Drivers of performance

Why Do Businesses Fail, And How Not To Be a Victim

Around 20 percent of small businesses fail within their first year, with roughly 50 percent failing by the end of their fifth year. What makes these statistics interesting is that despite shifting economic factors, business failure rates remain relatively consistent. After surveying 101 failed startup businesses, a recent analysis revealed that 42 percent reported that the main reason for their failure was a lack of marketability. Businesses fail when they are not solving a marketable problem, or, “not solving a large enough problem that could be universally served with a scalable solution.” But what causes this so called lack of marketability? 
 
A business’s marketability is directly tied to its adaptability - its willingness to alter its models and operations in order to keep up in today’s rapidly changing and unpredictable global environment. Marketability also relates to the way in which a business balances its forces of exploration and exploitation, with exploration referring to the search for knowledge and innovation, and exploitation referring to capitalizing and expanding upon these new ideas found through the exploration process. Too much exploration can lead to a business becoming obsolete, while too much exploitation can result in a business falling behind the technological curve and losing its competitiveness.  
 
A good example of too much exploitation can be seen in the downfall of Sears due to its refusal to innovate and change its business model, ultimately leading to the end of Sears. At its peak in 1965, Sears was worth $92.1 billion in today’s money. That same year, its sales were 1 percent of the entire U.S. economy, with two-thirds of Americans shopping there in any given quarter and half the nation’s households owning a Sears credit card. Now, more than 50 years later, Sears has been fighting a losing battle against insolvency and erasure. Despite having the skills and resources necessary to adapt to the world of e-commerce, Sears lacked the foresight to anticipate and the willingness to adapt. This behaviour is often attributed to the “success trap”, in which companies stop exploring once they have reached a certain level of success, turning to exploitation - “becoming less innovative as they become more competent.” 
 
In contrast, successful businesses are those that strike a balance between exploration and exploitation, adapting to market changes by adjusting their balance accordingly. This balance can be seen in the incredible story of Viciki Hollub, the first female CEO of a major international oil company, and how she managed to turn around a company that had lost $1 billion in 2016 to a profit of $4.1 billion in 2018. Despite intense pressure from shareholders, Hollub’s company, Occidental Petroleum (Oxy), beat out Chevron to acquire Anardarko Petroleum for $38 billion. In addition to the dramatic Anardarko deal, Hollub has also proven herself committed to exploration, pledging to make Oxy carbon neutral through carbon capture technology. While Oxy’s investment in a carbon-neutral future may seem at odds with its recent deal, the balance between exploitation and exploration that Hollub has struck will serve the company’s marketability well in the long-term. By investing in exploration as well as exploitation, under Hollub’s leadership, Oxy is securing a social license and, “regaining society’s trust to operate with the approval of employees, shareholders, and the broader public”

Ultimately, the companies that succeed in 2020s will be those that prioritize learning and innovation: “Companies don’t fail because of changes in the environment, they fail because their leaders are either unwilling or incapable of dealing with said change.” 


Author

Viewpoint Research Team

Mac Van Wielingen Explores Drivers of Performance

Early in December 2017, Mac Van Wielingen addressed a small group of senior business leaders in Calgary. His talk titled, Advanced Governance: Strategy and the Imperative of Performance, explored the performance challenge facing most companies, critical drivers of performance and how they relate to strategy. The talk concluded with a selection of Advanced Practices aimed at assisting leaders in the development of great strategy. This blog recounts the key ideas and themes presented in Van Wielingen’s talk from my point of view as an audience member. A summary powerpoint presentation is also available​ here

THE PERFORMANCE CHALLENGE

Central to the discussion of performance is the empirical reality that most businesses eventually underperform and fail. Research shows that half to two-thirds of newly formed companies statistically disappear within their first five years.1 However, this performance challenge is not only a threat to newly formed companies, as numerous mature and once leading companies have also hit the wall of underperformance and/or experience high profile corporate meltdowns (i.e. Blackberry, Nortel, Lehman Brothers, etc.). 

“I focus on the point of performance, because I am always asking myself: What is the typical experience for a management group or board of directors? The evidence points to a typical experience of a serious, everyday performance challenge.”

Van Wielingen points to research exploring the theory of positive skewness, which has been shown to be prevalent in public equity returns, as well as private equity and venture capital.2 Positive skewness centres on nonsymmetrical distributed returns of a portfolio, as a result of numerous frequent small losses and a few extreme gains. Therefore, such a distribution, tells us that a small number of companies drive the overall value creation of a portfolio. Recent research from the University of Arizona,3 further supports the theory of positive skewness. Reviewing lifetime returns (listing to delisting) of 26,000 stocks over a 90-year period in the U.S., the study found that six out of 10 stocks did not outperform low-risk treasuries. The study points to the fact that as the overall stock market has outperformed low-risk treasuries – this performance can be attributed to a small number of companies.  Given this evidence, Van Wielingen cautions, “If we are going to run our businesses like most businesses are run, it is only reasonable to expect that you will end up like most businesses.”

However, do not pass this viewpoint off as an unduly pessimistic outlook. For, as Van Wielingen highlights, understanding the facts, allows us to ask ourselves“What can we do differently to increase the probability that our companies will survive?”

