INNOVATION SPECIAL .....How to Banish Bad Habits from Your Company

How to Banish Bad Habits from Your Company

Freek Vermeulen explains why unhelpful practices go unnoticed and suggests how rooting them out can help innovation.

The idea that companies may unwittingly use inefficient processes and pursue poorly focused strategies is not new. Corporate history is littered with examples of businesses being too slow to spot redundancy and incumbents being put out of business by nimbler new entrants.

But what if this phenomenon could be explained by a simple concept? Perhaps companies have allowed bad habits to creep in, and just don’t know it. Furthermore, what if bad habits are so ingrained that executives have lost sight of what defines best practices? Or are blind to the possibility of being disrupted?

Freek Vermeulen, associate professor of strategy and entrepreneurship at the London Business School (LBS), started thinking about these questions 16 years ago, when he was pursuing a Ph.D. at Tilburg University in his native Netherlands. He was analyzing a large temporary employment agency that was looking to expand overseas. In one conversation with the company’s CEO, he heard the words “But everyone in our industry has always done it this way.” That was the first sign of a phenomenon he recognized as significant, but couldn’t quite put his finger on.

Fast-forward to 2007. Vermeulen was taking a three-month break from LBS to read widely on cultural anthropology, in particular the rituals that had — supposedly — benefited various tribes over human history. With the help of a research assistant, he noticed that the literature often documented anomalies: Some of a tribe’s rituals were clearly harmful, but they persisted. One example was tattooing practices in Polynesia, which, as Vermeulen wrote in his book Breaking Bad Habits: Defy Industry Norms and Reinvigorate Your Business(Harvard Business Review Press, 2017), “often proved fatal for the person receiving the tattoos.”

Vermeulen remembers realizing that the situation was exactly the same with management practices. Best practices in some companies may have actually become inefficient — even “stupid,” as Vermeulen says in Breaking Bad Habits. He then started working on a simulation model, involving 1,000 companies, with Xu Li (his former student, now an assistant professor at the European School of Management and Technology in Berlin). They found a widespread “perception bias” that led managers to ascribe success disproportionately to particular company strategies. The managers tended to focus too much on the most successful appliers of their preferred strategies — and not on whether those strategies, in the context of the whole set of companies, were successful in aggregate.

This finding helped confirm to Vermeulen that executives are likely have blind spots that prevent them from noticing and weeding out bad habits — such as a strategy that might have worked for years, but that no longer does. In other words, they are doing something because “that’s how we have always done it.” Like viruses — at least currently — bad habits can’t be eradicated, Vermeulen admits. But a focus on diagnosing them is a good start, and can even create sources of innovation.

Vermeulen spent an hour with strategy+business in his offices at the London Business School, overlooking the city’s Regent’s Park, in November 2017. Much of the conversation revolved around how his many years observing corporate bad habits had been synthesized in his book.

S+B: At first glance, the idea that there are bad habits in companies doesn’t seem that surprising, because many companies have corporate cultures that go back a long time. They may be set in their ways. What’s the difference between that and the bad habits you describe?
VERMEULEN: Of course you’re right — it will surprise no one that, over time, especially larger organizations can be a bit rigid and old, and bad practices slip in. But basic economic theory would simply say, “That’s too bad for these firms, but they will be outcompeted. There will be other ones. And gradually, they will not grow, they will shrink, they will go bankrupt, and so on.” That’s actually the whole basis of capitalism; we say bad firms with bad strategies and practices will die out, and therefore, things will get better.

The idea that obsolete strategies will automatically die out is not necessarily true. But I hear executives quite often use it as an excuse: an explanation where they say, “Gosh, this practice or process has been around for decades in our industry.” I have a CEO in mind now who said to me, “Freek, if this wasn’t the best way of doing things, I’m sure it would have disappeared by now.”

So, although we may know in an abstract way that old practices sometimes need to be changed, for particular individual practices, we still think that because everybody’s been doing it for a long time, it must be the best way of doing things. “We’ve already been doing it this way for two decades. We know it works. And if it didn’t, it would have disappeared by now.” I’ve tried to explain properly and thoroughly why that assumption is wrong.

S+B: Why is it that organizations are afflicted by this, even as we are surrounded by management discussion about the need for change and reinvention?
VERMEULEN: People forget. Someone in the firm invents the wheel. “This is the way to solve it,” they say, and then the organization passes this on to the next generation in the organization. That’s one reason organizations exist, you know? So you don’t have to reinvent the wheel all the time. But we think this process works, and we just pass it on, not being aware of when circumstances change, especially when they change gradually. When there’s a big shock in the environment and a new competitor or technology comes in, we notice. But when things gradually change, we don’t notice and we just continue doing it this way.

