Five Ways to Introduce Climate Smart Business Decision-Making

 

Source: COSO and WBCSD, based on risk assessment World Economic Forum

 

As a follow-up on last month’s post on business risk stemming from climate change, this post shows you how to incorporate thinking on climate change in your business processes and decisions. The list of ideas is by no means intended to be exhaustive, but it contains a number of ideas I stumbled on while following the excellent Climate Action course by the Sustainable Development Solutions Network of the United Nations.

1.   Include climate change risk in Enterprise Risk Management (ERM)

Now that climate change risks in particular – and ESG-risk in general – are increasingly becoming mainstream for the business community, the calls to integrate these risks in existing frameworks are getting louder. The survival of your business may be at risk according to the WBCSD (World Business Council of Sustainable Development):

Businesses are facing an evolving landscape of emerging environmental, social and governance (ESG)-related risks that can impact a company’s profitability, success or even survival.

The leading organization for ERM, or Enterprise Risk Management, COSO, has teamed up with the WBCSD to update the COSO-framework with ESG-related risks. This is as much proof as you will ever need to convince your fellow management team members that it’s time to start integrating ESG-risk in your business processes. The joined COSO-WBCSD team published an executive summary on how to best integrate ESG-risk into an existing ERM framework. High-level steps include:

  • Establish governance for effective (ESG) risk management.
  • Understand the business context and strategy.
  • Identify ESG-related risks.
  • Assess and prioritize ESG-related risks.
  • Respond to ESG-related risks.
  • Review and revise ESG-related risks.
  • Communicate and report ESG-related risks.

Please note that all actual mitigation strategies, such as moving production locations, switching to different raw materials and preparing for extreme weather, are the outcomes of your risk management process. In other words, by updating your ERM with climate (and other ESG) risks, you lay the groundwork to be able to mitigate those risks. For more on risk mitigation for the different risk categories stemming from climate change, see last month’s post.

2.   Disclose climate change related risk using an existing framework

The Task Force on Climate-related Financial Disclosures (TCFD), chaired by Michael Bloomberg, is rapidly emerging as the standard for core elements and recommendations to report on climate-related financial risk. The task force is part of the international Financial Stability Board, and the TCFD principles are backed by some of the leading firms in the world, such as ABN AMRO, Akzo Nobel, BlackRock, Coca-Cola, KPMG, Olam, Philips, Shell, Suez, Tata, Tesco and Unilever.

The recommendations of the TCFD revolve around a number of key features:

  • Adoptable by all organizations.
  • Included in financial filings.
  • Designed to solicit decision-useful, forward-looking information on financial impacts.
  • Strong focus on risks and opportunities related to transition to a lower-carbon economy.

Core elements of climate-related financial disclosures, as drafted by the TCFD, are:

  • Governance. The organization’s governance around climate-related risks and opportunities.
  • Strategy. The actual and potential impacts of climate-related risks and opportunities on the organization’s businesses, strategy, and financial planning.
  • Risk Management. The processes used by the organization to identify, assess, and manage climate-related risks.
  • Metrics and Targets. The metrics and targets used to assess and manage relevant climate-related risks and opportunities.

While the COSO-WBCSD recommendations on risk management mainly focus on internal risk management for the company itself, the TCFD recommendations should be taken to heart because it tells your company what your external stakeholders are seeking in terms of climate related disclosures. It is advisable to use an existing framework for your disclosures (e.g. GRI or IIRC) and, as an add-on for the climate related disclosures, make sure you integrate the TFCD’s recommendations to make it more relevant for your stakeholders.

3.   Use internal or shadow price for carbon in business decision

The mitigation strategy to prepare for a world where there’s either an emissions trading system (ETS) for carbon or a carbon tax, is using an internal (or shadow) price for carbon. An internal price puts a monetary value on all of your carbon emissions (or indeed on all GHG emissions), which you then use in investment decisions. The idea is that this helps your company prepare for times when policies are put into place that restrict or tax your carbon or GHG emissions. In the post on climate change risk, a number of big firm are mentioned that already adopted this practice. Among them are Microsoft, DSM, AkzoNobel, Carrefour and Sainsbury’s. How this works is revealed by The Economist in a recent article titled Low-carb diet:

Investors increasingly demand that companies take that possibility [of carbon taxes] seriously – 81 countries mention a carbon cost in their national pledges to limit global warming under the Paris climate agreement of 2015. Plenty of the Paris promises remain just that for now, but bosses ignore them at their peril, cautions Feike Sijbesma, who co-chairs the Carbon Pricing Leadership Coalition, which groups green-minded governments and business under auspices of the World Bank. In his day job as chief executive of Royal DSM, Mr Sijbesma has made the Dutch food producer examine all proposed ventures to check whether the sums still add up if a ton of carbon dioxide cost €50, well above the going rate of €6 or so in the European Union’s emissions-trading system (..). Where they do not, alternative feedstocks or cleaner energy suppliers must be found. If a project still looks unprofitable, it could be discarded altogether.

A third way to introduce climate change thinking in your business decisions would therefore be to adopt internal GHG prices into your investment and operational decisions.

4.   Join industry initiatives

Setting public goals, and reporting against those goals, might be one of the most powerful communication tools towards your stakeholders. If you want even more credibility, you can opt for tying these goals to science-based measures or work together with other companies in industry initiatives. The last option gives you the obvious advantage of learning from others, and you thus do not have to re-invent the wheel. Credible industry initiatives engage with important NGOs, think tanks and research organizations to set climate or sustainability related targets and implementation plans. Thus, proactive membership gives you an invaluable ‘line of defense’ in the sense that your company can always refer to the industry initiative to explain the decisions taken on action plans, goals or metrics used. This blog post is obviously not the place to give an exhaustive list of all industry initiatives for mitigating climate change. However, as an example, the WBCSD is (again) a good place to start:

  • Through the Rescale project, leading energy and technology companies are working together on solutions to accelerate the deployment of renewables and the transition to a low-carbon electricity system. Companies that signed up to the Rescale project are, among others, Unilever, Nestlé, DSM, Enel and ABB.
  • Sustainable fuels. The below50 project works towards sustainable fuels that emit at least 50% less as compared to traditional fuels. Some of the organizations involved are United Airlines, Audi, UPS, Arcelor Mittal and the Port of Rotterdam.
  • Climate Smart Agriculture. Through the three pillars of Climate Smart Agriculture (productivity, resilience and mitigation), this initiative is contributing to increasing the resilience and productivity of farmers in our food system to make 50% more food available and strengthen the climate resilience of farming communities, whilst reducing agricultural and land-use change emissions from agriculture by at least 50% by 2030 and 65% by 2050. Major names that signed up are Starbucks, Walmart, FrieslandCampina, Olam, Pepsico and Kellogg’s.

More of these initiatives under the auspices of the WBCSD exist (i.e. for the cement, freight, chemicals, buildings and forest products industries), and importantly, your organization might be more effective by joining an industry initiative with an agreed upon implementation plan, than creating climate strategies from scratch.

5.   Follow the debate(s) on climate change

A lot is written on climate change. There is still a lot of controversy over climate change, though we leave climate change naysayers in the same category as people who deny the link between smoking and lung cancer.  One of the main points of controversy that you may not yet heard of, is literally the sucking of carbon out of the air. This is one of the lesser known, but needed, strategies to reduce CO2 particles in the atmosphere according to The Economist:

Fully 101 of the 116 models the Intergovernmental Panel on Climate Change uses to chart what lies ahead assume that carbon will be taken out of the air in order for the world to have a good chance of meeting the 2°C target.

There are many arguments put forward by the opponents of carbon capture (different technologies exist: carbon capture and storage (CCS), carbon capture and utilization (CCU), bio-energy with carbon capture and storage (BECCS)), but the reality is the IPCC argues that we need a fair amount of it if we want to have a chance of living in an under 2°C world. Without taking a position here (just check the articles with the tag ‘slippery slope argument’ for some thoughts on that), it’s advisable to follow debates such as the one on carbon capture. It will raise awareness of the different viewpoints and from which angles your firm can expect criticism once you opt for a certain climate mitigation strategy (e.g. carbon capture). Maybe not so much a direct pathway to integrate climate change into your business processes, but by following the debates on climate change and disseminating information in your management’s risk meetings, you will create awareness of the controversies about mitigation strategies and, in turn, you will create a platform for further discussion.

By way of conclusion

From last month’s blog we’ve learned that climate change poses risks for your business, and how you can mitigate those risks. In this post, five ways for introducing climate change in your business lexicon have been put forward:

  • update risk management with climate risks;
  • disclose climate risks;
  • use internal carbon prices;
  • join industry efforts;
  • follow the climate change debates.

By adopting these strategies, climate change risks will be more easily identified and, in turn, more creative thinking on mitigation strategies in your organization will take hold.

Could You Be Wrong in Thinking Climate Change Does Not Affect Your Business?

Credit: Takver via Flickr

Introduction: what The Economist has to say about climate change and business

More than a year ago, we started off a series of blog posts on mandatory non-financial disclosures with a post on climate change. At that point, four risk groups of climate change were identified and suggestions were made on how to integrate climate risks in your overall risk management strategy. It is time to revisit and update the story on climate change, as climate science is advancing and impacts are becoming clearer.

