Friday, March 30, 2007

Innovation Tools Part 4: The Solution is in the Solution

There’s an old Warner Brothers animated cartoon about someone who was selling holes. He had a suitcase full of them. He would open up his suitcase, pull out a black circle, put it on the ground, and it would instantly be a hole. You could even put it on a wall and have an instant hole in the wall.

What a wonderful invention. No need to dig, drill, or chop if you wanted a hole. Just buy one already made! If you didn’t like where the hole was, you could just pick up that little black circle and put it somewhere else. If you wanted a larger hole, all you had to do was stretch the circle before you put it on the ground. It was the perfect solution.

In the cartoon, getting a hole was easy. All you had to do was buy one from the man with the suitcase full of holes. Unfortunately, in real life you can’t just go out and purchase a hole. If you want a hole, you have to buy a tool to make the hole, such as a shovel, drill, or pick axe. If I want a two-inch hole, I would purchase a two-inch drill bit. I don’t purchase the drill bit because I love the looks of the drill bit or admire the fine craftsmanship of the metal. I buy it because I want the hole it can make.

The point here is that consumers do not purchase products. Instead, they are purchasing the solutions that the product provides. I want a hole. This is the problem I am trying to solve. If I could buy one already made, like in the cartoon, I would. Since I can’t, I do the next best thing. I purchase the solution indirectly, by getting a drill bit. If I could find a different product that could make the hole faster, better, and less expensively, I’d buy it rather than the drill bit. Hence, it is not the drill bit I want, but the solution it provides. If I find a better solution, I will buy it instead.

We are in the middle of a series of blogs on how to think about ways to create new business innovations. One of the ways to innovate is by changing the way a consumer looks at solving problems. By creating and then getting people to accept a superior solution, you can be very successful.

There are two ways in which one can provide a solution that alters the way people solve their problems:

1) Find a new source for solving an old problem

2) Find a different problem for an old product to solve.

We will now look at each of these individually.

1) Find a new source for solving an old problem
Sometimes, I’ve run into people who feel that innovation needs to come up with a new solution for a new problem. After all, all the old problems already have solutions. Therefore new solutions need to tackle new problems. The problem is that there really aren’t that many new problems out there. Most everything is just a variation on a few key needs:

a) To have your basic needs met (food, clothing, shelter)
b) To feel loved, accepted, admired or appreciated
c) To be amused, entertained, pampered
d) To get the daily chores of life done efficiently, effortlessly, quickly and cheaply
e) To feel empowered, powerful, self-sufficient, needed, having a purpose in life
f) To eliminate barriers keeping you from living life to the fullest
g) and so on…

Therefore, instead of trying to find a new problem to solve, take an old problem that has already proven to create a large demand for a solution and just create a better solution than the one in place today.

When I say create a new solution for an old problem, I’m not saying to take the old solution and improve it. For example, taking a detergent and just making it a little stronger or a little cheaper or a little more concentrated is not the same as creating a new solution for the problem of cleaning. That’s just a better version of the old solution.

Allow me to illustrate. For years Proctor & Gamble has relied on better chemistry to create better ways to clean. Through chemistry, they could make their detergents stronger, more concentrated, and so on. But in the end, it was still basically the same solution to cleaning. Then, someone at P&G got the brilliant idea that perhaps there were ways to solve the problem of trying to make things clean that did not rely on chemistry. What if, instead of relying on chemistry, we tried to solve problems with physics?

Once P&G started looking at physics for a cleaning solution, they started coming up with brand new solutions to that age-old problem. There’s the Mr. Clean Magic Eraser, the Mr. Clean Magic Reach, and the Swiffer pad. These are brand new categories for solving an age-old problem, because they looked in a new direction for the solution.

Another example would be Bausch & Lomb. They used to see themselves as in the lens business and spent their time trying to improve upon the design and manufacturing of lenses. Then, they realized that they were really in the vision correction business. The problem of improving vision can be solved in more ways than just with lenses. Therefore, Bausch & Lomb started looking for new solutions to their old problem that did not rely solely on lenses.

As a result, Bausch & Lomb came up with over-the-counter drops to put in the eye to improve vision, vitamin and mineral supplements that improve vision, prescription drugs to improve vision, medical devices and implants used in eye surgery, and a host of other things.

Recently, L’Oreal has teamed up with Coke to create a beauty beverage. The idea is that, instead of applying something to the outside of the body to make it more beautiful, why not work on the inside body chemistry to create a more beautiful complexion? The age-old problem was being attacked with an altogether different solution. In 2008 you will see these beverages sold in department stores at the beauty counter.

