Predatory Pricing: Myth or Conspiracy?

  “The attempt to reduce or to eliminate predatory pricing is also likely to reduce or eliminate competitive pricing beneficial to consumers”.Harold Demsetz, professor   emeritus of economics at UCLA.

In the article “The Myth of Predatory Pricing” by Thomas J. DiLorenzo, he writes: Predatory pricing is one of the oldest big business conspiracy theories. It was popularized in the late 19th century by journalists such as Ida Tarbell, who in “History of the Standard Oil Company” excoriated John D. Rockefeller because Standard Oil’s low prices had driven her brother’s employer, the Pure Oil Company, from the petroleum-refining business. “Cutting to Kill” was the title of the chapter in which Tarbell condemned Standard Oil’s allegedly predatory price cutting.

The predatory pricing argument is very simple. The predatory firm first lowers its price until it is below the average cost of its competitors. The competitors must then lower their prices below average cost, thereby losing money on each unit sold. If they fail to cut their prices, they will lose virtually all their market share; if they do cut their prices, they will eventually go bankrupt. After the competition has been forced out of the market, the predatory firm raises its price, compensating itself for the money it lost while it was engaged in predatory pricing, and earns monopoly profits forever after.

The theory of predatory pricing has always seemed to have a grain of truth to it; at least to non-economists; but research over the past 35 years has shown that predatory pricing as a strategy for monopolizing an industry is irrational, that there has never been a single clear-cut example of a monopoly created by so-called predatory pricing, and that claims of predatory pricing are typically made by competitors who are either unwilling or unable to cut their own prices. Thus, legal restrictions on price cutting, in the name of combating “predation,” are inevitably protectionist and anti-consumer, according to Harold Demsetz.”

In DiLorenzo’s article he writes: “Predatory pricing is the Rodney Dangerfield of economic theory; it gets virtually no respect from economists. But it is still a popular legal and political theory for several reasons. First, huge sums of money are involved in predatory pricing litigation, which guarantees that the antitrust bar will always be fond of the theory of predatory pricing. During the 1970s AT&T estimated that it spent over $100 million a year defending itself against claims of predatory pricing. It has been estimated that the average cost to a major corporation of litigating a predation case is $30 million.

Second, because it seems plausible at first, the idea of predatory pricing lends itself to political demagoguery, especially when combined with xenophobia. The specter of a foreign conspiracy to take over American industries one by one is extremely popular in folk myth. Protectionist members of Congress frequently invoke that myth in attempts to protect businesses in their districts from foreign competition.

Third, ideological anti-business pressure groups and self-styled consumer group, also employ the predatory pricing tale in their efforts to discredit capitalism and promote greater governmental control of industry. The perennial attacks on the oil industry: When oil and gas prices go up there is the alleged price gouging. When prices go down, there is the call for a “study” claiming that the price reductions are part of a grand conspiracy to rid the market of all competitors. And when prices remain constant, price-fixing conspiracies are frequently alleged.

Fourth, predatory pricing is a convenient weapon for businesses that do not want to match their competitors’ price cutting. Filing an antitrust lawsuit is a common alternative to competing by cutting prices or improving product quality, or both. Finally, some economists still embrace the theory of predatory pricing. But their support for the notion is based entirely on highly stylized “models,” not on actual experience.”

The classic article on predatory pricing was written by economist John McGee in 1958. McGee examined the famous 1911 Standard Oil antitrust decision that required John D. Rockefeller to divest his company. Although at that time popular folklore held that Rockefeller had “monopolized” the oil refinery business by predatory pricing, McGee showed that Standard Oil did not engage in predatory pricing; it would have been irrational to have done so.

Judging from the record, Standard Oil did not use predatory price discrimination to drive out competing refiners, nor did its pricing practice have that effect. Whereas there may be a very few cases in which retail kerosene peddlers or dealers went out of business after or during price cutting, there is no real proof that Standard’s pricing policies were responsible. McGee was the first economist to think through the logic of predatory pricing, laying aside the emotional rhetoric that had always surrounded it. He concluded that not only would it have been foolish for Standard Oil to have engaged in predatory pricing; it would also be irrational for any business to attempt to monopolize a market in that way.

By 1970 more than 120 federal (and thousands of private) antitrust cases, in which predatory pricing was alleged had been brought under the 1890 Sherman Act (revised with the Clayton Antitrust Act of 1914 and the Robinson-Patman Act of 1936 amendment to the Clayton Act). Yet in a 1970 study of the so-called gunpowder trust–43 corporations in the explosives industry; Kenneth Elzinga stated, after an extensive literature search, that “to my knowledge no one has ever examined in detail, as McGee did, other alleged incidents of predatory pricing.” Elzinga found no evidence that the gunpowder trust, which had been accused of predatory pricing, actually practiced it.

Shortly after Elzinga’s work appeared, Ronald H. Koller examined the “123 federal antitrust cases since the passage of the Sherman Act in 1890 in which it was alleged that behavior generally resembling predation had played a significant role.” Ninety-five of those cases resulted in convictions, even though in only 26 of the cases was there a trial that “produced a factual record adequate for the kind of analysis employed” by Koller. Apparently, many of the defendants decided it was cheaper to plead guilty than to defend themselves.

Even though no systematic analysis of predatory pricing was performed in any of the 123 cases, Koller established the following criteria for independently determining whether a monopoly was established by predatory pricing: Did the accused predator reduce its price to less than its short-run average total cost? If so, did it appear to have done so with a predatory intent? Did the reduction in price succeed in eliminating a competitor, precipitating a merger, or improving “market discipline”?

Koller’s criteria give predatory pricing theory more credit than it deserves: Below-cost pricing per se is not necessarily a sign of predatory behavior; it is a normal feature of competitive markets. Moreover, determining predatory intent is an exercise that is far beyond the capabilities of any economist and for which mystics might be better suited. And “eliminating a competitor” is the very purpose of all competition.

Employing those criteria for determining predatory behavior, Koller found that below-cost pricing “seems to have been at least attempted” in only seven cases. That, of course, proves nothing about monopolizing behavior, given the fact that below-cost pricing can be just as easily construed as competitive behavior. Koller claims that in four of the cases low prices seemed to have been motivated by the desire to eliminate a rival. One would hope so! The entire purpose of competitive behavior–whether cutting prices or improving product quality–is to eliminate one’s rivals.

Even in the cases where a competitor seemed to have been eliminated by low prices, “in no case were all of the competitors eliminated.” Thus, there was no monopoly, just lower prices. Three cases seem to have facilitated a merger, but mergers are typically an efficient alternative to bankruptcy, not a route to monopoly. In those cases, as in the others, the mergers did not result in anything remotely resembling a monopolistic industry, as defined by Koller (i.e., one with a single producer).

Despite over 100 federal antitrust cases based on predatory pricing, Koller found absolutely no evidence of any monopoly having been established by predatory pricing between 1890 and 1970. Yet at the time Koller’s study was published (1971), predatory pricing had long been part of the conventional wisdom. The work of McGee, Elzinga, and other analysts had not yet gained wide recognition.

