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Why Smart Chief Executives Make Dumb Decisions

How to Avoid Eight Common Blunders

The missteps that led to today’s economic troubles continue a long history of decision-making failures.  Earlier this year the New York Yankees priced box seats in its new ballpark at $2,500 and quickly had to offer discounts.  Two years ago Mattel and Nike each recalled carloads of products because of faulty manufacturing in China.  The year 2005 saw the delayed response to Hurricane Katrina and the opening of Boston’s Big Dig, five years late and five times the projected cost. 

Looking further back, there was London’s Millennium Dome, the Challenger explosion, the Waco siege.  At Ford there was the introduction of the Edsel and later the Pinto recall.  There was the Barings bankruptcy, New Coke, the Bay of Pigs invasion.   Decca Records said “guitar groups are on the way out” and “the Beatles have no future in show business.” Napoleon sold the Louisiana Territory for less than $300 million in today’s money.  The Trojan horse, a gift from the Greeks, carried hidden Greek warriors into the rival city. 

Why do these debacles happen?  Most certainly lack of data is not the cause today.  Indeed, company-wide ERP systems that give chief executives real-time access to all kinds of metrics can actually contribute to faulty decision-making:  As more data is introduced, the number of contradictions that must be reconciled grows. There are limits to the amount of information the human brain can process in a reasonable manner.  The chief executive is forced to accept some pieces of information and reject others — and often selects, unconsciously, what supports a preliminary conclusion. In both business and personal affairs, we often make decisions without full awareness of how much intuition and emotions influence our choices.       

Globalization and rapid-fire technology developments are forcing executives to make more decisions and deal with more complexity than ever before.  Offered more opportunities than they have resources available for pursuing them, executives can be tempted to develop too many projects, short-changing those with the highest potential.  Yet focusing excessively on high-potential opportunities – a common practice — also poses danger because these opportunities carry the highest risk of failure.

Here are eight reasons why decisions fail to improve the profitability, competitive advantage or performance improvement results that were expected.

1.  Predetermining Decision-making’s Outcomes

When the company’s leaders want their deliberations to produce a desired outcome, they may downplay or ignore contradictory evidence.  This can easily happen when, for example, the leadership has an emotional investment in one of its options, or its highest priority is meeting financial goals, or a project’s momentum gains it adherents as it moves forward.  In these situations, the leaders might not ask tough enough questions.

Can’t we afford to maintain a valued tradition?  The W.T. Grant retail chain collapsed in 1976.  Among the reasons for its demise was continuing to pay its quarterly dividend after becoming unprofitable, even borrowing funds to do this.

Should the company change or defend a threatened business model? Kodak Co. understood as far back as the early 1980s that digital photography posed a threat to its paper and chemicals business.  Committed to further developing its pioneering technology, it kept investing more in it than in the clearly superior digital alternative.

Can we lower costs but maintain product quality?  Until the 1970s Schlitz Brewing Co. had been America’s second-largest brewer, trailing only Budweiser.  (It was number one until 1957).  Seeking higher profits, the company cut the cost of ingredients and accelerated the brewing process.  Schlitz replaced much of the barley malt in the beer with cheaper corn syrup and shortened the brewing cycle from 40 days to 15.  When the product broke down, causing sludge, Schlitz was forced to recall 10 million cans of beer.  It had to close down its Milwaukee brewing plant in 1981 and the following year it was purchased by Stroh’s.

Should we introduce this product?   The idea of a cigarette that would burn cleaner and deliver fewer toxins had high appeal to the R.J. Reynolds Tobacco Co.  It introduced its Premier cigarette, which met these needs, in 1988 despite the product’s shortcomings: It was difficult to light, the smoker had to inhale harder and it left a charcoal-like aftertaste. The product, which cost $1 billion to produce, was dropped from the market after less than a year.

2.  Pursuing Phantom Synergies

Eager to make a merger or acquisition, a management team may envision potential synergy when there is little or none at all.