2) Find a different problem for an old product to solve
Sometimes innovation doesn’t require inventing anything new, per se. Instead, the innovation comes from finding a new solution for something that already exists. Arm & Hammer has made a fortune off continually finding new uses for plain old baking soda. People selling products with oats in them (Cheerios and Quaker Oats) now claim that their products solve another problem—fighting high cholesterol. Cheerios also claims to be a perfect starter solid food for your baby.

Back in the 1980s, when computers first started being pushed into the home market, they sold very poorly. The reason was that the problems they were claiming to solve did not seem too compelling. Salespeople would say that the computer could help you balance your checkbook, or store your recipes, or type letters. For the high price of a computer, the market did not see much of an advantage or value over current solutions for balancing the checkbook, storing recipes, or writing letters. But then a new solution appeared. The computer could help you send emails and search the internet. Now that was a solution worth buying a computer to solve. Sales suddenly started to skyrocket.

Avon has had great success selling its Skin So Soft moisturizer, once people discovered that it had a second solution as an excellent bug repellant. Pharmaceutical companies often discover that their prescription drugs can solve problems that they were not originally designed to solve, opening up new profit streams.

Mr. Carrier had a printing press that had trouble operating when the humidity got too high, so he invented a device to condition the air by taking out the moisture. He called it an air conditioner. As an interesting by-product, he noticed that it also made the press room cooler. The secondary solution of cooling air was more popular that the original solution of dehumidifying.

Innovation does not necessarily require finding new products to solve new problems. Sometimes, it is about finding new solutions for old products to solve. Other times it is about finding new ways to solve old problems that have been around a long time. Sometimes, it just takes looking at a problem from a different perspective or a little tweaking of what you already have or know to create something entirely revolutionary.

Sometimes, just trying to make a current solution better can backfire. Automobile tire manufacturers found a way to virtually double the life of its tires. As a result, they ended up selling about half as many tires, which put the entire industry into a tailspin. Companies like BF Goodrich found the need to diversify by finding new solutions for the chemistry knowledge used to make tires.

Wednesday, March 28, 2007

Innovation Tools Part 3: Access Denied

When I was in High School, I wanted to join the GAA (Girls’ Athletic Association). I read the by-laws of the club and it said that the GAA was for girls. Well, as it turns out, I’m for girls too, so a few of us guys got together to figure out how to join the GAA.

The problem was that in order to join the GAA you had to have participated in girls’ athletics (I guess that’s how it got its name). So a girl we knew got us the paperwork so our group of guys could form a team in the girls’ field hockey program. Things were working fine until the girls’ gym teachers figured out that we were boys. Then the plan started to fall apart.

We were sent to the principle’s office. The principle was actually very nice about it. He said that if we really wanted to play field hockey that badly, he would see what he could do about setting up a boys’ field hockey program. But the principle missed the point. The only reason why we wanted to play field hockey was so that we could get access to the GAA.

Needless to say, we never were able to join the GAA.

One of the main reasons why I wanted to join the GAA was because access was denied to me. The more exclusive the membership, the more I wanted to join. Business models can work this way as well. Depending on how one sets up access into the business model, one will get different results. I was trying to redefine how access was granted into the GAA. You can try to redefine access in your industry.

We are in the middle of a series of blogs on how to think about ways to create new business innovations. One of the ways to innovate is by changing the way access is defined in an industry. By changing the access rules, you can also often end up rewriting the rules for how the profits are divvied up—presumably in your favor.

There are three ways in which one can alter the rules of access:

1) Open Vs. Closed Platforms
2) Limited Vs. Unlimited Supply
3) Democratic (customer determined) Vs. Hierarchical (seller determined) Inclusion

We will now look at each of these individually.

1) Open Vs. Closed Platforms
These days, technology is often an integral component in a business model. The technology platform for the business model can be defined in two ways, either open or closed. In a closed system, one company tends to own the proprietary technology and they do not share it. This denial of access creates profits when the technology becomes popular and you are the only one that can supply it. By not sharing it, the company will create a monopoly and reap all of the benefits of any success.

This has been the primary strategy of Sony for years. In the video tape wars, they built a monopoly around the beta format and lost. They built a monopoly around playstation technology and won. They are now trying to create a semi-monopoly with Pioneer around blu-ray DVDs. Apple has had only limited success with a similar strategy for its computers, but great success using this strategy for ipod. This monopolistic closed access strategy is higher risk, but it is also higher reward.

Sometimes an open system has greater success. By sharing access to a technology, one can get more companies onto that technology bandwagon. The more firms behind a product technology, the more likely it will create enough critical mass to get customers to prefer it. After all, people want to be associated with winners, and if that many firms are supporting the technology, it must be the winner technology that is going to survive. That is how VHS won over Beta in video tape.

