost as one in reporting that anything the CEO said was treated as gospel. Underlings scurried to make changes even when the CEO had only asked an innocent question, figuring the response would come at no cost from someone who already had the answer. Imagine the overhead expenses that could have been saved if all the needless changes initiated by such a misconception were stopped.
I'd Rather Do It Myself
We lose money on every sale . . . but we make it up on volume!
--An insolvent retailer
Imagine you are taking a walk and you see a dime. You pick it up, just as a $5 bill flies by. You have focused on the dime. Someone else grabs the $5 bill. The opportunity cost of picking up the dime is $4.90. Profitable ventures entail opportunity costs--the costs of not pursuing an alternative opportunity. In general, the opportunity cost of a business or investment venture is measured against the interest yield of U.S. Treasury debt, the safest financial alternative of all. Thus, a business venture that promises a 3 percent return when Treasuries are paying 5 percent would not be considered worth doing. The opportunity cost is excessive.
Corporations that undertake ventures that would better be left to other businesses usually ignore the opportunity cost. They think that they should do everything for themselves to avoid being at the mercy of suppliers. But they often make this exception: They will use outside suppliers when they can save actual dollars. Management authority Peter Drucker says outsourcing should be used to reduce the number of tasks that management must spend time on. Management should focus on tasks whereby it can add the most value to the firm. Outsourcing cost should be a secondary concern.
Keep in mind the hidden opportunity cost when you don't hire someone else to do the tasks at which they are better at adding value than you.
Cutting Costs Doesn't Increase Profits?
Cost reduction seems like something you should pursue whenever possible; but real, continuing cost reduction is seldom accomplished and profit growth is weak for many. Most big American companies today are focused on reducing costs. With few exceptions, they show no real growth in product volume except through acquisitions. The cost-cutters are not, by and large, generating significant new benefits for society in goods and services. What American corporations need to do more of is to produce new types of more beneficial goods and services that people will want to buy in quantity. To focus primarily on cost reduction is a misconception in most businesses.
Government Monopoly Is Highly Profitable: Not
One of the oldest political debates around concerns who should own the means of production. At one time, the state-owned monopoly was such a dependable source of revenue in so many different environments that it spawned the misconception that the state-owned enterprise is a very good way to run a business. Communism borrowed the idea of state-owned monopoly, but the fall of Communism has added to the proof that state-owned monopoly is a bad idea. Disproven though the theory is, the world still has not gotten rid of state-owned enterprises to the extent that is needed. If you simply cured this one misconception stall, you could dramatically raise the standard of living of an entire country. South American countries such as Chile are showing the way and, for the most part, have been experiencing more rapid economic growth. China is now trying to follow suit.
Here in the United States, we scoff at state-owned monopoly and pride ourselves on not subscribing to it. But when you examine municipal government, you'll find that communities actually do operate "state-owned" enterprises. They usually run the fire department, the trash service, the police, and so forth. So you might think that state-owned monopoly must work just fine after all, even though the experiment in the USSR showed the contrary. But consider this: About a quarter of a century ago, an Arizona community began to outsource municipal services such as the fire department and sanitation to private companies. They were able to operate at lower costs than other towns of similar size, and soon other Arizona towns followed suit. But state-owned municipal enterprise is still the standard in this nation. This viewpoint is a major misconception stall. The sooner municipalities outsource to more effective operators, the better.
"We Use All the Most Up-to-Date Practices": Hardly!
When you have the opportunity to interview a number of people in the same industry, you use benchmarking to determine the best way of performing a particular activity. If you are supposed to make a certain number of widgets in an hour, you need to find out who actually makes the most widgets per hour. People almost always believe they already have the best practice in what they do, without even bothering to look around and find out. Random calls in the industry show that, typically, no one knows of all the best practices in their industry, even though these practices are readily obtainable through a variety of means.
