Quality = Profit x Time

A continued exploration into the relationship between truth and Quality, plus how to ensure Quality and lengthen time preferences with delayed gratification.

Truth and Quality

In my article Truth, Quality, and Bullshit, I begin to make the case that the concept of Quality is synonymous with the idea of truth. When you think of quality, different things might come to mind depending on what your focus is: product quality, organizational quality, quality of life. These are certainly all types of quality, but when I refer to Quality, with a capital “Q,” I am referring to the fundamental properties that they all share. In order to better understand what I mean, I will invoke William James, known as the “Father of American Psychology.” In his work on pragmatism, he makes the case that something is true “so long as to believe it is profitable to our lives.” He goes further to say that “any idea that will carry us prosperously from any one part of our experience to any other part…is true instrumentally.” This definition of truth, the pragmatic definition of truth, serves as the foundation for what I am referring to with Quality; anything that facilitates prosperity or is profitable, where profit is, as it is generally understood, value generated minus costs.

Short Time Preferences

Something can be, however, considered factually, or statistically “true,” and still lead us away from prosperity and profitability. If the definition of truth or Quality was to stop there, as it often does in people’s minds, it can be easily exploited. On this James says, in his book The Meaning of Truth, “Of course, if you take the satisfactoriness concretely, as something felt by you now, and if, by truth, you mean truth taken abstractly and verified in the long run, you cannot make them equate, for it is notorious that the temporarily satisfactory is often false.” Simply put, he is saying that when determining if something is truthful, satisfaction, or profit, can be an unreliable quantifier if only measured in the short-term. With that in mind, I would restate that something is considered to have, or be of Quality, if it facilitates prosperity or is profitable, provided that the prosperity or profit is measured over the appropriate time horizon and considering the appropriate scope. Below are a few examples of how something, if measured in the short term or with an egocentric scope, can seem to be profitable, but if measured in the long term or considering externalities, is ultimately proven not to be:

Quality of life: Consider theft. From the perspective of the individual that is stealing, the action can be incredibly profitable in the short term. The individual generates value for themselves equivalent to the value of the stolen items and the cost is near zero (possibly some time and energy invested in planning the crime). If you assume that, eventually, the individual will be arrested for the crime, it is clear that long term costs significantly outweigh the value generated. Even if the individual were to get away with the crime, it would only be considered profitable for the individual themselves. If the scope of measurement is expanded slightly to include the individual that was stolen from, the act is net neutral. If it is expanded to include the law enforcement resources, it is clearly an action with net negative profitability and obviously one that decreases quality of life.

Product quality: Consider a standard manufacturing cost reduction exercise. In order to reduce costs, a decision is made to source a lower grade raw material for a component in a product. Since this reduction in product quality would be invisible to the market in the short term, they can expect sales to remain the same and cost of goods to go down, raising profits. The lower grade raw material, however, will likely have a higher occurrence of failures, which would increase the number of complaints and likely the total amount refunded to customers. Eventually the higher rate of failures will start to impact the brand image and could have a negative impact on sales and growth. Over the long term, a cost reduction exercise like this will likely have net negative profitability for the organization. Even if the organization remains profitable when measured independently, it would likely be net negative if the scope was expanded to include the customers and the money wasted on purchasing an item that ends up in the trash. If the scope is expanded even further to include the cost of waste management for the products that are thrown away, profitability would dip even further into the negative.

Organizational quality: Organizations, guided by the tyranny of quarterly earnings reports, often make decisions to increase short term profit that ultimately have a net negative impact on long term profitability. They might, for example, reduce the number of inspections in a manufacturing process, attempting to expedite the flow of material and move product to finished goods quicker. This would have essentially the same impact as what was described in the product quality example. In the short term, cost of goods would go down and profitability would increase, but the long-term implications of the decision will ultimately have a net negative impact on profitability for the organization and externally.

