Competitive Strategy and Business Legitimacy

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This article was first published in Businessweek.com

The Economist once called Michael Porter the “doyen of living management gurus.” Porter is the guru of competitive strategy, the one who told companies that their route to success lay in competing not just against their direct competitors, but against their suppliers and customers as well. A great number of companies have spent the last 20 to 30 years doing just that.

So when Michael Porter says something new, it’s worth noting, as with his recent piece for Businessweek.com, “How Big Business Can Regain Legitimacy.” The idea of regaining legitimacy implies that legitimacy has been lost, which is precisely Porter’s point. And the loss of business’ legitimacy is a shame not just for business, but for society at large.

There is no “legitimacy index,” and any attempt at mapping something as ephemeral as legitimacy will be fraught with subjectivity. But let me suggest a commonsensical outline. Legitimacy broadly tracks such social phenomena as trust and confidence, heroes vs. villains, and the popularity of going into business as a career choice. By these indicia, the socially perceived legitimacy of business was low in the 1960s, high in the ‘80s, and is at a nadir now.

Lowest in a Decade

Somewhere in the ‘90s the tide began to turn. The dot-com meltdown, Big Oil, Long-Term Capital Management, Enron, Hurricane Katrina, Bernie Madoff, and subprime mortgages have all played a role. By January 2009, a major survey showed trust in business at a 10-year low.

In a couple of decades, we went from a President repealing Glass-Steagall to a President firing the chief executive of General Motors; from a doctrinaire laissez-faire Fed Chairman to the SEC suing Goldman Sachs (GS) and the Justice Dept. suing BP (BP). The decline in public trust of business parallels the new adversarial relationship between business and government. This is what Porter means by the decline in legitimacy of business: Businessmen are no longer social heroes, and the political class can no longer be seen to be their friends. A reminder came just last month, with the Senate’s passage of a major financial reform bill, despite intense industry lobbying.

Ironically, in the rear-view mirror we can see that Porter himself was partly responsible. Thought leaders have impact. Porter’s major impact was describing business itself as an ongoing Hobbesian state of competition—not just between competitors, but between companies and their customers, suppliers, and social institutions. Corporate success is defined as gaining sustainable competitive advantage over all one’s competitors. Adversarial relationships in Porter’s worldview are simply the Way Things Are.

The Gekko Era

In the ‘80s, there was a common viewpoint about business’ relationship to society. Milton Friedman spoke the economists’ version—companies owed no social debt beyond being profitable. Reagan’s “government is the problem” was the political version. Porter was the thought leader for business; business’ relationship with government and society was one of competition, not of collaboration toward some higher, joint purpose. Hollywood packaged it all into Gordon Gekko—the antihero of Wall Street.

These messages all converged. Business was the source of its own legitimacy. It needed no external endorsement. It would work best when left alone, allowing Darwinian forces to work their magic.

That now seems a long time ago. Society and government are reasserting their controlling rights to business legitimacy. Regulation is back in; the American taxpayer now owns some chunk of American industry and doesn’t trust the prior management team. Today’s message from the public and government is: We don’t trust you, the free lunch is over, and as long as you continue this adversarial competitive mindset, we will continue to deny you legitimacy. It went beyond the Reaganesque complaint about government being the problem. One of Goldman Sachs’ defenses in its current litigation is caveat emptor—an argument for the bazaar, but not one for social legitimacy.

Positive Engagement

But social legitimacy comes from finding a role in society—not from complaining about society’s intrusions, albeit in the form of government.

Here’s what Porter himself says about the need for business to regain legitimacy:

“Business must find a way to engage positively in society, but this will not happen as long as it sees its social agenda as separate from its core business agenda.”

Porter is surely right about that. He goes on to argue against further CSR (corporate social responsibility) initiatives, saying that it is shared value creation, not charitable donations, that will most effectively leverage corporate capabilities to improve social conditions. Such efforts will “give purpose to capitalism and represent our best chance to legitimize business again.”

This is vintage Porter: The sustainable competitive mandate is once again front and center but now in service to social challenges such as urban blight, inequality, and unemployment. But how does he suggest business regain legitimacy when the very competitive paradigm he helped champion seems implicated in the destruction of that legitimacy?

