Being a smart manager is different from being a smart intellectual. Brilliant professors rarely emerge as great managers. Conversely, many of the best entrepreneurs today are college drop outs. Bill Gates, Lawrence Ellison, Mukesh Ambani, Mark Zuckerberg and Steve Jobs have all made billions without the need for a degree.

Asking great managers what makes them great is an exercise in toadying and ingratiation which yields little more than platitudes and self-congratulation. I have tried it: it is not an exercise worth doing once, let alone repeating. For the most part they will talk about things like ‘experience’ and ‘intuition’. This is deeply unhelpful. You cannot teach intuition. Experience is a recipe for keeping junior managers junior until they have grown enough grey hairs to become part of the management club. I had to find out another way of discovering how managers thought, short of wiring them up to machines all day. So I did the next best thing: I decided to watch them work. Watching people work is invariably more congenial than actually doing the work.

Each person and each day is unique. Some people prefer face-to-face work rather than dealing through email; some days are totally consumed by a couple of big meetings; some people work longer and a few work less. But once we stripped away all these variances, we found these familiar patterns to a manager’s working day:

• high fragmentation of time
• management of multiple and competing agendas
• management of multiple constituencies
• constant flow of new information requiring reaction, change, adjustment
• low amounts of time working alone.

This is a pattern which is familiar to most managers. It has been compared to juggling while trying to run a marathon in a series of 100-metre sprints without dropping any of the balls. It is a world in which it is very easy to be busy but very difficult to make an impact. Activity is not a substitute for achievement. The challenge for managers today is to do less and achieve more.

At this point, pause to consider what you do not see in the normal management day:

• decision making using formal tools, such as Bayesian analysis and decision trees
• problem solving either by sitting alone and thinking deeply or by working in a group with a formal problem-solving technique;
• formal strategic analysis of the business.

Many MBA tools are notable by their absence from the daily lives of most managers: organisational and strategic theory go missing; financial and accounting tools remain functionally isolated within finance and accounting; marketing remains a mystery to most people in operations or IT.

The absence of these tools from most managers’ days does not make them irrelevant. They may be used sparingly, but at critical moments. Most organisations would not survive long if all their managers were conducting non-stop strategic reviews of the business. But a good strategic review once in five years by the CEO can transform the business.

By now my search for the management mindset was becoming lost in the whirl of activity that is the standard management day. It looked like great managers did not need to be intellectually smart and did not need the standard intellectual and analytical tools that appear in books and courses. But it would be a brave person who accused Bill Gates and Richard Branson of being dumb. All the leaders and managers we interviewed were smart enough to get into positions of power and influence. They were smart, but not in the conventional way of schools. Management intelligence is different from academic intelligence.

We decided to dig deeper, thereby breaking the golden rule ‘when in a hole, stop digging’. We hoped we were not digging a hole. We hoped we were digging the foundations of understanding the management mindset. We eventually found these foundations – explored in the following sections of this chapter – all of which can be learned and acquired by any manager:

Starting at the end: focus on outcomes

Achieving results: performance and perceptions

Making decisions: acquiring intuition fast

Solving problems: prisons and frameworks – and tools

Strategic thinking: floors, romantics and the classics

Setting budgets: the politics of performance

Managing budgets: the annual dance routine

Managing costs: minimising pain

Surviving spreadsheets: assumptions, not maths

Knowing numbers: playing the numbers game

If we were being intellectually rigorous, not all of these skills might exist in a chapter on management IQ. But there is some method behind the randomness.

Outcome focus and achieving results (Starting at the end and Achieving results) are included in this chapter because they are at the heart of the effective manager’s mindset. The way an effective manager thinks is driven by the need to drive results and achieve outcomes. This creates a style of thinking which is highly pragmatic, fast-paced and quite unlike anything you normally find in textbooks and academia. It is about achievement, not activity.

Making decisions, Solving problems and Strategic thinking are classic IQ skills. There is a huge difference between how textbooks say managers should think and how they really think. Textbooks look for the perfect answer. The perfect solution is the enemy of the practical solution. Searching for perfection leads to inaction. Practical solutions lead to what good managers want: action. For many managers, the real problem is not even finding the answer: the real challenge is finding out the question. The really good managers spend more time working out what the question is, before attempting to find the pragmatic answer.

Setting budgets, Managing budgets, Managing costs, Surviving spreadsheets and Knowing numbers could be called FQ – financial quotient. We expected to find that Finance and Accounting is 100 per cent IQ. We were 100 per cent wrong. In theory, financial management is a highly objective and intellectual exercise in which answers are either right or wrong: the numbers do or do not add up. For managers, the intellectual challenge is the minor part of the challenge. The major part of the challenge is not intellectual: it is political. Most financial discussions and negotiations are political discussions about money, power, resources, commitments and expectations. In many ways, financial management could better belong in the PQ (political quotient) chapter. Out of deference to financial theory, it is included in this, the IQ chapter.

In the sections which follow, we will pay our dues to theory. Theory is not useless: good theory creates a framework for structuring and understanding unstructured and complex issues. The main focus, however, is on the practice of how managers develop and deploy these IQ skills in practice.

2.1 Starting at the end: focus on outcomes

Managers have long been told ‘first things first’. This is tautological nonsense: it depends on what you define as ‘first’. In practice, managers do not start at the start. Effective managers start at the end.

For speed readers, let’s repeat the message: effective managers start at the end.

Working backwards from the desired outcome, rather than shambling forwards from today is at the heart of how good managers think and work. This outcome focus is essential because it achieves the following:

• creates clarity and focuses on what is important
• pushes people to action, not analysis
• finds positive ways forward, rather than worrying about the past
• simplifies priorities
• helps to identify potential obstacles and avoid them.

Outcome focus is a relatively easy discipline to learn. It requires asking the same four questions time and time again:

1. What outcome do I want to achieve from this situation?
2. What outcome does the other person expect from this situation?
3. What are the minimum number of steps required to get there?
4. What are the consequences of this course of action?

Keep asking these four questions relentlessly and you will find the fog of confusion lifts from most situations, and you can drive a team to action.

1 What outcome do I want to achieve from this situation?

Asking this question drives us into action and gives people a sense of clarity and purpose. It is also a way of taking control of a situation and gaining benefit from it. It is a way of avoiding becoming dependent on other people’s agendas, being purely reactive, or of slipping into analysis paralysis. Two examples will make the point:

2 What outcome does the other person expect from this situation?

Most managers are serving clients of some sort. Their client may be their boss, a colleague or an external partner. One way or the other, managers are supporting other people’s agendas. Understanding what the other person wants is a very simple way of clarifying what the desired outcome of any situation is. Achieving clarity on this question enables the manager to:

• simplify and focus on the task in hand – the extraneous work quickly disappears
• predict and pre-empt problems and questions
• deliver appropriate outcomes to the other person.

Look back at the two examples on the previous page. In each case, the individuals concerned were able to understand what they needed to do by understanding what ‘the other person’ wanted:

• The project team became focused on the outcome for the client.
• The analyst’s presentation was focused on building a simple message for the person who needed to see the presentation.

3 What are the minimum number of steps required to get there?

There are plenty of people who make things complicated. While some people cannot see the wood for the trees, others cannot even see the trees for all the branches, twigs and leaves. Effective managers have a knack of making things simple. Given the increasing time pressure on all managers, this is an essential skill to have. Discovering the minimum number of steps requires asking a few more questions:

• What is the desired outcome (again)?
• Are there any shortcuts: can I buy in a solution, get someone else to provide all or part of the solution; is there an authoriser who can short cut the normal approval channels?
• Does the 80/20 rule apply here: can I achieve 80 per cent of the result with just 20 per cent of the effort by focusing on the few customers who count, or the critical analysis that will really decide the issue, or by attacking the two big cost sinks that are causing the most problems?
• What are the critical dependencies? There is normally a logical order to events: billing comes after shipping comes after manufacturing comes after selling. Establishing this logical order breaks even the most daunting problem down into bite-sized chunks which people can manage.

4 What are the consequences of this course of action?

This question is about predicting risks, problems, unintended consequences and uncomfortable questions. If you can predict problems, you can pre-empt them. This is also the stage at which the manager may allow a little complexity to creep back into the course of action.

In theory, the shortest distance between two points is a straight line, except in non-Euclidean geometry. In practice, management find that the fastest route is often not a straight line. When you are sailing against the wind, the fastest route between two points is a zigzag. Sailing straight into the wind gets nowhere. This is an experience most managers understand after they have tried to sail against the political winds in their organisation.

The easiest way to work out the consequences of most management actions is to understand who the major stakeholders are and how they will react: each stakeholder has a different perspective and will have different criteria and needs. The finance department will worry about affordability and payback; marketing will look at competitive reactions; sales will worry about price and positioning; HR will look at the staffing implications. Once you have a map of who is interested in what, you can then plot a zigzag through all the constituencies to make sure each one is able to satisfy their required needs.

2.2 Achieving results: performance and perceptions

Managers have to achieve results. Results are not always about delivering a profit: not everyone has P&L responsibility. Managers may be responsible for project outcomes, quality outcomes, costs, product design, development and delivery, and recruiting and training staff. There are endless possible results that managers may be responsible for. Ultimately, the test for a manager is to make sure they deliver those results. For better or for worse, many organisations do not look too closely at how results are achieved, unless there is immoral or illegal activity involved. Conversely, if a manager fails to deliver results, the manager fails. Results are better than excuses.