In one of the most famous passages of “Wealth of Nations”, Adam Smith warns of the pervasiveness of business conspiracies: “People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public or in some contrivance to raise prices.”  But in the very next sentence Smith added: “It is impossible indeed to prevent such meetings by any law which either could be executed, or would be consistent with liberty and justice.” Smith clearly recognized the potential for business conspiracies; but whether they were likely or not, he believed that any government regulation of them was improper.                                                                     

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Examples of Alleged Predatory Pricing:

Standard Oil Company – In 1909, the US Department of Justice sued Standard under federal anti-trust law, the Sherman Antitrust Act of 1890, for sustaining a monopoly and restraining interstate commerce. The government said that Standard raised prices to its monopolistic customers but lowered them to hurt competitors, often disguising its illegal actions by using bogus supposedly independent companies it controlled. “The evidence is, in fact, absolutely conclusive that the Standard Oil Company charges altogether excessive prices where it meets no competition, and particularly where there is little likelihood of competitors entering the field, and that, on the other hand, where competition is active, it frequently cuts prices to a point which leaves even the Standard little or no profit, and which more often leaves no profit to the competitor, whose costs are ordinarily somewhat higher.”

France Telecom/Wanadoo – The European Court of Justice judged that Wanadoo (Now Orange Internet France) charged less than cost in order to gain a lead in the French broadband market. They have been ordered to pay a fine of €10.35m, although this can still be contested.

Microsoft  – released their web-browser Internet Explorer for free. As a result the market leader and primary competitor, Netscape, was forced to release Netscape Navigator for free in order to stay in the market. Internet Explorer’s free inclusion in Windows led to it quickly becoming the web browser used by most computer users.

According to an AP article  –  Minnesota forced Wal-Mart to increase its price for a one month supply of the prescription birth control pill Tri-Sprintec from $9.00 to $26.88.

According to a New York Times article – German government ordered Wal-Mart to increase its prices.

According to an International Herald Tribune article – French government ordered amazon.com to stop offering free shipping to its customers, because it was in violation of French predatory pricing laws. After Amazon refused to obey the order, the government proceeded to fine them €1,000 per day. Amazon continued to pay the fines instead of ending its policy of offering free shipping.

Low oil prices during the 1990s – while being financially unsustainable, effectively stifled exploration to increase production, delayed innovation of alternative energy sources and eliminated competition from other more expensive yet productive sources of petroleum such as stripper wells.

Darlington Bus War, Stagecoach Group – offered free bus rides in order to put the rival Darlington Corporation Transport out of business.

Tulip Mania– Delusions of Extraordinary Wealth: Reality of an Economic Bubble…

Tulip mania or tulipomania (Also, other Dutch names include: tulpenmanie, tulpomanie, tulpenwoede, tulpengekte…) was a period in the Dutch Golden Age during which contract prices for bulbs of the then recently introduced tulip reached extraordinarily high levels and then suddenly collapsed.

At the peak of tulip mania, in February 1637, some single tulip bulbs sold for more than 10 times the annual income of a skilled craftsman. It is generally considered the first recorded speculative bubble (or economic bubble), although some researchers noted that the Kipper-und Wipperzeit episode in 1619–22, a Europe-wide chain of debasement of the metal content of coins to fund warfare, featured mania-like similarities to a bubble. The term tulip mania is now often used metaphorically to refer to any large economic bubble (when asset prices deviate from intrinsic values).

The event was popularized in 1841 by the book Extraordinary Popular Delusions and the Madness of Crowds, written by British journalist Charles Mackay. According to Mackay, at one point 12 acres (5 ha) of land were offered for a Semper Augustus (most highly prized) bulb. Mackay claims that many such investors were ruined by the fall in prices, and Dutch commerce suffered a severe shock.

The tulip was introduced to Europe in the mid-16th century from the Ottoman Empire, and became very popular in the United Provinces (now the Netherlands). Tulip cultivation in the United Provinces is generally thought to have started in earnest around 1593 after the Flemish botanist Charles de l’Écluse had taken up a post at University of Leiden and established the hortus academicus.

There, he planted his collection of tulip bulbs— sent to him from Turkey by the Emperor’s (Ferdinand I, Holy Roman Emperor) ambassador to the Sultan, Ogier de Busbecq—which were able to tolerate the harsher conditions of the Low Countries, and it was shortly thereafter they began to grow in popularity.

Tulips grow from bulbs, and can be propagated through both seeds and buds. Tulips bloom in April and May for only about a week, and the secondary buds appear shortly thereafter. Bulbs can be uprooted and moved about from June to September, and thus actual purchases (in the spot market) occurred during these months. During the rest of the year, traders signed contracts before a notary to purchase tulips at the end of the season (effectively futures contracts).

Thus the Dutch, who developed many of the techniques of modern finance, created a market for durable tulip bulbs. Short selling was banned by an edict of 1610, which was reiterated or strengthened in 1621 and 1630, and again in 1636. Short sellers were not prosecuted under these edicts, but their contracts were deemed unenforceable.

As the flowers grew in popularity, professional growers paid higher and higher prices for bulbs with the virus(Streaked blossoms get their streaks from a harmless virus infection that causes the color to disappear in patterns, letting white or yellow show through.). By 1634, in part as result of demand from the French, speculators began to enter the market. In 1636, the Dutch created a type of formal futures markets where contracts to buy bulbs at the end of the season were bought and sold.

Traders met in “colleges” at taverns and buyers were required to pay a 2.5% “wine money” fee, up to a maximum of three florins, per trade. The contract price of rare bulbs continued to rise throughout 1636. That November, the contract price of common bulbs without the valuable mosaic virus also began to rise in value. The Dutch derogatorily described tulip contract trading as windhandel (literally “wind trade”), because no bulbs were actually changing hands. However in February 1637, tulip bulb contract prices collapsed abruptly and the trade of tulips ground to a halt.

tulip th

A standardized price index for tulip bulb contracts, created by Earl Thompson. Thompson had no price data between February 9 and May 1, thus the shape of the decline is unknown. The tulip market is known, however, to have collapsed abruptly in February.

The modern discussion of tulip mania began with the book Extraordinary Popular Delusions and the Madness of Crowds, published in 1841 by the Scottish journalist Charles Mackay; he proposed that crowds of people often behave irrationally, and tulip mania was, along with the South Sea Bubble and the Mississippi Company scheme, one of his primary examples. His account was largely sourced to 1797 work by Johann Beckmann titled A History of Inventions, Discoveries, and Origins.

In fact, Beckmann’s account, and thus Mackay’s by association, was primarily sourced to three anonymous pamphlets published in 1637 with an anti-speculative agenda. Mackay’s vivid book was popular among generations of economists and stock market participants. His popular but flawed description of tulip mania as a speculative bubble remains prominent, even though since then 1980s economists have debunked many aspects of his account.

