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Global The free business magazine featuring articles from the world's most prestigious business schools.


Global The free business magazine featuring articles from the world's most prestigious business schools. Quarterly: March, June, September, December. All articles are authorized reproductions

June 2011 h t t p : / /www. G l o b a l B u s M a g . c o m / info@globalbusmag.com Papegaaistraat 76, 9000 Gent Belgium


INSIDE this issue The hype about Skype

4

Many-stop shopping? How niche retailers are thriving on the internet 2.0

6

Re-evaluating the supply chain post-Japanese earthquake

10

Top Talent

13

American Express CEO shares leadership lessons from 9/11 crisis

16

The art of Fujitsu management

17

Can your business plan survive this stress test?

19

Online Chatter and Sales Go Hand-in-Hand

21

Bad behavior

22

When Is Bad Publicity Good?

24

Track record

26

Satisfaction not guaranteed

28


The hype about Skype At first blush, the numbers behind Microsoft’s deal to purchase Skype for $8.5 billion don’t look good. The price tag is three times higher than what eBay netted when it sold Skype 18 months ago. It’s almost 10 times Skype’s revenue and 400 times its operating income in 2010. Plus, Skype posted a $7-million loss last year. Not surprisingly, most of the business world was skeptical about Microsoft’s chances of recouping its investment.

“That came as a bit of a revelation to me,” Sundaram says. Still, there’s plenty to be skeptical about. If we assume a mid-point free cash flow of $150 million, the purchase price is 57 times greater than the free cash flow. That’s almost double the typical ratio in corporate acquisitions, which means Microsoft will need to aggressively grow Skype’s business, and leverage Skype to grow Microsoft’s business, in the years to come. Just how aggressive will these companies have to be? “The short answer,” Sundaram says, “is that they have to increase Skype’s cash flows for every year, from now to forever, by about 12 or 13 percent.” Is that a high growth rate? “Ludicrously high,” Sundaram adds.

Tuck faculty member Anant Sundaram was skeptical too. But when he looked more closely at Skype’s financial statements, Sundaram—who teaches corporate valuation and is co-developing a corporate valuation iPad app called “iValue”—realized that most of the pundits were overlooking a key metric: free cash flow. Yes, Skype lost money in 2010, but only if you focus on its net income, a number that was rendered unreliable by various accounting maneuvers after it was bought and sold by eBay. Sundaram wanted better data, so he added back depreciation and amortization—the non-cash charges on the financial statements—to operating income (after adjustments for taxes, reinvestment, and other things), and found that Skype had somewhere around $120 to $180 million in free cash flow at the end of last year. “Although it would seem like this is a lossmaking company,” he says, “if you focused on free cash flow, they actually have a reasonably decent, healthy cash flow.” Put another way, Skype’s free cash flow was about one sixth of its revenue, which is not bad.

But not outside the realm of possibility. If the cash flow growth rate starts out very high, say 50 to 55 percent, and then fades steadily to something like nominal gross domestic product growth for the long run, Microsoft’s move may be vindicated. “I still think it’s an overvaluation,” Sundaram explains, “but not an outrageous over-valuation.” After all, look at Facebook: it has 700 million members who don’t pay anything to use its services. But the latest indications from private investors such as Goldman Sachs put Facebook’s value at $50 billion. Skype has 663 million users, of which 9 million are paying customers. If Skype could monetize even a fraction of its users and increase its paying customers, perhaps it could be a real competitor among Google and Facebook. “If we are saying, ‘Why not?’ to a $50 billion valuation of Facebook,” Sundaram says, “$8.5 billion for Skype isn’t so crazy.” He also points out that Facebook grew its cash flow at more than 100 percent per year in the past couple of years, and that Google, starting in 2002 (when it was similarly-sized to today’s Skype), grew its cash flow at an average of over 60 percent per year through 2010. So there is some precedent


for Microsoft’s aspirations. If you stick with the official story from Microsoft, it plans to use Skype to bolster its existing software, not to change the business model to get advertisements in front of the eyeballs of its users. Could that strategy pay off? Maybe, says M. Eric Johnson, the Benjamin Ames Kimball Professor of the Science of Administration and director of Tuck’s Center for Digital Strategies. Johnson points out that the Skype deal comes on the heels of a strategic partnership between Microsoft and Nokia—the leading mobile phone manufacturer in the world—to feature Windows software on its phones. Since most new smart phones have forward facing cameras, mobile video conferencing through Skype is becoming a popular way for people to communicate domestically and internationally. “If there’s any place they’re going to find really big synergy,” Johnson says about the combination of Microsoft and Skype, “it’s the mobile phone market. Because then it’s not just selling Skype or figuring out how to monetize Skype, it’s using Skype to monetize Windows Mobile and develop a platform that’s really competitive with the iPhone.” The only problem with this plan is that it cuts out the cell service providers like AT&T and Verizon, since using Skype with a cell phone circumvents international calling plans. But using Skype requires the transmission of vast amounts of data, so the likely play is for cell companies to get rid of flat data rates, if they haven’t already, or increase data fees. “They might not get a longdistance charge out of you,” Johnson says, “but they can charge you for being a data hog.” The extent to which data costs provide a disincentive for using Skype on cell phones is unknown, “but it’s going to be really fascinating to watch it play out,” Johnson believes. Microsoft’s other big plan is to sprinkle Skype’s

technology around its Xbox, Windows, and Outlook software. Of these, Johnson thinks Outlook is the place where Microsoft truly stands to benefit from its ownership of Skype. “The power in the Microsoft Office suite has definitely been declining,” he says, “but Outlook still stands as their fortress of strength, because most businesses still use it.” If Skype is integrated effectively into Outlook, it could become the doit-all application for business communication, allowing users to chat, text, phone, email, calendar, and videoconference seamlessly. Today, videoconferencing is big a missing piece in Outlook—most businesses use Cisco’s WebEx for that. “If Microsoft can really make this work,” Johnson says, “there’s a lot of value there.” As Microsoft figures out how to inject Skype into its business software, Johnson asserts it’s going to have to rehabilitate Skype’s image as a consumer-oriented tool that presents a security threat to companies’ networks. This is a valid concern, since Skype is a peer-to-peer service that basically bores a hole in network firewalls, allowing massive amounts of data to pour through. As a result, many businesses prohibit their employees from using Skype. But the problem is easily solved: Just switch Skype from a rogue application to something that’s standardissue, and businesses will adapt. “If it gets sold with Outlook and bundled into business software,” Johnson says, “then I’m sure this issue will go away.” Even for a company as big as Microsoft, which has nearly $50 billion in cash, an acquisition of this magnitude is not without its risks. The day after Microsoft announced the deal, it shed $1.3 billion in value, a sign that investors weren’t sanguine about the news. They have good reason to be skeptical, since Microsoft’s track record on acquisitions isn’t stellar. For instance, in 2007 it paid $6 billion for the online advertising group aQuantive, but that has barely dented Google’s mountain of market share. The same goes for its search engine partnership with Yahoo.


Many-stop Shopping? How Niche Retailers Are Thriving on Internet 2.0

Sundaram, who advises senior managers privately and in Tuck Executive Education programs, believes that Microsoft’s bold purchase might indicate just how desperate it is to grow its market value. “One of the things that CEOs struggle with,” he says, “is wondering where the next $10 to $20 billion business is coming from. Because there aren’t many of those around.” It’s extremely timeconsuming and rare for companies to achieve this Published: May 11, 2011 in Knowledge@Wharton kind of growth from the inside, Sundaram says, so they look to buy firms whose operations and technologies can be force multipliers. Can Skype do that for Microsoft? Only time will tell. Kirk Kardashian This article is republished courtesy of http://www.tuck.dartmouth.edu/news/articles/

A decade after pets.com and a string of other early Internet specialty retailers collapsed, a new wave of start-ups -- enabled by the power of cloud computing, advanced delivery systems and deep social relationships with customers -is shaping e-commerce. From diapers and eyeglasses to pool tables and, yes, pet products, entrepreneurs are developing specialty businesses to compete alongside onestop shopping giants like Amazon.com and Walmart.com. "There is a new generation -- Internet retail 2.0," says Wharton marketing professor David Bell, noting that after the 2000 dot-com bust, activity in online specialty retailers dried up as financing became difficult, or impossible, to get and industry executives struggled to evaluate failed business models. Now, engineers have dramatically reduced obstacles to creating webbased businesses, and entrepreneurs have learned more about how to capture online consumers. Many of these small players are working in


affiliation with Amazon or other major online retailers that assist with the marketing platform and/or delivery fulfillment. Others are folding into bigger sites. This month, Seattle-based Amazon paid $545 million to acquire Quidsi, a New Jersey retailer that delivers diapers and baby products under the name diapers.com and recently started selling soap and cosmetics. Last fall, Amazon paid $1.2 billion for Zappos, the specialty shoe retailer.

