Four Levels of Uncertainty – Strategic Planning Under Uncertainty

Even the most uncertain business environments contain a lot of strategically relevant information. First, it is often possible to identify clear trends, such as market demographics, that can help define potential demand for future products or services. Second, there is usually a host of factors that are currently unknown but that are in fact knowable-that could be known if the right analysis were done. The uncertainty that remains after the best possible analysis has been done is what we call residual uncertainty.

Hugh G. Courtney, Jane Kirkland, and S. Patrick Viguerie in their article Strategy Under Uncertainty have developed a useful framework for dealing with various uncertainties in strategy formulation.

Four Levels of Uncertainty

The authors present four levels of uncertainty: 1) A predictable future, 2) Alternate futures 3) A range of futures 4) True ambiguity.

Four Levels of Uncertainty

Level 1: Clear Enough/Predictable Future

This would apply to situations where sufficiently precise predictions can be made about key variables affecting a company’s markets and businesses (e.g. market demographics in a reasonably stable consumer goods sector). In this case, executives can apply the standard strategy tool kit (market segmentation, competitor’s costs and capacities, value chain analysis, Porter’s five forces model, etc.) to define an optimal course of action.

Level 2: Alternative Futures

Sometimes firms are faced with discrete scenarios, e.g. regulatory changes, significant actions of competitors, etc. It’s hard to predict which outcome will actually happen, although one can assign probabilities to various alternatives. The recommendation here is to develop strategic scenarios, and apply a decision analysis framework or a “real option” approach. Important is also to define trigger points, and monitor markets and competitors closely, in order to react quickly once some of these uncertainties are removed.

Level 3: Range of Futures

Unlike level two (where the outcome is either-or), in level three, a small number of variables define a broad range out outcomes, but the actual result may lie anywhere in between. An example would be a company entering an emerging market, where the consumer penetration rate could be very low or very high, or anywhere in between. Similar to level two, executives are advised here to develop a number of scenarios. It will be important to define these carefully, make sure they don’t overlap, and cover a reasonably broad range of outcomes.

Level 4: True Uncertainity/Ambiguity

This type of uncertainty is actually quite rare. It may happen in cases of entirely new technologies where technology adoption, platform prevalence, competitive landscape and revenue models are all up in the air. Strategy in this situation would be highly qualitative, based on the study of analogous markets and patterns.

Strategic Postures and Moves

There are three strategic postures that the organization can take while facing an uncertainty. Basically, a posture presents the strategic intent with regard to the current and future state of the environment.

  1. Shape the future or play a leadership role in establishing how the industry operates. It helps the organization move towards the new structure of products or services, that have been unknown to the market (the environment) until now. This can be achieved by shaking up the relatively stable level organizations, or by taking control over the environment at higher levels of uncertainty.
  2. Adapt to the future, being flexible in recognizing and capturing opportunities in one’s industry. It starts from the current environment structure and competition, and tries to react to the opportunities that the current environment offers.
  3. Reserve the right to play, namely invest sufficiently to keep afloat, avoiding premature commitments. It includes small investments that put the organization in a better position. In other words, the organization is buying time and waits for a less uncertain environment in order to develop its strategy.

Taking a posture is not a complete strategy. A posture explains the strategic intent, but does not bell us about the activities that should be undertaken to fulfill the intent. There are three types of moves that are important for strategy implementation while being in a level of uncertainty:

  1. Big bets or actions that necessitate a significant commitment on the part of the organization, generating a positive return under a favorable scenario and having a negative effect in other scenarios. Big bets are the activities that present capital investment or procurement. They are mostly used in the posture “shaping the future”.
  2. Options, actions that carry a reasonable price tag under any circumstances while yielding a significant payoff in some scenarios. Options are activities that insure large incomes in the best case scenario, and minimize the losses in the worst case scenario. This type of activity is usually used in the posture “reserving the right to play”.
  3. No-regrets moves or strategic decisions that have a positive payoff regardless of the end scenario (what will happen in the future).

External Links:

  • Strategy Under Uncertainty (McKinsey & Company)
  • Strategy Under Uncertainty (Heller School for Social Policy and Management)

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