At this point, Porter loses me. He suggests that small business and major corporations alike must focus on job creation and entrepreneurial energy to eliminate inequality in our inner cities—all the while contributing to the competitive advantage of the individual companies. How’s that again?

A Focus on Time, not Space

In place of CSR, Porter recommends community revitalization. But what sustainable-competitive-advantage-seeking company will recruit disadvantaged local employees from local communities, instead of hiring trained workers from broader markets? Coming from the godfather of competitive advantage, the message is strange; a cognitive disconnect.

Porter is right that the key to legitimacy lies within business, not outside it. But he underestimates the power of a belief that he himself helped create—the belief that business’ best interests are in opposition to those of society, government, customers, and suppliers. But he’s got the wrong dimension. It’s not about geography or demographics. It lies in focusing on the dimension of time, not space.

The bigger challenge for legitimacy is to realign business missions to be consistent with, not in opposition to, those of other stakeholders. The easiest way to realign may be to start by focusing on time frame. Many relationships appear competitive in the short term but can be mutually beneficial in the long term: We have chosen the wrong vantage point. The old Goldman Sachs used to say, “we are long-term selfish.” That still makes sense, if we can stop focusing on business as one-off, competitive transactional deals between traders.

Perils of Short-Termism

U.S. business in the last half-century has become overwhelmingly short-term driven. The usual complaint about quarterly earnings myopia is just the surface.

We have moved resources from relationship-driven business models to market-based, transactional business models (40 percent of recent U.S.corporate profits came from the finance sector; mortgage loans were four steps removed from the homeowner; 25 percent of daily New York Stock Exchange volume is machine-driven).

Our financial language relies heavily on capitalized value and other metrics that define value in single-number, here-now financial terms.

The majority of my clients tragically hold two contradictory beliefs:

  1. A long-term business strategy beats a series of short-term strategies.
  2. No one (outside of Warren Buffett and some private equity firms) is financially motivated to follow long-term strategies.

To believe both is to believe that “the system” controls us; that we are all driven to behave badly; that we are all so untrusting of each other that we cannot live in the long term. We have painted ourselves into such a corner of short-termism that we cannot conceive of relationships without monetizing them. In substituting markets for relationships, we traded trust for liquidity.

Thus we get an oil industry focused on offshore drilling instead of conservation and alternative energy. We get a health-care industry focused on maximizing transaction costs rather than health-care outcomes.

An Emphasis on Collaboration

Business legitimacy won’t be regained as long as it remains all about competing successfully with other stakeholders rather than collaborating with them. It can be regained if business can reembrace Peter Drucker’s admonition that “the purpose of business is to create and serve a customer.” A solid step toward that goal would be to force ourselves systematically to look past the short term in all our business affairs.

And business is being rudely reminded that legitimacy derives from society, which occasionally makes its will known via the political system. The smart bet would be to collaborate, not compete.

Porter is right that legitimacy must come from within business itself, not from charity, CSR—or community development. But his own doctrine of competition will continue to work against business solutions for social problems until and unless it rids itself of the poison of short-termism.

Rebuilding Trust in the Financial Sector

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This article was first published in Businessweek.com

“Much has been written about the foolishness of the risks that the financial sector undertook, the devastation that its institutions have brought to the economy, and the fiscal deficits that have resulted. Too little has been written about the underlying moral deficit that has been exposed—a deficit that is larger, and harder to correct.”

—Joseph Stiglitz

“‘Is not commercial credit based primarily upon money or property?’ the committee’s counsel asked. ‘No, sir,’ [J.P.] Morgan replied. ‘The first thing is character …. Because a man I do not trust could not get money from me on all the bonds in Christendom.'”

—J.Pierpont Morgan

Trust is the bedrock of financial institutions, according to authorities including, but hardly limited to, the two cited above. Yet trust in the financial sector lags even trust in government, itself now at a 50-year low, according to recent survey data from Pew, Edelman, and Harris. This is not merely an economic issue, or even a legal issue. It is also a social and moral issue.