There are essentially five ways in which managers can achieve acceptable results:

1. Work harder.
2. Work smarter.
3. Fix the baseline.
4. Play the numbers game.
5. Manage for results.

1 Work harder

This is an unpalatable truth in the era of work–life balance, which is shorthand for a wish to work less. This is also the 24/7 era, when we are permanently attached to various electronic tags which constrain us as much as a prisoner’s leg irons: there is no escape. Working harder, however, is not a lasting solution. Given the ambiguous nature of most managerial work, bosses do not know how much effort each manager is really putting in. If you achieve results, the assumption is that you can do more. So the reward of working harder is to get more work. You only get less work when you can no longer deliver or you complain loudly enough. Hard work is necessary, but it is not enough.

2 Work smarter

This is the desired outcome of results obsession: we find ways of doing things betterfastercheaper. Betterfastercheaper is the essence of capitalism. When a manager achieves betterfastercheaper the ideal result is promotion. The more immediate consequence is normally the same as working harder: an increased workload rather than decreased working time. Like working harder, working smarter is necessary but not enough.

3 Fix the baseline

Beating a soft target is easier than beating a tough target. Many managers realise that it is better to negotiate hard for one month securing a soft target than it is to work hard for 11 months trying to beat a tough target. Even CEOs do this: watch the frequency with which a new CEO discovers a black hole in the organisation’s finances which requires write-offs and adjustments to the corporate goals. Fixing the baseline does not enhance the prospects of the business, but it does enhance the prospects of your career.

4 Play the numbers game

There is an annual ritual in most organisations called ‘meet year-end budget’. Experienced managers know that this is coming, and they know that even if they are doing well, they are likely to be asked to deliver a little more in the last two months to make up for shortfalls elsewhere. This is where managers get creative. If they are doing well, they will hide spare budget for the inevitable year-end rainy day. If they are behind, they will use a combination of real actions on costs and whatever accounting smokescreens and mirrors can come to their support (see page 81 for more detail). This may appear cynical, but it is part of the reality of management survival.

The first four approaches all depend on the manager doing things. The role of the manager is to make things happen through other people. This leads to the fifth managerial option.

5 Manage for results

Managers make things happen through other people. There is a huge difference between doing (working harder and smarter) versus managing (enabling other people to work harder and smarter). Managers who try to do it all themselves are not really managing and, in the long run, are condemned to fail. Management is a team sport. You need to have the right people tackling the right challenges the right way: the focus of this book is on how you can make things happen through other people.

2.3 Making decisions: acquiring intuition fast

Decision making principles

Good managers are often referred to as being decisive. ‘Being decisive’ is one of those vague management terms like ‘professional’, ‘effective’ or ‘charismatic’ that is very difficult to pin down; no one can teach it and it is assumed that you either have it or you do not. We found that decisive managers typically show four specific behaviours:

1. Bias for action over analysis. Actions achieve results, analysis does not. Less analysis can often lead to a better solution because it forces discussion to focus on the big issues that make a big difference. Often, detail derails decision making.
2. Prefer practical to perfect solutions. Accept that the perfect solution does not exist. Find a solution which will work in practice, even if it is not perfect in theory. The perfect solution is the enemy of the good solution because the search for perfection leads to inaction. A good solution leads to action.
3. Solve the problem with other people. Use the collective knowledge, wisdom and experience of the organisation to gain insight. Use it to identify and avoid the major risks and pitfalls. But do not convert a problem-solving process into a political negotiation in which the solution is a fix designed to pacify everyone. The result will be the least offensive rather than the most effective solution.
4. Take responsibility. Where there are shared and unclear responsibilities, most organisations breathe a huge sigh of relief if you have the courage to step up and take responsibility. You become the person to follow. It is a defining moment which separates leaders from followers: most people will be very happy to follow you.

The behaviours described above are hallmarks of a decisive manager, at least on minor matters such as sorting out late deliveries, staffing problems, budget arguments. But these useful instincts often desert managers when they are faced with a major decision. As the scale of the problem escalates, the number of people involved in it grows and the rational and political risks increase. Suddenly, managers become very risk averse. The manager’s nightmare is to be held accountable for a decision which went wrong. To avoid this fate, managers seek refuge behind formal processes, exhaustive analysis and widespread consultation to optimise the decision and, more importantly, diffuse responsibility. Even if the decision turns out to be wrong, everyone has been so involved in the process that they will find it difficult to pin the blame on one person. What should be a rational process (make a decision) becomes a political process (avoid blame for a potentially damaging solution).

The larger the decision, the more risk averse managers become.

Managers are even more risk averse than the public. In general, the pay-off from making a risky and correct decision is quite low. Your success may be derailed by other factors or claimed by other people, and it will probably have a minimal impact on your overall pay and promotion prospects. But the consequences of making a risky but incorrect decision are huge: colleagues will make sure that the blame is pinned on you, and your reputation will suffer.

Decision-making traps

Analysis over action

Analysis is safe, action is risky. But analysis often throws up more challenges and more problems which require more analysis. Slowly, the problem-solving exercise takes on a life of its own. No one can see through the thicket of challenges and problems which the analysis is throwing up. Paralysis through analysis becomes an unwelcome reality.

Seeking perfection over practicality

Faced with small problems, shortcuts seem acceptable. But bigger problems deserve better solutions, and the biggest problems deserve perfect solutions. The perfect solution must also be the least risky solution. Except that in the messy world of management, there is no perfect solution. Any solution tends to be a trade-off between two unacceptable alternatives. No good solution exists on paper: good solutions only exist in reality.

Hiding behind other people

It is far better to be wrong collectively than it is to be wrong individually: no one wants to run the risk of being asked to don the corporate equivalent of the dunce’s cap. In some organisations it is better to be wrong collectively than right individually: being right against the grain is seen to be disruptive to the team. The search for collective responsibility is natural risk avoidance. Collective responsibility requires consensus, which rarely represents the best solution. The consensus solution represents the least unacceptable solution to each constituency: it is a political fix. The purpose of involving other people is not to achieve a consensus, it is to gain insight. Ultimately, one person needs to own both the problem and the solution. They should use other people to gain insight and to drive action, not to hide behind in case things go wrong later.

Shedding responsibility

Responsibility for large problems, and their solutions, is often shared among several departments. This can lead to an unseemly game of ‘pass the blame’: no one really wants to be associated with causing the problem. Analysis of the problem becomes bogged down in an autopsy about what went wrong, rather than what the solution should be.

Decision making in practice

There are many decision-making and problem-solving tools available to managers and these are covered in the next chapter. In practice, managers rarely use such formal tools. Instead, there are three questions they ask themselves which normally yield a practical answer:

1. Is there a pattern I recognise here?
2. Who does this decision matter to, and why?
3. Does someone know the answer anyway?

1 Is there a pattern I recognise here?

Pattern recognition is what managers often refer to as intuition or experience. Unlike intuition, however, pattern recognition can be learned. Pattern recognition is simply a matter of observing what works and what does not work in different situations. If you recognise a familiar pattern, you will be able to predict what actions will work or fail. You will appear to have intuitive business sense.

Pattern recognition comes into play when the manager realises that he or she is going to be responsible for making a decision. If it is a familiar pattern, it is normally an easy decision (see the box above for a typical example).

Effective managers observe and learn from everyday situations to build up their knowledge of what does and does not work in their own organisation. We may not have the luxury of reviewing 50 years of people managing conflicts, negotiating, influencing people or problem solving, but good observation builds our skills, helps our pattern recognition and helps us appear to have excellent business sense and intuition.

Pattern recognition can be acquired and learned in a range of decision-making conditions:

• Competitive reactions: long-established competitors know how one another will react, without the need for collusion which would break anti-trust laws. In many markets, there is a price leader from whom all competitors take their cues. If the leader raises prices, everyone else follows. If there is a temporary price reduction for a promotion, competitors ignore it. If the price reduction is permanent, competitors follow. This makes pricing decisions across companies very simple: it is called ‘follow my leader’.
• Buying decisions: Philip Green is a billionaire retail entrepreneur who owns several fashion chains in the UK. When he looks at a rack of clothing he is reputed to be able to cost each item accurately and to establish its proper retail price at a glance. The buyer who is perceived to have overpaid for any line items is likely to have an uncomfortable discussion with the boss. Green is able to do this because he has seen thousands of racks of clothing over several decades of retail experience. His expert judgement is based on piling up the experience. He can demonstrate intuitively good sense on buying matters because he has seen the purchasing patterns so many times before.
• Managing people, including bosses, is largely about pattern recognition. We quickly have to learn what turns people on and off in terms of working style, risk appetite, people versus task focus, process versus outcome focus and more. No pattern is the right pattern: from the manager’s perspective, the point is to learn what works with different people.

If a decision fits into a familiar pattern, then most managers have the confidence to make it. The P&G brand manager will approve the development of a new campaign based on judgement, without recourse to expensive and time-consuming market research. Green can buy effectively because he recognises the patterns unique to his trade.

2 Who does this decision matter to, and why?

Decision making is as much about politics as it is about reason. Managers need solutions which lead to action: the perfect solution which is not acted upon is useless. Decisions only lead to action if people support them. This means that managers will ask ‘who?’ as much as ‘what?’

