Strategy

Two very different ways of thinking about investment and risk are in competition. One emphasizes the financial risk of investing; the other concerns the competitive risk of not investing. In normal times, the bearishness of the former tends to complement the bullishness of the latter. But during extremes in the business cycle, the author argues, the balance between the two can break down. Specifically, companies seem to overemphasize the financial risk of investing at the bottom of the business cycle, at the expense of the competitive risk of not investing. This is dangerous, in the author’s view, because it can create a lasting competitive disadvantage. Using examples from the semiconductor, paper and diamond industries, the author argues that it doesn’t make sense to stamp out either financial or competitive risk, even though financial risk could be eliminated by investing not at all and competitive risk could be eliminated by investing indiscriminately. Instead, managers need to strike a balance between the errors implicit in these two types of risk: the error of pursuing too many unprofitable investment opportunities as opposed to the error of passing up too many potentially profitable ones. The original version of this article was published in the Sloan Management Review in Winter 1993. In this updated version, the author expands his views in light of the 2008 economic downturn.

The rules of nature can help you succeed in adversity, but they can also steer you wrong.

What really precipitated the global financial crisis?

People aren’t stupid "Ò they just often act that way. Noted behavioral economist Dan Ariely explains what that should mean for strategists.

Managers and directors alike face tough choices as they decide on the quality and quantity of information that the board receives and uses in its governance and fiduciary roles. As the fallout from recent crises such as the subprime mortgage debacle illustrates, both sides must address the problem of “information asymmetry” & #8212; the gap between the information available to management and to the board. The authors’ research suggests that tomorrow’s boardroom will be reshaped by three related forces: First, they face a thorough rethinking, brought on by concerned stakeholders, of directors’ information needs. In responding to these pressures, boards and management must overcome several impediments: caution about altering the dynamics of the present manager-director relationship; directors’ lack of needed skills for interpreting the new information; and the inertia of cultural norms. Second, they face dramatic improvements in the performance assessment approaches used to guide boards’ decision making. The core of a healthy information relationship between managers and directors is their agreement on the most useful performance metrics to track and assess. This selection enables the building of trust and an eased and more pertinent workload for the board (having been freed from the need to decode reams of data while also gaining some independence from management’s sometimes self-serving evaluations). Finally, boards and managers face the adoption of technologies that support critical board functions. Once access to such information is granted, new technologies can help directors obtain and use it. Board members may apply tools that, for example, enable improved visualizations and helpful alerts. And directors may engage in electronic “what-if” analyses, using company data as well as outside information & #8212; related, say, to competing firms & #8212; which is becoming increasingly available online.

To understand the financial crisis, view it as a systems accident.

Although top managers must project an image of professionalism and strength, they still require networks of individuals they can trust. The development of trust depends on the degree to which the executives perceive the presence of three critical attributes & #8212; ability, benevolence and integrity & #8212; within their support networks, and on their ability to match these qualities with the type of support they are seeking in any particular situation. We model the support being sought as having high or low informational complexity and high or low emotional demand. The combinations correspond to four types of support requested: raw information (low, low), actionable advice (high, low), emotional support (low, high), and strategic or political help (high, high). Meanwhile, the three critical attributes (each with either a high or low rating) translate into eight kinds of support providers: Trustworthy Partner, Harsh Truthteller, Moral Compass, Loyal Supporter, Star Player, Average Joe, Dealmaker and Cheerleader. Executives in need of actionable advice will most often turn to Trustworthy Partners or Harsh Truthtellers, given their high levels of ability and integrity. For strategic or political help, Trustworthy Partners will be sought because of their high levels of ability, benevolence and integrity. Seekers of emotional support will look to Loyal Supporters and Trustworthy Partners because they offer high levels of benevolence and integrity. And when the three facets of trust are less critical, executives will be willing to go to virtually any of their contacts for raw information, though most often they seek out Average Joes. These and other matches were observed, useful data was gathered and valuable insights were obtained when we tested our model on vice presidents, directors, general managers and other executives at a Fortune 50 technology firm.

R&;D alliances with suppliers or universities are more likely to be fruitful.

In buyer-supplier relationships in which companies depend on one another, performance may improve.

Providing support, training and opportunities from day one is critical.