Coping With Complexity
s business leaders, policy makers, the academic community, the media and an outraged public search the rubble of the global economic crisis for clues as to what went wrong, all fingers point to a common perpetrator, poor risk management. But while risk management, or lack thereof, played its part in the disintegration of the world financial system, we contend that another culprit played an even bigger role: complexity, and an inability to cope with it. The unpredictable, unstable, non-linear, and fast-paced nature of the complex interrelationships between nations, firms, and persons that shape the global economic landscape are at the root of today’s risk-management challenges. Hence, these relationships are of central concern to leaders. In these turbulent times, the question becomes: How can business leaders effectively cope with complexity?
Complex environments, complex organizations
Complexity is one of the salient hallmarks of the 21st century. It’s evident not only in business, but in every facet of the globalized world in which we live. Countries, economies, and people are more deeply and densely interconnected than at any time in history and these connections are proliferating at a faster pace than ever. Global travel and instant communications magnify the so called “butterfly effect,” whereby a butterfly flapping its wings in Sao Paolo can trigger hurricanes in Shanghai, illustrating how a relatively small event in one part of the world, when amplified in a non-linear fashion, can have catastrophic consequences for another. For example, the recent eruption of an obscure, unpronounceable volcano in Iceland, a tiny nation with only 300,000 inhabitants, resulted in the closing of the entire European air space for six days, losses of approximately two billion USD for the airline industry, as well as billions of dollars in losses for the makers of urgent, perishable, and high-value goods, logistics firms, and tourism operators around the globe. Add to this the loss of productivity for stranded employees and cancelled business meetings and the impact of this relatively small event on the global economy becomes huge.
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Professor Martha Maznevski, an Ivey PhD, and her colleagues at IMD1 have identified four main drivers that interact to produce complexity in organizations.
Diversity: From diversity in business models, management systems, and employees to diversity in customers, suppliers, and socio-political systems, leaders must respond to an ever-increasing variety of often-conflicting demands from multiple stakeholders. Investors may demand higher profits while communities demand more corporate social responsibility, just as customers demand lower prices while regulators demand more safety. Take Siemens AG, the global engineering powerhouse. It has operations in 190 countries and over 400,000 employees, and competes in businesses as diverse as energy, healthcare, telecommunications, transportation and financial services. The sheer diversity of Siemens increases the complexity of its operations on a massive scale and presents formidable challenges to its leadership, such as defining strategies, promoting common values, and integrating processes.
Interdependence: Globalization’s deep web of connections has resulted in “small world” effects, shortening the standard six degrees of separation to one or two – local events can easily have global effects through “long-hops.” The intertwining of organizations’ value chains, corporate governance, and financial flows results in exposure to shocks at the periphery that can move to the centre of an organization in rapid succession. As an example, consider the case of Netflix, the online DVD rental giant. With booming sales and profitability over the past five years, it is about to face a major shock to its business model. The United States Postal Service (USPS), struggling with losses, has decided to increase postage rates as well as eliminate Saturday delivery. With Saturday being the biggest delivery day and postage a major cost driver for the Netflix, this move could easily wipe away the firm’s profitability and threaten its existence. Netflix will now have to adjust its strategy to compensate for damaging changes in a critical component in its value chain.
Ambiguity: An overload of information, often with numerous, conflicting data points, makes it hard for business executives to glean insights that can be applied to decision-making judiciously. Coupled with increasing uncertainties and unknowns, causal relationships are difficult to pin down, making it even more problematic to assess the validity of a course of action. The 2003 Columbia space shuttle tragedy is a case in point. The large piece of insulating foam that had shed from the external tank during launch had severely damaged the Orbitor’s left wing. As the Shuttle entered the Earth’s atmosphere, extremely hot gases surged into the punctured wing and melted its aluminum structure. The Shuttle broke up upon re-entry and all seven crewmembers perished. Although the issue of foam strikes had been examined before, ambiguity in the information available led NASA managers to dismiss the threat of the Shuttle’s destruction. Managers defined the foam strike as a maintenance issue for the next flight, not as a safety issue for the current flight. However, management was not clear where the foam had hit the wing and at what speed, and the ambiguity was exacerbated because of poor images from the ground cameras. Nevertheless, management was not concerned about the foam strike – strikes had happened before. Engineers requested additional imagery to form a better or more informed opinion about the damage the strike may have caused, but management cancelled the request, with tragic consequences.
Flux: The unrelenting pace of change that envelops companies, industries, and nations only adds fuel to the fire of complexity. Circumstances that are taken for granted today may become irrelevant tomorrow, often with no advance warning. Consider the case of the music industry. Within three years of its introduction, Apple’s iPod music player gained an audience of 50 million users, a feat that took radio 38 years to achieve. The iTunes music store recently passed its 10 billionth download, and it has come to redefine the value chain of the industry. Flux also brings into focus the impact of speed. Consider a race car driver negotiating curves at double the speed the car was built to handle and the driver equipped to manage. The parallel in business is how well organizations are built to move operations along at high speed and what leaders need to do to manage what may be the scarcest resource of all – time.
With these four factors at play, as firms intensify the scale and scope of their operations in progressively more complex environments, business leaders in turn preside over progressively more complex organizations. On one level, such mirroring of the environment makes sense – Ashby’s law of requisite variety2 implies that the internal complexity of an organization must equal the external complexity of its environment in order to be effective. The typical organizational application of this law has been to add multiple layers of hierarchy and specialization, with increasingly standardized systems and processes for efficient execution of planned strategies.
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