And indeed, lots of companies talk about agility and flexibility and change. I have some doubt about the importance of those attributes. There are still many relatively stable and homogeneous industries around. But also, understanding the need for change on an abstract level is different from understanding a specific case: saying, “Hey, this process, why are we doing it this way?” There’s a gap between having an abstract understanding of the need for change and actually identifying what should change and making it work in your own organization.

S+B: How do bad habits creep in and stay there, then?
VERMEULEN: One way is when something starts out as a good practice, but as circumstances change, it no longer is so good, which means it’s very difficult to catch. Various examples, also from my own research, show that bad practices can come into existence as bad practices and, still, they can spread and survive. I puzzled about that for quite a long time, because it’s such a fundamental issue in strategic management and in economics: Why do bad practices spread? And I found the answer in cultural anthropology. Even bad practices have advantages and disadvantages. And sometimes the advantages are much more obvious than the disadvantages — for example, because the advantages happen in the short term whereas the disadvantages happen in the long term. And if these disadvantages then outweigh the short-term advantages, we still don’t see that, because there’s lots going on, there’s a long time lag, and so on. My research on the in vitro fertilization [IVF] industry is a good example of that.

How Good Habits Go Bad

S+B: You refer to this as “causal ambiguity.”
VERMEULEN: Yes. I did a big quantitative research project on the IVF industry for fertility clinics in the U.K. The majority of these clinics are private. IVF is a big business. But at the inception of this industry, when permission to perform the procedure was granted simply by the government, the government said every clinic had to publish its success rate. And the government did that with good intentions. They wanted to increase transparency in the market and aid consumer choice and so on.

But what the government hadn’t realized — and I think this clearly generalizes to other industries — is that the success rate of a clinic depends not only on how good it is as a company, and how good it is at the procedure. It also depends on the input. Some patients are easier to treat than others.

The very first person I interviewed in this industry immediately started talking about this. It’s a big topic in the industry. Clinics started selecting their patients, because their leaders thought if they treated only easy patients, their success rate would be higher. The clinic would be ranked higher in what the government called the league table. It would look better. And that has all sorts of immediate benefits.

But what I found out through this research project is when we measured the effects of this practice, it showed that in the long term, clinics that select only easy patients to treat are worse off. Clinics that treat difficult patients become better off, because these difficult patients become a source of innovation.

S+B: So one way to break bad habits is to stop doing the obvious, and this itself will be a source of innovation?
VERMEULEN: Exactly. This study showed that more and more clinics started to adopt a practice that, in the long term, was bad. And because it was only in the long term that they were experiencing trouble, they still didn’t realize that it was the practice of seeking only easy patients — the bad habit — causing the lack of innovation. If you had a bad habit and you stopped this practice and said, in this case, “We’re also going to admit and treat difficult patients,” you would trigger innovation.

I encountered other examples. For instance, a company making wound-care products told me that company leaders started debating making products for very complex wounds that very few patients in the world suffered from. And they said, commercially it wouldn’t make any sense to manufacture these products because there are so few patients, and a lot of work goes into these products. But when I talked to the engineers, they said that they learned a lot from these cases, and you could trace a lot of innovation in the company’s regular products back to those complex cases. So I would say: Pursue the complex variants of your core service or core product, and that pursuit can be a source of innovation — while ridding you of bad habits.

S+B: You’ve said also that companies unknowingly adopt bad practices when they try to benchmark their organizations. In other words, they can unknowingly make matters worse. How is that?
VERMEULEN: Benchmarking is by definition where companies look at the best-performing companies in their industry. What companies don’t look at is the bottom-performing ones. Companies therefore are inclined to imitate the practice and strategies of the top 10 performing companies — whichever they pick in the benchmarking exercise. But of course different strategies and practices are often associated with different risks. Some strategies may, on average, result in worse outcomes, but because they are high risk a very small minority of these companies will actually have good performance due to sheer luck. Therefore, these companies that are benchmarking take too much into account companies that simply got lucky.

S+B: Are bad habits essentially a product of herd mentality or groupthink? I think of an example in which a company feels under pressure to enter an emerging market such as China because its rivals have done so or might do so.
VERMEULEN: Yes, there’s certainly a close relationship between bad habits and herd mentality. In economics, we call this herding theory. Because in a way, there is safety in numbers, and herding, including the imitation of bad habits and bad practices, happens only in situations of uncertainty. “This strategy to enter China, we don’t quite know how it will play out,” company leaders will think. And it’s a very human behavior, but we also know it from research on organizations. We look around us, and sometimes we follow the benchmarking exercise and we look at what others do, and if the majority of companies go into the Chinese market, then we say, “We’ll have to go there as well.”

