I reported earlier this month that the Financial Times
published a pair of important articles asking why the goal of a
firm is to maximize short-term shareholder value is still being taught in
business schools. “While there is growing consensus that focusing on
short-term shareholder value is not only bad for society but also leads to poor
business results, much MBA teaching remains shaped by the shareholder primacy
model.” The challenge is massive because shareholder value is now
deeply embedded in the basic economics that is taught in business schools and
economics faculties around the world. Moving on from the shareholder value
theory, which even its foremost exemplar, Jack Welch, has called “the dumbest
idea in the world”, will entail re-thinking and re-writing much of the basics
of modern economics.
Two Prime Textbooks on Managerial Economics
To understand the depth of the problem, let’s look at a
couple of the best-selling textbooks on managerial economics. One is Managerial Economics
and Business Strategy, by Professor Michael Baye, the Bert Elwert Professor
of Business Economics in the Kelley School of Business at Indiana University
and Jeffrey T. Prince, Associate Professor of Business Economics & Public
Policy also at the Kelley School of Business. The other is Managerial Economics, by William Samuelson, Professor of
Economics and Finance at Boston University School of Management and Stephen G.
Marks, Associate Professor of Law, Boston University. Their learning doesn’t come cheap. The latest edition of the
Baye/Prince book (8thedition in 2013) will set you back $173.99 on Amazon. The
latest edition of the Samuelson/Marks book (7th edition in 2012) is
cheaper–a mere $161.12. Fortunately for the authors, sales of their books are
not determined by the kind of free markets that they advocate in their books,
which are required reading in myriad college courses around the world. One might have expected that books at such prices would come
with the very latest in cutting-edge thinking. Sadly, both books are, like most
mainstream economics textbooks when you look at them closely, imbued with, and
indeed built on, the obsolete shareholder value theory and the idea that the
whole job of the manager is to maximize profit for the company and its
shareholders.
How Managerial Economics is Built on Shareholder Value
Let’s start with the best-selling book from the
distinguished professors, Baye and Prince. Here, we learn at the outset that the
very foundation of managerial economics is, guess what: maximizing shareholder
value. As the book amiably confesses at the outset, “much of this book assumes
the manager’s task is to maximize the profits of the firm that employs the
manager.”
“Assumes”?
The goal of maximizing profits is thus apparently not
something to be justified or proved or demonstrated or even supported by any
evidence as the appropriate goal. It is simply assumed to be a truth of the
universe. That’s the way the world is. QED. Moreover, the underlying principles
that follow from the assumption are said to be “valid for virtually any
decision process.” (p. 3) According to the authors, “if you learn a few basic
principles from managerial economics you will be poised to drive the inept
managers out of their jobs!” (p.2). Astonishingly, almost everything in the following 550 pages
flows from this basic assumption. Almost all of the complex examples and
problems, the dazzling mathematics, the esoteric charts and the apparently
precise analyses, which millions of economics students and managers have been
forced for decades to master, rest on this flawed assumption. The “right
answer” to almost every problem is to apply “the dumbest idea in the world.”
Shareholder Value: The Master Goal for Organizations
As the book continues, the logic of short-term shareholder
value is further reinforced. The goal of maximizing profits is thus “the
overall goal” to which all other organizational sub-goals, such as the optimal
price, the choice of technology, the choice of inputs, the responses to
competitors, must be subordinated. (p.5). The 4th Edition of the book (2003) gave a faint nod to
“long-term value” with a box that includes a quote from Clifton Wharton in an
article in Harvard Business Review (Dec 1991), to the effect that “managers
must resist a narrow focus that looks only at short-term profits.” In the 8th edition (2013), even this brief nod has been
eliminated. All that remains in the box is the flat declaration: “ultimately
the goal of a continuing company must be to maximize the [long-term] value of
the firm.” It is evident from what follows that one doesn’t need to
worry too much about the long-term because of another convenient, but equally
dubious, assumption that pops out of nowhere, without justification or proof or
argument in its support: increasing short-term profits will increase long-term
value. Thus, the goal of maximizing the value “often is achieved by trying to
hit intermediate targets, such as minimizing costs, improving the production
process, decreasing the time it takes to make decisions, and improving product
quality.” (p.7) Indeed, short-term profits constitute a beneficent message
from society. There is little need to worry whether short-term profits lead to
long-term value, because profits are inherently good. “Profits signal the
owners of resources where the resources are most highly valued by society. By
moving scarce resources toward the production of goods most valued by society,
the total welfare of society is improved.” (p.7)
Short Term Profits Equal Long-Term Value?
