But why am I taking you down memory lane?  Because under this seemingly stable environment appeared one of the best articles ever written on how to frame and develop strategy under high levels of uncertainty.  The article I am referring to is Robust Adaptive Strategies by Eric Beinhocker.  In that seemingly simple paper, the author made the case for why developing strategies based on narrow predictions about the future is wrong for an inherently uncertain world.  Instead, he proposed to take a cue from nature and change the way we develop business strategy, relying less on our ability to make accurate predictions and more on the power of evolution.  Beinhocker’s main contribution was to suggest that we focus on a portfolio of strategies that are both robust and adaptive rather than on a traditional, singular, focused strategy.  Furthermore, he suggested that “a robust [portfolio of] strategies will produce positive results under a wide variety of circumstances, even though it may not be optimal in some scenarios. An adaptive [portfolio of] strategies keeps an array of options open over time, minimizing long-term irreversible commitments.  Robust, adaptive strategies willingly sacrifice focus, apparent certainty, efficiency, and coordination, that traditional strategies provide for the sake of flexibility and higher probability of success” and survival!

Now jump 12 years to 2011.  After the recent financial crisis and severe recession, which resulted in massive value destruction and bankruptcies, the topic of robustness is all the rage.  Many academics and practitioners are now focused on strategy development for surviving and thriving in an uncertain world.  See for example a recent interview with Nassim Taleb in Knowledge@Wharton where he shares that “in a black swan world, optimization isn’t possible.  The best you can achieve is a reduction of fragility and greater robustness…people talk about black swans but they don’t talk about robustness, which is the real lesson of the black swans”.

But have we really learned? I am cautiously optimistic.  Tools like scenario analysis, real options, and dynamic monitoring are still not widely applied.  Furthermore, leaders are starting to feel bullish and optimistic about the future and going back to their old ways.  But before they bet the farm, it may be a good for them to pick a copy of Beinhocker’s Robust Adaptive Strategies.

If you have a comments or want to learn more about developing strategy and making decisions under high levels of uncertainty, please contact me at sichel@decisionstrat.com or visit www.decisionstrat.com

Here is a summary of our thoughts on the topic:

Executives acknowledge that the world is a highly uncertain place; in a recent survey we conducted among  high level executives, 2/3 said they had been surprised by at least three high-impact events in the past 5 years.  Yet, companies frequently bet their future innovations on a fragile set of assumptions that often end on failure and sometimes on outright disaster (for an extreme case in point, see Iridium’s rise and fall).  Scenarios can improve the innovation portfolio process and outcomes in at least four different ways:

1. By providing a richer set of innovation alternatives: scenarios capture a range of external uncertainties and discontinuities that can be used as a platform for innovation (e.g. what are the winning products, services,  solutions, and business models under the different scenarios?)
2. By providing more flexible innovations: scenarios allow you to assess the value creation / destruction of innovations across different scenarios before you make large commitments.  Fragile innovations (those that destroy value under one or more futures) can be redesigned to improve their individual risk-reward profile using real options and experimentation techniques.
3. By supporting the development of balanced portfolios: scenarios allow you to build a balanced portfolio by re-combining robust and fragile innovations until you achieve an optimal risk-reward profile for a given risk appetite.
4. By improving the risk assessment of individual innovations and portfolios: scenario thinking limits the impact of cognitive biases in model assumptions, especially overconfidence and frame blindness.

Innovation portfolios (and strategic portfolios for that matter) are a complex topic still under considerable study and development.  Unlike financial portfolios, there are still no dominant practices on how best to generate, assess, and select innovation portfolios (for a good primer on the topic, see the work of Robert G. Cooper).  While not a silver bullet, scenarios can play an important role for organizations looking to improve their innovation processes and outcomes.

If you want to learn more on the topic of connecting innovation portfolios to future scenarios, see our conference interviews or contact me at sichel@decisionstrat.com

In this context, the World Economic Forum (WEF) recently launched its “Risk Response Network.”  Klaus Schwab, founder and executive chairman of the WEF, explained in Harvard Business Review’s Jan-Feb edition that the network will be committed to developing tools and processes to help it not only understand key risks but also respond to them collaboratively and mobilize quickly in times of crisis.  The initiative will create a platform to enable decision makers around the world to pool knowledge about the risks they face, to share best practices in risk management, and to respond collectively to emerging risks.

This is a great initiative that will certainly improve collaboration among private and public actors.  However, it is not enough for organizations to rely on an “uber” risk council or network to manage emerging and systemic risks.  Successful organizations will need to replicate internally the same principles of the “Risk Response Network” if they are to anticipate, adapt, and respond more effectively to emerging risks.  This includes developing a proactive and systematic external monitoring capability and integrating decision-making and response across the organization; in other words, dropping the archaic notion that risk is the responsibility of the risk function alone.

