Every year at annual retreats across the country, firm’s executives get together to plan their strategies for improving the bottom line. For years, there were set patterns that nearly all companies followed for improving the bottom line, introducing new products and following the latest trends. But now, that kind of strategic tactic has gone the way of the dinosaur, according to new research by a business professor at Washington University in St. Louis, and with good reason, too.
Their new work explores mathematical models that show companies what happens, when a new player gets in the game, for example. These models can enable organizations to make better decisions. It can even help someone seeking to finance a new venture.
“The entrepreneur is a new player in the game, and the question of how investors will earn a suitable return is key,” MacDonald explains. “Our research can reduce uncertainty about this significantly. An entrepreneur can go to a venture capitalist and say, ‘I’m going to make between x and y dollars, and here’s why.’ Businesses also can use these models to determine a wide range of issues such as, ‘Should we open a new plant in China?'”
The quantitative approach stressed by the new models has had some unexpected effects.
“As strategy becomes more analytical, the emotional and behavioral aspects of competition are downplayed,” MacDonald said. “Imagine your CEO is obsessed with driving a rival company out of business, not because this is value maximizing, but because the rival’s CEO is a former employee who left to start the new concern.” You might say: ‘Let’s put that aside for the time being and figure out how much money we can make.’ You do the calculations and find the financial difference between the value-maximizing strategy and the crush-the-competition strategy is $10 million. Typically the CEO quickly adopts a more rational attitude toward competition.”
The thinking behind their research wasn’t new, MacDonald emphasized. It was the application that was novel.
“Our colleagues once thought we were crazy, resurrecting boring, old, coalitional game theory. But it ended up being a goldmine.” MacDonald says. “Now, we’re able to actually prove ‘if/then’ theorems and offer complete resolutions to questions on competition.”
In earlier research, MacDonald and Ryall were among a small group who realized the potential for proving formal results in strategy using coalitional game theory. The duo’s first paper, “How do Value Creation and Competition Determine Whether a Firm Appropriates Value,” was published in Management Science in October 2004.