Is Profit a Dirty Word? with Luke Hohmann

Luke Hohmann joins Pete to share insights into one of the most under-focused aspects of software development - the profit factor.

Luke provides insights for leaders to bring profit into their strategic decision making and the 6 ways to trade value for money.

Visit the (Re)Learning Leadership website to learn more about Luke's book with a discount code to purchase.

#leadership #agile #productowner #software

Transcript

Pete Behrens:
Is profit a dirty word?

Welcome to another episode of (Re)Learning Leadership, where we explore a specific leadership challenge and break it down to help improve your leadership, your organization, and, just possibly, your personal life. I'm Pete Behrens, and today I want to talk about profit. That's right! You know, most of us have a negative connotation with profit. You know, Ebenezer Scrooge in the musical Oliver Twist, or, you know, the banker or salesperson who's squeezing your hard-earned dollar.

You know, Luke Hohmann, Chief Innovation Officer and serial author and entrepreneur, is going to join me today to help us turn our mind around on profit, where he says profit is not only critical to business, it is the only thing to create a sustainable business. So, welcome to the show, Luke!

Luke Hohmann:
Hi! It's great to be here.

Pete Behrens:
Well, Luke, I just want to ask: what makes you so passionate about profit?

Luke Hohmann:
It comes from the realization that I want to do more good things for our customers at Applied Frameworks, and I want the companies that we serve to be able to do more good things for their customers. So, one of the things that I was reflecting on—and you know I'm a runner. So, I was out on a long run. And I was in nature, and it was just beautiful. And I realized that nature itself, Mother Nature, relies on the energy of the Sun. We have this constant flow of energy from the Sun, which kind of makes our planet work, right? Take out the planet, you know, take out the Sun, and our planet doesn't work. And it just hit me. That's the analogy that worked for me, for profit. If I can't generate a profit, if I don't have that revenue coming in that's greater than the costs over time, I can't continue to invest. I can't make new offerings for my customers. I can't expand. And we don't have to be expanding forever, right? That's—and there's this difference between capitalism as a cancer versus a circular capitalism or core capitalism. Or—there's other forms of capitalism. Regenerative capitalism. But I still need to have—even in a forest, some trees are, you know, growing, and some trees are dying, and some trees are decomposing. So there's this notion that I have to have this energy to be able to have the system work. And that's what I’m passionate about. I'm passionate about serving customers. I just have to get profit to do that.

Pete Behrens:
Well, I’m glad you mentioned—right?—the negative connotation of capitalism. Because I think that’s a lot of us—how we feel. It’s the cancer capitalism. Why is it we have such a negative connotation? Could you explore that with me just a bit?

Luke Hohmann:
Well, I think it's because we see economic inequality concentrated in a way that is no longer healthy for society, and we equate that to the larger business structure. So, I think—and it's not just me. Like, lots of people think this—right?—that we have unsustainable forms of inequality. And if you actually look at the research around the world, one of the books that I was influenced by was The Spirit Level out of The Equality Trust in the UK. And in their research, they talk about how, in most societies, we do recognize that there are differences in abilities in humans, and therefore we pay people differently, etc.. But there are also, kind of, human fairness limits of what is structurally fair and unfair. And so, when we get into capitalistic structures that are unfair, or when we get into economic inequality in a way that's no longer fair, well, then we equate that with profit. And it can go wrong. So, yeah, profit can be used inappropriately. And profit can be structured in a way that's not healthy. Just like Agile, right? I mean, you're one of the world's prominent Agilists. You know there's good Agile, and there's less effective Agile. So our goal is to help frame profit. And I am passionate about profit. It's to help frame profit in a way that allows us to continue to serve our customers.

Pete Behrens:
Yeah, I'm glad you're talking about fairness, you know, in pricing. Because Agile Leadership Journey—you know, we have a very tricky relationship in terms of that. You know, first of all, you know, as a growth organization, you know, we definitely put revenue as a secondary to the growth of our community. But maybe secondly, more importantly, you know, we live in a very global ecosystem. And so, the costs and the price and the value of delivery in Bangladesh is quite different than that price, cost, and value in Germany. Yet as a global organization, you know, we're trying to navigate that global ecosystem in terms of our costs and services and value of those services. I’m wondering if you have a few words to say about pricing strategy, with respect to this.

Luke Hohmann:
Well, using words like fairness and equity are kind of tricky because those are culturally-influenced. And what we consider fair in America may or may not be fair in Denmark, or it may or may not be fair in Kenya or Venezuela, right? So we do have human cultural differences at work here. What I do think is a more useful way to think about profit is—can I sustainably serve my customers? And I'm obviously limiting this to for-profit companies, if you will. But even nonprofits need to have revenue coming in. So our lens, if you will, our passion, is—I want to be able to serve my customers over time. Which means I need to be investing in my solutions.

