Constructive Cynicism Part 1

One would think that managers entrusted with the financial health of companies would thoroughly scrutinize and question new practices before employing them. Managers should be expected to demand proof of validity before heavily investing in such practices and trusting their companies' futures to them. But is this the practice? For the answer, one need only examine the current status of many managerial perspectives that were touted in their heydays as absolutely correct, and widely embraced. Unfortunately, several are in various stages of disrepair today.

Diversification. Success at companies such as Textron was offered as proof that decentralized, conglomerate companies provided the best structure to achieve unlimited growth across a wide range of business activities. The reality for most companies, however, was far less spectacular. Returns actually declined with increasing product diversity.

Total quality management (TQM). Accomplishments at Japanese manufacturers, exemplified by Toyota, were presented as confirmation that manufacturing quality was America's solution to (1) competition from abroad and (2) customers' increasing frustration with shoddy products. But it turned out that quality wasn't free, as promoted. The true requirements of this movement have proven to be far more demanding-- financially and socially--than claimed, and many companies have fallen victim to their overzealous acceptance.

Downsizing. Achievements at companies including General Electric and IBM were submitted as evidence that lean, reengineered companies focusing on their core competencies were best able to combat aggressive competitors. In practice, most downsized companies experienced lower performance for many years following the downsizing.

These three perspectives were promoted through prominent examples, which appeared to verify them and give promise to their generalizability. Their limitations are more obvious in retrospect.

In reality, these were simple observations that seemed so intrinsically correct that they eluded proper scientific rigor; they were nothing more than "analytically supported myths." No doubt that when first suggested, managers (1) dismissed subjecting them to the healthful skepticism and testing that any new business practice deserves and (2) likely pronounced the supporting correlations (spurious as they might have been) as causal. In many ways, analytically supported myths are more insidious than the now-preposterous mythology of our ancestors. Their apparent objectivity makes them persuasive and difficult to distinguish from scientifically established fact.

Unfortunately, accepting analytically supported myths leads managers to specific actions almost always propelled by the myths' assurances of increased profits. For the most part, the folklore that upholds these myths isn't a deliberate attempt to mislead. Rather, the myths are advocated and embraced for their promised improvement of business performance: performance: attaining or maintaining competitive advantage. The limited instances in which they appear to work--the observed or implied successes from very few applications-- prompt a cadre of consultants, gurus, and business professors to prematurely promote them across industries and situations.

The contemporary business world isn't short on consultants, gurus, and business professors. These agents of change, each of whom has particular ideas about how business really works, operate in a highly competitive environment. Their successes today can be overshadowed by their failures tomorrow, because they were bested by a colleague or competitor whose ideas were more readily embraced by business clients. This pressure to win triggers a frenetic rush among them, to be first to champion each new "big idea." Their need to respond quickly to management's next huge problem also tends to limit any scientific testing of the proffered ideas.

But it's not just these advisers who are to blame for the adoption of analytically supported myths. Managers function in extremely stressful surroundings, make decisions with less than- perfect information, are painfully aware of their previous mistakes, and are subject to abundant second-guessing from both inside and outside their organizations. Adding to these stresses is the need to continuously improve their business models, as mandated by the intensifying demands of competition. Pressures on managers are immense. But although they seek a true understanding of the factors in their businesses, they generally don't have the luxury of time to wait for a thorough examination of every new solution presented to them.

The resulting danger is an openness to readily accept new ideas, proposed relationships, explanations, and quasi-theories when they are in general agreement with managers' current views, practices, or beliefs. We call such decision-making behavior "biased acceptance." The traditional instincts to question and doubt are sidestepped based on the comfort of consistency.

After all, managers are only human--and human psychology dictates that we see the world in a manner that resonates with and reinforces our experiences and needs. This interpretation influences how we explain the phenomena we observe. As a result, managers often insinuate preconceived notions--and even biological biases--to explicate new practices in the guise of the scientific method.

Our Epiphany

We experienced a very personal discovery while tracking the business results of customer loyalty--a phenomenon that today's management gurus widely advocate, and a strategy on which we've built a sizable consulting practice. In our client contacts, we became perplexed by the frequently inconsistent and underwhelming results of customer loyalty initiatives. Loyalty just wasn't living up to its claims. To set ourselves straight, we launched an investigation into what was empirically known about customer loyalty, the actual mechanisms underlying it, and what proof had been offered in support of claims.

In a two-year exploration, examining hundreds of companies worldwide, we gathered 53 beliefs relating customer loyalty to business outcomes. To our dismay, these widely accepted and relied upon maxims (many of which we, along with others, had perpetuated) turned out to be nothing but gross oversimplifications, false claims, and otherwise inaccurate viewpoints. They were 53 analytically supported myths! Under objective scrutiny, most failed the test of simple logic. And yet company after company was committed to one or more of them, more than 40,000 books touted their value, and consultants continued to promote their adoption.

For example, most managers have been told that satisfied employees create satisfied and loyal customers. However, numerous studies investigating the direction and magnitude of any association have openly contradicted this proposition. These studies have generally failed to reveal any consistent relationships! More pervasive studies, tracking employee satisfaction all the way to business results, have failed similarly. Employees obviously shouldn't be disregarded, but their satisfaction's importance to customer loyalty has been exaggerated to mythical proportions.

