Your idea of success is completely wrong

There is this idea that success is 100% correct decision making. For some people, they understand this to be 90% or even 80% correct decision making. This idea is completely wrong. A success rate of 56%, implying 44% incorrect decisions, is a great result. Here’s why.

Let’s simplify things. Assume that you are the chief executive of a company and that each decision you make has, on average, an equal impact on the company performance. Let’s say that if you make a good decision you increase profit by USD 1 million and if you make a bad decision you decrease profit by USD 1 million.

What does this mean in terms of the company performance?Imagine, if you will, that as chief executive you have to make one of these decisions every working day and that there are 240 working days a year. A 56% success rate means that out of the 240 decisions, about 134 are successful which generates USD 134 million in profit. That means 106 decisions are failures, decreasing profits by USD 106 million. The result is an annual profit of USD 28 million.

Most people would never believe that a 56% success rate, on a uniform distribution of the effect of decisions on P/L, could result in an USD 28 million profit. In fact, most people would consider a 56% success rate as a failure for a chief executive.

The absolute return of USD 28 million needs context in terms of the total equity of the firm. If the equity is USD 10 billion, then this is an insignificant contribution to performance. If the equity is USD 100 million then it is a major contribution to performance.

The way to think of this is what types of decisions should a chief executive be taking? As a simple example, why not assume that if a decision has less than a 1% impact on return on equity (ROE) then the chief executive delegates it, but the as soon as it reaches 1% of ROE, the chief executive takes the decision. This gives us a way to think of the impact of decisions on the ROE of the company. In this scenario, a chief executive with a 56% success rate, implying a 44% failure rate, will generate a 56% – 44% = 12% ROE. If the success rate is just 60% in this scenario then the ROE will be an extraordinary 20%.

Some might question the flat 1% per chief executive decision. Although the actual level at which a chief executive takes the decision can vary, it makes no sense for a chief executive to take a decision on matters that have a large variance on ROE impact. A chief executive who takes decisions that have a 10 percentage point impact on ROE would not be rational to also take decisions that impacted ROE by only 2 percentage points. This is a chief executive who doesn’t understand how to take the critical decisions and delegate the sometimes big but not critical decisions.

What does this mean when looking at a business? If a chief executive talks about having an 80% success rate then they had better have a ROE of around 80% – 20% = 60%. My participation in our markets shows CEOs in general claiming greater than 80% success rates, while in fact they have ROEs of far less than 60%. Far less than 20% even. In this scenario this means that either the chief executive is taking decisions at extremely low levels of importance to the company, and is therefore incompetent, or he or she is being dishonest.

This article was originally published in The National.