As a heuristic (always a good idea, see this post), we gathered that the number of times The Economist, a weekly current events newspaper, wrote an article on ESG-related topics (i.e. risks stemming from environmental, social or governance aspects) would be a proxy for how serious firms should take ESG-risks. Climate change was the topic of the most articles by far in the period from roughly the end of 2015 to the end of 2017. We counted the following number of articles on ESG-topics:

  • Climate change: 38 articles.
  • Renewable energy: 18 articles.
  • ESG-risks: 12 articles.
  • Natural resource depletion and pollution: 11 articles.

Here’s how we think these topics fit together:

Please note we don’t claim any scientifically established causal relationships here; just a framework to put different topics loosely together and offer a way to think about interrelations. If you are looking for a scientific take on this, please visit the excellent report A Guide to SDG Interaction: from Science to Implementation from the International Council for Science.

Since climate change as a topic has the highest count in articles, is central to other topics such as the worldwide push for renewables and natural resource depletion (see schematic above), and climate change is advancing rapidly, we felt it was time to update our previous post on climate change risk. The importance of climate change risk is echoed by The Economist:

Ignoring the climate issues altogether looks like the biggest risk of all.

We will therefore revisit the four business risks already identified earlier (i.e. asset and infrastructure risk, yield and price risk, regulatory risk and reputational risk), and will propose a number of new risk groups that we found by reading recent articles by The Economist on ESG-topics.

Climate change and business risk, updated

In the table below, you will find all the business risks stemming from climate change found in The Economist. New risks (compared to our earlier blog post) are shown in bold italics. First, there are two additional business risks added to the risk group ‘external stakeholder actions to curb climate change’. Second, we found an entirely new risk group: ‘funding risk’.

For every business risk identified, we will now briefly describe the risk, give the examples found in The Economist, and offer a way to mitigate the risk.

Regulatory risk. More and more jurisdictions are introducing cap and trade schemes or carbon taxes. This inevitably means that firms have to take into account (future) carbon prices in investment decisions. According to the Carbon Pricing Leadership Coalition (a World Bank funded outfit that puts together business and governments to advance carbon pricing), ‘as of 2017, 42 national and 25 subnational jurisdictions are pricing carbon’. That already accounts for more than 20% of global CO2 emissions. In Canada, the announcement of a national carbon price puts high emitters at immediate risk. The province of Quebec in Canada, for instance, is lobbying to funnel $1 billion to Bombardier, an aircraft-maker, to make up for its payments of carbon taxes under a nationwide introduction of a carbon tax. Even if your own government is not imposing a carbon tax, there is increased risk that other governments start installing an import tax for every ton of CO2 emission in the making of a product. Indian steel makers, for example, will have to take into account a carbon tax when exporting to the EU, even though they do not currently face a carbon tax in India. What to do? More and more firms are using a price for carbon emitted in their long-term investment decisions. Putting a price on carbon in decision-making – and using a realistic price, say in the range of €50-60 per ton – will take into account any future carbon tax or cap and trade system. The Economist lists a number of companies that already use such internal carbon prices: Microsoft, DSM, AkzoNobel, Indian cement manufacturers ACC, Ambuja & Dalmia, French building materials producer Saint-Gobain, and supermarket chains Carrefour and Sainsbury’s.

Reputation risk. The sectors that face reputational risk include an obvious one and a, maybe, not so obvious one. To start with the obvious sector, the fossil fuel industry, it is not only CO2 emissions that are the target of environmentalists, but also methane leaks. That leaves companies like Shell, BP and ENI vulnerable to reputational risk even if they pledge to switch more and more to natural gas (infamous for methane leaks). Already, NGOs such as the Environmental Defence Fund are drawing attention to methane emissions in the production of natural gas that ‘now surpasses cow burps as a source of [methane] emissions’ according to The Economist. A sector that, as of yet, has not attracted the attention of environmental campaigners, is the cement industry. That might be about to change however, as more and more NGOs draw attention to an increasing number of industries now that it becomes clear that humanity is unlikely to keep temperatures less than 2°C warmer than pre-industrial times. Cement, together with steel, makes up a large part of the CO2 footprint for any building. And as firms try to lower their CO2 footprint, buildings, and thus cement, is another link in the chain in trying to reduce emissions. Firms that are exposed to this type of risk (i.e. reputational) are, according to The Economist, especially the major players in the cement industry, e.g. Heidelberg Cement Group and Cemex. Examples for mitigating these risks, as listed by the same newspaper, include setting publicly available targets (and reporting against those targets), carbon capture and storage, and using higher internal carbon prices for long-term investment decisions.

Shareholder pressure. An unlikely pressure group that turns its attention to climate change, are shareholders. Unlike environmental groups, who strive for direct reduction in emissions, shareholders would like to see that companies identify the impact of climate change regulations and policies on business plans. Again, the industry where shareholders are, at the moment, most active is the fossil fuel industry. The Economist refers to Shell, Total, Chevron and Exxon as firms where shareholders are particularly active to push towards pricing in carbon in investment decisions as the preferred mitigation strategy. Total goes further: ‘It plans to set out its ambition to develop an energy mix by 2035 consistent with Paris-style global-warming limits, including a pledge to invest $500m a year in renewables, and a “symbolic objective” to raise their share to 20% of its portfolio, from 3%. In an effort to complement its acquisition of a solar-energy company, it launched an offer to acquire a battery-maker, which will bolster its expertise in electricity storage’. Hidden in this mixture of Total’s plans, are a plethora of mitigation strategies that would please many shareholders pushing for just that: increasing the stake in renewable energy, taking head of broad international movements like the Paris agreements and adjusting strategies accordingly, and setting publicly available targets. Do this, and add to the mix internal carbon prices for investment decisions, and your firm will have a good policy mix to satisfy shareholder demands.

Lawsuit risk. In an article dubbed ‘Lawsuits against climate change’, The Economist points out that the number of lawsuits where the negative effects of carbon emissions are central, are rising. The targets are both governments and big energy firms. Ironically, governments also sue energy firms: San Francisco is taking BP, Chevron, Exxon and Shell to court. All of this is made possible by improved climate science: ‘Scientists are increasingly confident that they know roughly what shares of the greenhouse gases in the atmosphere were emitted by individual countries, and even by the biggest corporate polluters. (..) just 90 belched out 63% of all greenhouse gases between 1751 and 2010.’ In a fascinating report by the Carbon Majors Database, all these companies are listed. Unsurprisingly, the 90 firms are either big energy firms, mining corporations, or cement manufacturers. Even if your firm is not listed, you might want to check if a similar study is done for your own country, and you may find that your company is listed in that ranking. Climate litigation is on the rise. The focus is on big energy firms for now, but cement manufacturers and mining corporations might be next. The sooner you map your firm’s GHG emissions and estimate the risk that an interest group or government targets you in the near future, the better.

Decreased access to capital markets. The last new risk that we identified as compared to our last post on climate related risk for companies, is a funding risk. As climate change becomes more of an issue, investor demand for green bonds is increasing. At the same time, investors are backing away from industries that run greater risk from climate change (these risks are, essentially, all other risks described here). Moody’s, a rating agency, puts energy firms and car makers, for example, in a higher risk category. This can obviously translate in lower stock prices and higher premiums in bond markets. Big investors are adopting climate strategies rapidly. Allianz, for example, is not putting money in firms that derive more than 30% of their energy from coal; and even the biggest asset management firms like BlackRock have set-up dedicated green-bond funds fueled by investor demand. Another recent development is that rating agencies are threatening cities with downgrades if they don’t do more on climate change mitigation (also see asset and infrastructure risk below). Companies might well be next.

Asset and infrastructure risk. As 2017 proved, with hurricanes Harvey and Irma as horrifying examples, climate change increasingly poses a threat for assets and infrastructure. As wet places get wetter and stormy places get stormier, cities around the world are making plans to raise roads and improve drainages. Your business would be well advised to do the same. As an example, you could use impact models (such as the Inter-Sectoral Impact Model Intercomparison Project (ISI-MIP)) to establish which of your business locations are at risk, and implement a mitigation strategy for those locations accordingly. We could not find any specific examples in The Economist of businesses that have already implemented mitigation strategies for asset and infrastructure risk, however. It mainly refers to cities and governments to take action to protect assets and infrastructure. Your firm should follow the example of cities.

Price and yield risk. What we discussed for asset and infrastructure risk, more or less also holds for price and yield risk. Although The Economist acknowledges the risk (‘by 2050, even if temperature rise is successfully limited to 2°C, crop yields could slump by a fifth’), we could not find any mention of individual firms that are already affected by this. Again, this should not be a reason for a wait-and-see attitude. A good starting point is the Agricultural Model Intercomparison and Improvement Project (AgMIP). This major international collaborative is an effort to improve agricultural simulation and to understand climate impacts on the agricultural sector at global and regional scales. AgMIP produce highly useful maps for your businesses to gauge the impact of climate change on yields for crops in your supply chain.