According to Mackay, the growing popularity of tulips in the early 17th century caught the attention of the entire nation; “the population, even to its lowest dregs, embarked in the tulip trade”. By 1635, a sale of 40 bulbs for 100,000 florins (also known as Dutch guilders) was recorded. By way of comparison, a ton of butter cost around 100 florins, a skilled laborer might earn 150 florins a year, and “eight fat swine” cost 240 florins. (According to the International Institute of Social History, one florin had the purchasing power of €10.28 in 2002.)

People were purchasing bulbs at higher and higher prices, intending to re-sell them for a profit. However, such a scheme could not last unless someone was ultimately willing to pay such high prices and take possession of the bulbs. In February 1637, tulip traders could no longer find new buyers willing to pay increasingly inflated prices for their bulbs.

As this realization set in, the demand for tulips collapsed, and prices plummeted—the speculative bubble burst. Some were left holding contracts to purchase tulips at prices now ten times greater than those on open market, while others found themselves in possession of bulbs now worth a fraction of the price they had paid.

Mackay’s account of inexplicable mania was unchallenged, and mostly unexamined, until the 1980s. However, research into tulip mania since then, especially by proponents of the efficient market hypothesis, who are more skeptical of speculative bubbles in general, suggests that his story was incomplete and inaccurate.

In her 2007 scholarly analysis Tulipmania, Anne Goldgar states that the phenomenon was limited to “a fairly small group”, and that most accounts from the period “are based on one or two contemporary pieces of propaganda and a prodigious amount of plagiarism”. Peter Garber argued that the bubble “was no more than a meaningless winter drinking game, played by a plague-ridden population that made use of the vibrant tulip market.”

Earl A. Thompson, UCLA economics professor, argued in a 2007 paper that Garber’s explanation cannot account for the extremely swift drop in tulip bulb contract prices. The annualized rate of price decline was 99.999%, instead of the average 40% for other flowers. He provides another explanation for Dutch tulip mania. The Dutch parliament was considering a decree (originally sponsored by Dutch tulip investors who had lost money because of a German setback in the Thirty Years’ War) that changed way tulip contracts functioned:

On February 24, 1637, the self-regulating guild of Dutch florists, in a decision that was later ratified by the Dutch Parliament, announced that all futures contracts written after November 30, 1636 and before the re-opening of the cash market in the early Spring, were to be interpreted as option contracts. They did this by simply relieving the futures buyers of the obligation to buy the future tulips, forcing them merely to compensate the sellers with a small fixed percentage of the contract price.

Some economists point to other factors associated with speculative bubbles, such as a growth in the supply of money, demonstrated by an increase in deposits at the Bank of Amsterdam during that period. Goldgar argued that although tulip mania may not have constituted an economic or speculative bubble, it was nonetheless traumatic to the Dutch for other reasons.

“Even though the financial crisis affected very few, the shock of tulip mania was considerable. A whole network of values was thrown into doubt.” In the 17th century, it was unimaginable to most people who something as common as a flower could be worth so much more money than most people earned in a year. The idea that the prices of flowers that grow only in the summer could fluctuate so wildly in the winter, threw into chaos the very understanding of “value”.

The popularity of Mackay’s tale continues to this day, with new editions of Extraordinary Popular Delusions appearing regularly, with introductions by writers such as financier Bernard Baruch (1932), financial writers Andrew Tobias (1980), and Michael Lewis (2008), and psychologist David J. Schneider (1993). Nearly a century later, during the crash of the Mississippi Company and the South Sea Company in about 1720, tulip mania appeared in satires of these manias.

When Johann Beckmann first described tulip mania in the 1780s, he compared it to the failing lotteries of the time. Even many modern popular works about financial markets, such as Burton Malkiel’s A Random Walk Down Wall Street (1973) and John Kenneth Galbraith’s A Short History of Financial Euphoria (1990; written soon after the stock market crash of 1987), used the tulip mania as a lesson in morality.

Also in Oliver Stone’s drama Wall Street: Money Never Sleeps from 2010, a sequel to the classical 1987 film Wall Street, the tulip mania is referenced. Gordon Gekko, played by Michael Douglas, uses a historical chart displaying the market value of tulips and compares it to the Financial crisis of 2007–2010.

Tulip-mania again became a popular reference during the dot-com bubble of 1995–2001. Most recently, journalists have compared it to the subprime mortgage crisis. Despite the mania’s enduring popularity, Daniel Gross of Slate has said of economists offering efficient market explanations for the mania, that “If they’re correct … then business writers will have to delete Tulip mania from their handy-pack of bubble analogies.”

Blog by RJ dated 5/12/2010, “5-Famous Bubbles in History and What You Can Learn From Them”, writes: “This past decade, we’ve seen three bubbles burst: Dot-com era burst in 2000, real estate crash in 2008, and the credit crisis of 2008-2009. This type of behavior is nothing new to an economy. You would be surprised at how many bubbles there have been, and what made them burst, dating back to the 17th century. RJ looks at famous bubbles in history and ends with what you can learn from them.”

Tulip Mania: In the 17th century in Holland, tulips, yes the flower, were the rage. For just one tulip, you would have to trade 4 oxen, 8 pigs, or 12 sheep. Rare tulips were going as high as 10X the annual salary of a craftsman. As you probably guessed, eventually the market for tulips crashed. Those who speculated in the tulip craze soon had nothing.

Roaring 20′s: What caused the Great Depression? Debt: For the first time in history, individuals were given access to debt. Now they could buy a house, a car, and a radio and not pay till later. Even worse, people were using credit to purchase stocks. As we found out recently, when banks make loans to people who aren’t going to pay them back, they lose money. When banks stop making loans, a bubble bursts.

Japanese Bubble Economy: It’s a little shocking how similar the bubble in Japan was to the U.S.’s recent bubble. The Japanese Government loosened restrictions on banks. Banks made loans to people who couldn’t pay them back because it looked good in the books. Eventually, banks stopped making loans. Sounding familiar? The Nikkei 225, which is similar to the Dow Jones Index in the U.S., closed at 38,957.44 on December 31, 1989. As of today the Nikkei 225 is around 10,400.

Dot-Com Bubble: During 1995-2000, if a company had been considered a tech company, its stock price went up. It didn’t matter that the majority of these companies were not making any money. We were in a “new” era. A crazy amount of money, usually from private investors, was being thrown at small start-ups. Big corporations got greedy and acquired every start-up they could.

However, the small start-ups were not making money. Big corporations tried hard to make them profitable but since they had no experience in the tech industry they couldn’t. The site geocities.com was purchased by Yahoo for $3.57 billion. Ten years later, geocities closed down: Greed at its finest.

Credit Crisis: You probably have heard enough by now. U.S. Government relaxes restrictions on lending. Banks make loans to people who are not going to pay them back. The economy goes up because now banks can make loans to almost anyone. A couple of years later, everyone starts to default on their loans. Real estate prices drop. Banks stop making loans. Plus, they now own all the real estate that’s worth next to nothing.

“Inevitably, we can expect another bubble bursting or two or three. It’s just a matter of when. You can tell a bubble is about to burst when people start to get greedy and when everyone is saying that the rules have changed. The people who survive are those who are out of debt, have an emergency fund, and work hard (and smart). These are the same people who prosper during and after each bubble.”

