The Tyranny of Single Corporate Metrics

by quantellia 29. September 2012 15:53

Investors, academics, and the media are increasingly complaining about corporations that maximize shareholder value at the expense of all other factors.  Yet there is an emerging consensus that this thinking is flawed, from both a legal and a practical perspective.  Lynn Stout, a Cornell University law professor published "The Shareholder Value Myth" earlier this year, in which she demonstrates that there is not, indeed, such a legal requirement.  Stout and a host of others, such as Joe Nocera in the New York Times and Steve Denning in Forbes, also describe the damage done to corporate America by a single-minded focus on this metric.

 

Yet if not shareholder value, then what?  Denning and Nocera both chronicle the emergence of focus on customers  as a good substitute: if you delight the customer, the thinking goes, shareholder value will be pulled along for the ride, but not the other way around.  Denning goes on to warn against any approach that seeks to achieve multiple goals as simply not practical for any organization of substantial scale.

 

We shouldn't throw in the towel so easily.  Historically, companies have found it difficult to manage to multiple goals.  Yet customer delight as a single metric has its own flaws. And new technology can expand our capacity to work effectively in an organization without the "garbage can" anarchy described by Denning.

 

As illustrated below, we have reached a watershed, where our need to understand how decisions will play out in complex scenarios has increased, while technology has become easy enough to use that we can substantially expand our ability to think clearly about difficult situations.  The need to move beyond single metrics like shareholder value or customer experience is a great example.

 

 

Blue Jeans and Lear Jets

 

Denning quotes the following story from Jim Sinegal at Costco:

 

We were selling Calvin Klein jeans for $29.99, and we were selling every pair we could get our hands on. One competitor matched our price, but they had only four or five pairs in each store, and we had 500 or 600 pairs on the shelf. We all of a sudden got our hands on several million pairs of Calvin Klein jeans and we bought them at a very good price. It meant that, within the constraints of our markup, which is limited to 14 percent on any item, we had to sell them for $22.99. That was $7 lower than we had been selling every single pair for.

 

Of course, we concluded that we could have sold all of them (about four million pairs) for that higher price almost as quickly as we sold them at $22.99, but there was no question that we would mark them at $22.99 because that’s our philosophy.

 

I use that as an example because it would be so tempting for a buyer to go with the higher price for a very quick $28 million in additional profits, but ours didn’t. That’s an example of how we keep faith with the customer.

 

Denning goes on to describe a new approach: "Customer Capitalism", where the goal is to use this new focus on customers instead of shareholder value. Under this model, the thinking goes, it's OK to sell blue jeans less expensively because of the longer-term loyalty that results.  The situation is, however, substantially more complex, as we'll show in the video below.

 

Even more problematic is the fact that an exclusive focus on customer delight leads to its own issues.  One: the "Lear Jet problem": if customer delight is your sole focus, then there's an easy way to win every time: give every customer a Lear Jet with their purchase. Problem solved.

 

Of course, that's not the solution. We must balance customer delight against cost, revenues, and other business factors. And every department will make that judgment differently, so we're back in the garbage can. As simple metrics go, customer delight is probably better than shareholder value, but the fact remains that we don't need to be so simple-minded.  The good news: we can balance cost with revenues, customer delight with price, to more deeply understand how the pieces fit together so they hum along in a coherent system. 

 

The tougher news: we must.  Our business competitors in other countries are often better at systems thinking, at understanding unintended consequences, nonlinear patterns, feedback effects.  In a now-classic article by Josh Kerbel in Studies in Intelligence, the author describes the West's systematic failing in this realm.  Against this backdrop, managing a company through a single metric stands out as simplistic in the extreme.    Furthermore, international analysis of business practices leads us to conclude that we can move beyond single metrics, with substantial benefits.

 

Thinking more clearly

 

The video below illustrates this point.  As you watch, you'll gain—in under eight minutes—a deep understanding of the complex and sometimes subtle dynamics at play as cost, price, customer loyalty, and competition interact in the Costco blue jeans pricing situation described above.

 

 

Using tools like World Modeler, as shown here, can help companies to move beyond simplistic metrics like customer value.   We can finally engage in an agile ballet to balance markets, customers, technology, and, yes, shareholders.  Taking this approach will allow us live up to our full business potential, enhancing our companies and the societies they serve.

 

Please sign up at worldmodeler.com to learn more.

 

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The opinions expressed herein are my own personal opinions and do not represent my employer's view in anyway.

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