Expert Marketer Magazine
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What to do about Risk

by William A. CohenAugust 2015

Risk is unavoidable and every practicing leader must recognize this. However, according to Drucker, risk could not only be desirable, but the assumption of risk was a basic function of any successful enterprise.  Here’s how Drucker reasoned. First, of necessity, in any organization, economic activity consists of the commitment of present resources to an unknowable and uncertain future. Moreover, this is a commitment to expectations, assumptions, and predictions, almost everything, but not necessarily to facts.  Yet future facts while a certainty and essential, cannot be known with certainty.  That made whatever decisions that were made a risk 100 times out of 100.

Even attempting to Lower Risk Could Be the Wrong Move

Drucker saw that in attempting to lower risk, managers and professionals of all types sometimes made assumptions which could lead to disaster. The most used method of risk lowering is to assume either no change in the current situation or that the trend, whatever it is, would continue on into the future. The fallacy of either assumption can be seen almost every day as many stock market investors make one of these two assumptions with eventually poor results. Drucker knew that change is inevitable and so advised his clients.

Years ago I saw this in a weekly advertisement for an investment firm in the Los Angeles Times. Every Sunday they took a full page ad which showed that for ten or more years straight they had brought their investors a consistent return on their investment. Than in bold, giant type font they wrote two words: HO HUM! The message being that theirs was a consistent, reasonably high return on their investors’ money which would go on forever with no risk whatsoever. Not quite. Obviously when the bottom fell out of the market beginning with the “Great Recession”, they quit running the ad.

Focusing on the Real Results

It is relatively easy to measure effort or efficiency, but much more difficult to measure real results with a control. Drucker explained that it was of no value to have the most efficient engineering department, for example, if the department was efficiently designing the wrong products. In somewhat the same fashion Drucker differentiated leadership from management. Others have since similarly adopted his formula:  that management was doing things right – read efficiently – while leadership was doing the right things, that is, the effective things to get the job done. So one could be very efficient as a leader through whatever measurement you choose, and still not be a good leader.

Measuring efficiency is usually not so difficult. For example, one can measure the number of times a leader recognizes subordinates for accomplishing good work. That’s considered a sign of good leadership. Remember the “One Minute Manager” who was told to catch his people doing the right things more than catching them doing something wrong. However “good work” can be done on the wrong, as well as the right things. Maybe salespeople are doing a marvelous job selling the wrong product. Is this “good work?” To complicate controls further, how do we know what are “the right things.” This is much harder to know when so many factors and multiple humans are involved. Since leadership is an art, in observation, its quality may most definitely be in the eyes of the beholder.

Nonmeasurable Events, Too

Controls are also difficult because some events in an organization, important to risk, simply aren’t measurable, results or no. We already noted that you don’t have true facts about the future. You don’t know what may suddenly happen on the way to the future, either. The ubiquitous slide rule, once on the person of every engineer worthy of the name, disappeared almost overnight when the pocket electronic calculator hit the market in 1972 – 73.

The 7 Control Specifications

To help us out, Drucker investigated further and determined that all controls must satisfy certain specific specifications, of which there were seven:

1.   They had to be economical – the less effort required to gain control, the better.

2.   They had to be meaningful – another words they had to be intrinsically significant or symptoms of significant developments

3.    They must be appropriate to the nature of what you are measuring – absenteeism of a yearly average of 10 days per employee sounds acceptable, but what if you have only two employees and one was never absent and all absences due to the other?

4.   Measurements must be congruent to the phenomenon measured. As a writer I’m always interested in book sales. I once read a book by a famous entrepreneur who had written a best seller. He had bought a well-known company and promoted the company’s product frequently on television stating that “he liked the product so much, that he had bought the company.” His advertising promotions were great. However, when I read the book, I found it was at best fair. Yet it became a bestseller and sold 2,000,000 copies, surpassing many better books on entrepreneurship in sales, including Drucker’s Innovation and Entrepreneurship which came out at about the same time. Not to mention several that I had written, the best of which had sold a little less than 100,000 copies.

One day it was revealed that the author had spent almost $2,000,000 of his own money promoting the book. Now book royalties are a lot less than you might think, frequently they are about 15% of the net amount received by the publisher. The net to the publisher may be only roughly 50% of the price of the book.  Since this entrepreneur was not the publisher, I estimated that he had earned about $1,000,000 in royalties for his total book sales. So he personally lost a million dollars in selling his book. He may have been willing to pay a million dollars to have a 2,000,000 copy best seller just for bragging rights. But as a control measurement, book sales alone, the most frequent tool used to measure public demand for a particular book by readers is probably a poor tool without other factors being noted and compared.

Control requirements  5, 6, and 7 are much easier and intuitive. They need to be timely. They are an expensive waste of time if the information received arrives too late to be of use. They need to be simple. As Drucker noted, complicated controls just don’t work. They frequently cause confusion and lead to other errors. Finally they need to be oriented toward action. Controls are not something instituted for academic interest. They are for implementing strategy once actions with the right risks are chosen

The Final Limitation

The final limitation on controls is the organization itself. An organization operates with rules, policies, rewards, punishments, incentives and resources, capital equipment, etc. but its success comes from people and their daily, frequently unquantifiable, actions. The expressions of their actions, such as an increase in salary, may be quantifiable. However, their feelings, motivations, illnesses, drive, ambitions, etc. are not.  As an operational system the organization cannot be accurately quantified.

What It All Means

Risk is essential and as a consultant, and this is what Drucker taught his clients. They key is to pick the right risks and then to control these risks considering the many factors which make this control so difficult to comprehend and use. But knowledge is power, or at least stored power. Selecting the right risks and monitoring the seven important aspects of the risk controls identified by Drucker means effective risk management. One cannot do more, nor should any leader consider doing less.

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