Dysfunctionality: Get on the Same Page…

The famous tree swing picture (also known as tire swing, rope swing) depicting tire and rope swing in various states of dysfunctionality, illustrates the pitfalls of poor product design, or poor customer service, and the dangers of failing to properly listen to customers and interpret their needs.

The tree swing also demonstrates the dangers of departmental barriers, and failures of departments to talk to each other, and to talk to customers. As such, the tree swing is perfect for training these areas of quality, communications, customer care and inter-departmental relations. If you are using the tree swing to highlight a training subject most people very readily interpret the pictures into their own organizational situations.

 

Normally no pointers are needed – people very readily interpret the pictures into their own organizational situation. Here are a few typical ‘them and us’ reactions just in case:

Marketing – add unnecessary value, add complexity, bells and whistles, embellish, put their own mark onto things, fanciful, impractical, untested, untried, creativity for creativity’s sake, subjective not objective, theoretical not practical, clever ideas, think they know what’s best for the customers even if the survey feedback is utterly clear, fail to consult with engineering, production and anyone else in the organization.

Management – cost-conscious, process-led rather than output-aware, failure to understand and interpret real issues and implications, failure to ask questions, committee decisions produce impractical solutions, removed from reality, detached from customers and front-line staff, failure to consult with users and functional departments.

 Engineering – technical interpretation rather than practical, unconcerned with aesthetics and ergonomics, consideration stops after the ‘can we build it?’ stage, lack of consultation with specifiers and user representatives, meets specification but doesn’t work properly, inappropriate materials and absence of styling.

 Manufacturing – production specification over-rides design considerations, a law unto themselves, you get what you’re given, any color you like as long as it’s black, detached from users, specifiers, designers, and everyone else except other manufacturing staff, unconcerned with usability or functionality, certainly unconcerned with bells and whistles and added value, totally focused on production efficiency, cost and time, lack of liaison with all other departments.

 Maintenance – necessity is the mother of invention, very big tool-boxes, huge stocks of parts and ancillaries, materials, nuts, bolts and all other fixings known to man, happy to work all hours, especially evenings, weekends and public holidays at treble-time-and-a-half with days off in lieu, never consult with specifiers or customer specifications, enjoy quick-fixes, sticky-tape, mastic, bending bracket, planks of wood and extended tea-breaks, never liaise with any other departments and think management are all useless idiots who can’t even change a plug.

 Sales – if only we’d listened, understood, and checked with them once in a while….

Note: Uncertainty surrounds the origins of the tree swing cartoons. Several variations of the cartoons now exist, some extending to more than six pictures, in color and in more elaborate detail, covering additional departmental perspectives.

The simpler cartoons are re-drawn from the old photocopied versions of the tree-swing cartoon which hung on many office walls especially in the 1970s and 1980s. Those ‘original’ drawings seem to have provided the basis for the version which appeared in John Oakland’s book Total Quality Management, first published in 1989.

Change the Game: Change the Economics and Strategy of How It’s Played…

                         “adapt and evolve or become extinct”

In Tim Ferriss’ blog he writes: “The game today is all about changing the game. Competing head-to-head on products and services is table stakes. Innovators are looking for a new business model that will destabilize their rivals and produce a breakthrough opportunity.

In fact, in a recent survey of top-level executives in established companies IBM found that the biggest shared concern is that somewhere in the world—in a garage or a dorm room— someone is coming up with a new business model that will overthrow their established way of doing business.”

In Alan M. Webber’s, co-founder of Fast Company magazine and former editorial director of the Harvard Business Review, book ‘Rules of Thumb’ is a collection of 52 truths he’s culled from  notes specifically related to winning in business. These were a collection of notes, lessons, and insights he gleaned from his experiences travelling the world and in his interactions with people ranging from CEOs and spiritual leaders to basketball coaches, novelists, and stars from dozens of other worlds… Here is Rule #24.

 RULE #24 – If you want to change the game strategy; change the economics of how the game is played.

Once you start to look you’ll find companies in every industry that have changed the economics to change the game: from razors to cameras, computers to airlines, magazines to nonprofits. Companies that start by redesigning the economics of an industry often finish by redesigning the whole industry—and owning it.

Start by analyzing the status quo. What’s the standard economic model the industry uses today? When you pull it apart, how does it work? What are the assumptions that it’s based on? How and why has it become the industry standard? Take a look at it from the point of view of the customer. Exactly what is the customer paying for? And where does the business make its real money? Go back to Business School 101 and ask the fundamental question: what business are you really in?

After you’ve analyzed the standard business model, take a look outside your own industry. You may be able to learn some new tricks—or at least borrow some inspiration. What would happen if the whole business moved to the Web? If things that customers paid for now became free? Free, as the saying goes, is a pretty good price. What if you did a King Gillette and gave away the razor? What could you charge for? Take it one more step: are you hurting your business by charging for something you should give away free? (As daily newspapers watch their circulation numbers decline, some critics argue it would make more sense to give the papers away for free.)

After you’ve looked at the economics from inside the industry and from other industries, try looking at new platforms. Can you imagine new revenue streams that reflect changes going on in customer habits, customer experiences, or customer loyalty? Is emerging technology opening up new ways of connecting—or making customers pine for the good old days when things weren’t so high-tech? Don’t forget, everyone agreed that retail outlets were dead and all commerce was shifting to the Web. Then Steve Jobs opened up Apple stores with their Genius Bars. Counterintuitive can be a great economic model.

There are a lot of ways to reinvent an economic model. But most established companies are unwilling to do it because it would mean destabilizing their own operation. Which is exactly what those innovators and entrepreneurs in the garages and dorm rooms are counting on.

  Rule #38: If you want to think big, start small (an interaction with Muhammad Yunus)

Politics and Power in Business…

The use of politics and power is endemic to organizations. People come to work situations with many goals, not just one unified goal. These goals invoke conflict and competition among workers for the expenditure of scarce resources. This competition, in turn, effects the use of power and politics.

Although several researchers recognize the presence of politics and the use of power in organizations, the approaches used to study this topic vary considerably. Crozier (1964), for example, was among the first to identify subunit power. He observed how the ability of plant maintenance engineers to control uncertainty (by being the only group that could repair broken-down machinery) was a source of power for them.

Thompson (1967) also stressed “uncertainty coping” as a source of power. Salancik and Pfeffer (1977), and Tushman and Romanelli (1983) argued that those who are able to cope with uncertainty will adjust their social standing and increase power in the organization. Woodward (1965), on the other hand, emphasized one’s critical function in an organization as a source of power, while Hickson, Hining, Lee, Schneck and Pennings (1971), Salancik and Pfeffer (1977), Astley and Sachdeva (1984) identified several important variables including, resource control, hierarchical authority, non-substitutability, uncertainty coping, and centrality as sources of power and as connecting links to organizational politics.