Usually, there is room for both open and closed systems: Microsoft Windows (closed) vs. Linux (open); Playstation (closed) vs. PC games (open). The key tends to be how many profit streams are produced by the technology. The more there are, the better it is to be open. The fewer there are, the better it is to be closed.

2) Limited Vs. Unlimited Supply
Sometimes access can be controlled by how much of a resource you are willing to supply. An offering supply can be limited by a number of factors: the number produced (limited amount versus unlimited amount), the amount of time allowed (limited time to purchase versus always available), and the amount of variety offered (limited variety versus carrying it all). One can be successful at either end of these spectrums.

Take, for example television home shopping channels. Usually the variety is limited to one item at a time, the quantity is limited to only a small number available, and there is a small limited time in which to call in and order the product. All of these limits create excitement. They also cause one to act quickly to purchase before the quantities and the time run out (and before you realize how foolish some of the purchases are).

On the other hand, supercenters carry just about everything, they are open 24 hours a day, and they try to always have items in stock all the time. This creates the assurance that if you shop there, you will be able to find what you need and not have wasted a trip. Limited assortment stores, like Aldi and Save-A-Lot, provide access to fewer items and are open fewer hours, but this allows them to charge lower prices. As Bill Moran, the founder of Save-A-Lot explained it to me, it’s amazing how much more profitable you can be if you can convince the customer to accept access to a more limited selection, allowing you to sell only the profitable items.

Limited availability can create a greater cache around a brand. High fashion items often loose their appeal once they become too available to the masses. On the other hand, the more access, the more opportunities to sell. Coke talks about their WAR strategy…the goal of no matter where you are, there is an opportunity to purchase Coke Within Arm’s Reach.

Fast Fashion retailers like Zara and H&M cycle through their clothing styles so quickly that they sell out the limited quantities a full price, before there is a need for heavy markdowns and clearances. Yet others find success sticking to one product and pushing it year after year, like WD-40.

3) Democratic (customer determined) Vs. Hierarchical (seller determined) Inclusion
Sometimes access is determined by the customer and sometimes it is determined by the seller. Take, for instance, restaurants. McDonald’s has a very democratic, customer-driven approach to access. Anyone who wants to come in is allowed to come in and they are served in the order in which they arrive. Contrast this with a snooty trendy restaurant, where only people on the “A” list determined by management are allowed to make reservations. If someone higher up on the list wants to get in, the owner may cancel the reservation of someone else, allowing the more prestigious guest preferential treatment. “Commoners” have no access and are kept out by a bouncer. This would be a seller-determined access, using a hierarchy to make access different depending on the customer’s status.

The same thing can occur with airlines. Some airlines treat everyone the same and it is first come, first served. Others have complex frequent flyer memberships with various levels of platinum, gold and silver, and different preferential access based on the type of membership.

In many industries, about 80% of the profits come from about 20% of the customers, and about 50% of the customers are unprofitable to serve. This is especially true in high service businesses, like banking. Some banks are acting on this knowledge by trying to discourage low profit customers from banking with them by giving them less access to banking services (and giving more service access to the profitable customers). This is called an “intelligent loss of business,” discouraging access to customers that are unprofitable to serve (or limiting your offering to them so that they become less unprofitable).

In an unusual reverse twist, Progressive Insurance uses increased access to get rid of potentially unprofitable customers. Progressive believes that their insurance quotes are as low as one can be and still be profitable. If another insurance company can offer a lower rate, Progressive believes the other firm is taking on an unprofitable customer. By offering people access not only their own quotes, but access to competitive quotes, Progressive is encouraging the loading up of unprofitable customers onto their competition.

Although we were able to just scratch the surface, one can see that there are a variety of ways in which one can alter the access to goods and services in a business model. There is no single best approach. People can make a profit rearranging the access elements in a variety of ways. If you feel that the marketplace is stacked against you under the current rules of access, perhaps you can create a greater piece of the action by operating under a different set of access rules.

Again, as mentioned in the last two blogs, sometimes the most revolutionary innovations are not about creating an entirely new product. Instead it may just be about tweaking the rules of access in an industry.

Managing access is vastly different from discriminating against people based on race, ethnicity or religion. This is not about hatred and bigotry. This is about choosing a market to serve and developing the access rules which best serve that market.

Tuesday, March 27, 2007

Innovation Tools Part 2: Bundles of Joy

At the end of the TV show The Price is Right, two contestants get to guess the price on what is called a “showcase.” The showcase is a large bundle of products which are described very quickly by the announcer and shown in rapid succession, one at a time (with a pretty woman in front to distract your attention).