Industry climate change risk profile

Reading through the business risks in the previous section, you will have been able to quickly assess if your firm faces a particular risk or not. By deconstructing climate change risk into seven distinct business risks (i.e. regulatory, reputational, shareholder pressure, lawsuit, funding, asset & infrastructure, and price & yield), you now have a tool to help you decide if the – arguably – abstract concept of climate change is relevant to your organization.

By way of summary, we have added specific industries (mentioned in The Economist articles that we consulted) to the individual business risks identified. This isn’t to say that other industries aren’t impacted by each type of business risk. See the table below:

Coming up with the right strategy mix to mitigate these risks might not be easy. Renewable energy, insurance policies, carbon capture and storage, (higher) internal carbon prices, improving drainages, moving production locations: they could all be visited as possible solutions. Keep in mind that the combination ‘climate change’ and ‘business’ does not feel like a realistic combination. We would argue that this is normal human behavior, since climate change is not a risk that has hurt your business in the past. But we hope to have shown with examples taken directly from The Economist, that your competitors and fellow business organizations are already fully taking on business risks stemming from climate change. A final word of caution from Nicholas Taleb:

People in risk management only consider risky things that have hurt them in the past (given their focus on ‘evidence’), not realizing that, in the past, before these events took place, these occurrences that hurt them severely were completely without precedent, escaping standards.

2017 Holiday Reading to Blow Your Mind (and expand your perspective)

In November, I mentioned that Peter Drucker thought of management as a liberal art. Last year I already recommended some contemporary philosophy to broaden your horizons (see, Holiday Reading to Blow Your Mind).  In 2017, I picked up some history books that give grand sweeping views of how we ended up in this day and age. Again, as in 2016’s holiday reading list, I tried to put the books in some kind of broad structure (see the photo directly above). It might give you an indication of what you want to read next after finishing one of the central books in the photo.

The two central books of this year’s list (note: not written in 2017, just read by me this year) are Fukuyama’s The Origins of Political Order and Harari’s Sapiens.

The Origins of Political Order. Francis Fukuyama. One of the first things I learned from glancing through the chapter headings of this book was that political institutions as we know them do not start with democracy in Greece. Instead, Fukuyama shows us the Chinese already gradually built a successful bureaucracy to govern vast lands from the 8th to the 3rd century BCE. The premise of the book is deceitfully simple: countries, empires, republics, etc. that work, have a couple of things in common: successful state building, rule of law, and accountability of governments. Fukuyama takes us on a tour of world history to show us where each of these three concepts first originated. He also shows us many examples of states that do not function because one or more of the three components are missing. Another thing I got out of this book is that I’ll never again take my country’s institutions for granted. In a way, these institutions have been shaped by an evolutionary process on societal level, to hand us working bureaucracies, rule of law and accountable government. If you won’t take my word for it, here’s what The Spectator wrote about this book of big ideas:

The Origins of Political Order is a magisterial work by an influential scholar, drawing on massive research in the social sciences as well as history and evolutionary biology. It provides a powerful and provocative analysis of the origins of the modern state, of relevance not only to historians and political scientists, but to anyone wishing to understand the nature of democratisation in the modern world and how it is to be achieved.

Sapiens – A Brief History of Humankind. Yuval Noah Harari. Harari takes us both further back in time than Fukuyama does, and into the future. This is a book with as broad a scope as you can imagine. Harari tries to answer the question why homo sapiens came to rule (and possibly will destroy) the world. One of his key proposals is our capacity for thinking in concepts that exist outside immediate reality:

(…) the truly unique feature of our language is not its ability to transmit information about men and lions. Rather, it’s the ability to transmit information about things that do not exist at all. As far as we know, only Sapiens can talk about entire kinds of entities that they have never seen, touched or smelled.

Concepts such as democracy, human rights, and religion are all put in a new light:

Yet none of these things exists outside the stories that people invent and tell one another. There are no gods in the universe, no nations, no money, no human rights, no laws and no justice outside the common imagination of human beings. People easily understand that ‘primitives’ cement their social order by believing in ghosts and spirits, and gathering each full moon to dance together around the campfire. What we fail to appreciate is that our modern institutions function on exactly the same basis.

This is a thought provoking book. You might not like or agree with some of the things Harari has to say, but he surely makes you see the world in a new light.

Reading Sapiens, I couldn’t stop thinking about another great book a read some years back:

The Mating Mind. Geoffrey Miller. One of the questions that to me always seemed unresolved, is why homo sapiens evolve in such a peculiar way. Or, better put, why do our ideas, concepts and ideologies (think human rights, democracy and religion for instance) evolve faster than the snail’s pace of biological evolution? Miller thinks he has the answer. He compares the human brain with a peacock’s tail. For every species, a different trait evolved to be the mechanism of natural selection. For the peacock, it was the feathered tail. For humans, argues Miller, it was the mind. Thus: our capacity for concepts that sit outside direct reality (cf. Harari);  our capacity for creating and telling stories our capacity to come up with things like democracy and human rights. In Miller’s words:

Once sexual choice seized upon the brain as a possible fitness indicator, the brain was helpless to resist. Any individuals who did not reveal their fitness through their courtship behaviour were not chosen as sexual partners. (…) By opening up our brains as advertisements for our fitness, we discovered whole new classes of fitness indicators, like generosity and creativity. (…) The healthy brain theory proposes that our minds are clusters of fitness indicators: persuasive salesmen like art, music, and humor, that do their best work in courtship, where the most important deals are made.

This is one of those books whose central idea will stay with you. Like Fukuyama’s idea of state building, rule of law, and accountability. And like Harari’s view on concepts existing outside of direct reality.

The other book that I kept thinking about while reading Sapiens, was:

23 Things They Don’t Tell You about Capitalism. Ha-Joon Chang. This book is a bit of an outlier in this list. A lot of big ideas and concepts are discussed in Origins and Sapiens, and on some of these ideas have been written wonderful little volumes. One of these is 23 Things. It is not a history (therefore an outlier in this list), but it deals with a concept that features prominently in Sapiens: capitalism. In Sapiens, you are told things like:

Ask a capitalist how to bring justice and political freedom to a place like Zimbabwe or Afghanistan, and you are likely to get a lecture on how economic affluence and a thriving middle class are essential for stable democratic institutions, and about the need therefore to inculcate Afghan tribesmen in the value of free enterprise, thrift and self-reliance.

Where Sapiens looks at capitalism as an ideology and even a religion (you will feel a natural response to protest against this ‘sacrilege’), 23 Things will give you all the more arguments to see what Harari means. Ha-Joon Chang, formerly with the World Bank and now at Cambridge University, explains why we need to think differently about capitalism, and why some truisms repeated over-and-over by world leaders and big institutions alike, might actually not have any truths to them. An important book. Not in the last place because it shows us how we are lured into stories. For the record: I’m not saying we should abandon capitalism; I’m saying we should see it for what it really is. And 23 Things is indispensable in being able to do so.

So, Sapiens triggered me to think about books that were already familiar to me (The Mating Mind and 23 Things). In contrast, Fukuyama triggered me to pick up some new books from my ‘to-read-pile’. Fukuyama makes an impressive case for religion having meant more to societies than just religion. An even more thorough case is made in:

The Evolution of the West: How Christianity Has Shaped Our Values. Nick Spencer. One of the few books I have ever (knowingly) read by a religious writer. Echoing Fukuyama, Nick Spencer argues that Christianity was instrumental in creating individualism in the Western world. Christianity, according to the writer, also shaped rule of law (cf. Fukuyama), humanism, human rights, capitalism, science, atheism, ethics, and democracy, to name just a few concepts covered in this beautifully written book. Warning: this is a rewarding read, but not an easy one. The Economist seems to agree:

It is not a popular thesis but, like a prophet crying in the post-modern wilderness, Mr Spencer provokes reflection that goes far beyond the shallow ding-dongs of the modern culture wars. He wants to make sure Westerners know where they came from as a way to illuminate where they are going.

Another book on the to-read-pile, that seems an obvious follow-up to Fukuyama, is:

Why Nations Fail: The Origins of Power, Prosperity and Poverty. Daron Acemoglu & James A. Robinson. I did not read this one yet. But I’m curious if Fukuyama’s three concepts of state building, rule of law and accountable government also play a prominent role in this book. From the back cover:

Based on fifteen years of research, and answering the competing arguments of authors ranging from Jeffrey Sachs to Jared Diamond [more on him next], Why Nations Fail blends economics, politics and history to provide a powerful and persuasive way of understanding wealth and poverty.

Finally, Sapiens and The Origins of Political Order evoke strong images of:

Guns, Germs and Steel. Jared Diamond. In its scope and grand sweeps, and trying to answer big questions, this is certainly a classic of the genre of big history, big questions, and big answers. I’m sure most of you have already read this book a long time ago. If not, it is probably enough to say that Jared Diamond’s books are in the bibliography of Sapiens, The Origins of Political Order, The Mating Mind, and Why Nations Fail. Harari speaks about Diamond when he says ‘[he] taught me to see the big picture’.

Happy holidays, and happy reading!