The book enshrines these assumptions in formal “principles”.
Thus: “Maximizing profits means maximizing the value of the firm, which is the
present value of the current and future profits.” (p.18) There is little if any sign in this book of the tension
between the pursuit of short-term profits and long-term value.
1. “Bad Profits” Kill Future Profits
In this book, all profits are good. The possibility of such
a thing as “bad profits” is almost inconceivable. The books show no awareness
of some thirty years of research done by Fred Reichheld and his colleagues
summarized in The Ultimate Question 2.0, which shows that if the firm is
making profits while leaving customers disgruntled, then the profits generating
brand liabilities that will have to be repaid one day. ”Whenever a customer feels misled, mistreated, ignored
or coerced, then profits from that customer are bad. Bad profits come from
unfair or misleading pricing. Bad profits arise when companies save money by
delivering a lousy customer experience. Bad profits are about extracting value
from customers, not creating value. When sales reps push overpriced or
inappropriate products onto trusting customers, the reps are generating bad
profits. When complex pricing schemes dupe customers into paying more than
necessary to meet their needs, those pricing schemes are contributing to bad
profits.” In a world in which power in the marketplace has shifted
from seller to buyer, pursuing bad profits can have disastrous consequences for
the firm. Such consequences are not even alluded to in this book. Example after
example, analysis after high-powered analysis, graph after complex graph,
reiterate the fundamental assumption: the basic job of a manager is to maximize
short-term profits. The notion that the only valid goal of a firm is to add
value to customers—as articulated by Peter Drucker in 1973—is totally absent.
The role of customers? They are there to be exploited for the good of the firm
and its shareholders. The book even helps “identify a variety of strategies to
raise the costs to consumers of ‘switching’ to would-be entrants, thereby
lowering the threat that entrants will erode your profits.” (p.9)
2. The Opportunity Cost of a Focus
on Short-Term Profits
Even more amazingly, the words “disruption” or “disruptive
innovation” do not appear in this book. There is no hint of the horrifying
opportunity costs that flow from an undiluted pursuit of shareholder value. As
Allen Murray noted in the Wall Street Journal, “In today’s world, gale-like market forces—rapid
globalization, accelerating innovation, relentless competition—have intensified
what economist Joseph Schumpeter called the forces of ‘creative destruction.’
Decades-old institutions like Lehman Brothers and Bear Stearns now can disappear
overnight, while new ones like Google and Twitter can spring up from nowhere….
“As explained Clayton Christensen classic book, The
Innovator’s Dilemma in 1997… market-leading companies have missed
game-changing transformations in industry after industry—computers (mainframes
to PCs), telephony (landline to mobile), photography (film to digital), stock
markets (floor to online)—not because of ‘bad’ management, but because they
followed the dictates of ‘good’ management. They listened closely to their
customers. They carefully studied market trends. They allocated capital to the
innovations that promised the largest returns. And in the process, they missed
disruptive innovations that opened up new customers and markets for
lower-margin, blockbuster products.” Apparently these “gale-force winds” have yet to reach the
world inhabited by the distinguished professors. Instead they insist on the
very principles that have caused these disasters as the basic modus
operandi of a modern firm. Although the professors themselves are happily
living in a parallel universe that has—so far—been safe from gale-force winds,
surely there is some responsibility to teach economics students the disastrous
practical consequences of acting on their doctrines?