Often times, when you look into the eyes of the contestant, they appear to have absolutely no clue as to what the bundle of items is worth. It was too many items shown too quickly. Later, when you hear their bid and then find out what the actual retail price is, you find out that your suspicions were true. They really did have no idea of what the entire bundle of items cost.

When a number of products are bundled together, it is often more difficult to decipher the true value of the entire package. It is difficult on The Price is Right and difficult in real life.

We are currently doing a series of blogs on ways to focus your thinking to create innovative new business ideas. One way to discover new ideas is to look at the concept of bundling. By changing the way products and services are bundled, you can create new and different business opportunities.

Often times, once can create new business opportunities without creating new products or services. Instead, all one needs to do is rearrange how everything is bundled together. Creativity in bundling can come in three forms:

1) Bundling things that were previously sold separately

2) Separating things that were previously sold together

3) Changing the Cross-Subsidies in the Bundle

We will look at each of these separately.

1) Bundling things that were previously sold separately
The best examples for bundling things that were previously sold separately are in the fast food industry. The first step in bundling was the voluntary bundle, where the cashier would try to get the customer to create their own bundle. It used the five powerful words that have created a fortune in added revenue: “You want fries with that?” It takes quite a pile of burgers to create the same amount of profit as found in a single order of fries. By bundling fires with a burger, the profitability of the entire transaction goes up significantly.

Not content with voluntary bundling, the industry created “combo meals” where the burger, fries and drink (another big profit-maker) were pre-packaged together at a “value” price. Sure, the combo meal was a better value than buying the items separately, but it caused people to still buy more than they otherwise would have, and caused them to skew their purchase more towards the items with the highest profit margins. So the customer gets a better price and the restaurant gets a better profit. It’s a win-win situation. Are you missing out on the “combo meal” equivalent in your industry?

Combos work on larger-priced items as well. You can sell a computer for virtually free if you can attach enough profit-makers to the bundle: items like cables, printers & ink, software, extended warranties, services to transfer your old files to the new computer, etc.

There is a trend to bundle luxury housing with exclusive high-end golf courses. Buy a house and get access to the golf course as part of the bundle.

Supercenters bundle food shopping with general merchandise shopping. Buy a music CD and get a video of the band bundled with it. Not only is this added value to the consumer, it helps cut down on some of the piracy of music since the video can be more difficult to stream. There are companies that are bundling all the services associated with getting married (like banquet halls, clothing, photographer, invitations, etc.) and bundling it all together. And on and on the list goes.

2) Separating things that were previously sold together
Lately, a more dramatic trend has been to do the opposite—break apart things that were previously sold together in a bundle and sell them separately. Typically, a bundle has a mixture of goods and services with different levels of profitability. The high profit items tend to subsidize the low profit items. However, what if you were able to sell just the most profitable item without the subsidies? That could become quite profitable.

The most profitable part of a newspaper is the classified section. It provides most of a newspaper’s profits. The gathering and reporting of news is a money loser. What if you could unbundled the sections of a newspaper and just sell the profitable parts? People are doing that. just does the profitable want ads section of the newspaper. There are also a large number of dotcoms that provide just the automobile section of the classifieds. Even if these services do not have as large a volume of business as the newspaper, they can do well, because they do not have to subsidize the unprofitable aspects of news gathering.

Many of the functions provided by a bank are unprofitable. One of the most profitable services provided by a bank is giving loans. What if you could unbundled a bank and just do the loans without having to provide those unprofitable services? Thus spring up businesses like E-loan.

In order to save money on benefits, many employers are unbundling their benefit packages, allowing the employee to pick and choose which benefits they want. This way, the employer doesn’t have to pay for benefits that the employee does not want.

Selling movie theater popcorn is more profitable than selling movie theater tickets. What if you could find a way to sell movie theater popcorn to people watching movies on their home theater systems? Some high end home theater system retailers also sell institutional popcorn poppers just like the ones in the theater.

Let’s go back to the fast food example. If french fries are so much more profitable than burgers, then why not stop selling burgers and only sell fries? I have seen restaurants in mall food courts that have done this very thing, selling only french fries.

3) Changing the Cross-Subsidies in the Bundle
Often times a bundle will consist of a situation where you pay a full price for something and something else gets thrown into the bundle for free or at a large discount. What if you were to switch around the subsidy? For example, in computer printers, the general policy has been to sell the printer very cheaply, but force high prices on the ink. Kodak is introducing a business model which works in the other direction. You will pay a higher price for the printer, but the ink will be sold cheaply. Kodak hopes to capture the people who are fed up with paying too much for ink.