In the book “The Concepts of Power and Organizational Politics” by John Gardner writes: “Of course leaders are preoccupied with power! The significant questions are: What means do they use to gain it? How much do they exercise it?” To what ends do they exercise it? He further states, “Power is the basic energy needed to initiate and sustain action or, to put it another way, the capacity to translate intention into reality and sustain it.” In a similar vein, Richard Nixon wrote, “The great leader needs . . . the capacity to achieve. . . . power is the opportunity to build, to create, to nudge history in a different direction.”

Dahl writing about the pervasiveness of the concept of power states, “The concept of power is as ancient and ubiquitous as any that social theory can boast.” He defined power “as a relation among social actors in which one actor A, can get another social actor B, to do something that B would not otherwise have done.” Hence, power is recognized as “the ability of those who possess power to bring about the outcomes they desire” (Salancik and Pfeffer 1977).

The concept of organizational politics can be linked to Harold Lasswell’s (1936) definition of politics as; who gets what, when and how. If power involves the employment of stored influence by which events, actions and behaviors are affected, and then politics involves the exercise of power to get something done, as well as to enhance and protect the vested interests of individuals or groups.

Thus, the use of organizational politics suggests that political activity is used to overcome resistance and implies a conscious effort to organize activity to challenge opposition in a priority decision situation. This indicates that the concepts of power and organizational politics are related, and organizational politics is the use of power, with power viewed as a source of potential energy to manage relationships.

Power is attractive because it confers the ability to influence decisions, about who gets what resources, what goals are pursued, what philosophy the organization adopts, what actions are taken, who succeeds and who fails. Power also gives a sense of control over outcomes, and may in fact convey such enhanced control. Particularly as decision issues become more complex and outcomes become more uncertain, power becomes more attractive as a tool for reducing uncertainty.

Power and the ability to use it are essential to effective leadership. Strategic leaders who are uncomfortable with either the presence of great power in others or its use by themselves are probably going to fail their organizations at some point. The critical issue is why the leader seeks power and how it is used. Some see power as a tool to enhance their ability to facilitate the work of their organizations and groups.

Others value power for its own sake, and exercise power for the personal satisfaction it brings. There can be good and bad in both cases. However, the leader who uses power in the service of his/her organization is using power in the most constructive sense. The leader who seeks power for its own sake and for personal satisfaction is at a level of personal maturity that will compromise his/her ethical position, risk his/her organization’s effectiveness, and perhaps even jeopardize the long-term viability of the organization (Jacobs 1996).

Organizations also play a political game. Organizations seek influence. Influence increases autonomy (freedom to control own assets); organizational morale (the ability to maintain cohesion and effectiveness); essence (sanctity of essential tasks and functions); roles and missions (exclusion of options that would challenge these); and budgets (increased roles and missions will always favor larger budgets) (Jefferies).

To increase their own influence, agencies in government and other organizations will provide information, recommend options, and execute directives in ways that enhance their own self interest. Jefferies illustrates with the decision to send a U-2 reconnaissance aircraft to over-fly the Cuban missile sites. The decision to send the U-2 was actually made 10 days before the flight occurred, but the implementation was delayed by the CIA-USAF struggle for the mission.

The CIA defined the mission as intelligence gathering and advanced the argument that it had a better U-2 than did the USAF. The USAF was concerned that the pilot be in uniform to avoid repetition of the Gary Powers crisis if the aircraft was shot down. (The total mission delay came from five days to make the decision and five days to train an Air Force pilot to fly CIA U-2s.)

A number of authors writing in Strivastva’s Executive Power (1992) argue that power at the strategic organization level is manifested and executed through three fundamental elements: consensus, cooperation, and culture. “An organization is high in consensus potential when it has the capacity to synthesize the commitment of multiple constituencies and stakeholders in response to specific challenges and aspirations.”

In this area, strategic leader power is derived from the management of ideas, the management of agreement, and the management of group and team decision making processes. “Cooperative potential refers to an organization’s capacity to catalyze cooperative interaction among individuals and groups.”

Power is employed by a strategic leader in the management of organization structures, task designs, resource allocation, and reward systems that support and encourage this behavior. “Cultural/spiritual potential refers to a sense of timeless destiny about the organization, its role in its own area of endeavor as well as its larger role in its service to society.”

Strategic leaders use power in this area to manage and institutionalize organizational symbols, beliefs, myths, ideals and values. Their strategic aim is to create a strong culture that connects the destiny of the organization to the personal goals and aspirations of its members.

Although the road to power is open to those who wish to travel it, not all will distinguish themselves as master practitioners. What skills and attributes distinguish those strategic leaders who use power effectively from those who do not? Pfeffer’s (1992) research and observations emphasize the following characteristics as being especially important for acquiring and maintaining strategic power bases:   “High energy and physical endurance is the ability and motivation to work long and often time grueling hours.

Absent this attribute other skills and characteristics may not be of much value.  Directing energy is the ability and skill to focus on a clear objective and to subordinate other interests to that objective. Attention to small details embedded in the objective is critical for getting things done.

Successfully reading the behavior of others is the ability and skill to understand who are the key players, their positions and what strategy to follow in communicating with and influencing them. Adaptability and flexibility is the ability and skill to modify one’s behavior. This skill requires the capacity to re-direct energy, abandon a course of action that is not working, and manage emotional or ego concerns in the situation”.

“Motivation to engage and confront conflict is the ability and skill to deal with conflict in order to get done what you want accomplished. The willingness to take on the tough issues and challenges and execute a successful strategic decision is a source of power in any organization.  Subordinating one’s ego is the ability and skill to submerge one’s ego for the collective good of the team or organization.

Possessing this attribute is related to the characteristics of adaptability and flexibility. Depending on the situation and players, by exercising discipline and restraint an opportunity may be present to generate greater power and resources in a future scenario. The skills and attributes relevant not only to the work of strategic leaders but may contribute to their overall capacity to acquire and use power effectively”.

“Professional Competence is one of the many ways leaders “add value” by grasping the essential nature of work to be done and providing the organizing guidance so it can be done quickly, efficiently, and well. ‘Conceptual Flexibility’ is the capacity to see problems from multiple perspectives. It includes rapid grasp of complex and difficult situations as they unfold, and the ability to understand complex and perhaps unstructured problems quickly.

It also includes tolerance for uncertainty and ambiguity. ‘Future Vision’ reflects strategic vision, appreciation of long-range planning, and a good sense of the broad span of time over which strategic cause and effect play out. ‘Conceptual Competence’ relates to conceptual flexibility in that both are essential for strategic vision.

It has to do with the scope of a person’s vision and the power of a person’s logic in thinking through complex situations. ‘Political Sensitivity’ is being skilled in assessing political issues and interests beyond narrow organizational interests. It means possessing the ability to compete in an arena immersed in the political frame to ensure that your organization is adequately resourced to support your stated organization interests”.

“Interpersonal Competence is essential for effectiveness in influencing others outside your chain of command, or negotiating across agency lines. It suggests high confidence in the worth of other people, which is reflected in openness and trust in others: Empowering Subordinates, Team Performance Facilitation, Objectivity, and Initiative/Commitment.

