Calculated risks

Too often, management writers talk about risk in broad-brush terms, suggesting that if executives simply encourage experimentation and don’t punish failure, everything will take care of itself. But risk and failure profoundly challenge us as human beings. As Ed Catmull of Pixar said in a 2016 McKinsey Quarterly interview, “One of the things about failure is that it’s asymmetrical with respect to time. When you look back and see failure, you say, ‘It made me what I am!’ But looking forward, you think, ‘I don’t know what is going to happen and I don’t want to fail.’ The difficulty is that when you’re running an experiment, it’s forward looking. We have to try extra hard to make it safe to fail.”

The balancing act Catmull described applies to companies, perhaps even more than to individuals. Capital markets have typically been averse to investments that are hard to understand, that underperform, or that take a long time to reach fruition. And the digital era has complicated matters: On the one hand, willingness to experiment, adapt, and to invest in new, potentially risky areas has become critically important. On the other, taking risks has become more frightening because transparency is greater, competitive advantage is less durable, and the cost of failure is high, given the prevalence of winner-take-all dynamics.

Leaders hoping to strike the right balance have two critical priorities that are mutually reinforcing at a time when fast-follower strategies have become less safe. One is to embed a mind-set of risk taking and innovation through all ranks of the enterprise. The second is for executives themselves to act boldly once they have decided on a specific digital play—which may well require changing mind-sets about risk, and inspiring key executives and boards to think more like venture capitalists.

An appetite for risk

Building a culture where people feel comfortable trying things that might fail starts with senior leaders’ attitudes and role modeling. They must break the status quo of hierarchical decision making, overcome a focus on optimizing rather than innovating, and celebrate learning from failure. It helps considerably when executives make it clear through actions that they trust the front lines to make meaningful decisions. ING and several other companies have tackled this imperative head-on, providing agile coaches to help management learn how to get out of the way after setting overall direction for objectives, budgets, and timing.

However, delegating authority only works if the employees have the skills, mind-sets, and information access to make good on it. Outside hires from start-ups or established digital natives can help inject disruptive thinking that is a source of innovative energy and empowerment. Starbucks, for example, has launched a digital-ventures team, hiring vice presidents from Google, Microsoft, and Razorfish to help drive outside thinking.

Also empowering for frontline workers (and risk dampening for organizations) is information itself. For example, equipping call-center employees with real-time analysis on account profiles, or data on usage and profitability, helps them take small-scale risks as they modify offers and adjust targeting in real time. In the retail and hospitality industries, companies are giving frontline employees both the information (such as segment and purchase history) and the decision authority they need to resolve customer issues on the spot, without having to escalate to management. Such information helps connect the front line to the company’s strategic vision, which provides a compass for decision making on things such as what sort of discount or incentive to offer in resolving a conflict or what “next product to buy” to tee up. Benefits include improvements in the customer experiences (due to faster resolution) and greater consistency across the business in spotting and resolving problems. This lowers cost at the same time it improves customer satisfaction. In addition, frontline risk taking enables more rapid innovation by speeding up iterations and decision making to support nimbler, test-and-learn approaches. These same dynamics prevail in manufacturing, with new algorithms enabling predictive maintenance that no longer requires sign-off from higher-level managers.

Regardless of industry, the critical question for executives concerned with their organization’s risk appetite is whether they are trusting their employees, at all levels, to make big enough bets without subjecting them to red tape. Many CFOs have decided to shift all but the largest investment decisions into the business units to speed up the process. The CFO at one global 500 consumer-goods company now signs off only on expenditures above $250,000. Until recently, any spend decision over $1,000 required the CFO’s approval.