CEOs & Mistakes

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Mistakes are a necessary part of being a CEO and the price to pay for the risk of innovation. But there are ways to better avoid unnecessary mistakes in management, according to a new study.

"We are not arguing at all that people should not make mistakes, but that they shouldn't make unnecessary mistakes," said Bob Hoel, executive director of the Filene Institute.

Examples of mistakes that CEOs can avoid were discussed recently in a meeting sponsored by the Filene Institute and academic institutions. The discussion, in which CU CEOs also took part and contributed examples of their own errors, pointed to detecting common mistakes that shouldn't be made, according to Hoel.

"It is just a matter of being aware that these things can happen to you even if you are very capable and very successful," Hoel said.

Pepperdine University, the University of Wisconsin, and researchers Charles Holt, from the University of Virginia, and Gary Charness, from the University of California, also took part in the colloquium aimed at examining how credit union CEOs arrive at a decision-and the bumps along the way.

"One of the areas is where very smart CEOs become overconfident, rely on their intuition and become overly optimistic," offered Hoel. "They will have unrealistically precise and overoptimistic estimates of uncertainties."

Perhaps that is best seen in the introduction of new products and services at the credit union, according to Hoel. The new account that members were expected to flock to and for which employees were trained to brace for response, instead is met with indifference by the membership.

There are three ways to avoid that scenario, according to Hoel.

The first is to test the strategies on a wide set of scenarios. A second is to be concerned with the worst-case scenario, and to plan accordingly. And the third strategy is to be more flexible when introducing a product or service to allow for the possibility that one was overconfident.

"There is a great deal of research about why this happens, but the truth is that most CEOs at credit unions probably would think that they are above-average CEOs. Mathematically, that is not possible," observed Hoel.

Another mistake identified in the study is referred to as "mental accounting," Hoel said.

"For example a gambler often thinks that if they are ahead, they are using the house's money, and if they are behind, that they our using their own money. They can be more reckless when they think they are not dealing with their own money," Hoel noted. "Likewise, if a credit union is ahead of budget expectations, for some reason it tends to view that money differently. The thing is to realize that all money is money."

Another common mistake identified by the analysts is referred to as "anchoring." This is when a number becomes an anchor for future thinking and one loses focus, he explained.

"For example, if NCUA talks about delinquency rates and says 1% is a normal delinquency rate, very smart CEOs may inadvertently believe that that is a good number and may try to pursue that number as though it is the right number."

"The truth is that it is in their minds because somebody anchored it in their minds," he continued. "There is nothing wrong with a 2.5% delinquency rate if you have priced your loan products appropriately. Focus may be on delinquency rate but real focus ought to be on the end results."

One other common error the authors identified is referred to as the "sunk-cost effect." This occurs when a manager fails to cut losses at the right time, such as when expensive software isn't working properly and one fails to put it aside because of costs incurred.

"These are errors that pop up all the time. I would guess that most very smart CEOs occasionally make these errors," he said.

The Filene Institute will soon file a report on results, Hoel said, adding it was the first time that a discussion was held on the subject of mistakes made specifically by CU CEOs.

A statement from the Filene Institute noted that studying decision-making has even called the attention of the Royal Swedish Academy of Sciences, which has granted the Nobel Prize in Economic Sciences for work on behavior.

The Nobel Prize

In 2000 James Heckman, from the University of Chicago, and Daniel McFadden, from the University of California, won the Nobel Prize on economic science for work on theory and methods used in the analysis of individual and household behavior, according to the Swedish institution's web page.

Filene isn't alone in analyzing decision-making among credit union management. Barb Kachelski, senior vice president at the Credit Union Executives Society, said that the organization tackled the issue of poor decision-making in its November CEO Network Conference, when it had author Sydney Finkelstein as a guest speaker (see box).

"He has actually studied well-known failures and gave some very good advice to members," she explained. "He basically said that people tend to study success but that you can really learn more from failures."

During the lecture, Finkelstein said that sometimes the mistakes were strategic, but also noted, "Sometimes brilliant people had a wrong vision and sometimes people don't act on vital information," Kachelski said.

According to a web page describing the book, available through Dartmouth College's website, mistakes can occur frequently during the creation of new ventures and in the case of mergers.

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