6 Tips to Foster Practical Wisdom in Decision Making

Aristotle might be best known for ‘inventing’ science (see my discussion of The Lagoon – how Aristotle invented science) and being a rather rational kind of chap. Although this is certainly true, and you can learn a lot from reading his treatises (his extant works read more like lecture notes than books) such as On the Soul, Physics, and Metaphysics, I stumbled upon the interesting Aristotelian term phronesis that translates as ‘practical wisdom’.

In The Nichomachean Ethics, Aristotle explains that practical wisdom (phronesis) is something else than scientific knowledge (epistēmē). In the sense that practical wisdom is rooted in action and can essentially create different realities (or outcomes) by taking action; scientific knowledge, instead, describes how reality is:

(..) since scientific knowledge involves demonstration, but there is no demonstration of things whose first principles are variable [such as decision making in reality], and since it is impossible to deliberate about things that are of necessity, practical wisdom can not be scientific knowledge nor art [technē, a technique, in the sense of making things]; not science because that which can be done is capable of being otherwise, not art because action and making are different kinds of things. The remaining alternative, then, is that it is a true and reasoned state of capacity to act (…).

This passage is pregnant with implications for managerial decision making. Although you should make use of scientific insights if they are available, and you should take into account knowledge on how to build real-life things (i.e. cars, bridges, consumer products, etc.), managerial decision making often has other, less tangible characteristics. For example, think about creating a strategy, an organizational structure or a company culture. Some characteristics of this kind of decision making that spring to mind are:

  • Uncertainty. You probably do not have all the knowledge and all the details. Outcomes cannot be predicted with certainty and are, thus, contingent.
  • Context-dependent. You are not taking a decision in isolation: How will my competitors act? What will my employees think and do? How will my stakeholders react?
  • Non-demonstrable outcomes. There are no scientific rules. There is not even an exact copy of the problem at hand.
  • Action-oriented. Your decision entails an actual follow-up in the real world; in a way, you will alter reality with your actions.
  • Multiple outcomes possible. Your actions will alter reality. But, the outcome is not fixed as it would be if there was scientific certainty. You change the outcome by taking different actions: you can create endless variations in strategies, organizational structures or cultures, for example.

Professors Ikujiro Nonaka and Hirotaka Takeuchi, in their Harvard Business Review article, call for ‘wise leaders’ to make decisions in such a context:

Dependence only on explicit knowledge prevents leaders from coping with change. The scientific, deductive, theory-first approach assumes a world independent of context and seeks answers that are universal and predictive. However, all social phenomena – including business – are context dependent. (…), the world needs leaders who will make judgments knowing that everything is contextual, make decisions knowing that everything is changing, and take actions knowing that everything depends on doing so in a timely fashion. They will have to see what is good, right, and just for society while being grounded in the details of the ever-changing front line. Thus, they must pair micromanagement with big-picture aspirations about the future.

Echoing Aristotle and Nonaka & Takeuchi, I therefore conclude that (managerial) decision making is not a science (epistēmē) and not a technique (technē). But, rather, it is applying practical wisdom (phronesis) to a situation that demands an analysis and a wise decision when facing uncertainties and incomplete information. Now, with Hardin, we can ask ourselves the question ‘What operations are implied by these statements?’ Or, ‘What does this mean in practice?’

In the following paragraphs, I will therefore offer 6 tips to operationalize the concept of practical wisdom.

Tip 1: use your mission and vision as a guiding principle in decision making

In taking on any decision, hold it against your mission and your vision. Your organization’s mission tells you the organization’s reason-of-being: why does your organization exist in the first place. The vision tells you what you are trying to achieve in the medium to long term. For more on one of the most important aspects of business (i.e. your mission), see my blog on business fundamentals.

Tip 2: get to the essence of a problem or a decision

Always ask yourself these questions: Why is there is a problem? What are we trying to solve? What are we trying to achieve? Nonaka and Takeuchi describe it as ‘relentlessly asking what the basis of a problem or a situation is.’ They go on to describe routines to do just that at two Japanese multinationals:

At Toyota employees ask “Why?” five times to get to the root cause. At Honda they ask the “A, A0, and A00” questions. A questions are about specifications – such as “What should the horsepower of this engine be?” A0 questions are about concepts – such as “What is the idea behind this engine?” A00 questions are about the essential goals of the project – such as “What is this engine for?”

Tip 3: understand the difference between epistēmē and phronesis, and when to use it

You don’t usually need scientific knowledge to make wise decisions (although it can be part of the data that you need for to make a decision, of course). Recognize the existence of practical wisdom (phronesis) as opposed to scientific knowledge (epistēmē). In a funny example, Nassim Taleb explains how relying on epistēmē in a situation where phronesis might be more suited, can lead to serious mistakes. He calls this the green lumber fallacy:

In one of the rare noncharlatanic books in finance, descriptively called What I Learned Losing a Million Dollars, the protagonist makes a big discovery. He remarks that a fellow named Joe Siegel, one of the most successful traders in a commodity called “green lumber”, actually thought that it was lumber painted green (rather than freshly cut lumber, called green because it had not been dried.) And he made it his profession to trade the stuff! Meanwhile the narrator was into grand intellectual theories and narratives of what caused the price of commodities to move, and went bust.

Tip 4: use heuristics (rules of thumb)

According to Taleb ‘heuristics are simplified rules of thumb that make things simple and easy to implement. But their main advantage is that the user knows that they are not perfect, just expedient, and is therefore less fooled by their powers.’ Using heuristics does not require scientific knowledge but can give you insight into what’s going on pretty quickly. In turn, you might be able to use these shortcuts for your decision making. A powerful heuristic, for example, is the 80/20 rule or Pareto principle that states that in many events 80% of the effects come from 20% of the causes.

Tip 5: develop your own heuristics through practice and experience

In practical wisdom, experience and practice take precedence over scientific rules. Through practice in the real world, you might be able to create your own heuristics about your specific (business) contexts and realities. In time, you will develop rules of thumb, or even a ‘feel’, for how things play out for your organization in a specific (Aristotle uses particular) situation. In The Nichomachean Ethics, this concept is illuminated as follows (emphasis mine):

Nor is practical wisdom concerned with universals only – it must also recognize the particulars; for it is practical, and practice is concerned with particulars. This is why some who do not know [i.e. do not have scientific knowledge], and especially those who have experience, are more practical than others who know; for if a man knew that light meats are digestible and wholesome, but did not know which sorts of meat are light, he would not produce health, but the man who knows that chicken is wholesome is more likely to produce health.

As an example, read why I use redundancy (as a heuristic) in project plans.

Tip 6: read widely

Now that we have established that (organizational) decision making is practical wisdom instead of science, you might want to practice as much as possible (and create your own practical heuristics along the way). Another way to expose yourself to as many situations as possible, and see how people react to and solve problems, is reading. Peter Drucker famously said that management is a liberal art. Liberal because management is about broadening general knowledge and experience; and an art because management is practiced by doing. So, pick up some philosophy, some history, and some literature once in a while to broaden your exposure to more Aristotelian particulars. A place to start? See last year’s holiday reading list.

A Roadmap Back to Business Fundamentals

One of the catch phrases I picked up in my university days, and still use when appropriate, is: ‘There’s nothing more practical than good theory’. During change efforts in any type of organization (i.e. profit, nonprofit, government), whether they are design changes or execution changes, it is always a good idea to keep a number of business fundamentals in mind to get, or keep, your organization on course. If it is true that it is more beneficial to study older literature that is still in print (see here) rather than reading the latest management book that might turn out to be another fad, you can do worse than read an old (2002) favorite of mine: What Management Is, by Joan Magretta, a former top editor at Harvard Business Review.

In a review of this book, Peter Drucker, arguably the most prolific writer on general management, wrote:

First rate as an introduction for the non-manager and especially for the beginner, but equally excellent as a rounded, complete, and comprehensive “refresher course” for the most experienced executive.

What Management Is defines a number of core management principles that, I suggest, should be at the core of what you, as a manager, try to achieve through your daily activities. By providing you with essential quotes from this book, I attempt to get the business fundamentals back into every activity and every change effort you pursue to help improve the performance of your team, department, business unit, or organization.

Throughout what follows I will use bullet points to highlight – what to me seem ­–fundamental insights into eight crucial management ideas. Beginning with why we need management in the first place, we then move onto the ideas themselves.

Why do we need management as a discipline?

  • Wherever our needs exceed our resources, we need management.
  • Management allows us to achieve a vast array of purpose that none of us could achieve acting alone.
  • We think we live in worlds of our own and can contribute as individuals, but this is only possible because some form of organization (through management) makes the specialized work we do productive.
  • Management is turning complexity and specialization into performance. As the world economy becomes increasingly knowledge based and global, work will continue to grow more specialized and complex, not less. So, management will play a larger role in our lives, not a smaller one.

Management Idea 1: Value Creation

  • Management’s mission, first and foremost, is value creation.
  • Value takes many forms and comes from many sources: a product’s usefulness, its quality, the image associated with it, its availability, the service. The more intangible the value appears, the more important it is to recognize that value is defined by customers. Value is not defined by what an organization does but by customers who buy its goods and services. There is really only one test of a job well done – a customer who is willing to pay for it.
  • Efficiency can be defined as doing things right; effectiveness as doing the right things. Effectiveness is what customers value.
  • The value chain is the sequence of activities and information flows that a company and its suppliers must perform to design, produce, market, deliver, and support its products:
    • you begin to see each activity not just as a cost, but as a step that has to add some increment of value to the finished product;
    • it forces you to see the entire economic process as a whole, regardless of who performs each activity. Managing across boundaries, whether these are between the company and its customers, or the company and its suppliers or business partners, can be as important as managing within one’s own company.