External monitoring and decision-making matrix

This systematic and continuous monitoring of the external environment coupled with an integrated decision-making and response capability is already happening in a few selected cases.  For example, leading organizations are setting in place internal platforms (e.g. Strategic Radar™) or social media groups (e.g. LinkedIn) to capture and share scanning topics and monitoring signals critical for their businesses (e.g. insurance companies with Director & Officers operations tracking securities lawsuits tied to the mortgage crisis).  Then, these organizations are gathering critical decision-makers (not just risk managers) to conduct the “sense-making” and agree on a cohesive response plan that cuts across different business units, functions, and even traditional risk categories (e.g. market, credit, operational).

While these activities cannot bulletproof organizations against all emerging and systemic risks, they can certainly provide an edge over laggards who are paralyzed by complexity or are relying on global networks alone.  Is your organization ready to anticipate and respond to the next crisis?

If you want to discuss or learn more, please contact me at sichel@decisionstrat.com or visit www.decisionstrat.com

But what are emerging risks and why are they important?  A precise and easy to understand definition was recently provided by the Financial Times (Global Emerging Risk Survey: Steering the Course, Seizing the Opportunity): “emerging risks are new risks or familiar risks in new or unfamiliar conditions.”  Iceland’s volcano disrupting air travel in northern Europe is an example of the former, while fiscal crises spreading through the European continent like wildfire is an example of the latter.  Moreover, the FT survey identified a number of characteristics that make emerging risks challenging for decision-makers:

• Many are perceived to be potentially significant, but they may not be fully understood
• Their consequences cannot be clearly defined in monetary terms
• Conventional approaches to projecting their relative frequencies, their probability distributions over time, as well as the severity of losses may be ineffective
• It is difficult to establish causality between the source of the emerging risk and its consequences
• They are typically outside of an organization’s control
• They may be systemic

So emerging risks are rare, right? Not anymore, according to the new Global Risk Report.  We live in complex and uncertain times and many of the top risks identified by leading experts, academics, and practitioners fall in the category of emerging risks.  Below is a list of the top 10 risks identified in the report, both by their individual (risks with the highest combined likelihood and potential monetary impact) and systemic impact (risks with the highest number and strength of connections with other risks):

Good luck assigning a probability distribution to these risks.  The risks in the list are all global, complex, systemic, and multi-faceted, which calls for a different approach to risk management.

So what is a leader to do? Most organizations we know have increased resources devoted to identifying and assessing emerging risks.  However, very few thus far are achieving the results they seek.  Therefore, here are a few suggestions to start developing your organization’s capability to manage emerging risks:

• Develop scenarios to identify potential emerging risks and how they drive and impact each other
• Stress-test your operation and strategies to the scenarios and specific risk factors; embed flexibility in your initiatives and strategic portfolio and add slack to your operation where necessary
• Identify signals for the different scenarios and risk factors and frequently monitor (for the “known unknowns”) and scan (for the “unknown unknowns”) the external environment; communicate the updates across the organization
• Incorporate risk people in the strategic dialogue and risk factors in the strategic planning process
• Expand your potential response to emerging risks from hedging and ignoring to include learning and exploiting (i.e. risk as an opportunity)
• Develop a risk culture; risk is not the responsibility of a few people at that function, it is the responsibility of an entire organization

Emerging risks will no doubt continue to pose an enormous challenge to executives and risk professionals around the world.  Your organization’s ability to identify, assess, manage, and monitor these risks might make the difference between success and failure in the next external shock.

In the prophetic words of Jerry Brown (California Governor, recently elected for his third non-consecutive term) to the San Francisco Examiner in 1980…“I see the world in very fluid, contradictory, emerging, interconnected terms, and with that kind of circuitry I just don’t feel the need to say what is going to happen or will not happen.”

If you want to learn more, please contact me at sichel@decisionstrat.com or visit www.decisionstrat.com

The volcano also affected several other industries in Europe and across the world, including: logistics, perishable foods and flowers, electronics, automotive, hotels and restaurants, and teleconferencing, among others.  The impact was negative on some industries, while other industries benefited from the kind of positive externality that happens only on rare occasions.

The situation prompted a few writers to call the volcano eruption a “Black Swan.”  These rare events have three distinct characteristics: a) they are outliers; b) they have an extreme economic impact; and c) they are predictable only in a retrospective way.  Since you can’t really predict a Black Swan, you can only prepare for such an event or withstand its impact by adding slack or flexibility to your operation.  But, was this really a Black Swan event? And what are the broader risk management lessons we can draw from the past few weeks?