That raises a vexing public policy question: How do we go about rebuilding trust? Trust goes well beyond the narrow realm of statistical dependability. It raises issues of character, of the ability to accept the word of those with whom we do business. At the simple level of accepting a piece of paper as “legal tender” because a government says it is, all financial institutions and transactions ultimately rest on personal, emotional, and social trust. Yet our usual approaches to rebuilding trust fail on all these counts.

Most solutions to rebuilding trust in the financial industry boil down to four generic approaches: structural, regulatory, compliance, and incentives. They are all rooted in either economic or legal perspectives.

Breaking Up the Big Banks?

None of them deal with trust—both a social and a moral issue—in either social or moral terms. That failure suggests why all four customary approaches are themselves inadequate. Here’s how and why we need another approach.

• Structural Structural change in the industry includes solutions such as reviving the Glass Steagall Act or breaking up too-big-to-fail institutions. But the dominant trend in financial services since 1990 has been consolidation, not breakup. Switching directions might not be easy and doing so calls for judgments about what size financial institutions makes sense since some experts—for instance, Larry Summers—argue that we need fewer, not more, small financial institutions.

Would breaking up work? Note that Canada’s banking system is far more concentrated than that of the U.S., yet performed far more safely in the recent crisis. The U.S. has done breakups successfully in the entertainment, telecom, and oil industries. However, breakup in the accounting industry came coupled with massive paperwork. Can it be done more cleanly in the financial sector than in accounting? A breakup policy is a massive and expensive bet to place in the face of conflicting data.

The structural solution has one major problem: It tries to solve an issue of social trust via the law.

• Regulatory. Some suggest greater regulation, either by giving discretionary power to regulators (e.g., capital requirements) or by more aggressive enforcement, as in the recent Securities & Exchange Commission suit against Goldman Sachs (GS). A look at the last eight years suggests, however, that ineffective regulation has been part of the problem.

Not only the SEC, but the Federal Emergency Management Agency, the Environmental Protection Agency, the Federal Aviation Authority, and the Food & Drug Administration have been criticized for ineffectiveness in recent years.

Some of the regulatory problems lie in the unequal power of governmental institutions vs. the comparatively wealthy industries they regulate. The gaps are particularly apparent in the securities and pharmaceutical industries. To the extent that money implies sophisticated operations, it is economically and politically problematic—if not impossible—for a regulator to achieve parity. One could even argue that the regulated always end up in control of the regulators.

The regulatory solution has one major problem: It tries to solve an issue of social trust with politics.

• Compliance. A further approach to restoring trust is to define a set of observable processes and activities and to presume that if companies’ actions are in compliance with them, that their resulting behaviors will be trustworthy.

The compliance approach suffers two defects. First, it requires the inference that good input generally results in trustworthy output—often true, but hardly a slam dunk. Second, it substitutes mechanical behaviors and processes for intentions and values. Not only do behaviors not imply specific motivations, but the act of substituting behaviors for ethical motivations tends to decrease the role of motivations in the first place.

Compliance requires a far lower threshold of behavior than following trustworthy motives. It’s no accident that so much of the financial industry prefers compliance-based standards to fiduciary standards. Compliance is a much lower standard that doesn’t require client-focus.

The compliance solution thus has one major problem: It tries to solve an issue of social trust with business processes and data observations.

• Incentives It’s common for financiers, lawyers, business students, and politicians to say that the issue boils down to preventing perverse incentives in the economic system. So common, in fact, that it’s easy to overlook two huge flaws in this argument.

First, to say that the problem is a need for incentives must raise the question: Who shall design the incentives? The “free market” has proven inept at it; worse, it’s hard to point to a superior centralized-design model.

Second, this view of companies and leaders makes them indistinguishable from rats in a maze being led one way or another by bells, lights, and cheese. It makes management an exercise in mechanics and pretty much gets rid of the notions of personal trust and ethics.

The incentives solution thus has one major problem: It tries to solve an ethical issue by reducing it to a matter of neoclassical and behavioral economics.

There is one remaining solution. It is fairly obvious, yet it usually gets rejected out of hand in a business culture that has come to pride itself on being scientific, logical, and metrics-driven. That solution is for society to demand personal trustworthiness from the leaders of its institutions.

