Over the past decade, companies on average have given less guidance on expected financial results than they had previously. One reason for that is an increase in the volatility of uncontrollable factors, such as those facing the oil industry.
In the past year in particular, the strengthening dollar, along with falling prices for oil and other commodities, have created many variances to plan — both positive and negative — in companies’ sales, operating margin, and net income. Given the market’s start in 2016, this year may be no different.
Variances attributable to fluctuating commodity prices and foreign exchange rates typically are, indeed, usually uncontrollable, so many companies resort to hedging those risks. But hedging can take you only so far, and its availability doesn’t mean you shouldn’t prepare for negative fallout from those risks in ways that could mitigate the impact to the business.
Even variances that are at least somewhat controllable may not get the attention they deserve. Unfortunately, there is a tendency for management, in the wake of any negative variance, to explain it away as simply an uncontrollable exogenous force.
The risk in an uncontrollable does not derive from its expected level (for example, deflation of -2%). Expected levels can be planned for. The risk lies in its degree of volatility, measured by the variance of business drivers such as demand and price, inflation/deflation, degree of regulation, supply chain disruptions, weather, political events — in other words, many of the business risks listed in a company’s Form 10-K.
Deflation, for example, can be tough on a variety of businesses, but if the level of deflation can be reasonably projected (for example, the aforementioned -2%) management can at least create a plan to reduce its impact.
Too often following a negative event, an executive enters a press conference without the proper information and makes excuses and assumptions that subsequently have to be recast. The excuses often ring hollow, because the same executive who blames a negative variance to plan on uncontrollable external events may be quick to take credit when such events work in the company’s favor — for example, crediting a drop in commodity prices to successful supplier management.
If you experience a miss due to an uncontrollable circumstance, can you look back and honestly say that you and your team did everything reasonable and within your resources to be prepared for dealing with the negative outcome? If so, you have no need to offer an excuse. Just ensure that your team adapts its future planning to incorporate learnings from the negative event.
Following are ways to anticipate and get ahead of the potential for uncontrollable to damage your business.
Base Decisions on Ranges of Outcomes
General managers who are quick to give excuses around uncontrollable events tend to rely on single-point budget estimates. In a chaotic and volatile global economy, cross-functional decision-making cannot rely on point estimates. It is critical today to look at ranges of outcomes instead.
The decision-making process has to encourage team members to voice divergent opinions, creating a dialogue around extreme events that can point to new ideas. When contrarian views are not allowed to enter the discussion, there is real risk of being caught unprepared by a negative that was overlooked.
After a negative has occurred, ask yourself if that outcome was within the range of the feasible outcomes you originally analyzed. If so, you probably did all that you could have done and the negative variance to plan will become a positive learning.
Prepare as Well as You Can
Even when ranges of outcomes are considered, misses can still occur, and even the best business leader will never be fully prepared for some uncontrollables. For instance, a negative variance on top-line volume or pricing can be very difficult to make up via cost reduction.
Being prepared as much as possible to minimize the downside involves asking tough questions and being honest with your answers. Examples of reasonable questions to ask in today’s world might be: “Are we prepared for the potential of parity, or less, of the dollar versus the euro?” Or, “How would business be impacted if a key supplier in a particular part of the world experienced a tsunami, leading to a critical supply chain disruption?” Or more generally, “Do we have an effective enterprise risk management process in place?”
An effective ERM process recognizes that things can and will go wrong; it prepares you to respond quickly and to know a priori the degree to which internal controls are in place to deal with the risk in question.
Check for Bias
Always keep emotions at the door and ensure that your team understands that biases can negatively impact decision-making. Self-serving bias often manifests itself in the making of excuses.
One common bias is overconfidence, so recognize that some members of your team will be naturally subject to it. You should watch out for it, because overconfidence inherently will tilt the scale toward thinking that exogenous shocks are more controllable than they really are.
The Buck Stops with You
Allowing excuses can harm proper development of your people and weaken your business. Uncontrollables will inevitably occur and, when they do, someone must take responsibility for them. If you are a true leader, the buck will stop with you.
A leader will never use uncontrollables as an excuse for a negative variance, and likewise should not take credit for a positive one. If the fact that you did not put into practice the ideas outlined above contributes to a variance, that’s something that should only occur once in your career.
Thomas E. Conine, Jr., Ph.D., is president of TRI Corporation, which specializes in corporate education, experiential leadership, and simulation programs for corporate finance departments. He is also a professor of finance at Fairfield University in Connecticut.