Although it sounds cliché, the world really is a more volatile place than it used to be. That’s because the drivers of uncertainty are more intense — there are more and more change vectors affecting outcomes and these vectors are more and more inter-related. The range of likely outcomes five and 10 years has grown much larger than it was even a decade ago, dooming traditional approaches to strategy setting and planning to failure. To have a hope of succeeding, strategy makers need to give themselves plenty of opportunities to change course and treat their strategic plan as an evolving construct rather than a fixed roadmap.
Executives routinely contend that their businesses are more unpredictable than ever before. As it turns out, they’re right. If you carefully examine the factors that drive unpredictability in complex systems, you discover that in most sectors of the economy they have intensified. The result is that the number of potential future states that executives need to account for in making strategic choices has skyrocketed. Let’s look at the two drivers of unpredictability in more detail.
1. The number of change vectors
Most industries today are impacted by change along many vectors, not just the one or two executives are used to. Electric utilities are a case in point. Electricity prices have always been volatile, driven by the cost of oil, gas, and other feedstocks as well as the prescripts of regulators. Executives have been accounting for this volatility in making strategic choices for many years. Today, however, utilities must contend with new sources of fuel (such as shale gas), pressures for decarbonization, the prospect of interstate competition, as well as any number of factors impacting the demand for electricity (e.g., growth in the number of Battery Electric Vehicles). All these changes — in addition to regulatory actions — must now be accounted for in planning investments.
For each change vector, there is typically a wide range of forecasts for both outcomes (that is, the likely end-state on the vector) and timing (how long it will take to reach the end-state). Take the penetration of Battery Electric Vehicles (BEVs). Today, more than 15 years after Tesla sold its first Roadster, forecasts for how quickly BEVs will penetrate the U.S. market vary widely. In late 2021, for example, Goldman Sachs projected that BEVs will represent 58% of all vehicles sold in the U.S. by 2040. Just six months later, the investment firm raised the estimate to 83%. An original equipment manufacturer that relied on Goldman’s earlier forecast would have made dramatically different investment decisions than one that based its decisions on the more recent forecast. And this is just one of many vectors impacting the auto industry.
The impact that the number of change vectors has on forecasting can be thought of as a permutation. Take a simple example: If an industry faces eight change vectors, each with five forecast outcomes for the future state, then there 40 different permutations that would need to be considered in making strategic choices. Add in the impact of just five projections for the time required to reach steady state along each of the eight vectors, and the number of future state permutations grows to 200. Of course, most sectors face change along far more vectors than this — each with many forecasts for the ultimate end-state and the timing required to get there.
2. The interconnections between change vectors
If the increasing numbers of vectors weren’t challenging enough, many are now inter-related, so moves in one area exacerbate changes in other areas. Globalization combined with advances in telecommunications and data processing technology have increased these interconnections, with ripple effects throughout the economy. Changes in one area now have impacts in many more other areas than they did just 20 years ago.
Again, look no further than the auto industry. Traditional carmakers are confronting a myriad of important changes impacting their business — from the penetration of BEVs, to changes in consumer purchasing behavior (with an increasing number of consumers opting to purchase vehicles direct from the manufacturer), the timing and impact of autonomous driving, the emergence of new competitors and business models, the continuing shift towards ride-sharing and alternative ownership models, changes to government incentives and subsidies, oil price volatility, supply chain instability, and so on.
Many of these changes are interrelated. For instance, if autonomous vehicles quickly become viable, then the economics of ride sharing will improve, impacting the demand for new cars. If governments subsidies for electric vehicles become widespread, then BEV penetration will accelerate, making it harder to sell cars with internal combustion engines and more challenging for dealers to generate profits from after-market service. And, finally, if most consumers prefer to purchase cars direct from the manufacturer, then traditional, dealer-based distribution models will come under pressure, disproportionately impacting traditional carmakers. In short, the future in automotive is massively unpredictable. Both the number of change vectors and the interconnections between vectors have increased — making it harder than ever for traditional carmakers to develop winning strategies.
Putting the two together
To understand how the two drivers of uncertainty interact to compound unpredictability, consider traffic forecasting. If you were asked to predict the best route from your home to the office tomorrow morning, there are a number of factors you would likely consider: typical traffic volumes at the time of your commute, road closures, reported traffic accidents, weather conditions, and so on. Because most of these variables can be estimated, it’s possible to think through the permutations and pick a route.
But if you were asked to predict the best route from your home to the office a decade from tomorrow, you would be much less comfortable speculating. After all, a lot could change over the next 10 years: new roads might be constructed, light-speed rail might be introduced, fewer people might commute to the office, and so on. You might even move or change jobs. The combination of these factors would make it virtually impossible for you to choose the best route so far in advance. And, if you did venture a guess, you would be far more likely to be wrong than right.
This is precisely the situation that most businesses find themselves in today. Companies are confronting changes on multiple fronts. Many of these changes are interrelated. Amid this tumult, leaders are being asked to make choices that will impact profitability and growth of their companies for many years into the future.
A new approach to strategy
Heightened unpredictability has important implications for the way leaders should think about strategy and the approach companies should take to strategy-making. In the most recent issue of the Harvard Business Review, my colleague — Mark Gottfredson — and I outline a new approach for strategy-making in turbulent times. This approach includes some new methods for making strategic choices in today’s unpredictable environment such as: the consideration of extreme, but plausible scenarios; the pursuit of strategic options and hedges; and the identification of trigger points and signposts. All these tools encourage executives to select strategy alternatives — and place big-bets — that allow for greater flexibility and adaptation if conditions change.
We also propose a fundamentally different process for strategic planning and performance monitoring. In uncertain times, strategic planning needs to be dynamic and continuous, focused on addressing the highest-priority issues facing the company. Rather than producing “a static plan” this approach focuses on generating a “living strategy” that is executed and adjusted as additional information becomes available. Performance monitoring also must change. As opposed to merely reporting the weather — informing leaders on “what the company’s sales were in Spain last quarter” — performance monitoring must provide prescriptive surveillance, enabling executives to decide whether and how to alter course in response to signals from customers, competitors, regulators and others.
• • •
The world has become increasingly unpredictable. It is no longer possible — nor appropriate — for leaders to equate strategy with “skating to where the puck is going to be.” Instead, they should think of strategy as a direction plus an initial set of steps, with flexibility built-in to enable the company to adapt as new information becomes available. Strategy-making, therefore, is about choosing the right direction and specifying the signposts to monitor in order to ascertain whether (and when) to adjust course. The bottom line: strategies must be dynamic and evergreen — just like the business environment on which they are intended to capitalize.
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October 05, 2022 at 08:40PM
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In a Volatile World, Your Strategy Must Be Flexible - HBR.org Daily
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