In the cellular world, some companies try to bribe you into subscribing to their service by subsidizing the price of the phone. Other companies get exclusive rights to sell really cool phones which people are willing to pay “full price” for and the phone service is just thrown into the bundle. There are many other creative ways cell phones are being bundled with a wide variety of services, as well as a wide variety of ways to pay for them.

Once you open your mind to the possibility that other pricing models are possible, one can come up with all sorts of creative solutions.

Just because products and services are sold in one fashion does not mean that it is the only way to sell them. Sometimes you can open up new pockets of profits by just rearranging the bundling. You can bundle things that were previously unbundled. You can unbundle things that were previously bundled. You can change the way the bundles are priced or paid for by rearranging the cross-subsidies.

As mentioned in yesterday’s blog, sometimes the most revolutionary innovations are not about creating a entirely new product. Instead it may just be about tweaking the bundling of the same old products and services in the industry.

If only I could figure out a way to sell just the extended warranty without having to sell the product…. Hey, wait a minute. When I bought my house, I was getting letters from independent companies wanting to insure my mortgage in case I lost my job and was unable to work. Maybe this extended warranty store could work after all.

Monday, March 26, 2007

Innovation Tools Part 1: Pick Your Nodes

Back when I was getting my MBA, one time, for no apparent reason, in the middle of a class, a fellow student blurted out the following:

“There are two kinds of people in the world: creative people and those who exploit creative people for profit. I plan on being one of the second kind.”

At first, I thought this guy was a little bit odd for blurting that out in the middle of class. But then I started thinking…I consider myself to be somewhat creative. Hey, this guy just blurted out that he wants to exploit me!

A lot of wealth can be created by exploiting the innovation that comes from creativity. It’s easy to understand why someone would want to be on the receiving end of that wealth. The problem is that there first needs to be some sort of innovation to exploit.

Although there is no sure-fire tool to instantly create innovation, there are some ways you can direct your thinking to help find innovative solutions. There is not enough room in this blog to discuss them all. Therefore, for the rest of this week, we will be looking at these ways of thinking one at a time.

The way I came up with these thinking processes was by examining all of the major innovations over the last couple of decades and then looking for common threads. I looked at everything from bottled water to ipods. I found about a half-dozen common threads. In today’s blog, we will be looking at nodes.

In every business system, there are various steps which get accomplished in order for a product or service to get from the original source to the final consumer. Each of these steps can be thought of as a “node” along a string. For example, in one type of business model, someone extracts raw materials which are then sent to a manufacturer who turns them into a product, which is then shipped to a warehouse, which sends the products to a store, that sells the product to the final consumer. In this example, each of these steps is a node (the extractor, the manufacturer, the wholesaler, the retailer, the consumer).

Most of the time, we tend to take these nodes for granted and assume that this is the natural order of things. In reality, there is nothing “natural” about this. It is just how a process evolved over time. It could have evolved differently. And more importantly, you can often change the process for your benefit.

So, thinking process #1 for innovation is thinking about ways to re-arrange the nodes. This can take three forms:

1) Taking away nodes
2) Adding nodes
3) Changing the order of nodes

We will look at each of these separately.

1) Taking Away Nodes
Another term for taking away nodes is the idea of being a disintermediary. In other words, in the current business model, there is a function of an intermediary who connects two nodes in the model together. Innovation would be finding a way to bring those two nodes together without the need for a third party in the middle.

The internet has provided a great many opportunities to eliminate a number of these intermediaries. For example, sites like Expedia and Travelocity have brought vacation providers and vacationers together directly without the need for a travel agent. The travel agent node is eliminated, as well as the cost of that node. The providers and the vacationers split the savings, making both better off.

A similar situation occurred with the elimination of the traditional stock broker node by trading on-line with companies like Etrade. Firms like Geico eliminated the traditional insurance agent node. Michael Dell eliminated the retail node in the selling of computers. Ashley furniture stores went direct to low cost countries to purchase their furniture, thereby eliminating the branded manufacturer and the independent importer nodes, giving them a cost advantage in the marketplace. TurboTax allows tax preparers direct access to knowledge without the need for the independent tax preparer node.

A U-Pick-It farm eliminates the node of hiring produce pickers and lets the consumer pick the produce directly off the plants. The farm in this example also eliminates the trucker node which gets the food to market, the grocery wholesaler node and the grocery retailer node.

Rock bands have found ways via the internet to create a following for their music and a way to distribute it without the need for the traditional recording label node (eliminating the need for the label’s manufacturing node, distribution node, and publicity node). The band may not sell as many CDs as a label could, but instead of only getting a dollar or two per CD, the band can get $5 or $6 per CD and still sell the CD for less than what a traditional label charges. Hence, they may end up with more money, because they don’t have to share the proceeds with the label.

