Balance Continuity and Change

Precisely because change is a constant, the foundations have to be extra strong.

The more an institution is organized to be a change leader, the more it will need to establish continuity internally and externally; the more it will need to balance rapid change and continuity.  One way is to make partnership in change the basis of continuing relationships.  Balancing change and continuity requires continuous work on information.  Nothing disrupts continuity and corrupts relationships more than poor or unreliable information.  It has to become routine for any enterprise to ask at any change, even the most minor one: “who needs to be informed of this?”  And this will become more and more important as more enterprises come to relay on people working together without actually working together – that is, one people using the new technologies of information.  Above all, there is need for continuity in respect to the fundamentals of the enterprise: its mission, its values, its definition of performance and results.

Finally, the balance between change and continuity has to be built into compensation, recognition, and rewards. We will have to learn, similarly, that an organization will have to reward continuity – for instance, by considering people who deliver continuing improvement to be as valuable to the organization, and as deserving of recognition and reward, as the genuine innovator.

ACTION POINT: When you make a decision or a change, ask yourself “Who needs to be informed of this?”

Broadening the Extent of Advantage

Extending a competitive advantage requires... looking instead at the special skills and resources that underlie a competitive advantage.

Extending an existing competitive advantage brings it into new fields and new competitions.  For example, cell phone banking is a goring phenomenon outside of the United States, especially in the less developed countries.  EBay holds substantial skills in payment systems embedded in its PayPal business.  If EBay could build on these to create a competitive advantage in cell phone payment systems, it would be extending a competitive advantage.

Extending a competitive advantage requires looking away from products, buyers, and competitors and looking instead at the special skills and resources that underlie a competitive advantage.  In other words, "Build on your strengths."

ACTION POINT: Identify your strengths and build on them.

Deepening Advantage

They develop a special empathy for customers and anticipate problems before they occur.

The same issues that arise in improving work processes also arise in the improvement of products, except that observing buyers is more difficult that examining one's own systems.  Companies that excel at product development and improvement carefully study the attitudes, decisions, and feelings of buyers.  They develop a special empathy for customers and anticipate problems before they occur.

The second reason firms may fail to engage in a process of improvement occurs when isolating mechanisms surrounding important methods are weak.  Companies in such situations sensibly hope to catch a free ride on the improvements of others.  To benefit from investments in improvement, the improvements must either be protected or embedded in a business that is sufficiently special that its methods are of little use to rivals. 

ACTION POINT:  Study the attitudes, decisions, and feelings of your buyers. 

Deepening Advantage

...the underlying principle is that improvements come from reexamining the details of how work is done, not just from cost controls of incentives.

Start by defining advantage in terms of surplus--the gap between buyer value and cost.  Deepening an advantage means widening this gap by either increasing value to buyers, reducing costs, or both. 

It would be foolish to attempt to summarize the vast variety of methods and approaches that can be used to make improvements in cost and/or value.  It is more useful to highlight the two main reasons this process stalls.

First, management may mistakenly believe that improvement is a "natural" process or that it can be accomplished by pressure or incentives alone.  As Frank Gilbreth pointed out in 1909, bricklayers had been laying bricks for thousands of years with essentially no improvement in tools and technique.  By carefully studying the process, Gilbreth was able to more than double productivity without increasing any one's workload.  By moving the supply pallets of bricks and mortar to chest height, hundreds or thousands of separate lifting movements per day by each bricklayer were avoided.  By using a movable scaffold, skilled masons did not have to waste time carrying bricks up ladders.  By making sure that mortar was the right consistency, masons could set and level a brick with a simple press of the hand instead of the time-honored multiple taps with a trowel.  Gilbreth's lesson, still fresh today, is that incentives alone are not enough.  One must reexamine each aspect of product and process, casting aside the comfortable assumption that everyone  knows what they are doing. 

Today, this approach to information flaws and business processes is sometimes called "re engineering" or "business -process transformation."  Whatever it is called, the underlying principle is that improvements come from reexamining the details of how work is done, not just from cost controls of incentives.