Understanding the character of strategic leader power and the requisite personal attributes and skills sets the stage for employing power effectively. We need to know more than the conceptual elements that constitute power in organizations at the strategic level. But, we need to know the strategies of how to use power effectively and to get things done”.

In contrast, power can be lost when organizations change and leaders don’t. “Organizational dynamics create complex conditions and different decision situations that require innovative and creative approaches, new skill sets and new dependent and interdependent relationships. Leaders who have learned to do things a specific way become committed to predictable choices and decision actions.

They remain bonded and loyal to highly developed social networks and friendships, failing to recognize the need for change, let alone allocating the political will to accomplish it. Ultimately, power may be lost because of negative personal attributes that diminish a leader’s capacity to lead with power effectively. A number of negative attributes that when linked to certain organizational dynamics will generate potential loss of power: Technically Incompetent, Self-Serving/Unethical, Micromanagement, Arrogant, Explosive, and Inaccessible”.

Pfeffer has described learning about power most succinctly: “it is one thing to understand power–how to diagnose it, what are its sources, what are the strategies and tactics for its use, and how it is lost. It is quite another thing to use that knowledge in the world at large…

In corporations, public agencies, universities, and government, the problem is how to get things done, how to move forward, how to solve the many problems facing organizations of all sizes and types. Developing and exercising power require having both will and skill. It is the ‘will’ that often seems to be missing.

Myopic Madness in Business…

Myopic: Narrow-minded approach to a marketing situation where only short-range goals are considered or where the marketing focuses on only one aspect out of many possible marketing attributes. This is a short-sighted and inward looking approach to marketing that focuses on the needs of the firm instead of defining the firm and its products in terms of the customers’ needs and wants.

Such self-centered firms fail to see and adjust to the rapid changes in their markets and, despite their previous eminence, falter, fall, and disappear. This concept was discussed in an article (titled ‘Marketing Myopia,’ in July-August 1960 issue of Harvard Business Review) by Harvard Business School emeritus professor of marketing, Theodore C. Levitt, who suggests that firms get trapped in this bind because they omit to ask the vital question, “What business are we in?”

“Every second, every minute: It keeps changing to something different.”-Enlightenment, Van Morrison

In this article, Levitt proposed that companies fail to successfully maneuver market transitions because they have a myopic view of the scope of their business. With reference to the railroad industry, he noted, “The reason they defined their industry incorrectly was because they were railroad-oriented instead of transportation-oriented; they were product-oriented instead of customer-oriented.” 

Some commentators have suggested that this publication marked the beginning of the modern marketing movement. Its theme is that the vision of most organizations is too constricted by a narrow understanding of what business they are in. It exhorted CEOs to re-examine their corporate vision; and redefine their markets in terms of wider perspectives. It was successful in its impact because it was, as with all of Levitt’s work, essentially practical and pragmatic.

Organizations found that they had been missing opportunities which were plain to see once they adopted the wider view. The paper was influential. The oil companies (which represented one of his main examples in the paper) redefined their business as energy rather than just petroleum; although Royal Dutch Shell, which embarked upon an investment program in nuclear power, subsequently regretted this course of action.

One reason that short sightedness is so common is that people feel that they cannot accurately predict the future. While this is a legitimate concern, it is also possible to use a whole range of business prediction techniques currently available to estimate future circumstances as best as possible. There is a greater scope of opportunities as the industry changes. It trains managers to look beyond their current business activities and think “outside the box”.

George Steiner (1979) claims that if a buggy whip manufacturer in 1910 defined its business as the “transportation starter business”, they might have been able to make the creative leap necessary to move into the automobile business when technological change demanded it. People who focus on marketing strategy, various predictive techniques, and the customer’s lifetime value can rise above myopia to a certain extent. This can entail the use of long-term profit objectives (sometimes at the risk of sacrificing short term objectives).

In an article by Russell J. White, president of PinnacleSolutions.org, he wrote: “Imagine, you have created something that is state of the art: The envy of the industry. You spared no expense and focused on every detail. Everyone says: It’s a can’t miss smash success! Everyone applauds your launch, customers wishing they could be the first to use your product, and you are ready to make money by the vault-load. What could go wrong?”

“Myopic Madness is what could go wrong: Your inability to see out in front of you causes you to crash into an avoidable obstacle and your project becomes the poster child for failure, in fact they make a movie about it and everyone enjoys watching your failure unfold in real time. This is the story if the Titanic. But it could be the story (up to the movie part) of many business ventures that failed to look far enough into the future.

Myopia is commonly known as near-sightedness or the inability to see clearly into the distance. American business has never been so myopic in its vision as it is today and the madness it creates is frustrating managers across the country. Myopic Madness is creating work atmospheres that are so short-term bottom line focused, managers are no longer properly training newly-hired employees, are employing bad work practices in order to boost end of the month numbers to make a report look healthier than it really is, and exploring offshore options to save money while ignoring the long term effects of all of these practices. Want to stop the Madness?”

“Leaders need to be able to see the future today and drive the organization toward that destination. Kodak ignored the future of digital photography and finally announced film would not be a profit center for their organization, all the while scrambling how to find a share of the new age of photography: Kodak without film profits? Invest the time, energy and resources looking where you are going, instead of focusing how to get one more order out by the end of the month. Success takes consistency and persistency, not herky-jerky short-term moves for all the wrong reasons.

“Consider the fad chasers. Cadillac now makes a small car that is more affordable for the masses. (So much for the elite brand, they are now just another division of GM.) Banks approve credit card applications as long as the applicant is breathing (and the write-offs are significant.) Anybody notice how much a share of Berkshire Hathaway still is? Here is the exception.

Warren Buffet defines fads, he doesn’t follow them and his success is off the charts. Your brand is something you should never sacrifice in the pursuit of short-term profits. If you make the biggest burger – then make the biggest burger and be proud. If you make an elite car, then only make an elite car! If you want to demonstrate strength as a company then don’t sacrifice your brand identity to make a few extra dollars this quarter. Your short-term vision may have you heading straight for an iceberg.”

At times, managers face short-term incentives that lead them to engage in “myopic marketing management”, in order to artificially inflate current-term earnings (and thereby increase current stock price), they cut marketing expenditures. How prevalent is this phenomenon of myopic marketing management? What are the long-term performance implications of myopic marketing management?

In the article “Myopic Marketing Management: The Phenomenon and Its Long-term Impact on Firm Value” by Natalie Mizik and Robert Jacobson they investigate these questions in the context of seasoned equity offerings (SEOs), i.e., when a firm issues additional equity to collect additional capital. Since the amount of capital collected by the firm depends on the stock price on the day of issue, managers have an incentive to engage in earnings inflation at the time of an SEO. This incentive stems from the fact that investors rely on current-term accounting performance measures to form their expectations of the future-term performance and, as such, to value equity.”

