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Recognising opportunity and other costs

C. Gopinath

EVERYWHERE, businessmen are considered to have few scruples. Though they are made fun of in the movies, sometimes portrayed as mean or evil, no business group voices protest. But as businessmen go, the brotherhood in Russia ranks right at the bottom. They have come under a cloud for making their millions by capturing government-owned enterprises in the highly questionable privatisation process. Apart from glasnost and perestroika, Russia has now contributed the word oliga rch to contemporary lingo. But Anatoly Karachinsky is neither an oligarch, nor was he made in the conventional mould of the Russian businessman. He is a self-made Russian millionaire in the information technology field, and has rather unusual v iews. His group, Information Business Systems, is diversified into systems integration, computer distribution, software programming, and more. And, he uses this concept to help the oligarchs restructure their businesses.

A transport engineer by training, Mr Karachinsky has emerged a successful businessperson employing 1,500 people by sheer hard work and initiative. In an interview, he told Financial Times that he never went to business school but estimated his education at $7 million (Rs 31.5 crore). That is an intriguing calculation. He figures that this is how much money he lost because of his mistakes and that was the best education one could get.

Surely, he jokes! After all, he did go to school to learn transport engineering and it would have cost him less than $7 million to go to a business school. But he is talking about `real' business education and what he says could prove true provided one l earns from mistakes. A proverb says a fool is one who learns from his own mistakes and a wise man is one who learns from another's. What about those who do not learn even from their own mistakes? How often do individuals and companies keep making the sam e mistake?

The answer is, quite often! Companies repeatedly make acquisitions hoping the next one will work. And if it does not, they try again. In 1994, Quaker Oats saw a lot of value in buying the small beverages maker, Snapple, for $1.7 billion (Rs 7,650 crore). Quaker saw synergy between Snapple and its own sports beverage, Gatorade. It thought it would generate additional sales and save on distribution costs. However, over 26 months, Quaker found it just could not make the acquisition work. It finally sold Sn apple to Triarc Corp. for $300 million (Rs 1,350 crore). (Triarc recently sold it for a profit, along with some other businesses.) Look at Mattel Inc. A dominant toy maker, Mattel decided in 1998 to acquire an educational software company, Learning Co., for $3.5 billion (Rs 15,750 crore). Within 16 months, it realised it had messed up the acquisition and decided to sell it to a small buyout firm, Gores Technology. Rather, Mattel gave it away for no money, but with a promise of getting something if the u nit earned money!

These firms have neither learned from their experiences nor from those of others. The history of business acquisitions is very long if one details all the acquisitions. Yet, the conclusion of each is very short. It is a wonder for academics who research this subject, as to why the pace of acquisitions and mergers never seems to let up given the poor record of the firms that indulge in them. Managerialism is one explanation for what happens -- managers feel more important when they are running larger enterprises, irrespective of its outcome for shareholders, who bear the costs. This is said to drive them to expand, and make their enterprises larger, even at the cost of profitability.

Sure, sometimes a bad decision is better than no decision. We can all recall working for a manager who delayed deciding on proposals placed before him. That can be a frustrating experience, and one might scream for some decision, even if it is not the on e hoped for.

A variation from the cost of making mistakes is the cost of missing opportunities. The economists have a term for it -- opportunity cost. The opportunity cost of an event is defined as the cost of an forsaken alternative. Companies which do not recog nise opportunity costs either stagnate or enter a downward spiral. The US-based Continental Airlines for many years was the airline people tried hard to avoid. Maintenance was poor, delays were the norm, and the airline twice filed for bankruptcy. In 1998, a new CEO, Mr Gordon Bethune, took charge and managed a remarkable turnaround.

Commenting on his experience, he made the point that people often do not tackle the real problem in an organisation because it can be too expensive. They end up doing little things that cost less money, knowing full well that they are really dealing with the marginal, and not the real, issues.

Mr Bethune recognised that it cost money to keep the planes clean, keep up maintenance, and maintain a good record in punctuality. Yet, these were basic for an airline. With a reputation for bad service, the airline was stuck in a downward spiral. By not spending money on these basics, it cost the company customers, revenues, and more expenses on emergency repairs. Thus, cost-cutting proved too costly for the airline.

The above examples illustrate at an organisational and individual level how it is important to recognise true costs. An accounting approach to costs is linked to expenditure. This is the mechanical part of it. The `true' costs of an activity, quite often , can be something else. And in some cases, it perhaps cannot even be measured. This is especially so when we look at large projects. The true costs of building the Sardar Sarovar dam, we now realise, is more that what the project documents show. The dis agreement on the project is our inability to truly estimate what the true cost is. Companies continue to make investments on blue sky projects, make acquisitions that quickly unravel, all because the assumptions of what the costs are and will be continue to be shrouded in assumptions that are not always clearly specified.

(The author is a professor of international business and strategic management at Suffolk University, Boston, US. His Internet address is cgopinat@suffolk.edu)