Putting a Spring into Business Models

Are we thinking wrongly about business models and, for that matter, about the models that apply to many other activities, too?

While most of us think in linear terms, we respond to stimuli in a very non-linear way and this is why our models fail us.

A good example is that of traffic – the way it bunches up and stretches out as drivers slow and speed up, with each reacting to the vehicle in front – it’s much more like a spring or elastic band being stretched and let go, than linear.

Look at how consumers react to shortages of items. It really is much the same – an impending shortage leads to people purchasing a little more to tide them over, while a stock-out position either leads to brand switching or to buying extra once the item is back in stock, so the consumer doesn’t run out again. This, of course, means demand that follow a wave pattern, rather than a straight line.

However, every inventory-ordering system I’ve seen works in a linear fashion, leading to inevitable periods of over-stock after a shortage and accelerated stock-out if an impending shortage is discerned.

Doesn’t this equally apply to investors? Think about how the stock market reacts to news – it almost always over-reacts, whether positively or negatively, and then settles down. Again, although, we expect a “rational” (read: linear) response and our models are built in this way, the actual pattern of prices is anything but linear.

I have little doubt that it is this that leads to huge market “melt-downs” as automatic sales are triggered in response to the over-reaction to an event which leads to more automatic sales, and so on. Look at global stock markets early this year – do we honestly believe that the total value of companies was half (or less) what it had been six or seven months earlier? There’s no question they were worth less as earnings were impaired, but were they really worth so much less? The answer might be found in the big increase in share prices from March – perhaps it wasn’t a bull market as some were calling, but simply a correction to the over-reaction during the last half of last year, and things seem now to have stabilised. At least until the next piece of news…

The answer, it seems to me, is to rework our models to allow for human response to situations: the inevitable over-reaction and consequent wave patterns in demand, share prices, traffic and just about everything else. By allowing for this sort of response and predicting the effects, we can dampen them in the same way that a car’s shock absorbers dampen the effect of a bump on the suspension/springs.

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2 responses to “Putting a Spring into Business Models

  1. Thanks, Catarina. Not applying it yet as not currently working in that area, but will certainly do so in future…

  2. Intresting thinking and threory. Are you already applying it to some work you are doing?

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