Note: for a discussion on shareholder value versus stakeholder value, see Beyond Shareholder vs. Stakeholder Value.

Management Idea 2: Business Model

  • A business model is a set of assumptions about how an organization will perform by creating value for all the players on whom it depends, not just its customers. Business models reflect the systems thinking that is so central to management.
  • A business model is a story of how an enterprise works.
  • A business model is a story about the basic human activities of making and selling. The twist in a new business model is almost always a variation on some aspect of an existing value chain.
  • Much of what ultimately determines a business model’s success is the behavior of people and organizations in markets.
  • For nonprofit or government agencies, the story always hinges on how the organization will change the world, or at least the specific aspect of the world its mission targets. Here, the twist in the plot – the critical insight about value – is what is sometimes called the organization’s theory of change.

Note: as tempting as stories on winning business models are, be aware that’s just what they are: stories. On why you should be very careful with prescriptive writing on business models, read Successful Businesses and the Halo Effect.

Management Idea 3: Strategy

  • Strategic thinking begins with a good business model.
  • Strategy goes further because the business model does not factor in competition.
  • When you cut away all the jargon, this is what strategy is all about: how you are going to be better by being different?
  • Strategy is about choices: which customers and markets to serve, what products and services to offer, and what kind of value to create.
  • Try to be all things to all people, and your organization will fail to find distinctive ways to compete.
  • A company’s profits are what’s left after subtracting costs from revenues. It follows, then, that there are only two ways one company can outperform another. It can get its customers to pay higher prices or it can operate on lower costs. To do either of those two things, it has to be different – or how else could you explain its ability to charge more or use fewer resources? That’s the simple arithmetic of superior performance.
  • One of the most effective roadblocks to pure competition is a unique positioning.
  • The five forces model (Michael Porter, 1979) has become a foundation of the strategy field. Porter identified the underlying forces that determine the attractiveness of any industry: the competition among existing players, the threat of new entrants, the power of suppliers, the power of customers, and the availability of substitute products. It is the interplay of these forces that determines where on the spectrum of competition – from perfect competition to monopoly – an industry is likely to be.

Note: in the last years, your organization’s positioning on non-financial aspects as environmental, social and human rights matters have become increasingly important for your customers and other stakeholders. For a discussion of non-financial aspects in relation to strategy, see What every manager should know about: Non-Financial Disclosure.

Management Idea 4: Organizational Structure

  • Management’s job, turning complexity and specialization into performance, requires it to draw three different kinds of lines. First, the boundary lines, which separate what’s inside and what’s outside. Second, the lines of the organizational chart, which map how the whole is divided into working units and how each part relates to the others. Third are the somewhat invisible, but always important, lines of authority. These determine who gets to decide what, and how the internal game is played.
  • Because strategy is dynamic, organizations must be flexible. Drawing the lines of organization is an ongoing struggle to stay relevant, not a job done once and for all.
  • Why do companies draw and redraw the lines that define how many of the steps in the value chain they perform themselves? Again, it’s a question of matching strategy and structure, of finding the organization best able to deliver a particular configuration of value at a particular moment in time.
  • Backward integration often made sense for two reasons: first, better coordination leads to lower costs; second, ownership guarantees a source of critical raw materials. With ownership, however, you lose the powerful incentive of the marketplace: the nervous edge that keeps suppliers on their toes.
  • Using participation instead of hierarchy, Toyota developed a host of techniques (collectively known as Total Quality Management, or TQM) to improve the quality of the manufacturing process: participation from everyone, cross-functional teams to solve problems, and cooperation and information sharing across company lines.
  • There is no one best way to organize. Scale, scope, and structure are enormously contingent on what you’re trying to do.
  • Designing an organization is frustrating, because most of the important decisions are at best trade-offs you’d rather not have to make. Treat the latest approach as a panacea, and you will surely be disappointed. Understand the trade-offs that have been made well enough to compensate for them, and everyone will perform better, whether it comes to drawing new lines or living within the existing ones.

Note: the need to manage ESG-risks in your supply chain can be another reason for backward integration. For an example, see the article on IKEA in my list of LinkedIn posts.

Management Idea 5: Measures for Your Mission

  • An organization’s purpose or mission determines what results are meaningful and what measures are appropriate.
  • One of the most fundamental managerial challenges of all is translating mission into action and into performance.
  • For most organizations, performance is multifaceted; it comes from striking the right balance. No one measure can capture 100 percent of what an organization needs to do to perform. And, like medicines, all measures have side effects, some of which can be dangerous to an organization’s health. In short, you can’t manage without measures, but neither can you apply them without thinking long and hard about how well they fit what you have to do.
  • As imperfect as any one measure might be, it’s impossible to work systematically on performance without them. Good managers know they can’t live without performance measures, but neither can they live by them without respecting their limitations.
  • Performance is all about realizing the mission. Performance and mission are never in conflict, if performance is properly understood and defined.
  • Whether we’re talking about a business or a nonprofit organization, performance is impossible without a mission.

Note: investors are increasingly calling for better performance on KPIs relating to ESG-factors, see for example my LinkedIn post on Impact Investing. This may call for an entry of some ESG-topics in your organization’s mission statement.

Management Idea 6: Innovation

  • Innovation is a very special kind of problem solving. It’s the search for new ways to create value, and new value to create.
  • An entrepreneur who doesn’t learn how to manage won’t last long. Nor will a manager last long if he doesn’t learn to innovate.
  • Gathering the information you need to create better bets requires active engagement, not just passive listening. It requires you to actively suspend your own intuition, to observe how other people behave, and without imposing your own logic, to ask why. This takes discipline because it goes against the grain in a number of ways. Most people prefer talking to listening. The more successful they’ve been, the more in danger they are of believing that when it comes to their business, they know best. True curiosity about other people – a passionate interest in understanding why people do what they do – is rare. Suspending judgment, observation, and curiosity – these are the necessary complements (and sometimes antidotes) to the prompting of instinct, intuition, and industry lore.
  • The fact that things can turn out in more ways than one is perhaps the defining characteristic of managerial decision making. You are forced to commit resources today toward performance in an uncertain future.
  • People confuse the best case (what they hope will happen) with the base case (what’s most likely to happen). The cash flows you lay out are only as good as your answers to these questions: What could go wrong? What could go right? How likely is it that those things might happen?
  • We forget that, like all models, Net Present Value rests on a number of assumptions. First, that you can translate your expectations about future events into a specific forecast of revenues and costs. Second, that you can capture the impact of both time and risk in the discount rate you use to adjust those cash flows. And third, that once you set out on the path those cash flows represent, you won’t change your mind along the way.
  • Without innovation and risk taking, there would be no economic progress. The discipline of management helps to increase the odds that the risky business of innovation will pay off.

Note: Magretta talks about ‘suspending your own intuition’. Tools to do just that, I described in Three tools to overcome confirmation bias.

Management Idea 7: Focus

  • Paraphrasing Pareto’s Law, performance will depend disproportionally on doing a few things really well. This is why it is critical to match an organization’s resources to those activities that make a difference.
  • Overriding point of Pareto’s Law: In most instances, a few things matter far more than others. An important corollary of the 80-20 principle is that averages and aggregate numbers are useless, if not misleading, because they obscure most of the decisions that are important to performance.
  • Drucker noted repeatedly that the greatest obstacle to innovation is the unwillingness to let go of yesterday’s success, and to free up resources that no longer contribute to results. The solution, says Drucker, is the discipline of “systematic abandonment”, a discipline Jack Welch applied at GE: ‘If you weren’t already in the business, would you enter it today?’ If the answer is no, then ask yourself: ‘What are you going to do about it?’
  • People much prefer to carry on in the hopes that their earlier decisions will be vindicated. The discipline of sunk costs (investments of time or money that can no longer be recovered or put to other use) helps managers avoid this trap, and can deter them from throwing good money after bad.
  • Benchmarking and best practices. These related disciplines are keeping more and more organizations marching to the steady drumbeat of continuous improvement. The idea is to compare the performance of your products or processes with those that are best in class, even if this means going outside your organization or industry.

