The E-Myth Revisited: Why Most Small Businesses Don’t Work and What to Do About It
Blue Ocean Strategy: How to Create Uncontested Market Space and Make Competition Irrelevant
The Know-It-All: One Man’s Humble Quest to Become the Smartest Person in the World
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 Al Herbach  Thursday, February 25th, 2010 When I went to school in the Dark Ages, we were taught in Economics that there is such a thing as Homo economicus, a purely rational human who makes all economic decisions based on “What’s in it for me” — sounds a lot like Chicago aldermen, but I digress. In many ways, this short cut made economics much easier. We didn’t have to worry about things like people’s desire for respect or willingness to impose “fairness” into our negotiations. But it was also a bit like physics, where we were told to ignore the effects of friction in some of our equations – a shortcut than didn’t really help our understanding of the world we live in.
As time moved on, economists and psychologists started to research whether the Homo Economicus was real or a fallacy. Scholars like Amos Tversky, Daniel Kahneman, Ian Ayres, Dan Ariely and Richard Thaler ran scientific experiments to see if people really did act rationally when it came to economic decisions. What they all found, in various ways, was that we are not rational at all when it comes to buying, negotiating, selling, responding to advertisements and even going to the movies. In fact, to steal the title from Dan Ariely’s most famous book, we are Predictably Irrational.
I have recently completed reading the book Priceless: The Myth of Fair Value (and How to Take Advantage of It) by William Poundstone. I had read a number of Poundstone’s books before. He wrote books on secrets and puzzlers like How Would You Move Mount Fuji?, but I wasn’t prepared for the level of detail and research that he had completed to write this book.
The book is structured into 53 chapters. Each chapter takes a specific pricing case and talks about the specifics of the deal. There is also a description of a scientific experiment that describes the psychology of the participants. I had read about a lot of the experiments before, but this book allowed you to tie the results of the experiment with the results of a pricing decision in a very real way.
Poundstone opens the book by retelling of the McDonald’s hot coffee lawsuit, where the attorney for the plaintiff in the case employed a simple scheme to raise the amount of the jury award — he simply asked for an astronomical award from the jury. This raised the anchoring point for the jury so that while they awarded much less than the asked for judgment, they awarded much higher than any rational person would have considered the case to be worth. Anchoring also works in the grocery aisle. Not too long ago, the standard size for ice cream was a half-gallon. Consumers had in their minds what they normally paid for a half-gallon of ice cream. Manufacturers wanted to raise prices (their costs had increased) but were concerned that if they raised prices, people would notice and either change brands or even more worrisome, consider alternative dessert items. So, now if you go into the grocery store, most ice cream is sold in 1.5 or 1.75 quart sizes (a reduction of 12-25%), but the pricing is kept in the same familiar range. The average consumer doesn’t realize that they are getting less for the same price and the market share of ice cream as a portion of the dessert market is safe. Anchoring at its best.
One of the experiments that gets a lot of play in the book is the ultimatum game. In this game, one person is given $10 and is told that they can give any part of the $10 to another player. If the other player agrees, then the deal is done. If the other player does not agree, neither party receives any money. This simple game uncovers a lot of different outcomes. Men perform differently from women, Type A’s perform differently from Type B’s, Liberals perform differently from Conservatives, sober people perform differently from those more tipsy. Is the proposer most rational when he proposes $1 to be given to others while keeping $9 for himself? Is the receiver rational when rejecting a deal that would make them $1 richer in order to punish the unfairness of the proposer? The best example in the book of the ultimatum game in real life is the story of Jack Welch’s divorce negotiation. While we normally think of Neutron Jack as a most savvy businessman, it was fun to read the story how of his former wife turned the tables on him using the precepts of the ultimatum game.
Each of the chapters talks about ways that we as consumers are manipulated to paying more or selling for less than our mythical ancestor Homo Economicus would have been expected to. This is certainly important to consumers, because a savvy consumer who is aware of the psychological tricks can make smarter purchasing decisions. As business people, it is helpful to understand how to price your products and services in order to reduce price resistance.
This book was a pretty easy book to get through with enough concrete examples to catch your attention. In the 1-5 star rating category, I would give this book a solid 4 star rating.