Therefore, when trying to think of creative innovations to exploit, think about ways to eliminate a node.

2) Adding a Node
Just as taking away a node can revolutionize an industry, one can revolutionize an industry by adding a node that did not exist before. This is the process of adding an intermediary.

Buying cooperatives would be an example of adding a node. The idea is that instead of each buyer trying to negotiate separately with their vendors, a buying cooperative node would be added, which aggregates the needs of many buyers and negotiates a better deal with the vendors than the buyers could make on their own. The Worldwide Retail Exchange is one such cooperative, designed to help retailers purchase business supplies and technology less expensively.

EBAY is another example of the power in adding a node. Before Ebay, it was very difficult for sellers of unique items to find the people who wanted to buy these items. By adding the Ebay aggregation node, buyers and sellers find each other more efficiently. It is worth paying Ebay a cut of the proceeds, because the added efficiency is worth more than the fee. An now a second node is being added, the independent firms that help a person sell an item on Ebay and help package it to ship to the buyer, firms like Quick Drop or eAuction Depot.

Another example of adding a node is the ticket scalper. Rather than go directly to the ticket office to get a ticket, you go to the scalper. You may end up paying more, but the scalper does all the hard work of securing the ticket, something you may not be able to do.

Dating services like eharmony or are additional nodes providing a service which makes finding your mate more efficient.

People talk about the “long tail” phenomenon, where media growth will occur in the fringes rather than in mainstream titles for the masses. The problem is in finding which part of the log tale of niche genres are right for you. This is an opportunity for adding a node that helps you more efficiently search the long tale to find the music and movies that fit your particular tastes.

So innovation can also occur by adding nodes to a business system.

3) Rearranging the order of Nodes
A third way to innovate with nodes is to rearrange the order in which the nodes occur. For example, traditionally, consumers have been brought in at the tale end of the process. Recently, however, consumers are starting to get influence into the process earlier than before. In other words, the consumer node is getting pushed further back into the system. Examples include sites that give consumers more input into the design of a product. For example, M&Ms has a site where you can design the words that are placed on the candies. Various news sources let the consumer in on helping to decide which news is presented. Sometimes, like with YouTube, the consumers produce the products themselves.

Rather than warehouse a lot of inventory, the manufacturing of a product can now be moved to a point after which it has been sold. Thanks to digital technology, there are services that will print a book on site or download content on site to a disk or other device after it has been purchased. Dell would sell a computer before it was manufactured.

There are companies that will sell consumers long-term multi-year contracts on natural gas for their homes, placing the purchasing contract for utilities well before the use of the utility.

Don’t assume that just because something has always been done in a particular way, in a particular order with particular types of people, that it must always be done that way. Sometimes, a process can be made more efficient if you take away current nodes, or add additional nodes, or rearrange the order in which the nodes occur.

Sometimes, the most revolutionary innovations are not about creating an entirely new business system. Instead it is just tweaking the nodes in a current system to make it more efficient. And in the end, you get to pocket some of the efficiency savings.

If only I could figure out a way to eliminate the tax node…

Saturday, March 24, 2007

Even a One-In-A-Million Idea Is Thought of by Over 5,000 People

The Story
When I was a teenager, I wanted to get a great view of the annual Fourth of July fireworks display. I spent several weeks trying to find the right location. Eventually, I happened upon a secluded location next to the railroad tracks. It looked like perfect spot. It was up on a hill above where most of the crowd would be, so the view would not be blocked. It was a difficult location to get to, so many people would not know about it. Even if they knew about it, they probably wouldn’t know how to get there.

This was a great location, I told myself. Only one in a thousand people would ever think of trying to see the fireworks from here.

I was excited about the prospects of seeing the fireworks perfectly without having to fight the crowds. I wouldn’t have to get to the fireworks park several hours in advance just to get a spot. I would just lazily ride my bicycle up the hill at the last minute to reach my special spot next to the railroad tracks. The cleverness of the idea made me feel proud.

However, on the night of the fireworks, when I got to my “special” spot, I found it already crowded with other people who wanted to see the fireworks. “My” spot was already taken. Then it occurred to me that the city I was in had a population of 100,000 people. So even if only one in a thousand people would think of this location, that still meant that 100 people would have thought of it besides me.

I ended up riding my bicycle down the hill to fight the majority of the crowds in the park for whatever spot was left—and had a bad location for seeing the fireworks.

The Analogy
In the story above, I was trying to find the ideal position for seeing the fireworks. In strategic planning, one is also trying to find the ideal position—the best position for his or her brand in minds of potential customers.