In this way, bad habits and bad strategies can also spread. Now, it’s  true that if you want to resist that norm, you have to be brave because of the herd mentality. If you do go into the Chinese market but it turns out to be a dud — which it did, by the way, for quite a few industries — people won’t blame you so much because they will say, “Well, everybody got it wrong.”

But if you’re the only one who stays out and everybody goes into the Chinese market and you think, “I’m not going there because I think there’s an 80 percent chance that it will fail,” and then it happens to be the 20 percent and it turns out to be OK, everybody will say, “You idiot. Everybody else saw it and you didn’t.” And you get blamed.

Even Startups Succumb

S+B: Is the habit of bad habits worse in large, older companies than in small, newer companies?
VERMEULEN: We see from research, including my own, that new entrants are often under pressure to conform to other parts of the industry. So, although they might not have these rigid processes and systems and other legacies in place, there is also external pressure on them to conform.

For instance, consider the investors or, indeed, customers or employees who say, ”Gosh, everybody’s going into China. Shouldn’t we do this as well?” or “Everybody has a partnership structure in consulting. If we come in as a consulting firm, shouldn’t we also have a partnership structure?” That is, there is external pressure to conform, and that external pressure can have real consequences. If you resist the norms, you find it difficult to recruit. You find it difficult to access money from investors. We do know that, for instance, suppliers might react by saying, “If you want us to work with you, you have to adapt more to how we do things in the industry.”

S+B: To what extent do suppliers and customers reinforce bad habits?
VERMEULEN: To a great extent. Let me give you an example of academic research that I’m conducting right now. This is research with a former Ph.D. student, Amandine Ody, who is now a professor at Yale. We’re studying the market for champagne grapes. In this industry, the suppliers grow the grapes and sell them to champagne houses, which turn them into champagne.Top of Form

Bottom of Form

We’re looking at champagne houses that are trying to do something different in their supply chain — for example, by making sparkling wine in California or producing wine for supermarket brands. These are considered clear “norm violations” in the French champagne business and something a good house is not supposed to do. We then measure whether these houses are suffering penalties for such actions — such as their suppliers saying, “If you also produce wine in California, we’ll charge you higher prices for grapes,” which would create a short-term disadvantage. And even if such a champagne house might still be better off in the long term doing it, they often don’t dare do it because of the uncertainty. So, companies that try to go against the norm often get pushed back into the norm by the ecosystem they are in. We also see that happening with new entrants.

S+B: What may seem a bad habit in the West may not be in other parts of the world — and vice versa. Is that fair?
VERMEULEN: Sometimes regions can also be a source of bad habits in the sense that what can work in one geography, if transferred somewhere else, doesn’t necessarily work. There is good research available on the old total quality management approach, which came from Japan and then was applied in the United States. People started doing it because they thought, “This is a good practice, it worked wonders in Japan,” but it got transformed in a different cultural context.

Clearly it can work the other way around as well. Going back to the idea of breaking norms, an entrant from a different geography can come in and do things differently in a way that’s successful. And that can trigger change in an industry.

One example is the practice of detailing in pharmaceuticals marketing. In many countries, there are restrictions on drug advertising, so salespeople adopt the practice of handing out to healthcare professionals samples and information on certain drugs that’s not technically advertising. It’s a huge practice. There is research on the effectiveness of it by two Columbia professors. On average, these salespeople have to give out 26 free samples to induce just one new prescription. It’s very obviously not cost-effective anymore. And I say “anymore” because it might have started out as a good practice; it just has been pushed up to such levels that it’s now wholly ineffective.

The pharmaceutical companies I spoke to all said, “Yeah, everybody’s having doubts about whether it’s still effective,” but they stick with it because of, again, uncertainty. “We don’t know what will happen if we stop it or if we scale back.”

Then I spoke with a Japanese company that had entered the Western European market and said it was not going to use detailing. The company was quite successful. This is a case of an entrant from a different geography doing something different, triggering change. So inasmuch as bad habits can come from different sources, solutions can too.

Escaping the Pattern Trap

S+B: What is your solution for breaking bad habits?
VERMEULEN: If you’re a large company and you have suspicions that surely there must be bad practices in your industry and bad habits in your firm, you may not know which ones they are and how you get rid of them. I do a lot of work on that, and I have quite a lot of normative implications that I’ve thought through, and research on what sorts of things you can start doing.

One solution is something we’ve talked about already: deliberately trying to make your life difficult by doing difficult variants of your product, as in the wound-care example. But I also have a large project I’ve labeled Change for Change’s Sake, which I wrote about in a Harvard Business Review article a few years ago. There are various things that you can structurally build into your organization. If you are a CEO and want to start identifying particular examples, there are certain things that you can think of.

