Saturday, July 30, 2011

Generic Competitive Strategy and Specific Competitive Advantage: Viable Paradigm or Visible Paradox?

The unique feature of management studies is that it converts the abstract into reality, and simplifies the complex so that appropriate conceptual and analytical constructs can be developed to solve hard to comprehend problems. One of the most successful applications of this approach has been in the esoteric field of strategy. Michael Porter’s work on ”Competitive Strategy: Techniques for Analyzing Industries and Competitors”(1980) has been a runaway success in the field of strategic management publications. The reason is not far to seek. Porter’s Competitive Strategy provides a very simple and elegant framework for analyzing industry and competition, and developing a strategy for the incumbent firm. Unfortunately, however, much water has flowed under the bridge over the last three decades, and the changed competitive landscape calls into question the simple paradigms of Porter.

The author in his previous blog post “Structural Analysis and Industry Definition: Moving Targets in an Evolving Environment?” (Strategy Musings, www.cbrao2008.blogspot.com, July 24, 2011) has discussed how a new learning needs to be incorporated to reinforce the frameworks of structural analysis and industry definition. This post focuses on the next sequential chapter in Porter’s work on generic competitive strategies. More than structural analysis, Porter’s articulation of three simple generic competitive strategies as a panacea of strategy formulation has found favor with strategists and leaders. While Porter qualifies that the best strategy for a given firm is ultimately a unique construction reflecting its particular circumstances, Porter’s advocacy as well as the followers’ loyalty has been to the elegant macro approach. This post questions the fallibility and inappropriateness of the rather simplistic approach rooted in the days of simpler industrial competition and slower technological change.
Three generic strategies
Porter advocates that at the broadest level we can identify three internally consistent generic strategies (which can be used singly or in combination) for creating a defendable position in the long run and outperforming competitors in an industry. According to him, in coping with the five competitive forces, there are three potentially successful generic strategic approaches to outperforming other firms in an industry: overall cost leadership, differentiation and focus.  Porter holds that sometimes the firm can successfully pursue more than one approach as its primary target, although he also feels that it would be rarely possible. According to him, implementing any of these generic strategies usually requires total commitment and supporting organizational arrangements could be diluted if there is more than one primary target. The returns that a firm can reap by pursuing any of the three strategies could range from acceptable to high depending on the nature of the industry.
The key to Porter’s proposition on the uniqueness of the competitive strategies is the hypothesis that each of the three strategies requires a different set of functional policies. For example, he considers that cost leadership requires aggressive construction of efficient scale facilities, vigorous pursuit of cost reductions from experience, tight cost and overhead control, avoidance of marginal customer accounts, and cost minimization in functions such as R&D, service, sales force, advertising, and so on. A great deal of managerial attention to cost control is necessary to achieve these aims. Low cost relative to competitors becomes the theme running through the entire strategy, though quality, service, and other areas cannot be ignored. Cost leadership usually provides the firm above-average returns; a cost leader is usually the last to exit a declining industry. Cost leadership is held to require high relative market share.
In contrast, differentiation requires a different set of functional policies, according to Porter. These are: design or brand image, technology, features, customer service, dealer network, or other dimensions, with the firm usually differentiating across multiple dimensions. Differentiation earns for the firm above average to high margins but Porter postulates that differentiation often requires dilution of market share and cost objectives. Porter proposes focus as a third generic strategy that creates specific strategies around serving a chosen target, such as a buyer group, product segment, geographic market, particularly well. All functional strategies are developed around serving the target. The focus strategy enables above average returns, and involves a trade-off between profitability and sales volume while it may or may not involve a trade-off with overall cost position.
According to Porter, the three generic strategies are alternative, viable approaches to dealing with the competitive forces. A firm failing to develop its strategy in at least one of the three directions is considered by Porter as a firm that is “stuck in the middle”. Such a firm is said to lack the market share, capital investment, and resolve to play the low-cost game, the industry -wide differentiation necessary to obviate the need for a low cost position, or the focus to create differentiation or a low-cost position in a more limited sphere. According to Porter, a stuck-in-the-middle firm is almost guaranteed low profitability. He considers that such a firm must make a fundamental strategic decision to adopt one of the three generic strategies but almost inevitably faces an uphill task in trying which generic strategy marks the best shift and in marshalling the resources for that. 
Generic strategies and competitive advantage
The goal of all firms is to grow. Growth can be achieved only through competitive advantage. According to Porter and various others, competitive advantage is the ability of a firm to utilize its attributes and resources in such a manner that it has a superior and sustainable position in the industry or market relative to its competitors. The thrust of Porter’s competitive strategy framework is that the three generic strategies provide the firm with a strategic approach to gain competitive advantage. The paradox, however, is that any knowledge that is available at a generic level hardly provides the wherewithal for a firm to generate a firm-specific competitive advantage. In today’s competitive world, any industry or market is typically composed of several players, many of them well endowed with resources and capabilities. To assume, as Porter does, that firms can easily achieve competitive advantage through the pursuit of any of the three generic competitive strategies is overly simplistic, if not intrinsically fallacious.
Commoditization and genericization are the developments that reflect low entry barriers and high competition in mature or declining industries and markets. The same applies to strategy formulation too. Commodity like marketing of simplistic strategic prescriptions would make good reading but could spell bad business. The underlying determinants of competitive strategy are not as simple and superficial factors as scale and features but rather are the complex and embedded competencies such as technology and talent. The transformation of generic competitive strategies into firm specific competitive advantage can occur only through integration of technology and talent in strategy formulation. Technology and talent would be the tools to go beyond Porter’s high level, and either-or approaches of generic competitive strategies.
Technology and talent
In the past, the traditional product life cycle had a relatively high longevity because the pace of innovation was slow, consumer tastes were stable, brand loyalties were great, switching costs high and industry rivalry was comfortable. Today, technology is fast paced, not only because of high R&D expenditures aimed at both incremental and breakthrough innovations but also because several base technologies are continuously getting developed to be licensed and integrated with product technologies. This coupled with multi-functionality of products provides a great bandwidth for firms to attempt differentiation like never before. The central themes of a sustainable strategy for a contemporary firm are innovation and differentiation rather than scale and cost.
This does not mean that scale and cost have no place, on the other hand, they go hand in hand with innovation and differentiation. In fact, the challenge for the firms is to harness technology and talent in such a way that in spite of the contradictory needs of a shortening product life cycle and a lengthening investment cycle, the firm deploys the best of technology and talent, which obviously come with high costs, to achieve high levels of differentiation and low levels of cost. From a technology point of view, two streams of development are to be mandatorily followed. The first is a seamless upgrade of product and process technologies on a continuous basis to provide the benefits of continuous incremental innovation at the lowest incremental investments. This must occur annually, and in some cases even on a six monthly basis. The second is a breakthrough transformation of product and process technologies to take the products to an entirely new platform. This must occur at least every two or three years, and in some cases even on an annual basis.
The consequent demands on talent management are many as the contributions of a properly attuned talent base for such a technological approach could be manifold. By focusing on high levels of accomplishment in academic and industrial careers, and by providing a development environment that enables innovative thinking, firms can institutionalize technological innovation in day to day and strategic operations. This requires at times obtaining solutions from domains beyond the core field. One of the reasons for a spurt in insulin usage goes beyond the recognition of the benefits of early start of insulin regime or development of long acting insulin types. The more substantive reason relates to the bringing down of the pain and discomfort caused by injections through development of insulin needles that are shorter, thinner and less painful, thus bringing down the barrier to enhanced usage of insulins.
Extending the analogy further, it is seen that the development of easy to carry insulin pens, with insulins that do not require refrigerated storage, has expanded the scope for insulin even more. Clearly, an innovative product combined with an innovative delivery adds to product differentiation and enhances the overall product acceptance. The attendant benefit of higher scale easily overcomes the underlying need for higher investments for innovative products and delivery systems. The challenge, therefore, is one of deploying technology and talent in such a way that multiple industries are brought under one roof of providing a more enhanced value proposition to the user. Multi-disciplinary research, tie-ups with different divistions of universities and research institutions and an open approach to technology licensing are required to achieve such a transformational amalgam of technology and talent.
Cost leadership – product differentiation matrix
The above discussion not only negates Porter’s singular generic competitive strategy model but also reinforces the need for a new paradigm that fuses both the cost leadership and product differentiation approaches. Fundamentally, the new paradigm considers cost leadership occurring not in terms of singular price competitiveness numbers but in terms of broad cost bands. This approach allows firms to be categorized as cost leaders or cost followers on the cost dimension. Similarly, product differentiation is seen in terms of transformational innovation or incremental innovation, enabling firms to be categorized on product differentiation front as differentiation leaders or differentiation followers. Firms can then be categorized into four categories, each providing relevant value propositions.
A firm which is a differentiation leader and is also a cost leader achieves high market share rapidly, and enters a virtuous cycle of share and scale feeding more research and innovation. Such a firm truly masters the strategy of mass customization, which is the enviable task of offering the most differentiated product to the largest base of consumers. Apple is a classic example. A firm which is a differentiation leader but a cost follower is, on the other hand, a  niche player with low share and scale but high acceptability. Jaguar and Rolls Royce fall in this category. A firm which is a cost leader but is a differentiation follower would usually start with an initial advantage of scale but quickly finds that the intrinsic inability to reap above average returns with severely limits the ability to invest in research for innovation. Many firms in emerging markets, and late starters in advanced markets fall in this bracket, mimicking technology trends through technological followership. The fourth cluster of firms which are both differentiation followers and cost followers tend to have low capability for achieving any type of competitive advantage. Firms specializing in commodity and generic markets, whether in advanced markets or emerging markets, exemplify this non-value adding cluster.
Each of the four clusters described above has a bearing on the industry evolution. The greater the proportion of firms with both differentiation and cost leadership, the greater is the prospect of the industry becoming a high growth industry transforming the society. The greater the proportion of firms with differentiation leadership and cost followership, the greater is the propensity of that industry aspiring to become a sunrise industry. The greater the proportion of firms with cost leadership and differentiation followership in an industry, the greater is the possibility of the industry turning mature, and needing the impetus of transformational inputs.  The greater the proportion of firms with cost followership and differentiation followership in an industry, the greater is such industry being at the risk of being a terminally declining industry. Moreover, sunrise industries can become high growth industries by mastering cost leadership while mature industries would need to reinvent themselves on both cost and differentiation to prevent themselves from slipping into a stage of terminal decline.
From generic to specific
As the discussion above brings out, Porter’s generic competitive strategy framework, simple, elegant and popular that it is, has probably ceased to be relevant in today’s era of fast changing technologies, user needs and global shifts. An ability to integrate both the dimensions of cost leadership and product differentiation under one technology and talent driven competitive strategy framework is essential for the contemporary firm. Such an integrated competitive strategy would not only provide sustainable competitive advantage for a firm but also determine a more fundamental and epochal industry evolution.
Posted by Dr CB Rao on August 31, 2011


