Book Review: Technology, Management, and Society, by Peter Drucker

Someone once wrote that you should read Drucker just to learn how he thinks. Nowhere is that more true than this gem of a book: Technology, Management, and Society.

A collection of 12 essays, dating from 1957 to 1969, which are so evocative all I can say is we are still grappling with the issues Drucker was so prescient in foreseeing over 50 years ago. The essays are best summed up by Drucker himself:

…they stress constantly the purpose of management, which is not to be efficient but to be productive, for the human being, for economy, for society.

Drucker discusses the vital role of risk and profit in enterprise, as well as the brilliant observation that of all the institutions in society (family, church, government, professions, unions, not-for-profits, etc.) only the business enterprise is designed to create change:

Indeed, in the business enterprise we have the first institution which is designed to produce change. All human institutions since the dawn of prehistory or earlier had always been designed to prevent change—all of them: family, government, church, army.

Change has always been a catastrophic threat to human security. But in the business enterprise we have an institution that is designed to create change. It means that every business, to survive, must strive to innovate.

I can only provide a few examples of Drucker’s thinking, which do not do this little book justice. Here are some of my favorites:

But it should be said that in human institutions, such as business enterprise, measurements, strictly speaking, do not and cannot exist. It is the definition of a measurement that it be impersonal and objective, that is, extraneous to the event measured. A child’s growth is not dependent on the yardstick or influenced by being recorded.

But any measurement in a business enterprise determines action—both on the part of the measurer and the measured—and thereby directs, limits, and causes behaviour and performance of the enterprise. Measurement in the enterprise is always motivation, that is, moral force, as much as it is ratio cognoscendi.

This is another way of expressing [Ed] Kless’ Law: All measurements are judgments.

On youth, Drucker wrote this:

The young are always in the right, because time is on their side. And that means we have to change.

Executives who believe they can change one aspect of a company without affecting others are ignoring the reality of a firm being an interdependent system. Drucker explained the phenomenon this way:

There is one fundamental insight underlying all management science. It is that the business enterprise is a system of the highest order: a system whose parts are human beings contributing voluntarily of their knowledge, skill and dedication to a joint venture. And one thing characterizes all genuine systems, whether they be mechanical like the control of a missile, biological like a tree, or social like the business enterprise: it is interdependence.

The whole of a system is not necessarily improved if one particular function or part is improved or made more efficient. In fact, the system may well be damaged thereby, or even destroyed. In some cases the best way to strengthen the system may be to weaken a part—to make it less precise or less efficient. For what matters in any system is the performance of the whole; this is the result of growth and of dynamic balance, adjustment, and integration, rather than of mere technical efficiency.

This seems to be lost on advocates of Lean Six Sigma, whether in professional knowledge firms or factories.

There’s also an excellent discussion of why knowledge workers are different than manual workers, and why this requires leaders to change their thinking.

My only quibble is Drucker gives far too much credit to Frederick Taylor, who recent scholarship has determined was a fraud.

There is much else in this book to praise. Any leader would benefit from reading Drucker. A lot of his ideas maybe ignored, or unknown—like the concept of how knowledge workers are different, or the difference between efficiency and effectiveness—but that doesn’t lessen their relevance. You can be alone in your views and be right.

To paraphrase the late Senator Patrick Moynihan, “In unanimity one often found a lack of rigorous thinking.”

Good thing Drucker did the rigorous thinking for us. Read the book.

We Are NOT Against Efficiency!

There, I said. I hope everyone is happy now.

Once again the subject of effectiveness and efficiency has created some buzz among the friends and follows of VeraSage especially in the legal world. It began when VeraSage Fellow, Michelle Golden, replied to a tweet by Valorem Law’s Patrick Lamb. Patrick responded with a blog post. To which newly minted VeraSage Fellow, Jay Shepard replied.

I will try, once again, to clarify my (and I think many other fellows at VeraSage) position on efficiency.

  1. Efficiency does not kill innovation per se, rather an over focus on efficiency kills innovation. Too many people and firms worry too much about efficiency at the expense of thinking about being innovative. That is the problem. Also, efficiency happens naturally. It fact biologist call it parsimony. We humans call it, “the learning curve.” You need no efficiency expert to tell you the best way to load the dishwasher. After you do it a few times, you get better at it.
  2. RescueTime (Automated Time Tracking Software)Efficiency is a personal judgment. Thomas Sowell says it this way, “There is no such thing as generic efficiency.” He is right, but I think understanding it as a personal judgment is easier to understand. Peter Drucker never said, “If you can’t measure it, you can’t manage it.” He did say, “Reports and procedures should be the tool of the man who fills them out. They must never themselves become the measure of his performance.” For example, I came across this tool yesterday called RescueTime. I have no problem if someone thinks this will help them, personally, be more efficient. However, I draw the line at allowing to be used by management in any way. And, by the way, I would not use this tool personally. I prefer to just make a judgment.
  3. Efficiency is always a ratio of outputs over inputs and is always a measurement. Effectiveness is the quality of the output itself. Therefore, improving efficiency cannot, by definition, improve effectiveness. Since efficiency is doing the thing the right way. The thing (result) is always the same. If you change the value of the result or the result itself, you are changing its effectiveness, not its efficiency.
  4. Efficiency gains are never a competitive advantage. Despite what many experts opine cost reduction is not a sustainable competitive advantage. In fact, even efficiency gurus, Michael Hammer and James Champy authors of Reengineering the Corporation, believed that the only sustainable competitive advantage is out innovating the competition. True innovation is customer (outwardly) focused. Efficiency gains are always inwardly focused.
  5. Focusing on effectiveness (or more precisely efficaciousness) ALWAYS and EVERYWHERE trumps focusing on efficiency. I used to think this was only true of knowledge work, but the more I think about it, the more I believe it is true about everything. Think about farming. Improving the efficiency, perhaps the speed at which you sow the seed or harvest the crop, does not increase the yield. Developing a seed that would allow for the reduction in distance between seeds, might actually reduce your efficiency (it will take you longer to sow and harvest). However, it will increase your yield, that is, it will be more effective.