“Using empirical modeling and data from Thomson Financial Securities, COMPUSTAT, and the University of Chicago’s Center for Research in Security Prices (CRSP) databases, Mizik & Jacobson found the following: “A significant number of firms are engaging in myopic marketing management and are inflating their earnings by cutting marketing spending: at the time of an SEO, 65.0% of firms fall below their expected levels of marketing spending and 58.5% fall above their expected levels of earnings. 

Financial markets appear unable to distinguish firms that are practicing myopic marketing management at the time of an SEO from those that are not: myopic firms are overvalued at the time of an SEO, but in years subsequent to the SEO year, as the consequences of cutting marketing spending are realized in inferior financial performance, they have large negative abnormal stock returns.”

“While myopic marketing management has some short-term benefits in terms of higher current-term earnings and stock price, it has a detrimental long-term impact on firm value. Myopic firms have long-term stock returns significantly lower than other firms.  Myopic marketing management might have negative consequences not only for the firms undertaking myopic strategies, but also for the firms not doing so: non-myopic firms may be undervalued at the time of an SEO issuing and, as such, might not be able to collect a fair price for their new equity.  These results are likely to generalize to other contexts.

Firms practicing myopic management forego strategies with superior future profits for those that generate immediate returns. In general, managers have incentives to behave myopically when (1) their performance evaluation depends on a current-term outcome measure or on the stock market reaction and (2) they can engage in an inter-temporal shifting of expenditures that cannot be fully discerned by the evaluator.

The authors argue that myopic marketing management impairs marketing function, harms intangible marketing assets, and ultimately destroys shareholder value, and they suggest ways to change the attitudes and behaviors of managers and the financial market.”

In the article Marketing and Firm Value: Metrics, Methods, Findings, and Future Directions by Shuba Srinivasan and Dominique M. Hanssens they wrote: “Traditionally, marketing has focused its attention on customer or product-market results, such as customer counts, sales, and market share. The link to financial outcomes and stock price is rarely considered. Increasingly, however, marketing profession is being challenged to assess, communicate the value created by its actions on shareholder value. These demands create a need to translate marketing resource allocations and their performance consequences into financial and firm value effects.”

“In recent years, researchers in marketing have begun to examine the demand creation aspect of firm valuation. Although demand creation is but one aspect of management strategy, it is arguably the most important and the most challenging. If marketing’s contributions were readily visible in quarterly changes in sales and earnings, the task would be simple because investors are known to react quickly and fully to earnings surprises.

However, much of good marketing is building intangible assets of the firm—in particular, brand equity, customer loyalty, and market-sensing capability. Progress in these areas is not readily visible from quarterly earnings, not only because different nonfinancial “intermediate” performance metrics are used (e.g., customer satisfaction measures) but also because the financial outcomes can be substantially delayed. As with research and development (R&D), marketing is requesting the investor community to adopt an investment perspective on its spending.”

This article integrates the existing knowledge on the impact of marketing on firm value. Specifically, the authors examine the methods for determining the impact of marketing on investor valuation and summarize the existing findings in this area. The authors first frame the important research questions on marketing and firm value and review the key investor response metrics and relevant analytical models as they are related to marketing. Then, they summarize the empirical findings to date on how marketing creates shareholder value, including the impact of brand equity, customer equity, customer satisfaction, R&D and product quality, and specific marketing-mix actions on firm value.”

“Overall, the studies point to the link between marketing actions and investor response. In particular, the evidence supports the notion that investors are long-term oriented. In general, they favor marketing developments that improve the firm’s long-term outlook and discourage myopic marketing actions, though exceptions exist.

Thus, corporate executives are advised to generate better information about their intangibles (e.g., investments in brand building, product and service innovations, R&D) and the long-term benefits that flow from them and then to disclose that information to the capital markets to give investors a sharper picture of the company’s performance outlook.”

Customer Value : Realities and the Value of Perception

     “We don’t see things as they are. We see them as we are” – Anais Nin

A study by Stanford and Caltech found that increasing the perceived price of a bottle of wine increased the ‘actual’ and perceived enjoyment that tasters derived from drinking the wine: According to researchers at the Stanford Graduate School of Business and the California Institute of Technology, if a person is told he or she is tasting two different wines—and that one costs $5 and the other $45 when they are, in fact, the same wine—the part of the brain that experiences pleasure will become more active when the drinker thinks he or she is enjoying the more expensive vintage…

The researchers recruited 11 male Caltech graduate students who said they liked and occasionally drank red wine. The subjects were told that they would be trying five different Cabernet Sauvignon wines, identified by price, to study the flavor. But in fact, only three wines were used—two were given twice. The first wine was identified by its real bottle price of $5 and by a fake $45 price tag. The second wine was marked with its actual $90 price and by a fictitious $10 tag. The third wine, which was used to distract the participants, was marked with its correct $35 price.

A tasteless water was also given in between wine samples to rinse the subjects’ mouths. The wines were given in random order, and the students were asked to focus on flavor and how much they enjoyed each sample. In the study, the participants said they could actually taste five different wines, even though there were only three, and added that the wines identified as more expensive tasted better. The researchers found that with an increase in the perceived price of a wine that it lead to increased activity in the  mOFC (medial OrbitoFrontal Corte) of the brain, which was due to an associated increase in taste expectation.

The ability of “framing” to impact perceived value is consistent with the signalling function of digital virtual goods… basic point of the study is that there are physiological reasons for peoples perceptions (e.g., high price can be perceived as higher value, whether it true or not)…

  “What is madness? To have erroneous perceptions and to reason correctly from them.” – Voltaire

Part of our job as sales professionals revolves around our ability to understand how customers think. The more we can understand the way customers perceive value, the better we can position our solutions to help them derive the value that they seek. It is important for us to remember that… customers don’t choose one vendor over another accidentally; they choose for specific reasons that they value. Like an investigative reporter, or a detective trying to solve a complex mystery, we (as salespeople) endeavor to understand what causes customers to see the world the way they do.

The better we can understand the way customers think the more influence we can have on what they think about. Customers see the world through their perception and the way they interpret value (e.g., higher price could mean higher value). This creates a perception of the world and everything in it that customers accept as reality. Their perception seems to be the truth to them, and in fact, it is the truth to them. But what we think is truth, and what they (customers) think is truth could be two different realities.

Therefore, when an enterprise enters the marketplace; its business, people, and solutions have unique characteristics (differentiation) that distinguish them from other competitors. But every customer or decision-maker who might be asked to evaluate your enterprise; its business, people, and solutions could see a completely different picture, filtered by his or her own perception…it’s critical that both perceptions (customers & enterprise) are completely aligned with each other or the enterprise will not survive…

  “Often we color perception with other people’s pencils” – Tim Winter

In an article by Steven Bradley he writes: “Why do people buy your products? Why do they purchase any product or service? One thing is for certain, it’s not about the price. It’s a common fallacy that people buy based on price alone. Well some do, but most people buy based on value or rather their perception of value. Many small business owners begin their business life with the thought that they will enter their market and simply offer what they have at a slightly lower price, and all will be good. In truth it’s not the best or even a good idea, instead you should compete on value.