There are essentially four possibilities here, each with a different outcome in terms of decision making:

1. The decision is most important to a team member. If possible, back the team member. Coach them and encourage them to arrive at a decision. Do not let them become dependent on you for making all their decisions: they will not grow professionally and you will die under an avalanche of requests for decisions.
2. The decision is important for one of your bosses. If you understand his or her agenda, it should be clear what the preferred decision is: frame the problem and the solution, and sell it to the boss. If the choice is unclear, work through the issue with the boss.
3. The decision is important to another colleague. Long term, managers need alliances and supporters across an organisation, so talk to the colleague and find a mutually advantageous solution. Help them: win a friend.
4. The decision is important to you and your agenda. If the choice is obvious, decide. If it is not, get help (see below).

This is decision making which is free of any problem-solving skills. The key skills are understanding the agendas of bosses, colleagues and your team, and framing the decision to support those agendas. For this reason, many decisions emerge gradually over time. A consensus slowly builds, small actions are taken which favour one choice over another and gradually a preferred course of action emerges. This fits with the apparently chaotic schedule of many managers: lots of small interactions over the day help them understand one anothers’ agendas, sell an agenda, gather information and migrate slowly towards a series of decisions.

3 Does someone know the answer anyway?

Management is a team sport. No single manager is expected to know all the answers, but they may be expected to find all the answers.

For more complex decisions, no one knows the answer. But many different individuals in finance, marketing, operations, IT, sales and HR will hold part of the answer. They each hold one piece of the jigsaw and the job of the manager is to put the pieces together. This is both an intellectual process (discovering the best answer) and a political process (building a coalition in support of the emerging answer). This can take time. It may require several iterations before consensus can emerge and all the different agendas can be aligned.

In Japan, this consensus-based decision making is called nemawashi. The idea is to build agreement to the decision before the decision-making meeting. Carry out the initial conversations in private. This is critical. As soon as anyone has taken a position in public, they will feel the need to defend it at all costs, rather than lose face by changing their position. In private, you can have much more open and flexible conversations: real issues can be discussed, agendas can be aligned and commitment can be built. The more you listen, the more you will understand the politics of the decision and the views of different stakeholders. You will gain more insight into the nature of the decision: you will better understand what the real challenge is, what the different options are and the consequences of each option. The more you listen, the more likely it is that a consensus will emerge around one preferred solution.

The final decision-making meeting still has relevance, but it is not about making a decision. It is about confirming in public to all the stakeholders that there really is consensus and agreement. It builds confidence and legitimises the decision which has already been made in private.

2.4 Solving problems: prisons and frameworks – and tools

Problem solving is sometimes thought to be the preserve of people who are brains on sticks. In reality, brains on sticks are precisely the wrong sort of people for solving most management problems: clever people search fruitlessly for the non-existent perfect solution so they achieve nothing. A workable solution is preferable to the perfect solution because it leads to action. The perfect solution is the enemy of the practical solution.

Three principles lie behind effective problem solving:

1. Know your problem
2. Focus on causes, not symptoms
3. Prioritise the problems.

Smart managers think they know all the answers. Really smart managers know the right questions. The best answer to the wrong question is useless. The purpose of this section is to help you identify the right problem, ask the right questions and arrive at a practical solution.

1 Know your problem

All students are given strict briefing before sitting any exam: ‘Make sure you answer the question.’ This is remarkably obvious advice, which is ignored remarkably often – with catastrophic consequences. The same advice needs to be given to all managers: ‘Make sure you answer the question.’ At least with school exams, the question is clear. In business, no one hands out an exam paper: you are expected to know what the exam question is without being told.

At junior levels of management, the exam questions are often pretty clear. They tend to be expressed as simple performance goals: sell more product, trade more profitably, bill more personal time. As managers continue their careers, clarity reduces and ambiguity increases. The goal may be clear (make your profit target) but the means to the end are not. It pays to fight the right battles the right way to achieve the overall goal. You have to know which are the right battles.

2 Focus on causes, not symptoms

No one would think of trying to cure chicken pox by using spot remover. But such confusion over symptoms and causes happens regularly in business. Many cost-cutting programmes fall into this trap. The CEO looks strong and effective announcing some target job cuts or cost savings. In highly macho form the message was conveyed to the CEO’s management team as: ‘Give me 20 per cent cost reduction and 20 per cent head count in 12 months, or you will be part of the 20 per cent. No excuses.’ Over 15 per cent was delivered and some top executives were fired. It took years for the business to recover from the mindless cost cutting of marketing (loss of market position and revenues), of R&D (loss of new product flow) and of talent (loss of morale).

Cost problems are always a symptom of something else, such as:

• inadequate revenues, which in turn may be a product problem, marketing and sales problem, distribution problem
• wrong product and customer mix, which are expensive to serve and do not pay enough to justify the cost
• ineffective processes and inefficient working practices.

The business goes in dramatically different directions if you choose to focus on increasing revenues, changing the product and customer mix or improving processes and working practices. Simple head count reduction will not achieve any of these positive outcomes.

At a smaller scale, many HR practices deal with symptoms, not causes. Performance-based appraisal and promotion systems sound highly dynamic. But they focus on symptoms (how well did the person do?) versus causes. Understanding the causes of good or poor performance is at least as important as measuring the outcome:

• Why did they do well or poorly?
• What skills need to grow to raise performance?
• What assignments will best suit this person in future?
• Are they building the right skills and experiences for their career and promotion prospects?
• How can performance be improved?

The skills-based approach to appraisal results in a better appraisal discussion. The good/bad performance appraisal can be confrontational and not very actionable. Many managers shy away from giving bad news, which helps no one. Focusing on causes (not skills) is more positive and actionable.

Anyone can spot a symptom of a problem. It does not take a genius to see that profits are not high enough. The mark of a good manager is one who can go beyond symptoms and unearth the root causes of the problem. There are no easy shortcuts available. But there is one simple principle – keep on asking one question: ‘Why?’

3 Prioritise the problems

Management is never short of problems and challenges. There are not enough hours in the day to solve them all. So managers have to be selective. Three simple questions help identify which problems are worth addressing:

1. Is it important? Does this problem make a significant difference to achieving my overall goals? Put another way, if this problem is not resolved will it have a serious adverse effect? Is there a simple stop-gap solution which will prevent things getting worse while I concentrate on other problems?
2. Is it urgent? Do today what you have to do today. Will the problem be worse tomorrow than it is today, and does it matter? If it does, act now. Can I buy time? Problems do not always become worse: time has a habit of throwing up more information, more opportunities and more potential solutions. It can also heal emotional upsets.
3. Is it actionable? One of the dubious joys of management is to have to live with problems which you can do little or nothing about. You may be at the mercy of strategic challenges and decisions, IT projects going awry or competitive pressures forcing sudden and unexpected demands on you. Under these circumstances, the best thing to do is nothing. Focus on what you can control, not on what you cannot control.

Problem-solving tools

Most managers solve most problems intuitively. It is rare that managers sit down and do a formal problem analysis. But it helps to have a few tools and techniques at hand. You do not need to get pen and paper out every time you want to use them. It is enough to have the frameworks in your mind, and then you can use them to check and challenge your own thinking.

Here, we cover six classic problem-solving aids:

1. Cost–benefit analysis
2. SWOT analysis
3. Field force analysis
4. Multifactor/trade-off/grid analysis
5. Fishbone/mind maps
6. Creative problem solving.

No single way is the best way. They all have value in different contexts. The key is to pick the right approach for the right context. Typical assumptions for each approach are:

1. Cost–benefit analysis. Assumes a well-defined problem and solution which needs to be evaluated financially for formal approval.
2. SWOT analysis. Assumes a highly ambiguous, often strategic, challenge which needs further structuring.
3. Field force analysis. Assumes a choice is to be made between two courses of action including non-financial and qualitative criteria.
4. Multifactor/trade-off/grid analysis. Assumes a choice between multiple competing options with multiple criteria of varying importance.
5. Fishbone/mind maps. Assumes that there is a problem where the root causes need to be identified and which needs to be broken down into bite-sized chunks.
6. Creative problem solving. Assumes a highly complex problem to which there is no known answer and; for which, an original approach is required.

1 Cost–benefit analysis

This is the staple of all good management decision making. When it is not used, disaster often ensues. The disciplines of cost–benefit analysis are most commonly abused on IT system changes which are sold in on the basis of being ‘strategic’. When managers say ‘strategic’ they often mean ‘expensive’.

A strong cost–benefit analysis is highly compelling. It forces management to take a proposal seriously: no executive wants to turn down a credible proposal which is financially attractive. The key here is credibility. It is not enough to produce a financially attractive proposal. It has to be credible. There are three elements to making the proposal credible:

1. Strong, logical reasoning.
2. Validation of the numbers by the finance department: if it does not support the calculations, then you are dead meat. Involve finance early, get its advice and buy-in. Make sure you produce numbers to a format that finance recognises and can approve.
3. Operational credibility. Venture capitalists look beyond the numbers to the people who are behind the numbers. They back people as much as they back ideas. Executives do the same. It pays to find highly credible supporters and backers for your proposal.

Each organisation will have its own way of looking at financial benefits. The most common are:

• payback period
• ROI (return on investment)
• NPV (net present value).

Of these three, payback is the simplest, but NPV is the most rigorous and is relatively easy. ROI is only included because it is widely used: in its simple form it is misleading and in its more refined form it is very complicated.