Let me try to close on a statement that upon which I hope we can all agree – The only way efficiency helps you become more effective is if you invest the efficiency gains into being innovative.

Your thoughts?

Forget Being Effective, Be Efficacious

Most of you, I am sure, are familiar with the scene in the classic movie Spinal Tap, in which Christopher Guest as Nigel Tufnel utters the immortal words, “These go to 11” about his beloved Marshall Amp.

“It’s one louder,” he intones.

 

As foolish as Nigel appears, he is making an important philosophical point. He is seeking the maximum total benefit from his amp and for his fans in the audience. In short, he is striving to be efficacious. This desire, to seek the maximum total benefit for a customer, supersedes in my view our desire to be effective – seeking to produce a benefit or result for a customer.

The problem is that if you are focusing on just being effective (seeking a benefit/result), there could be a perception on the part of a customer and temptation on the part of a consultant to see fixed price agreements as a way to maximize your profit and not on your customer’s profit. Focusing on efficacy (seeking maximum total benefit) removes this perception and temptation.

Therefore, I humbly submit a change to the PKF (professional knowledge firm) new business model equation:

Profitability = Intellectual capital X Price X Efficaciousness

As an aside to those of you still mired in the efficiency v. effectiveness debate: you are now behind by two generations in thinking!

Even among the VeraSage zealots, I am sure that there are those of you who believe I am taking this debate of semantics to the nth degree. I am, but I am just being efficacious.

Personal After Action Reviews–Parent and Child Editions

In a recent Facebook post made by a old friend, John Stulak, (old as is long-time, not age-wise). John stated that he was 16,443 days old and that he was awakened at 3am with this thought:

The day is the natural cycle of our lives. The cycle of light and dark, being awake and sleep, has more significance than the cycle of the seasons. The day is what counts. Each day is a complete unit in itself. At the end of each day I can look back and take stock. How have I been? What have I learned? What can I be grateful for? I can hold a day’s experience in my mind quite easily. Trying to go back and take stock of a whole year is much harder. Numerous incidents and discoveries are inevitably forgotten. I also find it far more meaningful to think that I have lived through over 16,000 days this life, rather than 45 years.

imageHis post reminded to get back in the habit of doing a personal AAR (after action review) each day. In a ten-year journal given to me by my wife a few years ago, I record the answers to the following questions:

  1. What did I hope to do today?
  2. What went well? Why did that go well?
  3. What went wrong today? Why did it go wrong?
  4. What am I going to do different tomorrow?

I can’t tell you how dramatic the improvement is over time. Consulting guru, Alan Weiss calls this change The 1% Solution, improve by one percent and in 70 days you are twice as good.

About six months ago, my genius wife, Christine, developed a similar tool with our five-year old son, Sean. When putting him to bed each night, we ask him to say:

  1. One thing good about today.
  2. Hope he has a good nights sleep.
  3. One thing he is looking forward to tomorrow.

We do it in the form of a prayer after he says his Gloria Patri, as it connects to the past, present, future form of the prayer, but I think this is easily modified and adapted without a religious spin.

Thoughts?

The Efficiency vs. Effectiveness Debate Continues

We here at VeraSage never shy away from folks who disagree with us. We learn more from those who disagree with us rather than those who agree.

Jim Caruso, a CPA colleague, recently left four comments on four different recent posts.

Rather than replying to them individually, I wanted to start a new thread so others could chime in with their experience.

This just goes to show how controversial—and difficult to comprehend—this entire efficiency vs. effectiveness debate truly is for firm leaders.

Here’s Jim’s first comment to my post The Seven Moral Hazards of Measurement:

Ron,

I agree with much of what you wrote and with the general thesis that metrics have dangerous limitations.

However, I continue to believe that, in general, efficiency cannot possibly be (and does not need to be) completely ignored in order to achieve effectiveness. One sentence in your post that I particularly disagree with is this: “Efficiency and effectiveness cannot be balanced like tires because they are entirely different things.”

Balancing entirely different things is one of the critical success factors for good leadership. CEOs have to balance short-term profitability with longer-term growth initiatives. CPA firms have to balance immediate client service needs with longer-term business development opportunities. Managers need to balance day-to-day urgencies with longer-term improvement initiatives. We all have to balance work priorities with family priorities, or the need for time to ourselves with time for friends and loved ones. The examples are endless.

I reject this premise of balance, Jim. Let’s hear what David Whyte, a corporate poet (and author of many excellent works) has to say in his book The Three Marriages: Reimagining Work, Self and Relationship:

Poets have never used the word balance, for good reason. First of all, it is too obvious and therefore untrustworthy; it is also a deadly boring concept and seems to speak as much to being stuck and immovable, as much as to harmony. There is also the sense of unbalancing that must take place in order to push a person into a new and larger set of circumstances.

My mentor, George Gilder, says this with respect to work/life balance:

One of the things that really makes me laugh is when I hear about the “workaholic.” Workaholics are what the make the world go. Show me a success in any field, and I’ll show you an obsessive. If your life is “balanced” by languid afternoons at the museum, you cannot develop a new business, break an important story, or make a contribution to the world. …Our task on earth—laboring in the service to others—can only be satisfied thru hard and unbalanced work.

My VeraSage colleague Dan Morris wrote that “Work-life balance is politically correct for ‘slacker.'” Dan has a point.

This is why management thinker Charles Handy uses the metaphor of a “portfolio life”—putting together a packet of different jobs, customers, and types of work.

He also dismisses the very concept of work-life balance as misleading “because it implies that work and life are two different things.”

