Friday, January 27, 2012

Carnival's Shipwreck

It is now two weeks since the cruise ship Costa Concordia hit a reef less than 100 meters from the shore at Giglio. The evacuation that followed was characterized by delays and incorrect information given to the Coast Guard and to passengers. Most notoriously, Captain Schettino abandoned ship before the completion of the evacuation and did not follow a Coast Guard order to re-board it. The evacuation turned deadly, with fatalities thought to exceed 30.

As the investigation of this accident is completed, some questions are likely to be answered: The black boxes will reveal the activity on the bridge just before the ship hit the reef. Interrogation of the crew is likely to help uncover how the chain of command initially produced confusing orders, and then simply broke down. Other questions may remain unanswered. Is it true that Captain Schettino steered so close on his own accord, as has been claimed? Or is he correct in saying that the cruise line Costa Cruises encouraged this manoeuver in order to give passengers a "good show"? Did the cruise line promote him before he was ready for the responsibilities of a sea captain? Does the absence of an evacuation drill indicate a larger problem in the safety routines of the cruise line?

In an interesting Wall Street Journal article, Mike Esterl and Joann S. Lublin raise a question that many have overlooked, however, and that deserves some attention. Costa Cruises is a subsidiary of the much better known cruise line Carnival Corp. After the shipwreck, the crisis management has been left to Costa Cruises CEO Pier Luigi Foschi, with Carnival’s CEO Micky Arinson staying mostly silent and out of sight. While this is in style with how subsidiaries in Carnival generally manage their own business, their article quotes observers who criticize this decision (and the comment fields on the article are scathing in their judgment of his inaction). But what is the right decision?

The critique of Arinson probably involves two issues. First, there is the moral responsibility of the group CEO towards all those who have been affected by the accident, especially the bereaved, but also the passengers who went through the ordeal and even the crew who were let down by their officers. On this issue, the critique is on solid ground.

Second, there is the view that a CEO should take charge in order to manage such a crisis situation, and that this is the best way to protect the firm and its shareholders against damage. This logic would be correct if he had been the CEO of Costa Cruises, or the wrecked ship had had Carnival in its name. But he is not, and it does not, and that changes the calculation. The reason is that blame for misconduct spreads in strange ways. People do not take into account innocence and guilt when deciding who to avoid after learning about misconduct. Instead, they look for connections and similarities, and they avoid any firm that can be linked with a wrongdoer (see my article with colleagues, below). This may be unfair to the innocent firm, but it is how customers behave.

Given how these cruise lines are run, it is unlikely that Carnival is responsible for this accident, though Costa may be. That does not matter for potential cruise trip buyers, for they will avoid Carnival if the connection between the Costa Cruises and Carnival becomes better known. If Mr. Arison wants to manage the crisis, he will damage Carnival by making the connection between Costa and Carnival better known. He may be able to show the world that Carnival is innocent and that it cares about its customers, but that will not stop the blame from spreading. His current low profile does not look heroic, but it is astute.

"Carnival CEO Lies Low After Wreck." Wall Street Journal, Asia Edition, January 23. By Mike Esterl and Joann S. Lublin.
Jonsson, Stefan, Henrich R. Greve, and Takako Fujiwara-Greve. 2009. "Undeserved Loss: Legitimacy loss by innocent organizations in response to reported corporate deviance." Administrative Science Quarterly, 54 (June): 195-228.

Sunday, January 22, 2012

Kodak versus Fujifilm

The news about Kodak’s entry into Chapter 11 was paired with a Wall Street Journal story on how Fujifilm faced the same threat of digital photography, but were able to successfully adapt to the new challenges. To me, Kodak’s descent into bankruptcy is almost unimaginable, because I remember how dominant it was in film sales. I worked some summers in a photo store selling film and cameras. At the time, Kodak films were the most expensive, followed by Fuji and then Agfa. If customers asked us how the films differed, we told them (as was true) that modern films only had very minor quality differences that would be visible in really large prints. They did have some subtle color differences, which happened to match the packaging: the Kodak in yellow boxes had a subtle glow, Fuji in green boxes had neutral and bright colors, and the Agfa in red boxes could draw towards red. At the time, our customers were picking up Kodak and Fuji film in roughly equal numbers in the most common 35mm format, which meant that Kodak got more revenue.

Where did Kodak get its dominance from, and how did Kodak maintain it? Kodak had a keen understanding of customers, and of controlling markets. The official designation of 35mm is actually 135; like most Kodak designed formats it has a name that starts with "1." In the case of 135, the design was actually minor. 35mm film was already used in movie cameras, and Kodak made a cartridge for safe daylight loading into cameras, plus it changed the perforation on the side so that the 135 film for still cameras could not be used in film cameras. Why change the perforation? Because it allowed separation of the two markets, which let Kodak maintain market power and price separately in still cameras and movie cameras. Along with the film design, Kodak designed cameras and advertising campaigns to get a large and loyal customer following. Kodak cameras, many believed, needed Kodak film.