Payback period

How long will it take me to recoup my investment? One bank has a three-year payback period for staff redundancies. If it costs $100,000 to fire someone who costs the bank $50,000 a year including benefits, then the payback period is two years and it passes the three-year test, provided no replacement is hired.

ROI: return on investment

This is where things get sticky. There are many different ways of calculating ROI. Each expert will start climbing the wall and spitting blood if you do not use their pet method. So the advice is to work with your finance department and discover which rules it plays to. Enlist its support and, preferably, get it to do the calculation for you.

The problems start with knowing what the required rate of return should be. There are long and tedious debates about this which involve discussion of forecast and historic equity risk premiums, and one versus five year betas, and much more. We will avoid that debate for now. For most managers, the required ROI is mandated from above. It may vary according to the risk of the project: a cost-savings programme may have a required return of 10 per cent; expansion into a new market may have a required return of 15 per cent to adjust for the risk of the project. To do this analysis you need to know the cost of the investment and the net benefits it will produce over its lifetime, together with whatever rate of return you are required to achieve. A simple worked example, looking at the cost of installing AVR (automatic voice response) in a call centre to replace humans, follows.

This simple form of ROI is misleading. It assumes that a dollar today is worth as much as a dollar in four years’ time: the next section shows this is untrue. The alternative to this form of ROI allows for the different value of a dollar over time. It is called IRR (internal rate of return) and is effectively the ROI on an investment which results in an NPV of zero. This requires first understanding NPV, which is useful.

The most practical solution is to work with whatever rules your finance department has in place. The rules may be wrong and misleading, but if that is how decisions are made, then it makes sense to work to them.

NPV: net present value

This is perhaps the most orthodox and reliable form of cost–benefit analysis.

The one key concept here is the discount rate. This is a way of saying that a dollar today is worth more than a dollar tomorrow: I can invest today’s dollar and make it worth $1.10 this time next year. And your promise of a dollar next year is much more risky than your offer of a dollar right now. Because of risk I will take less than one dollar (perhaps even 70 cents) right now instead of a promise of a dollar later. The discount rate adjusts for the time and risk effects of accepting a dollar later instead of a dollar now.

A 15 per cent discount rate implies that a dollar now is worth as much as a promise of $1.15 next year, $1.32 the year after and about $2 in five years’ time. To put it the other way round: if I am promised $2 in five years’ time, that is worth about $1 to me today. I apply a discount factor of 0.5 to the promise of a dollar in five years’ time.

This analysis also shows that the AVR is a worthwhile investment. But it is a very limited calculation because:

• It does not factor in major sensitivities and uncertainties (see below).
• It ignores second-order effects (disgruntled customers left hanging on the phone, and possibly switching supplier).
• It ignores alternatives (outsourcing or offshoring the call centre, upgrading the call centre to make it revenue generating through cross selling, segmenting the customers so that high-profit customers still get personal service, etc.).

Sensitivity analysis

This gets us into the land of ‘what if’, for which spreadsheets are a saviour. ‘What if’ calculations allow us to test our major assumptions. For instance, in the NPV example above, the AVR project becomes unattractive (it achieves a negative NPV) if:

• the required return is raised to 20 per cent
• the AVR needs to be replaced after three years, not four
• the net cost savings turn out to be $300 per year, not $400
• the AVR kit costs $1,200.

Managers quickly learn how to manipulate assumptions to ensure the right answer appears in the bottom right-hand corner of the spreadsheet.

In the most sophisticated world, different outcomes can be assigned different probabilities and a weighted NPV can be derived. Probability analysis is important in some industries: the profitability of financial leasing of computers depends heavily on resale values and likely depreciation rates; exploration for oil depends heavily on probabilities. But for most management decisions, decision making is much simpler. If a project only just scrapes past a cost–benefit analysis, it is probably not worth it: you know the numbers will have been fixed to pass the test and that reality is unlikely to be as rosy as the forecast. If a project is worthwhile, it tends to sail past any cost–benefit analysis with ease. If it underdelivers against forecast, it may still beat the required return for the organisation as a whole.

2 SWOT analysis

Not all problems succumb immediately to a cost–benefit analysis. Cost–benefit analysis implies a degree of certainty about outcomes. Managers know that the only true certainty is uncertainty. Putting some structure into ambiguous and uncertain situations helps decision making and problem solving. Perhaps the simplest way of structuring unstructured problems is a SWOT analysis. SWOT stands for:

Strengths

Weaknesses

Opportunities

Threats.

SWOT is a simple way of looking at strategic challenges. For instance, should Techmanics (a fictitious company) expand into China?

Strengths: Techmanics has some great technology and wonderful products which no one else can fully match. Strong R&D will keep us ahead of competition.

Weaknesses: No Chinese distribution, no Chinese staff who can understand the market.

Opportunities: Vast and growing market, especially in the luxury and gadget segment where Techmanics is focused. The high end of the market is highly profitable.

Threats. No intellectual property protection: Techmanics’ products may be ripped off. Death Star Ventures may enter China before we do and condemn us to being also-rans.

This highly simplified SWOT analysis shows:

• The value of structuring a difficult challenge: it gives a framework for further discussion.
• The value of exploring alternative perspectives: it looks at the costs and opportunities of expanding and not expanding into China, and at possible competitive reactions.
• The need to frame the issue before embarking on a detailed cost–benefit analysis.

3 Field force analysis

Field force analysis is a very fancy way of writing down the pros and cons, or the benefits and concerns of a specific decision. It is best used to evaluate a specific course of action where there are multiple, qualitative factors which affect the outcome. For instance, one company had a discussion about whether to introduce a floor cleaner based on a successful bathroom surface cleaner which already existed.

This simple analysis helps frame and focus the discussion. The ‘Against’ column becomes a risk and issue register. Standard problem-solving and brainstorming methods can be used to help resolve each of the risks and issues identified.

4 Multifactor/trade-off/grid analysis

This family of problem-solving analyses is a good way of making a choice between multiple, hard-to-compare options. The real value of this approach is that it forces people to think about the criteria they are using to make a decision. It forces them to be explicit about how important one criterion is relative to another. This cuts through many rambling debates where managers are arguing for different choices and are using compelling but competing arguments. All the arguments cancel each other out and result in a tense stalemate. This approach prevents the stalemate and leads to a much more productive discussion.

It has six simple steps:

1. List the criteria for making the decision.
2. Score each criterion for how important it is.
3. List your options.
4. Score each option against each criterion.
5. Adjust the raw scores for the weightings you gave in step 2.
6. Add the scores up and, hopefully, come to an agreed outcome: if not, at least you will know why, and where you disagree you can have a more focused discussion.

The following example looks at the choice of a new office.

5 Fishbone/mind maps

This family of problem-solving techniques is another area which has been hijacked by experts. These techniques are useful for breaking a big problem down into bite-sized chunks. They are also a good way of discovering the root cause of a problem, as opposed to its symptoms. They are very visual exercises, which are often best done in small groups. The experts are very particular about making you use different colours for different parts of your diagram and can inflict an entire philosophy on your simple need to solve a problem.

For our purposes, we can keep it simple. The key steps are:

1. State the problem (which appears as the head of the fish in the fishbone).
2. Identify some of the major possible causes of the problem (the big bones of the fish).
3. Drill down in each major area and identify specific issues to address or investigate further (the small bones in the fish). You can drill down even further on any of these items, if necessary.

A simplified example of a fishbone analysis is shown overleaf.

As a result of this brainstorming, you will have identified the major causes of the problem/symptom. If there is agreement about the root cause, move to action. Otherwise, you may need to do some more legwork to understand individual issues. Either way, you will have broken a big and messy problem down into manageable chunks, and you will have moved away from dealing with symptoms to dealing with root causes. These are two valuable outcomes, especially if achieved in a group setting where you build buy-in and commitment to the way forward.

Fishbone diagram

6 Creative problem solving

Not all problems can be solved by force of logic. The more interesting management challenges require a degree of creativity and invention. Asking managers to be creative will result in most of them breaking out in a cold sweat: creative workshops conjure up images of abysmal sessions where we all have to say what sort of tree/car/musician we would be if we were a tree/car/musician. Fortunately, there are some reliable ways of arriving at creative solutions without enduring the terminal embarrassment of a creativity workshop.

The simplest solution is to ask for help.

You may not know the solution, but others may. Even if they do not have the total solution, they can provide insights which may help you. There are plenty of exercises which demonstrate the power of the group to find a better solution than an individual can find. Desert, moon, space and island survival are all classic group dynamics exercises which prove the point. Type in ‘desert survival’ in any search engine and you will find plenty of helpful and free examples on the web.