ACTION POINT: Reexamine the details of your product and process to make improvements.

Value-Creating Changes

...increasing value requires a strategy for process on at least one of four different fronts:

Many strategy experts have equated competitive advantage with high profitability.  Despite all the emphasis on "competitive advantage" in the world of business strategy, you cannot expect to make money--to get wealthier--by simply having, owning, buying, or selling a competitive advantages. 

The truth is that the connection between competitive advantage and wealth is dynamic.  that is, wealth increases when competitive advantage increases or when the demand for the resources underlying it increases.   In particular, increasing value requires a strategy for process on at least one of four different fronts:

• deepening advantages,
• broadening the extent of advantages, 
• creating higher demand for advantaged products or services, or
• strengthening the isolating mechanisms that block easy replication and imitation by competitors.

ACTION POINT: Understand the four fronts for applying strategy to increase your value.

Economics as a Social Dimension

Keynes was interested in the behavior of commodities, while I was interested in the behavior of people.

I do not accept the basic premise on which economics as a discipline is based and without which it cannot be sustained.  I do not accept that the economic sphere is an independent sphere, let alone that it is the dominant one.  It is surely an important sphere.  And as Bertolt Brecht said, “first comes the belly than morality” – and filling the belly is what economics is all about in the main.  I not only am willing but insist that in all political and social decisions the economic costs are calculated and taken into account.  To talk only of “benefits”, I consider irresponsible and bound to lead to disaster.  And I believe in free markets, having seen far too much of the alternative.

But still, for me the economic sphere is one sphere rather than the sphere.  Economic considerations are restraints rather than the overriding determinants.  Economic wants and economic satisfactions are important but not absolutes.  Above all, economic activities, economic institutions, economic rationality, are means to non economic (that is, human or social) ends rather than ends in themselves.  And this means that I do not see economics as an autonomous “science.”  In short, it means that I am not an economist – something I have known since, in 1934 as a young economist in a London merchant bank, I sat in the John Maynard Keynes seminar in Cambridge.  I suddenly realized that Keynes was interested in the behavior of commodities, while I was interested in the behavior of people.

ACTION POINT: Before you finalize a major budget or strategic decision, set aside an half an hour to make sure you have really considered the impact it will have on your people in your organization and on your customers.

Sustainable Competitive Advantage

For an advantage to be sustained, your competitors must not be able to duplicate it. 

Defining "sustainability" is trickier.  For an advantage to be sustained, your competitors must not be able to duplicate it.  Or, more precisely, they must not be able to duplicate the resources underlying it.  For that you must possess an "isolating mechanism,"  such as a patent giving its holder the legally enforceable right to monopolize the use of a technology for a time.  More complex forms of isolating mechanisms include reputations, commercial and social relationships, network effects, dramatic economies of scale and tacit knowledge and skill gained through experience.  

As an example, Apple's iPhone business is protected by the Apple and iPhone brand names, by the company's reputation, by the complementary iTunes service, and by the network effects of its customer group, especially with respect to iPhone applications.   Each of these resources has been crafted by Apple executives and put in place as part of a program for building a sustained competitive advantage.  These resources are scarce in that competitors find it difficult, if not impossible, to create comparable resources at a reasonable cost.

ACTION POINT: Are their isolating mechanisms in your business that provide a sustainable competitive advantage?

Competitive Advantage In Business II

...most advantages will extend only so far. 

Subtlety arrives when you realize that costs vary with product and application and that buyers differ in their locations, knowledge, tastes, and other characteristics.  Thus, most advantages will extend only so far.

For instance  Whole Foods has an advantage over Albertsons supermarkets only for certain products and only among grocery shoppers with good incomes who place a high value on organic and natural foods.

ACTION POINT: Identify the market's that place value on your competitive advantage.

Competitive Advantage In Business

The basic definition of competitive advantage is straightforward. 

The term "competitive advantage" became a term of art in business strategy with Michael Porter's 1984 insightful book of that title.  Indeed, Warren Buffett has said that he evaluates a company by looking for "sustainable competitive advantage."