Borrowing money, for example, is a visible activity with strategies on record. Borrowing details can be obtained from public offerings or from disclosures in annual reports. Yet, in fact, companies are typically aware of only 20 to 35 percent of the good ideas for borrowing used in their industry. And they use even fewer.
In other areas of management, performance is even worse.
Stallbusters
This section provides solutions to the misconception stall. You will learn how to identify important misconceptions and identify accurate assumptions for immediate use.
Unmask False Assumptions
A company had assumed that advertising would work only when demand was highest for its seasonal food, yet others promoted similarly seasonal products all year around. After many decades, an advertising test was run in the lean period, and sales promptly took off. Do not let false assumptions trap your organization in a misconception stall. Use your own answers to the following questions to expose the false assumptions keeping you from exponential growth:
What are the things that your organization or company assumes will almost always work? Coca-Cola's introduction of new Coke in the 1980s provides a good example for our consideration of misconceptions. Prior to the development and introduction of new Coke, Pepsi-Cola and Coca-Cola engaged in bruising market-share battles in U.S. supermarkets. The first important shot in these battles came in the 1970s when Pepsi-Cola launched the so-called "Pepsi Challenge." Throughout the country, Pepsi offered consumers a chance to taste Pepsi-Cola and Coca-Cola in a blind taste test, withholding the identity of which was which product until after one sample was declared the better tasting. Large numbers of Coca-Cola drinkers were surprised to find that they preferred Pepsi-Cola. This attack helped lay the groundwork for New Coke. News reports at the time stated that Pepsi-Cola was preferred by people who wanted a product that was sweeter and had more carbonation. At some point in the protracted battles for consumer sales, Pepsi-Cola claimed victory in part of the campaign by saying that it had higher market share in U.S. supermarkets than Coca-Cola did. This announcement was undoubtedly threatening to the managers of a valuable brand franchise like Coca-Cola.
At some point Coca-Cola became interested in producing a new cola drink that Pepsi drinkers would prefer to Pepsi-Cola. In pursuing this opportunity, Coca-Cola assumed that market research to test the preferences for new products almost always works, particularly in taste-based competition. New Coke was thoroughly tested from this point of view. Coca-Cola was so sure that it had a winner that the company announced the retirement of the old Coca-Cola formula. You would not be able to get the old Coca-Cola anymore. A firestorm of protest arose, and soon Coca-Cola's new product was suffering large market-share losses. A few weeks later, Coca-Cola reversed itself and reintroduced its original formula as "Classic Coke." The furor soon died down, and Coca-Cola regained its market share. New Coke all but disappeared in a short amount of time.
Why was Coca-Cola's market research so wrong? According to industry observers, Coca-Cola actually made a miscalculation in its market research. As part of testing the New Coke, the company never mentioned that it might discontinue the Coca-Cola product that had been sold for decades. Consumers apparently assumed that they would be able to get either one. When they could not get the original formula, they felt they had lost something important. There was a strong sense of emotional loss of a tie to one's childhood and happy memories of the past. After all, Coca-Cola is a brand identity as well as a sweetened cola drink. Market research will almost always be right if what you test is actually what is going to happen in the marketplace. Coca-Cola appears to have skipped a step in this process, and that was what misled them about the reliability of their market research for forecasting what consumers would do.
Perhaps an easier way to understand the example is to imagine your feelings if the Walt Disney Company decided to replace Mickey and Minnie Mouse in all future cartoons and amusement parks with two really cute aardvarks named Sam and Sylvia. Doesn't quite seem the same, does it?
What are the things that your organization or company assumes will seldom or never work? The Coke-Pepsi example applies here, as well. Product comparisons are something that are as old as advertising. If your product is better or cheaper, making the comparison may help some consumers to decide to become regular users. In fact, Pepsi sold at half Coca-Cola's price during most of the 1930s and 1940s. In the cola soft-drink category, both Coca-Cola and Pepsi-Cola had avoided such taste-based comparisons for many years. Pepsi had assumed that price-based comparisons were the answer. Later, the Pepsi price was increased. Instead in the 1960s, Coca-Cola was teaching the world to sing and Pepsi-Cola was talking to a new generation. Using market research correctly, Pepsi-Cola accurately perceived that head-to-head taste comparisons would help its product. Had earlier generations of Pepsi-Cola executives tested this sooner (especially when the price was lower and Coca-Cola was ignoring Pepsi's moves), worldwide market share today might look quite different in the cola soft-drink business.