The ideal spot for seeing the fireworks was one that had the following characteristics:

• A desirable position (for getting a good view of the fireworks)
• An uncrowded position

The ideal spot for positioning a brand tends to have the same characteristics:

• A desirable position for your intended customers (providing a benefit your customers are looking for and willing to pay for)
• An uncrowded position, where only your brand is seen as the obvious choice in providing this benefit, thereby making your brand the one selected.
One of the key goals in strategic planning is to find such a desirable position for your brand as well as:
• A means for obtaining that position in the mind of the customer; and
• A means for defending that position from attack.

In the story above, I thought I had found a clever way to obtain my position to see the fireworks by following a narrow bicycle path up the hill. However, when I got up the hill, I found out that I had no way to defend the position. Anyone who knew how to climb or ride a bicycle could also take the same position. In fact, they had gotten there ahead of me, preventing me from taking that position. This left me having to look for an inferior location.

The same problem can occur in strategic planning. You may think you have found the ideal strategic position for your brand. Unfortunately, you are never able to hold that position because others are able to get there first and you cannot stop them. Either that, or there are so many brands fighting for the same position that none of you end up owning it.

In our cleverness, we may think we have found a great and unique position for our brand. Unfortunately, it is very difficult to come up with an idea so clever that no one else will have thought of it. Even a one-in-a-million idea on this planet will have been thought of by over 5,000 people. It takes more than a clever idea to win.

The Principle
Strategic planning needs to be more than just clever ideas or cute slogans. An advertising campaign may be a good way to communicate a position, but if that position is unattainable, unbelievable or undefendable, then it is nothing more than a clever phrase.

Good strategic positioning work goes beyond dreaming up mere superficial words. The true task of great strategic positioning is to build an entire system—including an infrastructure of competencies and capabilities—that make it possible for only your firm to win with that position. Ideas can be easily copied or stolen. Lots of people copied my idea of a position for viewing fireworks. However, copying an entire system for doing business in a particular manner is much more difficult.

Southwest Airlines did not succeed by just coming up with a clever idea to advertise lower prices. All other things being equal, “Low Price” is one of the easiest positions to copy. Instead, what Southwest Airlines did was create an entire system that resulted in a significantly lower cost of doing business. That system included such activities as:

• Using only one type of airplane, making repair and maintenance less costly.
• Limited Service: no seat assignments, no meals, no interline baggage checking, no premium service
• Simplified automated ticketing system
• Simple point-to-point flights, rather than complicated hub and spoke systems
• A different labor and compensation system

Unless you copied the entire system, you could not effectively compete with Southwest Airlines on price. However, even if an airline copied everything done in the Southwest system, they would end up alienating much of their largest and most profitable current customer base, the frequent business traveler. Hence, Southwest is successful because they built a unique system of competencies and capabilities that uniquely allows them the ability to hold a profitable position that others cannot effectively attack without:

• Having to totally reinvent their infrastructure (at great cost); and
• Having to lose much of their current profitable business.

Hence, it is not the cleverness of the positioning idea (low price) that made Southwest successful, it is the cleverness in building an entire strategic system that allowed only Southwest to effectively benefit from choosing that position. That is the difficult, but extremely valuable work of strategic planning

Strategic planning does not end after thinking up a clever position. That is just the starting point. The real work is in designing an entirely unique business system that makes your position achievable and defendable. If your position is based on having low prices, what can you do differently that others cannot effectively copy which will get you a meaningfully lower cost structure? This has to be something more than just doing the same thing that others do a little less expensively. To truly win at your position, you should be rewriting the entire thought process to create quantum leaps in cost savings.

For example, Michael Dell wanted to sell computers at a lower cost. Rather than copy the traditional system and try to do it a little better, he came up with a totally new way of doing business:

• Rather than selling through retail stores, he cut out the middleman and sold directly to customers.

• Rather than manufacturing a large inventory of machines to sell later (and have to cover the costs associated with holding that inventory), he got paid for each machine sold in advance and built the machines one at a time (no inventory). Not only did this allow him to save costs, it allowed him to build machines custom-designed for the customer, thereby increasing the value of the computer.

Hewlett Packard cannot match the cost savings of Dell on computers with their current system of selling through stores. However, if Hewlett Packard were to switch entirely to a direct model, they would alienate all of the retailers and resellers that currently account for all of their business, with no assurance that they would be able to replace all of that business by copying Dell, who already “owns” that position.