Before exploring just how to do this, let’s examine the proposition itself. Here’s what Warren Buffett had to say: “Avoid business involving moral risk; no matter what the rate, you can’t write good contracts with bad people.”

Here’s what Alan Greenspan said in testimony in July 2002: “”Our market system depends critically on trust—trust in the word of our colleagues and trust in the word of those with whom we do business.”

Those are highly credentialed capitalists. Yet, despite the support for social trust from economists and corporate leaders, the idea of improving personal trustworthiness has little presence in most proposals to improve trust.

Corporate Defence: “It’s not Illegal”

Not one of the four traditional solutions to increasing trustworthiness in the financial industry aims at raising personal trustworthiness on the part of leaders.

If anything, they are absolved of personal responsibility to any stakeholder constituency—particularly customers. Even the Sarbanes-Oxley Act’s requirement that chief executive officers personally sign off on accounting statements has had the perverse effect of making CEOs far less candid, as I found in an interview I did with L.J. Rittenhouse.

The dominant belief in business today is that a company’s sole social purpose is to make profits. This regrettable belief led to the spectacle last summer of three insurance companies testifying in Congress that they would not drop their policy of pursuing extraordinary rescission because it wasn’t illegal.

When companies are charged with immoral and unethical behavior and the corporate response is “it’s not illegal,” we have lost something more—our ethical anchor.

We need to look elsewhere for serious improvements in personal trustworthiness. There are three particular sources:

  1. 1. Business Schools. This means not only MBA programs, but executive-education programs as well. Universities should be urged to undertake large-scale programs to reexamine the fundamental role of personal ethics and character and to teach it in a variety of ways.
  2. 2. Boards of Directors. Ben Heineman has written eloquently for this Web site about the governance needs in this area. Here’s what Warren Buffet wrote in Berkshire Hathaway’s 2009 Shareholder Letter: “The CEOs and directors of the failed companies, however, have largely gone unscathed. Their fortunes may have been diminished by the disasters they oversaw, but they still live in grand style. It is the behavior of these CEOs and directors that needs to be changed.”
  3. 3. Industry Associations. Directors of industry associations need to recognize that short-term selfish behavior is harmful to their constituencies in anything beyond the short run, then focus on broader agendas that improve the long-term health of their members’ industries.

As for the rest of us: If the language of ethics and morality sounds stuffy, stilted, and decidedly unhip, we need to get over it—quickly. The problem goes far beyond Goldman, subprime mortgages, and government. This is what a crisis in public trust looks like. We can’t look solely to economists and lawyers to lead us out of it.

Are You Talking Your Way Out of a Sale?

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This article was first published in Entrepreneur.com

What’s the best way to answer the question, “So, tell us a little bit about your company?”

If you’re like most salespeople, you view this as a sincere invitation to rattle off all those key points you’ve rehearsed, all those selling points and value propositions you’ve developed, tweaked and improved with each pitch.

But when customers ask that question, they are not, in fact, all that interested in hearing about you. It’s not that they’re lying to you, their intentions are good. The problem is they never went to buying school, and frankly they just don’t know what else to ask you.

Unfortunately, they use the words “tell us about yourself”—and we hear it literally. They’re not interested in your story—they want to hear about their story. This is often the fork in the road that can send you down the path of literally talking your way out of the sale.

How Do You Make Your Story Their Story?

First, if the client asks you to tell them about yourself, you shouldn’t embarrass them by refusing to do so. But you can quickly turn the conversation back to them. And once they start talking about themselves you have an opening to weave your story lines into theirs.

You may recognize this as a form of samples selling. Product salespeople know it well—instead of talking about the product’s features, give the customer a sample. If you’re selling cars, offer a test drive, if you’re selling ice cream, hand out little wooden spoons.

The way you do samples selling in complex, intangible services is to actively engage the client in a discussion about their situation. Now, in the context of their situation, you can demonstrate your capabilities in a meaningful and relevant way.