What are the things that your organization or company assumes will probably happen? Again, Pepsi-Cola provides an interesting example here. For many years, the parent company of Pepsi-Cola diversified into all sorts of other businesses including snack foods, a moving company, sporting goods, and restaurants. Although the company probably never said it, those actions gave the impression that opportunities were better outside of the cola soft-drink business. Perhaps the executives felt that they could never break Coca-Cola's very strong position in fountain accounts (typically restaurants, ballparks, and fast-food stands), and outside of the United States where Coca-Cola has and benefits from a wonderful bottling network that would be very hard to duplicate. Coca-Cola also did some diversifying but did it later than PepsiCo did and left the unrelated businesses sooner. Perhaps Coca-Cola was assuming that it would be hard to find a business with as much success and potential for the future as the soft-drink business.
What are the things that your organization or company assumes will be unlikely to or will never happen? Bottlers have usually been very loyal to one or the other of the two major competing companies. Imagine the sense of surprise in the 1990s when Coca-Cola signed up one of Pepsi-Cola's largest bottlers (ousting Pepsi-Cola) in one South American country. Other than filing a lawsuit, there was little that Pepsi-Cola could do. The bottler wanted to be with Coca-Cola. If Pepsi-Cola had been more vigilant in not assuming that bottlers would be unlikely to defect, perhaps instead it would have captured many Coca-Cola bottlers for itself.
On what beliefs are these assumptions based? We cannot know for sure in the cola soft-drink example, but the pattern here suggests that the false assumptions could have been based on the fact that the bottler loyalty problems had not occurred in the past. Generally, the world offers enough challenges that people in organizations will not feel much need to go out and look for problems that may never arise. That approach can be dangerous, however. Not only may those assumptions veil vulnerabilities that your organization has, the assumptions may also veil your best opportunities to pursue vulnerabilities that competitors have.
Have those beliefs been checked recently? This is a wonderful question because many assume that checking something once is enough, another misconception stall. Circumstances change, and something that was true a generation ago may be totally different today. Consider tastes in fashion. What is desirable in one period can be viewed as totally awful in another. Although we do not know for sure about the soft-drink industry, the actions and inactions make it appear that many areas had not been checked in a while.
Are those beliefs still true? Only a careful and thoughtful piece of market research can tell for sure. One fallout of Coca-Cola's problems with the New Coke is that the company's management is going to have a much harder time changing its cola formula in the future, despite the fact that there is reason to believe that the Classic Coca-Cola formula could be improved upon. What do you do if you are the new CEO? The time has probably come to check these areas again. Perhaps Coca-Cola has already done so in a quiet way and is satisfied with the answers. Perhaps not.
On the other hand, Pepsi-Cola might have a very interesting opportunity to do the two-cola strategy. On the other hand, perhaps not. Testing is the answer.
Identify the False Assumptions That Need to Be Changed Immediately
Some misconceptions require more immediate correction than others. This section helps you set priorities for where to turn your attention first.
Which of the false assumptions that you have exposed have large-potential consequences? So far, each assumption we have tested in the cola soft-drink industry has large-potential consequences. This is because the industry is so large and profitable, and because each company has a nimble competitor constantly seeking to find an edge. In this industry, assumption testing should be virtually endless. In your activities, fewer assumptions may have large-potential consequences. Quantification of the consequences helps.
