"Education costs money, but then so does ignorance."
Sir Claus Moser
One of the biggest dangers for business people, is working with and making plans based on irrelevant facts.
Never forget these 3 things:
- Not all facts are helpful.
- You lose sight of the big picture when you get too close.
- It’s easy to tell lies in the language of numbers because most people believe numbers never lie.
"When numbers in a business lose their connection to people and their actions, the numbers are no longer trustworthy." - Roy H. Williams
Is your business spending too much time lost in a sea of irrelevent facts?
This week we revisit the 2 latest Monday Morning Memos by Wizard of Ads founding Partner Roy H. Williams. You may have read them, however you'll learn much if you read them again.
Activity-Based Accounting
How Wal-Mart Killed K-Mart and Best Buy Beat Circuit City
by Roy H. Williams
I spoke to a small auditorium full of business school grad students at the University of Texas
last month.
They were fascinated by my case study of Transactional vs. Relational customers. I saw their
eyes widen and their heads move up and down slowly as I explained how the Relational shopping
mode is the foundation of all branding. But then they all dropped their heads and started taking
notes like crazy when I began to talk about Activity Based Accounting.
I was startled by their reaction. I paused, then said, “You guys have heard about
this, right?” They shook their heads no. These young men and women will receive their MBAs in May.
I stared at them in disbelief.
A man from India spoke up, “For a moment I thought you were talking about activity-based
costing but then you took it a whole different direction.”
I was incredulous. “You’ve never heard of Activity-Based Accounting?” Again they shook their
heads no. Then it hit me. Joe Romano invented this and taught it to his students 20 years
ago without ever mentioning that it was his own invention.
I smiled. Joe has always been like that.
As the years have passed, I’ve seen countless real-life examples of Activity-Based Accounting
in action. I just always assumed it was common knowledge and that everyone else was seeing what
Joe taught me to see.
In a nutshell, Activity-Based Accounting is highly sensitive to trends in customer
behavior. It sees the people behind the numbers.
Traditional cost-based accounting reduces customers and their behaviors to an “average” or
a “percentage.”
If a hole is 12 inches deep, how deep is half a hole? Cost-based accounting will answer “6 inches.”
Activity-Based Accounting will answer, “There’s no such thing as half a hole.”
Have you ever met the family with 2.3 children?
Analysts who study Wal-Mart will tell you that the secret to their success is inventory
management. Dig a little deeper and you’ll find that Wal-Mart’s inventory management is
highly responsive to the activities of the customer.
Wal-Mart has a men’s clothing department. So does K-Mart. Let’s assume they sell exactly
the same clothing. K-Mart can tell you that the month started strong, then slowed down,
so they pulled out their little stainless steel cart and the store manager got on the intercom
and announced “a flashing blue light special.”
Wal-Mart, on the other hand, knows it sold 5 Dave Hogan sport shirts within the first 8 hours
they were on display and that all of them were blue. The red ones aren’t selling. The next day
they sell 4 more blue ones and only 2 red. Wal-Mart’s sales aren’t going to slow down like
K-Mart’s, because Wal-Mart is going to make sure they don’t run out of blue, Dave Hogan sport shirts.
K-Mart went bankrupt. Wal-Mart became the most successful retailer in the history of the world.
That’s the power of Activity-Based Accounting.
Likewise, Best Buy CEO Brad Anderson implemented a decision-making technique back in 2004 that
I immediately recognized as Activity-Based Accounting. One year later the success of his
endeavor was trumpeted in the Wall Street Journal. Four years after that, rival Circuit
City was driven into liquidation because they never quite caught on to what Best Buy was doing.
Bad Math and You - Beware Irrelevant Facts
Activity-Based Accounting, Part Two
by Roy H. Williams, The Wizard of Ads & founder of the Wizard of Ads Partner Group
“Gross Rating Points are valid only if you accept the false premise that reach and
frequency are interchangeable.”
The key to Activity-Based Accounting is never to separate the numbers from the activities of
the people represented by the numbers.
When numbers in a business lose their connection to people and their actions, the numbers
are no longer trustworthy.
Never forget these 3 things:
- Not all facts are helpful.
- You lose sight of the big picture when you get too close.
- It’s easy to tell lies in the language of numbers because most people believe numbers never lie.
Here are a couple of facts taken from the 2000 Census:
- The average American family size is 3.14 persons.