And this is where Agile kicks in. And where Agile, I think, has gone awry, is—we've talked too much about value and value streams and not enough about “How do I charge for value?” and “How do I evolve my value?” And I think value streams are great, right? Those—the necessary precondition is to understand how you're delivering value to your customer. But we worked with one client who—we did a pricing workshop with them. They hadn't raised their prices in three years. And I simply said, “Have you, for the last three years, been providing more value?” And they're like “Oh, yeah!” And this wasn't a—by the way, this wasn't a B2C company that was going after a market share or unit pricing. This was a B2B company. And so, they had a relatively small market right at the beginning, but they had been investing so much in their offering, and it had increased in value, and they hadn't raised their prices in three years. And it was time to actually raise prices and reset the amount of money people are paying for the amount of value they're receiving.

Pete Behrens:
Hm. You know, you talk about raising prices, evolving prices. You know, and I know there’s a lot of schemes—right?—in terms of, you know—do we raise prices and reduce our people? Do we keep prices low? Agile Leadership Journey—we’ve tried to keep our prices down so we can grow. What do you have to say about that, in terms of pricing strategy?

Luke Hohmann:
Sure. Well, there's three things I want to point out in what you just said. The first is: I think the Agile community has overweighted on functional or tangible value and has underweighted intangible values and the values associated with the investments we make in our software architecture, the ilities. And, for example, we worked with one startup who is competing against Oracle, and they're like, “We can't fight Oracle on features. We can't charge as much!” And I just said, “Well, why are customers buying from you?” They’re like, “Oh, well, they tell us we're easier to work with. We're friendlier. They align with our values.” I'm like, “Great! All those intangible benefits are things that you can associate with your value, and therefore, eventually, a price.” So, going back now and connecting that to the leadership journey–you have a set of intangible values associated with people who align with your beliefs and align with your brand. And that brand is important.

Now, getting into the notion of when you should change pricing—that is a growth model, right? You might choose a pricing strategy that says, “We're going to hold our pricing at the current introductory market pricing to gain market share and to grow. And then our—what we're interested in right now is growing market share at an acceptable level.” I think one of the things that you do that I think is very admirable is—you've recognized in your program structure that there are differences in ability to pay, based on regional equality, or regional equity around the amount of money people have. And so, you've chosen a pricing strategy—in our terminology from the book, it would be a pricing fence based on the geographic location, and you are adjusting the price through a global index to meet the needs of the ability to pay in that area. And I think that's pretty admirable, because you recognize right up front that part of your strategy is to make the leadership journey global, and you've got a pricing structure that is designed to be global right at the beginning.

Pete Behrens:
Hm. Yeah, so, as we start to think about profit, what do you see as maybe, you know, those leaders who feel like maybe they're only on half the equation, right? The equation of profit is revenue minus costs, right? And that gives us our profit. So most leaders are probably on one side or the other. Revenue, sales, marketing, costs, operations development, you know, I.T. stuff. What is this leader's responsibility for profit when it comes to the fact that, well, I've only got a piece of the system?

Luke Hohmann:
Well, I think that you're pointing out the most important part—is that profitability is a team sport, and it is a system. And it is more than just the people who are dealing with the revenue and the cost side. You've got your compliance; you've got your in-licenses. Every single software product ever created has an in-license, even if we forget that they're there. For example, in the old world, we used to write our code in C and compile a binary. Well, you had a license to the C libraries! So every single thing we do has in-licenses. And therefore, because it's software, everything has an out-license. So profitability includes, in that system point-of-view, your legal team working with your architecture team to make sure the terms of the license are enforced, etc., etc..

And that's why we wrote the book. We wrote the book because software-enabled solutions are truly different than pens and pencils and chairs. Until software is put inside the chair, and you're starting to monitor your back and how you're sitting and feeding it to your doctor. [Laughs] So that notion of that system perspective is really what we highlight in the book, so that we have a unique way and a collaborative way to bring the revenue side and the cost side into a monetization structure that enables us to create a profitable solution.

Pete Behrens:
Hm. Alright, so your book is focusing primarily for software organizations and dealing with the profits. Versus other service-based or product, hardware, kind of, based organizations that—

Luke Hohmann:
Actually, that's a layup for me to hit! We call it software-enabled solutions. So the book really does cover pure software solutions services, which is where a human is working with the software to deliver the service, like a registered investment advisor or a stitch fix consultant. Data, where you're buying data. Banks buy data from credit scoring. You buy data as a consumer from your CARFAX report. We sell data in terms of stock market or patent data. And hardware, where the software is an integral part of the hardware. I always use the story of—I recently bought a Wolf Stove. And it comes with an app. So I don't know—I don't exactly know why I need an app with my Wolf Stove, but I can turn my Wolf Stove on right now, while you and I are talking, through my phone. And someone had to write that software; someone had to include that costing model. To your point: the software for the Wolf Stove is a cost right now, presumably to provide more value to the consumer. But those are the things that we want to highlight—is that it doesn't matter to us if your software-enabled solution is service, data, hardware, or pure software. All of them need the same structural framework to make the best choices.