UAL’s United Airlines acquired Hertz and the Westin hotel chain in the 1970s.  Customers booking flights would happily let agents also book their car and lodging, the theory went.   It found that many of its customers preferred other car companies and less expensive hotels, however. The company sold both acquisitions in the 1980s.

American Standard Companies, whose business was plumbing supplies, air conditioning and automotive systems, believed that one of its ceramics technologies could be applied in healthcare.  It acquired Foster Medical Corp. in 1984 and the following year bought two nursing home operators, all of them regulated and markedly different in other ways from American Standard’s core businesses.  It exited from this industry in 1999, with a $126 million write-off.

The U.K.’s leading drugstore chain, Boots, envisioned becoming “a healthcare provider to the nation.”   It added dentistry, chiropractic and travel inoculation services to its business but without success.  “We did not have the know-how, its CEO, Steve Russell, admitted.

Brand extensions can let a company enter a lucrative new market or broaden its market share.  But too much confidence its brand can make the company over-reach:  Gerber’s wanted to use its baby food jars for single-meal servings for adults that it introduced as Gerber’s Singles.  But too few adults liked spooning their food from a little jar and the product was withdrawn from market.  There had been a Harley-Davidson perfume and celery-flavored Jell-O, both also discontinued.

3.  Hoping History Repeats Itself

A business can draw the wrong lessons from a past success.  It may try to apply the strategy to a very different kind of challenge.

Disney’s first foreign park, opened in 1983 in Tokyo, attracted large numbers of Japanese, drawn in great part by their love affair with American pop culture.  Its success could be replicated in Paris, the company leadership believed.  But the French have no such love for America. They like wine with their meals and enjoy their picnics, both prohibited by Disney.  They stayed away, until Disney lifted its wine and picnic restrictions and lowered its admission and lodging prices by significant margins.

Sears Roebuck acquired Dean Witter Reynolds in1981 and Coldwell Banker & Co. in 1989.  Its model was the success of Allstate Insurance, which it established in 1931. The company first offered auto insurance in its Sears catalog and opened its first in-store insurance office three years later.  It profited from years of good management and innovation, but also because it was part of a rapidly growing industry.  Success would have come whether or not business was conducted in stores. The company mistakenly believed in-house brokerage and real estate operations would thrive there.

The most dramatic object lesson in this kind of failed decision-making comes from Henry Ford.  He tried to establish a Michigan-style town in the middle of the Amazon jungle so he could make his own rubber for tires, hoses and other car parts.  The managers of Fordlandia, as Ford called it, had to travel 18 hours by riverboat to get there.  The town had neat streets, a water system, no alcohol or tobacco, American-style housing for the indigenous workers and an unaccustomed mess hall diet for them that included whole-wheat bread and canned peaches.

What Ford did not have were a botanist who could tell him rubber trees cannot be grown close together in plantations, an entomologist who could help combat the insects that denuded the trees, or a microbiologist to deal with the ravages caused by jungle infections. Fordlandia has been described as “a broiling, pestilential hellhole of disease, vice and violence.”  It never produced a drop of latex but Ford, who never visited there, continued to invest in it, $20 million altogether.  He eventually sold the town to the Brazilian government for $224,200.

4. Exaggerating Our Abilities

Business leaders routinely overestimate their ability to control their organizations. They remember their successes better than their failures and define their record from this skewed perspective.  Numerous studies show that everyone does this; in one of the studies, for example, 75% of respondents scored their driving ability as above average or excellent.  Chief executives can have more trust in their abilities than others do because their previous judgments have earned them their positions.  This trust may be so ingrained that they ignore the red flags all around them.   

Overconfidence in the ability to spot potential problems allowed rogue traders like Nick Neeson to bring down Barings Bank and swindlers like Bernard Madoff to orchestrate his world-record Ponzi scheme.  It was reported last year that lack of control at the federal Railroad Retirement Board resulted in between 93 and 97 percent of career Long Island Rail Road employees retiring early with disability payments each year since 2000.

5.  Planning for Yesterday

The ground can shift quickly as decisions are being pondered.  The paging device manufacturing industry consolidated during the late 1990s, just as cell phones began overtaking that business.  ZapMail cost FedEx hundreds of millions in write-downs because it was introduced when faxing was improving in quality and becoming less expensive.  Even as the dot.com boom was fading, it continued to attract new start-ups and venture capital investment.