Likewise, managers have been admonished to retain every customer because customers are assumed to increase their spending the longer they remain with a company. This tenet, suggesting that customers (like fine wine) improve with age, has been the keystone of most customer loyalty initiatives. The sad truth is that for the vast majority of companies, long-term customers aren't necessarily more valuable. This holds for two reasons:

1. Consumptive needs, more than tenure, drive purchases in most categories. When we think about our lives, the fallacy of this perspective becomes obvious: Do we buy more groceries, use more dry cleaning services, or consume more gasoline simply because we keep using the same providers?
2. Certain types of customers act as a drag on profits no matter how long they stay. This is because they demand discounts and special treatment, and require high servicing costs. The longer they are retained, the more damage they cause to a company's profitability.

Interestingly, in the debriefing interviews that we conducted, managers expressed their assumptions that sufficient evidence supported all of the customer loyalty myths. They referred to sophisticated linkages that had been described to them, ones purported to show each maxim's contribution to business outcomes. The problem with all of this supposed proof is that no tangible benefit to a company's bottom line was ever clearly documented. There were only the implied promises apparent in the conceptual linkages, and an occasional well-circulated article in a prestigious but non-refereed business magazine.

In the case of customer loyalty maxims, managers' unwavering commitment is surprisingly paradoxical; contradictory evidence confronts them every day. Each year, companies commit billions of dollars to advancing the loyalty of their customers, hoping to experience the benefits of improved profitability. But where are the enhanced profits and all the happy, loyal customers? Customer loyalty is approaching its lowest measured level, yet managers continue to ride the loyalty bandwagon.

Impact of Corporate Culture

Similar disconnects are evident for many current management visions beyond the loyalty movement. They have permeated management thinking and seduced managers into perceiving relationships where there aren't any--at least not those to which cause and effect have been attributed. For example: Managers have traditionally been led to believe that higher market share leads to higher profits, and that customer \ revenue is a good surrogate for customer profitability. Both views have been soundly disproved; they're analytically supported myths, and nothing else. Nonetheless, countless management teams continue to be held accountable for achieving revenue and market-share targets.

Managers' susceptibilities to biased acceptance are promoted or impeded by the overarching corporate cultures in which they operate. Many different cultures foster it.

The fixation with relationships culture. Management too quickly assigns causality to observed relationships. Let's revisit the relationship between customer tenure and customer profitability. When looking at the average annual profitability of customers by their tenures with a company, profitability appears to increase over time. This finding invigorated the customer loyalty movement.

The problem is that this finding isn't a function of the length of customers' relationships, but of the customer base's composition over time. Simplistically, companies can be thought of as having three types of customers: profitable, break-even, and costly. Interestingly, these customers tend to have different retention rates. Specifically, costly customers are more likely to defect than profitable customers. So within a cohort of customers, as each year passes, the proportion of profitable customers vs. costly customers is inclined to increase. Because profitable and costly customers are apt to maintain their profitability or costliness over time, the cohort appears to generate more revenue. But it's a function of mix, not changed behavior.

The expert intuition culture. Management is convinced that it truly understands how its business works. Therefore, emphasis is placed on findings that corroborate that view, fostering biased acceptance. For instance, senior management at a large, multinational retailer believed that a primary driver of lost sales was key items being out of stock. This was corroborated by customer comments indicating an inability to buy items when shopping at its stores.

As a result, the retailer's purchasing function was restructured, and practices were reengineered to increase warehouse efficiency. All managers had risen through the ranks of the operations function, so they felt certain that they'd resolved the issue successfully. Customer complaints on the subject, however, didn't subside.

It wasn't until managers decided to shop at their stores that they discovered the real cause of lost sales. They were given lists of the stores' 100 most popular items (in terms of sales) and told to find them. All items were known to be in stock. When the managers were unable to find half of them, they realized that the problem wasn't product availability but store layout.

The culture in pursuit of desired outcomes. Management needs to achieve a particular objective. Consequently, models are retrofitted to obtain the desired outcome. Virtually every manager has witnessed support for a project based on models that are designed to hit specific thresholds. Its origins date back to the early days of scientific management. For example: Ford Motor Company, under the leadership of Henry Ford, had no real idea as to the cost of its operations. In his critical analysis of the American automotive industry, The Reckoning (William Morrow & Co., 1986), David Halberstam describes employee Arjay Miller's rude awakening upon joining Ford in 1946. When he sought a profit forecast for the next month, the response he received was: "What do you want it to be?" (Miller later rose to become president of Ford.)

The emulation culture. Because respected companies have claimed success with a particular strategy, management assumes that (1) the strategy's validity has been tested and (2) it is transferable to its company. This bandwagon effect is often encouraged through flattering business-press articles about the strategy, and the advocating of management gurus. In fact, the widespread acceptance of virtually every management fad (including the three previously discussed) has followed this pattern. Unfortunately, such lemming like behavior frequently leads management over a cliff.

Consider the Wallace Company, a Houston pipe and valve distributor. Management wholeheartedly embraced TQM to gain competitive advantage. And the company was so successful at its TQM efforts that it became the first small business to secure the coveted Malcolm Baldrige National Quality Award. Unfortunately, the expected profits didn't materialize. Within two years of winning the award, the company declared bankruptcy and was forced out of business.

The unifying factor in these four cultures: First managers believed, and then they adopted an analytically supported myth.

Read Part 2