Book Review: The Three Rules

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The Three Rules: How Exceptional Companies Think by Michael Raynor and Mumtaz Ahmed is different from the vast collection of books that purport to tell you “Here’s what great companies do.” It’s about how successful companies think.

The authors began their look at what makes really successful companies really successful in the same way that most people do. They looked at behaviors, what the companies that performed better than other companies did. They found that if you look at enough companies, you can find behaviors of all kinds resulting in success or in failure. Then they tried something else. Here’s their description.

“A useful explanatory framework began to emerge only after we shifted our emphasis away from what these companies did to a series of hypotheses about how they thought. This slowly began to bear fruit. By seeking the decision-making criteria implicit in the many and varied choices our exceptional companies made, we were able to reduce an overwhelming complexity to a much more manageable set of rules that applied regardless of the circumstances.”

The difference in performance was rooted in how companies identified key strategic choices and how to make them. The military calls this a “strategic doctrine.” Doctrine establishes the rules by which strategy will be conducted. This is a strategic doctrine for businesses.

Here’s the basics of the analysis. The authors used Compustat data covering the 45 years from 1966 to 2010. That’s extensive data on more than 25,000 companies. They went looking for exceptional performers who had performed at a high level for long enough that their success could not be attributed to chance.

They identified 174 companies that they called “Miracle Workers.” Miracle Workers were in the top 10 percent of companies. They identified 170 companies they called “Long Runners.” Long Runners were in the top 50 percent of companies, but for a longer period. “Average Joes” made up the rest of the companies.

They discovered that the super successful companies used three doctrinal rules.

  • Better before cheaper.
  • Revenue before cost.
  • There are no other rules.

Better before cheaper refers to the decision to compete on value rather than on price. It’s a decision about positioning.

Revenue before cost is about profitability. There, Miracle Workers and Long Runners worked to build profitability by growing revenue rather than by cutting costs. Long Runners are more likely to rely on cost leadership as part of their strategy, though

All of this made sense to me when I looked at the companies that were in their groups and how long they’d been successful. It made sense when I looked at my own experience with companies and how they achieved profitability.

Here’s how the authors say that all of this comes together.

“The three rules constitute useful advice because they define which of many plausible alternatives is systematically associated with exceptional performance. Better before cheaper does not mean price competition is irrelevant; it means that when you have a choice to make, and when the data are unclear, go with better. Revenue before cost does not mean keeping cost under control does not matter; it means increasing revenue is more important. There are no other rules does not mean you can blindly follow the rules; it means you must apply all your creativity and insight to follow them in the face of all manner of other changes.”

Over the last decade or so, we’ve been getting more and more research that confirms the idea that more complex solutions are not always better. In fact, simple heuristics can often get better results, and certainly faster results. That’s what the “There are no other rules” rule is all about. You can find an excellent overview of heuristics in Simple Rules: How to Thrive in a Complex World by Donald Sull and Kathleen Eisenhardt.

The first two rules are not catchy slogans to lead you to more complex thinking. They are the rules. The authors suggest that if you use them when you make strategic choices, you will do better. That’s all there is.

In A Nutshell

The Three Rules: How Exceptional Companies Think gives you a research-backed strategic doctrine that will help you make wise strategic choices in a wide variety of situations. The book explains the research behind them well and gives you concrete suggestions about how to use them.

You can check out some of my highlights and notes from this book on my GoodReads page.


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