Nobody is suggesting that you “completely ignore” efficiency. We aren’t Luddites here at VeraSage.

I am arguing that efficiency is not a competitive advantage since it can be so easily copied by your competition.

In addition, if you employ knowledge workers, efficiency gains will take place in the normal course of experience.

I will be more “efficient” doing my 100th tax return than my first few. If this is not true among knowledge workers, you have made a hiring mistake.

Moreover, measuring the “efficiency” of knowledge workers based upon time spent is meaningless. Was Einstein efficient? How about Paul McCartney, is he efficient? How would you know?

What matters is the results of their output, not the efficiency of the inputs. I don’t care how long it took Jonas Salk to develop the polio vaccine; I’m only glad he did.

But even beyond that Jim, economists have taught us for centuries that there’s no such thing as “generic efficiency.” It all depends on what your objectives are and how much you are willing to spend.

Jim’s next comment was to Ed Kless’s post On Timesheets and Cost Allocation:

Ed,

I am completely on board with the negatives of hourly billing. While I know the VeraSage folks don’t like to talk about “efficiency,” one of the most succinct ways I use to explain to others the folly of hourly billing is that it rewards inefficiency and punishes efficiency (from the service provider’s perspective; from the client’s it’s obviously the opposite).

But I still cannot see time-tracking being totally irrelevant. You mention target costing, which I agree is the appropriate pricing practice. But how can you plan your time requirements in advance if you have no historical data on how long certain activities take?

I run an outsourcing practice that provides a fully-managed accounting function—what ADP does for payroll, we do for the entire finance function, including the CFO/controller roles for emerging growth companies. If I have no idea how long it takes to do a weekly A/P check run of 50 payments, how can I plan the resource requirement in advance and do target costing? Regarding your comments on project profitability, how can I say “who cares” if over the past year it took a full-time equivalent (FTE) to serve the client while the price I received failed to cover an FTE’s salary?

I will let Ed respond to this in more detail.

But Jim, you have an empirical problem with this line of argument:

There are over 1,000 firms out there that don’t operate with timesheets.

Please don’t argue that it can’t be done. It is being done, and more and more firms are ditching timesheets every single day.

Don’t you think they’ve answered all of your questions with superior methods?

If I were you, rather than arguing that it can’t be done, I would examine how they are doing it (some of their stories our in our Trailblazers section).

When you see empirical evidence that contradicts your world-view, do you change your mind, or do you stay wrong?

Jim’s next comment was on my Modern Measurements post:

Ron,

The Ritz-Carlton example is compelling. However, Ritz-Carlton’s strategic positioning is based upon the type of stellar service you describe and measuring “efficiency” might indeed be counter to that. However, a Super 8 motel might be appropriately concerned with efficiency, as their strategy is based on being a low-cost provider.

I’ll wager that BOTH chains are concerned with efficiency in certain business processes, such as how many rooms are made up daily by each attendant. In this regard, Ritz-Carlton may have a very different target metric than Super 8, but their respective economic models cannot possibly fail to consider it. The Ritz-Carlton housekeeping staff person might go out of her way to do something special for a guest, but either that will be the exception to the rule and barely move the measurement, or it will be commonplace enough to be part of the historical data and make its way into the future targets. I cannot imagine that Ritz-Carlton would not care if for some reason they had to increase the housekeeping staff by 10% at a certain property because fewer rooms per staff person were being cared for when compared to the corporate-wide averages.

I would wager that the Ritz-Carlton maid is just as efficient as the Super 8 maid over time. So what?

The point is, that Ritz-Carlton is focused on effectiveness.

If you want be the low-cost provider in your sector, more power to you. Wal-Mart and Southwest are very efficient.

However, they are also very effective, otherwise no amount of efficiency would matter.

Again, I cite Peter Drucker from his book, People and Performance:

Efficiency means focus on costs. But the optimizing approach should focus on effectiveness.

Effectiveness focuses on opportunities to produce revenue, to create markets, and to change the economic characteristics of existing products and markets.

It asks not, How do we do this or that better? It asks, Which of the products really produce extraordinary economic results or are capable of producing them?

…It then asks, To what results should, therefore, the resources and efforts of the business be allocated so as to produce extraordinary results rather than the “ordinary” ones which is all efficiency can possibly produce?

This does not deprecate efficiency. Even the healthiest business, the business with the greatest effectiveness, can well die of poor efficiency. But even the most efficient business cannot survive, let alone succeed, if it efficient in doing the wrong things, that is, if it lacks effectiveness. No amount of efficiency would have enabled the manufacturer of buggy whips to survive.

Effectiveness is the foundation of success—efficiency is a minimum condition for survival after success has been achieved.

Efficiency concerns itself with the input of effort into all areas of activity. Effectiveness, however, starts out with the realization that in business, as in any other social organism, 10 or 15 percent of the phenomena—such as products, orders, customers, markets, or people—produce 80 to 90 percent of the results.

The other 85 to 90 percent of the phenomena, no matter how efficiently taken care of, produce nothing but costs (which are always proportionate to transactions, that is, to busy-ness).

A business is an interdependent system, and to argue that by increasing the efficiency of each component (or each hour) is the equivalent of arguing you can build a world-class car with the best parts of a Ferrari, BMW, Porsche and Lamborghini.

You could not; you’d have a pile of very expensive junk, since each car is interdependent, and not simply the sum of its parts.

Jim’s last comment was on my post Wal-Mart Audits?:

[Ron writes]: “Efficiency is no basis for competitive advantage, since your competitors can adopt the same tactics.”

Maybe so, but that doesn’t mean it’s not important. Assuming equal effectiveness (again I believe it’s a balance between the two), if it takes my firm 20 people to handle a portfolio of audits that another firm can handle with 15 people, how can that not be relevant?

