How To Make Better Decisions

Editor’s note: Longtime Chief Executive columnist Jonathan Byrnes passed away on May 7 at age 75 after a long and valiant fight against cancer. The MIT professor, consultant and cofounder of Profit Isle was a brilliant mind, thoughtful businessperson—and kind man. We will miss him. This column is one of several that he submitted to us before his passing.

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Good decisions require both good information and clear logic. Surprisingly, when we make decisions, our minds incorporate a very broad and powerful set of assumptions that systematically prejudice our decision-making, causing costly but predictable misjudgments.

For example, many of the assumptions that we make about how customers will react to customer service and other customer-facing activities are misleading and incorrect. Consequently, we have a big opportunity to shape our customers’ experiences in ways we probably haven’t imagined. Similarly, we make systematic misjudgments in our decision-making, both in daily activities and in important strategic initiatives and mergers.

Think about this: When we conceptualize and measure customer service, we usually simply assume that people are “rational.” Thus, it seems obvious that if we produce 96 percent service, it is better than 93 percent service.

But there is a lot more to it than that. For example, if the 93 percent is accompanied by a warning and explanation of impending problems, and the customer can choose a substitute, the customer will be happier than if he or she received a higher nominal service level with no “heads-up” or ability to exercise control. (Remember: The only thing worse than bad news is no news.)

Similarly, a company with a 98 percent service level with a few memorable disasters will be perceived more negatively than a competitor with a 94 percent service level accompanied by report cards reminding the customer of the “great” overall service and a few anecdotes of “heroic” service incidents.

The important effects of these assumptions shaping our customer service and decision-making are rooted in a number of critical factors ranging from optimism and control to expectations and regret. Armed with this knowledge, we can systematically improve our decision-making and create profitable growth, all at no additional cost.

Optimism

People generally are unrealistically optimistic: We overestimate the likelihood of good events occurring. Even if a bad event occurs (e.g., an earthquake), within a few weeks people are unrealistically optimistic again.

Think about the implications for deciding whether to end an initiative or program with only mediocre performance. I recall a conversation in which the CEO of a major retailer observed, “My merchants are always a day away from profitability and a SKU away from greatness.”

Surprisingly, people are even more unrealistically optimistic if a very bad event occurs. For example, cancer patients are more optimistic than their healthy counterparts.

Control

If a bad event is predictable and we anticipate it, we develop ways to rationalize and adjust to the impact. This gives us a feeling of control. For example, a number of experiments found that subjects who receive strong shocks in a regular pattern deal with it better than subjects who receive mild shocks at unpredictable intervals.

Think about sitting on an airplane with no advice on the timing of a delay vs. getting updates every half-hour. This has important implications for letting customers know in advance about potential service problems.

People find it gratifying to exercise control, not only for the result but for the exercise itself. When people lose the ability to control things, they feel unhappy, helpless, and despondent. Losing control has much worse effects (on health and well-being) than never having had control.

The feeling of control is one of the wellsprings of mental health. One of the classic industrial engineering experiments found that assembly line workers who were allowed to work to the bottom of a bucket of bolts before it was refilled were much happier and more productive than those who had the bucket endlessly refilled.

We really value the freedom to choose. People will pay a high premium today for the opportunity to change their minds later, even if the actual economic consequence is overwhelmingly unfavorable.

Shaping perceptions

If a person describes his or her reaction to an event just after the event, the person will recall the description rather than the event, even if the description is not accurate. Most events have both positive and negative aspects. This means that you can shape someone’s recollection by asking questions that highlight the aspects you want the person to remember. For example, a simple, one-question follow-up note might ask, “What did you like best about the product/service?” rather than one that asks, “How can we serve you better?”

This works prospectively as well. If we suggest that someone focus on one aspect of an event (e.g., whether you look better with the new shirt sleeves rolled up or down), he or she will tend to disregard the other aspects.

Information acquired after an event actually alters a person’s memory of the event. For example, if you give a report card on your overall service, it will obscure a customer’s recollection of individual problems.

People remember, and focus on, the end of a sequence much more than the beginning, middle or average. In studies, people were more concerned about how they would feel at the end of their lives than about the total amount of happiness they experienced in their lives.

Explanations change people’s extreme perception of experiences. For example, simply talking, and especially writing, about a trauma will generate surprising improvements in well-being and physical health. This is particularly true when the writing contains an explanation of the trauma. Think about the benefit of having a troubled customer write a complaint, which you answer (giving the customer the feeling of control over the situation).

Anticipation and selection

When we imagine an upcoming event or an object, we visualize it as being much richer and more ideal than the full range of possibilities. This inevitably leads to disappointment. Citing quotes from customers expressing how happy they are using the product counteracts this.

People have a general inability to think about the absence of events. For example, a person will readily remember tripping, but not be aware of all the times he or she didn’t trip. This is why rare customer service problems unrealistically dominate customers’ perceptions, and why sending regular “report cards” on your overall excellent service is so effective.

When we have “holes” in our conceptualization of the past and the future, we plug in today. This means that our predictions are prejudiced by assumptions that things will not change. It also means that our view of past relationships and events are changed by what we feel today.

When we are selecting something, we focus on the most positive attributes. When we are rejecting something, we focus on the most negative. This leads to a common situation in which a person will both select and reject the same thing at the same time by focusing alternatively on positive and negative attributes, becoming paralyzed with indecision.