3. How Short-Term Thinking has Killed Entire Industries
Nor is there any mention of the fact that the pursuit of
short-run profits has led to decades of foreign outsourcing that have destroyed
not only individual businesses but also whole segments of the American economy,
thereby undermining the capacity of American industry to invent the next
generation of products and services. The words “outsourcing” or “offshoring” do
not appear in the book. As a result of pursuing a primary focus on maximizing
short-term profits through efficiency gains achieved through offshoring, “the
U.S. has lost or is on the verge of losing its ability to develop and
manufacture a slew of high-tech products,” as explained by Gary Pisano and
Willy Shih In “Restoring American Competitiveness” (Harvard Business
Review, July-August 2009). Today, Amazon couldn’t make a Kindle in the U.S.,even if it wanted to. One would never guess from this book the frighteningly long list
of industries of industries that were “already lost” to the USA in 2009: Fabless chips”; compact fluorescent lighting; LCDs for
monitors, TVs and handheld devices like mobile phones; electrophoretic
displays; lithium ion, lithium polymer and NiMH batteries; advanced
rechargeable batteries for hybrid vehicles; crystalline and polycrystalline
silicon solar cells, inverters and power semiconductors for solar panels;
desktop, notebook and netbook PCs; low-end servers; hard-disk drives; consumer
networking gear such as routers, access points, and home set-top boxes;
advanced composite used in sporting goods and other consumer gear; advanced
ceramics and integrated circuit packaging. The list of industries “at risk” is even longer and more
worrisome. The learned professors see their book as “providing students
with the tools… that they need to make sound managerial decisions.” The
professors continue: “Sadly, billions of dollars are lost each year because
many existing managers fail to use basic tools.” What they don’t point out is
that many billions of dollars are lost each year precisely because they use the
tools the professors recommend. If the esteemed professors had addressed the issue of
offshoring (which this book doesn’t), they would presumably have argued, like
other traditional economists, that these losses represent the normal and
beneficent process of the global economy working through national “comparative
advantage”. The problem is that when you outsource manufacturing in a foreign
country far away, you are not just losing jobs. You risk losing something more
important: knowledge. And even more important than that: the capacity to
innovate. When knowledge and innovation are involved, you’re not just
relocating a business. You may be relocating your future. When all large
businesses do it, based on the economics they have been taught at business
schools, whole sectors of the economy disappear permanently. The conventional economic thinking that we find in this
book, as Pisano and Shih point out, “ignores the fact that new cutting-edge
high-tech products often depend in some critical way on the commons of a mature
industry. Lose that commons, and you lose the opportunity to be the home of the
hot new businesses of tomorrow.”
4. The National Capacity to Compete
has been Destroyed
Nor is there any indication in the book that the undiluted
pursuit of short-term profits has endangered the very capability of the USA to
compete in the international marketplace. As detailed by a report, Competitiveness at the Crossroads, (2012) by three
distinguished professors at Harvard Business School—Michael Porter, Jan Rivkin
and Rosabeth Moss Kanter, the signs of the problem have been visible for some
time. “Job creation had stalled around 2000. Wages had been stagnating for well
over a decade ago.” Even worse, “virtually all the net new jobs created over the
last decade were in local businesses—government, healthcare, retailing—not
exposed to international competition. That was a sign that the U.S. businesses
were losing the ability compete internationally.” How did this national tragedy happen? “The basic narrative
of the report begins in the late 1970s and the 1980s. Through globalization, it
became possible and attractive for firms to do business in, to, and from far
more countries. Changes in corporate governance and compensation caused U.S.
managers to adopt an approach to management that focused attention on the stock
price and short-term performance.” As a result, “firms invested less in shared resources such
as pools of skilled labor, supplier networks, an educated populace, and the
physical and technical infrastructure on which U.S. competitiveness ultimately
depends.” These management actions in turn gave rise to “serious
social problems (loss of jobs, stagnating income, growing inequality) and
eventually a decline of the public sector (an inability to fund health and
pensions, or investments in ‘the commons’ such as infrastructure, training,
education, and basic research, fields that the private sector had abandoned.)” The root causes of the decline in competitiveness are thus
the consequence of the focus on the short-term and the stock price—the very
thinking that is still so insistently taught in this best-selling textbook by
Professors Baye and Prince.