DRIVERS OF PERFORMANCE  

A copious number of business books and guides to corporate strategy have been written that promise to provide the secrets to success. Van Wielingen shares, “In my business career, I have been continuously searching for the one big driver of performance.” In his quest, he studied numerous drivers from vision to capital structure to culture (view a more complete list of performance drivers in the accompanying presentation.)  

“There is no silver bullet. There are multiple drivers. Each is essential; each offers the opportunity to create a competitive advantage. If any one of the fundamentals is missing, your organization may be in peril.”

The conclusion is that comprehensiveness is an essential ingredient for good strategy. Simple. All you must do is do everything, and it all well. Van Wielingen, himself admits that this is no easy task, it is hard work. Further, many executive leaders have told him that it all sounds too complex and overwhelming. To aid overwhelmed leaders, Van Wielingen points to the foundation of the Governance of Performance and a selection of Advanced Practices, which can help pave the way to integrate comprehensiveness into strategy. 

GOVERNANCE OF PERFORMANCE

Governance of Performance looks at the respective roles of management and the board of directors, and the structure of responsibilities and authorities within an organization. This is critical as it addresses how the board’s role links with organizational performance. The board has authority over all material fundamentals of an organization. This includes, but is not limited to, issuance of debt and equity, CEO selection and performance management, capital spending and material transactions. In Van Wielingen’s view, the role of the board goes beyond passive compliance and advisory, stating, the Board and Management are a partnership, sharing in the leadership responsibility of an organization – the board can be seen as the control partner and management is the executive partner.”

In this way, management has the responsibility to develop and implement strategy, but the board has the ongoing responsibility for essential due-diligence and, ultimately, the decision if the strategy is good/great and justifies the commitments of the organization. It is with this mindset that boards can move towards operating at an optimal level and fulfilling duties relating to performance.

FIVE ADVANCED PRACTICES

To conclude his talk Van Wielingen offers five Advanced Practices, all of which he has used, and seen to generate success. However, Van Wielingen stresses that this is not a complete list and there are many more that could be addressed.

  1. Vision - Find a way to describe your vision that is compelling and that is moving towards what is viewed as a leadership position in your industry.

  2. Strategy - Strategy creates coherence and rationale for the commitment of an organization’s resources. It must be integrated into the purpose of an organization. The most important condition is that strategy is comprehensive. Ask yourself if you can put a checkmark next to each driver of performance, and if there is internal consistency? What you are trying to achieve is broader than one variable it goes beyond solely profit. In addition to profit, purpose also needs to include a perspective on risk, timeframe, and quality of human experience.

  3. Organizational Competencies - We are generally well-aware of technical and functional competencies, but not as much of organizational competencies (i.e. leadership and communication), such as: priority setting; determining what is material; workplace coordination; and clarity and direction on values. An effective way to assess this is 360 performance reviews.

  4. Accountability - Accountability is the acceptance of responsibility and the willingness to be answerable for progress towards a desired outcome within a particular domain of responsibility. It is often a proxy for performance. A method to build a performance-based culture with high accountability is to implement self-evaluated progress monitoring reports.

  5. Culture - A large body of research tells us that there is a link between strength of culture and performance. (See: Predicting Corporate Performance from Organizational Culture[3] and Organizational Culture: Can it Be a Source of Sustained Competitive Advantage?[4]).

For a more detailed description please view the accompanying presentation.


IN SUMMARY

Highlighting the realities of pervasive underperformance, Van Wielingen makes a strong case for a need to re-envision how strategy is developed and how performance is managed. Central to his argument is the need for comprehensiveness within strategy, which embraces all key performance drivers both in how they are integrated into the purpose and internally managed. In Van Wielingen’s view, a critical component of sustained performance is the role of the board in strategy development and performance management. This role must go beyond the traditional passive, compliance-based role to include the sharing of leadership responsibilities in the organization. Providing insight on five selected Advanced Practices, Van Wielingen offers a path forward to leaders striving sustain performance of their organizations.



Author

Viewpoint Research Team


References

1) Parsley, C., & Halabisky, D. (2008). Profile of growth firms: A summary of Industry Canada research. Ottawa: Industry Canada, March 2008. 

2) Buchner, A. (June 2016). Dealing with non-normality when estimating abnormal returns and systematic risk of private equity: A closed-form solution. Journal of International Financial Markets, Institutions & Money. 45 (2016) 60–78. Available at https://www.sciencedirect.com/science/article/pii/S1042443116300488?via%3Dihub

3) Bessembinder, Hendrik. (November 2017). Do Stocks Outperform Treasury Bills? Journal of Financial Economics, Forthcoming. Available athttps://papers.ssrn.com/sol3/papers.cfm?abstract_id=2900447   

3) Gordon, G., & DiTomaso, N. (1992). Predicting Corporate Performance from Organizational Culture. Journal of Management Studies. 29. 783 - 798. 10.1111/j.1467-6486.19

4) Barney, J. (1986). Organizational Culture: Can It Be a Source of Sustained Competitive Advantage? The Academy of Management Review, 11(3), 656-665. Retrieved from http://www.jstor.org/stable/258317