Efficiency might not be a competitive advantage, but that doesn’t mean it’s not necessary. The first gas station that installed “pay at the pump” technology had a competitive advantage over the gas station across the street that did not.

So when gas station #2 decides to implement the same technology, it does not give them a competitive advantage; but still they have no choice but to do it, just to stay even and survive.

Which brings up another point. Look again at the statement, “Efficiency is no basis for competitive advantage, since your competitors can adopt the same tactics.”

This can be said about many other tactics that your competitor later copies, such as the gas station example above.

Again, no one is arguing that you not pay attention to efficiency, just that’s it not a competitive advantage.

If your firm takes 20 people rather than 15 for a portfolio of audits maybe it’s because your people are delivering a hire level of customer experience, delivering more value-added services, etc.

If you price it right—meaning your customers are willing to pay for it—having 20 people may be very economically viable, and more profitable.

Excellent customer service is incredibly hard to duplicate, which is why Nordstrom, Ritz-Carlton, Amazon, and Zappos have such effective business models.

They are not obsessed with efficiency, but rather effectiveness.

Jim, I’m afraid you are far too focused on internal metrics at the expense of outputs, results, and value.

You can’t price for 100% efficiency, especially in a knowledge firm such as your.

But it’s true in any business. This is a lesson Ben & Jerry (of ice cream fame) learned early in their career.

It was an epiphany for them, and I hope one day it will be for you.

Stop Worrying About How Efficient You Are; Effectiveness is the Only Thing that Matters

My colleague Tim Williams recently wrote a provocative post on his Propulsion Blog.

If you haven’t yet registered for Tim’s blog, you should do so. Even if you don’t work in advertising, his thinking applies across all professional knowledge firms.

Tim also has a new book out that I highly recommend, Positioning for Professionals.

Tim has graciously allowed me to reprint his recent post on effectiveness vs. efficiency, a topic that is very controversial but is essential if firm leaders want to sustain a competitive advantage.

Competitive advantages are built on effectiveness, not efficiency—period.

Anything your firm can do to increase efficiency—from implementing Lean (or Fat), or Six-Sigma, or hiring black (braided) belt Lean Six-Sigma consultants—can be duplicated by your competitors in a heartbeat. So what?

There’s no competitive advantage if everyone can do the same thing.

If you watch Mad Men, ask yourself how the advertising agencies back then measured efficiency without timesheets?

Tim makes this point in a compelling way, so I’ll let him speak for himself.

Stop Worrying About How Efficient You Are; Effectiveness is the Only Thing that Matters

By Tim Williams

Two advertising professionals, Ken Starling and Julie Brighton, both worked 2,000 hours last year. Of those 2,000 hours, Ken billed 1,765 to client project work. Julie’s billable hours were 1,326. Which of these two executives was most productive?

The correct answer, of course, is that it’s impossible to tell from this information. Being “billable” doesn’t equate to being “productive.”

Moreover, it doesn’t necessarily equate to being effective, which is the ultimate goal of knowledge workers in organizations like agencies.

Using billable time as a measurement of effectiveness is like trying to measure snow depth with a thermometer.

Only better is better

Efficiency is not what your agency is hired for. In today’s technology-enabled world, efficiency is a given.

As my colleague Ron Baker is fond of saying, “Efficiency in a professional knowledge firm is not a competitive advantage. It’s the equivalent of having restrooms.”

Besides, we can’t accurately measure the efficiency of a knowledge worker anyway.

By cracking the efficiency whip at every agency staff meeting, agency leaders are sending the wrong message to their associates. An agency CEO’s hue and cry should be about “better” not “more.”

Smart clients don’t pay agencies for how fast they can solve a thorny marketing problem, but how effectively they can solve it.

This isn’t to say speed isn’t important. In today’s on-demand world, clients want their business partners to be agile.

It’s just that when we default to the view that we sell “fast” instead of “effective” we commoditize our services, degrade our work, and demoralize our staff.

This is actually one of the driving factors behind the talent drain in the advertising agency business right now; it’s hard to derive professional satisfaction from just fulfilling orders instead of solving problems.

Pick one

It’s actually quite possible that efficiency and effectiveness are exclusive concepts; you can’t improve both at the same time, and if you work on one it’s almost always at the expense of the other.

Try to be more efficient and you’ll likely be less effective. Try to be more effective and you’ll likely be less efficient as a result. So you really have to make a choice at the beginning of your work day. Which is it going to be, efficient of effective?

Is Paul McCartney efficient?

Unfair example, you say—he’s a musician and artists aren’t expected to be efficient.

Aren’t creative directors artists? What about Steve Jobs—is he efficient? No one cares, because that’s the wrong question.

The right question is “Are you effective?” Are you creating value for your client?

Not just expected value (fulfilling orders), but unexpected value—ideas and solutions your client hasn’t asked for.

Our industry’s relentless focus on “estimated hours” has us looking through the wrong end of the telescope.

Why the Mad Men didn’t do timesheets

Most agency people who watch AMC’s “Mad Men” are constantly comparing agency life then to agency life today.

An awful lot of things have changed for the better (smoke-free offices, for one), but the basic dynamics of the agency-client relationship were actually a lot better back then. The reason is that agencies were in the effectiveness business.

The commission system, while vilified today as a regressive form of compensation, actually provided the right incentive for agencies to do the right thing. The more effective the work, the more money the client would spend in marketing, the more the agency would earn (in commissions). That’s pretty good alignment of economic incentives, and it placed the agency’s focus squarely on effectiveness.

Agencies back then didn’t do timesheets not only because they didn’t bill by the hour, but because they weren’t really concerned with trying to measure efficiency. As I said, they were in the effectiveness business.

So let’s keep the smoke-free offices, but turn back to what built the agency business in the first place: paying attention to the results we create for our clients, not the hours we log on our timesheets.

The Seven Moral Hazards of Measurements

Exact measurements of the wrong things can drive out good judgments of the right things.