In the earlier days of online retailing, Bell notes, companies overestimated the value of "eyeballs," or the number of visits consumers made to a site. Retailers now understand more about converting visits into sales, often by building relationships through social commerce tools, including blogs, Twitter and Facebook. "Companies are learning how to turn their own customers into their sales force," says Bell. "The whole social media platform wasn't around in the first boom."

Online sales continue to outpace overall retail spending growth. In 2010, U.S. e-commerce sales totaled $165.4 billion, up 14.8% from 2009, the U.S. Department of Commerce reported. Looking forward, eMarketer, which tracks the digital marketplace, estimates online sales will rise to $188 billion in 2011 and $269.8 billion in 2015. According to eMarketer, 87.5% of U.S. Internet users over age 14, or 178.5 million people, will browse or research products online this year. Of that group, 83% will make an Internet purchase in 2011.

Jeffrey Grau, principal analyst at eMarketer in New York City, predicts that social connections will continue to drive growth for Internet retailers as mobile technology expands. "There are a lot of creative business models coming out all the time that involve social commerce or mobile commerce. There's a lot of innovation going on in e-commerce."

The Internet lends itself to specialty retailing because it allows companies to offer huge product portfolios without having to stock inventory in bricks-and-mortar shops. Wharton marketing professor Stephen Hoch notes that Amazon itself began in 1994 as a niche player selling books only. Now, the $34 billion company markets everything from fine jewelry to industrial supplies. According to Hoch, improvements in computer technology and graphics allow consumers to get a better sense of what they are buying online. "People, especially young people, have grown up on this and are more trusting and more confident about buying online." Zappos, for example, made it easy for consumers to buy shoes -- "the one thing that really has to fit right" -- online with liberal return policies. And eyewear e-tailer Warby Parker will ship sample frames to customers. The site also has an interactive feature that allows shoppers to upload their photo to see what they would look like in different styles.

Pitching to New Parents But Wharton marketing professor Peter Fader cautions that e-tailers hoping to evolve small niche lines into national mega-brands face difficult, if not impossible, odds. He cites the marketing law of "double jeopardy" and research showing that big brands enjoy higher sales and more brand loyalty than their smaller, more specialized counterparts, which tend to appeal only to the most avid buyers. He uses the example of a consumer who buys a specialty brand of gentle laundry detergent for people with sensitive skin. That person is probably still buying name brands such as Tide to meet his or her other needs. A business based on the specialty detergent could never scale up enough to capture significant sales from the major brands, Fader says. Online specialty retailers can be successful if they understand their limitations, and construct logistics and marketing operations to suit that size. "Unfortunately, too many small brands don't view themselves as a specialty," Fader points out. "They think they can compete with the big guys."


As a result, the company spends too much on broad-based advertising and other attempts to drive scale. Ultimately, Fader says, they "get crushed.... If you admit that you are a small brand, go after the specialty angle and say, 'People will buy us only occasionally' -- and you keep costs down and keep the message focused -then you can be okay." However, he adds, "That [approach is] not sexy and doesn't sell well to the venture capitalists." According to Wharton marketing professor Leonard Lodish, diapers.com retailer Quidsi, founded in 2005 by Marc Lore and his business partner Vinit Bharara, has the important characteristics for an online specialty retailer today -- strong execution and lavish customer service. Lodish, who served on the board of Quidsi before its acquisition by Amazon, says the firm developed highly efficient distribution networks revolving around state-of-the art information technology. Its warehouses are equipped with sophisticated robots handling automated fulfillment. In addition, Quidsi developed a software program, called Boxem, that calculates the best sized box for any individual order, saving on shipping and other costs. However, Lodish says the company's most important asset is its relationship with new parents, fostered through its own customer service staff, not a remote call center. "Their customers love them," notes Lodish. "Their reputation with young mothers is better than anybody else by far. People talk about them and refer friends to diapers.com when they have new babies." After battling Quidsi on diaper pricing, Amazon offered to buy it. "The present value of what Amazon was offering was better than what [Quidsi] could do on its own -- That's the right way to look at it from the point of view of the shareholder of the company," says Lodish. Wharton marketing professor Barbara Kahn

describes Amazon's purchase of Quidsi as the online version of a long-established retail phenomenon known as the "wheel of retailing" in which large companies seeking scale and new capabilities often acquire specialty retailers to expand their offerings in a one-stop environment. However, in time, new specialty retailers discover niches and create targeted organizations to meet those customer needs better than the large retailers -- and the wheel turns again. The differences between a company like Amazon and a small specialty player illustrate the disparities between a market-share model, designed to serve as many products to as many people as possible, and a customer-focused approach aimed at developing deep loyalty from shoppers, according to Kahn. The new breed of Internet specialty retailer is reaching customers by building communities among customers, she adds. In traditional retail, the closest example of this kind of effort is at independent running stores where customers come together to form running clubs and train for races. "In the virtual world you can do that around any interest," Kahn notes.

Three Engineers vs. 40 Social commerce is critical to Davis Smith's latest venture. In 2004, he founded pooltables.com, which shipped pool tables made in China to consumers' homes. Smith sold that business to a competitor to focus on his next company, an online baby product retailer in Brazil called Baby.com.br -- modeled largely on diapers.com. While the margins on diapers are slim, Smith says, the new company's strategy will be to develop loyalty so that mothers return to the site frequently, not only for diapers but also for wipes and other baby products. "In these niche markets, customers, especially mothers, expect great customer service and [significant] depth of products and they actually want a community," Smith says. The site, scheduled to open this spring, will have outlets for consumers


to share their pregnancy and parenting experiences. "This whole idea of social commerce is very new. No one has really figured it out entirely yet. But a lot of people are coming in brand new with a lot of fun ideas." Once he has a customer hooked, Smith figures families with two children will be loyal customers for at least six years. "When you find mothers coming back to the website to buy the wipes and the formula they need every week, there is a tremendous opportunity to up-sell and cross-sell other products." Those same mothers, he adds, could be converted to other consumer products because "they are not going to want to strap their toddlers into a car seat to run out to buy q-tips or Windex or toilet paper." Beyond logistics and customer relationships, some of the new web entrepreneurs are focused on creating their own products. Bonobos, a men's apparel e-tailer, designs, develops, sources and merchandises its own clothing brand. "So unlike Zappos or Quidsi, we are not about offering the deepest selection of brands on the market," states Bonobos founder Andy Dunn, who started the company in 2007. "Rather, we want to curate brands, and go so far as to actually create and own the very best of those brands." Dunn calls the strategy "vertical web retailing." Even pet food is getting a second look. Petflow.com, founded in 2009, is delivering food and other pet supplies on a new subscription model that relies on regularly scheduled deliveries. Julie Wainwright, former CEO of Pets.com, says specialty retail start-ups today are operating in a completely different world than when Pets.com folded after famously promoting its business with commercials starring a sock puppet during the Super Bowl. First, Wainwright notes, the number of people with Internet access, including mobile devices, has grown from 250 million in the early part of the decade to around five billion today. In addition, technology has evolved with new plug-

and-play solutions that had to be custom designed for e-commerce firms in the first wave of online retail. For example, new start-ups today can buy a digital shopping cart from a software company. Pets.com had to design its own. Wainwright says three people can now do the work of creating a site that took 40 to 45 highly skilled engineers a decade ago. Back then, cloud computing was unknown. Each individual ecommerce site had to operate its own servers and backup systems. "Now, it is pretty easy for any mom and pop to set up an e-commerce site," states Wainwright, who is currently running a health consultancy. Wharton's Bell says that in addition to mom and pop entrepreneurs, many top business school graduates are looking for ways to start their own firms rather than migrate to finance as they had in recent years. And as Wainwright notes, online retailing today is becoming an increasingly creative outlet. Rather than simply moving products out of warehouses, online retailers now have the opportunity to build elaborate sites incorporating photos, video and music that can express a personal vision.

Subsidiary or Competitor? For some, the long-term strategy may be to scale up and sell to Amazon or cash out in a stock offering. Others, according to Bell, seem driven to build their firms and remain in control. While Quidsi and Zappos agreed to be acquired by Amazon, he notes that Groupon rejected Google's $6 billion offer. "It comes down to the vision of the individual founder and the size of the opportunity to be had." Dunn, the Bonobos founder, says service-driven, product-depth players like Zappos and Quidsi are good candidates for acquisition by larger firms. "We don't want to compete with them at their own game, which is low-cost product depth," Dunn notes. "In the long run, we would be more honored to be their competitor than their subsidiary. But we've got miles to go to even think about that possibility." Not all


entrepreneurs are drawn to the online world. Patrick FitzGerald is working on another diapersoriented venture, Nanny Caddy. The company provides vending machines stocked with diapers and other baby items, such as pacifiers, wipes and sunscreen, to child-oriented locations, including zoos and museums. FitzGerald's prior start-up, RecycleBank, provides incentive programs for recycling. "You can't get more in the physical world than trash and vending machines," says FitzGerald. The key difference between managing an Internet and an offline company is the relationship with customers, which he argues is more powerful in a company that works primarily in the physical world. The downside is that a business like Nanny Caddy requires significant travel and hands-on involvement. "The logistical component of moving Nanny Caddy and delivering nationwide is not so easy. I have much bigger forearms than I did before."FitzGerald stresses that first-hand feedback on the ground is critical. "You learn very quickly where the holes are," he says. "It's easy to sit in a room and pound away at spreadsheets, but sometimes you have to get your hands dirty."Online or off, retailers will always face the pressure to generate profit, Wainwright notes. The online retail marketplace has a lot of "clutter," and e-commerce companies face challenges, she adds. "The economics are not that much different than bricks-and-mortar stores. The margins are slightly better, but they are still thin margins."

