David McAdams: You Can Always Change the Game

C-Suite – Thought Leader Interview

An award-winning business school professor shares his thoughts on the practical applications of game theory.

David McAdams is a professor at the Duke University Fuqua School of Business.  He is a leading scholar, popular teacher, and game-theory business consultant.  He is the author of Game Changer: Game Theory and the Art of Transforming Strategic Situations (2014, W.W. Norton & Company).

Professor McAdams talked with C-Suite from his office in Durham, North Carolina.

C-Suite: Can you provide us with a brief explanation of game theory?  What is it exactly? 

Game theory is the study of strategic decisions; when your choices impact the choices of others, such as your competitors, and you need to think about how they're going to respond to your decisions and actions.  The essence of a game is that there are multiple decision makers and that their choices impact each other.

C-Suite: What makes game theory useful in a business context?

Just about every type of business interaction can be analyzed as a game - whether inside your own organization, with competitors, with regulators, with suppliers, with partners, or with unions.  For example, one of the most important games is with your customers: building the value of your product, making sure they're aware of it, the promotions you offer, earning their loyalty, and so on. The decisions you're making as a business are all related to games, and understanding game theory, or even just looking at those decisions through a game theory lens, can give you unique insights and a real advantage over your competitors.

C-Suite: How can game theory help companies gain a competitive advantage?

As game theorists, we always focus on the handful of key decisions that are driving outcomes, who is making those decisions, and why are they making those decisions. Game theory gives you a way to systematically think through why something is the way it is and why it's changing.  It helps you identify opportunities that others can’t see because they're blinded by the status quo. If you have a game-theory mindset, you're not only going to be able to respond to a changing environment. You can change the environment yourself, because you challenge long-held assumptions that may no longer be valid or can be changed in some meaningful way.

C-Suite: Does game theory still work in today’s environment with so much uncertainty and volatility?

Game theory is even more valuable in situations where things are changing. If you’re in a world that is relatively stable, you don't actually have to understand why things are the way they are. You just need to know what they are and then you can figure out the best thing to do for yourself. But if the world is changing, you need to know why it's changing, so you can get out in front of it and have an advantage, or at least mitigate the damage that this changing world is inflicting on your organization.

C-Suite: What are some examples of situations where the use of game theory led to unique insights?

Let me start with the first hero that emerges in my MBA class at Duke - Raymond Smith, the longtime CEO of Bell Atlantic. He wrote an article in Forbes magazine called “Business as a War Game.” He explained how he used game theory to gain an advantage for himself, but more importantly, for his whole organization.

Smith used game theory as a way of establishing a culture of nimble decision making. Instead of committing to a specific direction, he used game theory as a decision-making process, including a constant reassessment of key assumptions. In other words, if we discover that something has changed, we’re going to be shifting immediately because we weren’t committed to a direction, but to the process. This allows you to be really nimble and also opens you up to new ideas and gets you thinking outside the box.

Now compare that with how a lot of organizations operate. Most make a strategic decision and then go after a specific set of targets over a period of say 3-5 years. But what if the world changes? What if a competitor enters? What if there's a new government regulation? Something changes in the environment? Once you’ve got some organizational momentum in one direction, how do you suddenly say, "We actually need to turn 90 degrees and move in a totally different direction?" It can be really hard as an organization to do that.

C-Suite: In your book, you stress that the game can always be changed. What do you mean by that?

Games are important in every interaction you have. Now, you can either learn to play the game better or try to change the game itself. But how do you do that? In my book, I categorize the approaches that are often effective. I zoom in on a game called The Prisoner’s Dilemma and I lay out six ways of changing the prisoner's dilemma for the better – not only for yourself, but also for others.  And you can use those same six approaches of game-changing solutions in other types of games as well.

One approach is Commitment - to do something to convey to others that your move is made. Another approach is called Regulation - figuring out a way to change a payoff – even for yourself - by bringing in another party. The other approaches are called Trust, Retaliation, Relationships, and Merger. So, those six approaches each tap into a different set of powerful game theory ideas.

C-Suite: Why isn’t game theory used more often in business?

It’s a bit of a chicken and egg problem.  You need the engagement of decision-makers and subject-matter experts to gain the insights you need, but it’s hard to convince them to take the 4-8 hours required, unless they’ve already seen the value of game theory. Also, for game theory to become a really powerful decision-making tool, our mastery of it needs to go beyond the superficial to a deeper level where we can identify true insights in highly complex environments. Unfortunately, not many people reach that deeper level of mastery.

C-Suite: Are there other benefits for those 4-8 hour group sessions?

Absolutely. The good news is that the game theory process is “backwards-transparent”. The insights and recommendations have a tight logical connection to the mental model that the group develops. Consequently, the recommendations are powerful and convincing to the decision makers and other participants.

C-Suite: Are there business areas that could especially benefit from game theory?

Competitive strategy is an important area – taking into account competitors’ actions and reactions before making a move. Negotiations of every type – M&A, supplier, partner, dealer, labor – are another important application area. Negotiators who don’t use game theory often mis-assess the party across the table or don’t properly consider other players not at the table.  That said, once you learn to think like a game theorist, and approach all kinds of situations with a game-theory mindset, you can get value in other areas too. And because others probably aren't doing that, it could give you even more advantage.

One area that I feel is primed for more game-theory applications is marketing, especially when it comes to the relationship that a company develops with its customers. Thinking about what motivates a customer to buy your products, and figuring out the underlying purchase drivers, is invaluable and often involves games—because why a customer decides to buy something often depends on what others are doing.

C-Suite: How can organizations go about identifying potential opportunities for applying game theory?

You can go through different areas of your business, think about the key decisions, and what is motivating those decisions. Ask yourself what’s behind the Excel box? In other words, how confident am I in all those numbers, how does each number depend on the decisions of others, and how can I make sure we’re better protected against potential problems? And how could be maybe change things to create new opportunities by improving those games?

C-Suite: What are the critical success factors for applying game theory in practice?

It’s critical to recognize, as an individual and as an organization, that the world will change and that things aren’t going to stay the way they are now.  They may change, at least to some degree, because of what we’re doing ourselves and also because of how others respond to what we’re doing.  Then, a good first step is to look at your decision processes and look for ways to embed more thinking about the motivations, actions, and reactions of others. If you just have that process alone, suddenly tactics will come to mind to improve the outcome. You can take steps ahead of time and start building in that nimbleness that Raymond Smith, the Bell Atlantic CEO, was talking about. So I think that's the first step.