Excerpt from Michael J. Mauboussin’s Think Twice: Harnessing the Power of Counterintuition
Accurately projecting holiday sales is a crucial task for retailers. A forecast that is too low leaves shelves bare and profits lost, while too much optimism leads to dusty inventory and pressure on profit margins. So retailers have come up with a precise sales estimate. To do so, most merchants rely on experts—individuals in the organization who gather information, study trends, and make predictions.
The stakes are especially high for consumer electronics firms because they generate so much of their revenue during the gift-giving season and the value of their inventory depreciates rapidly. The pressure is really on the internal experts at consumer-electronics giant Best Buy, one of a multitude of retailers that rely on specialists. So you can imagine the reaction when James Surowiecki, author of the best-selling book The Wisdom of Crowds strolled into Best Buy’s headquarters and delivered a startling message: a relatively uninformed crowd could predict better than the firm’s best seers.
Surowiecki’s message resonated with Jeff Severt’s, an executive then running Best Buy’s gift-card business. Severts wondered whether the idea would really work in a corporate setting, so he gave a few hundred people in the organization some basic background information and asked them to forecast February 2005 gift-card sales. When he tallied the results in March, the average of the nearly 200 respondents was 99.5 percent accurate. His team’s official forecast was off by five percentage points. The crowd was better, but was it a fluke?
Later that year, Severts set up a central location for employees to submit and update their estimates of sales from Thanksgiving through year-end. More than three hundred employees participated and Severts kept track of the crowd’s collective guess. When the dust settled in early 2006, he revealed that the official forecast of the internal experts was 93 percent accurate, while the presumed amateur crowd was off by only one-tenth of 1 percent.
Best Buy subsequently allocated additional resources to its prediction market, called TagTrade. The market has yielded useful insights for managers through the more than two thousand employees who have made tens of thousands of trades on topics ranging from customer satisfaction scores to store openings to movie sales. For instance, in Early 2008, TagTrade indicated that sales of a new service package for laptops would be disappointing when compared with the formal forecast. When early results confirmed the prediction, the company pulled the offering and relaunched it in the fall. While far from flawless, the prediction market has been more accurate than the experts a majority of the time and has provided management with information it would not have had otherwise.