RE-EVALUATING THE SUPPLY CHAIN POST-JAPANESE EARTHQUAKE Minimize the risk in your company's supply chain By Professors Carlos Cordon and Winter Nie April 2011

Japan’s devastating earthquake, tsunami and nuclear accident have served as a wake-up call across the world to show just how fragile global supply can be. With almost 9% of the world’s economic output coming from Japan, these events have had a direct impact on many companies that rely on Japan for manufacturing parts, and have caused countless disruptions across the global supply chain.

Wharton's Hoch also adds a note of caution: "In the future, there is a lot of opportunity for startups in specialized e-tailing. But it's also easy not to succeed. The barriers to entry are low, and the barriers to exit are low. A lot of people are trying things. Sometimes you just can't tell exactly what is going to work." For example, it has been reported that Apple was "Republished with permission from facing tight supplies on the lithium-ion batteries Knowledge@Wharton used in its iPods. The bottleneck was traced to (http://knowledge.wharton.upenn.edu), the online Kureha, a relatively obscure Japanese chemicals research and business analysis journal of the Wharton manufacturer which had to shut down its factory School of the University of Pennsylvania." near Iwaki following the disaster. Although the


company’s factory had remained intact, it was the damage to the ports that was creating the blockage in the supply chain. How does a company that outsources its production deal with unexpected events ranging from Japan’s catastrophic earthquake and tsunami to unprecedented floods in Australia or an Icelandic volcano? Until recently, many corporations entrusted their supply chain operations to middle level management. The chief purchasing officer, if he/she existed, usually reported to the CFO, CIO or COO. CEOs had relatively little exposure and experience in dealing directly with supply chains. Often, the purchasing officers paid more attention to cost and product quality than to the risk factors in sourcing. The earthquake in Japan is changing all of that since many global supply chains have been disrupted to varying degrees. The global supply chain is the natural outgrowth of a rational attempt to remain “asset light,” in other words, focusing on a company’s core competencies and outsourcing the rest by taking advantage of low-cost sourcing. No one questions the value of the concept or of just-intime manufacturing, but it is increasingly apparent that the approach works best when the global economy is stable, protectionism is not prevalent and strong, and there are few natural disasters. The global economy has become increasingly integrated, and the growing frequency and intensity of natural catastrophes, such as what took place in Japan need to be factored into strategic planning. All of these factors have changed the rules of the game and created a radically new environment which requires a fundamental shift in thinking with regard to the supply chain.

From “cost and value” to a “cost, value and risk model” Most companies see their mission in terms of producing the highest value for customers at the

lowest possible cost. Asset-light and just-in-time manufacturing maximize efficiency, but the missing part of the equation is the risk that some part of the chain could malfunction. An egregious example of miscalculated risk is BP’s inadequate assessment of the potential danger from a deepwater oil leak in the Gulf of Mexico. Since BP had subcontracted its engineering to Halliburton, it assumed that the risk of a spill would be borne by Halliburton. As the public saw it, BP’s management was ultimately responsible despite the fact that the source of the mishap was outsourced. The miscalculation ultimately cost BP’s CEO his job. Outsourcing is still a valid strategy, but supply risk needs to be factored into the model. Lego, the Danish toymaker famous for its plastic bricks, took a more enlightened approach. The company pondered outsourcing its production to an Asian supplier specialized in plastic injection molding for computer printers. A deeper investigation revealed that the two companies had radically different philosophies concerning the molds. The Asian supplier favored low cost, light-weight molds that were changed frequently as new printer designs came on line. In contrast, Lego, which depends on all its components interconnecting, sometimes uses the same molds for 40 years or more. A minor variation in the specifications risked making Lego’s bricks unusable leading to poor results for the company. In Lego’s case, it made more sense to in-source its production, even if it was slightly more expensive. The global supply chain is only as strong as its weakest link, and it is crucial to know where the weak links are.

From arm-length financing to joint financing Another variable of risk is expensive credit in the post-financial crisis world. Large corporations like Cisco and General Electric normally enjoy preferential credit because of their size and dependability. Smaller companies are riskier


propositions to banks and loan institutions, so credit is likely to be more expensive and limited. For smaller suppliers, this can mean bankruptcy if the cash flow dries up, and for a large corporation that outsources the lion’s share of its production, that can spell disaster. Large corporations are learning that they can no longer ignore the credit conditions experienced by their key suppliers. At the basic level, major corporations can serve as loan guarantors to see that suppliers stay in business. More enlightened corporations have begun using their size to negotiate preferential terms for their key suppliers. Honda is an example of a corporation that uses its heft to negotiate preferential prices on the steel used by its suppliers. Other corporations have used their size to convince banks to extend credit to suppliers at the corporations’ preferential rates. By securing cheaper rates for suppliers, the corporation reduces its own costs. The banks come out ahead since they face substantially reduced risk. Another approach is for a corporation to simply extend credit on its own without going through a bank. When Toshiba wanted to build a new factory to ramp up its production of flash memory, Apple prepaid Toshiba $500 million for its chips so that the company could speed up the project. In the process, Apple ensured that it was not caught short and Toshiba eventually produced a third of the flash memory that went into the new iPad. In the current climate, product life cycles are accelerating. The advantage to a company of being the first to launch a new product may be as little as six weeks. If a company misses that window, it will be unable to reap the full benefits of its R&D investment to bring new products to the market first.

Re-thinking the supply chain model Given the enormous impact of the supply chain

on a company’s bottom line, executive input at the highest level of the corporation’s management team is increasingly important. The transition from mere purchasing function to outsourcing requires expertise in managing external relations. While it is easy to quantify sales and production, deciding what weight to attribute to risk is more difficult, and it requires a different skill set and different metrics, as well as a new mindset. Professor Carlos Cordon is the LEGO Professor of Supply Chain Management at IMD and Professor Winter Nie is Professor of Operations and Service Management at IMD. They both teach on IMD’s Managing the Global Supply Chain program. This article is republished courtesy of http://www.imd.org/research/challenges/


Top Talent Research by Steven N. Kaplan Steven N. Kaplan is Neubauer Family Professor of Entrepreneurship and Finance at the University of Chicago Booth School of Business.

Looking for the best CEO? A recent study finds that efficient and persistent decision makers trump good listeners. As the highest-ranking officer of a company, a chief executive officer (CEO) is in charge of setting the direction and implementing strategies to achieve his or her overall vision for a company. The CEO also is often one of the most visible parts of a company and some have even achieved “rock star” status in the press. Finding the right CEO is obviously important for any business. But beyond anecdotal evidence on what CEOs do and how they affect a company’s fortunes, there are few studies that analyze which qualities make a good CEO. Most theoretical studies either assume that all CEOs are equal or differentiate them according to talent, but do not say what those skills exactly are. Empirical work in economics and finance is just beginning to consider which particular CEO abilities are important, while management literature has mostly focused on observable characteristics such as education, test scores, functional background, and age. The problem with looking at easily observable factors is that

these are at best proxies for underlying qualities for which data would be difficult to gather. “It is impossible to do a study like this unless you can get 300 people to sit down and tell you their entire life story,” says University of Chicago Booth School of Business professor Steven N. Kaplan. But a recent study by Kaplan and coauthors Mark M. Klebanov, PhD ’08, with Ziff Brothers Investments, and Morten Sorensen of Columbia Business School comes close. It systematically and extensively analyzes which CEO characteristics and abilities matter for hiring decisions and the subsequent performance of companies funded by private equity firms. The authors use detailed evaluations of 316 CEO candidates, which are based on four-hour structured interviews from 2000 to 2006. The data, compiled by management assessment firm ghSMART, are used by private equity investors when deciding whether to invest in a company and when choosing a new CEO. Each assessment includes quantitative and qualitative information about a candidate’s personal history and assessments on various skills and attributes. The study shows that it is possible to measure individual CEO characteristics and abilities beyond the usual observable factors, and that crucial decisions made by private equity firms and the eventual success of their companies hinge on certain skills and attributes that top bosses possess.