5. The Decline in the Private Sector
has been Quantified
These setbacks for traditional economic thinking are not
simply opinions. They have been quantified by a comprehensive study of 20,000
US corporations from 1965 to 2011 in Deloitte’s Shift Index. We discover that the rates of return
on assets and on invested capital has declined by three-quarters.
Given the love that economists have for numbers, one might
have expected them to be thrilled to have these statistics and to relish
exploring their implications. That hasn’t happened—so far—to any significant
extent because the numbers put in question the basic narrative and tools of
traditional economic thinking.
The Samuelson/Marks Book
The book by the esteemed professors from Boston University,
Professors Samuelson and Marks, is basically more of the same. “In most private-sector decisions, profit is the principal
among alternative courses of action, the manager will select the one that will
maximize the profit of the firm. Attainment of maximum profit worldwide is the
natural objective of the multinational carmaker, the drug company, and the
management and shareholders of Barnes & Noble, Borders Group, BP, NBC, and
CBS.” (p. 8). By contrast to the Baye/Prince book, this book gives
occasional hints at the outset of an awareness that there is another world out
there beyond short-term shareholder value. “In practice, profit maximization and benefit-cost analysis
are not always unambiguous guides to decision making… Both private and public
investments involve trade-offs between present and future benefits and costs.
“Uncertainty poses a second difficulty…. the cost and date of completing a
nuclear power plant are highly uncertain… At best, the utilities that share
ownership of the plant may be able to estimate a range of cost outcomes and
completion dates and assess probabilities for these possible outcomes.” (p.11)
But we are fairly soon back in the world of maximizing
short-term profits.
“Value maximization is not the only model of managerial
behavior. Nonetheless, the available evidence suggests that it offers the best
description of a private firm’s ultimate objectives and actions.” (p.15) “The central focus of managerial economics is the private
firm and how it should go about maximizing its profit.” (p.18) After a brief nod to the possibility that long-term value
might not always be aligned with short-term profits, the short-term profit
maximization perspective takes over in an explicitly prescriptive fashion:
“The fundamental decision problem of the firm is to
determine the profit-maximizing price and output for the good or service it
sells.” (p.53) “A manager who is in charge of a single product line is
trying to determine the quantity of output to produce and sell to maximize the
product’s profit.” (p. 62) In almost all the examples and problems, the “right answer”
is clear: maximize short-term profits
21st Century Examples with 20th Century Thinking
Most of the examples in the book are from the 20th Century
with managers facing decisions on how to maximize profits from traditional
commodities like petroleum or corn flakes. But when more recent examples
appear, in an apparent effort to demonstrate the book’s relevance, they are
approached with the same profit-seeking 20thCentury mindset. For example, one
of the problems given is the following:
“In November 2007, Amazon introduced the Kindle, the first successful reading device for electronic books. The price was a daunting $399. In 2009, the company dropped the Kindle’s price to $259 and in mid-2010 to $189. Let’s assume Amazon sold 1 million units at a price of $259 and 3 million units at a price of $189. Find the output and price that maximize Kindle profits.” (p. 52)
Let’s think for a second about the way this problem is
formulated. The venerable professors are saying: let’s assume Amazon’s goal is
to maximize profits (it isn’t). Let’s assume that we know what the market
response to each model of the Kindle will be at any particular point in time
(we don’t). Let’s assume there are no competitors (there are). Let’s assume the
production function is stable (it isn’t). Let’s assume that Kindles are a
commodity and any Kindle is like any other Kindle (they aren’t). Let’s assume
that customers are basing all their decisions on individual transactions rather
than relationships (they aren’t). If we are willing to make all those assumptions and do the
fancy mathematics, we are able to conclude that Amazon could have maximized profits
from the Kindle alone, by setting a price of $210 and selling 2.4 million
units, while recognizing that it is also making additional profits from e-book
sales. What the book fails to note is not only that the elements of
the problem are inconsistent with the real-world facts of Amazon and its market
but also that the conclusion is only knowable in retrospect in the light of
what happened. It was not available to Amazon when it was making its decisions.
