Here is an excerpt from an article written by Joshua Gans for the Harvard Business Review blog’s “The Conversation” series.
I especially appreciate Gans’s insatiable curiosity to consider unorthodox thinking and the insights only it can generate. Judge for yourself.
To read the complete article, check out the wealth of free resources, and sign up for a subscription to HBR email alerts, please click here.
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This post is part of Creating a Customer-Centered Organization.
The title of this post surely seems somewhat strange.
Surely any self-respecting business should be in the interest of making as much profit as possible, and the temptation might be to extract as much as you can from each customer interaction. But we know that such views can be too short-term. In many situations, while you could rip off a consumer when they first walk through your door, if you want them to come back, you need to them to be happy with the outcome — including getting “value for money.” This problem is as real for consumer-centric organizations as for corporations looking for opportunities to share value beyond their shareholders (as Michael Porter and Mark Kramer recently discussed in the pages of HBR).
Sharing value is perhaps a straightforward proposition when it comes to not dumping pollutants into the environment or skimping on product quality in ways that harm your customers’ health. But how does it work with regard to rip offs? That is, how exactly do you price so that you consumers feel happy and come back for more?
Northwestern University economist Jeff Ely addressed this question in a series of (somewhat technical) blog posts. Ely was concerned with situations in which some consumers value a firm’s product more than others, but the firm can only supply so many consumers. Which is to say, there isn’t enough product to go around, a classic rationing problem. Ely’s example used a popular restaurant, but it could apply equally to, say, a Broadway show. It could also apply to companies who launch new products to long queues (ahem, Apple) rather than pricing high to early adopters.
Firms do not usually consider having a scarce but desirable product a problem. Firms that want to make profit should run an auction and offer their product to the highest bidders. But as Ely pointed out, that means pitting your customers against one another with a result that those who actually get the product will pay a high price while others miss out entirely. In that situation, those who end up with the product might not be left with much value, and may feel ripped off, even though they chose what to pay. In the long run, the firm may face issues if they need to dip again into that customer pool. They clearly like the firm’s products but may have ill feelings about having paid so much. Perhaps this isn’t an issue for a Broadway show, whose customers tend to be one-offs, but for a local restaurant it is real.
One way to resolve this is to just set a price. If you really cared about the value consumers get, you’d price at cost and ration randomly amongst those willing to pay more than cost for your product. But for any firm, this is a heroic amount of sharing of value. Your consumers get as much as possible but you just cover costs.
You could charge more than cost, but this creates another dilemma. When there are lots of consumers with high values around, you’ll sell out. But what happens if those consumers aren’t there? Set a price and you are left with spare products. For a restaurant or concert venue, the extra seats do not paint a pretty picture.
Ely suggests that firms could deploy a hybrid between a price and an auction: hold an auction but cap the maximum bids that can be made. When demand is high, you’ll end up rationing but no one will be ripped off. But when demand is low, your price will effectively drop and you’ll still be able to sell out. You use the auction precisely when your consumers have power — so enable them to exercise that power.
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To read the complete article, please click here.
Joshua Gans is an economics professor at Melbourne Business School and a visiting researcher at Microsoft Research (New England). All views are his own. While writing this post in a café, the owner randomly gave him a free cookie.
With all due respect to today’s business bestsellers, most of the best books have already been written on the most important subjects. Case in point: This invaluable “guide to inventing tomorrow’s best practices today”
As Gary Hamel clearly indicates in his earlier books, notably in Competing for the Future (with C.K. Prahalad) and then in Leading the Revolution, his mission in life is to exorcise “the poltergeists who inhabit the musty machinery of management” so that decision-makers can free themselves from what James O’Toole aptly characterizes as “the ideology of comfort and the tyranny of custom.” In his Preface to this volume, written with Bill Breen, Hamel asserts that “today’s best practices aren’t good enough” and later suggests that he wrote this book for “dreamers and doers” who want to invent “tomorrow’s best practices today.” In this brilliant book, he explains how to do that.
In the city where I live, we have a number of outdoor markets at which slices of fresh fruit are offered as samples of the produce available. In that same spirit, I frequently include brief excerpts from a book to help those who read my review to get a “taste.” Here is a representative selection of Hamel’s insights:
“To thrive in an increasingly disruptive world, companies must become as strategically adaptable as they are operationally efficient. To safeguard their margins, they must become gushers of rule-breaking innovation. And if they’re going to out-invent and outthink as growing mob of upstarts, they must learn how to inspire their employees to give the very best of themselves every day. These are the challenges that must be addressed by 21st-century management innovators.” (Page 11)
“Many factors contribute to strategic inertia, but three pose a particularly grave threat to timely renewal. The first is the tendency of management teams to deny or ignore the need for a strategy reboot. The second is a dearth of compelling alternatives to the status quo, which often leads to strategic paralysis. And the third: allocational rigidities that make it difficult to deploy talent and capital behind new initiatives. Each of these barriers stands in the way of zero-trauma change; hence each deserves to be a focal point for management innovation.” (Page 44)
“Skepticism and humility are important attributes for a management innovator – yet they’re not enough. To create space for management innovation you will need to systematically deconstruct the management orthodoxies that bind you and your colleagues to new possibilities. Here’s how to get started. Pick a big management issue like change, innovation, or employee engagement, and then assemble 10 or 20 of your colleagues. Ask each of them to write down ten things they believe about the nominated problem. Have them inscribe each belief on a Post-it note. Then plaster the stickies on a wall and group similar beliefs together.” Then sustain a rigorous discussion during which all premises and assumptions are challenged. “To escape the straitjacket of conventional thinking, you have to be able to distinguish between beliefs that describe the world as it is, and describe the world as it is and must forever remain.” Focus on what can be changed…and should be changed. (Pages 130-131)
I especially appreciate Hamel’s analysis of three exemplary companies: Whole Foods Market (a “community of purpose”), W.L. Gore (an “innovation democracy”), and Google (“brink-of-chaos management”). Hamel focuses his attention to how these companies invent tomorrow’s best practices today. He cleverly juxtaposes a “management innovation challenge” with each company’s “distinctive management practices.” Having established and then sustained a one-on-one rapport with his reader throughout the narrative, Hamel makes it crystal clear that that he is not urging his reader to address the same challenges and develop the same best practices for any one of the three exemplary companies, much less emulate all three. That would be insane.
“There isn’t any law that prevents large organizations from being engaging, innovative, and adaptive – and mostly bureaucracy free. Even better, it really is possible to set the human spirit free at work. So no more excuses. It’s time for you to buckle down and start inventing the future of management…My goal in writing this book was not to predict the future of management but to help you invent it…From the first time since the dawning of the industrial age, the only way to build a company that’s fit for the future is to build one that is fit for human beings as well.”
So, there’s Gary Hamel’s challenge: Start your own “revolution” and lead it. If you don’t, who will?