Let me start by saying that I don’t believe this was a Black Swan event.  While airlines suffered massive losses, experts assess that the accumulated economic cost for Europe will be close to 0.1 percent of its gross domestic product.  This is almost a rounding error in national accounts.  Therefore, the event doesn’t pass a critical criterion for being considered a Black Swan.  And even if it did pass this criterion, the focus is on the wrong issue or event.  Was the Eyjafjallajokull blowing unpredictable and rare enough?  I am not an expert, but I understand that the last time this volcano erupted was in the 1820′s before aircrafts were even invented!  That qualifies as rare and fairly unpredictable.  But a prolonged disruption of air traffic is not (e.g. September 11, SARS, swine flu scare) and this should have been the right issue to focus on for the businesses affected by volcanic ash.

But not all is lost.  The events from the last three weeks are a fertile ground for risk managers and strategists to learn and better prepare their organizations to cover exposures and capture emerging opportunities from future disruptions of any type.  Here are a few lessons:

• We need to think more expansively about emerging risks.  Emerging risks come from many unlikely places; and while this is obvious, we are still limited by our past “frames” and traditional sources to identifying new sets of risks.
• We need to focus on the right set of issues for our organization.  While triggers may come from different sources (e.g. a volcano blowing in Iceland), focusing on the right set of issues (e.g. a disruption of air traffic in Europe) can help us map and better understand the risk management implications of rare and potentially high impact events on our organization.  In doing so, we need to explore how second and third order effects could play out.
• We need to apply an expanded set of approaches and tools for unknown forces.  External forces fall into three categories: known, unknown, and unknowable.  Our risk management models are usually good only for the first category.  We need different approaches for the unknown and even the unknowable.  Scenario planning  is a technique that could give us a head-start by exploring how unknown forces may play out and how well prepared our organization is to withstand them (see About Black Swans and Scenario Planning: Can’t we all get along).
• We need to add some capacity or flexibility to our operations.  In a world of constant disruption and increasing volatility, we need to add some slack to organizations that have traditionally been operated with a just-in-time mentality.  While we may forgo some profits in normal times, we will be better prepared to withstand shocks and/or capture opportunities left by less prepared competitors.  At the very least, we should have a contingency plan in place in case disruptions happen due to external events or forces.

The  Eyjafjallajokull eruption was a natural disaster of great proportions.  But no one died, even if it affected many passengers, and companies suffered what they felt were mortal wounds due to the stoppage of operations.  We might not be so lucky next time (there is even talk of the Katla volcano erupting, which is larger and more dangerous than its smaller relative), so it’s time to reflect on how to better prepare our organizations for upcoming disruptions in what will likely be described by some as the next Black Swan event.

If you want to learn more, please contact me at sichel@thinkdsi.com or visit www.thinkdsi.com.  In the meantime, enjoy a sample of Jimmy Buffet’s classic song “Volcano”…

I was born, raised, and started my professional career in Latin America.  Because of this circumstance, I had the privilege of being exposed to Prahalad’s two main contribution areas: business strategy and economic development.

On the former topic, his work in the US and the rest of the developed world is well-known.  He co-wrote a couple of HBR articles with Gary Hamel that were later captured in the bestselling book “Competing for the Future” (HBS Press, 1996).  In this classical work, Prahalad and Hamel argued that an organization’s competitive advantage is driven not by where it decides to position itself in the marketplace, but rather by the organization’s ability to create and leverage core competencies (i.e. a complex set of interwoven skills, capabilities, and expertise that resides in a group of employees working together).

While I found his work in business strategy compelling (and still apply the concepts to this day) it was his economic development contribution that really struck a chord with me.  It is also this part of Prahalad’s work, and its far-reaching implications, that is less known in the US and the rest of the developed world.

I worked for P&G in the early 1990′s marketing detergents to “emergent consumers” in Latin America. I never questioned the overall business strategy and practices, I just took the prevailing “frame” and diligently applied it.  That fundamentally changed after I came across an early version of Prahalad’s book “The Fortune at the Bottom of the Pyramid” (Wharton School Publishing, 2004).  I was no longer at P&G, but I was still in the region working as a management consultant trying to help my clients grow in markets that were in turmoil and segments that were too small or fragmented to be of  interest to these companies.

The Bottom of the Pyramid (BOP) concept is quite straightforward; the group represents the bottom tier of the world economic pyramid, a consumer group of more than 4 billion people with an annual income below $1,500 per year living in the developing world. Prahalad and other economic development theorists argued that this market is both an attractive prospect for the multinational companies and an opportunity for prosperity and development for the aspiring poor.