The analysis would have been little help to the manager actually making the
decisions in real life.
Other Decision-Making Models
To their credit, this book does note at the outset at least
the possibility of other decision-making models: “The model of satisficing behavior posits that the typical
firm strives for a satisfactory level of performance rather than attempting to
maximize its objective. Thus, a firm might aspire to a level of annual profit,
say $40 million, and be satisfied with policies that achieve this benchmark. “A second behavioral model posits that the firm attempts to
maximize total sales subject to achieving an acceptable level of profit… Top
management’s self-interest may lie as much in sales maximization as in value
maximization. “A third issue centers on the social responsibility of business…..
The objective of value maximization implies that management’s primary
responsibility is to the firm’s shareholders. But the firm has other
stakeholders as well: its customers, its workers, even the local community to
which it might pay taxes…. “Over the last 25 years, research in behavioral economics
has shown that beyond economic motives, human actions are shaped by
psychological factors, cognitive constraints, and altruistic and cooperative
motives… (p.18) But the alternative models, once mentioned, are quickly set
aside, with the implicit suggestion that they are used by people who haven’t
grasped the true tools of economics. The rest of the book is devoted to
pursuing shareholder value.
The World has Changed and Economics
Back in the real world, however, even some true-believers in
the shareholder value theory have seen the light, including its leading
exemplar, Jack Welch. On March 12, 2009, he gave an interview with the
Financial Times and said, “On the face of it, shareholder value is the dumbest
idea in the world. Shareholder value is a result, not a strategy… your main
constituencies are your employees, your customers and your products. Managers
and investors should not set share price increases as their overarching goal…
Short-term profits should be allied with an increase in the long-term value of
a company.” Why haven’t these eminent professors in managerial economics
cottoned on to Mr. Welch’s insight? The professors are as intelligent and
educated and as analytically sharp as any human beings on the planet. And yet
here they are, teaching principles that are consistently leading to business
disaster for the firms pursuing them and catastrophe for society as a whole.
Why?
One of the reasons is that they are teaching principles that used
to work in a fashion. Much of this thinking dates from a period at least
sixty years ago when the American economy enjoyed a period of global domination
and oligopolies ruled the marketplace. It was a predictable world in which the
production function was stable and products were mostly commodities.
Competition was limited to a few big firms. The customer was simply demand that
had to be managed through advertising. If you spent enough money, customers
could be persuaded that identical products were different. This was a world in which the economics taught in these
books made sense to a certain extent. Managers could safely concentrate on
maximizing short-term profits without fear of any immediate adverse
consequences. This world also offered the opportunity to present a neat and
tidy analytic model of how businesses do and should operate. The intellectual
elegance of these analytic models is awesome. The problem is that this world is rapidly vanishing and,
along with it, the relevance of these elegant analytic models. With
globalization, no single nation dominates the marketplace. The hegemony of the
oligopolies has largely gone. The production function is no longer stable.
Products are increasingly not only differentiated but personalized. The
customer is no longer simply demand that can be manipulated through
advertising. Customers have reliable information as to what is available and
can communicate with each other: as a result, power in the marketplace has
shifted from seller to buyer. The customer is now in charge. Mature firms
can be destroyed by unknown upstarts. Entire product lines and markets can be
obliterated almost overnight as a result of “big bang
disruption”. Disrupters can come out of nowhere and go global at once.