The illusion of certainty in our measurements creates—to borrow an important concept from the insurance industry—a moral hazard. If people are insured, they may just act carelessly and cause the very thing they are insured against.

Fire insurance causes arson; unemployment insurance allows people to not be as diligent in finding a job; life insurance causes suicide, or worse, murder; auto insurance can cause reckless driving.

Our current cult of calculation, perpetuated by the infamous McKinsey maxim—”What you can measure you can manage”—creates the same type of risk, offering today’s business executives the illusion of control and mastery of knowledge.

It allows them to substitute statistics for thinking. It gives them a false sense of security where there should exist more doubt.

The United State’s attempt to measure the Soviet Bloc economies during the Cold War was the largest social-science project ever undertaken, yet the various governmental agencies involved consistently overstated the size and growth rate of the communist countries.

In the CIA’s Handbook of Economic Statistics 1989, per capita output in 1988 in East Germany—one year before the Berlin Wall was pushed over—was placed at roughly seven-eighths of the West German level.

But as any Berlin taxi driver crossing through Checkpoint Charlie after the fall of the Wall could have told you, the economy of East Germany was manifestly inferior to that of West Germany, yet somehow—due to the moral hazard of measurement—those in the know got it precisely wrong rather than approximately right.

Efficiency is always a measurement, but effectiveness is always a judgment.

Efficiency and effectiveness cannot be “balanced” like tires, because they are entirely different things.

Taking into account the following seven moral hazards of measures may assist executives in avoiding putting efficiency ahead of effectiveness.

The Seven Moral Hazards of Measurements

Moral Hazard 1: We Can Count Consumers, But Not Individuals

Stalin’s famous remark that “One death is a tragedy, whereas a million is a statistic” illustrates the danger of lumping individuals into aggregate, amorphous lumps as if they did not have a soul.

Because benefits and costs are inherently personal and subjective, aggregation misses the individual. We can measure the objective temperature in a room at 70 degrees, but any one person may feel either warm or cold, and the differences cannot be used to cancel each other out.

We simply cannot mathematically manipulate people.

Moral Hazard 2: You Change What You Measure

Scientists call it Heisenberg’s Uncertainty Principle, which applies to all measures: that the observer in a scientific experiment affects the result.

Central bankers call it Goodhart’s law: Any target that is set quickly loses its meaning as it comes to be manipulated.

People will always find ways to make their numerical targets, even if it leads them to ineffective or, sometimes, unethical behavior.

This is why Boyle’s Law is so profound:

When you use numbers as the basis for payment, they become irrelevant to the broader objectives of the service.

Moral Hazard 3: Measures Crowd Out Intuition and Insight

Once a measure becomes entrenched as part of the conventional wisdom, it is usually impenetrable to logic, intuition, critical thinking, or better ways to do something.

If you have ever been bribed off an oversold airplane—with a free flight voucher, upgrade, or airline money equivalent—you have economist Julian Simon to thank.

Until 1978, and before the airlines were deregulated, travelers were bumped off overbooked planes rather capriciously (the airlines preferred to bump old people and military personnel on the theory they would be least likely to complain) and this caused enormous amounts of customer complaints and ill will.

This caused the airlines to increase bookings even more to ensure decent load factors, which of course were measured very precisely. But the measures didn’t help solving the problem—that took an outsider with a theory.

A flight attendant friend who worked for United Air Lines told Simon of this problem:

The next day when shaving it occurred to me that there must be a better way; indeed, an auction market could solve the problem by finding those people who least mind waiting for the next flight. The practical details fell into place before the shave was complete.

Simon did not analyze countless numbers and statistics, but used his intuition, grounded by the economist’s theory of human behavior being rational, to solve a quite vexing problem.

Daniel Boorstin, librarian of Congress, wrote: “The greatest obstacle to discovery is not ignorance—it is the illusion of knowledge.”

Moral Hazard 4: Measures Are Unreliable

A country’s per capita gross domestic product increases when a sheep is born but decreases when a child is; and divorce actually increases the GDP since almost two of every commodity must now be purchased rather than just one.

Yet these measures mask the joy of a child and the agony of divorce.

We know how generally accepted accounting principles (GAAP) do a pathetic job of measuring—or even acknowledging—intellectual capital.

Why would we want to put so much faith in these numbers? Picasso once said, “Art is a lie that tells the truth.” It seems in some instances, measurements are truths that tell lies.

Another example of the unreliability of measures is illustrated by the consulting firm Bain & Company’s home page on its Web site, where it proudly proclaims: “Our clients outperform the market 4 to 1,” shown over a graph from 1980 to 2009 depicting the S&P 500 Index and Bain clients.

This is the equivalent of the rooster taking credit for the sunrise because he crows every morning. One expects this type of unscientific hyperbole from politicians, not management consultants.

I would be willing to bet that Bain’s clients perform better than the S&P 500, thus have more money to spend on consultants.

Moral Hazard 5: The More We Measure the Less We Can Compare

Engage in this gedanken: You (or a loved one) need(s) heart surgery. You talk to nurses, friends, and other people you trust and respect, and two surgeons are consistently recommended to you.

You go online to do some research on these two practitioners and discover their mortality rates (i.e., the risk of dying from surgery): surgeon A = 65 percent; surgeon B = 25 percent. Which surgeon would you choose?

I have conducted this gedanken in seminars attended by various educated professionals—who certainly have taken a statistic class or two—and, astonishingly, the overwhelming majority select surgeon B.

But wouldn’t you want to know what type of patients the two doctors serve? What if surgeon A takes a disproportionate share of hard cases and thus has a higher failure rate? He or she just may be the better surgeon.

The point is, we simply do not know without gathering more information, both quantitative and qualitative, and making further judgments based on our own risk profile.