Sunday, July 24, 2011

Structural Analysis and Industry Definition: Moving Targets in an Evolving Environment?

Central to Michael E. Porter's landmark works on Competitive Strategy (1980) and Competitive Advantage (1985) are the framework of structural analysis and the definition of an industry. According to Porter, “industry structure has a strong influence in determining the competitive rules of the game as well as the strategies potentially available to the firm”. He goes on to add that since forces outside the industry usually affect all firms in the industry, the key is found in the different abilities of firms to deal with them. In this context, Porter proposes the five forces that drive industry competition as bargaining power of suppliers, bargaining power of buyers, threat of substitute products or services, threat of new entrants and rivalry among existing firms. Collectively these five forces are hypothesized to determine the state of competition in the industry. Each competitive force is also hypothesized to have multiple structural determinants.

Despite the shared importance of defining the industry, Porter provides a lower scale of importance to defining the industry. Porter adopts the working definition of an industry as the group of firms producing products that are close substitutes for each other. He also observes that a great deal of attention has been directed at defining the relevant industry as a crucial step in competitive strategy formulation, and that the proper definition of the industry or industries has become an endlessly debated subject. Porter proposes that structural analysis, by focusing broadly on competition well beyond existing rivals, should reduce the need for debates on where to draw industry boundaries. He even proposes that industry definition has to do little with the choice of strategy. Porter holds that definition of the industry is not the same as definition of where the firm wants to compete (defining its business) and advocates that decoupling industry definition and that of the businesses the firm wants to be in will go a long way in eliminating needless confusion in drawing industry boundaries.

Porter’s paradox

Porter’s interesting hypotheses, however, hardly do justice to determining the central role of the industry in influencing the competitive strategy of a firm. Structural analysis is rooted in the industry whose definition itself is not rooted in any particular methodology. By providing considerable freedom for firms to draw the boundaries, Porter ensures that firms which apparently view themselves as part of an industry are, in fact, more realistically parts of different industries. This paradox is visible in multi-product industries such as automobile industry wherein each product group, trucks, buses, cars, three-wheelers, two-wheelers and tractors could each be considered as an industry based on the fact that different customers use these different product groups. There would also be a possibility of defining the industry in terms of broad factor commonalities such as four-wheelers and two-wheelers, an approach taken by the author of this blog post in conducting structural analysis for his research thesis. While strategy formulation is expected to be based on structural analysis, structural analysis is itself allowed to be based on multiple industry and market segments.

The paradox of industry definition becomes sharper if one takes into account the fast changing technological developments that are constantly redrawing product profiles, specifications and usage factors. Earlier, different methods of communication such as voice, data, print and visual used to have discrete products and services. Today, convergent products provide divergent services while the same service can be provided by different products. Industry segments and market segments appear to follow no particular pattern. At another level, the distinction between a product and its service has blurred, and the symbiosis between a product and its applications has increased enormously. The application of structural analysis, therefore, seems imperfect whichever canvas is chosen to define the industry. There seems to be a case for redrawing the parameters of structural analysis and industry definition in the current era, which has been a resultant of over three decades of profound technological changes.

Industrial digitization

Over the last three decades there has been no industry that has not been reshaped by the electronics as a broad stream of technologies. The intensity and scope of the reshaping of industries varies from reinforcement to transformation to reinvention. Reinforced industries are those which retain their basic technological characteristics and usage requirements but have deployed electronics to redefine the levels of sophistication. Transformed industries are those which have been almost threatened to extinction by digital technologies but have transformed themselves through integration of digital technologies. Reinvented industries are those which have created totally new products and services to fulfill basic requirements, some of which discovered out of their latency. A few examples in each case demonstrate the complexity of structural analysis and industry definition in the emerging scenario. 

 Most industries in the basic and core sectors have been substantially reinforced by the integration of electronics. Digital technologies which achieve sharper levels of measuring, computing and control have reinforced most products in basic industries to new levels of perfection.  Thus, while a car remains a car even today it bears little resemblance to the previous generations in functionality, from fuel combustion to cruise control and from seating comfort to driving safety. The structural factors that defined industry competition in Porter’s model are no longer valid in their entirety. There are new factors of integration and differentiation of digital technologies that influence structural analysis and industry definition in several basic industries covering steel, engineering, mining, automobiles, housing, oil, aerospace and transportation, to quote a few.

Several industries in the consumer sectors, on the other hand, have been initially threatened by the emergence of digital technologies which promised to provide completely new ways by which products and services are designed, manufactured and delivered to consumers. Internet changed the way producers and consumers are connected. Electronic retailing made brick and mortar retailing threatened. Digital imaging made film photography obsolete. Electronic books offered a new channel of book procurement and reading. Eventually, however, conversion of digital threats into business supplements enabled several of the industries to recover and transform themselves eventually. Retail, publishing, imaging, measuring, diagnostic and several media and entertainment businesses, to quote a few, have transformed themselves to have both parallel and integrated physical and electronic business segments.