The basic definition of competitive advantage is straightforward.  If your business can produce at a lower cost than can competitors, or if it can deliver more perceived value than can competitors, or a mix of the two, then you have a competitive advantage.  

ACTION POINT: Are your costs lower or is your perceived value higher than that of your competitors?

Using Advantage II

The secret to using advantage is understanding this particularity. 

No one has an advantage at everything.  Teams, organizations and even nations have advantages in certain kinds of rivalry under particular conditions.  The secret to using advantage is understanding this particularity. 

You must press where you have advantages and side-step situations in which you do not.  You must exploit your rivals' weaknesses and avoid leading with your own.

ACTION POINT: Understand your advantages and your rivals weaknesses. 

Profits Function

Today’s profitable business will become tomorrow’s white elephant.

Joseph Schumpeter insisted that innovation is the very essence of economics and most certainly of a modern economy. Schumpeter’s Theory of Economic Development makes profit fulfill an economic function.  In the economy of change and innovation, a profit, in contrast to Karl Marx’s theory, is not a “surplus value” stolen from the workers.  On the contrary, it is the only source of jobs for workers and of labor income.  The theory of economic development shows that no one except the innovator makes a genuine “profit”; and the innovator’s profit is always quite short-lived.

But innovation, in Schumpeter’s famous phrase, is also “creative destruction”.  It makes obsolete yesterday’s capital equipment and capital investment.  The more an economy progresses, the more capital formation will it therefore need.  Thus, what the classical economist-or the accountant or the stock exchange-considers “profit” is a genuine cost, the cost of staying in business, the cost of a future in which nothing is predictable except that today’s profitable business will become tomorrow’s white elephant.

ACTION POINT: Ensure that you are investing enough in innovation to prepare for the day when your profitable business becomes obsolete.

Using Advantage

...advantage is rooted in differences--in the asymmetries among rivals.

Two equally skillful chess players sit waiting for the game to begin--which one has the advantage?  Two identical armies meet on a featureless plain--which one has the advantage?  The answers to these questions is "neither," because advantage is rooted in differences--in the asymmetries among rivals.

In real rivalry, there are an uncountable number of asymmetries.  It is the leaders job to identify which asymmetries are critical--which can be turned into important advantages.

ACTION POINT: Identify the asymmetries that can be turned into an advantage.

Healthy Growth

It normally shows up as a gain in market share that is simultaneous with a superior rate of profit.

Healthy growth is not engineered. It is the outcome of growing demand for special capabilities or of expanded or extended capabilities.  It is the outcome of a firm having superior products and skills.  It is the reward for successful innovation, cleverness, efficiency, and creativity.

This kind of growth is not just an industry phenomenon.  It normally shows up as a gain in market share that is simultaneous with a superior rate of profit.

ACTION POINT: Focus on superior skills, cleverness, efficiency and creativity.

Growth by Acquisiton

...no value is created by such expansion.

The problem with engineering growth by acquisition is that when you buy a company, especially a public company, you usually pay too much.  If you have friendly investment bankers and lenders, you can grow as fast as you like by acquisition.  

But unless you can buy companies for less than they are worth, or unless you are specially positioned to add more value to the target than anyone else can, no value is created by such expansion.

ACTION POINT: Do your growth plans create more value?

Growth

The proposition that growth itself creates value is so deeply entrenched in the rhetoric of business that it has become an article of faith.

In 1989 Crowne Cork & Seal under the leadership of William Avery began a program of growth through acquisition.  They went on a buying spree and doubled in size.  They wanted to grow bigger and get better use of their resources to lay a world wide foundation for international growth.  They completed 20 acquisitions by 1997.

In 1998 troubles appeared. Technology shifted the market from metal to plastic containers and unit sales started to shrink.  The hoped for firmer prices from a more consolidated industry did not materialize and began to fall.  Competition from cheaper plastic container manufacturers also became a factor.  Crown's stock price between 1998 and 2001 fell from $55 dollars a share to $5 dollars per share.  

