When I was still working very extensively in the startup industry, in the area of investment consulting (pre-seed, seed, growth or exit phases for funds in venture capital and private equity models), on the startup side, very rarely was the idea itself already perfect and polished, so one of the most important evaluations was the evaluation of the current team involved in its creation – including, among other things, how they would stand the pivot of the idea, whether they were able to continue working together, whether they understood the value of change.
Next to the solution, what was really the key were the people: their competence and the chemistry between them.
On the fund and investor side, in turn, we were looking for investor-startup fit: people with experience in a particular industry or area, with an understanding of a particular market (preferably current and in the context of upcoming changes), a potential network of supportive contacts – and willing to help, especially with strategic advice. The more factors of this type (among many others) were met, the more we talked about investing so-called smart money.
Next to money, people were again the key: their knowledge and willingness to actively support.
One and the other side of the analysis requires going lower than just cells in Excel sheets that glow red or green (then it’s good and we’re sure we’re doing everything perfectly, right? right?).
Moon’s influence on the corporation’s budget
The classical (roughly from the 1950s-60s in the US, sometimes still combined with classical economics, i.e. the one initiated by Adam Smith in the 18th century, and in Poland – thanks to the efforts of Jean-Baptiste Say; although it would be more accurate to speak here of the influence of neoclassical economics) and high-level way of managing large organizations can be compared to the influence of the moon on the tides.
In principle, the traditional model says: cut costs, maximize profits. As long as you see only or mostly green spreadsheet cells at the board level, it is difficult to react or even want to analyze the situation in depth – and this is often necessary to see that something bad is happening.
When it’s apparent at the board level – we’ve missed something again, sometimes months earlier.
How do these inflows and outflows look in practice?
- We hire people – we generate costs.
- Sales increase – we generate profits.
- We optimize the entire organization – we cut costs, including by laying people off.
- Sales are falling or declining – profits are falling.
- As a result of the above, we bail out by pivoting or hiring new specialists.
Although this arrangement tries to strive for balance, the larger the organization, this approach is too simple to keep the company stable even in the medium term.
If, in addition, digital transformation hits an unfavorable point in this cycle, the corporation may make decisions that increase the chance of failure and introduce additional risk.
Cutting costs too fast and too early
When the specter of digital transformation arises in organizations, it is most often coupled with some kind of hype that is perceived as a panacea with an almost immediate impact on the company (understandably: the hunger for these immediate effects is effectively aroused).
There was a time when it was agile techniques (where agility, especially when building unknown and volatile products, was mixed with the notion that everything would be – note – faster and cheaper), there was a time when it was blockchain, and now such a golden calf is the AI component of digital or product transformations.
What can go wrong?
- Stopping investment in other (sometimes also new) technologies.
- Downsizing before implementing solutions that can justify or cause that downsizing.
- Focusing too much on traditional business models and only caring about current sales.
The effects could be multiplied.
Excessive cost reduction (which, as I wrote above, the corporation may not be aware of) can result in a reduction in the quality of the products or services the company offers. A classic example is firing the most expensive programmers and possibly replacing them with much cheaper ones, without comparing the set and level of competence, but only by, for example, adjusting the technology stack.
Increased technology risk. This is an aspect somewhat linked to the above (decline in quality) and in organizations (unfortunately, rather post mortem) this is identified by, for example:
- increasing risk of systems failure;
- increasing risk of data contamination or loss;
- declining code quality; increasing entropy of deployed solutions, often together with dependencies within integration;
- minimization of good practices such as writing tests (unit, integration, manual – but also… using AI) or code refactoring (seen as an activity with no commercial justification);
- Declining ability or inability to change technology and deepening (including dependency) of technology debt and dependency of the organization on legacy solutions that… that organization itself implements.
Decreased investment in development (I am referring here primarily to internal activities, i.e., R&D and technologies already implemented or that were to be implemented in a 1-2 year timeframe).
Increased operational risk can be seen, for example, in the reduction of financial reserves (in one of the worse scenarios, the organization may notice this too late without precise monitoring because… it may be running a financial reserve optimization program in parallel).
And since I’m also raising the human aspect of the transformation in this cycle, one can’t help but mention that excessive cost cutting also means cutting jobs, withholding raises and sometimes even reducing salaries.
As a result, employee morale and motivation drops. Of course, those who are still working, because such a situation will result in an exodus of owned talent from the company – and the best ones (even though sometimes equally expensive)
In the end, the customer also takes a hit, followed by the organization’s image.
Service times get longer and/or complicated to keep customers with dark patterns or other unethical solutions. The whole thing buys some time, but ultimately: it exceeds a critical mass and causes an image crisis, and in combination with markets with strong consumer movements (unfortunately, we don’t have any in Poland that have made a noticeable impact with their portfolios) – financial losses.
It’s great! Can we stop now?
And where does the funding pressure come from when the transition begins? Here again, giving one reason is an oversimplification, and it’s worth looking for more.
Focus on immediate gains and returns on investment. The bigger the change in the more neglected organization – the longer it will take.
If, in addition, the company is accustomed to measuring the financial effectiveness of initiatives quickly (in terms of months, eventually quarters), it will complete major changes prematurely, obviously wasting the investments made so far.
It may also mean a bigger problem to take care of – a change in the organization’s mentality, which in this day and age still needs to be combined with generational change (and behavioral change) in the market – both employees and customers.
Transformation – especially belated and complex one – requires patience, preferably one arranged in a process, not just purely human.
Errors in risk assessment, failure to properly manage change (hello, Ops) or choosing the wrong metrics to measure success are not mentioned, but it’s worth digging into on its own.
Restricting transformation funding too early can exacerbate problems that the organization was already facing, such as reduced innovation, difficulty adapting to market changes, or ultimately: loss of competitive advantage.
Improper management of transformation financing can therefore, in extreme cases, be the nail in the coffin of a given company.
Don’t be afraid of cost increases – manage them
The low strain on money during the pandemic period caused a wave of hiring that was estimated as overstaffing from the beginning. We have seen the effects in the IT industry more or less since the previous year, where layoffs have been very significant (high interest rates have added to the diagnosis of overstaffing, and the whole thing has overlapped further with the advancing AI-enabled revolution), and this is… the best time for hiring, because we will almost certainly get a very good cost-effectiveness ratio and acquire valuable talent (let’s hope for years, and not for a while, when we will be the ones to lay off).
When implementing and financing digital transformation (increasing costs), therefore, one must first of all… wait. This is all the more difficult, the more likely it is that we won’t get the first commercial results in the ongoing fiscal year.
Once it is implemented (increasing costs), it is unwise in principle to stop it without a strong justification. A transformation interrupted in the middle can de facto bring additional risk to the organization, which is why its strategy (strategy is not just a document with fancy words, but more importantly its implementation) – and an openly communicated timetable – is so important.
And once the changes are implemented and we want to realize the full potential (including: accelerate the changes and start maximizing profits), a very healthy, though counterintuitive (for the traditional budget management model) method is… to increase costs to increase profits.
This is exactly how an investor with smart money works. He unleashes the company to increase its position in the market, and when it introduces distortion – to try to dominate it.
Study the profit-cost ratio so that you don’t plunge the organization financially, but don’t seek to cut costs at all costs. I even have an example from nature that I learned a few years ago in Białowieża that illustrates this well.
Are there too many or too few wolves in Poland? The wolf population is strongly correlated with the deer population. The fewer deer, the fewer wolves. The more, the more wolves.
So what is the correct answer to this question?
There are as many wolves as there should be.