Finding the Relevant Factors Two of the most common investment strategies used by private equity firms are providing venture capital (VC) for a young business with high growth potential, and buying a controlling stake in a company financed through leverage or what is known as a leveraged buyout (LBO). The CEO skills that private equity firms look for and that are essential for success may differ according to the type of investment.


CEOs who are currently employed by a company may have different qualities from outside candidates who are being considered for the top post. Indeed, one of the authors’ observations from the data is that outside candidates, especially for LBOs, score higher than insiders on most of the 30 characteristics assessed by ghSMART. This is consistent with a number of explanations. First, private equity firms hire outsiders when internal candidates are not performing well. Second, it is an important function of these firms to upgrade managerial talent in the companies in which they invest. Third, the incumbent manager may have control of the company so that the private equity firm must keep the current management, even if he or she is not the best candidate. Finally, concerns about employee morale and other internal conflicts may prompt investors to keep the incumbent management. Another observation is that a candidate who scores well on one characteristic tends to score well on others. This strong correlation suggests that talent, ability, or skill have some kind of general quality that encompasses many dimensions. However, when trying to find out which specific attributes really matter, it would be difficult to interpret the results of an analysis that includes all these related characteristics. To address this problem, the authors perform a “factor analysis” to extract the factors to which the most important characteristics are related. They find two strong factors in the data, both of which have intuitive interpretations. The first factor captures general talent or ability. The second factor is one that contrasts interpersonal and team-related skills against execution-related skills. Candidates who score high on the second factor have high ratings on such qualities as treating people with respect, being open to criticism, being a good listener, and valuing teamwork. On the other hand, candidates who do well on such characteristics as being proactive, efficient, persistent, and moving

fast will tend to score lower on this second factor. For instance, former General Electric CEO Jack Welch, who was often referred to as “Neutron Jack,” would probably get a negative score, while his successor Jeffrey Immelt, who was famous for holding “dreaming sessions” with customers and developing “imagination breakthrough” teams, would probably get a positive score. The authors also create two alternative factors that come from breaking up the second factor into two distinct variables: one that describes interpersonal and team-related skills, and another that represents execution-related skills.

To Hire or Not to Hire Hired candidates score significantly higher than non-hired candidates on many of the characteristics assessed by ghSMART. This also is true when hired and non-hired candidates of LBOs and VCs are analyzed separately. The more skills a CEO candidate has, therefore, the more likely he or she will be hired. This means that overall talent or ability is a desirable quality that private equity firms look for when deciding who to place at the helm of their companies. Such execution-related skills as being fast and aggressive are fairly important, especially for VCs, while team-related skills like being open to criticism and listening are significant for LBOs. There also is a strong tendency to hire incumbent CEOs, which might be interpreted as placing a substantial value on firm- and position-specific skills relative to general skills. In fact, the ratings of incumbent CEOs who are eventually hired are not much different from non-hired incumbents, partially reflecting the fact that private equity firms have no choice but to keep the current CEO if they want to make an investment in that company. In general, the patterns suggest that abilities can be measured and that hiring decisions are based on those perceived abilities.


Which Skills Matter for Success? To find out whether certain CEO characteristics and abilities are related to company performance, the authors use three measures of success. The first measure relies on direct appraisals of the CEOs by the private equity firms, while the second supplements these appraisals with information from public sources. A CEO is considered successful if he or she has led a company to a clearly favorable exit such as an initial public offering or sale to another company. On the other hand, a CEO is unsuccessful if the CEO’s company either went bankrupt, was sold to another firm under distress or at a substantial loss, or if the CEO was removed before an exit occurred. A broad public indicator of success is the third indicator, which takes into account the previous measure as well as positive news reports regarding a company’s operations or receipt of additional funding at higher valuations. Comparing the ratings of successful to unsuccessful CEOs, the data shows that successful CEOs score higher on most characteristics, especially for LBOs, no matter which measure of success is used. The results for VCs are harder to interpret as they appear to be affected by the technology bust earlier in this decade. But overall, successful CEOs attained better ratings and scored significantly higher, particularly on execution-related skills. The study found that CEOs who scored higher on the general talent factor tended to have better results than CEOs who scored lower. At the same time, CEO success was negatively related to the second factor that contrasts interpersonal and team-related skills with execution-related skills. In other words, CEOs who were more persistent, efficient, proactive, and faster produced better results. Indeed, analyzing the two characteristics separately confirmed this result—success is strongly related to execution skills rather than interpersonal and team skills.

The patterns are somewhat stronger for LBOs where the differences in performance were particularly economically meaningful. For LBOs, CEOs who rated high on persistence, efficiency, or proactiveness were 30 to 40 percent more likely to succeed than other CEOs. Kaplan interprets the results as indicating that a CEO can have the best interpersonal or team skills but if he does not get things done then he will not be effective. The authors also found that—holding talent constant— incumbent CEOs are no more successful than outside candidates, particularly for LBOs. This dispels the notion that insider CEOs may have certain firm- and positionspecific skills that would make them more successful. Thus, the results suggest that investors should hire the most talented candidate regardless of whether the candidate is an incumbent or not. The authors conclude by speculating whether the results generalize beyond companies owned by private equity firms. They note that the results are consistent with management guru Peter Drucker’s personal observations of different types of executives, particularly public company executives, which he discussed in his 1966 book The Effective Executive. Drucker observed that executives “differ widely in their personalities, strengths, weaknesses, values, and beliefs,” and that “all they have in common is they get the right things done.” The “right things” include using time efficiently, focusing on contribution, making strengths productive, doing first things first, and making effective decisions. These characteristics and abilities correspond well to the execution-related skills that the study has found to matter the most. "Which CEO Characteristics and Abilities Matter?" Steven N. Kaplan, Mark M. Klebanov, and Morten Sorensen. This article is republished courtesy of www.ChicagoBooth.edu/capideas


American Express CEO shares leadership lessons from 9/11 crisis Great leaders earn their reputations in times of crisis, not calm, American Express CEO Kenneth Chenault told a group of 75 emerging social sector leaders May 5, 2011, at the American Express Leadership Academy in New York and Arizona. “The key is to balance decisiveness with compassion,” he said. “You cannot be afraid to make the tough choices, but you have to do it in a compassionate way.” Chenault spoke at American Express headquarters to 50 academy participants in New York, while others in a companion program at Thunderbird School of Global Management participated via live, interactive satellite in Glendale, Arizona. The weeklong Arizona academy, developed at Thunderbird in partnership with American Express, includes 27 high-potential social sector managers from 10 organizations: Action Against Hunger, Clinton Global Initiative, Endeavor, FARM-Africa, Global Giving Foundation, International Federation of Red Cross & Red Crescent Societies, Save the Children, UNICEF, Un Techo para mi Pais and Women for Women International. Chenault said his greatest leadership challenge came on Sept. 11, 2001, when the attacks on the World Trade Center damaged the American Express headquarters and killed 11 American Express employees. Like most companies, American Express entered into an uncertain time as global markets were weakened in the aftermath of 9/11. The credit card services company had nowhere else to meet, so Chenault gathered all his New York employees at Madison Square Garden one week after the attacks. He laid out strategies — grounded in the new reality — and gave reasons

to hope. “The best definition of leadership to me is summed up in a quote from Napoleon,” Chenault told the academy participants. “‘The role of the leader is to define reality and give hope.’” In the weeks that followed, Chenault had to make many difficult decisions to protect American Express in the changed environment. Chenault said the process hinged on his ability to balance decisiveness with compassion. He shared four strategies from the experience that helped guide him through the process. Be visible: The first key for leading in turbulent times is to remain visible. “The people you lead must see how you’re doing and how you’re reacting,” Chenault said. Communicate: The second key is to communicate clearly and to give constant assurance to the people you lead. “You need to communicate on a consistent basis,” Chenault said. “Part of your job is to connect the dots.” Stay calm: Another job of a leader in turbulent times is to stay calm. Chenault said leaders can be energetic and passionate, but they cannot panic. “Maintain you composure,” he said. “That gives people a level of comfort.” Take action: Chenault said people also take comfort in action during times of crisis. They need strong leaders to give them direction. “You cannot freeze up,” he said. “You can’t allow the circumstances to stop you from acting.”

This article is republished courtesy of http://knowledgenetwork.thunderbird.edu/research/


The art of Fujitsu management

Spring 2011: Fujitsu is the third biggest player in the global IT services market, with sales of 4.6 trillion yen (US$50 billion) and 172,000 employees in 60 countries. It also has a long and distinguished track record as a technology pioneer. And yet, it remains little known outside of Japan. Stuart Crainer and Des Dearlove gained unique access to examine the art of Fujitsu management.