Al Herbach Friday, February 12th, 2010 I just finished reading Atul Gawande’s newest book, The Checklist Manifesto: How to Get Things Right . Dr. Gawande is a great thinker and I had enjoyed reading his prior two books about the medical community: Better: A Surgeon’s Notes on Performance
and Complications: A Surgeon’s Notes on an Imperfect Science . In this book, he talks about a simple way to reduce errors in the operating room, a checklist. He talks about how checklists can be developed and how they are used in aviation to reduce errors in the cockpit.
There were a couple of key takeaways for me from this book. Gawande reports on the research of the science of complexity. Professors Brenda Zimmerman of York University and Sholom Glouberman of the University of Toronto have developed a distinction between three types of problems in the world. The first type is simple – like following a recipe to bake a cake. You may have to learn some parts of it, but it should be repeatable if you follow the instructions. The second type is complicated – think of sending a rocket to the moon. In a complicated problem, you can usually break it down into many simple problems, but you will have multiple people or teams, multiple specialties and timing and communication become serious obstacles to be overcome. The third type is complex – the example given here is raising a child. Unlike sending a rocket to the moon, if you successfully raise a child, there is no guarantee that your second child will turn out the same. Experience is helpful, but by no means sufficient. It is possible to successfully raise a child (no matter how you define that), you just can’t predict how it will happen.
In each of these types of problems, a checklist can be helpful. In the simple case, a recipe is a simple checklist that ensures that all of the steps are completed in the correct order. In the complex case, a checklist can be used to schedule the work that needs to get done, coordinate the interactions between the different teams and even regulate the communication between teams that is required to iron out issues that arise during the project. Gawande spends some time in the book detailing a large building project and their use of checklists to ensure that all of the myriad details that must be accounted for during a skyscraper construction project are managed.
It is in the complicated cases that the uses of the checklist have really not been utilized. For many years, the complicated cases have seemed to be too random to be managed through checklists. In the surgery, complications are all too often a regular part of the job. This antibiotic doesn’t work for this patient. The patient suddenly develops an infection. The laboratory does not deliver the right type of sample collection device. But Gawande and a team at the World Health Organization worked on a trial project with 8 hospitals around the world to try checklists in the operating room. Their goal was not to address all of the potential complications. They created a list of 19 specific things to check before, during and after a surgery. Things like, did you check the patient’s name bracelet, did you give pre-surgery antibiotics, if there is a chance for blood loss, did you request blood supplies be available. In addition, the checklist required that the team all introduce themselves before surgery. This bit was introduced to help the surgical team function like a team, when the complications arose.
The results from the trial were unbelievable. Hospitals from the US, Canada, UK, Australia, India, the Phillipines, Jordan and Tanzania participated. Overall, the rate of major complications for surgical patients in all eight hospitals fell by 36% after the introduction of the checklist, while deaths fell 47%. Such a simple concept. But it forced everyone to concentrate on the issues that they had control over, while preparing them to work as a team on the unforeseen complications that inevitably arise.
Now, usually I write about entrepreneurship, so why is this so important?
Well, Dr. Gawande took his message of the value of checklists to experts in other industries to see if there was a correlation. One of the folks he talked to was Geoff Smart, who wrote a top selling book on hiring called Who: The A Method for Hiring . Smart did a project with Venture Capitalists where he evaluated the style that the VC used to make investment decisions. The VC’s that used a checklist approach had a 10% likelihood of replacing the senior management versus 50% for VC’s that didn’t use the checklist. They were also more financially successful. The checklist users had an 80% ROI versus 35% or less for the rest.
As you look to develop your businesses, it seems like a good idea to implement checklists throughout your businesses. Even though your outcomes may not result in life and death, like Dr. Gawande, the benefits of using checklists to cull out the simple and mundane errors and focus on the complicating factors will strengthen your business.
Al Herbach Wednesday, January 27th, 2010 Lately I have become fascinated with the sales process. Those of you who know me well, are not surprised, since sales has always been a Black Hole area for me. But my fascination is really directed at a certain type of sales process. Let me explain.
When you think of sales, you normally think of a company who has a product or service and has to find customers for that deliverable. There are a lot of folks writing articles about and perfecting their sales processes to get that prospect to sign on the dotted line. Everybody from Boeing to the local deli has their own process down and understands what they need to do to ensure that the income keeps rolling in.
In the past several weeks, I have had conversations with several businesses that have a dual sales process. That is, they have to sell someone on the idea to sell a product to the end user.