In contrast to the above two, connectivity has emerged as a new industry that not only spanned many existing industries but also created new industry and market segments. Bringing together advances in telecommunications, electronics and software, connectivity became a customer-centric, technology-driven platform for a new wave of multiple industries and multiple businesses. Information search, social networking and convergent communication have created new products and services, and an entirely new domain of applications for products and services. As a result, a new mega industry of conglomerate convergence has emerged driven by software and hardware behemoths like Microsoft, Google, Apple and Facebook. The models of structural analysis and industry definition need a total reconstruction to cater to the reinvented mega industries of the networking era.

Reconfiguring structural determinants

The aim of structural analysis is to identify the basic, underlying characteristics of an industry rooted in its economics and technology that shape the arena in which the competitive strategy of a constituent firm must be set. The basic framework of the Five Forces Structural analysis which comprises the forces of entry, rivalry, substitutes, buyers and suppliers remains valid in respect of the three new industrial typologies discussed above. However, the structural determinants vary significantly as a group when compared to the classic Porter delineation, and also across each of the three industrial typologies. While Porter considers that environmental changes, especially the short term ones, do not impact firms differentially, and hence are not relevant for structural analysis or industry definition, the changes especially in terms of emerging markets and technological openness are so transformational that Porter’s 1980 thesis would need to be revisited.   

Threat of entry

The first competitive force is the threat of new entrants to an industry. The threat is moderated by the barriers to entry that are present in an industry and countered by the reaction from existing competitors that the entrant can expect. According to Porter, there are six major sources of barriers to industry: economies of scale, product differentiation, capital requirements, switching costs, access to distribution channels and government policy. Major changes that have taken place in industrial outsourcing to emerging markets over the last three decades have altered the impact of the first three sources of entry barriers, namely, scale, differentiation and capital. Design and manufacturing is no longer a first world monopoly; it is a comparative advantage of rapidly emerging markets such as China and India. The wide development of the Internet has altered the dynamics of switching costs and distribution channels. Reformist government policies have facilitated rather than prohibited globalization.

The only proprietary advantage that any firm can retain as an entry barrier in the changed environment, across all industries, is the control over electronics and digitization. In transformed industries the sway over Internet adds to the control while in reinvented industries operating systems hold the key. Clearly, entry barriers that are based on the old age manufacturing technology have given way to different entry barriers that are based on a new range of communication, networking and automation technologies. In the past, pioneer had experience on its side as an ethereal barrier. Received wisdom teaches us that experience leads to better learning and hence better throughput as well as better costing. As industries get reshaped based on new technologies, pioneer has the advantage of first market formation but also the risk of followers gaining from the subsequent perfection of the pioneer’s technology.  Followers have been able to develop new overlays for the pioneer’s technology to reduce the first incumbent’s advantage. Electronics, telecommunications and systems software have the feature of multiple generations of technology leading to multiple experience curves. Proprietary development of multiple generations of technology is currently the only sustainable entry barrier.  

Intensity of rivalry

The second entry barrier relates to the intensity of rivalry among existing competitors. Intensity of competition in the past was essentially in terms of price competition. Price competition in the past essentially operated independent of specifications, with value getting induced by virtue of lower price, and price being a function of the lower margins that a firm was able to afford at the minimum. Today, price competition is more sophisticated; it is in terms of the range of products that a firm is able to operate at different specifications and price points. Porter’s theory on intensity of rivalry holds that numerous or equally balanced competitors, slow industrial growth, high fixed or storage costs, lack of differentiation or switching costs, large capacity increments, diverse competitors, high strategic stakes and high exit barriers, either individually or in combinations, add to the intensity of rivalry in an industry.

Today, these parameters do not operate the way Porter envisaged. The canvas for industry rivalry has shifted to the emerging markets. Slow growth, induced partly by economic deceleration, has prompted firms in advanced countries to seek low cost products and services from the emerging markets, through collaborative arrangements, joint ventures or wholly owned subsidiaries. At the same time, the opening up and growth of the emerging markets has prompted firms in advanced countries to seek a renewed and expanded presence in such markets for customer access. All this has led to an intense rivalry among national and foreign firms for talent that can provide the competitive advantage. The focus has shifted from formulating competitive strategy to realizing it through appropriate talent in the emerging markets. The new three industrial typologies represent a new battle ground for heightened rivalry in both advanced and emerging markets with interconnectivity of factor and customer inputs.

Pressure from substitute products

The third competitive force relates to the pressure from substitute products. Porter hypothesized rightly that all firms in an industry compete, in a broad sense, with industries producing substitute products. As an example, Porter cites the examples of sugar and sugar substitutes. Identifying substitute products is a matter of searching for other products that can perform the same function as the product of the industry. In Porter’s 1980 analysis, this third competitive force of substitute products received a rather perfunctory treatment compared to the first competitive force of entry or the second one of rivalry. In the contemporary world of technological convergence, however, the competitive force of substitute products is, in fact, the most intense competitive force. And, it works both ways in terms of unexpected substitutability as well as non-substitutability, challenging traditional structural analysis.

In the infrastructure space of basic industries, hydro power, thermal power and nuclear power could be seen as being perfect substitutes. In the post-Fukushima tsunami world, nuclear energy has ceased to be a perfect substitute for the other sources of power, at least in Japan and Germany. Renewable energy or green energy development have not, at the same time, lived up to the expectations of substitution; adequate governmental incentives could alter the picture. The structural determinants for the competitive force of substitute products must, therefore, now include government policy. On the other hand, certain other segments of the new generation industries offer the paradox of product convergence and usage divergence. The continuous emergence of laptops, notebooks, net books, smart phones, and lately tablets demonstrates how connectivity gets functionalized in multiple manners even as all the functionalities are integrated technologically. Product substitution or service substitution needs to be a mega competitive force in any revised model of structural analysis.

Bargaining power of buyers

Bargaining power of buyers is the fourth competitive force. Buyers or customers are considered to be the basic enabler for formation of an industry. Porter, however, takes a slightly contrarian view stating that buyers compete with the industry by forcing down prices, bargaining for higher quality or more services, and playing competitors against each other – all at the expense of industry profitability. This view is not only contrarian but also uncharitable. The reality seems to be that buyers of the day are ever eager to expend much of their valuable resources, time or money, to lap up an ever increasing array of products and services that are being churned out by fiercely competing firms. Buyer groups, especially those backed by governments and large user organizations such as electricity boards and hospitals, are no doubt more powerful than ever. Part of the enhanced power is due to technology, with e-auctions and e-bids setting up the stage for enhanced and invisible competition.

Porter’s model needs to consider that the buyer power in today’s world is scaled up by the firms themselves; an unending quest for market share and an unceasing wave of technological developments are now combining to prompt buyers to demand better features. Market segmentation is inescapable in any industry today to minimize the impact of buyer power. Firms need to recognize that as their products create new user segments, the balance of power gets constantly shifted. Latest technologies create products and services that shift customers from existing products and services and that attract new customers. Buyer power in respect of such products and services enhances only when new generations of products and services are created. Clearly, buyer power is not a static competitive force in today’s industrial scenario. Its dynamism is triggered by the rate of technological change.

Bargaining power of suppliers

Porter’s model considers the bargaining power of suppliers as the fifth competitive force. Porter states that suppliers can exert bargaining power over participants in an industry by threatening to raise prices or reduce the quality of purchased goods and services. Porter’s hypothesis on bargaining power of suppliers is rooted in classic industrial economics and does not recognize either the new platforms of supplier power or the collaborative nuances of contemporary supply chain management. Newer platforms of commodity and metal exchanges have emerged as new instruments that drive up or drive down product prices. Control over product prices has gone out of control of suppliers, given the shared intent to benefit from market expansion that competitive products can help achieve. Both end-users and suppliers are now waking up to the advantages of strategic collaboration to ensure continued supply of low cost-high quality components and materials.

