THE STORY
Most children love balloons, and the bigger the balloon, the better. When my children were small, I would sometimes blow up balloons for them. It’s hard work huffing and puffing to blow up the balloon, so I would like to stop when the balloon was still rather small. I’d show it to one of my children and say, “Is this big enough?”
The answer was always, “No Daddy, make it bigger!”, so I would huff and puff to put more air in the balloon. I’d show it to them again and ask, “Now is it big enough?” Again, the answer would be “No Daddy, make it BIGGER!!”
This would go on for awhile. Each time I put more air in the balloon, I could hear it squeak as the balloon would stretch thinner and thinner over the ever-increasing fullness of the air inside of it. My fear of the balloon exploding in my face would start to increase at a faster rate than the increasing size of the balloon. But my children had no fear. They were just excited because the balloon was getting larger.
Eventually, I would stop adding air—well before my children wanted me too, but after the point where it became difficult to tie a knot in the end. Then they would go off and play with the balloon and have fun…of course until it popped. Then they would come back and ask “Daddy, would you make me another balloon?”
THE ANALOGY
For my children, there was no such thing as a balloon that was “too large.” In their mind, bigger was always better. It didn’t matter how big it already was; it didn’t matter how much the risk of the balloon popping increased as it grew. They didn’t even see the risk. All they understood was a simple rule: the bigger the balloon, the better.
In designing strategy, there are normally metrics used to measure success of the strategy or there is some type of quantifiable goal. That metric or goal could be any of a number of measures, including it sales volume, market share, customer satisfaction, stock price, quality level, net income or some other similar measure. Many of the people I have met in business over the years treat these measures similar to how my children thought about balloons—the bigger, the better. It didn’t matter how large market share already was, or how satisfied their customers already were. They only knew that bigger was better.
Just as my children would shout “Daddy, make it bigger!”, these business people would continuously shout out how “We have to make this number bigger!”
Unfortunately, bigger is not always better. In the case of balloons, if I tried to make the balloon as big as my children wanted, it would have exploded long before they were satisfied. Then, instead of having a large balloon, they would have had nothing—except for tears.
Even if the balloon did not pop immediately, the larger size would increase the risk that the balloon would explode sooner while they were playing with it. In the long run, a longer, more enjoyable playing time would occur if the balloon were less than as large as it could possibly be.
The same is true for all of the various goals or metrics used to measure strategic success. A company will prosper longer and have more ultimate success if it does not try to push the limits of the metric to as large as it could possibly be.
THE PRINCIPLE
At this point, you may be asking yourself how it could be possible to have too many sales, or too much market share, too much consumer satisfaction, too high a stock price, too much quality, or too much net income? The reason is because of a principle called the “Law of Limits.” Although, in general, these measures are better when they are bigger, there is a limit to that principle. At a certain point, the bigger they get, the worse the situation for your business. Excessively high metrics lead to unintended negative consequences.
If we look at some of the previously mentioned metrics separately, you will see why this is true. Let’s start with sales. Sales are great, but after a certain point, not only are additional sales unprofitable, but the tactics necessary to get those additional sales can destroy the profitability or your other sales and even lead to the ultimate destruction of the entire company. There is an optimal level of customer sales. To achieve greater sales than that, one has to do destructive things, such as:
1. Bribe people to buy more than the natural limit by lowering prices to unprofitable levels or by adding more benefits or incentives than you can afford to offer. Worse yet, if you have to give the same bribes to your core customers, you have made your formerly profitable customers unprofitable as well. Or if you decide to only give the bribes to the new customers, run the risk of angering and alienating your core customer base when they find out that you have given them a worse deal, even though they have been loyal to you. If you do this bribery long enough, customers will now perceive your product or service as having less value and only be worth buying when the bribery tactics are in place. Just look at the difficulties the Detroit automakers are having trying to get customers to purchase one of their cars at full price, now that they are accustomed to all of the bribes of past years.