At DePaul University’s Coleman Entrepreneurship Center, I attended a Blueprint Connections networking event recently. These events give student entrepreneurs an opportunity to talk with and present their ideas to experienced business folks. I am always excited by the future of business after attending these sessions; there is just so much energy there.
At this event, I met a student named John. John had started a business of providing real estate services to college students. His goal was to match students to the perfect apartment. John had a good sense of his market, he understood the value of high quality service and he made a compelling case. His challenge, though, was that in order to make a sale, he actually had to make two sales. He had to develop relationships (and contracts) with landlords, so that he could show their properties and get paid for the successful lease process. Then he had to sell the students on the need for his services and the “inventory” of properties that he could show. It is a devilishly hard process to manage.
Another company that I have been working with sells a licensed commodity to a large retail chain. The owner needs to get legal authorization from each licensee (think over 15,000) to sell their licensed material. Then he has to work with the store manager (there are over 5,000 of those) at the retail chain to offer his products. Even though corporate has given the green light to selling the products, they want the store managers at the local level to make the final decision. It is a balancing problem. You want to go out to the licensee and get the authorization so that you have something to provide to the retail chain, but it certainly is helpful if you have the local retail store already on board to sell the products and can go to the licensee with a pre-order.
These opportunities are golden opportunities, because they have the benefit of a contractual relationship between the parties and that makes it more difficult for others to enter. When we talk about investors funding ventures, one area we normally talk about is barriers to entry. These dual-focused sales efforts do provide some level of barrier. The challenge is how to balance the sales efforts in a knowledgeable and responsible way to grow your business.
Al Herbach Tuesday, November 24th, 2009 A number of the technology companies that I have been advising have been working towards building whatever they have to build to get a product into the marketplace. They have lists of features and are using some sort of project management system to track their progress. The feature lists are long and sometimes include esoteric features that the founders believe will immediately make them more newsworthy and consequently, more able to be funded.
My advice to my entrepreneur friends is simple. The biggest thing that makes a difference in getting funding is having paying customers. The faster that you can get a paying customer, the faster you can show to the world that you have a product or service that people want. The difference between pre-revenue and post-revenue is huge. Of course, post-revenue has a volume to it. One paying customer means something; 200 paying customers means something much more. But as the old Chinese proverb says, a journey of a thousand miles began with a single step. Take that step early.
Take the time up front to identify the minimum that you need to do to give your potential customers value and give them a glimpse of the future. Once you have decided what the initial feature set is, develop with all your heart and soul. Work fast and resist the temptation to add features. Keep a list, off to the side, of the neat features that you might want to consider in release 1.1 or 1.2. Go through the entire development cycle. Do not forget to quality check and validate your user interface. But release that code and sell that product. Most likely, your initial customers will not be shy about asking for additional features. Add them to your list and keep track of how many times each item is requested and by whom.
Only when you have gotten some paying customers to utilize your system can you determine which features are most critical to your success. That gives you the understanding to wisely choose the small set of features that will be in the next release. The unanticipated advantage of this is that you get another chance to tell your customers and prospects about a new release with new features that were suggested by them. You can’t get better PR than telling your customers that you are listening to them.
The best software firms out there do this… Look at Google with Google Reader or Google Docs. They push out new features almost every other week. Look at 37 Signals. Backpack today is much different from when it started out and the founders had no idea of the direction it should take, but their customers did.
You can’t get customers until you have a product out there. Release early and often.
Al Herbach Tuesday, October 20th, 2009 When I think of all of the businesses that I might want to be involved with, the airline industry is down near the bottom of my list. Massive government intervention, public ownership, reliance on a wildly fluctuating fuel cost, overcrowded marketplace, customer service nightmares, unionized unhappy employees throughout the organization. Wow! But it still amazes me that the executives in charge of the majors take their eye off the ball so often.
Doug Parker, president of US Airways, crowed that the carrier was making $400 million per year on ancillary fees. Never mind that the industry continues to lose money. Never mind that US Airways lost $100 million in a recent quarter and saw its revenue drop over 13%. United Airlines makes $14 per passenger in ancillary charges, but lost $382 million in Q1 2009.
Never mind that the average consumer is tired of being nickled and dimed – window seat, head set, cut in front of the line, extra 5 inches of legroom, snack, soda, more miles, checked bag, overweight bag, travel on a busy day, talk to a ticket agent, redeem a frequent flyer award – all of these cost extra on at least one major airline (excepting Southwest). The whole travel experience is now so convoluted that some people have decided that the hassle of air travel is just not worth it. I have had 4 opportunities this year to travel that in years past I would have chosen to fly. Not this year… my rule has become only fly if necessary.