The new model of supply chain is insensitive to scale but sensitive to technology. The fact that vendors of the day supply millions of components to new products does not mean that such suppliers can automatically dictate higher prices. Similarly, equipment makers are no longer viewing multi-sourcing as a means to reduce supplier power. Wise manufacturers realize today that their vendors need scale not merely to sustain themselves but more importantly to drive down costs and enhance quality. At the same time, the complex interrelationships of owned and licensed patents as well as cross-supply of designs and components or assemblies are causing supplier power to be muted in the face of advantages of joint development of industries and markets. The model of the Japanese auto makers working with their component and material manufacturers to optimize technologies is now more universal.

 Competitive strategy 

Porter summarizes his thesis on the structural analysis of industries by stating that once the forces affecting competition in an industry and their underlying causes have been diagnosed, the firm would be in a position to formulate its competitive strategy. According to Porter, an effective competitive strategy takes offensive or defensive action in order to create a defendable position against the five competitive forces. Elaborating, Porter states that this would involve positioning the firm for the best defense, influencing the balance of forces through strategic moves, or anticipating change and responding with an appropriate strategy. In summary, Porter proposes a relatively static structural analysis of the industry to lead to a dynamic strategy formulation by the firm.

As this blog post demonstrates, the issue with Porter’s framework in the contemporary world is that the industries are getting reshaped by new technological trends at a far greater pace than in the past, and the sources of organic (or, in-house) competitive advantage are far fewer than those obtained in the past. While the five competitive forces remain valid, their structural determinants have changed significantly over the last three decades. There is a need for  more dynamic models of structural analysis that are customized to reinforced, transformed and reinvented industries identified in this post with more flexible definition of industry and more perceptive identification of competitive forces and sources of competitive advantage, developed essentially on technological dimensions.

Posted by Dr CB Rao on July 24, 2011

Sunday, July 17, 2011

Corporate Centurions: Lessons for Longevity

On June 15, 2011, IBM one of the most respected names in industrial history joined the ranks of US public corporations which crossed 100 years of existence. The list of nearly 500 corporate centurions that was published in USA Today (http://i.usatoday.net/money/_pdfs/11-0615-centurions.pdf) demonstrates that it is feasible for corporations to live not only long but also successful. The list comprises corporations which are top ranked in terms of market capitalization and brand equity. Examples (to quote a few selectively, not necessarily representatively) are: Exxon, GE, Chevron, IBM, Berkshire, P&G, J&J, JP Morgan Chase, Pfizer, Coca Cola, Wells Fargo, Citigroup, Bank of America, Merck, Pepsico, Abbott, Goldman Sachs, United Parcel, 3M, American Express, Ford Motor, CVS Caremark, US Bancorp, Union Pacific, BMS, DuPont, MetLife, Eli Lilly, Dow, Colgate-Palmolive, Walgreen, Emerson Electric, Deere, Target, Corning, Praxair, Prudential, Lockheed, General Dynamics, Kimberly-Clark, McKesson, Kellogg, Becton Dickinson, Chubb, Paccar, Alcoa, Heinz, Sprint, Xerox, McGraw-Hill, Hershey, Macy’s, Moody’s, Tiffany, Harley & Davidson, CB Richard Sears, J C Penny, Perrigo, TRW, McCormick, Whirlpool, Navistar, Timken, WABCO, Lazard, Goodyear, Babcock & Wilcox, Westinghouse, John Wiley, NCR, Packaging Corporation, Dana, Unisys, New York Times, Universal, Eastman Kodak and Exide.

The list of corporate centurions clearly establishes that corporate longevity has no relation to the nature of the industry. The list of corporate centurions includes firms in all types of industries such as oil, automobile, engineering, banking, financial services, computers, consumer goods, power equipment, distribution, telecommunications, tires, automobile components, transportation, reprography, newspapers, beverages, movie studios and so on. The list includes companies which have started in basic engineering such as Bobcock (boilers) or dominated modern engineering such as Lockheed (aircraft engines). The list includes highly specialized, mono-industry companies such as Ford or highly diversified, multi-industry companies such as GE. The range of companies includes companies which have more or less retained the original ownership and those which have seen complete changeover into public or third party hands. It also emerges that while inflection of new technologies provides  opportunities for new firms to break into big league (for example, Microsoft and Google) even companies in basic industries can protect and grow their turf. Whichever way the universe of corporate centurions is sliced, it would appear that certain characteristics of corporate and leadership vision, strategy and execution rather than any industry characteristics or ownership biases have influenced corporate longevity.   
Other examples
Japan is an example of country with several contrasting facets. Several mega corporations have reached or are reaching the centurion status on the planks of technology and globalization. Yet, there are reportedly thousands of companies which are over 100 years old which employ fewer than 300 people. This adds another dimension indicating that corporate sustainability could be a function of niche, however small it is. In fact, in the tradition bound Asian countries it would not be uncommon for tradition to play a large part in corporate longevity. By staying small, not going public, not pursuing big cities or big markets, nurturing community relations and keeping know-how within the family small companies have managed to sustain themselves over decades. It is, however, creditable that many Indian corporations have ventured big despite lack of national independence until 1947 and have become worthy corporate centurions. Some companies belonging to Tata and Birla groups and other corporations such as ITC have demonstrated that corporate longevity could occur despite alien occupation. Many of the companies have been in basic industries such as steel and engineering or even in threatened industries such as cigarettes and tobacco. There is now a whole new generation of post-independence companies in India which are bound to become worthy corporate centurions.
That said, for the few scores of companies that have been so longstanding and successful globally, there have been thousands of companies which have either collapsed beyond revival or seen a complete transformation in their business moorings. As the IBM centenary essay observed, within the US, of the top 25 industrial corporations in 1900, only two remained on that list at the start of the 1960s. And of the top 25 companies on the Fortune 500 in 1961, only six remain there today. Some of the leaders of those companies that vanished were plain unlucky while others made choices that turned out to be poor. But the demise of most came about because they were unable simultaneously to manage their business of the day and to build their business of tomorrow. In fact, it appears that most companies find it easy to establish and grow themselves in the initial years rather easily but find growth beyond the mid-teens challenging and daunting. Part of the reason is that there is no repository of techniques or cookbook approach to corporate sustainability and longevity. As with a human being who can live for 100 years based on healthy lifestyle practices which are behavior driven, corporations also find that leadership and managerial behavior that focuses in healthy corporate lifestyle leads to corporate longevity. More importantly, the body of knowledge that enables corporate longevity emerges from an alert observation of external competitor behavior and a wise interpretation of organic developmental experience. Fortunately, however, the several names listed in the earlier discussion typify corporate and leadership behaviors that foster customer centricity, adaptability, innovation, people orientation and globalization as critical drivers of corporate longevity.  