Disruption can happen so quickly and on such a large scale that it is hard to
predict or defend against. Competitive advantage is becoming increasingly
transient. The only way to survive is to build relationships and delight
customers by constant innovation and strategic adaptation to the changing
scene. This new world requires a radically different kind of
economics that must be re-thought from first principles, beginning with the
purpose of a firm.
The New Economics
The purpose of the 21st Century firm is not to maximize
shareholder value. Seeking profits in the short-term does not automatically
lead to long-term value. As Peter Drucker wrote in his 1973 book, Management, “There is only one valid definition of business purpose: to
create a customer. . . . It is the customer who determines what a business is.
It is the customer alone whose willingness to pay for a good or for a service
converts economic resources into wealth, things into goods. . . . The customer
is the foundation of a business and keeps it in existence.” The firm’s goal that should underlie 21st Century
economics is: creating value for customers. By creating value for customers,
one secures the basis for long-term prosperity. The shifts involved are significant.
Category
|
The
Economics of Maximizing Shareholder Value
|
The
Economics of
Radical Management |
Goals
|
The
goal of a firm is to maximize shareholder value.
|
The
goal of a firm is to create a customer, as described by Peter Drucker in
Management.
|
The
task of a manager is to maximize profits.
|
The
task of a manager is to continuously add value for customers while providing
a reasonable return to the firm and its shareholders.
|
|
Innovation
is optional, depending on specific opportunities to secure profits.
|
Continuous
innovation is a requirement for survival
|
|
Maximizing
profits is the overall goal of the firm to which all other organizational
sub-goals, such as the optimal price, the choice of technology, the choice of
inputs, the responses to competitors, must be subordinated.
|
Delighting
customers is the overall goal of the firm to which all other organizational
sub-goals, such as the maximizing profits, optimal price, the choice of
technology, the choice of inputs, the responses to competitors, must be subordinated.
|
|
Measures
|
The
principal measure of progress towards the achievement of the firm’s goal is
the amount of short-term profits.
|
The
principal measure of progress towards the achievement of the firm’s goal is
the firm’s absolute Net Promoter Score, as described by Fred Reichheld
in The Ultimate Question 2.0
|
The
progress of individuals and work units is measured by their contribution to
the firm’s profits.
|
The
progress of individuals, teams and networks is measured by their contribution
to the value that they add to customers.
|
|
Prices
|
Most
products and services are commodities in stable markets.
|
Increasingly,
products and services are differentiated or personalized in highly dynamic
markets
|
Most
products and services have stable demand curves that can be readily
ascertained and used for decision-making in
|
Increasingly,
products have unstable demand curves that are rapidly shifting and changing
in shape
|
|
Demand
curves can be readily ascertained and used for decision-making
|
Increasingly,
demand curves cannot be easily ascertained or used for decision-making.
|
|
Prices
are set by finding and using stable demand curves.
|
Increasingly,
prices are set by rapid experimentation with real customers, as described by
Eric Ries inThe Lean Startup.
|
|
Profits
and value
|
Short-term
profits inevitably lead to long-term value for the firm and its shareholders.
|
Short-term
profits are not assumed to lead to long-term value for the firm and its
shareholders.
|
There
is no such thing as “bad profits”.
|
Bad
profits must be searched for and rooted out of the organization.
|
|
Offshoring
|
Offshoring
is evaluated principally in terms of short-term profits based on elements
such as the cost of labor or the ex-factory cost
|
Offshoring
is evaluated in terms of of the total cost and risk of extended international
supply chains, including the risk of the loss of knowledge and the impact on
future capacity to compete..
|
Mission
critical elements are routinely offshored if doing so lowers costs of
production.
|
Mission-critical
components are not offshored.
|
|
Contribution
to society
|
Firms
only contribute to protecting the environment if it adds directly to the
firm’s bottom line.
