Five Myths About Business Failure in a Downturn

by: Markham Lee

I recently discovered a blog on the Financial Times' web site written by Don Sull, a former management consultant who is now a professor at the London Business School. In a recent blog post he discusses five myths about business failure in a downturn:

(From the Financial Times): "Many companies are suffering in the current recession, and their leaders blame their struggles on the financial crisis. Many of these explanations are too simplistic. Below are five myths about business failure in a downturn to watch out for.

Myth 1: The downturn caused our problems. For most industries facing serious problems right now, including big losers like automobiles and print media, the recession is not the ultimate cause of their suffering. Instead the downturn reveals (and aggravates) fundamental flaws in their business model. When the tide goes out, as Warren Buffett famously observed, you find out who has been swimming naked….

Myth 2: Companies fail quickly. Companies make the news when they abruptly file for bankruptcy. While firms file quickly, they fail slowly. As a junior consultant at McKinsey twenty years ago, I remember a presentation to a Detroit automaker highlighting many of the problems that plague the industry today, including poor product quality, high cost structure, and slow response to shifting consumer trends. The executives did not respond with indignation or denial, but indifference. One manager dismissed the report by saying “there is nothing new here.” That was in 1988….

Myth 3: No one saw it coming. If by “it” people mean the current recession, this is true. But the downturn is the proximate rather than the ultimate cause of most business failures...

Myth 4: Things will return to normal after the downturn. Successive cohorts of executives in the automobile and airline industries, among others, have consoled themselves and appeased their investors with this myth. In many realities, the situation is likely to be worse, and stay worse after the downturn. Consumers and corporations do not stop spending altogether in a recession, but they do seek out value for money. As a result, they are more likely to move away from companies that offer poor value for money and experiment with alternatives….

Myth 5: It couldn’t happen to us. Some executives resort to Schadenfreude to lift their spirits in a downturn. To feel better about the woes in their industry, book publishers snicker at newspapers, and even print executives can look down on their unfortunate counterparts in the music industry. In reality, leading companies in many industries, including law firms, pharmaceuticals, fast moving consumer goods, and executive education among others, are persisting in very flawed business models, even if the severity of their problems are not yet apparent to everyone…"

You can read more here.

The other day I was speaking to a former direct report of mine who is still working at a company I left back in '07, a company that is slowing dying due to not addressing a multitude of issues I first brought to the CEO and COO's attention over three years ago. The response I got was similar to what Don's colleagues received along with: "But that's how we do business", "well that's never going to change", etc. Even when facing the negative consequences predicted by a presentation I put together, the company's approach was to try and find a way to maintain the current business model, as opposed to scrapping it, implementing the changes I suggested and creating a business model that would enable success.

Even now as the company is facing its potential demise, the company is only begrudgingly starting to do "some" of the things that myself and many other talented managers suggested during our tenure at the firm.

I've encountered these situations many times over the course of my career and often chalked them up to stupidity, being short-sighted, laziness, etc. But after reading Don's blog post I'm beginning to wonder if it's really a case of "defending the religion of the current business model." In other words, senior management is more interested in defending the current business model, company practices, etc., than they are in making the wholesale changes that would save the business.

It's as simple as not having the intestinal fortitude to say: "everything we're doing is wrong, the way I know how to run this business is wrong and I now must learn a new way in order for the company to survive." Many struggling companies know what their true problems are, have been presented with all the advice it needs to survive, etc., they're just unable to act on it due to the inability of management to admit that they're wrong. It's a case of a company not being able (or being unwilling) to turn the microscope inwards, recognize its faults and engage in a process of continuous internal improvement. In other words: the problem is mostly psychological as opposed to being a function of their ability to innovate, recognize problems with their business, etc.

How else can you explain the fact that many troubled companies put the blame on everyone but themselves, are slow to change the way they do business even in the face of bankruptcy, and seem primarily more interested in finding a way to prolong the old ways as opposed to forging a new one? It seems like once a struggling company gets to a certain point in its failure arc, its ability to turn things around are more a function of psychology than anything else.

Finally: I think the other issue (in my experience at least) is that in some cases managers who are actively trying to implement changes are punished, while those who celebrate the broken business model are rewarded. This creates an environment where change can't happen because people are being incentivized to prevent it.

As the saying goes: "you can't get better until you admit you have a problem."


The Financial Times: "Five myths about business failure in a downturn" -- Don Sull, April 15, 2009

Disclosure: at the time of publishing the author didn't own a position in any of the companies mentioned in this article; the ideas expressed are solely the opinions of the author and shouldn't be viewed as financial or investment advice.

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