Simply, they do not know what the technology is capable of, so how can they tell you what they want or would like? As a result, the emphasis of recent years has been on retaining talented individuals rather than attracting and retaining high spending customers. Fujitsu is old fashioned in its adherence to the edict that customers come first. All Fujitsu executives talked about the vital importance of staying close to customers. Thirty-six years with the company and now a corporate senior executive vice president and director, Kazuo Ishida told us of his first day working as a systems engineer. "I went to work with a banking client. It felt as though I had become a banker such was the identification we had with the customer. That stuck with me and I still spend half of my time with customers."

Dreams and detail

Grow with customers

"For me the excitement lies in turning technology into profitable technology," says corporate senior executive vice president and director, Kazuo Ishida. "Along the way we make mistakes. Over my time with the company I have run 28 projects with teams ranging from 50 to 800. Some were a year long. At the end you hand over and move on to another project. But, I was never happy with how things had gone. I always looked back and identified where, when and how it could have been done better."

Says Richard Christou, corporate senior executive vice president (the only Westerner in the company’s management team), who heads the company’s global businesses: “You don’t shape the future by simply selling technology. There has to be a dynamic, proactive interchange with customers.”

Fujitsu is a technology company built on engineering expertise. Its senior executives typically started their careers as engineers. An appetite for detail is part of their training. Fujitsu engineers prefer doing to theorising and have an elevated view of the likely impact of innovations on broader society: they see engineering as a route to improving the world. Dreams and detail are in unusually close alignment.

Customer first The fashionable business ideas of our time suggest that customers are unreliable guides.

Customers are not static. Fujitsu regards them as a growth opportunity. But this does not mean trying to screw more sales out of each account. The win-win hope is that as customers grow, Fujitsu will grow alongside them. “We have a track record of working with Japanese companies and there is an opportunity to grow with them – and our other customers – as they globalise. As companies expand they need to use systems which are consistent, which they are familiar with and which can receive high levels of support worldwide,” says corporate senior executive vice president, Kenji Ikegai. Masahiko Yamada, president of the company’s Technical Computing Solutions Unit, is an engaging Fujitsu veteran. “At one stage, I


remember thinking that we need to really focus on costs and technology. I was wrong: relationships with customers are more important” says Yamada. Many companies focus on contracts, Fujitsu emphasises genuine relationships and growing with customers.

Multicultural and global “If you think about where future market expansion will occur, you can only conclude that our future growth will depend on how successful we are in developing our global business,” says company president Masami Yamamoto. His thoughts are echoed with even greater emphasis by Richard Christou: “I think we have a two year window to become more global in outlook. We have to move decisively. If we do not become more global, we will shrink.” The initial ethos of globalising companies was to try to export the same products, services and culture worldwide. This was the largely American multinational model of the 1960s and 1970s. Then, in the 1980s and 1990s, the cry was for globalising companies to be global and local, to combine global strength with local sensitivities – witness McDonald’s offering localised menus throughout the world. Now, a new generation of globalisation is occurring as, in particular, companies from India expand globally. The emphasis of these organisations – and of Fujitsu – is to combine a clear sense of having roots while also having the open mindedness to embrace different business and national cultures. At Fujitsu, emphasis is put on the company being a global organisation with Japanese roots. It is multicultural but clear in its origins; globalisation with an open mind.

Quiet confidence Respect and humility are deeply entrenched in Japanese culture. Similarly, they inform Japanese business culture and corporations. Gung-ho competitiveness is uncharacteristic. Rather, collective aspirations are the focus –

whether they are for the team, the company or society. The emphasis of Fujitsu’s research is not on creating sexy, must-have technological fripperies. Instead, it regards improvements in technology as integral to improvements in how we live and how societies are organised and behave. This belief runs deep, but quietly.

Co-innovation rather than domination Technology companies place huge store in innovation. But at Fujitsu the emphasis is on coinnovation with customers. This is exemplified by the company’s concept of Field Innovation. This is a concrete example of how Fujitsu does things differently. As it deploys the concept, Fujitsu works seamlessly alongside its customers to create value for them by defining and visualising management challenges with customers. At the same time, Fujitsu has always recognised the importance of being at technology’s cutting edge.Visit its Technology Hall in Kawasaki City on the outskirts of Tokyo and you are struck by the sheer range of its interests – from cloud computing to electronic medical record systems, plasma displays and point of sale displays at supermarkets. The range of products gives it a balanced portfolio and “a radar” for converging technologies and new innovations that can be transferred across products.

The fruits of experience Fujitsu has a cadre of highly experienced managers. They know the company and its customers inside out. Many of the senior leaders at the company have worked with the company all their working lives. As engineers they have a constant urge for improvement. They are like mechanics tinkering with a car engine in search of a slight but significant performance enhancement. Things can always be improved. This article is republished courtesy of London Business School http://bsr.london.edu/lbsarticle/604/index.html


Can your business plan survive this stress test? by Grace Segran

The road to success is littered with the wreckage of strategies gone awry. Here is a six-step stress test for your strategy. More than half of the ideas and strategies that look good on paper get ‘lost in translation’ between the executive suite and the workforce. Why? INSEAD professors Michael Jarrett and Quy Huy have researched the subject for the past 15 years and have developed an easy-to-apply stress test for business strategies “We know that over 60 percent of strategy execution fails and what the six-step stress test does is that it reveals the cold reality and problems in the business plan by showing the hidden elements of strategic execution as hidden traps in making the strategy work,” Jarrett told INSEAD Knowledge. Strategy Execution Stress Test 1. Do you have a viable strategy? 2. Do you have a comprehensive implementation plan? 3. Do you know the hidden barriers to implementation?

five percent of the task; the remaining 95 percent is about strategic execution, and that’s where most of the strategies fail. “So we have designed a set of frameworks with probing questions that allow an executive to think systematically, deeply and comprehensively about all the key issues that he or she must consider in order to make their strategy work.” The stress test gives executives some insight as to why there may be big, lesser known problems that await execution, and gives them a handle on what to pull in order to make the whole thing work. The professors feel that some of the approaches they have are counterintuitive to what’s out there in the rest of the market. “Take, for example, emotions,” says Jarrett. “In business, emotions are usually something that we run away from, and typically we move into our rational approaches. What that does is make us even more defensive and lose touch with what’s really happening. What we’re saying is you actually need to look at emotions, work with them, and that’s how you help people to get the strategy implemented.”

Checking for a viable strategy The first stress test helps executives think about whether they have a good strategy in the first place. Does the strategy make sense even just on paper? Is it going to create value? Have they got the right customer base? The test draws on a variety of strategy models to help people understand where they are positioned and assess the business value of such strategic positioning.

4. Do you know how to overcome the barriers? 5. Do you have the critical skills? 6. Do you have a continuous learning system? Executives tend to assume that if you put a lot of thought into knowing what to do, then execution is relatively easy, says Huy, whose research focus is on strategy execution. He argues that this is a false assumption as formulating a strategy is only

Quy Huy


“There’s no point in moving to the next step of executing it if they realise through the various frameworks that the strategy is already shallow and weak to start with,” Huy says. “In that case, it’s a good learning point and there’s no point in investing your time and company resources much further in executing a bad strategy.”

Planning comprehensively Huy says that executives have been trained to think that once they have a strategy, they should work on having a structure. Once that’s done, the executive feels his work is mostly done and the rest will be relatively easy. “But that’s false security. That’s where they get unpleasant surprises most of the time. The second stress test has a series of indicators that help executives think through,” to develop an implementation plan that includes much more than structure.

Knowing the hidden traps You’ve got the right strategy and a lovely project plan. So you are ready to go? Jarrett says, no, because when you are implementing strategy and people are involved, things go awry. There are a couple of things that they’ve identified from their research that could go awry. First are the hidden cultural impediments that have grown surreptitiously over time in a successful organisation. “IBM failed during the 1990s, partly because its culture became gradually arrogant vis a vis its customers and thus could not respond to the changing needs of the market at the time,” says Jarrett. “Another hidden trap that we know is that organisations tend to have in and out groups. So there’s the taboo political dimension. I’m not talking just Machiavellian politics; I’m talking about inter-group rivalry, and this can break down the cohesion in the organisation,” he says. “The emotions and the non-rational elements override the spreadsheets. What’s worse is that people don’t know it, deny that they exist, or they don’t see it coming. The third step in the test

helps executives identify the barriers in their own business plan.”

Overcoming the barriers to execution Step four focuses on a number of research-based tools that have been developed to help executives overcome the barriers, such as, how to mobilise the emotional energy of people over a long period of time. “That’s something that many executives have not been trained to do,” says Huy. “We would focus people on thinking about the time dimension of execution, such as the timing and pacing. When do you do certain things? Are you going too fast? Is this in the correct sequence? It’s like eating a good French meal. Dessert doesn’t come first; in fact, the same dishes served in the wrong order disrupt the whole dining experience. To make the strategy work, you have to observe the right sequence of actions, the right timing and the right pacing.”

