Dangerous Digits

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By Michael E. Raynor

Theory To Practice

Michael E. Raynor headshotLike most of you, I worked my way through high school and college. The jobs I had covered a wide range of occupations, everything from selling T-shirts with salacious pictures on them in tacky holiday towns to mopping up spilled beer in high-volume breweries. The job I enjoyed most at a visceral level was in construction. I’d start at the beginning of the summer on an empty field and leave behind in the fall a finished structure; I still find excuses to drive by the high school I had a hand in building. (And my right shoulder still bears a four-inch scar where a sheet of aluminum siding said “hi.”)

Like most of you, my occupation now is much more ethereal. I don’t “make,” in the good, ancient, Teutonic sense of that term, much of anything. I make things in a purely metaphorical sense—the sentences and paragraphs that, I hope, create a difference in how other people think about the world and hence have an impact in their own ways.

Many managers have as their primary occupation to make something else: numbers. To make the right numbers—that is, turning in a specified financial performance over a specified period of time—they give directions to hire and fire people, expand or contract capacity, raise or lower prices.

At one level, the desire to make the numbers is entirely rational. Most companies of any complexity periodically measure their financial performance. How certain people deem your company, or your slice of it, to have done is very often the primary determinant of how well you have done, which in turn determines how much money you get. And although most of us would say money isn’t everything, we all have lots of interesting things to do with it, and can generally find good uses for more.

If we look deeper, however, it might not make much sense at all. Measuring corporate financial performance necessarily demands that we measure performance over time. The default period is one year, but that is for reasons having more to do with the accidents of celestial geometry than any underlying economic reality. Unless you’re harvesting crops, the periodicity of the Earth’s orbit has only a coincidental relationship with economic cycles.

But if our annual totting up of the scores is the basis of parceling out the spoils, we shouldn’t be surprised at the hilarity that often ensues when largely rational actors collide with largely irrational economic incentives. Beyond the stereotypical slashing of the R&D budget, we see travel that would under normal circumstances be deemed essential suddenly become superfluous, mandatory training mysteriously transformed into an extravagance, and painstakingly developed customer relationships become crassly transactional in the pursuit of whatever revenue will hit within the next ninety days. It is a fascinating reversal of the alchemist’s project, with gold bars turned into lead shot.

The self-defeating tendency to eat the seed corn—or, worse still, strip-mine the cornfield—is, like the weather, something many people complain about but few seem able to address effectively. We all “know” that short-term optimization is a bad idea; yet, like so much in life, present temptations often drive out our best intentions for the future.

If behavioral economics has taught us anything, it’s that simply resolving to do the right thing is essentially futile: We are mammals first and rational decisionmakers second. We instinctively lunge for what looks like the key to short-term survival no matter the putative longterm cost because if we don’t survive today, what does the future matter? And make no mistake: In the face of an existential crisis, no one argues against doing what it takes to survive.

Modern organizational life, however, is rarely so black-and-white. Instead, our primal instincts end up distorting our interpretation of the facts, and we too often perceive short-term cost-cutting in the service of this year’s profits as a relatively sure thing and investments in the future as too uncertain to bank on.

The facts suggest otherwise. There’s ever more and strong evidence that it doesn’t take much patience at all to realize the benefits of investing in differentiation and growth. Unfortunately, facts rarely carry the day when arguing with the human psyche. We need structural “nudges” to trick ourselves into doing the right thing.

How about this: Most annual budgets consist of far more than a single number specifying desired end-of-period profits. We typically include details on how we expect to create those results, including forecasts for sales, expenses, investments, profit-margin percentages, and so on. Not infrequently, these plans commit to value-creating initiatives, including growth, increased efficiency, innovation, etc. In contrast, rare indeed is the plan committing an organization to lay off competent managers, terminate promising product-development efforts, and forgo early advantages in new markets.

So, should we find ourselves contemplating these sorts of measures in the service of achieving purely financial targets—that is, in order to make the numbers—let’s keep in mind that for anything worthwhile, how we get it is often more important than the getting itself. In other words, how we make the numbers matters as much as whether or not we make the numbers. The numbers should be only one of the things we hope to make; the plan must count, too, and sacrificing the plan to the numbers is, if anything, a far greater failure than the other way around.

With that as our bias, when it begins to look as though we are going to miss our profit (or growth or share-price) targets, perhaps the initial recourse should be to ask whether we have first made all the other elements of the plan. If so, perhaps it was a flawed plan, and maybe those who drew up the plan should bear the brunt of the pain implied by any remedial measures.

On the other hand, if the financial results you committed to aren’t materializing because you didn’t make those other elements of the plan, perhaps the causes of your impending distress lie farther upstream. Not making the numbers because revenue is down? Maybe you need to spend more on separating yourself from your competitors to command a price premium or win greater market share. That might mean something as relatively quick as increasing marketing spending. It could imply medium-term investments, such as broadening your distribution channels. Or it could demand actions that call upon that rarest of traits, patience, as you invest in something like innovation.

What is almost certain is that cutting costs in ways that increase your profits in this quarter to make your targets for the year is highly unlikely to raise revenue. In a modern-day twist on the tortoise and the hare, it really is “slow and steady that wins the race.” But unlike the hare’s approach, it is not complacency born of hubris that results in this unexpected outcome. Rather, companies committed to hitting nearterm targets seem systematically to leave themselves too exhausted to run the next leg of the race . . . which begins the day after the current fiscal year closes! The key, then, is perhaps to focus not on making the numbers but on making the plan.

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