Leaning Your Way to Disaster

What do Toyota’s sudden-acceleration woes and the disastrous oil spill in the Gulf of Mexico have in common? Both are examples of a type of organizational breakdown that is destined, absent some fundamental rethinking of what “leadership” means, to become ever more common and damaging: complex systems failures triggered by seeming rational patterns of cost-reduction decision-making. Call it leaning your way to disaster.

A familiar example may help to illustrate how this works; I call it “restaurant syndrome.” A new restaurant opens. The food is wonderful, with excellent recipes and meals made with the highest quality, freshest ingredients. Garnering wonderful reviews, its popularity rises, the chef becomes a celebrity, and people vie for reservations. And then a predictable set of forces begins to take hold that ultimately doom the enterprise. Although the restaurant is profitable, its financial returns are modest. Good ingredients cost a lot, as does good talent. So bit-by-bit, a series of small decisions are made to cut costs and increase profitability. Over time, slightly less high quality ingredients are purchased. Recipes are standardized so that lower-cost talent can replicate them. The restaurant is expanded to increase capacity and realize the benefit of scale economies.

Taken in isolation, none of these decisions has a major impact, and each can be justified by cost-benefit analysis. But the cumulative impact begins to undermine the overall value proposition. Ultimately a threshold is reached when customers begin to notice that the restaurant isn’t what it once was, bookings fall off, triggering a further cycle of cost-cutting, and fueling a cycle culminating in failure. (One in four restaurants close or change ownership in their first year, and 60% do so by the end of three years.)

Many of the devastating corporate failures we are witnessing have their roots in similar dynamics. Toyota, which invented the system of lean production, appears to have leaned its way to disaster. Pressures to increase margins led to a series of decisions to cut a bit of cost here and a bit there in the design process. While each individual decision was probably justifiable, the cumulative impact appears to have made the company’s automobiles increasing fragile or “brittle” systems, ripe for unexpected forces — such as the interaction between a floor mat and an accelerator — to trigger a system failure.

BP’s experience with the catastrophic impact of the sinking of the Deepwater Horizon in the Gulf of Mexico points to a related dynamic: the dangers of systems failures that cross organizational boundaries. BP contracted with Transocean, the owner of the DeepWater Horizon, to do the drilling. Because it was not required to do so by U.S. law, Transocean did not utilize an additional layer of blow-out prevention, known as an acoustic trigger, that is mandated by Norway and other countries and has a proven track record. This device costs about $500K, which was viewed as too expensive. Transocean, in turn, contracted with Halliburton to do critical work injecting cement into the drill hole. Problems with the cementing is a prime candidate for the cause of the blow-out. Halliburton was also responsible for cementing a well off the coast of Australia that suffered a blowout in August 2009, with the cement job being the likely cause.

Regardless of which company caused the problem, BP is on the hook for billions of dollars in clean-up costs, not to mention severe damage to its reputation. It won’t be at all surprising to find out that executives at the company were not fully aware of the systemic risks that their contractors were taking.

How can these sorts of disasters be avoided? The only antidote to complex systems failures is systems leadership — a commitment on the part of leaders to be accountable for the cumulative impact of decisions and to take responsibility for what happens across organizational boundaries within their organizations and more in their supply, design, and distribution chains. I will take up this topic in more depth in my next post.

See the original post here, by Michael Watkins @ Harvard Business Publishing