Management Idea 8: Managing People

  • Most people are deeply – and rightly – resistant to being managed. In fact, the real insight about managing people is that, ultimately, you don’t. The best performers are people who know enough and care enough to manage themselves.
  • Management creates performance through others. Without the willing cooperation of others, management can accomplish very little.
  • Shared beliefs constitute an organizational culture – its set of assumptions about how we do things and who we are.
  • An organization’s values, unlike ethics, are matters of deep belief about which honest people can disagree. The question isn’t whether one company’s values are better than another’s, but which are better-suited to helping the organization achieve its purpose. The real measure is fit.
  • Setting an example is not the main means of influencing others, it is the only means.’ (Albert Einstein)
  • We saw earlier how performance measures make an organization’s mission concrete. Similarly, story, ritual, and symbol are powerful ways of making values tangible.
  • If management had its own golden rule, it would be this: Trust others as you would have them trust you.
  • If management is not trustworthy, employees will neither share their best ideas nor give their all.
  • Increasingly, economics has become a quantitative discipline, one of the “numbers” subjects. But its underlying aim has always been to explain human behavior. Its eighteenth-century pioneers, like Adam Smith, studied ethics and moral philosophy.
  • A manager can help people discover their strengths, and help people get better at what they’re good at, but a manager can’t and shouldn’t change who a person is.
  • Empathy is yet another instance of the outside-in perspective, of seeing the world through other people’s eyes. Working effectively with other people means accepting the limits of your own authority and of your own perspective.
  • As individuals we’re slow to apply the principles of value creation to our own efforts. We persist in defining our performance by how hard we work at something, rather than by the results we achieve.

Now ask yourself: How is my organization doing on these business fundamentals? And how can we improve our performance by looking more closely to what a manager should really do?

 

Decision Making: What We Can (Not) Learn from Plato

                  “An early management training on rational decision making(Hulton Archive/Getty Images)

When I started this blog, I was determined to write some posts on decision making. I am fascinated with the fact that humans think we are rational beings, while all the latest research (on moral psychology, neuroscience, etc) clearly contradicts this. I have tried to write about what I ‘discovered’ to be true (by reading other people’s books that is): that we suffer from a number of ‘errors’ that keep us from taking rational decisions. See for example my posts ‘morality binds and blinds and ‘three tools to overcome conformation bias.

How we came to worship reason: enter Plato

As interesting as new research on these topics is, how we came to think of ourselves as rational decision-makers in the first place, seems a relevant topic in itself. In an – undoubtedly futile – attempt to work through the entire list of Great Books, I managed to make it through a number of works by Plato. As everybody who enjoyed the classical education will surely know, Plato is considered the high priest of ratio. Two quotes from Republic (Plato’s attempt to describe the ideal state) show just how high his regard for reason was:

‘.. when one tries to get at what each thing is in itself by the exercise of dialectic, relying on reason without any aid from the senses, and refuses to give up until one has grasped by pure thought what the good is in itself, one is at the summit of the intellectual realm.’

.. reason ought to rule, having the wisdom and foresight to act for the whole, and the spirit ought to obey and support it.’ [Italics added.]

I often found it hard not to be dragged along by Plato’s arguments. He writes with such passion and comes up with many wonderful stories that are still known today. Think about the myth of Atlantis (to be found in the Timaeus), the metaphor of the cave (see Republic), and the famous comparison of the soul to a charioteer with two horses (read Phaedrus). It all makes for fantastic literature actually.

Plato’s unrelenting belief in reason, however, turns him into an enemy of anything that distracts us from pure thought. Poetry, art, passion, emotion, he will have nothing of it. Why? What follows takes quite some effort to grasp (and likely some leaps of faith):  Plato argues that reason leads to pure knowledge, and only pure knowledge can lead to what’s truly good, and what’s truly good ultimately leads to happiness. He then argues (in Republic) that everything that is in the realm outside pure thought – like impressions, appearances, beliefs, emotions, and opinions – could thus never lead to a happy life. In short, using rational thought is the only way to go about your life; emotions and the senses do not have a place in leading a good life or making the right judgments or decisions. This was a defining moment in history: reason won, emotions were out. Or as Jonathan Haidt puts in The Righteous Mind:

‘Western philosophy has been worshiping reason and distrusting the passions for thousands of years. There’s a direct line running from Plato through Immanuel Kant to [20th century psychology].’

Evidence why Plato is wrong: enter ‘moral reasoning’

Plato beliefs that we use (should use) rational thinking because it will lead us to the truth. Plato believes that we argue to get to the truth. In fact, most of his dialogues feature Socrates engaging in arguments about all kinds of topics with the aim of getting  to the truth of the matter. An opposing view would be that we do not argue to get to the truth, but we argue to win the argument: we have a sense or intuition for the right course of action, and we use our reasoning to justify our intuition. This is exactly what the field of moral psychology is proposing, and there’s overwhelming evidence that our decision making is highly influenced by emotions (or gut feelings if you will) instead of pure reason. As journalist Stephen Hall puts it in his highly readable Wisdom:

‘What if moral judgment, so central a notion to all schools of philosophy and the centrepiece of every major religion, is not the conscious, deliberate, reasoned discernment of right or wrong we’ve all been led to believe, but is, rather, a subterranean biological reckoning, fed by an underwater spring of hidden emotions, mischievously tickled and swayed by extraneous feelings like disgust, virtually beyond the touch of what we customarily think of as conscience? What if Plato, Socrates, and Aristotle were nothing but a bunch of two-bit, fork-tongued, post hoc rationalizers? What if, every time we decide what is the “right” or “good” thing to do, we are merely responding, like dogs, to the otherwise inaudible whistling of the emotional brain? That is where moral philosophy is headed these days, and it’s being driven by a new generation of philosophers and social psychologists, who have adopted the uniform of the lab coat.’

One of these social psychologists is Jonathan Haidt, who did a lot of ground breaking work on understanding where our moral reasoning comes from. One of his catch phrases is ‘intuitions come first, strategic reasoning second’. To buttress this claim, he finds indications in research that shows that ‘moral thinking is more like a politician searching for votes than a scientist searching for truth’. Some disturbing conclusions he draws about our thinking are:

  • We are obsessively concerned about what others think of us, although much of the concern is unconscious and invisible to us.
  • Conscious reasoning functions like a press secretary who automatically justifies any position taken by the president.
  • With the help of our press secretary, we are able to lie and cheat often, and then cover it up so effectively that we convince even ourselves.
  • Reasoning can take us to almost any conclusion we want to reach.
  • In moral and political matters we are often groupish, rather than selfish. We deploy our reasoning skills to support our team, and to demonstrate commitment to our team.

Why should you care? Or: how can you improve your decision making?

Why should you care about what the latest research has to say about reasoning? You may think you always make use of rational thinking and never engage in moral reasoning, especially not in the workplace. Think again. There are very few domains that are immune to moral reasoning. The exception might be science. But science obviously does not include the business environment, which is highly politically motivated and thus vulnerable to moral reasoning.

To improve your business decision making, you might ask yourself these two questions prior to making decisions:

  1. Am I trying to get to the truth (and set my ego aside) or am I trying to win the argument?
  2. Am I tackling this problem logically or am I caught in moral reasoning to try to justify a position I intuitively feel is right (also known as post hoc rationalization)?

Whenever the answer points into the direction of argumentative reasoning or post hoc rationalization, seek the advice of others. Others that have opposing views that is. Because the research I have been discussing also shows that we are very well equipped with coming up with my-side arguments, but terrible in coming up with other-side arguments. Reading Plato is still recommended – especially to learn where and how our adulation of reason came about –, but to improve your decision making you had better stick to the latest insights from psychology and neuroscience.

Slow Books: A Reading List for Your Summer Break

For those of you who read last year’s summer reading post this is a familiar quote, but I repeat it nonetheless because it is the reason why I read (quote from Nassim Taleb in Antifragile):

. . .  the worst thing one can do to feel one knows things a bit deeper is to try to go into them a bit deeper. The sea gets deeper as you go further into it, according to a Venetian proverb. Curiosity is antifragile, like an addiction, and is magnified by attempts to satisfy it – books have a secret mission and ability to multiply, as everyone who has wall-to-wall bookshelves knows well.

So, what I am trying to do is dig a little deeper and sometimes also further back in time to understand how some ideas first came into being. As Charlie Munger put it:

The more basic knowledge you have . . . the less new knowledge you have to get.

This summer, I hand you some books to get you into a reflective mode: think about your life, think about what you want(ed) to get out of it, and what you might need to change. These are definitely not all new works and I can’t really recall how each of these came into my life. One thing that connects them, however, might be a central word in the title of one of them: ‘slowness’. Much like the ‘slow food movement’, I guess you could call this a selection of ‘slow books’: books to read slowly, let the words sink in and maybe come back to certain parts again and again. ‘Slow books’ do not offer a quick fix to whatever it is you would like to change in your life. But I promise the books introduced below will give you a new perspective on your life and offer you ways to make gradual changes if you would allow yourself to come back to them again and again.

A Life beyond Boundaries by Benedict Anderson. I picked this book up because of a raving review in The Economist (‘an intellectual giant’). This memoir does not disappoint. It calls for an international outlook on life, and especially a comparative outlook on cultures. Anderson echoes Susan Nieman, who I recall saying that it is imperative for anyone to live in more than one culture to really understand the world. Anderson especially understood South East Asia, as he did a lot of anthropological field work there. This is a wonderful book on the need for international experience and a sweeping view of East Asian (colonial) history at that. One of many beautiful lines by Anderson:

The experience of strangeness makes all your senses much more sensitive than normal, and your attachment to comparison grows deeper.

