“Too often we hold fast to the clichés of our forebears. We subject all facts to a prefabricated set of interpretations. We enjoy the comfort of opinion without the discomfort of thought.” (John F. Kennedy, former US president)
Humans are creatures of habit. We form opinions and sets of actions that we use as shorthand for all future decisions. We become trapped in loops of our own making and fall prey to common human ways of thinking that may save time, but ultimately hurt us. In business, these sorts of cognitive biases can damage relationships, and lead companies down dangerous paths. The sad thing? Most of us don’t even realise they exist. Here are five cognitive biases that could sink your business if you’re not careful.
1. Favouring evidence that backs our beliefs
Back in the days of VHS, video rental behemoth Blockbuster was offered the opportunity to buy a start-up that distributed their videos by mail, and were building the infrastructure to stream videos online. Convinced that the video store model was the only way to go, the board rejected the opportunity to purchase Netflix and over the next few years Blockbuster went bankrupt.
While it’s tempting to see this as a sign of foolishness, the reality is that all of us are prone to undervaluing data which contradicts our beliefs and favouring that which reinforces it. These confirmation biases can only be overcome by actively seeking out disconfirming evidence and encouraging a culture of robust debate among your employees.
2. Doggedly holding the line
In 2008, signs began to leak out across the American economy that a large collapse was coming. Banks were overextended and the money from loans was not being returned fast enough – but many large businesses held the line and did not prepare for failure. The information they’d been given for years suggested the loans model worked and they did not adjust their behaviour as the data first trickled, and then thundered in. The result? An economic collapse for the ages.
A 1974 study by Tversky and Kahneman explains their decision making with the anchoring bias. This study showed that even when presented with later information, people’s numerical estimates were significantly influenced by irrelevant initial figures. The first information is given much more weight than later information, even if the later information comes from stronger sources. Luckily this bias is easy to overcome, by simply distrusting the early data – always compare it carefully with what comes later.
3. Too much self-belief
Convinced their market dominance would carry them through, and unimpressed with the new digital cameras, photographic film manufacturer Kodak continued business as usual in the early 2000s. Despite their position as market leader and an early pioneer, these decisions lead to their eventual complete collapse. Kodak is a clear example of the overconfidence bias, which Bazerman and Moore detailed in their book Judgement in Managerial Decision Making.
Overconfidence bias is our very human tendency to overestimate one’s own knowledge, skills, or the accuracy of one’s predictions. In business, this can manifest in risky decisions, such as under-pricing products, over-leveraging debt, or ignoring potential competitors. To overcome this, regularly schedule sessions to evaluate your decisions against the data, and seek outside advice from your accountants and other experts.
4. Don’t follow the Joneses
Anyone who was alive in the 1990s remembers the Dotcom bubble. Tech companies were absolutely flooded with investment, with little care for the fundamentals from those who were convinced that tech’s bright future would lead to their own financial success. When the bubble burst in the early 2000s, many of those investors found themselves without a penny to their names.
The Dotcom bubble is an example of what’s known as the herd mentality. It describes a cognitive bias in which people have a tendency to mimic the actions of the masses, even against their own better judgement or personal logic. The rule here is simply: don’t do something just because everyone else is doing it. Never blindly follow trends.
This comes with a caution though – while copying others for the sake of it is a bad idea, don’t fall into the trap demonstrated by Sears either. The former retail giant exhibited loss aversion bias by clinging to its traditional brick-and-mortar model and resisting e-commerce expansion for years – ultimately resulting in it filing for bankruptcy in 2018.
5. Place the blame correctly
In 2008 Lehman Brothers was possibly the largest casualty of the economic collapse. Where many other financial institutions managed to keep their heads above water, Lehman Brothers sank below the waves. Unlike their more successful peers, Lehman Brothers had attributed all of their woes to the external factors of the economic collapse and failed to recognise the company’s own risky investments and poor decision-making as contributing factors.
This error is commonly known as attribution bias. In 2014, Mallett and Monteith explored attribution bias in business settings, showing that leaders often misattribute their company’s failures to external forces, preventing them from identifying areas for improvement. You can avoid this by promoting self-awareness and accountability. Don’t be afraid of asking experts for their input and always encourage regular post-mortems on projects to identify both internal and external factors contributing to their success or failure.
One of the best ways of overcoming biases is to get objective advice from external sources. As your accountants we can offer an important perspective – our door is always open!
Disclaimer: The information provided herein should not be used or relied on as professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact us for specific and detailed advice.
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