The more formal solution is to ask for help in a structured way, through a problem-solving exercise. Here is a straightforward way to conduct the exercise in a series of steps:

1. Agree who is the problem owner and what the problem is you need to solve. Try to make the problem as specific and as focused as possible. Also, try to express it as an outcome. General and negative problems are difficult to solve, such as ‘We are losing in the market.’ Define the problem more closely and positively. ‘How to increase retention rates among our most loyal customers’ is going to lead to more actionable and positive solutions than the more general and negative version of the problem statement.
2. Outline the problem to a small group of people who between them have the knowledge, willingness and capability to provide insight and solutions. The ideal group has about four to seven people in it. Any fewer, and there are not enough to generate ideas and enthusiasm. Any more, and it becomes chaotic.
3. Check for understanding of the problem statement, so that everyone is solving the same problem. Allow questions to check understanding, avoiding any evaluation of the problem.
4. Generate ideas, and lots of them. Volume is good. Do not allow any evaluation of ideas at this stage. Get people to build on each other’s ideas. Get people to look at the problem from different angles (competitors, customers, channels, costs, products, service, etc.) to stimulate more ideas. One person records the ideas on a flipchart: this avoids too much duplication and lets contributors see that their ideas have been recognised so they do not feel the need to repeat themselves. Make things move fast: make people state the headline of their idea only. As with any good newspaper, the headline should encapsulate the whole story. This makes it easier to record.
5. Select a few ideas to work on in detail. You can permit an outbreak of democracy at this stage. Give each person three votes, using Chicago rules. Chicago rules mean that there are no rules: they can split their votes, sell their votes, steal votes or consolidate their votes. Do not get hung up on process. If two people had similar ideas, let them consolidate them into one: do not have a big debate, just let the owners of the two ideas decide if they want to merge. You will normally find that there is consensus around three to five workable ideas, and you will have done no evaluation of them so far.
6. Evaluate the most popular idea. Start by looking at why it is a good idea: evaluate its benefits. Managerial instinct is to look at problems first. The problem with problem focus is that it can kill good ideas. Once you understand why an idea is good, you can start to explore some of the concerns it raises. Express the concerns in an action-focused manner: ‘How to fund the idea’ leads to action, whereas ‘That is far too expensive’ leads to conflict. How you state the concern leads to radically different outcomes.
7. If the solution you are all most excited about has some significant concerns attached, work through each of those concerns using the same process, starting at step 1 again. You will find yourself breaking the problem down into ever more manageable bite-sized chunks which you can deal with.

2.5 Strategic thinking: floors, romantics and the classics

If you listen to business school professors, strategy is so sophisticated and complicated that only they can really understand it. To prove their point, they come up with all sorts of clever concepts such as value innovation, strategic intent, core competences and co-creation. These are supported by matrices, grids and charts which give the appearance of analytical rigour.

Do not be deceived. Most strategic concepts are:

• selective rewriting of history of some successful companies
• better at describing the past than predicting the future
• based on a few simple truths.

Most corporate strategy is formulated the same way as most corporate budgets: last year’s budget and strategy is the best predictor of next year’s budget and strategy. Both will change, incrementally. But few companies actually change strategy significantly. The exceptions are famous, but exceptional. WPP, the world’s largest advertising conglomerate, was formed out of a shell company which made shopping trolleys. Nokia, the world’s largest maker of mobile phones, had its origins in rubber (largest shoe factory in Europe), plastics (floor coverings) and forestry products.

Because most businesses do not change strategy fundamentally, the demand for deep strategic thinking from managers is not high. Nevertheless, it helps to understand strategic thinking, so:

1. Understand the strategic relevance of your own activities.
2. Know how to think strategically.
3. Play the strategy game.
4. Understand the nature of strategy.

If you can do these four things, you are well prepared for the executive suite.

1 Understand the strategic relevance of your own activities

I started to doubt the use of the word ‘strategy’ when the office manager started talking about strategic deployment of office space. I retired to the canteen to consider how I might strategically deploy my Brussels sprouts. As ever, the office manager was right and I was left to eat cold Brussels sprouts.

The office manager was answering the one strategic question which all managers have to be able to answer: ‘How can my actions and decisions support the goals of the organisation?’ At the risk of stating the obvious, this requires more than simply understanding the goals you have been set in your annual plan: it requires understanding the goals of the senior leadership team. Many managers fail this obvious test: they are so consumed with meeting their immediate goals that they forget to think about the broader context in which they are operating.

The office manager had a strategic challenge all of his own. As we walked round the office we could see lots of consultants working in individual glass fish bowls: these were meant to combine privacy with open communication. In practice, the walls stopped communication and the glass prevented privacy. The manager had heard the CEO talk about the need for teamwork, transparency and focus on clients: that meant working at the client site, not in our cosy offices. The manager thought it through, and came up with a radically new design.

Out went all the mini-palaces which were also known as partners’ offices. Instead, we were invited to share a common partners’ room: we were being asked to walk the talk on teamwork. Quite a few partners exploded with indignant rage: they were the idle ones who would be most exposed in a common office. Next step were the consultants. Out went their goldfish bowls and their desks. In came rows of hot desks. There were not enough to go round, so consultants suddenly found it more congenial to work at the client site. In came lots of small meeting places so that teams could meet and work together.

The office manager had grasped the nature of strategy: he had understood the needs of the organisation and taken action to support them. He had no need to understand grand corporate strategy, or to talk the language of core competencies. They were irrelevant. Managers do not need to be great strategists to think and act strategically: they need to understand the real needs of the organisation and to support those needs in their areas.

A simple test for strategic activity is this: will these actions get noticed at executive committee level? If they are relevant at that level, you are probably acting on matters which have strategic relevance. If not, you may still be making a useful but less visible contribution.

2 Know how to think strategically

The best strategic thinking is very simple. Clever people make things complicated. Really clever people make things simple. Many of the most successful organisations have very simple strategies:

• easyJet and Southwest Airlines: low-cost flying
• Dell: sell direct and make to order
• FedEx: overnight delivery, guaranteed.

Although they are very simple strategies, they are competitively devastating. Let us look at each in more detail to see why:

• easyJet and Southwest Airlines: low-cost flying. By starting with a zero cost base, and avoiding all the frills and complexity of full-service airlines, they achieved cost per mile and fares which the full-service airlines cannot reach with their legacy costs and infrastructure. They created clear competitive distance against the incumbents.
• Dell: sell direct and make to order. This eliminated all the sales forecasting problems, unsold stocks, cash-flow crises and fire sales that dogged the traditional model of selling through resellers. Incumbents felt unable to abandon their loyal resellers and were stuck.
• FedEx: overnight delivery, guaranteed. No one else did it at the time. Creating the nationwide infrastructure and building volume and scale fast made it hard for anyone to follow.

Now consider how much these strategies have changed over the past 20 years. Each organisation has essentially the same strategic formula as 20 years ago. Great strategies rarely change.

3 Play the strategy game

If you ever apply to join a strategy consulting firm, you will get a chance to play the strategy game, also known as the case method interview. It is worth practising this game: it gives insight into the prospects of your employer and enables you to hold your own in discussions with senior executives.

The ostensible purpose of the game is to find an answer to some imponderable business question such as: ‘Should MegaBucks expand its product range from photography to other imaging products like copiers?’ The real purpose of the game is to show that you can think in a structured and strategic manner: the actual answer is unimportant. Cynics might say that it is the essence of strategy consulting: show you are smart and do not worry too much about the answer.

To succeed, you do not need to know the right answer. You need to know the right questions. An effective strategy discussion will look at the issue from a series of different angles:

• What capabilities do we have? This gets at the core competence arguments of Hamel and Prahalad (management thinkers and academics). Imaging and photographic technology are close to each other, as Canon discovered by bridging both markets.
• What are the market prospects? Is it growing? Is it profitable? What are the pricing trends? Critically, you need to look at individual segments of the market. Which ones are underserved? What needs are unmet? Canon identified that the old central copying function, focused on high volume, did not meet the needs of secretaries who needed just one or two quick copies locally. There was an unmet need for quick, cheap and average-quality copies. High speed was not important.
• What does the competition look like? Again, look for underserved market segments. Xerox was huge and looked unbeatable. But it had no product for distributed/local copying across the office.
• What are the economics of the market from a customer perspective? Instead of being tied into long leases for big copiers, secretaries would be happy to buy cheap local copiers.
• What are the economics from the manufacturer’s perspective? The big money is in the replacement toner. This means the key is to get the copier on to the secretary’s desk, if necessary at a loss, and then make money on the supplies. This then implies that the product must be simple to maintain and resupply, without the need for a technician. This in turn leads to a distribution model which is more mass market, accessed via resellers rather than through the traditional model of B2B salesmen working on commission.

As you go through the game, you should keep in mind a checklist of questions and perspectives you need to cover:

• Capabilities.
• Market prospects, by segment – size, growth, profitability and cyclicality.
• Customer needs, by segment – remember product, price, positioning questions.
• Competitive position, by segment. What is our value proposition? Do we have any sustainable advantage, barriers to entry?
• Economics, relative to competition, the customer and us. What are the effects of scale across the value chain? What is the value chain?

Keep asking these questions until you find convincing answers. Quite often you will find that just one critical insight develops out of all the questions. In the exotic world of wet cement supply, the economics of distribution favour the creation of a series of local monopolies. It takes some questioning to get to that simple outcome. Asking the set questions will quickly help you identify why Microsoft is highly profitable, whereas airlines are, at best, cyclical in terms of profitability.

4 Understand the nature of strategy

It helps to know the language of strategy. Strategy is spoken in two very different languages: the classical and the postmodern.

Classical strategy

Classical strategy is a world of cause and effect. It is a search for the business equivalent of Newton’s laws: ‘If x happens, then y is the result.’ It is strategy in the true tradition of the Enlightenment: finding universal rules to apply to all situations. The godfathers of this world are Michael Porter (Five Forces analysis) and the Boston Consulting Group (responsible for matrix mania). The good news is that these formulas shed light, and provide some insight, into complex situations.

