Learning from Failure – and Success
— December 19, 2011
by J.P. Eggers, Assistant Professor of Management and Organizations
In their paper, “Reaching and Falling: Why Failure in Exploration differs from Failure in Exploitation,” Eggers and Stern doctoral candidate Jung-Hyung Suh analyzed four decades of activity by all US mutual fund companies.
To evaluate firm performance, the authors relied on a standard industry metric: the net cash inflow into all new funds created by the mutual fund provider, a measure also closely correlated with firm profitability.
All new funds created by a mutual fund company were classified as either exploitative (meaning the fund was in a category in which the firm had prior experience) or exploratory (it was in a new investment category for the firm). Several mathematical models correlated the firms’ successes and failures with their subsequent decisions, showing whether they learned from experience.
The results showed that the effects of prior success and failure on a company’s future performance are linked to the nature of the experience — that is, whether it involved breaking new ground or reinforcing the status quo.
When trying something new, Eggers says, “success may create opportunities for the firm to cross-sell existing products and create new ones. Failures don’t produce those same benefits.”
Failure in the firm’s core business, however, can break a cycle of organizational complacency and spur management to direct resources to fix the problem and search for new opportunities elsewhere. Successes in the core just reinforce that complacency.