What is exceptional corporate performance and what matters for that?

A new book - 'The Three Rules: How Exceptional Companies Think' - has come up with 3 simple rules for corporations to follow in order to have a sustainable superior performance. These rules are ‘Better before Cheaper, Revenue before Cost, and deployment of all means to follow the first 2 rules’.

As the US economy improves leaving the recession behind, a rule such as ‘revenue before cost’ is likely to only help. The test for the book will, however, arrive a few years down the line when the business cycles may bring upon the next recession.

The book is meant for corporations and the rules sound simple. In fact these are so simple that the authors actually had to qualify the simplicity of the rules.

“Better before cheaper and revenue before cost are not “dumbed down” simplifications of our findings, nor mnemonics connected to more elaborate formulations. These rules are the principles we inferred from our research, and so their simplicity does not come at the expense of completeness.” (p.216)

However, while the rules are simple, reading the book is an academic exercise in itself that requires a notepad, a pen, and a lot of time. That investment nonetheless should be worthwhile because this book is not just another one in the ‘business performance’ genre. What fundamentally separates this book is –

a.       Choice of ROA as a parameter for performance as against parameters like stock performance

b.      Scientific selection of top companies as against author nominations

c.       Thorough understanding of each industry and company and triangulation of facts to separate facts from beliefs. This process was based on not just news reports and annual reports but hard facts and numbers from sources not so easily available.

For a book that has 1/3^rd devoted to notes and methodology there is little scope to doubt the robustness of its results. Also, the thickness of the appendices is not just a tacit stonewall deployed by many to avoid a volley of questions it is actually a transparent and open invitation to serious readers to detect and point out the gaps.

Given the confidence in the 3 rules proposed, one begins to think more closely of real life business scenarios and this is where I have a few questions for the authors.

1.      3 simple rules that are difficult to follow? – While we can buy in to the hypothesis and the evidence that ‘Revenue should come before cost’ taking a call with regard to this rule may be difficult. So, for example, should a company lay off its employees and cut costs under changed circumstances or should it reason that re-skilling the employees while focusing on new sources of revenue is a better approach? I guess what the book is trying to suggest in these cases is to focus more of the managerial attention on value generation and less on cost cutting. Is that right?

2.       Rules for companies or for products/services? ‘Better before cheaper’ appears to be a rule applicable more to the product development than to the growth of a company. So, if a company caters to customers from different income groups all its products are not likely to come out true on the ‘better before cheaper’ front.

Putting it differently, in some markets a cheaper product may be the only definition of ‘better.’ In such markets a company that epitomises ‘better before cheaper’ may need to adapt.

3.       Limits to applicability?

a.      With the exception of the Retail industry, we don’t see the example of any service company, especially of the kind reliant on bidding for contracts? How would a service company bidding for contracts from US government, given the current focus on Low Price Technically Acceptable (LPTA) policy, win the contracts if it doesn’t focus on cost? We could reason that the company should move out of such an industry but is that the only answer? Given that services sector is no less than 50% of total global GDP it becomes important to address this sector.

b.     Do the three rules contradict the process of disruptive innovation where the new entrants making a foothold provide relatively low cost and low quality alternatives to gain a foothold?