The bad news about formulaic strategy is that it is extremely dangerous. If everyone uses the same tools and the same analysis, they come up with the same answers. This leads to the lemming syndrome: ‘10,000 lemmings cannot be wrong, so I will jump off a cliff as well…’ The dotcom bomb was a classic lemming moment. UK telcos all did the same analysis and bid £22.4 billion for 3G licences: they are unlikely ever to get that money back. When many of the world’s banks decided to chase profits by lending to the sub-prime markets, creating complex derivatives and increasing their capital leverage, they were possibly smart individual decisions. Collectively they built a house of cards which fell down and led to global recession. Following the herd can be very dangerous.

Postmodern strategy

This is the language of a group of professors who all learned their trade from C.K. Prahalad (core competence, strategic intent). His acolytes include Gary Hamel, Chan Kim (value innovation) and Venkat Ramaswamy (co-creation). They are rebels against classical orthodoxy. For them, strategy is a process of discovery in which you create the future, rather than react to the present by analysing the past. This is a process-driven view of strategy much more than an analytical view of strategy. It does not pretend to have all the answers: it challenges organisations to discover and create answers for themselves.

The good news about this approach is that it leads to much more creative outcomes and engages the organisation more deeply. The bad news is that it is often not practical. It seeks radical strategic change, but most large organisations either do not need radical redirection, or are not capable of achieving it.

On balance, the classical approach to strategy suits established firms best. New entrants and start-ups use the postmodern approach, but are too small to realise that they are doing so.

2.6 Financial skills

Financial numeracy is a core skill for all managers. Unfortunately, financial skills are shrouded in unnecessary mystery. The high priests of accounting and finance cloak their art in terminology and techniques which are designed to scare off most managers. They are like medieval craft guilds who jealously protected their trade from all outsiders. Some areas of finance and accounting are genuinely complicated: understanding regulatory capital requirements for banks internationally is not the sort of area the average manager needs or wants to understand. It is now clear that not even bankers or their regulators understood this either. But the core financial and accounting skills should be core skills for all managers.

These skills are not purely intellectual skills. Most financial management skills are deeply political, because they involve allocation of resources, setting of targets, expectations and priorities. Inevitably, this goes to the heart of competitive strategy: how each department and each manager competes against the others to secure the right resources, expectations and targets. Formal financial tools are simply the weapons of choice for managers in these political and competitive battles. Only the most naive managers accept financial management as an objective, logical and rational exercise in which right and wrong answers can be discovered intellectually. The right financial solution is the one which best helps each manager to achieve their optimum goals.

The core financial skills required of all managers are explored in the following sections:

Setting budgets

Managing budgets

Managing costs

Surviving spreadsheets

Knowing numbers.

These are the main financial and political battlegrounds for managers. Within each of these battlegrounds there are accepted weapons, or analytical tools, which managers can use to achieve their goals. The nature of these weapons differs slightly by organisation. In any event, it is worth learning how to use these weapons to best advantage. Most traditional financial textbooks focus on finding the right answer and the right number. Managers do not use numbers in an intellectual pursuit of the ideal answer. Managers use numbers the same way lawyers use facts: selectively to support their case, not to illuminate the truth.

2.7 Setting budgets: the politics of performance

A budget is a contract between two levels of management: ‘We agree to achieve the following in return for this much money.’ As with all contracts, this is not a rational and objective exercise. It is a negotiation between the supplier of services (the less senior manager) and the buyer with the money (the more senior manager). Negotiation skills are covered fully in Chapter 3. Unlike most negotiations, both the buyer and the seller in budget negotiations have roughly similar levels of information; they know each other’s tactics and they know each other’s styles. So the negotiation can become very intense.

Most budget negotiations have two major elements: anchoring and adjustments.

Anchoring the budget discussion

The best predictor of next year’s budget is this year’s budget. This year’s budget is the anchor around which next year’s budget will be negotiated. In many organisations, this is so well established that managers will fight hard to spend this year’s budget fully and to not overachieve budget this year: underspending or overachieving simply leads to the budget anchor being reset. Next year’s budget becomes much harder to achieve if you do too well this year (see the box on the next page). Such budget setting is clearly dysfunctional: it discourages performance improvement.

To effect real change, the anchor needs to be reset at a very different point from today. Anchoring needs to be achieved as early as possible, so that the debate is framed the right way. If the debate is framed around ‘How far do we increase or decrease last year’s budget?’, only minor change will emerge. If the debate is anchored around ‘Can we double our volume with just a 70 per cent increase in budget?’ you have a radically different discussion. Anchoring determines the level of ambition for the organisation.

Anchoring needs to take place as part of the strategic planning process, which should, in larger organisations, precede the annual budget cycle.

The best way to anchor a budget discussion is not by submitting a detailed strategic analysis to show why you should be targeting a doubling of sales volume. The best way is to talk very informally and very early on with the most senior people possible, before the strategic planning process even starts (see below).

Adjustments

Adjustments take the form of the question: ‘What will be different next year from this year?’ This is where there is intense negotiation on the detail. Adjustments look at incremental differences from this year: anchoring looks at step-change differences from this year. Typical incremental differences will include:

• productivity improvements
• inflation, salaries, etc.
• new initiatives and projects
• market and competitive trends
• pricing opportunities and pressures.

These discussions can be like trench warfare. Staff functions tend to have the advantage because:

• They have the support and power of senior management on whose behalf they are acting.
• They are working 100 per cent on budget discussions, while managers have to manage a business as well.

Consequently, many managers give up too easily. This is a mistake. It is better to have one tough month negotiating an easy budget than to have one tough year delivering a budget which was set too high.

This debate is reversed from senior management’s perspective. They know that there will be widespread game playing in the budget negotiations, with each budgetholder having well-rehearsed arguments as to why the outlook is uniquely grim for the future and why delivering any sort of profit will be nearly impossible. There are two defences against this for senior managers:

1. Staff warfare: use the staff in planning and finance to run the process, challenge and check facts, and maintain a semblance of honesty in the debate.
2. Be selectively unreasonable. Good managers are selectively unreasonable. Reasonable managers listen to all the excuses as to why something is not possible. Any reasonable manager would have told Kennedy that his dream of putting a man on the moon within 10 years was not possible: the technology, skills, organisation and money simply did not exist. Reasonable managers would have been right in their assessment, and that is why they have been forgotten. Unreasonable managers demand outstanding performance and then support and enable it. Turning a deaf ear to excuses is a useful skill, even if it irritates the managers who are doing the special pleading.

2.8 Managing budgets: the annual dance routine

Each year follows a predictable budget cycle. The year starts full of hope. Then there is a gradual squeeze. High-performing units suddenly have their goals raised even higher to make up for the shortfall in the weaker units. Weaker units start to get more help than they care for: being behind budget is an uncomfortable experience. This cycle shapes the way managers need to manage their budget.

• Know your numbers in advance of the official data. The purpose of this is to show that you are in control of the operation, and to take early corrective action if things are going off course. By the time you receive the report saying that your budget has crashed, it is too late. Accounting data looks backwards: you cannot drive the business forwards by looking backwards. Most departments should be able to predict three months in advance what will be happening: sales will have a sales pipeline, HR will have a recruiting pipeline. Significant challenges caused by competitor activity, customers running into payment problems or major projects overrunning should be visible to a manager who is in control. Use this sort of information to create your own early-warning radar system.
• Prepare for a rainy day. Two simple principles help here:
  1. The 48/52 rule is a simple discipline which calls for spending 48 per cent of your budget but achieving 52 per cent of your goals in the first six months of the financial year. This builds up some reserve for things going wrong later in the year. Even if things go wrong in the first half, the 48/52 rule means that your first half outcome might still be close to 50/50.
  2. Sandbag. You should have constructed your original budget so that you know where there is fat to be cut: maybe you know there is a supplier who can be squeezed further, or a project cost has been overestimated, or a marketing campaign is a little too rich. The simplest way to sandbag is to delay a new hire for 2–3 months. You can pocket the budgeted salary payments as savings. Keep all your savings for a rainy day.
• Manage communications well. Follow three principles here:
  1. Avoid surprises. If there is bad budget news looming, prepare the way early and let top management know in advance about the challenge, and its cause and your proposed solution. Stay in control. If they call you asking you to explain a negative variance, you have a problem. You look like you were not in control, you are on the defensive and you are about to get the sort of staff and senior management help that no sane manager wants.
  2. Avoid boasting. It is human nature to brag when things are going well. It is senior management’s nature to revise your budget upwards if they see things are going well. If things are going well, reset expectations low: show that the second half of the year will be much more challenging than the first half. Keep your original budget commitment for as long as possible.
  3. Don’t whine, negotiate. If your budget revision is mandated from the top, use it to renegotiate your commitments. Do not offer something for nothing.
• Prioritise your spending. Phase spending carefully. There is a delicate balance to be achieved here. The reserving principle requires delaying expenditure. But the knowledge that budgets will become tighter later in the year requires bringing some spending forward. The spending to bring forward is a mixture of two elements:
  1. Essential investments for the business which may get cut later in the year – productivity investments which take time to pay back are vulnerable to a year-end squeeze.
  2. Discretionary spending which will certainly be cut in any squeeze, but which you need to build your team and its skills. Items such as conferences, training courses and laptop replacements are very easy to cut: if you believe they are important for any reason, spend the money before it is taken away.