It is natural for individuals to pursue temporary satisfaction or profit and to mistake it for truth. Since organizations are run by individuals, it is natural for organizations to pursue temporary profit and to mistake it for truth as well. It is natural for an individual in charge of running an organization to have a time preference in line with their tenure at the organization. Even more natural is for an individual to have a time preference that does not exceed their life expectancy. What’s the point in making your organization more profitable if you do not individually profit from it? What’s the point of profiting from anything at all if you cannot enjoy it during your lifetime? These are common perspectives to have. It is rational to think this way and people should be expected to do so.

Delaying Gratification

I would expand the definition of Quality one final time by stating that the appropriate time horizon for which profitability should be measured is eternity and the appropriate scope is everything. The issue with this definition, however, is that we can only measure profitability up until present day and we are significantly limited in our ability to account for all externalities. How then, can we ensure that we are making Quality decisions and taking Quality actions?

Since it is natural and rational for individuals to have time preferences and scopes that are short and egocentric, if the goal is to ensure Quality and generate long term, sustainable success; individuals and organizations must utilize tools that assist in delaying gratification. This is a psychological concept made famous with the “marshmallow test,” which is performed when someone, usually a young child is presented with one marshmallow, and they are given two options, eat the marshmallow immediately or wait about fifteen minutes and earn two marshmallows. This test is used to measure delayed gratification in children and is used to predict how successful individuals will be as adults. The test is typically only performed on children because typically adults are not as easily motivated by sweet treats. If an organization ran the experiment with its leadership team, though, it might be illuminating. This experiment serves as a good way of illustrating the concept of delayed gratification, but it obviously is not a tool to improve it.

Behavioral economists, like Richard Thaler, have been developing tools to improve delayed gratification for years. In his books Misbehaving and Nudge, he explains several of these tools in detail. The term “libertarian paternalism” is commonly used to classify them. Paternalistic in the sense that they are intended to work in the user’s best interest, and libertarian in the sense that the user can always opt out. One of the tools often used to illustrate the concept is auto-enrollment in 401(k) plans. Retirement savings is an obvious form of delayed gratification. Essentially, you are taking money from now and putting it away so that you will have more money in the future. They have found that a significant portion of the population will not change the initial settings when setting up their accounts. If they are not enrolled, they will not enroll and if they are they won’t unenroll. So, with auto-enrollment, the proportion of individuals that contribute to their retirement savings significantly increases.

The tool with the most historical success for delayed gratification is religion. Religion, in most cases, focuses individuals on the promise of eternal life and therefore rationalizes the making of sacrifices during this life to gain access to it. This admittedly is an oversimplification, but as tools for improving delayed gratification go, it is the most widely implemented and therefore likely the most widely understood. Most religions also have the added benefit of encouraging individuals to expand their scope of measurement when it comes to externalities. This might be better understood as the Golden Rule: Treat others as you want to be treated.

Within an organization, the most effective tool for improving delayed gratification, and my favorite type of libertarian paternalism, is a well-run quality system. All aspects of a quality system; inspection, preventive maintenance, corrective action, validation, training, calibration, etc., require short-term sacrifices to profit to ensure the long-term prosperity of the organization. For example, having robust inspection steps built into the manufacturing process definitely increases the costs of goods sold, but ensuring that your organization never has complaints due to manufacturing defects pays off over time. Inspection is just one example, but the same exercise could be done for all aspects of the quality system.

Tools such as 401(k) auto-enrollment, religion, or quality systems, can be incredibly effective at lengthening time horizons by delaying gratification, however due to their “libertarian” nature, they can be corrupted, and the positive effects can be easily undone. It is important for decision makers not just to implement tools like these but to understand why they are doing so and what their ultimate purpose is. If you are a decision maker trying to improve product quality, organizational quality, or quality of life for yourself or your community, finding a way to systematize delayed gratification will improve Quality and help to ensure long-term prosperity and profitability both internally and externally.