Everything about your enterprise should be about increasing the perceived value of your products and services in the eyes of your potential customers”. People don’t buy on price. They buy on value or more correctly their perceived value in a product of service. People buy brand name foods in the supermarket, because they believe the brand is better in some way and offers a better value. Two people can argue over which of the exact same television set is the better bargain because each perceives the set they are buying offers a better value.

There will always be some other business that can charge less than you can. A better option is to charge what you will and offer more value for that price. Give customers the perception that your products and services are a better value than the competition, and you have a good chance of selling to them. Then, back that up with real value to sustain that perception, and you’ll create loyal customers who buy again, and again….

 “It is one of the commonest of mistakes to consider that the limit of our power of perception is also the limit of all there is to perceive” – C.W. Leadbeater

In the article “More Expensive Placebos Bring More Relief” by Benedict Carey writes: In marketing, as in medicine, perception can be everything. A higher price can create the impression of higher value, just as placebo pill can reduce pain.  Now researchers have combined the two effects. A $2.50 placebo, they have found, works better than one that costs 10 cents.  The finding may explain the popularity of some high-cost drugs over cheaper alternatives, the authors conclude. It may also help account for patients’ reports that generic drugs are less effective than brand-name ones, though their active ingredients are identical.

The research was published in The Journal of the American Medical Association. The investigators had 82 men and women rate the pain caused by electric shocks applied to their wrist, before and after taking a pill. Half the participants had read that the pill, described as a newly approved prescription pain reliever, was regularly priced at $2.50 per dose.

The other half read that it had been discounted to 10 cents. In fact, both were dummy pills. The pills had a strong placebo effect in both groups. But 85 percent of those using the expensive pills reported significant pain relief, compared with 61 percent on the cheaper pills. The investigators corrected for each person’s individual level of pain tolerance.

“It’s a great finding,” said Guy H. Montgomery, an associate professor of cancer prevention at the Mount Sinai School of Medicine who was not involved in the research. “Their manipulation of price affected expectancies of drug benefit, and pain is the ultimate mind-body phenomenon.” Previous studies have shown that pill size and color also affect people’s perceptions of effectiveness. In one, people rated black and red capsules as “strongest” and white ones as “weakest.”

Other information like the country where the drugs were manufactured can also affect perceptions. “It’s all about expectations,” said the lead researcher, Dan Ariely, a behavioral economist at Duke and the author of a new book, “Predictably Irrational: The Hidden Forces That Shape Our Decisions” (HarperCollins). His co-authors on the report were Rebecca Waber, Baba Shiv and Ziv Carmon. “When you’re expecting pain relief, you’re secreting your own opioids,” Dr. Ariely added. “And when you get it on discount, you doubt it, and your body doesn’t react as well.

 “Don’t try to give your customers the best price; give them the best customer value for the price.” – “But only as the customer perceives value & price; not as you perceive value & price.”

Agony: Executive Failure…

“An organization is like a tree full of monkeys, all on different levels, some climbing up, some falling down, most just swinging round and round. The monkeys on top look down and see a tree full of smiling faces. The monkeys on the bottom look up and see nothing but ass-xxxx.” –In the April 16, 1999, issue of the Informant, a newsletter written by and for district attorneys, in the county DA’s office for a major metropolitan area.

Several years ago an article in Time Magazine wrote: During the years of business growth and expansion, executive promotions came soon and often in a long list of fast-growing U.S. companies. But all too frequently the rising members of the executive suite were hard put to handle their new assignments.

“A boom market,” says Pittsburgh Executive Recruiter Richard MacQuown, “can camouflage anything, including incompetence.” Now business is slowing down, and the camouflage is harder to keep up. Corporate chiefs increasingly must face the agonizing task of reinvigorating or dismissing failing executives.

The problem is surfacing in some of the biggest corporations. Yet the causes and cures of executive failure often baffle top managers. They are turning to behavioral scientists, who have classified at least three types of failing executives: “The Early Flameout”. Dr. Herbert Klemme, a psychiatrist at the Menninger Foundation, has found that many men go through a “midlife crisis” at about age 35.

Just around then, says Klemme, a man often faces the jolting realization that he cannot accomplish all his early dreams, and, more important, begins to think seriously for the first time about the inevitability of death. Some flameouts simply sink into depression, others start to drink heavily. In any event, their work and their careers suffer.

“The Climacteric Man”: Executives in their late 40s or early 50s often begin to perform sloppily in jobs they did well for years. Boredom is one reason. Paul Armer, director of Stanford’s computation center, explains another reason with his Paul Principle: “Individuals often become incompetent at a level at which they once performed quite adequately.” The executive may feel, rightly or wrongly, that he is undereducated, that he cannot keep up with the complexities of modern business and the talents of younger executives. Typical lament: “I’m too old to learn about this.”

“The Indecisive Boss”: This executive is so paralyzed by fear of making a mistake that he lets major problems pile up on his desk while he becomes preoccupied with trivia. Charles Bowen Jr., president of the management consulting firm of Booz, Allen & Hamilton, recalls that “one head of marketing for a large corporation spent his first six months almost totally concerned with the decorating of his office. There were things that needed his attention, but he could not face them.”

The Empty-Box Ploy: Whatever the cause, the executive who is slipping often betrays himself by telltale signs. He will work long hours, nag his staff about petty details, or replace competent subordinates with yes men. Refusal to take a vacation is an almost certain symptom. Failures are terrified that their shortcomings will be discovered in their absence.

Sometimes the failures resort to elaborate —and costly—ruses to cover their traces. In one TV-set manufacturing company, for example, a vice president could not meet his production goals and shipped empty boxes to distributors. When they complained, he insisted it had all been a mistake; by that time, he had managed to finish the sets.

Coping with obsolescent executives, says Wayne M. Hoffman, chairman of Flying Tiger Lines, is “the toughest job of top management.” U.S. business often goes to extraordinary lengths to shield its failures. Next to early retirement with an extra-generous pension, the most common tactic is to move the failure to an impressive-sounding job that has no content.

In fact, says Harvard Business Professor Abraham Zaleznik, he is “vice president of nothing.” The man with a lofty title, a high salary and little to do may seem to be in an enviable position, but few enjoy it. “I have talked too many of them,” says David Gleicher, a research executive at Arthur D. Little. “They are dying and they know it.”

The Sternest Test: Much more intelligent—and effective—methods could be used. Menninger’s Klemme believes that many early flameouts could be prevented by competent psychological counseling, which few companies offer. Older executives could be reinvigorated by sabbaticals or company-paid refresher courses in subjects that now frighten them (example: computer technology). They could be switched from jobs in which they are getting stale to different but important assignments. A shift need not be downgrading; on the average, a man in middle management today stays in his job only 18 months before moving on.

As a last resort, the most humane method may be simply to fire the man, with an honest explanation of the reason why. “Being fired,” says Los Angeles Management Consultant Thomas J. Johnston, “is another part of the executive job”—and the ability to bounce back from dismissal is perhaps the sternest test of executive fiber.