Strategy as prediction and why many Co.'s choose to optimize

“It's tough to make predictions, especially about the future.”

― Yogi Berra

Following its definition: “to predict or estimate a future event or trend”; it follows that strategy is a form of forecasting.

Michael Porter calls it “the creation of a unique and valuable position, involving a different set of activities.” If we accept his premise, how can anybody create without prefiguring what will be created?

Therefore, a good strategist, and many a CEO fancies himself as such, needs to formulate a prediction of what portions and segments in the market to go after and what activities will give his company a competitive position, so as to outperform rivals by establishing a difference that can be preserved. The biggest hurdle is that we, humans, are lousy forecasters and, to add insult to injury, we are irrational decision makers too.

Don’t agree with my statements? I’ll give you a quick test. Don’t need to show anybody the results. Just keep them to yourself.

Two companies serve a town. The larger firm makes 4 sales each month, while the smaller makes 1. Each sale is about the same size: 1 million US dollars. The statistical record over the last ten years shows that, in that market, 50% of all proposals going to potential customers end up in a sale. The exact percentage may vary from day to day and year to year. Statistics also show that the profits generated are at 30% of sales, regardless of volume.

In 2017, both companies recorded their yearly sales. The smaller company registered a 60% success rate for the whole year. The bigger one showed the usual 50% rate. Both companies are in the market right now. You’re looking to make an acquisition and the smaller firm is being sold at 26.5% the price of the larger one. 

Will you buy? (The answer can be checked at the end of this post.)

Now, let’s go back to the thread at hand.

In my perspective, Porter’s proposals in “What is Strategy?” make a world of sense. My only caveat is that I’m not sure I share his classification of “fit”. His categorization of what Neutrogena does with hotels as “reinforcing fit” instead of “consistency fit” feels like splitting hairs. In order to “reinforce”, one has to be consistent to begin with and consistency, in turn, reinforces action. How reinforcing actions cannot be consistent or vice versa escapes me. However, regardless of whether one thinks “fit” has three forms or only one, I can agree that it is certainly a fundamental component of competitive advantage.

If I make an analogy with another exercise in forecasting: where and when to take a vacation, I see the validity of Porter’s points. I need to know my destination, what means of transportation are more cost/efficient and what kind of items in my destination will provide the returns (enjoyment at an affordable cost) my shareholders (my wife an I) are seeking.

Strategy provides the initial thrust for the whole experience. If we do not know where we’re going it will be mighty difficult to meet any goals. 

Setting the destination is not the end of the strategic exercise, though. If we’re going to an Oceanside location, throwing in a visit to an ice-skating rink may not be appropriate at all. If the location does not have good services, or shopping, some allowances will need to be made regarding their proximity to a prospective hotel. If the target destination is a National Park, other items will need to be in the list of “must do’s”. By the way, how’s the weather during that window of time? 

We need to define our position as vacation travelers with as much detail and information as we can or we risk ruining the experience. Each piece has to fit and all pieces will help us round a clear position for our vacation.

Using the analogy, the challenge to executives and companies today are that, bar some places with unique features; many, many “vacation” locations look exactly the same.

Additionally, to most people, what is important is to be idle regardless of any other consideration. Hence, people focus on the places they already know that have good highways to get there, the “best” beaches (or forests, or lakes, etc.), the “best” value offered by restaurants, hotels, shopping centers and the driving distance required to get there without making the whole experience dreadful. The trip challenges are efficiency and monetary value: discounts, sales, offers, timing of shows or events, etc. 

The mandate is seldom to discover the new, small town, we did not know about that will blow our minds with its scenery and cozy features.

How many executives emerging from the MBA Ivy League educational factory these days are really willing to challenge their families into going places they (and most other people) have not gone before? How many have the stamina to keep educating and informing their fellow travelers about why and how the trip has been planned, especially when faced with the “are we there yet” questions posed by Wall Street? 

If we add the uncertainty inherently associated with forecasting and the lousy capability of humans to make sense of the void that is the future, it should not be a surprise that most opt for fighting the operational optimization battles instead of truly creating strategy for their companies. Papers like “The Balanced Scorecard” don’t help either. But that is a topic for a separate blog post.

Leoncio Estevez-Reyes, lwe@andrew.cmu.edu

And now the answer to the question above: “NO.”

Why would you pay a premium for this small company when statistics tells you otherwise? The law of large numbers indicates that what we’ve seen in 2017 is just “noise”: a component of the randomness of any small data set.