Which large-potential false assumptions are in areas where your organization's actions can improve or make your situation worse? The answer seems to be in almost all areas for this industry. From product characteristics to new product development to marketing to distribution, and anywhere else the company spends its time and money, nearly all areas of these organizations are affected by large-potential false assumptions. This pervasiveness makes the management challenge of addressing assumptions even more interesting because the company that becomes better at identifying the 2,000 percent solutions to false assumptions is likely to be the long-term market leader in its product category.
When would you need to act to get most of the benefit or avoid most of the harm? Clearly, the answer has to be the sooner the better. Neither side in the cola market can assume that the other one is missing a key area.
What is the minimum evidence that would tell you that you should act immediately? You might think that the only evidence that is needed is likelihood of a positive market response. That could be a little misleading, however. Each company also has to consider how its competitors would respond. If Pepsi-Cola began taking large Coca-Cola bottlers, would Coca-Cola's retaliation by taking more Pepsi-Cola bottlers prove to be decisive? The combination of acceptable market and competitive response is the minimum evidence in this example.
Use Assumptions That Reflect Actual and Likely Conditions
In many cases, no one will ever know what is going to happen. Choosing assumptions that will prepare you better for the uncertainty can be very helpful. If you limit your assumptions only to reflect current, actual conditions, you will be very vulnerable to changed circumstances. With more volatile environments and more alert competitors, variation is the norm now.
What assumptions have worked best in the past for companies and organizations that operated in circumstances like yours? If you are Coca-Cola, you should examine category leaders in worldwide branded products with aggressive competitors for valuable assumptions. If you are Pepsi-Cola, you should do the same, focusing on companies that were number two in market share and that became number one with high profitability worldwide.
Gillette could be a valuable model here. Gillette always operated on an assumption in its international shaving business that it should make its products available to as many people as possible at the lowest possible price. Then, as people in that area of the world became more affluent, they could afford to buy more from Gillette. By arriving early, Gillette not only had a better brand position but made it far more costly for a competitor to follow, especially where distribution was very fragmented and difficult. Recently Gillette has moved to standardize its shaving products more around the world. Coca-Cola, by contrast, provides a mind-boggling variety of soft drinks that vary from country to country. Perhaps Gillette's assumption about how to compete globally contains one or more lessons for Coca-Cola.
Which of these assumptions fit your company's or organization's values and style? Modern consumer-goods companies are more similar than different in many ways. Many share executives were trained at the same schools and companies (e.g., Harvard Business School and Procter & Gamble). Each company is subject to similar sorts of regulatory and governmental scrutiny. Distribution channels are often similar. Potentially, any idea could be adapted from any company.
In reality, each organization has very different values and style. Popular press reports suggest that Pepsi-Cola has historically been more likely to be an attacker. Coca-Cola, until the South American bottler switch, was more often a thoughtful defender. Coca-Cola likes to work on its overall image, while Pepsi-Cola is willing to create an image tied more narrowly to a segment of the population (especially when Michael Jackson was featured in the company's advertising). Both companies have historically moved more slowly to improve bottling operations outside of their companies than would have been desirable. This seems to suggest a reluctance to push hard in this area.
Following the death of Roberto Goizueta, Coca-Cola appointed a new CEO. The new man is reported to be much more aggressive. Pepsi-Cola should reconsider its assumptions about Coca-Cola's values and style. Coca-Cola may act differently now.
Which of these assumptions would be received enthusiastically by customers, employees, suppliers, shareholders, and the communities you serve? If either company were to become more aggressive in simultaneously improving product taste, strengthening worldwide bottling operations, and finding ways to knock its competitor off-stride, the response would be overwhelming from these communities, unless financial viability (in the form of survival) were to come into question. Coca-Cola probably does not have that survival risk, but Pepsi-Cola might. Dropping the assumption that each company will go for steady, rapid growth in earnings per share would make quite a dent in the competitive marketplace. Perhaps each company should test its investors' preferences for steady earnings growth versus a few years of depressed results followed by an enormous improvement above the current trend line. That could be the controlling assumption in this marketplace for the long run.
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