Developing key competencies

Michael Jarrett The problem in a world with social media is that everybody thinks they know everything about everything and people tend to draw on social psychology by reading the back of a magazine, says Jarrett. So executives have a sense that they know what needs to be done. “But it’s not just about knowing, it’s also how can you translate abstract knowledge into action. Research suggests that some sixty percent of managers don’t know how to implement change; they don’t have the skills. That’s the piece that we’re really trying to address. That’s why the fifth stress test does a skill audit around the key competencies to make change work.”

Building a learning organization


Online Chatter and Sales Go Hand-in-Hand

Having obtained the skills, the sixth step is about replicating and implementing them in the system so that the organization learns collective execution over time. “It’s about getting the executives to fish for themselves and In the Web 2.0 world, do online product reviews incorporating the skills into the core competencies and discussions matter if they don't immediately of the business,” says Huy. lead to increased sales for a company? That's what Garrett Sonnier, assistant professor of marketing, Fine-tuning the stress test discussed with students in a presentation on his Huy says that although one can rely on a general research titled “A Dynamic Model of the Effect of set of frameworks to help executives in almost Online Communications on Firm Sales.” The any part of the world think more comprehensively presentation was Feb. 8, and a part of the Faculty and deeply in making their strategy work, people Research Speaker Series. from various countries and cultures can react to the same type of communication or management Sonnier discussed his recent research, which action very differently. And so their next research focuses on ratings collected from online forums. would be to take their framework and adapt it to However, he and his co-authors went beyond this to a more comprehensive view of online even finer cross-cultural differences. communications. His research investigates the “And on the other side of that, we are looking at a effect of positive, negative and neutral online deeper level of how these soft defensive systems communication on sales performance in today's within hard structures can be moderated, and what economy, when online communications and roles senior executives might play in making advertising are closely related. beneficial change more sustainable,” adds Jarrett. “A burst of conversation that happened yesterday, can affect sales today," Sonnier said. That word-ofQuy Huy is a professor of strategy and Michael mouth phenomenon is the driving motivation for Jarrett is an affiliate professor of organisational his research. behaviour at INSEAD. This article was written based on an interview with INSEAD Knowledge. “It’s an important aspect of what influences consumer behavior," Sonnier said. "It’s hard to First published: April 20, 2011 measure and used to take place in a one-on-one Last updated: April 28, 2011 setting. The Internet changed all of this.” This article is republished courtesy of INSEAD Knowledge (http://knowledge.insead.edu).

He then described how the Internet makes word-ofmouth “scalable and observable.” People have an experience with a product and then they type it up on user-generated vehicles, like blogs or Facebook pages. Sonnier and his co-author used automated sentiment analysis, what he calls “essentially highpowered machine learning,” to measure the effects of ratings online. The analysis counts online posts that mention a firm and its products, and codes the posts into positive, negative or neutral opinions. He also explained that an ad is not a failure if it does not produce immediate sales, because “it still


influences people to go to the market and buy.” Sonnier used his “goodwill stock market” to explain. He described a bucket with a hole in it. You fill the bucket with advertising, but if you do not keep filling it over time, then the bucket will eventually drain. Positive online communications fill the bucket, and they must be continuous. But they also must not be the only element that is emphasized. “Look beyond ratings to capture more of online conversation.” You must look at people's opinions, expressed through online communications, about firms and their products. This article is republished courtesy of http://blogs.mccombs.utexas.edu/mccombs-today/

BAD BEHAVIOR People act more unethically when facing a possible loss than the opportunity of a gain By Mary C. Kern and Dolly Chugh Ordinary people are prone to shocking ethical lapses. As the empirical study of ethics has surged in the past two decades, clear evidence has emerged that ethical thinking and behavior are prone to many of the same mental processes and pitfalls as the rest of human thinking and behavior. Just as we humans are prone to systematic and predictable cognitive errors, we appear to be prone to systematic and predictable ethical errors. This tendency seems ingrained. Earlier research with patients who incurred brain damage suggested that visceral, automatic flashes of affect guide moral choices, independent of learned knowledge about morality. Indeed, neuroscientific data has illustrated that the areas of the brain tooled for cognitive reasoning and those generating more automatic responses were both activated during moral decision-making. Similarly, it has been posited that moral intuition precedes moral reasoning, and that one’s overall moral judgment is heavily biased towards the leanings of a rapid and automatic process, rather than a slower, more thoughtful one. In our study, we explored the effect of this apparent reflex tendency on the consciousness and behavior of decision-makers in the moment of ethical choice. What is the role of the decisionmaker’s cognitive framing of the situation vis-àvis the time he may have to make a decision? We turned to the concept of framing as the foundation of our inquiry. In our case, a framing effect occurs when objectively identical situations generate dramatically different decisions based on whether they are presented, or perceived, as potential losses or gains. It has been shown that people are loss-averse; that is, they are willing to go to


greater lengths to avoid a loss than to obtain a similarly sized gain. We considered the implications of framing effects for ethics. When making decisions, individuals often choose from an array of possible responses, with some choices being more or less ethical than others. Our study showed an “ethical framing effect”, such that individuals who perceive a potential outcome as a loss will go to greater lengths, and engage in more unethical behavior, such as using insider information or lying, to avert that loss than individuals perceiving a similarly sized gain. Uncontrolled Impulses Framing is less likely to have an effect when decision-makers are able to fully process the information. Brain imaging experiments have shown that brain activation patterns that occur when an individual demonstrates the effect of framing differ from those that occur when an individual does not demonstrate the framing effect, suggesting that “automatic” processes that are more or less reflexive in nature produce the framing effect, while engagement in more deliberative mental processes can reverse it. The effect of framing seems most likely to occur under conditions that demand an automatic, versus reasoned, response. Because reasoning is fueled by cognitive resources, such as time for deliberation, researchers have shown that reasoning under time pressure is vulnerable to being rushed, fragmented, or skipped altogether. Thus, framing offers an opportunity to examine the automatic response in action during ethical decision-making. In the absence of sufficient cognitive resources for reasoning, we expected to find that when a situation is framed as a potential loss, the influence on ethical decision-making is heightened. We further expected that the influence of the framing effect would be greater when decision-makers are under time pressure, thus heightening the automatic nature of the decision generated by the framing effect.

In this work, we manipulated the frame of the decision-maker by either describing the probability of a potential gain or the probability of a potential loss in the situation. Importantly, the gain and loss conditions presented identical problems, simply expressed in different language so as to manipulate the participant’s framing of the situation. Three experiments, each with unique dependent measures and samples, offered evidence for our hypotheses. We tested for a main effect of frame using a judgment task assigned to 55 undergraduates. Then, with a group of 92 part-time MBA students at two northeastern colleges, we added in behavioral measures of misrepresentation and false promises. Finally, we both explicitly imposed and removed time pressure, with 93 recruits, in order to test whether the framing effect on ethics is the result of an automatic process. The Sad Truth The results showed that when people viewed situations as potential losses, it influenced their behavior and ability to make ethical judgments. People trying to avoid a loss were more likely to make lower-road ethical choices than people trying to attain a gain. We explain this tendency using the theory of framing effects. Furthermore, we demonstrated how this effect can be eliminated by removing time pressure, suggesting that people make poor ethical choices when they react automatically, without time to think things through. They make better choices when that time pressure is absent. The experiments involved what was, in truth, a gain. Simply framing the outcome as a loss or gain was sufficient to generate the effect. What makes these framing effects most ethically worrisome is the absolute consistency and transparency of the underlying reality facing both loss-framed and gain-framed decisionmakers. It is unsurprising that desperate people engage in desperate behaviors. However, decision-makers need not face desperate circumstances to be at ethical risk. As we


discovered, framing effects are responses to gains or losses relative to a reference point; the ethical risk does not require absolute desperation, only relative levels of loss.

When Is Bad Publicity Good?

DOLLY CHUGH is assistant professor of management and organizations at NYU Stern. MARY C. KERN is assistant professor of management at Zicklin School of Business at CUNY’s Baruch College.

In a new study from Stanford Graduate School of Business, researchers say in some cases negative publicity can increase sales when a product or company is relatively unknown, simply because it stimulates product awareness.