From a customer service perspective it is a disaster. Every time you need to talk to the company, they want your credit card. Their eagle eyed bean counters (and remember that I usually love bean counters) are crowing about the new revenue, but aren’t looking at how many people have stopped flying. That seems to be to be a bigger issue.
I mentioned earlier that Southwest has not moved to a la carte pricing. They haven’t had a losing quarter this year. Maybe that should tell the bean counters something.
Even in areas outside of the airlines, we see the same “logic”. I tried to buy college football tickets online last week. The website gave me two options for delivery. Print them out at home for $6 or pick them up at Will Call for $3. In neither case, did the college incur any significant additional cost, but there was that ancillary charge. Guess what, I didn’t purchase the tickets over the internet. Oh well.
For those of you out there looking to break down your pricing to provide a more a la carte menu solution, I would recommend really investigating whether you will achieve the goals that you hoped by doing so. You may be much better off by playing the Southwest to the majors.
Al Herbach Thursday, October 8th, 2009 Recently, as part of some non-profit work I have been doing, I have been to two banks. The purpose was to redeem CD’s that have matured. These are not small accounts. One was for low 5 digits and the other low 6 digits. Small community bank and mega-bank. From the outside, not a whole lot of similarity here.
What was amazing to me was that no one at either bank asked if they could do anything to keep our account? Can I tell you about our new CD rates? I would be happy to match the rate for any local bank. Nothing. Just typed up the cashier’s check and handed it to us. I know that the banking business is in such a difficult place these days that I was floored that no one tried to keep an existing customer from leaving.
But hey, what do I know, I am not making the huge bucks running a bank. I am sure that they know way better than me.
So, if you don’t run a bank, take my advice. Ask people who are leaving “Is there anything that I can do to keep you as a customer?”. Fix the problem or make a better offer. It has to be cheaper than signing up a new customer and you have the possibility of someone like me writing a very different blog post about you.
Al Herbach Wednesday, August 19th, 2009 I haven’t done a good listing of links lately, so here you go…
Fun: Gotta love this picture…
Video: Regular readers know that I love Seth Godin. If you have never heard him speak, take an opportunity to view this video of a speech he gave last year to a software developer’s conference.
Management: Netflix, a company that I admire for a lot of really great things, has posted a slide deck of how their corporate culture works. It is long (128 slides), but it reads quickly. It is a must read for any entrepreneur trying to establish a coherent and successful culture.
Time: I read this article a couple of weeks back and it keeps coming back to me with a simplicity of the content and yet the relevance. Paul Graham writes about Maker’s Schedule and Manager’s Schedule.
Al Herbach Wednesday, August 5th, 2009 Banks have gotten a bad rap over the past year or so. But in truth, they are the linchpin of our financial livelihood as entrepreneurs. If you accept credit cards, you need a bank. If you pay payroll taxes, you need a bank. If you want to pay your employees using direct deposit (or even the quaint paycheck), you need a bank. Most vendors still require that you pay them using a check.
Banks also can provide loans for businesses. These can be asset based loans, lines of credit, mortgages, long and short term. And this is where businesses can get into trouble.
While most business owners think of their checking accounts and loan accounts as separate entities, the banks do not. So if you have missed a couple of payments or have just exceeded your loan covenants, the bank can, without warning, clear out your accounts to fulfill the terms of your loan agreements. And if you have a personal guarantee, they can tap into any personal accounts you might have at the same institution. Talk about a kick to the head…
I have a few suggestions to try to make this less of a potential issue for you:
- Build a good relationship with your banker. Meet quarterly with him or her. Take them into your business and explain what goes on. For sure, tell them the good news when you sign a big deal, but just as critically, let them know when things aren’t going so well. The more you communicate with them the better you will be.
- Don’t put all your eggs in one basket. Keep your personal accounts at a separate bank. Keep transactional money at the primary bank, but keep other long term cash somewhere else.
- Understand your loan covenants.
- If you don’t hear from your banker, or they don’t return your calls, don’t consider this a good thing. The last time I heard about the money transferring process was 2 weeks after hearing “Oh yeah, I haven’t heard from my banker at BigBank in 6 months. I’m guessing that they have forgotten about us. They must have bigger fish to fry.”