Customer centricity
Customer centricity is at the core of corporate longevity. Customers come in multiple forms and hues. From an individual consumer utilizing a product or service to a firm requiring equipment and to a society needing an institutional service the spectrum of customers is indeed vast. Customer centricity means not only making the current customer happy with outstanding quality and service of existing products but also creating new customer loyalties by offering products and services not perceived openly by the customers. To be able to fulfill the first objective, companies must realize that customers have choices; even in industries which are subject to current monopolies, customers would eventually have choices. Continuous improvement in products and services is therefore mandated independent of monopoly position. To be able to fulfill the second objective, companies must focus on how consumer needs can be fulfilled through new products and services or how a completely new need can be structured through breakthrough products or services. For example, for a doctor diagnosis of the internal condition of the patient’s body remains the fundamental purpose. As a company specializing in medical diagnostics progresses from X Ray machines to CAT Scan to PET Scan to MRI Scan equipment, each with superior imaging capability the primary need is better fulfilled, and the company remains for the long term. If the medical devices company considers that an even more fundamental purpose of the doctor is disease prevention, the company may deploy entirely different modes of technology, be it genetics or molecular biology, to develop gene types that are prone to develop specific diseases or biomarkers that predict specific diseases and even develop preventive vaccines. The potential for customer centricity is infinite, and is limited only be corporate creativity.
Adaptability
Thomas J Watson Jr, the second chief executive of IBM said, “I believe that if an organization
is to meet the challenges of a changing world, it must be prepared to change everything
about itself, except its beliefs.”  The history of IBM demonstrates the adaptability of the corporation to change despite the apparent success that its pioneering status brought to the corporation. For example, IBM invented the desktop personal computer and dominated the industry. Yet, it took a bold decision to exit the personal computing business years ago losing billions of dollars of revenue to refocus more vigorously on mainframe computers and other new technologies and services. The core commitment to enhancing the thinking and execution capability through computing power, however, remained.  Pepsico has demonstrated its adaptability by recognizing early on the need for health foods and integrated new non-beverage businesses in its fold. The core commitment to meeting the day to day living needs remained unchanged, if at all only expanded to cover also drinking water and breakfast cereals.  ITC in India recognized the futility of fighting India’s national concerns of the 1960s and 1970s in terms of national importance and redefined its business. As a result, ITC not only expanded its fast moving consumer goods business to cover new business segments such as branded packaged foods, personal care products, education & stationery products, lifestyle retailing, safety matches, and incense sticks, but also entered new industry segments such as hotels, paperboards, paper and packaging, agribusiness and information technology. A core commitment to become more positively connected with society, and reduce negative connotations of cigarette business underlined many of such strategies. Adaptability requires the leadership to be emotionally disconnected with their strategic successes when the time to move to a new future beckons. Adaptability also requires the institutional development of a corporation so that corporation can outlive its founders and successive CEOs. IBM says it has been able to outlive its great founders and CEOs because the founders created a culture that enabled IBM grow on certain differentiating characteristics that made IBM, IBM. 

Innovation 

Commoditization is every firm’s or industry’s closing call for profitability, establishing the inevitability of competition and supremacy of markets. From steel to smart phones, commoditization has become an inescapable trend. Commoditization does not spare even high technology companies; in fact, the higher the technological sophistication the greater is the risk for commoditization. Companies have only one weapon in their armory to fight commoditization – innovation. Innovation is not an issue of a new product or service, or even of a new technology. Innovation is a broader concept of a company moving into the future based on a whole combination of new needs, new products and new services in a holistic sense. Innovation is not a short term fix for a company’s growth needs. Rather it needs to be a corporate culture that consistently invests in science and technology and finds new ways of deploying them for identifying and fulfilling customer needs. R&D expenditure is an enabler of a company’s innovation effort while the patent estate is a marker of the company’s innovation output. Neither is, however, adequate as an end unless genuine value is built for consumers. Innovation is rarely organic. Multi-functional collaboration, open source networking and multi-industry integration help build greater value. Robotic surgery is a great example of previously incompatible domains of engineering and medicine merging with each other; for example, the application, by three IBM engineers in 1981, of the newly invented excimer laser to remove specific human tissue without harming the surrounding area and do so on an extremely minute scale—a process that became the foundation for LASIK and PRK surgery. The painless procedure, which changes the shape of the cornea, has improved the vision and quality of life for millions of people around the world. The ultimate innovations are perhaps yet to come in, whatever be the industry sector one considers. Society’s needs and expectations are continually increasing. Today’s super computers are expected to compete with the sharpest of human minds. Infrastructure is expected to be built completely earthquake and tsunami proof. Industry is expected to be completely environment friendly. Innovation will increasingly be the true hallmark of leadership vision, strategy and execution, going forward.

People orientation

All through the centuries of industrialization, people have been at the core of competitive business development. A great company will be fortunate to have not only talented employees but also understanding investors, supportive bankers, collaborative vendors and suppliers, loyal customers, and appreciative regulators. People, in many ways, constitute the core of a company’s business. A company’s people orientation would need to extend far beyond how it cares for its employees; it would need to be displayed in its dealings with all of its stakeholders, and the broader society. Honesty, trust and transparency of behavior and communication help build people relationships. Companies at times tend to view relations and results as two poles of management. In matter of fact, however, there can be no results without relationships. Even competing companies achieve successful outcomes in contentious negotiations through the rapport that principal negotiators develop based on fair principles of negotiation. The need for co-employees of a company to achieve results through relational skills than transactional efforts cannot be overemphasized. The convergence of relations and results would happen when a company’s culture aligns thoughts, talks and actions of all across the organization transparently, and integrates company’s values and employees’ beliefs based on a shared agenda. IBM’s organizational talent processes from the very early years emphasized customer relationships, and organized development of people to stay focused on customer service. Emphasis on relationships does not mean lack of confrontation or differences when circumstances compel. An ability to advocate change and gain acceptance is a significant facet of the success of corporate centurions.

Globalization

Globalization is an essential requirement of leadership and longevity. There appear to be five distinct phases of globalization over the last century. The case study of India is an interesting one. Globalization of the early decades has been the first phase which focused on entering new markets, especially less developed countries like India, often with limited investments and with somewhat dated, early generation technologies to benefit from local demand. The second phase involved a counter-trend of moving away from such less developed markets as governments became socialistic and began nationalizing foreign enterprises in sectors such as oil, moving out foreign companies from certain disparate sectors such as computers and beverages and limiting growth in certain sectors such as FMCG and pharmaceuticals. The third phase involved post-liberalization reentry on a large scale based on major investments and relatively new generation technologies. Market making emerged as a new objective of the third phase of globalization. The fourth phase has seen a completely different paradigm of foreign enterprises seeking emerging markets that were previously less developed markets, in search of factor advantages as well as cost and time arbitrage. Probably, the fifth phase of globalization is now set to commence as emerging markets come on their own and become hubs of innovation in their own right but also suffer from the impact of inflation and relative cost equalization. The statement on globalization by IBM in its centenary essay assumes significance in the emerging context: “We have learned that national origin is less important than the indigenous value you create everywhere you choose to do business. Certainly this starts by creating jobs, making local investments, paying taxes and bringing products and services to new buyers. But it goes beyond that. Our history teaches us the difference between entering a market and making a market. The latter requires working with leaders in business, government, academia and community organizations to help advance their national agenda and address their societal needs. It requires building real skills in the local workforce and enabling new capabilities among its citizenry - being a force for modernization and progress. All of this means we must think differently about long-term commitment and investment. And, as the world becomes flatter, it also means that we have to be particularly thoughtful and progressive in helping every part of the world adjust to and participate in global integration”.    

Corporate longevity

Corporations exist to serve customers and shareholders in one sense, and to take care of employees in another sense; however, in a holistic sense they exist to grow as responsible members of society, helping the society become better in the process. As manmade instruments of progress, corporations have the ability to last perpetually. Yet, it is a matter of concern that many corporations struggle to grow confidently beyond their mid-teens. As the 100 year history of IBM shows a corporation can overcome seismic shifts in technology and environment to remain in leadership position by a corporate behavior that emphasizes customers, adaptation, innovation, people and globalization. It also requires corporations to stay focused on the long term despite the pressures and compulsions of the short term. The lessons are particularly relevant for an India Inc that is set to play a larger global role.

Posted by Dr CB Rao on July 17, 2011     


Sunday, July 10, 2011

Common Branding and Uncommon Power: The Mystique of Sustainable Innovation

The research company Millward Brown Optimar provides a highly illuminating annual report on the top 100 global brand power list, BRANDZ. In its BRANDZ 2011 listing, the firm reports that Apple has topped the list of the world’s most powerful brands with a whopping USD 153 billion valuation, growing 84 percent with the launch of iPad, and edging out the rival technology company Google. The follower 9 brands and their valuations have been Google (USD 111 bn), IBM (USD 100 bn), McDonald’s (USD 81 bn), Microsoft (USD 78 bn), Coca Cola (USD 73 bn), AT&T (USD 70 bn), Marlboro (USD 67 bn), China Mobile (USD 37 bn) and GE (USD 50 bn). The listing highlights the role information technology and telecommunications firms have been playing in shaping global consumer brand equity (60 percent of the top 10 by number and 66 percent of the aggregate brand value of the top 10) . The trend will continue with the social media networking behemoth, Facebook, also making its debut in the top 100 this year.  In contrast, the profile of the most powerful or valuable brands in India has been weighted in favor of basic industries such as steel, automobiles, oil, and airways. The 1.2 billion plus consumers in India, it appears, are yet to be touched as intensively by technology or fast foods as the advanced countries have been.