The Examined Life by Stephen Grosz. A book with apparently simple stories of encounters between a psychoanalyst and his patients. Through these stories, Grosz shows how insight – self-insight – can help us find ourselves after losing ourselves. This 2013 book is highly recommended by The New York Times and The Guardian, among others. One of the many things I highlighted in this wonderful selection of stories:

We hesitate, in the face of change, because change is loss. But if we don’t accept some loss (..) we can lose everything.

Into The Woods by John Yorke. What do The Bourne Ultimatum and Sophocles’ Oedipus Rex have in common? Or Hamlet and Star Wars? For those of you have been reading my blogs posts over the last year, it will come as no surprise that I included a book that tries to explain why we humans like stories so much. (Click here to read my other posts that contain a reference to ‘stories’.) This book might hold the answer to that question and why stories matter so much in our personal lives. The Independent called it ‘a mind-blower’; The Financial Times put it on their summer reading list. This is a must-read. One of many highlighted sections in my copy:

It could be that [our own stories bring] us closer to God, to a sexual partner, to appropriate behavior, or to better mental health. But the journey into the woods, the finding of the missing part, its retrieval and the making of something whole, is integral. That something can be us, a puzzle, a mystery or any number of corruptions. As in scenes, so in story, a ridiculously simple process defines them all: two opposites are assimilated and a conflict is stilled. That is why we crave stories like a drug – for it is only through story that we are able to bring our inner selves into line with the external world. In that process some kind of sense is made, and if we’re lucky, some kind of truth discovered. Stories appear to be both as simple – and complex – as that.

How to Live by Sarah Bakewell. The Essays by Montaigne are still on my to-read pile (or ‘antilibrary’, after Umberto Eco), but this is a formidable book on the Essays and what Montaigne had to say on ‘how to live’. A great companion to life, trying to answer such questions as ‘how to get on well with people’, ‘how to deal with loss’, and ‘how to live’. There’s a lot of Stoicism in Montaigne:

Do not seek to have everything that happens happen as you wish, but wish for everything to happen as it actually does happen, and your life will be serene.

If you are looking for a light-hearted book that is still full of insights and, as an added bonus, gives you a good bit of Renaissance history, this is your book.

Solitude by Anthony Storr. Another psychiatrist on this list. This book from the 1980s has maybe more insights packed into one volume than any other book I have ever read. Therefore, it’s probably the book I pick up most often to reread certain passages. One of the themes of the book is the need for solitude to be creative. There’s a lot on the mysterious role for ‘stories’ again (see Into the Woods), and I guess Csikszentmihalyi must have read this book as an inspiration for his wonderful books on creativity: Flow and Creativity. This is a must-read if you want to find out how to be more creative:

The ecstatic sense of wholeness is bound to be transient because it has no part in the total pattern of ‘adaptation through maladaptation’ which is characteristic of our species. Boeotian bliss [i.e. simple bliss; read Thucydides..] is not conducive to invention: the hunger of imagination, the desire and pursuit of the whole, take origin from the realization that something is missing from awareness of incompleteness.

The Discovery Of Slowness by Sten Nadolny. The first novel on this summer’s reading list (‘absolutely stunning’ according to Times Literary Supplement) is a story about admiral and arctic explorer John Franklin. His dedication to understand things (‘he decided to not seek comfort but to think’) got him very far in life.  This is a rare animal: it is a novel about historic sea voyages (to the Arctic and Tasmania among others) and sea battles (e.g. Trafalgar), but also the story of a man who is determined to understand the world and people around him even if he is not particularly bright. We often find him in a slow, almost meditative, state of mind. As one of the character’s in the book puts it:

‘Do you know what I like about you, Mr Franklin? With most people everything moves fast until they understand, but when they get to the point it’s already over. You’re different.’

The Death of Ivan Ilyich & Other Stories by Leo Tolstoy. I included this collection of stories because the Ivan Ilyich story is a superb depiction of memento mori which is a necessity for the reflective mode, I feel. It is about a man who looks back on his life and does not find a lot to like. There are more upbeat stories in this little volume, but The Death of Ivan Ilyich might just get you in the right frame of mind to think over your own life and then pick up another volume in this list to create some positive change.

I hope this list inspires you to read this summer. Need more recommendations? Last winter’s list (on contemporary philosophy) can be found here; last summer’s list (on Mediterranean history) can be found here.

Enjoy your summer.

Three thinking tools to overcome confirmation bias

Understanding that your reasoning is undermined by bias, is one of the most valuable insights into your own decision making capabilities. I wrote another piece on biases (Morality Binds and Blinds), but the title might have been such that it was my least successful blog entry measured by number of reads. Or, it might just be too unsettling to think and read about the flaws in your own reasoning. Nevertheless, I think understanding biases are hugely important for better decision making, and offer you three thinking tools to overcome the arguably most famous of all biases: confirmation bias.

Falling into the trap of confirmation bias, we all do it

An intriguing discussion of confirmation bias can be found in Jonathan Haidt’s The Righteous Mind:

(…) confirmation bias, the tendency to seek out and interpret new evidence in ways that confirm what you already think. People are quite good at challenging statements made by other people, but if it’s your belief, then it’s your possession – your child almost – and you want to protect it, not challenge it and risk losing it.

People outside Haidt’s realm of moral psychology and moral philosophy also figured out that people mainly reason to be right instead of reasoning to get to the truth. Here are some quotes that sum up human nature pretty well, I feel:

The eye sees only what the mind is prepared to comprehend. (Robertson Davies, fiction writer, in: Tempest-Tost.)

For it is a habit of humanity to entrust to careless hope what they long for, and to use sovereign reason to thrust aside what they do not fancy. (Thucydides, chronicler of the Peloponnesian War, 4th century BCE.)

We human beings are egotistical animals; each of us wants to win the argument. (Garrett Hardin, human ecologist, in: Filters Against Folly.)

You would think that educating people will surely get rid of the confirmation bias. Or surely the more intelligent people are they will be able to come up with many more reasons for both sides of any argument? Think again. The opposite is quite true (again from The Righteous Mind):

The findings get more disturbing. Perkins found that IQ was by far the biggest predictor of how well people argued, but it predicted only the number of my-side arguments. Smart people make really good lawyers and press secretaries, but they are no better than others at finding reasons on the other side. Perkins concluded that “people invest their IQ in buttressing their own case rather than in exploring the entire issue more fully and even handedly”.

This is probably why rhetoric is simultaneously admired and met with scepticism. Is the rhetorician building a solid rational case? Or is she only trying to win people’s minds over for her own view? Plato famously bashed rhetoric and sophistry in his dialogues Gorgias and Republic, making the case that winning arguments with rhetoric is more about persuasion than knowledge. (Plato, in turn, was of course also accused of only coming up with supporting reasoning for his worldview. Even the greatest of thinkers are not immune to conformation bias it seems.)

If we agree that conformation bias is indeed a serious problem, it limits our capacity to reach the best outcomes by thinking that we are rational beings always arriving at rational conclusions. Haidt and others (e.g. John Gray; see my blog post on progress for a short discussion of his book The Silence of Animals – on Progress and Other Myths) even go so far as to call this the rationalist delusion. What to do?

Three thinking tools to overcome conformation bias

1. Put together a group consisting of members with different backgrounds.

Jonathan Haidt’s suggestion: always use several people with different ideologies and background when making a decision so they can disprove arguments put forward by individuals (emphasis added):

(..) each individual reasoner is really good at one thing: finding evidence to support the position he or she already holds, usually for intuitive reasons. We should not expect individuals to produce good, open-minded, truth-seeking reasoning, particularly when self-interest or reputational concerns are in play. But if you put individuals together in the right way, such that some individuals can use their reasoning powers to disconfirm the claims of others, and all individuals feel some common bond or shared fate that allows them to interact civilly, you can create a group that ends up producing good reasoning as an emergent property of the social system. This is why it’s so important to have intellectual and ideological diversity within any group (..).

This short passage reminded me of a method I used some time ago to try to get the most out of a group of experts who were all convinced of the superiority of their own solution to the problem at hand:

2. Use parallel thinking to have members look at the problem from the same angle and then switch angles a number of times using six different ‘hats’.

Once you have put together a diverse group of people, engage in parallel thinking. This method has been perfected by psychologist and management thinker Edward de Bono. In his book How to Have A Beautiful Mind, he echoes Haidt and others in noticing:

Argument is an excellent method and has served us well. At the same time (..) it is unsophisticated. Each side makes a ‘case’ and then seeks to defend that case and prove the other ‘case’ to be wrong. It says, in short: ‘I am right and you are wrong.’

De Bono gives a summary of his highly effective way of looking at decision making processes (emphasis added):

  • The direction of thinking is indicated by six coloured hats, each of which indicates a mode of thinking. At any moment everyone is ‘wearing’ the same colour ? hat. That is what is meant by ‘parallel thinking’.
  • The white hat indicates a focus on information. What do we have? What do we need? How are we going to get the information we need?
  • The red hat gives full permission for the expression of feelings, emotions and intuition without any need to give the reasons behind the feelings.
  • The black hat is for ‘caution’ and the focus is on faults, weaknesses, what might go wrong and why something does not ‘fit’. [This is the classical argumentative mode we often find ourselves in, trying to disprove other people’s arguments.]
  • With the yellow hat the focus is on values, benefits and how something can be done.
  • The green hat sets aside time, space and expectation for creative effort.
  • The blue hat is to do with the organization of thinking. This means setting up the focus and also putting together the outcome.
  • The hats make sure that everyone is using his or her own thinking fully to explore the subject. If you want to show off you now do this by out-performing others on each hat.