You don’t want to be a name-dropper or a show off (that’s just annoying), but if you’re having a serious conversation with the customer you’ll easily find places to say things like:

  1. “Ah yes, that’s just what Intel did in a similar situation,”
  2. “So, doesn’t that leave you with just choice a and choice b?
  3. “Most of the time, that ratio is less than half, isn’t it?”
  4. “The majority of my clients choose to do X rather than Y; which way did you go on that issue?”
  5. “Have you ever thought of outsourcing that process?”

Think of selling this way as showing, not telling. You are actively engaged in showing the customer how you fit into their story—and you’re helping them tell that story going forward.

Let your competitors sell by telling their story. It won’t work very well because the only story the clients are interested in is their own. You be the one to work your way into their story. Work your way into their story—don’t talk your way out of it a sale.

Why Should We Buy from You? Good Question!

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This article was first published in Customer Collective

You know the scenario. You’ve worked to get the first meeting set up, and you’ve finally got it. It may or not be a full-blown pitch, but you know there’s going to be one question at the heart of the meeting. You may or may not hear the question phrased precisely this way, but it’s implicit:

“So—let’s cut to the chase; why should we buy from you?”

You have a strong feeling that the way you answer this one question is going to be crucial to your success. And you’re probably right.

What’s Behind that Question

The actual body language of the client may vary, but the emotion implied by the question pretty much translates as:

“All right, Ms. or Mr. Hotshot, it’s put up or shut time. You’re on the line. Do something to impress me; let me see what you’ve got. I’m just going to stand here with my arms crossed and watch you perform. And, it goes without saying—you’d better be good.”

It is, in other words, about as high pressure as it gets.

But if we can stop the fear for just a moment, we can ask what’s behind the client’s setting up of this little drama.

Often there’s a bit of a power game going on; the client is not-so-subtly telling you who’s in charge here, who’s got the decision-making power and who ultimately calls the shots.

But the client also has his or her own fears. They sense that in this one area, you have more expertise than they do; you know much more about the pricing than they do; and that they don’t even have a good idea of how they’ll make the decision. Those are good grounds for feeling fearful—and for perhaps wanting to even-up the balance of fear.

Additionally, the client generally doesn’t really know what else to ask (unless they are a professional purchasing agent). By saying “tell us about yourself,” they are trying to sound definitive, while internally just hoping you’ll say something that makes a great deal of sense to them, that will make their decision easier.

They also hope that by phrasing a question this way, they’ll get the ‘best case’ for each firm they talk to, thus making comparisons easier for them.

And finally, in one sense they actually do mean what they’re saying. They’d love it if you really could convincingly explain to them why they should buy from you—it’d make things easier, and give them a script for the uncomfortable job of telling others why they didn’t get chosen.

There’s a lot of psychology going on here, and your answer needs to deal with all of it. Fortunately, there’s a very good answer that does just that.

Your Answer Must Respond to Several Questions

Given all that’s behind the question, the ideal answer should do the following:

  • set the client at ease
  • make them feel they asked a great question
  • answer their question in a direct and literal way
  • give them a comfortable road forward.

So here’s a generic form of the ideal answer to, “Tell us why we should buy from you?”

“Gosh, I’d love to tell you why you should buy from us, but of course the truth is, we’ve just met. It would be arrogant of me to start telling you at this point what you should do before we know more about each other.

“I don’t want to be evasive, however, so let me suggest this. I can tell you right now the main two reasons our customers have chosen to buy from us. And, I can tell you two reasons why some people who chose not to buy from us made that decision.

“That should help a little. But to answer the question for you—the only answer that matters—I’d suggest we talk about your issues. We’re happy to take the lead—we see three key issues for you and will be glad to say what we suspect about them—but it should be a dialogue between us about how we each see those issues and what we know about them.

“And on the basis of that discussion, I think we’ll both know pretty well within 30 minutes whether you should, or shouldn’t, buy from us. It’ll probably be as clear to us as it is to you. And by the way, if it looks like you shouldn’t buy from us, we’ll be right there with you, because the last thing we want is to get involved in something that isn’t right for us.

“So, what do you say? Let’s talk about those three issues, shall we?

That answer sets them at ease, compliments their question, provides direct and literal responses, and offers clear next steps. And It has one added virtue: it’s the truth.