One — which I use myself when I’m getting to know a company — is asking company leaders: “Why do you do it this way?” As we mentioned earlier, people will say, “That’s just the way we do it, and that’s how we’ve always done it.” Every time I get this answer, I think, “If you cannot explain to me for your own company why this is the best way to run things, we might just have identified a bad habit.”

S+B: Not being able to spot bad habits may have been problematic in the past, but it is all the more problematic given such disruptive forces as robotics, artificial intelligence, and automation.
VERMEULEN: Yes. But there’s a distinction I would like to draw. People talk about disruption all the time and what could such and such a company do or what could others do. They always think about it in terms of what could someone develop that’s new in technology that would disrupt us. The automotive guys talking about Tesla is a case in point.

What I’d say is different in my work is that the starting point is not “What else could we do in this context?” but “What could we stop doing?” In other words, what things is a company still doing that actually don’t make much sense anymore, because things have changed? That’s a good starting question as well.

Now, I have looked closely at companies that have asked this question. One is citizenM Hotels, originally a Dutch company, not entirely coincidentally. But it really took this idea explicitly as a starting point, and if you go to a citizenM you can see it.

The company decided that the hotel industry is very homogeneous. There are things that hotels have been doing for years, such as having a concierge. But today, a lot of people use TripAdvisor or other apps, rather than a concierge, to find a good restaurant near the hotel. You might observe that many hotels have a restaurant. Here in central London, who wants to sit in a hotel restaurant? We still have a check-in desk where you have to queue for 20 minutes before they give you your key. Yet we probably printed our own boarding pass at a kiosk in the airport. So citizenM asked the question, “What if we stopped doing these traditional things?”

Company leaders not only took the kiosk idea from airports but they also went to look at the rooms in cruise ships to design a small bedroom that could still be luxurious. So they really looked for analogies, solutions from other businesses, in search of good practices.

I have another example, this one from financial services: Capitec, a young bank in South Africa. When you come into a traditional bank and you want to open an account, they first want to ask your salary and take you down a path of various banking products, depending on your answer. The Capitec CEO said to me, however, “Look, when I go to Nando’s [restaurant], they don’t ask me for my salary and, when they know my salary, get me a different menu with different prices and food. I get the same menu, same food as everyone else. Why is that different from a bank? That’s what we stopped. Everybody gets the same account. Everybody gets a gold card. That’s it.”

The vast majority of people in South Africa want to do just three things at their bank: savings, transactions, and maybe borrowing. Capitec has one basic account from which a customer does these three things. And by doing it this way Capitec has managed to offer 50 percent better rates. It was profitable in Year Two, which in banking is nothing short of a miracle, because switching between banks is extremely rare. More people get divorced in the U.K., for instance, than switch banks. And Capitec has 9 million customers after 16 years.

Another example of Capitec’s original thinking is its banking hours. In South Africa, retail banks close at 3:30 in the afternoon. And the Capitec CEO said to me, “I didn’t understand why. And then I figured it out. It was probably left over from the days that money was physical and at the end of the day banks needed an hour or two to count the money and balance the books and so on. Now, 99 percent of the money is electronic and that happens in a split second — but banks still close at 3:30.” One of the first things the bank did was set its hours to be open until 6:00 in the evenings. It is also open on Sundays. “We are a retailer” was how the CEO summed it up.

S+B: But isn’t there a blurred line between breaking bad habits and simply innovating?
VERMEULEN: Yes. Each is one side of the same coin, perhaps. Stopping doing certain things is a different route to innovation. I said to the Capitec CEO, “You’re a disruptive innovator.” And he replied, “I’m not a disruptive innovator. We aren’t actually doing anything new. We haven’t invented other things to add to this. All we have done is stop doing certain things.” As I said, this type of relatively simple thing, stopping a bad habit, really made them very successful.

S+B: Is it realistic for companies to break bad habits in any significant way in the next five or 10 years?
VERMEULEN: Perpetuating bad habits has been around forever and likely will always be around. It’s part of nature. It’s the same model as you see in epidemiology and viruses. Bad habits operate like corporate viruses. A virus persists and spreads. Bad habits also spread and persist. They persist despite having a negative influence on the host and even reducing life expectancy.

This explains why capitalism, economic theory, is too naive. Will we eliminate corporate viruses? No, we’ll never eliminate all biological viruses or all organizational viruses. But what we can do with viruses in nature is identify the virus and say, “We’re going to try to tackle this.”

Bad habits won’t disappear automatically through competition, just like nature doesn’t weed out viruses automatically, but companies can inoculate themselves by building in certain processes. They can identify the source of their troubles, and say, “This is the virus that we’re going to try to get rid of.”

by Jeremy Grant

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