Seeing the two numbers side by side seems, though, to give people a false sense of precision and, in this case, could lead to a deadly decision.

The is the major problem with benchmarking studies and best practice reports—you are studying the results of a process, not the process itself.

It tends to confuse cause and effect, and we are back to man trying to fly by strapping on wings and jumping off of cliffs rather than studying the theory of aerodynamics.

We simply cannot compare two doctors, two universities, or two hospitals based on measures alone. It takes subjective evaluation, discernment, and intuition.

History is the science of human biography, not measures, and we can no more compare two countries’ cultures by examining their GDPs than we can compare two people by the size of their bank accounts.

Moral Hazard 6: The More Intellectual the Capital, the Less You Can Measure It

Ideas only come from sentient beings, not inanimate objects or pets.

Since 75 percent of any country’s wealth-creating capacity resides in its human capital, how could it be otherwise?

To complicate matters, a lot of that knowledge is tacit, which is hard to capture in spreadsheets and pie charts.

We may be able to count the physical assets of a Google or a Microsoft, but traditional accounting pays no attention to its human capital, what has been labeled the “invisible balance sheet.”

Traditional book value accounting—assets minus liabilities equals equity—can only explain about one-sixth of the value of the market capitalization on the nation’s stock markets.

Accountants call the difference between market value and book value goodwill; but that is just a label for their ignorance.

Data, reason, and calculation can only produce conclusions; they do not inspire action. Good numbers are not the result of managing numbers.

Dr. Martin Luther King did not deliver the “I have quarterly objectives” speech.

Moral Hazard 7: Measures Are Lagging

Imagine driving your car with your dashboard gauges informing you of last month’s speed, fuel level, temperature, oil pressure, RPMs, and the rest.

This is precisely the status of accounting information: it is like walking into the future backward. It is a lagging indicator—or at best coincident, assuming real-time accounting takes place.

This type of information can only tell us where we have been, never where we are going.

Enron and the other spate of accounting scandals from the early 2000s were not so much about fraud, malfeasance, misfeasance, or other crimes, but rather the increasing irrelevance of the traditional accounting reporting model.

Enron’s legerdemain is not what caused it to fail. Its financial deception allowed it to remain in business for longer than an otherwise similar firm engaged in accurate financial disclosures, but this is a question of timing alone and not causality.

The Future Cannot be Measured

The Danish philosopher Søren Kierkegaard wrote: “Life is lived forward but understood backward.”

Certainly measures help us reflect on past events and aid us in improving our theories.

But they can never take the place of dreams, imagination, passion, and the spirit of enterprise where entrepreneurs toil and struggle to create our future.

No measure is capable of capturing the richness of free minds operating in free markets dreaming of better ways to improve our future, and it is folly to believe otherwise.

It may even lead us into moral hazards, or a world where we are so preoccupied about measuring past performance we do not take the time to dream about the future.

Modern Measurements

Hat tip to Marc Grubb at fusion IT for passing along an article by David Boyle, a fellow of the New Economics Foundation.

A little background. David Boyle wrote a book called The Sum of Our Discontent, which I read in July of 2001, based upon a stellar recommendation from Paul Dunn.

Paul reads a lot of books, so when he tells you a book is a must-read, you’re wise to listen.

I’m so glad I did, because Boyle’s book inspired me to write Measure What Matters to Customers, which was published in 2006.

It took me about five years to coalesce my thoughts, but Boyle’s book led to knowledge creep: It changed Key Performance Indicators to Key Predictive Indicators and inspired us to question the McKinsey Maxim: “What you can measure you can manage.” This is hokum, but it’s entrenched in our thinking.

In his book, Boyle posited the McKinsey Fallacy: “What is really important cannot be measured.” He presents a compelling argument.

Boyle also inspired my Seven Moral Hazards of Measuring with his 10 Paradoxes of Counting (I will post separately on the Seven Moral Hazards in the future).

In the article Marc sent along—The Perils of Obsessive Measurement—Boyle’s Law is posited:

When you use numbers as the basis for payment, they become irrelevant to the broader objectives of the service

.

How true is this? An article in the Wall Street Journal, “Stores Count Seconds to Trim Labor Costs,” illustrates how perilous measuring the wrong thing can be, not to mention how a relentless focus on efficiency inhibits effectiveness in customer service, verifying Boyle’s Law.

The WSJ article explains how 185-store chain Meijer Inc. has installed a labor-waste elimination system that tracks how long it takes a checkout clerk to scan a customer’s purchases.

The system was developed by the efficiency experts at Accenture in the “Operations Workforce Optimization Unit.” Sounds inspiring doesn’t it?

If a checker falls below 95 percent of a baseline score too many times, it could lead to lower pay, or even termination.

Put a measurement system in place, and people will game it.

Oh, they’ll deliver what you measure, even if it means ruining your organization in the process. You can see the effect this measurement has on customer service.

Compare it to Ritz-Carlton. If you ask any employee where the conference room is, they will escort you there, not just give you directions, or pull out a map too small to read.

It’s not very efficient to the folks at Accenture, but it’s incredibly effective in terms of providing a world-class customer experience (and pricing at a premium).

I remember reading about Great Britain’s National Health Service creating a measure of how long people have to wait in emergency rooms before being seen by a doctor.

The clock starting ticking as soon as they were brought in to the hospital by the ambulance. The result? The drivers were told to keep the patients in the vans so the clock wouldn’t start.

This is one of the problems with any measurement system. People will game it. People are scamps, which is what makes us humans, not machines.

It’s also why any measure has to be leavened with judgment.

Bad measurements crowd out good judgments, and there is a plethora of examples in Boyle’s book.

As my colleague Ed Kless profoundly points out (call it Kless’ Law): All measurements are judgments.

What we measure is determined by our theories, so if we are more concerned with efficiency than effectiveness, we are doing a disservice to our customers and team members.