Using the six thinking hats is a useful approach to cure confirmation bias. The subject is really explored and should defuse argumentative behavior. The actual quality of the arguments put forward (checked through the black hat) can benefit from a third thinking tool proposed by Garret Hardin in Filters Against Folly:

3. For every argument put forward use the black hat to check against Hardin’s concepts ‘literacy’, ‘numeracy’, and ‘ecolacy’.

For everyone to understand what is put forward, Hardin proposes to pass an argument through three filters, because:

In the universal role of laymen we all have to learn to filter the essential meaning out of the too verbose, too aggressively technical statements of the experts. Fortunately this is not as difficult a task as some experts would have us believe.

Questions we should ask ourselves to understand any argument are:

  • On ‘literacy’. What are the words that we are using? What do they mean? What do these words mean in reality, if we start working with these concepts?
  • On ‘numeracy’. What are the numbers? What do the numbers mean? What is the relative size of quantifiable factors? Are there scale effects? Can we attach words to the numbers in order to convey meaning?
  • On ‘ecolacy’. In ecological thinking (or systems thinking) we introduce time into the equation of the words and numbers used. If we pursue this action, tactic, or strategy, what will happen next? And what if keep repeating this? What are the effects over time? What could the perverse effects be?

Hardin stresses the importance of using all three filters:

The skills of Readin’, Writin’, and ‘Rithmetic need to be combined with an attitudinal checklist that asks if the best words have been used, if quantities have been duly considered, and if the consequences of time and repetition have been taken into account. The “bottom line” of an analysis needs to be subjected to filtration that is simultaneously literate, numerate, and ecolate. (..) We use the ecolate filter to ferret out at least the major interconnections. Every proposal of a plausible policy must be followed by the question “And then what?” Not until we have asked this question (and answered it to the best of our ability) are we ready to put a plan into action.

By way of summary: understand what confirmation bias is, acknowledge that any individual falls victim to it, and then apply the three thinking tools discussed in this blog. Now you are well underway to better decision making.

Veel gestelde vragen rondom de Wet bekendmaking niet-financiële informatie (NFI)

This post is about the translation of the EU regulation on disclosure of non-financial information to a Dutch national regulation; this entry will, therefore, be in Dutch.

1. Welke organisaties moeten aan de wet bekendmaking NFI voldoen?

Organisaties van openbaar belang (beursgenoteerde ondernemingen, banken, verzekeraars en kredietinstellingen) met meer dan 500 werknemers, een balanswaarde groter dan 17,5 miljoen en een netto-omzet van meer dan 3,5 miljoen.

2. Wij moeten toch al niet-financiële prestatie-indicatoren betrekken bij onze bedrijfsanalyse in het bestuursverslag? Wat verandert er nu precies?

Klopt, u betrekt al milieu- en personeelsaangelegenheden in uw analyse. Echter, de huidige Wet gaat verder omdat:

  • u een verklaring moet opnemen; deze verklaring gaat verder dan dat u prestatie-indicatoren betrekt in uw analyse; wat u dient op te nemen in deze verklaring vindt u in het antwoord op vraag 3.
  • naast milieu- en personeelsaspecten dient u nu ook sociale aangelegenheden, mensenrechten en bestrijding van corruptie en omkoping te bespreken in uw bestuursverslag.

3. Wat zijn de belangrijkste Wetspassages?

Artikel 2, lid 1: De rechtspersoon maakt als onderdeel van het bestuursverslag een niet-financiële verklaring openbaar en doet mededeling omtrent:

  • artikel 3, lid 1b: het beleid, waaronder de toegepaste zorgvuldigheidsprocedures, alsmede de resultaten van dit beleid (…);
  • artikel 3, lid 1c: de voornaamste risico’s, negatieve effecten, en risicobeheersmaatregelen van zakelijke betrekkingen en producten of diensten;
  • artikel 3, lid 1d: niet-financiële prestatie-indicatoren die van belang zijn voor de specifieke bedrijfsactiviteiten.

4. Wat houdt niet-financiële informatie precies in?

Niet-financiële informatie wordt in de Wet gedefinieerd als informatie over milieu-, sociale en personeelsaangelegenheden, eerbiediging van mensenrechten en bestrijding van corruptie en omkoping.

5. Wat zijn voorbeelden van de verschillende NFI-aspecten die in de wet genoemd worden?

  • Milieu: gebruik van duurzame energiebronnen, broeikasgasemissies, waterverbruik en luchtverontreiniging. Maar ook informatie over natural capital, natuurlijke hulpbronnen (drinkwater), of bijdragen aan een circulaire economie.
  • Sociaal: dialoog met plaatselijke gemeenschappen, eerbiediging van bestaande landrechten, recht op informatie.
  • Personeel: gelijkheid mannen en vrouwen in arbeidsvoorwaarden, raadpleging van werknemers, recht op vereniging.
  • Mensenrechten: werkomstandigheden, werktijden, kinderarbeid, slavernij, vrijheid van meningsuiting, etc.
  • Corruptie en omkoping: maatregelen om corruptie en omkoping tegen te gaan.

6. Waarom moet onze organisatie NFI rapporteren / wat is de achtergrond?

De EU betoogt dat door bekendmaking van NFI de samenhang, vergelijkbaarheid en transparantie van rapportages verbeterd wordt in het belang van stakeholders zoals investeerders en consumenten. De Wet moet er bovendien voor zorgen dat risico’s met betrekking tot duurzaamheid inzichtelijk worden gemaakt.

7. Wanneer en hoe moeten wij rapporteren?

  • Organisaties van openbaar belang moeten over 2017 NFI bekend maken.
  • NFI dient opgenomen te worden in het bestuursverslag; daarbij mag gebruikt gemaakt worden van een kaderregeling (zoals ISO 26000, Integrated Reporting of het Global Reporting Initiative); u dient te melden welke kaderregeling u gebruikt.
  • Een separaat duurzaamheidsrapport is niet voldoende. De verklaring omtrent NFI dient opgenomen te zijn in het bestuursverslag.

8. Hoe verhoudt de bekendmaking NFI zich tot ons duurzaamheidsrapport?

Bekendmaking van NFI voor oob’s is wettelijk vastgelegd; een duurzaamheidrapport is niet verplicht. In uw duurzaamheidsrapport heeft u meer vrijheid in de onderwerpen die u communiceert (en de manier waarop).

9. Kunnen wij NFI ook nog voor andere doeleinden gebruiken?

Jazeker. Wij raden aan NFI te integreren in uw bedrijfsprocessen. Processen waar NFI  een bijdrage kan leveren aan een betere bedrijfsvoering zijn bijvoorbeeld risico management, stakeholder management en het strategieproces.

10. Wie controleert of onze organisatie conform de wet rapporteert?

De accountant.

11. Waarop en hoe vindt de controle plaats?

  • De accountant gaat na of de niet-financiële verklaring overeenkomstig de Wet is opgesteld en met de jaarrekening verenigbaar is, en of de verklaring in het licht van de tijdens het onderzoek van de jaarrekening verkregen kennis en begrip omtrent de rechtspersoon en zijn omgeving, materiële onjuistheden bevat.
  • Mocht de accountant op zaken die stuiten die niet in lijn zijn met de verklaring NFI dan maakt zij daar melding van.
  • De accountantscontrole is dus meer dan een simpele aanwezigheidscheck. De accountantscontrole gaat echter minder ver dan een volledige controle van de niet-financiële informatie waarbij de accountant ‘afzonderlijke gedetailleerde controlewerkzaamheden’ zou moeten uitvoeren.

12. Mag onze huisaccountant adviseren over de inrichting van onze NFI-rapportage?

Nee. De Wet toezicht accountantsorganisaties verbiedt dit. Een accountantsorganisatie die wettelijke controles verricht bij een oob, verricht naast controlediensten geen andere werkzaamheden voor die organisatie.

13. Wat zijn grofweg de stappen om te komen tot een NFI-rapportage?

U begint met een quick scan waarin u bepaalt of u klaar bent voor de Wet. Mocht dit niet zo zijn dan kunt u vervolgens prioriteiten voor de bekendmaking NFI stellen, uw rapportageproces inrichten en uw rapportage opleveren. Deze stappen zijn verder uitgewerkt in de figuur bovenaan deze post.

Neem vrijblijvend contact met ons op voor meer informatie.

The EU Directive on Disclosure of Non-Financial Information: Will It Push the Needle?

Do you think the EU Directive on Disclosure of Non-Financial Information (follow this link) will seriously push the needle on sustainable practices? Or will it just be an exercise in box-ticking?

Starting this year, over 6,000 companies in the EU will be required to disclose negative impacts caused by their business operations, including their policies and results on social, environmental and human rights topics. Do you think firms will embark on a serious journey to integrate ESG-aspects in their reporting (for a quick read on this, click here) or will organizations try to comply with minimal effort and the effects on sustainability will, consequently, also be minimal?