6. The Culture of Risk

We are an optimistic people.  This has contributed strongly to our nation’s economic success and encouraged others to emulate us. Regrettably, we tend to honor the optimists and punish the pessimists and leaders are prompted to take huge gambles.  Perhaps today’s economic problems would not have appeared in a less risk-oriented culture.

7.  Self-Interest

Things can quickly go terribly awry when executives stand to improve their personal situation by making favorable decisions.  Self-interest might have influenced the awarding of the outsized bonuses that are now a flashpoint in the national debate.  New academic studies suggest that many businesses set compensation for executives by establishing peer groups of companies that are larger or have more highly-paid executives.

8. Tricks of the Mind

Human frailty contributes importantly to faulty decision making.  It may be the most challenging of all the causes of business blunders.  Examples of the tricks our minds play:

Escalating Commitment: “I’ve paid so much for car repairs so maybe I should keep this clunker.”  “I probably should just hang up and dial again but I’ve been on hold so long.”  We want a payoff for our investments and tend to keep investing rather than admit defeat.

Vividness: We give more credibility to evidence that we personally observe than evidence from other sources.  Information that comes in early carries more weight than what comes later.  The first impressions people make influence what we think of them later.  

Misplaced Concerns: We tend to over-estimate the likelihood of low-probability events that cause a visceral reaction and underestimate the likelihood of high-probability events that have a less emotional component.  We have a higher fear of sharks than fear of drowning.  We concern ourselves about airline crashes and give less attention to heart disease, which each day causes the deaths of all the people who could fit into 14 jumbo jets. 

Building the Case for Action: We give more attention to the perceived harm of omission than the perceived harm of action.  We can’t let the competition get to market first, the reasoning goes.
The Lure of Simplicity: We want a problem to have a single cause (better marketing needed) when there may be many (pricing, product quality, lagging innovation, wrong distribution outlets, weak sales force, etc.)

Anchoring: When a meeting participant opens the discussion by estimating it will take $2 million to complete a project this number becomes the “anchor” for the deliberations.  If the manager had said $4 million instead this number would become the anchor and the group’s final estimate would likely be higher.

“Of Course They’ll Understand”:  We tend to assume that others will use our own system of logic and start with our own assumptions.  This belief can cause huge misunderstandings when there are cultural differences.

How to Make Better Decisions 

To make a successful decision, the chief executive must understand that instinct or emotions can easily derail the decision-making process.  The executive has to put aside any preconceived idea of what the right answer is, particularly when self-interest is involved.  Evidence for or against a conclusion must be weighed objectively. The evidence should be gathered from all the stakeholders, from functional experts throughout the company and employees at all levels.

Executives with a forceful personality in particular should ensure sources of information that honest input is wanted, especially when basic assumptions or the status quo must be questioned.  Participants in the process should be encouraged to keep resisting the executive’s initial conclusions. The executive should look continually for red flags that signal that planning may be going in the wrong direction.

It is important to recognize that team members responsible for making a judgment might have a stake in the discussion’s outcome, or one of the participants might have a too-large influence in the group, or the team might consider reaching consensus more important than making the right decision. 

When looking for solutions that worked in the past, the executive has to be certain they can be applied in this new situation.  That the problem can be much more complex than originally envisioned.  That aggressive moves by competitors need not be matched; sometimes inaction is better than action and the company will be better off without another executive mandate.   That when an acquisition appears attractive the anticipated synergies might be more illusory than real.  That conditions can change radically between the time deliberations begin and the time an arrived-at decision begins to be implemented.  That the human mind can play tricks.

Bill Russell is a Performance Consultant and Tracy Cox is Director of Consulting at Raytheon Professional Services LLC (RPS), a subsidiary of Raytheon Company.  A global outsourcing company, RPS helps its clients improve their business performance by redesigning how they train their employees, customers and partners; implementing new training designs; and managing the training in multi-year engagements.

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