The Flaw of Averages: Why We Underestimate Risk in the Face of Uncertainty

CHAPTER 33

A Supply Chain of DNA

Anyone managing an inventory must attempt to forecast future demand, and there are numerous software systems available to assist in this task. Typically, these programs provide an estimate of average demand, a single number, and also an indication of the distribution of uncertainty in demand. For the example in the last chapter, the average demand was five, and the distribution was described by the shape in Figure 32.2. Unfortunately, most organizations don’t know how to deal with distributions. They generally ignore that part of the forecast, relying instead on the single number, and, presto, they’re back to square one with the Flaw of Averages. People use the centerline of the highway as the drunk’s average position and think he will survive. But he’s dead, so the next thing you know, people are marching up and down chanting, “We need better forecasts. We need better forecasts. We need. . . .”

You have no doubt observed this activity within your own organization. The problem was not the forecast at all, but rather the fact that ignoring the distribution and keeping the average was like throwing out the baby and keeping the bathwater. Some firms, however, are taking steps to keep the distribution of demand alive.

A Supply Chain at Genentech

Just to visit the place quickens one’s pulse. Spectacularly located on a promontory jutting into the bay north of San Francisco’s airport is the sprawling campus of Genentech, the firm that practically ...