In 2009, after months of scathing media reports of To be continued in the next issue of Global with cars that could accelerate out of control, Toyota had “unpacking prior experience” an extremely expensive problem on its hands. This article is republished courtesy of Recalls, fines, and plunging sales resulted in losses http://www.stern.nyu.edu/Newsroom/SternBusiness/ to the auto manufacturer in the neighborhood of $2 billion. But bad news isn't always bad for business. After the movie Borat made relentless fun of the nation of Kazakhstan, Hotels.com reported a 300% increase in requests for information about the country, and a wine described as "redolent of stinky socks" by a prominent website saw its sales increase by 5%. In a new study from Stanford Graduate School of Business, researchers say in some cases negative publicity can increase sales when a product or company is relatively unknown, simply because it stimulates product awareness. "Most companies are concerned with one of two problems," says Alan Sorensen, associate professor of economics and strategic management at the business school and one of the authors of the study. "Either they're trying to figure out how to get the public to think their product is a good one, or they're just trying to get people to know about their product. In some markets, where there are lots of competing products, they're more preoccupied with the latter. In that case, any publicity, positive or negative, turns out to be valuable." Looking at 240 fiction book titles reviewed by the New York Times, investigators found that positive reviews, not surprisingly, always increased sales by anywhere from 32 to 52%. For books by established


authors, negative reviews, also not surprisingly, led to a 15% decrease in sales. For books by relatively unknown authors, however, negative publicity had the opposite effect, increasing sales by a significant 45%. Follow-up studies affirmed the reason: Even bad reviews drew attention to works that otherwise would have gone unnoted. Moreover, the "negative" impression bad reviews created seemed to diminish over time. In another study, participants read book reviews that were either positive or negative, on books penned either by well-known or new authors. Some participants were asked immediately to rate how likely they would be to purchase such books, while others were given an unrelated task and later asked if they would buy the book. For well-known books, negative publicity resulted in less likelihood of purchase, whether participants reported their preferences right away or after a delay. However, for unknown books, the negative publicity did not affect the likelihood of purchase after a delay. "This suggests that whereas the negative impression fades over time, increased awareness may remain, which can actually boost the chances that a product will be purchased," explains Sorensen, who authored the study with Jonah Berger, PhD '07, now a faculty member at the Wharton School, and alumnus Scott Rasmussen, BA '03, a Stanford undergraduate economics and mathematics undergraduate at the time the research was being conducted. The research indicates that new entrants may have little to lose when it comes to publicity of any kind — the key is simply to get seen. "Smaller [motion picture] producers," the authors write, for example, "may want to allow, or even fan, the flames of negative publicity." Indeed, bad press, they suggest, may even serve as a form of direct marketing that can "slip

under the radar" and be unrecognized as such. Brand names, on the other hand, have more at stake, as McDonald's saw when a rumor circulated that it used worm meat in its hamburgers: Sales decreased by more than 25%. Might the virulence of the negative PR have bad effects, no matter what? When might scandals unrelated to the quality of the product — about the CEO or star associated with it —be advantageous or disadvantageous? How exactly does publicity influence word of mouth, memory, and exposure to products? Such questions, say the authors, may offer interesting avenues for future research. Research by Jonah Berger, PhD ’07 James G. Campbell Jr. Memorial Assistant Professor of Marketing The Wharton School Alan T. Sorensen Associate Professor of Economics and Strategic Management Stanford Graduate School of Business Scott J. Rasmussen, BA ’03 Stanford University This article is republished courtesy of http://www.gsb.stanford.edu/news/research/sorensen _badnews.html


Track record Consumers, governments and organisations or all kinds are finding that questions of origin are climbing steadily up the agenda. For a multitude of reasons, people are asking the question: where did this stuff come from? Recent work at Saïd Business School has been focusing on this issue from several perspectives, and a new research agenda is emerging that reflects the most expansive view of operations management – one which takes questions of strategy, culture and society seriously. The overall lesson is that research must be driven by real questions that face business and society, and these challenges do not fit neatly into disciplinary boxes. So what are the strategic questions that emerge from worrying about product origins? One way of framing the discussion is to focus on three key transformations that organisations face: turning commodities into promises, making information out of data, and transforming procurement into supply chain management.

Commodities into promises A trip to your kitchen is a good place to start reflecting on the transformative effects of globalisation. There are two things to observe. The first – obviously – is that our daily lives represent the confluence of stuff from every corner of the planet; you will rarely eat a meal that hasn’t been drawn in part from every continent. But, secondly, you will see that the way the threads of international supply are pulled together is not a simply mechanical exercise; the meaning of goods is in part constructed by narratives of their origin: ‘100% British Wheat’; ‘English Gammon’; ‘Sustainably Sourced Mussels’. Organic food, halal and kosher products all involve the selling of properties that are essentially unobservable and untestable by the consumer; the value of the goods is determined by a promise, a narrative, an

association. In many segments, the role of provenance-based value appears to be increasing. There is a temptation to explain this as the result of some kind of ethical revolution amongst consumers, but to do so is wrong and also misses the key point. The number of shoppers who painstakingly examine every label for a detailed exegesis of origin is small, and even those who do are rarely consistent. The larger issue is that in our purchasing we engage in a complex, reflexive engagement of claims, trust and reputation; for example claims about origin can be proxy claims for safety and integrity. The reputational system of modern commodity chains is about how we manage our identity, our guilt, and how we reconcile ourselves to taking things from strangers and feeding them to our children. What has changed is not that consumers have discovered virtue, but that this discourse has suddenly crystallised into an observable social phenomenon: the Asda breakfast cereal box now feels the need to proclaim that one of the world’s most powerful corporations (Walmart) not only sells the best products but ‘cares passionately about where they’re from’. As in the kitchen, so in the wardrobe – and in the toybox, and in every corner of our lives; we find that origins and provenance determine value, and in each case we find the same system of promises and reputational cues that give a buyer the sense of assurance that the product is valuable, safe or ethical. In a project supported by the Oxford University Centre for Corporate Reputation, we are working out some of the common dynamics of these mechanisms in contrasting settings. Cultural goods such as art and memorabilia acquire non-material virtue on the basis of which galleries the artist has been associated with. But some kind of parallel mechanism is at work in the more prosaic settings; when a retailer is sourcing a toaster from a Chinese factory, judgements about the ethics, product safety and environmental impact are made equally on the basis of a web of cues and signals, and essentially reputational


judgements. And in safety-critical industries – pharmaceuticals, aerospace components – reading these cues correctly can be a matter of life and death.

beyond securing the lowest price.

Data into information

The idea of proactive, intelligent procurement is not new – for at least 40 years people have been talking about strategic supply management and the active development of the supply base. However, concerns about product origin give the hackneyed calls to rethink organisational buying a new relevance; purchasers are not just buying an item, but – in some senses – the whole system of supply that underpins it. This means that organisations need to fully understand the structure and interdependencies of their supply network. The idea of ‘maps’ of supply systems – who supplies whom, and the interdependencies within the network – has been the Grail of much research in supply chain management. Indeed, many fundamental theories in industrial economics rely on assumptions about the balance of power and commitment between trading partners. Working with Dr Alexandra Brintrup, Dr Tomomi Kito and Dr Felix Reed-Tsochas, we have been developing novel maps of Toyota’s highly lauded supply-chain structure. However, it is clear that the imperative for mapping commercial relationships is shifting from researchers to companies themselves. Understanding the structure of supply beyond the first tier − and then developing the appropriate managerial and commercial strategies – is a key element in delivering on the promises of provenance.

Making promises about product origin is a complex job; the story is rarely simple, and even simple items are astonishingly complex. Developments in technology, on the other hand, may be able to help. Systems of traceability and tracking are beginning to impact a range of industries; items can be tagged with radiofrequency identification devices (RFID), or even labelled with DNA-encoded ink. The internet provides an infrastructure of surveillance (some firms, including Asda in the UK, have experimented with web-cams in suppliers’ factories); advances in data-mining techniques mean that the enormous quantity of data that can be collected from automated systems can be explored and exploited. But data alone is not terribly useful: corporations face the challenge of converting this into useful information and this requires three elements that are in short supply. Firstly, there is the need for information systems that are flexible enough to cope with product data that is far richer than legacy approaches typically allow. In particular, ‘bills of materials’ – the databases which describe product structure – need to be rethought to enable increased granularity; what is important is not just what components go into your product, but what goes into the components. Secondly, there is a need for means of distinguishing between data of different levels of reliability; in a world where provenance really matters, simply recording whether a supplier has an acceptable official policy is not enough – data structures need to accommodate questions of actual practice and authentication of claims. Finally, there is the need for individuals in the organisation who can interrogate and interpret data with sufficient context-dependent knowledge; a new breed of procurement professional whose mandate goes

Procurement into supply chain management

Steve New is University Lecturer in Operations Management at Oxford University’s Saïd Business School and a Programme Director in the Centre for Corporate Reputation. This article is republished courtesy of http://www.sbs.ox.ac.uk/


Satisfaction Not Guaranteed

set out to discover just how much is enough.The answers have practical implications for manufacturers, marketers, and consumers alike.

When it comes to product features – when more means better in the eyes of buyers – how much is too much?

Bells and Whistles!