|
Firms
recognize a continuing responsibility as a corporate citizen to protect the
environment.
|
Firms
only invest in pools of skilled labor, supplier networks, an educated
populace, and physical and technical infrastructure, if it adds to the firm’s
own bottom line.
|
As
corporate citizens, firms make reasonable investments in pools of skilled
labor, supplier networks, an educated populace, and physical and technical
infrastructure to the extent that it promotes long term competitiveness.
|
A new age of capitalism is emerging, focused on delighting
those for whom the work is done and inspiring those doing the work. The new way
of managing is much more profitable than the old. Organizations that embrace
the new paradigm are moving the production frontier of what is possible. The rudiments of the new economics are known, although the
detailed mathematics, the graphical representation and the implications of the
shift in foundational assumptions have still to be worked out in detail. The
task is large. Much work remains to be done.
Signs of Alternative Thinking in Economics
Of course, some of it has already begun. Not every economist
is mindlessly following the shareholder value mythology. Exciting developments
are occurring for example in behavioral economics, in game theory, in
neuro-economics and in individual efforts like Joe Stiglitz’s work on
inequality. But so far most of these developments are taking place
within the analytic prison of profit maximization and shareholder value. Hardly
any of it puts in question the fundamental focus on short-term profits and
“wins” against competitors.
The idea that the entire intellectual edifice of modern
economics no longer fits the world we live in has yet to enter the academic
mainstream or to be accepted by the economic establishment. Those who do
question the fundamental assumptions tend to be marginalized, so that the
status quo can be maintained. This obviously has to change. The profession
needs to get beyond further refinements of an increasingly irrelevant paradigm
and instead reinvent the economics that we need for the new age.
The Copernican Revolution in Managerial Economics
The changes we are talking about are not minor. It is a
revolution as profound as the Copernican Revolution in astronomy—the shift from
the view that the Sun revolves around the stationary “center of the
universe”—the Earth—to the view that the Earth is one of several planets
revolving around the Sun. As Joseph Bragdon wrote in Profit
for Life (2006):
“You might say that we are in the midst of a “Copernican Revolution” in conventional business thinking. We are finally waking to the fact corporations are not the center of our economic universe, with people and Nature orbiting around them. In fact the opposite is true.”
The Copernican Revolution in managerial economics is a
paradigm shift from the 20th Century view that customers are subservient to the
stationary “center of the universe”—the value chain of the organization—to the
view that the organization is one of many organizations revolving around the
customer. The organization survives and thrives only so long as it is agile
enough to meet the customer’s shifting needs and desires. The future of the
firm depends on how much value is being added. The job of the manager is, not
to maximize short-term profits, but rather to continuously add value to
customers with a reasonable level of profit. Just as it took astronomy many decades to figure out all the
detailed mathematics of the new view of the universe, the detailed economics of
Copernican Revolution in management will also take some time.
The Good News for Open-Minded Economists
In one sense, all this is bad news for economists. They will
have to rethink how they analyze problems and how they teach with fundamentally
different assumptions and new analytic tools. Textbooks will have to be
rewritten. New examples and problems will have to be developed. New mathematics
and graphics will have to be invented. There will be widespread resistance from
many who cannot bring themselves to reinvent what they have spent so much of
their lives refining and teaching. But surely, this is also good news for economists as well as
the rest of society. In addition to economists becoming freshly relevant
and helpful to business and society, economists can also do some good for
themselves. Imagine if all the immense brain power currently devoted to
developing further analytical refinements to the shareholder value model were
devoted to spelling out the implications of the Copernican Revolution in
managerial economics. A vast new path forward is opening up. The scope for
winning many future Nobel Prizes in Economics is enormous!
Steve Denning writes about radical management,
leadership, innovation and narrative. His My most recent books are the
Leader's Guide to Radical Management (2010), The Leader's Guide to Storytelling
(2nd ed, 2011) and The Secret Language of Leadership (2007). The original article can be found here
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