While Crown grew to be the leading container maker in the world, the stock holder return fell from 18% to 2.4 percent.   The carefully designed strategy of coordinated policies and short runs that captured more value from the customer was left behind in the quest for growth.  The proposition that growth itself creates value is so deeply entrenched in the rhetoric of business that it has become an article of faith.  As seen by the decline in return at Crowne, it is not always the case.

ACTION POINT: Beware of sacrificing your competitive strategic advantage for the sake of growth.

Society of Performing Organizations

“By their fruits ye shall know them.”

Society in all developed countries has become a society of organizations in which most, if not all, social tasks are being done in and by an organization.  Organizations do not exist for their own sake.  They are the means:  each society’s organ  for the discharge of one social task.  The organization’s goal is a specific contribution to individual and society.  The test of its performance, unlike that of a biological organism, therefore, always lies outside itself.  This means that we must know what “performance” means for this or that institution.

Each institution will be the stronger the more clearly it defines its objectives.  It will be more effective the more yardsticks and measurements there are against which its performance can be appraised.  It will be more legitimate the more strictly it bases authority on justification by performance.  “By their fruits ye shall know them” – this might well be the fundamental constitutional principle of the new pluralist society of institutions.

ACTION POINT: Are your performance yardsticks appropriate to your objectives?

Focus IV

If a business is really successful, then there is usually a good strategic logic behind that success...

The pattern of attacking a segment of the market with a business system supplying more value to that segment than the other players can--is called focus.  Here the word "focus" has two meanings.  First, it denotes the coordination of policies that produces extra power through their interacting and overlapping effects.  Second, it denotes the application of that power to the right target.

If a business is really successful, then there is usually a good strategic logic behind that success, be it hidden or not.  But the truth is that may companies, especially larger complex companies, don't really have strategies.  At the core, strategy is about focus, and most complex organizations don't focus their resources.  Instead they pursue multiple goals at once, not concentrating enough resources to achieve a breakthrough in any of them.

ACTION POINT:  Do you have a directed focus, supported by coordinated policies?

Focus III

...capture a larger amount of the value it creates for it's customers.

Putting soda in a can isn't all that much of a big technical feat.  Crown isn't the only company that can do this.  Why would that be a high-profit business?  Harvard Business School case writers and stock analysts all say Crown's strategy is to focus on hard-to-hold applications.  But suppose that we are very stubborn and want to do our own analysis.  If you are serious about strategy work, you must always do your own analysis.  A strategy is not necessarily what the CEO intended or what some executive says it is.  Sometimes they are hiding the truth, sometimes they are misstating it, and sometimes they have taken a position as leader without really knowing the reasons for their company's success.

Identifying strategy begins by looking at each policy of a company and noticing those that are different from the norm in the industry.  Then figure out what the common policies are targeted on accomplishing.  In the case of Crown, two policies are technical assistance and  rapid response.  Major beer companies probably don't need much technical assistance with cans and can probably teach the can companies a thing or two.  Technical assistance is what is needed by smaller companies.  Rapid response may be aimed at smaller companies or even seasonal orders or the introduction of new products.

On the manufacturing front, Crown's plants are smaller and all have at least two customers, unlike the larger can makers who tend to focus on one big customer for the benefit of the longer runs.   Crown's manufacturing policies are aimed at speed and less production per customer.  Crown's policies, technical assistance, rapid response, less production per customer, speed and rush orders all combine to make them an expert at doing short runs.   Crown isn't the biggest can maker, but it makes the most money.  As a result Crown is not captive to a single large customer and is able to capture a larger amount of the value it creates for it's customers.

ACTION POINT:  Craft policies that create the most value for your customer.

Focus II

It has great customer service, lots of technical assistance for customers and great responsiveness, with an emphasis on speed. 