Over many decades, multinational companies from various sectors, ranging from consumer products to pharmaceuticals and from computers to automobiles, have made modest progress penetrating developing markets. Multinationals have traditionally targeted middle and upper class individuals in emerging markets; those consumers who value western style products and who are willing to pay for their premium prices. By doing so, multinationals have literally excluded more than 60% – 70% of the population of the developing world.

Back in 2003-04, I became so obsessed with the topic that I led a study to identify winning traits and business models for successfully serving the bottom of the pyramid.  There were a number of companies that were already getting it right, including Hindustan Lever (e.g. Wheel detergent, Lifebuoy soap) in India, Cemex (i.e. Patrimonio Hoy program) in Mexico, and Casas Bahia (electronic, appliances, and furniture stores) in Brazil, among others.

These companies’ products and services were all developed from the bottom-up to meet predetermined price points while fulfilling the demands of brand and value conscious consumers.  Moreover, these companies had combined local market insights with effective resource deployment (e.g. alternative go-to-market strategies, flexible manufacturing) to achieve the necessary scale and low-cost operations that ultimately made these ventures sustainable and profitable (through volume and not gross margins).

While Prahalad never evolved his thinking to provide a toolkit on how to innovate at the bottom of the pyramid (the “how” to complement the “what”), he inspired thousands of entrepreneurs and corporate leaders to pursue this underserved part of the market.  The launch of Tata Motor’s “Nano” in India provides a case in point.  Priced at $2,500, it has opened the dream of car ownership to millions of consumers in the developing world.  The company is even considering launching the “Nano” in Europe in 2011, providing a case of “reverse innovation” in the automotive sector.

If you have never read a piece from Coimbatore Krishnarao Prahalad (C.K. to the world), or have not done so in a long time, I suggest you pick-up one of his works.  He had vast contributions in the areas of business strategy, economic development, and even innovation.  You will savour his brilliance and become a more rounded leader because of it.

If you would like to further explore this subject, including the application of Value Innovation (Blue Ocean Strategy) tools for innovating at the bottom of the pyramid, please write me at sichel@thinkdsi.com or go to www.thinkdsi.com

While I agree with much of the article, I hold different views on three recommendations provided by the author.  Here are the disputed recommendations and my rebuttal:

Use a base case scenario for strategy development and decision-making. What the author advocates is more contingency planning than scenario planning.  My recommendation is to use a full set of scenarios, especially if there is no dominant scenario or if the likelihood is evenly distributed among them.  Can you imagine a utility company developing their strategy using a single view of how the grid will unfold? The future of the grid could take many different forms (e.g. regulatory framework, energy sources, technology available), and the correct way to develop a strategy is by “bounding” the future through a set of scenarios that capture the range of plausible outcomes for the organization and perhaps the industry.

Communicate a single view of the future. Effective leaders should develop and communicate a single and unique strategic vision (i.e. strategic objectives, scope, and advantage), not a single view of the future.  This is indeed a complex topic given the need for organizations to “signal” to the marketplace, and the availability of different strategic postures from which to select (such as shape, adapt, or reserve the right to play).  For example, a firm engaging in a “shaping” posture (e.g. a company developing a new standard for 4G wireless) may want to passionately communicate its view of the future to its stakeholders.  This organization is making a big bet on a market and technology with a potential large pay-off and needs stakeholders to buy into its view of the world.  But for the majority of organizations out there trying to anticipate, adapt, and win in a changing environment, my recommendation is to embrace uncertainty and to communicate the different views of the world along with what they will do about them.

Cover the entire distribution “tails” through scenarios.  I completely agree with the principle that scenarios need to stretch our views of the future and cover as much of the tails as possible.  However, a balance is usually required.  There is always the possibility of going too far and capturing only extreme scenarios and worst cases.  The range question (e.g. covering 95% range of possibilities vs. 85%) depends on the cost of ignoring outliers (e.g. a very high cost in industries prone to systemic risk like financial services and energy) and the nature of the exercise (e.g. strategy development, risk management).  Furthermore, it also depends on how scenarios are being used.  I view scenario planning as a form of pre-decision analysis, and so it need not be complete or exhaustive.  Once you get to the strategic options or initiatives level, then you need a full characterization of the entire probability distribution (as informed by the scenarios) so that traditional DA (decision analysis) tools can be used.

Leaders are eager for better tools and frameworks to manage and profit from uncertainty.  As the author said in the article: “Scenarios are a powerful tool in the strategist’s armory.”  I fully agree, but let’s make sure we provide leaders with an accurate view of their application to increase their use and satisfaction.