2. Compromise on the quality of your product or service, in order to afford the bribery mentioned above. You can only fool people so long and eventually they will find out that you have lowered your standards, making them less likely to purchase from you in the future.
3. In order to sell more now, you may not be selling more goods or services in total, but merely getting your customers to stock up more in advance. You may end up spending millions to ramp up capacity through the building of more factories and the building and filling of new distribution centers, only to find out a short time later that sales plummet when customers start using what they’ve stocked up on rather than buying more.
4. Some items—particularly those related to fashion, status and image—tend to lose their appeal when they are too commonplace in the marketplace. When “everyone” seems to have it, then “nobody” wants to buy it anymore. There is no longer any status associated with purchasing it, so people will move on the next status item. You may get a short burst of sales in the short run, but completely destroy your image of exclusivity and end up with nothing in the long run. The fashion world is littered with firms that were destroyed by reaching too far in their attempt to go mainstream.
5. You may end up selling your goods and services faster than you can effectively meet the demand. This will end up causing customer dissatisfaction though missed deadlines or by resorting to tactics to increase output which put the quality or profitability of your good or service at risk. This would include tactics such as hiring additional people who are not as skilled as your other employees, overworking employees to the point where they make mistakes, outsourcing to sub-standard producers who are not as good as current sources, or overpaying beyond what is profitable in order to quickly ramp up production.
Making profits too big can also lead to problems:
1. One way to create excessive profits is to raise prices. If you raise prices too high, you have created an opportunity for another firm (who is not as greedy) to come into the market and underprice you. By making a market “too profitable,” you will invite too much competition to enter the business. Eventually, the natural forces of all this additional competition will force you to back off from your higher prices. In the end, you are back to your old prices (if not lower) with a smaller share of the marketplace than before due to the extra competition you invited into the marketplace.
2. Another way to create excessive profits is to lower costs. If you lower them too much, you will either compromise today’s profit through destroying the quality of today’s goods and services or you will destroy future profitability by not reinvesting in your business for future growth.
Making the stock price too big is also problematic. Stock prices are based on expectations of future cash flow performance. In the single-minded drive to raise stock prices as high as they can go, one has to continually perform more excessive activities to convince people that the future is even brighter than what they previously thought. It’s a case of one-upmanship. Your promises of the future have to get ever bolder, your risk-taking has to get ever higher, your temptation to manipulate financial accounting for cash flow purposes grows, and so on.
Eventually, either your promises will stop coming true, your added risks will catch up with you, or your financial manipulations will be found out. Whichever happens will cause people to lose faith in the business and your stock price will be punished more than if you hadn’t done these activities. Just ask the investors in companies such as Enron how they feel about companies that focus too much on getting the stock price to astronomical levels.
Is it possible to make customers too satisfied? If you try to give customers everything they want, they will usually lead you to bankruptcy, because typically they want it all, and they want it now, and they don’t want to pay very much for it. And they are often not very concerned if these practices drive you to bankruptcy, because there is usually enough competition in the marketplace that they will find another alternative after you are gone. It is one thing to get customers to be more satisfied with you than the competition. It is quite another thing to go well beyond these levels and provide more than one could ever afford to offer long-term.
SUMMARY
Although it is good to have measurable goals and try to do better, one needs to remember that all metrics have natural limits. If you try to get larger than these natural limits, you will end up making matters worse rather than better. Your business will burst just like a balloon. And unlike the example with my children, when you burst your business you cannot just go to your “Daddy” and say “Please make me another one.” My children did not perceive the risk in getting the balloon too big. Don’t make the same mistake. To help remind yourself, whenever you are tempted to go too far in your shouts to “make it bigger,” put a balloon in your office. The balloon will act as a constant reminder to stay within the limits, so you do not burst your business.
FINAL THOUGHTS
If you put helium in your balloon, it can also remind you of a second principle, the principle of reinvestment. Helium will leak out of a balloon. If you do not keep refilling it, eventually the balloon will sink. The same is true for businesses. If you do not keep refilling businesses with reinvestment, they will eventually sink. But this is a topic for another day.
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