To begin identifying a company's strategy it is usually most helpful to examine the competitive environment.  That is, to look at how the competitors make their livings.  In the Crown case, there are three major can companies: Continental Can, National Can and American Can.  Most beverage companies had at least two sources of can supply.  Further, can manufacturers often set up plants to supply a particular customer.  There is a very direct competition between close by can makers, whose products have to be essentially indistinguishable.  Big can makers have accepted being captive producers because of the benefits of long production runs--there is a large cost to changing a line from making one type of can to another.  Major can companies have very log profit rates--4 to 5 percent return on assets. 

Crown on the other hand beats the big three by a substantial margin.  On average it seems to be fifty to sixty percent  more profitable.  Crown specializes in hard-to-hold applications-aerosols and soft drinks.  It has great customer service, lots of technical assistance for customers and great responsiveness, with an emphasis on speed. 

ACTION POINT: Strategy is sometimes not what it appears to be as will be seen in the Crown example if you stay tuned. 

Focus

the analysis of unstructured information is hard, time-consuming work 

Crown, Cork and Seal, a maker of metal containers is one of the oldest case studies in the strategy collection.  Crown's strategy had been crafted in the early 1960's by John F. Connalley.  The company achieved a phenomenal record providing an average return to shareholders of 19 percent per year.

What was Crown's secret?  The case repeats the conventional wisdom that Crown specialized in container for hard-to-hold products such as aerosols and carbonated soft drinks.  While true, of course, this description is neither complete nor terribly useful in understanding how Crown competed.  Nevertheless most analysts stop there.  They will not have noticed that the details of Crown's policies point in other directions as well.  In general people will not push further because the analysis of unstructured information is hard, time-consuming work that requires both rich knowledge of facts and well-developed skills in logic, deduction, and induction.

ACTION POINT:  Gather facts and hone your skills in logic, deduction and induction to prepare to study strategy.

The Function of Management is to Produce Results

Above all management is responsible for producing results.

Management has to give direction to the institution it manages.  It has to think through the institution’s mission, has to set its objectives, and has to organize resources for the results the institution has to contribute.  Management is, indeed, “entrepreneur” and responsible for directing vision and resources toward greatest results and contributions.

In performing these essential functions, management everywhere faces the same problems.  It has to organize work for productivity; it has to lead the worker toward productivity and achievement.  It is responsible for the social impact of the enterprise.  Above all, it is responsible for producing the results – Whether economic performance, student learning, or patient care – for the sake of which each institution exists.

ACTION POINT:  Is your organization delivering the results it should? If not, articulate your mission.

Order out of Chaos III

This has created difficult-to-replicate resources...

Paccar's strategy--its design--is its way of dealing with these three obstacles to being a quality leader.    The first element of its strategy is a subtle shift away form seeing quality purely in terms of operating cost.  Instead, Paccar views quality through the eyes of the owner-driver.  Owner-drivers increase their wages by pushing themselves harder driving sixteen hours a day or more.  Owner-drivers care about efficiency but also look beyond cost per mile, because the truck is their home, office, lounge, and TV room on the road.

Second, owner-drivers buy Kenworth and Peterbilt trucks from experienced dealers who use 3-D computer displays to select from hundred of customizing option.   Third, Paccar builds each truck to order, keeping inventories low and using a network of suppliers for its main components and parts.  The trucks are designed with as many parts in common as practicable.

Paccar's strategy is based on doing something well and consistently over a long period of time. This has created difficult-to-replicate resources:  it's image, its network of experienced dealers, its loyal customers, and the knowledge embedded in its staff of designers and engineers.  This position and these kinds of slow-build resources are simply not available to companies, mesmerized by the stock market, who want big results in twelve months.

A flexible approach to manufacturing makes Paccar's variable costs higher than competitor's but provides stability for its designers and engineers.  In addition, its higher margins create a loyal, more dedicated network of dealers.  All of this works, in part, because it is not in a high-growth industry that would attract large new investments from outside.  To attack it directly, a rival would have to create new brands and new designs, and, quite possibly, sign up new dealers.  This high-end market isn't big enough to warrant that kind of investment.

ACTION POINT: Focus on doing things well and consistently over a long period of time.