The computation of brand value, of course, is a complex subject and could lend itself to varied methodologies. BRANDZ, for example, allocates a company’s intangible earnings to a brand, determines the percentage attributable only to the brand and then determines the brand earnings multiple based on market valuations, brand growth potential and brand dynamics, all using its proprietary and alliance data bases and methodologies. These three factors are multiplied to arrive at the brand valuation. According to BRANDZ, products or companies based in North America still accounted for a disproportionate amount of brand value, however. The brand value of the leaders based in North America totaled about USD 830 billion or roughly 55 percent of the roughly USD 1.5 trillion in value for all brand leaders ranked in the regional charts. Across the five regions as well, technology and telecom providers dominated, with a total of 18 brands in the BRANDZ analysis: seven based in North America, four in Asia, four in Continental Europe, two in the UK and one in Latin America. Reflecting mostly revised valuation methodology, four telecom provider brands were new to the regional rankings this year: AT&T, Verizon (North America), Deutsche Telekom and Movistar (Europe). It would, therefore, be interesting to watch the direction and shape of brand power in India in a global perspective as the country powers its way to the rank of third largest economy on the plank of an increasingly affluent middle class and a shift in demographics towards youth.

Top 100 brands

A summary of the top 100 brands of BRANDZ as listed in Milward Brown’s web site (http://www.millwardbrown.com/)offers informative insights. The brands as listed by the siten the descending order of brand power (value) are: Apple, Google, IBM, McDonald’s, Microsoft, Coca Cola, AT&T, Marlboro, China Mobile, GE, Industrial and Commercial Bank of China, Vodafone, Verizon, Amazon, Walmart, Wells Fargo, UPS, HP, Deutsche Telekom, Visa, Movistar, Oracle, SAP, Blackberry, Louis Vuitton, Toyota, HSBC, Baidu, BMW, TESCO, Gillette, China Life, Pampers, Facebook, Orange, Bank of China, Disney, RBC Royal Bank, American Express, Exxon Mobil, TD Bank, Agricultural Bank of China, Cisco, Budweiser, L’Oreal, Citi, NTT Docomo, Accenture, Mercedes Benz, Shell, Tencent, ICICI Bank, Subway, Colgate- Palmolive, Honda, Nike, Intel, Carrefour, Mastercard, Petrobras, H&M, Pepsi, BP, Target, Porsche, Samsung, Chase, Standard Chartered Bank, Siemens, Hermes, Starbucks, FedEx, O2, Telecom Italia Mobile, Telcel, Santender, PetroChina, Nintendo, MTS, Nokia, ebay, Ping An, US Bank, Sony, Zara, Scotiabank, Nissan, The Home Depot, Banco Itau, China Telecom, Bank of America, Red Bull, Aldi, TIM, Barclays, China Merchants Bank, Bradesco, Sberbank and Goldman Sachs.

The highest and lowest brand values of the listed entities are USD 153.3 and USD 8.4 bn respectively, indicating the huge valuation differential. Even within a homogenous group such as automobiles, Toyota, the largest Japanese automotive company, and the world’s number one in automobiles, has 27th rank at USD 24 bn while the next largest Japanese automobile company, Nissan has 88th rank at USD 10 bn. Only one Indian company, ICICI Bank has figured in the list at 53rd position with a brand value of USD 14.9 bn. As many as 30 companies in the top 100 list are information technology and telecommunication companies, while other customer facing sectors such as FMCG, automobiles, banking and financial services, retail and oil have only 2 to 5 representations per sector. Surprisingly, no pharmaceutical firm has featured in the list. The other insights are that all the brands, save a few, are truly global brands, well trusted for their products and services. It is also instructive that each category in the non-technology space features on average at least two brands. At the same time, non-visibility of some of the very well known consumer brands such as Proctor & Gamble or Unilever in the list should cause some surprise. Overall, the ranking demonstrates how difficult and competitive it could be to enter into the top 100 global brands list.

Corporation versus product

It has always been a matter of debate as to which constitutes the real brand – the corporation or the product. While the debate as yet may not have an answer, it is evident from the listing that  whichever corporation has achieved a complete alignment or integration between the company and product brands has reached the top of the top ranking list. Apple and Google as well as Microsoft and IBM, AT&T and Vodafone, and McDonald’s and Coca Cola are proof enough of this. However, this seems to apply more in technology and fast food space, where there is intense customer contact, than in basic and other infrastructure sectors such as oil. By the same token, banking and financial sectors which tend to have an integration of the corporate and product brand, should have ranked higher; however, their low ranking could be due to the aftermath of the global meltdown and the role of global banks and financial institutions in that. Companies such as GE, Toyota, Samsung and Sony, each of which have a powerful corporate brand as well as several product brands each, seem to have slipped a tad. More powerful integration of corporate and product brands are being attempted by these firms to reassert their overall brand power.

A comparison of the BRANDZ 2011 report with the previous BRANDZ reports brings out the relentless march of technology and Internet behemoths in global brand power. It is instructive that just one product iPad could propel Apple from the third place to the first place, with a massive 84 percent increase in brand value in just one year. Clearly, it is not the product count, brand plurality or the regional diversity that determined the brand power in this case; rather product unification and portfolio minimalism seem to have created the astounding level of brand power in Apple’s case. Whether every company would be in a position to repeat such a feat is a moot point but the emergence of Galaxy as the single largest and most popular family of smart phones and tablets in Samsung’s multi-count product line-up suggests the tenability of such a hypothesis as well. The key perhaps is to achieve a design configuration that meets as broad a spectrum of needs, in as customized manner, as possible. This could be particularly relevant in markets where price points are fewer or well polarized in a few bands. In Fast Moving Consumer Goods (FMCG) industry, the challenge of severe market segmentation could continue to induce product proliferation. Industries such as oil or credit cards, on the other hand, would not be able to distinguish themselves in terms of products due to the monolithic nature of their product or service offerings.

Brand India

Several of the global brands already operate in the Indian markets. As a result, the country brand power would have been computed into the global brand power in a nominal manner. That said, once the Indian economy reaches the super power status it is likely that Indian regional brand power would be a major proportion of the global brand power. That expectation, however, is of little consolation for a country which has built an impressive product range of its own in various sectors. Notably, several FMCG, pharmaceutical, automobile, oil, infrastructure, airways, banking, steel and other basic industry brands have built up a brand momentum of their own and must therefore qualify for global competition. The acquisition of certain Indian brands in the 1970s and more recently by multinational corporations in fields as diverse as beverages and pharmaceuticals points to the importance of building brand equity. India Inc must give a serious thought to enhancing the scale, scope and reach of Indian brands so that they could figure in the global brand listing on their own. It would appear that at least 3 to 5 brands in each of the important sectors of the Indian economy can make it to the global league of top 500 powerful brands by 2035.

