We are all susceptible to cognitive biases, but some of our biases are particularly problematic when dealing with strategic decision-making and innovations, writes Suvi Nenonen.
We all like to think that we are better than average drivers. And particularly we like to applaud ourselves as solid, rational thinkers.
Unfortunately, science does not agree with these notions. We are all susceptible to cognitive biases, irrespective of our IQ score or the number of degrees we have acquired. While heuristics and jumping to conclusions may have kept our ancestors alive, physiologically-speaking we still have the same “caveman” brain – and in business it can be our downfall.
The study of cognitive biases is deep, wide and established; voluminous enough to fill a bookcase. The following ones, however, are particularly problematic when dealing with strategic decision-making and innovations:
- Sunk cost fallacy. Continuing to invest in a venture that clearly has odds against it because “we have invested too much to walk away now.” Unfortunately, the fact that you have spent a lot of money and time doesn’t magically transform a turkey into an eagle, nor improve the probabilities of success.
- Status quo bias. Ninety-nine percent of all business cases compare the new initiative against the current state – and the current state is almost always assumed to remain stable in the future. But in fact, in most cases the ‘current state’ is just that: current. And looking forward, this state is deteriorating, suggesting that standing still means losing relative competitiveness.
- Cognitive ease. Ever presented something complex – but rock-solid – to your top management and gotten a lukewarm response, while your colleague’s simple but flawed proposal got standing ovations? Cognitive ease is playing its tricks again. This bias makes us favour simple and familiar solutions over complex and truly novel ones, as the former group is easier to understand.
Unfortunately, no-one can ever free themselves completely from cognitive biases or the use of heuristics; it is part and parcel of being human.
But being aware of the most common biases helps first to spot them and then to expose them. So, the next time you are in a strategy retreat and someone makes an argument for throwing good money after bad, you can call “sunk cost fallacy” and invite a more thorough discussion about the probabilities of success.
… but some biases are crucial for innovation
Daniel Kahneman has called optimism bias – believing that you are not going to fail even though others have – as the most pervasive one of all cognitive biases. However, this particular bias is the magic ingredient that makes us innovative and entrepreneurial.
Just think of a society where every entrepreneur is perfectly rational. Nobody would start anything new, because entrepreneurs and managers would know that the odds are against them. So, even though on an individual level optimism bias may have catastrophic consequences, on organisational and societal levels it is absolutely crucial for innovation.
Therefore, innovative companies have to allow – or even foster – optimism bias, while mitigating the associated risks by having a large portfolio of development projects and a robust financial control.
When in doubt, conduct a pre-mortem
On an individual level, however, you have to live with the knowledge that you are suffering from a pervasive optimism bias, and still kick off your new venture.
How to do that without developing schizophrenia? After you have called out sunk cost fallacy, status quo bias, and cognitive ease, conduct a pre-mortem.
In a pre-mortem, you try to improve the quality of your project plan by asking a seemingly simple question: “Imagine that we have executed this plan perfectly, but the project has failed spectacularly. Why?”
A proper pre-mortem helps to balance your inherent planning fallacy (overestimate benefits, underestimate costs and time) – and thus to avoid having to do a post-mortem on your initiative.
For those interested in cognitive biases, please read Thinking, Fast and Slow by Daniel Kahneman. Daniel Kahneman was awarded the 2002 Nobel Memorial Prize in Economic Sciences (with Vernon L. Smith), and he is often called the father of behavioural economics.
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Associate Professor Suvi Nenonen works at the University of Auckland Business School’s Graduate School of Management and teaches in the MBA programmes. Her research focuses on business model innovation and market innovation.