In fact, 135 was a standard format, and that is why our store carried three brands. But Kodak was also a great proliferator of new film formats: the 110, the 126, the Disk. Each of them came with their own Kodak cameras, often with some competition from other film makers, but all of them were attempts to gain market power by creating pools of customers who used Kodak cameras to shoot Kodak film, at high prices. If this reminds you of color printers today, it is because Kodak was a pioneer of a strategy that the printer makers now follow. A color printer owner buys cartridges from the same maker, as they pretty much have to. Many of them also buy paper from the same maker even though printer paper of different manufacturers produces outputs that are even more similar than film from different manufacturers.
When digital photography hit Kodak, they had the expertise to make digital cameras but failed to capitalize on it. That part of the story is well known. But arguably still picture markets could never be the same after digital photography, because much of the mystery of printing went away. The digital camera users take pictures on their cameras, display them on their screens, and print them on their own printers. No longer will a customer turn in their film to a store and get the prints back after some mysterious process involving poisonous chemicals. In our store, as in many others, the prints would return in a Kodak wrapper even when the film was Fuji, because they were processed on Kodak equipment. Kodak had processing machine contracts that included the wrapping holding the prints and negatives delivered to customers. Digital photography put the process into the customer’s hands to a much greater extent than before, and no company has been able to gain the type of dominance that Kodak had. Color printers are as close to a market with dominant firms as it gets. No wonder that Kodak got a chief executive with experience from Hewlett-Packard, one of the most successful printer makers. It was in printers that Kodak stood its best chance of replicating the usual strategy of getting market power and control over the customer. It ran out of money before it was able to fully execute its strategy.
So what did Fujifilm do? It moved into digital photography, where it is currently doing good business but without the strong position it had in still photography. Fujifilm also did something else. They remembered that they were a film company. A film is a backing material with layers of chemicals on top. Film for color photography is highly advanced because the chemistry in photographic film is complex and needs to be deposited with extreme precision in order to produce sharp images with correct color balance. Early 35mm film was smeared evenly over the backing and used plenty of silver; modern 35mm is deposited with molecular precision and has a more economical mix of color sensitive materials. But films are used for many other applications as well, and the knowledge of chemistry that a company making photographic film has is useful in even more applications. Now Fujifilm products can be found on LCD screens, it has applied its knowledge of antioxidation (for long print lifetimes) to cosmetics, and it is producing medicine.
Kodak wanted to follow its usual strategy of controlling the customer when technology made this much more difficult. They found out that customers wanted freedom to choose. Fujifilm asked what they were good at and found new ways of applying this knowledge. They were able to find new customers. Pursuing market power is often a part of a firm’s strategy, but it always needs to be backed by a more basic part: providing value.

Fujifilm Thrived by Changing Focus Wall Street Journal, Asia Edition, February 20. By Kana Inagaki and Juro Osawa.
Film format. Wikipedia article.