If you want to discuss my views or learn more, please contact me at sichel@thinkdsi.com or visit www.thinkdsi.com

As skilled professionals we now compete for work on a global scale with no guarantees of job security or long-term commitment from employers.  As such, we must continue to hone our skills and capabilities while building experience and expertise.  At the same time, within our organizations, we seek inspiration and the ability to gain new knowledge, to experiment with it and see the impact of our efforts. When we don’t, tenure or longevity can be viewed as a long-term risk to job security in the broader market.  The continuous process of knowledge acquisition, experimentation and application can be equated to what participants do in an applied learning structure.  The opportunities to participate in applied learning efforts offer a structured context to build capabilities and impact for our businesses and for ourselves.

The adult learning process has been studied extensively.   The andragogical theory of adult learning, central to the dialogue on adult education theory, was introduced by Malcolm Knowles in his book Self-Directed Learning: A Guide for Learners and Teachers published in 1975.  This study distinguished how adults learn differently from children.  The model was based on several core assumptions (See Table 1).

Table 1.  Self-Directed Learning Assumptions from Malcolm Knowles

 David Kolb has been a leader in the study and practice of adult experiential learning (Knowles, Holton & Swanson, 1998).  Kolb bases his model of experiential learning on Kurt Lewin’s problem-solving model of action research, which has widely impacted the field of organizational development.  Experiential learning theory (ELT) defines a learning process where knowledge comes through the transformation of experience. (Charalampos and Boytazis, 2002) Kolb’s theory suggests that there are clear steps in the experiential learning cycle. According to Kolb’s research, the process of learning can begin at any point and follows an iterative cycle.  

1. Concrete experience – full involvement in new experiences.
2. Reflective observation – reflection on and observation of the learner’s experiences from a variety of perspectives.
3. Abstract conceptualization – formation of abstract concepts and generalization; creation of concepts that integrate the learners’ observations into logical and sound theories
4. Active experimentation – testing implications of new concepts in new situations – using theories to make decisions and solve problems.

Formulating scenarios of the future to test strategy has been used as an effective construct for applied learning projects.  Diverse leaders are engaged in the exploration of future industry dynamics.  Together they consider the changing landscape and evolving opportunities and risks in their various markets or customer sets.   This framework offers a context to test business strategy and identify a set of experiments or learning opportunities to increase both the resilience and opportunity set for an organization.  The scenario planning model addresses each of the elements of the experiential learning cycle and relates directly to the critical requirements for effective adult learning.

Saffo’s democratic charge for all of us to “forecast,” or consider a realm of possible shifts, rings true.  So many other parts of reading the Sunday Times reinforce the sense of despondency, overwhelming, almost insurmountable challenges that leave us as individuals and in organizations feeling paralyzed.     In leading or participating in a scenario planning exercises though, leaders and teams seem to find some catharsis through the dialogue about those key uncertainties that might most affect them.  That process allows for healthy debate, and encourages different views of how things may play out.  More importantly, it so often suggests potential actions – protective actions and opportunistic ones – to take some control or at least some advantage of the volatility.  This clarity of action channels the energy of anxiety into a common force forward.

For so many mid and upper level leaders, their experience with strategy or planning involves the completion of budgets and rationalization templates.  These tools are meant as guides.  They often require defensive justifications in front of a panel of top executives.  They represent a challenging, stressful effort to foretell the future and just how successful a leader will be in light of known threats and opportunities.  This exercise, steeped in criticism and fortune telling has not adequately prepared future executives to see strategy as a process, a journey, which requires monitoring, adjustment and options.

Scenario Planning treats strategy as a learning exercise – a journey of agile moves in light of constant environmental changes.  Working through the process of considering the diverse business moves necessary to capture opportunity, navigate new roadblocks, avoid severe shocks and continuously address changing customer demands is more like a game exercise.  There is more activity, engagement, learning required of the leader in real time.  The exercise itself puts diverse team members in a situation of navigating a common challenge and identifying relevant actions, even a cause, that will help them cross the chasm of unknowns and emerge successful, together, sometime in the future.  In many ways, it’s a liberating conversation.  No one person can foretell the future.  No one leader is forced to find the exact right answer or solution.  Instead, as a group, a robust set of actions emerges as a result of considering what will be required in very different, extreme situations and then looking for the common requirements.  It also suggests some innovative possibilities in light of particular conditions.  A vision emerges from this process in a collaborative fashion.  Leaders that have been forced to think critically about different scenarios and adaptation strategies find it is great practice for the future.  It’s learning in real time.  It’s conditioning for the future executive roles that require these skills.