People are not the sum of any measurement. Sure, you can count people and their actions, but whether or not that measure means anything that’s tied to results is another issue altogether.

Boyle’s Law exactly describes the perils of the timesheet, which has absolutely nothing to do with the objectives of the services professionals provide.

We seem to confuse measuring activities with producing results. The Scottish have a proverb: You don’t make sheep any fatter by weighing them.

It’s reminiscent of Charlie Chaplin’s protest film against the Scientific Management Revolution, Modern Times.

How many areas of professional knowledge firms does Boyle’s Law hinder the purpose of professionals?

It’s a judgment worth pondering.

Those aren’t swans—swans are white

To borrow a line from Oscar Wilde, “The billable hour has no enemies, but is intensely disliked by its friends.”

It’s hard to find an ardent defender of the billable hour anymore. Oh, they’re out there, but they are a marginal fringe group—late adopters on the diffusion curve; the type of people who only buy a touch-tone phone because rotaries are no longer available.

The theoretical and practical argument against the billable hour is over, especially since you can trace it back to Karl Marx’s labor theory of value.

Fortunately, more and more firms are realizing this everyday, as this blog post sent to me from my colleague Tim Williams demonstrates.

Yet, some don’t still don’t get it.

An Example of Bad Economic Advice

Neil Oakes is a consultant in Australia. His post, “Finance: An objective discussion about fixed fees,” is anything but objective.

This post is full of economic illiteracy, such as this:

To the best of my knowledge, critical questions such as “What happens when informed clients figure out that they are paying significantly more for the same service?” remain unexplored.

The most successful of my clients have achieved their results with total price transparency and constant client communication. A fixed price for a new client could not be more transparent, but managing the transition to fixed fees for existing clients who may pay more for the same will involve an interesting discussion.

One is left wondering if Neil has ever flown on an airplane, stayed in a hotel, rented a car, went to the movies, dined in a restaurant, or witnessed a law firm providing pro bono services. All of these businesses engage in (blatant) price discrimination—that is, matching a price to a customer’s willingness and ability to pay. Of course, you have to be aware of it to see it.

If Neil would like to see an economy where this doesn’t happen, he’s free to visit North Korea, Cuba, or read an economic history of the former USSR—where all prices were “fair,” “equal,” and based on cost plus a reasonable profit.

It didn’t work under the jack-boot of communism and it’s not working well in professional firms.

Neil claims he’s not against Value Pricing, but he does advocate the necessity of tracking time:

I will lay London to a brick that when you start the conversation about your relative worth by asking the client’s opinion, they will ask: “How long will it take you to do the work?”

I am not suggesting that it cannot be done; of course it can. I would go as far as to suggest that for many it is a good idea, but tread cautiously with plenty of information. Delay the timesheet-burning ceremony for a few years. Determine fixed fees objectively, compare the result with the value of recorded time and build corporate knowledge and estimating skill.

I’ll take that bet, Neil. If a firm answers, “We don’t track time here, we believe our knowledge workers have better things to do than be a slave to bureaucracy that creates no value,” how will a customer respond?

Why don’t you ask one of the firms that have actually had this conversation? Neil shows no intellectual curiosity on this issue. I can assure him these firms have dealt with this issue, very successfully.

As for delaying the timesheet-burning ceremony: Why? Firms already have decades of this information and it’s obviously made them no more competent in pricing. Why do more of something when it’s not working?

This confuses activity with results.

Once again, Neil is making an assertion that has been empirically refuted. This rises to the level of a religion, not an economic argument.

Given that his business model is to sell surveys of what firms charge, this is understandable.

Economically, where we sit is often where we stand, and if my living depended upon perpetuating these types of useless surveys then I would want firms to continue to provide hourly data.

The Four Defenses of Timesheets

Yet even though the debate over the billable hour is over, this debate over the necessity of tracking time rages on, and is far more controversial than hourly billing vs. Value Pricing.

Just within the past month, I’ve had several blog posts sent to me expounding the requirement to track time, especially if firms are going to offer fixed prices.

One was sent to me from Mark Chinn, a VeraSage Trailblazer.

Less Rosen, a family lawyer, posted “Why You Should Track Your Time.”

Even my good friend Shannon Vincent got into the act with his post.

There are four primary defenses used by the proponents of timesheets:

  1. We need them to price
  2. We need them to track team efficiency
  3. We need them for cost accounting
  4. We need them for project management

We’ve refuted every one of these defenses, and even replaced them with superior methods, more conducive to a professional knowledge firm that sells intellectual capital, not time.

Not only that, many firms have implemented our ideas, with salutary results.

Empirical Evidence—Facts are a Stubborn Thing

John Maynard Keynes once wrote:

When somebody persuades me that I am wrong, I change my mind. What do you do?

Apparently, for defenders of timesheets, the answer is nothing.

This has always confused me. If I see something that works but contradicts my worldview, I’ll investigate it, seeking to understand the anomaly.

Yet proponents of timesheets engage in no such behavior. All swans are white to them, even if they encounter a black swan in their own country, state, or city.

There are over 1,000 firms that we know of—and I’m sure there are many more—that don’t track time.

These firms exist in all professional sectors—advertising, consulting, CPA, IT, and law firms. Some are among the most profitable firms in their sectors.

How do these firms do it?

Why do proponents of timesheets continue to advocate a theory that others have replaced with a superior theory?

I’m fascinated by this behavior. For firm leaders, maybe it’s fear of the unknown, or just satisficing—doing good enough, as posited by economist Herbert Simon.

Witch Doctors or Consultants?

But what about consultants to the professions?

Supposedly, these are thought leaders to the professions, who should not be happy with “good enough.”

These are the folks allegedly at the cutting edge, who take the time to think, create, and innovate superior strategies to help their customers. After all, any competitive advantage would be worthwhile to pursue, would it not?

