Following the economics best-sellers Freakonomics and The Black Swan, Super Crunchers: Why Thinking-By-Numbers Is the New Way to Be Smart is the latest book to throw a healthy dose of cold water on conventional wisdom. It's an excellent book, and I would strongly recommend that Foolish readers pick up a copy. It's sure to shed considerable light on how the rapidly maturing field of data mining is transforming the commercial marketplace.
Stop "wine-ing" and listen up
The book, written by Yale econometrician and lawyer Ian Ayres, begins with a wonderful anecdote that describes how data mining is revolutionizing the field of wine selection. For years, conventional wisdom held that only highly qualified wine experts -- using the time-tested skill of "swishing and spitting" -- could accurately assess whether a certain wine would grow in value over time. But Orley Ashenfelter, a Princeton economist, has thrown the field into disarray by daring to suggest that wine quality can easily and accurately be determined by assessing only the amount of rainfall and the average temperature of the growing season. Specifically, Ashenfelter has shown that wine quality = 12.145 + 0.00117 x (winter rainfall) + 0.0614 x (average growing season temperature)-0.00386 x (harvest rainfall).
At first, Ashenfelter's formula was mocked by wine traditionalists as a "Neanderthal way of looking at wine," and he was criticized as "an absolute total sham." But a funny thing has happened over time: Ashenfelter's formula has consistently proven itself more reliable and accurate than even the best swishers and spitters. Now many experts use the weather in a grape's growing season to predict a vintage's quality.
Beyond taking wine snobs down a peg or two, Ashenfelter has demystified the world of wine, and he's now giving people objective reasons why certain wines are likely to increase in value. Gone are the days of relying on the subjective opinions of so-called experts -- and therein lies the power of "super crunching."
The world is awash in data, and businesses are just beginning to discern what all of it really means. Those who can devise algorithms to decipher those reams of data, and then have the courage to assess and act on the findings, will gain a significant competitive advantage in this new world, according to Super Crunchers.
Coming soon to a business near you
The book is chock-full of examples of super crunching. For instance, Lowe's (NYSE:LOW) and Circuit City (NYSE:CC) regularly calculate data on job applicants' personality traits to determine which ones are most likely to make long-term commitments to their job. The lower expenses of constantly training new employees have saved both companies considerable money.
Best Buy (NYSE:BBY) is crunching numbers to determine the likelihood of customers making claims on extended warranties, and Blockbuster (NYSE:BBI) knows the odds of a customer returning a movie late.
Algorithms are so sophisticated some companies such as United Parcel Service (NYSE:UPS) and Continental Airlines (NYSE:CAL) use them to predict when a customer will likely switch to a competitor. According to the book, Continental has increased revenue already by more than $150 million with the data, keeping its customers from jumping to another airline even after they have encountered lengthy delays or other bad experiences with the airline.
The end of intuition
The best part of the book is not in Ayres' explanations of how Capital One Financial (NYSE:COF) and others use data mining to gain competitive advantages. His best insight explains how companies such as Google intend to use super crunching to transform health care, or how a little-known company such as Epagogix seeks to revolutionize Hollywood by telling movie studios which films will likely be profitable before the first scenes are filmed. (That algorithm works by weighing a variety of variables in a film's script.)
It looks like soon many professionals will have to learn to rely less on intuition and more on data.
Such ideas contravene conventional wisdom, but they're really just the opening salvo in a battle of opposites: intuition versus fact-driven findings. Read Super Crunchers and you'll come away with a new respect for data mining. You might not be pleased with Ayres' findings, but you might begin questioning your intuition a little more, and leaning on numbers more heavily instead.
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