Debora Thompson‘s consumer behavior research began with a casual question: Should something as simple as a mouse pad need an instruction manual? In 2005, when Thompson was a doctoral student at the University of Maryland, someone gave the mouse pad in question as a gift to her adviser and professor, Roland Rust. This was no ordinary mouse pad, though; it also included a calculator and other electronic features. Rust could not make it work. Joking about this confounding, unnecessary device turned into a discussion of other hard-touse, feature-filled items. “Here you have this super-smart person, a worldrenowned scholar, and he cannot use his washing machine,” says Thompson, now an assistant professor at Georgetown University’s McDonough School of Business. “So we started talking about this and wondering, is this just our own anecdotal evidence, or is this a general tendency that consumers are overwhelmed with a lot of the products they buy?” Thus began their research on what they would come to call “feature fatigue.” A modern consumer would be hard-pressed to find a plain cell phone; most also are audio players/cameras/mini-computers/gaming platforms. Manufacturers are locked in an apparent arms race to see who can put more bullet points on their boxes. “More” often seems synonymous with “better.” With that in mind, Thompson and her colleagues

Now With 75 Percent More

Evidence of feature fatigue – or feature creep, a similar concept – is abundant. It shows up in consumer blogs where authors rant about the complexity of a new appliance. It appears in online reviews written in colorful language by unsatisfied customers. Nearly everyone has a tale of a frustrating product they simply could not figure out. Thompson mentions a friend’s father who went so far as to place tape over the extraneous buttons on his remote control so he would not press them by mistake. Anecdotes are helpful, but given her background in social psychology, Thompson wanted data to explain the disconnect between what consumers want when they shop and what they get when they open the box and start using a product. “People are complaining about complex products,” Thompson says, “but they bought them in the first place. We are trying to understand this paradox.” In research first published in 2005 in the Journal of Marketing Research, then further highlighted in Harvard Business Review, Thompson, Rust, and Rebecca Hamilton (now an associate professor at the University of Maryland) designed a set of experiments comparing perceptions of a product’s capability with its actual usability. In one experiment, the researchers simulated an in-store experience by presenting study participants with interfaces for digital audio and video players that had either seven, 14, or 21 features.They asked participants to rate each model’s perceived capability and usability.


Although participants were aware that feature overload might decrease a player’s ease of use, 62 percent still chose the most feature-rich options. A second experiment backed up those results by instructing participants to customize their own product by choosing from a list of 25 features. Again, these would-be consumers stuck with a “more is better” mentality; they chose an average of 19.6 features for their customized players. A third experiment tested how much hands-on use changed consumers’ choices. Study participants were split into two groups. A “before use” group could pick between two virtual products, one with seven features and one with 21, but they could not actually try these products. An “after use” group chose between the same products after testing them. Hands-on experience played a crucial role: 66 percent of the “before use” group chose the option with 21 features, compared with just 44 percent of the “after use” group. These results create a conundrum for marketers and manufacturers. Past consumer behavior research has shown that if companies add features to a product – even trivial, unnecessary features – consumers are likely to view that product as newer or more desirable than other models. Because of that, Thompson says, “Marketers and engineers really have this ‘Why not?’ mindset. Adding features is an easy and often inexpensive way to create differentiation.” On the flipside, usability research has shown that performing simple functions becomes more difficult for users as features are added to a product. Poor usability creates frustrated consumers, and frustrated consumers are less likely to buy a company’s products in the future – and more likely to spread negative word of mouth. On the surface, “less is better” might seem like

the ultimate message, but the message is not that simple. Some companies, including electronics maker Philips and camera maker Flip Video, have had success marketing the simplicity and ease of use of their products, but that approach will not work for everyone. “Simplicity and usability can be effective points of differentiation,” Thompson says, “but it’s more difficult. It’s certainly easier to add more stuff and say, ‘We have more.’” Often, if a company moves entirely toward feature-poor products, they will lose sales to their feature-touting competitors, regardless of relative quality, Thompson says. Managers need to assess the proper number of features that will be both attractive and functional for consumers on a product-by-product basis. Thompson and her colleagues provide a mathematical model in their research for balancing feature optimization with customer satisfaction. “Our argument was not that features are necessarily bad,” Thompson says, “but that companies need to calibrate, to find the optimal level of features, one that doesn’t hurt your usability and still makes you attractive to consumers in the beginning.”

Limited Trial Offer — Act Now! With that initial research as a foundation, Thompson and Hamilton dove deeper into the consumer’s mindset in their next paper, “Is There a Substitute for Direct Experience?,” published in December 2007 in the Journal of Consumer Research. This research deals with two very different types of consumer experience: direct and indirect. Direct experience comes in the form of a product trial or any other practical, hands-on time with a product. Indirect experience could mean reading a simple description of the product or product reviews, for example. Thompson’s basic theory, rooted in a concept


called construal level theory, is that the further away from direct experience a consumer sits, the more likely he or she is to think about a product in abstract terms rather than concrete, practical terms. Abstract thinking leads people to pay more attention to desirability (comparable to capability) than feasibility (comparable to usability).

tent is to use, the more likely the customer will buy it. Bullet points on a box are mostly moot in the face of direct experience.

The researchers tested this theory in another set of experiments. The results, simplified:

As such, the best option for companies to create satisfied customers often is a product trial. However, product trials are not always practical or even possible. Consider online shopping, for example. Online shoppers cannot physically touch or use a product, so companies might try to provide as concrete a mental picture as possible by encouraging people to think about how they would use a product once it arrives. Thompson mentions a successful Web campaign by Kodak in which consumers could rotate digital images of the company’s cameras on screen and simulate using their buttons with mouse clicks.

• One group of participants had a direct experience with a product, but when tested two weeks later, they reverted to an abstract mindset and trended toward desirability over feasibility. • In another study, participants exposed to communications encouraging them to think concretely – to imagine using a product in practical terms – were more drawn to feasibility than desirability. In this case, encouragement to think in concrete terms served as a substitute for direct experience. • When asked to shop for someone else instead of themselves, participants were much more likely to think abstractly and favor desirability over feasibility. “The bottom line is that the higher the direct experiential contact, the more effective you are going to be at shifting consumers’ mindset from abstract to concrete,” Thompson says. Likewise, the further away from direct experience a buyer gets — in time, proximity, or any other form of psychological distance — the more they return to abstract thinking. The paper points to several companies that have successfully integrated direct experience into their sales and marketing. Maytag, for example, has allowed customers to test washing machines by bringing their dirty laundry to the store. Outdoor retailer REI encourages people shopping for a tent to try setting it up in the store (or the parking lot, depending on space). The simpler the

“If we try to mimic or approximate this concrete mindset that consumers have after purchase, we can improve the quality of their decisions,” Thompson says.

Such an approach will not appeal to all companies, though. Some companies, particularly those with products that have long intervals between purchases, may be more concerned with the initial sale than with creating customer loyalty for future purchases, because customers are unlikely to come back for a repeat purchase anytime soon. “The less important repurchase is, usually the higher the optimal number of features will be,” Thompson says. For some companies, appealing to the abstract mindset by offering feature-rich products remains the best plan for maximizing profits.

Be the First on Your Block to Own One! Sometimes consumers also reap a different kind of reward from feature-rich products: the adulation of their peers. Think of the release of Apple’s iPhone, for example, when lines stretched around blocks; in certain circles, people


who braved those lines to get an iPhone became the envy of their friends.

wealth inferences. They communicate something more nuanced about your personality.”

In a current working paper with colleague Michael Norton from Harvard Business School, Thompson explores “The Social Utility of Feature Creep.” This topic arose when Norton challenged Thompson with a provocative thought: Maybe people purchase feature-rich products because of their social value. This thought has roots in the long-established concept of conspicuous consumption.

The lessons for marketers shine through in these results. If you want to sell a feature-rich product, your message should highlight public use or public display of that product. Create advertisements that show people using a cell phone/music player/camera out in the world, for example. If you want to sell a feature-poor product, shy away from social messages that imply public use.

Thompson and Norton tested how people make purchase decisions in a variety of circumstances. Study participants were asked to evaluate real mp3 players (direct experience) with a varied number of features. In one case, they were told their survey answers would be confidential; in another, they were told their choices would be revealed to others.

No single approach will work for any given company, which is why Thompson stresses the need for calibration. Finding the ideal through careful analysis comes across as a clear message in all of her research, whether the issue is balancing consumer perceptions with practical usability, juggling the realities of marketing and sales with the desire for informed consumer decisions, or deciding just how much “more” is right for your product.

In the confidential case, more users chose the mp3 player with fewer features; they cited its ease of use as the deciding factor. However, when those same participants thought other people would be evaluating them, they chose the more feature-rich players. “What is interesting is it reveals that people are willing to make a trade-off – the potential disutility of a complex product for the social benefits that features can bring,” Thompson says. Additionally, in another experiment, participants observed others as they made their purchase choices. The observers rated those who chose feature-rich players more highly in categories such as wealth, tech savvy, and openness to new experiences. “We have found that observers systematically evaluate users of feature-rich products more positively than users of feature-poor products,” Thompson says. “Wealth was expected [as a category]. We’re not surprised by that, but these results go beyond

“This varies a lot from product category to product category,” Thompson says. “You have to find the happy medium.” You also have to ask if maybe, sometimes, a mouse pad should just be a mouse pad. This article is republished courtesy of http://msbmedia.georgetown.edu


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