The question then is the basis on which a true and sustainable Brand India can be built. A hypothesis is that Brand India would need to be built not be only on the arithmetic of sales and reach but would need to be on something that could be more intrinsic to Indian market. It would appear that from design to delivery there could be ways in which an Indian hue can create a distinctive Indian brand. While Tata Motors Nano car, Titan Xylo watches, Taj and  ITC hotels, Goyal’s Jet Airways and Kingfisher spirits are examples of Indian corporations building globally visible brands, Toyota Innova MUV  and Etios Sedan as well as Etios Liva Hatchback, Nissan Micra and Hyundai Santro are examples of customized Indian designs being generated by multinational corporations with global visibility. Particularly, in areas where India has natural comparative advantage such as basmati rice, jewelry, clothing, herbs, spices, tea and coffee, and more recently market-scale advantage such as steel, automobiles and devices, creation of Brand India would be desirable and feasible. To be able to do this, Indian corporations would need to integrate modern technology with native heritage, and achieve higher levels of product quality and service delivery. Until products come on to their own, the high brand power of the Indian corporate groups needs to be utilized for the purpose.

Unified versus split branding

The strategy of branding has a significant impact on the power a brand will be ultimately able to generate. Empathetic and evocative naming of brands provides great connectivity to the user. Indian truck and bus maker Ashok Leyland named its medium duty truck as Comet and medium duty bus as Viking in the 1950s, a branding which has grown from strength to strength over the decades due to the simplicity and connectivity. So has been its naming of its heavy duty truck range as Hippo and Rhino! Apple’s simple “i” became universally evocative for a range of gadgets. Companies such as Samsung which reveled in name and brand proliferation have started discovering the virtues of polarizing branding of smart phones and tablets around the most successful Galaxy brand lineup. Brands also benefit from supplanting across product divisions to inject energy into tepid product or business lineups. Sony successfully resorted to extension of its successful Walkman and Cybershot brands of music systems and cameras respectively, and the Bravia TV brand to reenergize its cell phone range. On the other hand, Nokia once a market leader in cell phones continues to slip in leadership with unhelpful operating systems and impersonally numbered brands. To qualify as an empathetic and evocative brand, the brand should have an ability to create a physical image, and usher in a virtual experience the moment the brand name is mentioned.  

Companies in India, it appears, follow no unified or calibrated strategy on brand building. The Tata Group which has the highly successful hotel brand “Taj” decided into remove certain lower and mid level hotels from the umbrella brand. As a result, brand segmentation in perceived alignment with customer segmentation, has been effected. This trend contrasts with smart phone makers spreading the high end brands all the way down to lower price and value points to enhance user perception of prestige. The potential to establish umbrella brand is, in fact, huge in a growing economy like India. For example, Zydus Wellness has established and grown a brand of sugar substitute called Sugar Free. Initially, an aspartame based formulation was named Sugar Free Gold. Later, a sucralose based sugar substitute has been branded Sugar Free Natura. Now, a plant (Stevia) based sugar substitute has been introduced under the name Sugar Free Herbiva. It is easy to hypothesize that sooner than later, a strong umbrella brand of Sugar Free would be built up with immense potential not only as a broad spectrum sugar substitute brand but also as a potential umbrella for a large variety of dietetics and wellness options. Clearly, different industries and different products offer multiple options, from unified to split options, to develop a larger brand power.

Uncommon power

Brand power is a strategic hedge against the vagaries and vicissitudes of economic and business environment. A strong brand helps a company coast through lean patches with enough entropy left in the wheels of business. The iconic brand power held by Sony as an electronics super brand helped the corporation manage the near opportunity miss it had on flat panel televisions until it could develop its own panels. Sony’s loyal customer base was disappointed but was willing to return to its fold at the first opportunity of Sony coming up with its own flat panels. Toyota’s iconic quality image has been so strong that despite the unprecedented recalls, the corporation continues to be accepted as a leading marquee. In fact, in the BRANDZ analysis of 2011, Toyota jumped up several notches in brand power, and still remains the leading global car brand. Brand power, once established, provides a surrealistic continuity to businesses. For example, despite lack of progress or even setbacks in drug discovery, a few Indian pharmaceutical firms continue to be branded as innovative discovery driven companies.

The insurance provided by brand power must be utilized in a judicious manner by companies. It cannot be seen either an optical fa├žade or easy reprieve. Those companies which have recognized the responsibility that comes with established brand power and exerted to get back to innovative track with other new product lines as well as the affected core product lines reasserted their positioning. Sony, for example, continued to innovate in gaming devices and a host of other electronics products during the time it grappled with flat panel setback, thus enhancing overall brand equity through supplemental channels. Microsoft fought back on its mobile operating system by leveraging a successful Windows 7 operating system intended for desktops and laptops. Properly strategized and prudently utilized, brand power acts like the flywheel of business smoothing the energy flow for growth. India Inc, it is hoped, would recognize the need to build a massive Brand India for global visibility.

Posted by Dr CB Rao on July 10, 2011       

       





   


Sunday, July 3, 2011

The 2 Dimensional Matrix: A Universal Analytical Tool

The essence of management is three fold: the first is to reduce the complex to simple so that the core of an issue can be crystallized and a customized solution developed, the second is to frame an issue in terms of key choices and priorities so that prioritized choices can be made, and the third is to make any analysis universal so that teams as a whole can grasp how issues are being analyzed and resolved. Over the years, management science has seen several applications of mathematics and statistics as well as information technology enabled heuristics for problem solving. These have, however, remained the preserve of the experts trained in such specific disciplines. Even today, professionals in any hierarchy, the most experienced senior levels or the most educated junior levels, find it abstract and time consuming to apply sophisticated management sciences for analysis of managerial or strategic issues.

There are correlation and regression techniques that can be deployed to predict performance of companies or estimate the outcomes of projects. These models can be related to a host of internal and external causative factors (independent variables) predicting the performance or outcome (dependent variable). Alternatively, a set of complex factors, whose behaviors can be assumed, can be used in a simulation model to predict interdependencies and outcomes. At another level, operations research techniques can be used to make choices and establish, given a set of optimization goals, constraints and resource requirements. All the above sophisticated models are data intensive and have a role in operational and business decision making but unfortunately are neither simple nor universal for grasp. In contrast, there exists a simple but effective model of two dimensions (each of them not correlated with each other), which the author would like to call as the "2D Matrix Model" that is extremely simple and effective in catering to the three faceted essence of management described at the beginning of this blog post.


The concept of 2D
The concept of 2D Matrix rests on the premise that there usually exist two primary dimensions that are the most important in assessing any business or operation. For example, a running business has revenue and profitability as the most important metrics. A new business has risk and reward as the two relevant critical dimensions. A manufacturing operation has production and cost as the two important dimensions. The 2D concept is not confined merely to metrics; it applies to processes as well. A business growth process can be essentially depicted in terms of the two dimensions of product and market. A time management process can be positioned in terms of importance and urgency. A customer satisfaction process can be assessed in terms of customer foot falls and dollar revenues. The impressive thing is that any activity or end state in the world lends itself elegantly to two dimensional mapping.