All of these disciplines assume that you have accurate financial data. Perhaps the fastest way to lose credibility with an executive team is to produce unreliable data. If management cannot trust your data, they cannot trust you. It pays to have a good accountant on your team who can provide the information and the cover you need.

2.9 Managing costs: minimising pain

Managing costs is at the heart of the management task. Inevitably, managers are squeezed. Input costs always go up: customers rarely volunteer price rises, staff rarely volunteer salary cuts, suppliers always want more and the tax inspector is always happy to steal another penny or two. On the other hand, there is the relentless logic of senior management and of the marketplace which demands betterfastercheaper: don’t just cut costs, but do things better as well. People no longer accept a cost–quality trade-off. They want both.

This pressure builds up like clockwork towards the financial year end. The year starts full of hope. As it progresses, achieving targets becomes ever more challenging. One product or region hits a big problem, so the pain gets shared around the organisation: every other region and product has their goals raised to make up for the shortfall in the Japanese widgets market, the safety recall in Europe or the litigation in the United States.

By year end, management inevitably are looking at key ratios for the annual report. So expect the following demands:

• Cut costs, to meet budget. Cutting costs is easier, faster and more certain than raising revenues. And it feeds straight to the bottom line. It also creates problems for next year, but we will worry about next year, next year.
• Manage cash by squeezing suppliers (pay late) and customers (demand payment now).
• Get creative: capitalise expenditure, make some more exceptional provisions, delay major projects, recognise revenues as early as possible.

The astute manager knows that this squeeze is coming, and will prepare for it. That preparation comes in the form of a five-fold defensive strategy, outlined below. The purpose of cost cutting when it is part of the budget cycle is to do the minimum required to deliver the arbitrary demands of senior management and to avoid doing any substantive damage to the business itself. Short-term, budget-driven cost cuts are fundamentally different from the planned productivity improvements which all managers should seek anyway.

In recessions, cost cutting is often about survival, not productivity. The results can be ugly. The smartest firms use recessions to remove organisational tat and managerial low-flyers. Being smart is not a luxury all firms have in recessions.

Productivity is about real cost improvements; cost cuts driven by the annual budget cycle (as opposed to the panic of recession) involve considerable game playing by all levels of management. The five levels of defence against the budget-driven cost-cutting demands are:

1. Play the game
2. The soft squeeze
3. The hard squeeze
4. Make real change
5. Pretend to make real change.

1 Play the game

Managers have three major tools to play with here. Each one of them is designed to avoid making any serious cost cuts which would harm the business.

1. Sandbagging. This is the gentle art of keeping as much in reserve and hidden from the prying eyes of management and staff for as long as possible. There is little point in squeezing suppliers mid-year: there will be nothing left to squeeze when top management insist on everyone delivering the 20 per cent improvement in payables and receivables by year end. This edict will inevitably punish the well-managed unit, while leaving the more politically astute unit with no real problems.
2. KKK: this is the Japanese alliteration for consultants, advertising and entertaining. In Japan, they are generally considered easy and harmless things to cut. Each country and organisation will have its equivalent of KKK: it might be consultants, conferences and training elsewhere. Naturally, if you have a conference you are really committed to, make sure it is booked, paid for and non-refundable before the squeeze edict is issued.
3. Timing. Be prepared to delay costs or accelerate revenues. If you are having a really good year, work hard to accelerate costs and defer revenues: if you overachieve this year, you will simply have a higher target next year. Better to start next year with a modest target but a very fast start in performance terms.

This game has to be played the right way. There are two common mistakes made when taking part:

1. Conceding to the new target too easily.
2. Whining about the new target. Telling management that it will be really hard to meet the target will make it feel good: you have just confirmed that you can meet the new target with hard work. Management likes managers to work hard and meet targets.

If you can, use the new target as an opportunity to negotiate. This is a way of making management understand that cutting costs has consequences, and it needs to deal with them. Cost cuts cannot be imagined out of thin air. There are two things you can try to ask for:

1. A delay in achieving a tough project which is close to the heart of management: this will test management resolve and give you more time to deliver. The excuse, of course, is that less budget means less support so more time is needed for completion.
2. A downwards revision in the goals for next year: underinvesting now has performance consequences later.

Your success in renegotiating requires persistence, eloquence, political support and some luck. But if you don’t ask the question, you don’t get the answer.

2 The soft squeeze

Once the game playing is over, you may have to deliver some real cost cuts. This soft squeeze goes through four levels of pain:

1. Squeeze discretionary external staff and costs: look hard at temporary, contract and consulting staff. If necessary, show them the same level of loyalty that most of them have for you. Get rid of them. Start downgrading the class of travel. Corporate big shots will discover that turning right, not left, at the aircraft door does not lead to an instant heart attack.
2. Squeeze internal discretionary staff: stop overtime. Start offering staff more work–life balance: flexi-time, sabbaticals and job sharing. As things get harder, extend the Christmas or summer shut-down periods.
3. Put in a headcount freeze. This normally requires making it very hard to hire replacement staff when someone leaves: you still need to find ways of putting extra staff into areas where they are most needed. So if someone leaves, do not assume they can automatically be replaced: the effort of that head may be better used elsewhere.
4. Put in a hiring freeze. This now starts to cause pain. No leaving staff are replaced. Often the areas under the most pressure have the highest staff turnover, so a headcount freeze hurts most where you can least afford it. Reassigning staff is often difficult because the skills mix is not right. It is tough to sustain a hiring freeze, except for very short periods. Even at this stage, a manager will have kept as much of the team together as possible. Cutting the team is bad for morale and leaves the operation weakened.

An early sign of the soft squeeze is the coffee machine: it goes from being free to being paid for. The money saved is irrelevant to the corporate budget. The purpose of such acts is symbolic. They are meant to raise staff cost consciousness; more often, they simply lower staff morale.

3 The hard squeeze

This is where the pain really starts. The last ditch of defence is voluntary redundancy, which can be achieved in two ways:

1. Raising the bar. Raise the performance bar, and quietly counsel the lower performers out. This is an elegant solution which may increase the overall quality of the team and get rid of people who have not been contributing enough. In this respect, recessions are good. They enable some corporate house cleaning.
   Recessions clear out poor businesses and poor managers alike. The problem is that this needs time: time to establish the performance track record (or lack of it) and time to ease people out. It works as a long-term management practice, but is difficult in response to a short-term cost-cutting drive.
2. Asking for volunteers. This tends to be a disaster. It is an admission that the ship is sinking, so the people who can swim will swim. The best people who can get jobs elsewhere will go. Anyone who cannot get a job elsewhere clings desperately to the sinking ship. This is precisely not the team you want to keep.

The final alternative is to make involuntary redundancies. This is clearly an organisation in some crisis. There is no kind way of firing people. As with executions, there are less cruel ways: doing it quickly is better than spinning out the agony for the victims. Let the unlucky people go with as much of their dignity intact as possible, and with as much hope for the future as possible. But the big trap is to focus too much on them. This sounds cruel, but you are going to have to live and work with the survivors, not the losers. It makes sense to invest as much time as possible in helping the survivors see that there is still hope, there is still a future and that they can be part of it.

4 Make real change

None of the cost-cutting efforts described above actually improve the underlying performance of the business. Knee-jerk cost cuts look impressive and help the CEO get a bigger bonus. But they do not help the business.

In practice, real change comes from two different angles:

1. Steady operational improvement: the kaizen approach of improving costs and quality a few per cent each year.
   Reducing costs by 4 per cent annually achieves more and is less painful than the once-in-five-years, macho 20 per cent cost cutting here.
2. Strategic change. This is about making structural change to the cost model: eliminating unprofitable and high-cost products, markets and channels; developing new technologies, products and markets; changing the competitive position. All of this looks very easy when written in a report but is very difficult to achieve.

One version of strategic change much loved by CEOs is financial engineering: using the balance sheet to buy and sell businesses. In good times buy, in recessions sell. When CEOs play the corporate equivalent of Monopoly, shareholders lose and bankers win. Bankers get fees on the way up and on the way down – for advising on purchases and sales and financing debt. Shareholders lose by paying for overpriced assets in the boom and for selling at fire-sale prices in the bust.

The problem with all the real changes is that all your competitors are doing more or less the same with roughly as much skill and talent as you. Each year you run harder and harder simply to stay still compared to the competition. At least no one pretends that management is easy.

5 Pretend to make real change

The need to make continual cost and productivity improvements is real. Even the most successful organisations cannot stand still. But the more successful an organisation is, the less managers will feel the need to make painful decisions. Inevitably, therefore, they will find ways of showing that they are making great improvements while in reality they are achieving nothing. This sort of cost cutting delivers red dollars: they look great but have no value compared to green dollars. There are two basic ways of delivering red dollars:

1. Squeezing the balloon. Squeezing a balloon pushes air from one part of the balloon to another: it does not reduce the amount of air in it. Squeezing the corporate balloon transfers costs from one place to another to create a mirage of improvement. There are two ways of squeezing the balloon:
   1. Transfer costs to other departments: increase transfer prices, charge for previously free services (IT help desks, legal support, payroll administration, etc.).
   2. Transfer costs to another year: delay paying customers, delay major expenditures, capitalise costs (then pay depreciation on the new-found assets over the next five years).
2. Scoreboarding. This is a favourite of consultants and project managers who have to show results from their project. Again, there are two basic ways of scoreboarding:
   1. Count all the potential gains as real gains: the re-engineering project may have identified 20 per cent excess capacity across 50 people. But you cannot cut 20 per cent of each person. So the project leader agrees with the line manager that a 20 per cent (or 10 staff) cost reduction has been identified and then adds the 20 per cent to the long list of cost savings the project has achieved. With tedious regularity, senior management fails to follow up and check that the 20 per cent has actually been delivered by the line manager.
   2. Changing the baseline. If a department is looking for a 30 per cent increase in budget and then settles for a 15 per cent increase, be ready for the claim that it has cut its budget by 15 per cent. A 15 per cent increase has been converted into a 15 per cent cut. This ploy is greatly favoured by politicians when debating budgets.