- The average number of children per household is .90 children.
Problem: Let’s say you want to move to a “family” town, a place where lots of people
are married with children still living at home. You’ll need to find a city with more
than nine-tenths of a child per household, right?
Using the logic of traditional Cost-Based Accounting, you’ve narrowed your search to
3 towns with 50% more children than the national average of .90 per household. Riverview,
Prairieville and Mountaintop each have 1.35 children per household. On paper, the 3 towns look equal.
But Activity-Based Accounting would reject the 1.35 children per household average and
look at the raw data behind the numbers. Here’s what Activity-Based Accounting would discover:
The people of Riverview dislike children. That’s why
90 percent of all Riverview households have no kids.
But Riverview has a Polygamous religious group, so
5 percent of Riverview families have 13 children each and
5 percent have 14 children each. Welcome to Riverview, where tension hangs thick in the air.
Prairieville is composed largely of immigrants from an overpopulated nation. Consequently, the people of Prairieville believe it’s immoral to have more than one child.
8 percent of Prairieville households have no children.
74 percent of Prairieville households have 1 child.
5 percent have 2 kids.
5 percent have 3 kids.
4 percent have 4 kids.
4 percent have 5 kids.
In Prairieville, 82 percent of the population looks down on the 18 percent with more than one child. “Breeder” families like yours are social outcasts. You and your 2 kids are just going to love it here.
The people of Mountaintop are happy to be alive. The town motto, “Live and Let Live,” is painted on the water towers and the police cars.
33 percent of all households in Mountaintop have no children.
22 percent have 1 child.
33 percent have 2 children.
7 percent have 3 children.
2 percent have 4 children.
1 percent has 5 children,
1 percent has 6 children,
1 percent has 7 children.
Did you notice in the raw data that none of the children were fractioned? In Activity-Based Accounting,
any step that creates a fractional person is a false step.
Although it’s true that each of these 3 towns has 1.35 children per household, it’s a
completely irrelevant fact and
(1.) Not all facts are helpful.
We took one step too many when we calculated the number of children in the average household.
This illustrates the fact that
(2.) You lose sight of the big picture when you get too close.
I’m sure you would agree that we learned more about Prairieville, Riverview and Mountaintop
from the raw data than from their identical averages of 1.35 children per household. Now that
you’ve taken a step back from the misleading “average” and looked at the raw data, Mountaintop
is obviously your best choice.
Advertising professionals, you realize I’m talking about Gross Rating Points, don’t you?
Reach (the number of different people being reached)
times Frequency (repetition)
equals Gross Impressions.
Gross Impressions expressed as a percentage of population equals Gross Rating Points.
(One million Gross Impressions in a city of one million people equals 100 Gross Rating Points.)
The Cost-Based Accounting logic that created Gross Rating Points isn’t just plain stupid; it’s
fancy stupid. (Stupid with raisins on it.)
An advertiser is considering 5 different plans. All he knows is that each plan delivers
100 Gross Rating Points.
An Activity-Based study of the raw data tells us…
Plan One will reach 100 percent of the population once.
Plan Two will reach 50 percent of the population twice.
Plan Three reaches 10 percent of the population 10 times.
Plan Four reaches 5 percent of the population 20 times.
Plan Five reaches 1 percent of the population 100 times.
But with “100 Gross Rating Points” hovering before his eyes, there’s no way for the advertiser
to see the varying effectiveness of these schedules because when he multiplied reach times
frequency he took one step too many.
Gross Rating Points are valid only if you accept the false premise that reach and frequency
are interchangeable.
Do you believe reach and frequency are interchangeable? If so, you’d be just as happy in
Prairieville or Riverview as in Mountaintop. After all, they each have 50 percent more
children than the average American town.
And real estate is so much cheaper in the first two towns than in Mountaintop! I wonder why?
Oh well, it doesn’t matter. Because the numbers are the same.
And numbers never lie.
Perhaps now would be a good time to have a complimentary meeting with a Wizard of Ads Partner. Links to their websites and blogs are listed down the right side of The Wizard Times. Hundreds of their articles with free insightful advice can been seen at www.americansmallbusiness.com 2009 would be a great year to attend a class at the Wizard Academy 21st Century Business School in Austin Texas. What is the Wizard Academy?
See you next week.
Clay Campbell
Wizard of Ads
PS. Need help to attract more customers and grow your business?