The core of the two dimensional framework is that each of the two dimensions (typically plotted as X-axis and Y-axis) would not be correlating with each other; rather they would represent choices that an analyst would need to make. This feature adds to the utility of the framework while retaining simplicity. For example, a revenue earning business need not necessarily be a profit making business, and vice versa. An important matter need not necessarily be an urgent matter, and an urgent matter need not necessarily be an important matter. The other feature is that the four quadrants of the 2D matrix do not necessarily represent strategic judgments of right or wrong positions. Rather, they represent four options that reflect a potential evolutionary journey based on certain attributes. For example, a company may desire to move from a high revenue-low profit model to a low revenue-high profit model deliberately. The 2D matrix essentially keeps strategy simple.
Best known models
The 2D model has been in existence for long. Two of the best known models have been the BCG Matrix and Blake & Mouton Leadership Grid. The BCG Matrix (attributed to Bruce Henderson, 1968) plots various businesses or products in terms of market growth and market share. The matrix effectively merges the concept of product life cycle within itself. The BCG Matrix leads to four quadrants. Star or Leader is a product with high market share in a high growth market,  providing high cash inflows and needing reinvestments to defend position. Star provides leadership and brand power to a corporation. Cash Cow has high market share in a low growth market. Surplus cash generated by a Cash Cow can be used for Research and Development and to support other SBUs that need investment. Question Mark is a product in a growth market with low market share which breaks even typically. There could be two ways to approach a question mark: convert it into a Star through investment and let it become a Dog with limited investments. Dog is a product with low market share in a low growth market. The Dog could be a net guzzler of cash. Most often, a product in this quadrant may have to be phased out to enable the corporation focus on converting promising Question Mark products into Stars. A corporation is expected to have a balanced portfolio of products in all the four quadrants.
The second model is the managerial grid model (1964) which is a behavioral leadership model developed by Robert R Blake and Jane Mouton. This model originally identified five different leadership styles based on the concern for production (X-axis) and the concern for people (Y-axis), each axis being scaled 1 to 9. In the indifferent (also called impoverished) style (1,1), managers have low concern for both people and production. This leads to self-perpetuating culture with low innovation. In the accommodating (also, country club) style (1,9) managers have a high concern for people and a low concern for production. The resulting atmosphere is usually friendly, but not necessarily very productive. The dictatorial (also, produce or perish) style (9,1) has high concern for production, and a low concern for people. Managers using this style find employee needs unimportant and follow Theory X of Douglas McGregor. The sound (also, team) style (9,9) managers have high concern for both people and production. As suggested by the propositions of Theory Y of McGregor, managers choosing to use this style encourage teamwork and commitment among employees. Managers following   status quo (also, middle-of-the-road) style (5,5) try to balance between company’s goals and workers' needs. By giving the same level of concern to both people and production, managers who use this style hope to achieve suitable performance but doing so compromises a bit of each concern so that neither production requirements nor people needs are met.
Other potential models
Despite the limitations (which are discussed later), the 2D matrix models have great relevance in corporate strategy. Given the fact that corporate life is one of challenges, and given also the desirability of leaders needing to take a “black or white” view of decision making, there are many areas of application for the 2D matrix model. Apart from revenue-profit and risk-reward assessment models, the 2D matrix offers significant analytical power in product-market assessments. How to grow the corporation in a competitive business environment through existing and/or new products and through existing and/or new products is a major decision matrix for 2D application. There are several other interesting and non-conventional 2 axis applications in varied domains such as assessing a manufacturing plant decision in terms of economies of scale versus economies of scope, evaluating people in terms of their performance versus potential, understanding a technology in terms of innovation versus obsolescence, examining a software in terms of complexity versus utility appreciating real estate in terms of current cost versus future escalation, appreciating the paradox of market share and profitability, and adopting a managerial style based on relations versus results.
The 2D matrix could also be a viable tool in mapping companies, and industries or benchmarking them. For example, data generated out of financial ratio analysis can be utilized to position firms differentially. Firms can be assessed in terms of capital structure solidity on the two dimensions of debt and equity. Industries, themselves, can be comparatively positioned in terms of debt-equity structures. A firm can be assessed in terms of working capital efficiency vis-a-vis long term capital efficiency by treating current ratio and asset turnover ratio as two dimensions. Misleading conclusions on high level debt levels can be avoided by plotting firms on the twin dimensions of debt and interest cover. Given the importance of supply chain management, net profit margin and inventory turns ratio can relate a company’s operating efficiencies to the nature of the industry environment. Beyond financial ratios, firms can be assessed in terms of a number of performance metrics. For example, field force efficiency can be assessed in terms of per capita sales and profit margin. The 2D matrix could thus be a powerful tool in analyzing corporate performance.
Application to Porter’s framework
Any discussion on strategic analysis cannot be complete without touching upon Michael Porter’s theory of competitive strategy. Porter’s five forces theory lists five competitive forces, namely, bargaining power of suppliers, bargaining power of customers, threat of new entrants, threat of substitute products and intensity of rivalry as the five determinants of the relative attractiveness of an industry.  Porter also speaks of viewing incumbents in an industry in terms of strategic groups formed on select combinations of two dimensions. The author of this blog post carried out pioneering research work in translating Porter’s qualitative strategy into quantitative dimensions of performance. Physical and financial performance of the Indian automobile industry as a whole, and that of the strategic groups in the industry was analyzed through regression on six predictive variables of technology (see C Bhaktavatsala Rao, ”Indian Automobile Industry : A Study of Structure and Performance of the Four-Wheeler Sector”, Ph D Thesis, Indian Institute of Technology Madras, 1991). While the results were compellingly intuitive and elegant, the regression itself was complex and sophisticated. The formation of certain 2 dimensional strategic groups, based on product and manufacturing strategies, provided additional research and explanatory power to the author’s research.
On a different plane, the attractiveness of the industry can be assessed by applying the 2D approach to the five competitive forces. Appropriate combinations are the bargaining power of suppliers and bargaining power of customers on one hand and the threat of new entrants and the threat of substitute products on the other. Utilizing the author’s extension of Porter’s theory to a sixth competitive force, namely economic liquidity (see Beyond Porter’s Darwinism: Sixth Competitive Force, Strategy Musings, August 23, 2009, www.cbrao2008.blogspot.com), the third combination can be in terms of intensity of rivalry and economic liquidity. Clearly, various firms would be differently positioned in terms of the three grids. Firms operating in industries with low bargaining powers of suppliers and customers, low threats of entrants and substitute products, and with low rivalry and high liquidity would obviously be the most attractive. In reality, industries and firms would fall under different sub-groups with mobility being potentially possible across the groups. The 2D strategic grouping adds more analytical power to porter’s and the author’s works on competitive strategy.
Limitations of the 2D
Simple, effective, elegant and universal though the 2D matrix is, the tool has certain inherent drawbacks that arise from simplification. The relative positioning across the dimensions reflects a cross-sectional status accurately but does not explain the underlying strategic causes or implications. For example, taking the above cited case it cannot be concluded that it is best for firms to be locked into a situation of low bargaining powers of suppliers and customers, low threats of entrants and substitute products, and with low rivalry and high liquidity. In fact, the absence of competitive intensity that is implied in such a comfortable grouping may be reflective of complacency, and may lead to inefficiencies. It may still result in usurious profits, but could hardly be a beacon of long term industrial health, also removing any motivation for innovation. The so called favorable strategic grouping thus acts against consumer interests and economic wellbeing in the long term. None of this is explained in the 2D model.
The other limitation is that when more than 6 or 8 dimensions (that is, more than 3 or 4 pairs are involved), it becomes difficult to form a coherent and seamless strategic canvas. For example, it does become difficult to explain the performance and potential of a high debt-equity firm with good current and poor asset turnover positioning, high interest cover and medium operating margin and a portfolio of products with low risk and high reward, unless the industry environment is also defined in perspective. That would add more dimensions with more than proportionate increase in complexity. Similarly, the product-market grid has to be read in conjunction with the risk-reward grid as well as the financial ratio grids. The 2D approach also does not establish the core competitive dimensions of a firm or relate performance with core dimensions. On the other hand, without an understanding of the longitudinal evolution on the strategic dimensions, the 2D analysis could result in erroneous interpretations on core competencies.
First class tool for first cut analysis
Though there could exist valid limitations of 2D matrix as above, none of the limitations as above militate against the relevance of the 2D matrix. In fact, the 2D matrix is a best-in-class tool for a first cut analysis of strategic positioning of firms and industries. It is important to realize that 2D matrix analysis when conducted longitudinally overcomes many of the limitations above cited. If, in addition, it is combined with qualitative industry information, it would be a very effective tool of strategic analysis. If BCG Matrix and Leadership Grid are the pioneering 2D approaches of the 1960s and are still enduring as relevant strategic frameworks, there is every reason to develop and institutionalize additional 2D matrix approaches for product-market analysis, risk-reward analysis, financial ratio analysis and competitive force analysis as discussed herein. There can be no doubt that the 2D matrix approach meets the three faceted essence of management (in terms of simplicity, prioritization and universality of analysis) as identified in the beginning of this blog post.
Posted by Dr CB Rao on July 3, 2011