What’s a bigger competitive advantage than pricing commensurate with value, along with not having your knowledge workers track every six minutes of their day as if they were prisoners?

Wouldn’t this act like a lightening rod to attract both customers and talent?

Given the fact that pricing has a larger impact on profitability more than any other factor, why would anyone continue to advocate firms sell time rather than value?

Why the dogmatic insistence on maintaining timesheets without any acknowledgment of firms that operate successfully without them?

Why do they insist on linking timesheets and cost accounting when time recording is not the only way to perform cost accounting?

Why don’t they recognize that project management is based upon looking into the future, not backwards with lagging indicators?

Why do they continue to expound an “efficiency” argument, when what matters in firms is effectiveness?

And why do they continue to believe that timesheets even measure efficiency? This is the illusion of control.

Why haven’t any of them studied firms that have implemented a ROWE (Results-Only Work Environment). This is no timesheets on steroids, and many organizations now have one, even some professional firms.

Why do they continue to deny the black swans right under their very noses?

And some critics say VeraSage is a religion. Please.

We are in constant pursuit of empirical evidence. The only difference is we aren’t afraid to challenge the status quo and upset people’s worldviews.

Greek Idiots?

“Idiot” is Greek for “private,” “merely personal.”

The consultants’ views seem to be based on their own internal worldview, impervious to external empirical evidence.

Education has been known to relieve the individual of his idiocy.

When I see a prominent consultant write on pricing, I want to ask them: How many books have you read on pricing? Which ones? Who are your pricing mentors? Ever attend a pricing seminar?

I rarely see any of them quote from a leading pricing book or leading pricing expert.

When I see a consultant write on the necessity of timesheets, I want to ask them: Do you know the difference between a Key Performance Indicator and a Key Predictive Indicator?

Do you understand the difference between a leading and lagging indicator? The difference between efficiency and effectiveness?

I have seen very few of the consultants even refer to knowledge workers, or how they are different than manual laborers, which is who timesheets were developed for.

Why is this? Peter Drucker coined this term in 1959; it’s not exactly a management fad. (Of course, that may explain why they don’t use the term).

Why do they refuse to engage in debate those of us who advocate a different business model for the professional knowledge firm of the future?

The most plausible theory I’ve heard so far is this:

The consultants are worried that if they advocated replacing timesheets they would alienate their customers—and hence, their revenue base.

If this true—and I suspect it is until I hear a superior explanation—it’s a sad commentary on the ethics of these supposed change agents.

They are perpetuating a status quo that is already dead, and keeping their customers from entering the knowledge economy.

Most companies in every other sector besides professional firms don’t use timesheets to track projects, perform cost accounting, or determine productivity, but this argument is dismissed by proponents as being irrelevant, or worse, with the retort, “professional firms are different.”

But why are they different? Procter & Gamble has to produce results, yet no one there is filling out a timesheet. Ditto Microsoft, Apple, and practically every other organization on the planet.

If you have a counter theory on why the consultants continue to believe all swans are white, I’m all ears.

After all, if these consultants continue to deny black swans, why should we listen to them?

Judgment vs. Measurement

Hat tip to Eric Fetterolf for passing along a thought-provoking blog post from Tom Davenport, a writer and thinker for whom I have great respect.

He’s posing the question why judgment is so ignored in organizations, and posits it’s because it can’t be measured. Amen to that.

Judgment is subjective and it seems to scare professional firm leaders to death. They rather be precisely wrong rather than approximately right.

Our stance on this is clear: In a knowledge environment, judgment always and everywhere trumps measurement. In fact, it’s true in all businesses, and certainly in our daily lives as humans.

The comments to the post are very telling. Ed Kless points out that Davenport misquotes Peter Drucker, who never wrote “what you can measure you can manage.”

The closest I have been able to come for the origin of this quote is the McKinsey Maxim, implying perhaps the founder of McKinsey said or wrote it.

It doesn’t matter to me, because it’s not true. We can’t change our weight by measuring ourselves more frequently.

But beyond that, there’s a materialist fallacy to this type of thinking, which I wrote in a comment on the blog:

Isn’t is obvious to everyone here that the materialist fallacy is wrong? The belief that everything can be measured, that you can achieve optimal results—production efficiencies, etc.—simply by running the numbers, much better than those slow and messy humans. The communists tried it, and it failed miserably.

Life is subjective and full of judgment. So is business. Measurements are the illusion of control and knowledge. New innovations can’t be measured, nor Black Swans. To think you can measure everything is to live in perpetual poverty—see the USSR, East Germany, Cuba, North Korea, etc.

We live in a knowledge economy where judgment trumps measurement everywhere. If this wasn’t so, economies could be run by computers and we wouldn’t need human beings. But creativity always comes as a surprise to us, and I defy anyone to measure something that doesn’t yet exist.

The old axiom, “What can be measured can be managed” is specious. You don’t change your weight by weighing yourself more frequently.

And can someone show me where the effectiveness of management has ever been measured? It’s a judgment, is it not?

To Rob Clark who can compute the ROI of children when given a comparison—good luck. You’ll end up with something precisely wrong.

Judgment at least gives you the opportunity to be approximately right. Measurements may feed into our judgment, but judgment is the senior partner.

I wouldn’t want to live in a world—or work in a business—where this wasn’t so. It would be tyranny.

Rob, how would you measure the Declaration of Independence’s goals of life, liberty and the pursuit of happiness?

I think this debate is far more controversial than the billable hour vs. Value Pricing because it relates directly to efficiency vs. effectiveness. The former is ALWAYS a measurement, while the latter is ALWAYS a judgment.

And a judgment ALWAYS trumps a measurement.

I’ll be writing on this theme more in the months to come since we believe it’s critical to understand this difference if firms truly want to become Firms of the Future.

As always, we are interested in your thinking on this topic.