Monday, January 2, 2012

The imitator's dilemma

I have enjoyed the book “The Innovator’s DNA” by my INSEAD colleague Hal Gregersen with Jeff Dyer and Clayton M. Christensen. It made me recall the earlier book “The Innovator’s Dilemma”, and realize that part of my own research has been on a complementary issue. These books document the difficulties in maintaining and directing innovation efforts, and one possible response to them would be to say: Why bother innovating if I can wait for others to innovate and focus on being the best at implementing the innovation? Imitating successful innovation efforts is a possible strategy encapsulated through terms like “Fast Follower” and “Second-mover Advantage.” Indeed, in his famous paper “Footnotes to Organizational Change” Jim March suggested that innovation is an act of altruism because the odds of any specific innovation being beneficial are so low that it is better to wait for others to make innovations and cherry-picking the best.
I think this argument makes sense. But, it comes with an important qualification because cherry-picking the best innovation isn’t as easy as it seems. Innovations don’t come rolling out of some laboratory (or garage) with an attached “price and benefit tag” that says exactly what it costs to adopt them and what benefits they have. Instead, innovations are highly uncertain at first. The uncertainty can only be reduced through adoption or use, or through information gained by observing others who adopt and use them. But this might mean that it is not the second-mover who has the advantage, but perhaps the third-mover or tenth-mover. Or maybe it is the first-mover after all? The longer the wait, the more certain the evaluation is, but the more other adopters will be around to have experienced the innovation and learnt how to build competitive advantage with it. This is the imitator’s dilemma: How much uncertainty is acceptable when evaluating an innovation that could produce competitive advantage?
To answer this question, consider first how firms often are faced with a choice of product or process innovations made by others and with highly uncertain benefits. This is in part because the centers of innovation are equipment and material suppliers to the industry rather than firms in the industry. The use of composites in aviation, new chip designs in computing and communications industries, computer-controlled tools in custom manufacturing, and transaction processing systems in many service industries are technological changes in which suppliers have much of the technology design and implementation capabilities, but firms still need to assess independently whether the benefits for them are high enough to justify adoption. The problem is compounded by the fact that neither party has the full information – suppliers don’t fully understand the end user; buyers don’t fully understand the innovation. No wonder the decision is difficult, making the first adoption highly uncertain – as well as the second, third, and so on. And of course, the adopters are competitors, and would not normally share information about the costs and benefit of adoption.
Is there any evidence that there is an imitator’s dilemma? Let’s take one study I did on innovative ship designs in the merchant shipping industry. One innovation was the post-panamax container ship, which is a larger and more cost effective container ship than previous designs. The other was the double-hull oil tanker, which is less likely to spill oil than the earlier single-hull design. The first innovation improved costs, while the second was needed for compliance with new rules that were being put in place. In retrospect, they are both seen as obvious choices. Post-panamax container ships are now used in all routes with sufficient demand for the capacity they give, and new orders for container ships are steadily increasing the size as shippers become more comfortable with the operation of these giants (current orders are triple the size of the original post-panamax ships). Double-hull oil tankers are nearly universal because single-hull tankers are locked out of many markets by law or by insurance costs. But here is the evidence of the imitator’s dilemma: It took more than 10 years for the post-panamax ship to even start the upturn in the diffusion curve that shows wide-spread acceptance. For the double-hull tanker, it took 9 years. Because ships have life-times of 20+ years, the early adopters had time to build their market position and experience operating them that is equivalent to nearly the half-life of these assets.
One could say that the slow adoption isn’t evidence of any dilemma, because it only shows that managers were slow to realize the benefits, perhaps because of irrational fears or lack of information. To address this argument, I made a study on fast ferry designs. These were another innovation seen as having high potential because high-speed ferries could be a viable competitor to other modes of transportation (including air travel) over certain distances. Now the commercial benefits of fast ferries are known to be much less than originally thought because the fuel costs rocketed with the oil prices, while maintenance costs of these advanced designs were high. But, if we compare the initial spread of fast ferries it looks much like those of post-panamax container ships and double-hull tankers: initially a slow trickle, followed by an upswing 7 years after. The only difference is the collapse of orders that followed the upswing in fast ferries. These days, the second-hand market is a good place to get a fast ferry because many of the original buyers are selling them at a discount.
How do we know that reduced uncertainty behind the benefits were behind these effects on orders? Here are some reasons to suspect it was. Firms with headquarter locations near each other were faster to realize the benefits of post-panamax ships; firms with network connections to similar suppliers were faster to realize the benefits of double-hull tankers. Firms with headquarter locations near prior adopters of fast ferries were early to realize that the benefits of fast ferries were low. So in sum, those best placed to observe actual benefits and costs were the fastest to act (or, to know that not acting was better). This is a clear demonstration of uncertainty as the source of the imitator’s dilemma. It also suggests that the ability to observe others is the solution to the imitator’s dilemma. Although having the best innovations gives competitive advantage in the short run, being able to consistently tell good and bad innovations apart gives competitive advantage in the long run. That advantage is realized by firms who localize for information advantage, or who make effort to learn about innovations when they are not well placed to assess them.
Christensen, C. M. 2000. The Innovator's Dilemma: When New Technologies Cause Great Firms to Fail. New York: HarperBusiness.
Dyer, J., Gregersen, H., & Christensen, C. M. 2011. The Innovator's DNA: Mastering the Five Skills of Disruptive Innovators. Boston, MA: Harvard Business School Publ.
Greve, H. R. 2009. Bigger and safer: The diffusion of competitive advantage. Strategic Management Journal, 30(1): 1-23.
Greve, H. R. 2011. Fast and expensive: the diffusion of a disappointing innovation. Strategic Management Journal, 32(9): 949-968.
March, J. G. 1981. Footnotes to organizational change. Administrative Science Quarterly, 26: 563-577.

Sunday, January 1, 2012


Welcome to "Organizational musings," a blog that I am planning to add to semi-conscientiously from now on. I know that employer INSEAD, the business school, and the organization theory journal Administrative Science Quarterly (ASQ) have a number of other ways to keep me occupied, so the posts will be limited both by ideas and by time. I still hope the posts are of interest.