When this happens, everyone gets upset at the bank. How could they do this? In reality, the bank is just trying to forestall the worst outcome for the bank, a complete loss of the capital that they have provided to the customer. They figure something is better than nothing. And the entrepreneur needs to understand that that is a potential outcome of the deal that they made when they accepted the cash.
Al Herbach Wednesday, July 22nd, 2009 I had the opportunity recently to fill out an unconventional bio for a company that wanted to get some info on me. Besides the usual, where did you work and what degrees you have earned, this bio asked questions like “What did you learn from your mother?” and “When you were a child, what do you most remember about playing?”. Interesting questions, but the one that stumped me for a bit was “What do people say about you?”.
Now I have heard a lot of what people say about me (and not heard probably lots more). But it is hard to put that down on a bio, without either sounding incredibly pompous or wishy washy. I could ask people to recommend me on LinkedIn and get some of that feedback, but in general, the recommendations on LinkedIn are very white bread and don’t really give the flavor that I was trying to provide. I could give snippets of client thank you letters or performance reviews, but that too was not really what I was trying to provide as part of this bio.
And then I remembered the goofy exercise that we did at a previous employer. I was working as a director of a professional services group. I was one of 7 directors and it was the best working group that I had ever been on. Not that we always agreed, but there was a dynamic quality to our interactions. For one of our offsite meetings, our Recruiting Director had the wild idea of having each of us write a short paragraph extolling the virtues of each of the other members, as a sort of recommendation. We all thought — there she goes again, new agey, touchy feely stuff, but we did it. She then collated them and provided each of us with a full version of our recommendations, without attribution. It was a tremendous insight to see how others saw us. In some cases it was obvious who wrote the recommendation, but in others, I still have no idea. What I was left with, though, was a composite of how I have impacted others. I have kept that sheet in a special place.
And it was to that place that I went when I had to create my bio.
Takeaways:
- Sometimes the most goofy sounding exercises can give you true value over the same old stuff.
- Take an opportunity to write a short note to people (handwritten, if possible) to tell them about how them have impacted your life. You have no idea how important this could be to someone’s day, life, ego, career.
- If you are a manager of a team and want to make the team more cohesive, try this exercise. I can guarantee that everyone will get something out of it. Don’t forget to include yourself in this. You can nominate someone else to receive the recommendations for you, so that they remain anonymous.
Al Herbach Monday, June 29th, 2009 There are so many great one line catchphrases that have come to us from cartoons. But one of my favorites is from Popeye — I yam what I yam, and that’s all that I yam. One of the things that I have learned over the years is that you have to know what you are, what your strengths are and look to enhance them, rather than look at trying to solve every weakness.
In business too, we seem this same dynamic. Too many successful companies are looking for the newest thing when they have a good thing right in their own companies.
In Chicago, WGN Radio is a powerhouse. It has a 50,000 watt transmitter that allows its signal to be heard in 37 states. It is always in the top 2 in terms of market revenue. If you asked anyone in the city what the demographic of the radio station’s listener was, they would know: it was an older, white, mixed politically, educationally advanced audience. The station was a throwback to old times. The announcers still read commercials live. It had personalities who were engaging and a devoted audience for those personalities. The station had the ability to do indepth shows on topics that others could not. In short, it held its own place as a unique place on the radio dial. But then Sam Zell bought the Tribune Company and with it, WGN Radio. In short order, their morning drive time host retired. This was not a surprise — the host had planned his retirement for over 6 months. Management named one of their afternoon hosts as the new morning host. After 6 months, they moved him into a spot that they created by firing the hosts of a unique morning show directed at women that had been on the air for 20 years and had a hugely loyal following. In the meantime, they fired the hosts of unique shows that focused on money, pets and gardening and replaced them with what the rest of the world sees in talk radio – bigoted, loudmouthed talk radio guys. I am convinced that although WGN had a good thing going with their market, the moves that they made will make them a middle of the road player. By going after the coveted demographic segment (men 25-45), they will be indistinguishable from all of the other stations out there. The latest numbers are not in, but my prediction is that they will be trending in the wrong direction.
Consumers are looking for what you can bring to the table. They like knowing who you are and what you can do for them. Bring them something different, but don’t bring something different to an audience that is not yours. Don’t be like everyone else. Know what you are and bring it – better, faster, cheaper – but bring it.
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