Game playing like this is a sure sign of a fat and bloated organisation. Knowing how the games are played can help you spot and control them, or to play them, as conditions require.

2.10 Surviving spreadsheets: assumptions, not maths

In the days before spreadsheets, there was a naive assumption that good maths equalled good thinking and dodgy maths equalled dodgy thinking.

In the spreadsheet era, we do not have to worry about dodgy maths so much, unless someone is using elaborate equations. Understanding spreadsheets is about good thinking, not good maths. It pays to understand how the spreadsheet was created. The person producing the spreadsheet deploys two basic tactics:

1. Start at the bottom right-hand corner. You know the answer must be x% or $y million. So keep on adjusting the spreadsheet inputs until x or y is achieved. Then add a safety margin and make sure the number does not look suspiciously round.
2. Overwhelm the opposition (senior managers and staffers) with data. About 200 lines and 40 columns of data over six interrelated pages should scare off most people, especially when all they really want to see is whether the number in the bottom right-hand corner of the spreadsheet looks good: x or y with a bit of safety margin built in.

The rules for the spreadsheet survival game are very simple, and are completely different if you are writing the spreadsheet or are reading it.

The spreadsheet writer should:

• Start with the desired answer in the bottom right-hand corner.
• Work out whatever scenarios and assumptions justify getting to the answer.
• Make minor but easily checked assumptions very conservative so that you appear not to be reckless and have evidence to show you are careful.
• Cover your tracks: leave some safety margin and avoid round numbers.
• Get key people to validate the key assumptions in your model, so that senior management cannot pick it apart. Validation is the most painful, but useful, part of the exercise: it is employed in the process of checking assumptions with sales, marketing, HR, finance and other relevant experts to gain insight, test thinking and build credibility for later.

For the spreadsheet reader, the rules are largely reversed:

• Ignore the answer, unless it is not what you want to see. Assume it has been fudged.
• Before you look at the spreadsheet, think of the five major assumptions that will drive the outcome, and note what ‘reasonable’ might look like for each one.
• Before you look at the spreadsheet, ask the spreadsheet writer what assumptions he or she has made for the five major drivers you have identified. You may well have a lively discussion at this point.
• Ask ‘what if…’ questions: What if each of the major assumptions lands up being different from what you are expecting? Where are the risks? How can you mitigate those risks?
• Only now is it worth actually looking at the spreadsheet.

2.11 Knowing numbers: playing the numbers game

Numbers make many people feel nervous. With a degree in history, numbers certainly made me feel nervous. I was not even much good at historical dates. The critical breakthrough came in discovering that management numbers are not about maths: they are about thinking and persuasion. Even historians can manage that, on a good day. In contrast, not all mathematicians feel confident about business thinking and persuasion. The numbers game is an equal-opportunity challenge for all disciplines: it is equally tough for everyone.

There are four major variations of the numbers game:

1. The assumptions game
2. The averages game
3. The baseline game
4. The validation game.

1 The assumptions game

This is how to look smart whenever presented with a complex spreadsheet or proposal. Do not worry about the maths. Look at the largest figures and then test the assumptions behind them. This has been covered fully in spreadsheet survival above. Typical assumptions to test involve:

• the market: size, growth, share
• customers: number, cost to acquire, cost to serve, attrition
• operations: cost per job, overhead per person, property, systems
• people: number required, cost per person, cost to hire, attrition.

The way to succeed at this game is to create your own checklist of assumptions before you even see the spreadsheet or proposal. Do not get caught up in the Byzantine internal logic of the proposal in front of you. If you make sure your own thinking and assumptions are clear, it becomes easy to test other people’s thinking and assumptions.

2 The averages game

Averages are profoundly misleading. The average human is 51 per cent female and has fewer than two legs (some people have lost legs). Useless. Average customer satisfaction is 3.2 on a five-point scale. Utterly useless. Of far more use to a manager are the extremes and the segments, for example:

• If average customer satisfaction is 3.2, how many are really happy and how many really unhappy with us? Why? How many of the unhappy ones leave us? How can we make the happy ones even more happy? Does average satisfaction cover up delight with one thing we do (in-store service) and disgust with another (telephone support)?
• The average (possibly median or mean, but we will let that distinction pass) household income is $58,000 in the United States. So what? Does this mean that there is no market for private jets or upmarket hotels and holidays?
• The average temperature of someone with their head in the oven and their feet in the freezer is probably quite acceptable. Do not try this experiment at home (or elsewhere).

When faced with an average, always look for the extreme scores behind the average, and the major segments around the average: that is where the real insight will come from.

3 The baseline game

Beating baselines is a classic intellectual and political challenge for managers. Setting a baseline ought to be a rational and objective exercise. It is not. It is a political exercise which fundamentally affects perceptions of performance. Naive managers ignore this and accept given baselines: experienced managers understand that the right performance baseline makes beating the baseline much easier than accepting a challenging baseline.

The two key variations of this game are:

1. The declining baseline
2. The false baseline.

1 The declining baseline

A baseline is perhaps the most deceptive and dangerous assumption in business. It is deceptive because it seems so natural and reasonable, and it is dangerous because it is often wrong. Spot what is wrong in these two cases.

• Case one: Our current budget is $15 million a year. We have worked very hard and we have identified cost savings of 15 per cent. Even allowing for 5 per cent inflation, that means we can deliver about 10 per cent cost savings. That means $1.5 million for the bottom line. Can I have my bonus please?
• Case two: Our market share is 10 per cent. We have decided to reinvest the cost savings from case one into a major price reduction. We know from market research and from a small test market we did that a 10 per cent price reduction in this price-sensitive market will have a dramatic effect and we will increase our market share to 15 per cent. This is such a scale-sensitive business that growth will be highly profitable.

The fallacy in both cases is to assume that the baseline is stable over time. The starting point of the current budget or market position is never stable over time. In business, all such baselines are on a continual downwards trend. Competitors wreck our plans by improving their efficiency and cutting costs as well. Competitors will match our efforts in both case one and case two: we will make the cost savings as promised, but there will be no increase in profit or market share as long as the competition does as well as we do. We are running hard to stay still.

Even without the effect of competition, organisations still face a declining baseline. Every organisation slowly slides towards chaos: experienced staff leave and new staff come in who need training; suppliers mess up; customer demands change; technology makes our current ways of working redundant; machines and systems break down; events happen. Against this background, huge effort is required simply to keep things in a steady state. The consequences of this are significant:

• Cost-savings programmes rarely result in profit improvements: all the savings get competed away by equally vigorous competitors. Only customers gain from your efforts.
• Sales and marketing programmes struggle to build market share, given the effects of competition.
• Managers have to run hard to stay still: doing as well as last year takes enormous effort to cope with the adverse effects of competition and the internal forces of entropy which work against success.

2 The false baseline

The false baseline is used by managers at all levels, and in particular by CEOs. It is the natural, political response to the problem of the declining baseline. The purpose of the false baseline is to set the starting point so low that anything you do has to be an improvement on where you are today.

When you inherit a job you may well find that the person who preceded you has left a picture of a great job brilliantly done, which is why they were promoted. They will have shown that they had put in place all the plans required to transform the business. If you allow that propaganda to flourish you are dead meat. If you succeed, it will be because of the plans that the previous incumbent put in place. If you do less than brilliantly, it will be because you messed up. You do not want to inherit a baseline set impossibly high.

The alternative is to show, as fast as possible, that the job or department you inherited is on the brink of collapse. Everything is a disaster which only a superhero can possibly turn around, but luckily you have arrived in the nick of time. If things now proceed modestly well, you will have done a great job in averting disaster.

The same modest performance can be seen as a disaster or as a triumph, depending on how the baseline was set.

4 The validation game

The validation game is about people and politics as much as it is about numbers. Venture capitalists, bankers and senior managers do not simply look at the numbers being presented to them. They look at the people behind the numbers. A solid proposal from a team with high credibility is more convincing than an exciting proposal from a weak team.

Effective managers understand this and will use it to their advantage. Validation is required from two sources. First, get the sheriff and his deputies on board. You can find them in marketing, HR, IT, finance and accounting. They will all want their say. Let them have it, in private. Let them nitpick in private. As soon as anyone takes a public position, they find it very hard to change. Their position is public if they state it in a meeting where more than two people are present. The important thing is to get them on your side, in private. Once you have the sheriff on board, approach the mayor. The mayor is the local power broker. Whereas the sheriff and deputies are interested in the detail of their individual areas, the mayor is interested in the bigger picture: how your numbers fit with all the other priorities and numbers in town.

Once you have lined up the sheriff, deputies and mayor to support you, you can really go to town and have fun. The other cowboys will not even get a look-in.