Pete Behrens:
Yeah, and we're seeing that in every industry. I mean, pool companies need their pumps to be monitored by the apps. And, you know, all hardware devices are becoming, kind of, IoT, smart-enabled. So, yeah, I think you're hitting a market that's continuously growing. What would you say the biggest misconception or misunderstanding leaders, you know, have with profit? What are you overcoming, I guess, in terms of that, you know, just, confusion?

Luke Hohmann:
I think one of the most confusing parts about profit for software is that there's actually six different ways to trade money for value and software. And we call those value exchange models. And people will glom, in one sentence, their entire business model. And then, by putting it in one sentence, they can't clear—they can't manipulate it in a way that's good for them or good for their customers. So they'll say, “I serve such-and-such a market with an Enterprise annual subscription for one year terms.” And you're like, “Okay, let's pull that apart.” Well, that's time-based access as your value exchange, meaning I give you money, and you give me a license to use the software for a period of time. That's different than the hardware model, where I give you money, and you give me a piece of hardware, where the software is in the hardware. Or—some businesses use what we call a performance exchange, where the amount of money I give you is based on how much you were able to do for me, in terms of increasing my benefits or reducing my costs.

And one more. There's several, but I'll give you one, another one, that's really easy to understand—is transactions. Stripe doesn't make any money unless it makes it—unless you do a sale and Stripe takes a piece of the transaction fees. So transactions are very big in our industry because we're used to doing transactional work in different ways. Ad clicks at Google are transactions. And so, I think the biggest misunderstanding is that leaders don't take time to align the exchange of value with how they're actually providing value. And what—the virtuous cycle that you're looking for is: as my customer derives more value, they feel more comfortable paying me more money. So if I'm a retailer, I don't mind paying Stripe its piece of fees. Because I'm not paying Stripe unless I'm making money. But if I'm making money, part of my cost of business is running my transaction fees. And so, by definition, if my transaction fees are growing, my business had to grow. It's kind of like salespeople, right? If my salespeople commissions are going up, I've made more sales. That's not a bad thing.

Pete Behrens:
So, I've got to ask about some of the typical, kind of, negative connotations of profit. You know, you think of the jewelry store. You know, they raise all the prices and then bring them down 75, 100%, or whatever. You know, massive sales. But, you know, it's a game, right? It's all marketing. It's all messaging. So, help me decompress that, my skepticism and negative connotation with, kind of, that side of the profit stream.

Luke Hohmann:
Yeah. You're dipping into behavioral economics, and you're getting into very well-researched and continuing-to-be-researched mechanisms of either behavioral economics or, say, Chris Voss and his book Never Split the Difference in negotiation. Like, you anchor high, and then you go low. Or you anchor high, and then you have a discount. We talk about this in the book, right? One of the intangible attributes about a product or service is how it makes you feel. And you can be a social media company, and you can induce really negative feelings in teenage girls to get them to buy stuff they don't need, or you can choose to have a game company who induces stress when you're fighting a Level 5 monster. And you're choosing that, and you're having a great time because you've increased your own stress. So I think in all of these areas, it's not my place to put a moral judgment per se on what other people do. It's my place to arm myself with information so I can make choices that are good for me. But you're right. There are ways to engage in some of this information or some of these insights that are, frankly, manipulative in a way that plays into peoples’ behavioral tendencies. And, yeah, you can do that, and we would advocate that you don't. [Laughs]

Pete Behrens:
Yes. Even a hammer can be used as a weapon, right? So, you can't control the potential negative downside of even good information. Well, Luke, tell us a little bit about this book. Where can people find it? What do you want them to look for here?

Luke Hohmann:
Well, the book is going to be available in all the major outlets, so Amazon and Barnes & Noble. You can go to our website: https://profit-streams.com/. We're building out a partner program. You'll be able to take training and courses and workshops. We're very focused on helping people, kind of, get the information they need. So, like my other books, like of Innovation Games or Beyond Software Architecture, I'm trying to write books that are immediately accessible. And you can pick them up and use them. However, if you choose to want to have consulting or training, there's going to be a full ecosystem designed to support individuals and companies in applying these techniques.

Pete Behrens:
I think that's what I love most about your creativity, is—you don't just write a book, you build a community around a concept and provide an ecosystem for people to value. So, yeah, for leaders out there, I highly encourage you to at least be curious enough to start with the book and take it as far as it makes sense for you. But Luke, I just want to say thank you for joining us today, and thanks for sharing a little bit of your wisdom with us.

Luke Hohmann:
Thank you so much for having me.

Pete Behrens:
(Re)Learning Leadership is the official podcast of the Agile Leadership Journey. Together we build better leaders. It’s hosted by me, Pete Behrens, with contributions from our global Guide community. It’s produced by Ryan Dugan. With music by Joy Zimmerman. If you enjoyed this episode, please subscribe, leave us a review, or share a comment. And visit our website, agileleadershipjourney.com/podcast, for guest profiles, episode references, transcripts, and to explore more about your own leadership journey.