Predicting the future

When we think about events in the distant future, we focus on why they will happen; when we think about events in the near future, we focus on how they will happen. This is very important in evaluating mergers and other big initiatives. From a distance we leave out consideration of the implementation details, and later wonder why we committed to do it. The upshot: Get immersed in the details early so your evaluation is realistic.

People tend to assume that the future will look largely like today. Underestimating the future is a time-honored tradition. Arthur Clark observed, “When a distinguished but elderly scientist states that something is possible, he is almost certainly right. When he states that something is impossible, he is very probably wrong.” People almost always err by predicting that the future will be too much like the past.

The best way to make realistic predictions about future happiness is to find someone who is now having the experience and ask how he or she feels. This underscores the importance of developing “showcase” projects that allow managers to actually experience a new process or product, even on a limited basis.

Relative preferences

People are much more sensitive to relative amounts than to absolute amounts. In experiments, subjects preferred to receive a pay progression of $30 followed by $40 followed by $50, rather than $60 followed by $50 followed by $40, even though the latter amounted to more. Similarly, we prefer the sequence of a bad deal changed to a decent deal, to the sequence of a great deal changed to a good deal—even though the latter is “objectively” better.

We are more willing to contribute a small amount if we are first asked to contribute a much larger amount. The same applies to paying for a product or service. This is why stores often place an overpriced item next to a very overpriced item.

It is very hard for people to choose among similar items. In experiments, physicians facing the choice of prescribing two similar medications prescribed neither much more often than those physicians who only had one medication available. This is why effective retailers (and distributors) purposely limit their selections to “good, better, best, technology and/or fashion,” while ineffective ones assume that every additional alternative SKU will increase revenues and profits.

People imagine that they would prefer variety more than they do. The reality is that they only prefer variety if habituation sets in. Otherwise, in episodes separated by time, they strongly prefer favorites.

People prefer to avoid a loss more than to have the possibility of a gain. Many transactions fail because the seller overestimates his or her prospective unhappiness, while the buyer underestimates his or her prospective happiness. The seller implicitly wants compensation for a possible sizable loss, while the buyer expects a smaller gain. This has very important direct implications for approving a major new strategic initiative or negotiating an acquisition.

Perceptions of difficulties

People are very resilient in the face of trauma. Most bereaved people experience a relatively short period and low level of distress relative to their expectations. The same is true of people who suffer a disability.

In fact, most people consider their lives enhanced by the experience of trauma. This is the result of what some call our “psychological immune system,” which causes us to adjust quickly and rationalize the impact of a truly traumatic event. In a strange example, able-bodied people are willing to pay much more to avoid being disabled than disabled people are willing to pay to be able-bodied again. When things really go wrong, our minds actively shape our perceptions to make the best of things.

Paradoxically, it is more difficult to achieve a positive view of a somewhat bad experience than a really bad experience—because in truly difficult circumstances our minds find ways to justify and rationalize the new situation, while they do not do this with normal setbacks. Suffering triggers defense mechanisms that eradicate it. This suggests that it is very important to regularly try to reengage with lapsed customers, especially if they had a very difficult experience with your company.

Interestingly, we are more likely to develop a positive view of something if we are stuck with it. Patients feel more distress if a medical test is inconclusive than if it is positive. Thus, it is particularly important in managing major changes like a merger or change in strategic direction to move quickly to make organizational changes, and not to leave people waiting for “the other shoe to drop.”

Open-mindedness

We seek data that confirms what we already believe. In studies, researchers have shown that the wide availability of information on the internet has led to increased polarization, as people seek out the information that reinforces their preconceptions, rather than weighing information that supports alternative positions.

Similarly, our minds select from our memories the “facts” that fit our preconceptions, and this strongly shapes our perceptions, predictions and even our recollections. This is particularly important in assessing investments: Seminal finance studies have shown that in capital budgeting, finance managers actually set important but difficult-to-predict financial measures like the terminal value of an investment years from the decision point to values that will enable the investment returns to reflect their initial expectations or preferences.

Interestingly, when people have a problem, they especially seek information about others doing more poorly than themselves. For example, in a study, 96 percent of cancer patients said that they were in better shape than the average cancer patient.

Expectations and regret

When we feel dread in anticipation of something, we assume that this is how we will experience and recall the event. Our most consequential choices (e.g. marriage, profession) are most shaped by how we imagine our future regrets. We are especially prone to exaggerate our view of future regret when the choice is unusual rather than more conventional. “Showcase” projects, which demonstrate new ideas in action, can ameliorate this because they are a low-risk way to generate new experiences.

In an interesting study, 90 percent of respondents expected to feel more regret if they foolishly switched stocks, than if they foolishly failed to switch stocks. Most people think they will regret foolish actions more than foolish inactions. But, after the fact 90 percent of people really regret not having done things more than they regret things they have done. It is easier to visualize or imagine inactions than new actions with uncertain consequences. Obviously, this has huge implications for a manager’s willingness to innovate, even in the face of industry change and new competitors.

All at no cost

There are three main problems with the way our imagination works: (1) our minds fill in and leave out information in predictable, but unexpected ways, and we don’t even realize it; (2) we project the present into the future, and again don’t realize it; and (3) we fail to see that things will look different once they happen.

These factors are critical to the way we conduct our daily business, as well as to the processes we use to frame and evaluate everything from our day-to-day customer service policies to our major strategic moves. If we are aware of these tacit factors, we can take deliberate steps to significantly improve our performance. The key is awareness and understanding—and all at no cost.

Note: The underlying studies are presented in the book Stumbling on Happiness by Daniel Gilbert; the management interpretations are mine.