A similar approach can be used if your position revolves around higher service, better quality, or greater specialization/customization. To truly hold the position, one must do more than just tell people what your position is. One must also do more than just take a standard approach used by the industry and just execute it a little bit better than others. There is no guarantee that others will not be able to take that same approach and eventually do it a little bit better than you. Instead, you need to deconstruct the entire way you do business and then reconstruct it in a new way that creates a business system, which is meaningfully better and more defendable against competition.

Sometimes, instead of starting with the position and then developing the new system, it makes more sense to start by taking a look at who you are and what you’re uniquely good at. This might lead you towards finding a new system that only you can do. Based on the unique benefits of that system, it may dictate what is the best position to take.

One of the most important roles of strategic planning is to find the right way to position your brand in the minds of your potential customers. Finding the way to position your brand is more than just a coming up with a clever slogan. It involves developing all of the unique processes and competencies that are required to build the only business system that can effectively own and defend that position.

Clever positioning ideas are never as unique as one thinks and can be easily copied. Even a one-in-a-million idea will be discovered by over 5,000 people. On the other hand, clever integrated systems that synergistically support your position in a unique way are much harder to copy and much easier to defend. Building the integrated system that breaks all of the rules in your favor is the most challenging, but most rewarding part of strategic planning.

Final Thoughts
Over time, it has been shown that the advertising that wins the most rewards usually is not the advertising that is the most effective in selling products. Cleverness is not the same as effectiveness. In the end, the reward I want is a busy cash register.

Wednesday, March 21, 2007

The Opposite of Love

There’s a type of married couple who acts in a seemingly odd manner. I’m sure you’ve known couples like this. One minute they will be passionately in love with each other. The next minute, they are going at each other with a hatred like blood enemies.

One time I heard a commentary by a marriage counselor explaining this phenomenon. He said that we find this behavior to be odd because we believe that love and hate are opposites. Based on this assumption, we are puzzled how a couple can switch on and off what appear to be opposite feelings towards each other.

In reality, however, this counselor said that we are mistaken in believing that love and hate are opposites. The opposite of love is not hate. The opposite of love is indifference. Love and hate come from the same source: intense passion. Indifference is the lack of any passion.

As long as there is passion in the relationship (positive or negative), one has an opportunity to shape the passion in a healthy direction. However, once there is nothing left but indifference towards each other, there is little one can do. The relationship has little chance of blossoming.

The relationship between a customer and your product can be like a marriage. If the customer holds passionate feelings towards your offering, then there can be a healthy (and rather profitable) lifelong bond. However, if the mention of your offering evokes nothing but indifference in the person, it will be extremely difficult to build any type of profitable relationship.

Therefore, the goal is not to eliminate hatred of your product. In fact, as we will see later in this blog, having a segment who hates your product can be a great asset. Instead eliminating hatred, the goal is to eliminate indifference towards your product.

The principle we are looking at here is the benefit of incorporating features into the design of your product or strategy that will be offensive to some people. Now do not be mistaken. The goal here is not to be offensive just for the sake of being offensive. This is not about just trying to shock people needlessly or make a mockery of societal values just to create anger.

This is about trying to create a brand or a product that people can get passionate about. Invariably, the products that tend to evoke some of the strongest positive passion in a group of consumers will also create some of the strongest negative passion in a different group of consumers. What some people love will be found offensive or hated by others.

Often times, in an attempt not to turn anyone off on a product, we create something that doesn’t turn anyone on. We get very cautious and conservative so that we avoid controversy. The problem is that about the only way to make a product that is completely inoffensive to the greater population is to build something that evokes nothing but indifference. Blandness may not get people mad at you, but it won’t create the type of love that rings the cash register, either.

So we should not be afraid or concerned when our strategy evokes some negative feelings in a segment of the population. This is not the opposite of our desire for success by getting people to love our product. Instead, it is an indication that we have successfully tapped into some deep emotional passions. The opposite of our goal is finding out that people are so indifferent to our product that is creates no passion, for or against.

Remember, we do not have to get everyone love us in order to be successful. We only need to have a segment of the population love us—a segment who passionately wants to spend so much money on us that we can be profitable. I would rather try to get a few dollars apiece from a handful of passionate advocates, than try to get a penny or two apiece from a large crowd of people indifferent to my offering.

Look at Harley Davidson, a profitable company with passionate customers who love everything the company stands for. They love the brand so much that they will buy almost anything you put the logo on. Yet there are many who find the Harley Davidson lifestyle to be offensive and are repulsed by what it stands for. In some ways the two groups feed off each other, creating a virtuous cycle for Harley Davidson. Because some people look down on the Harley crowd, it makes the Harley crowd tend to rally around each other closer for moral support. Feeling rejected by the masses makes them cling even deeper to those that understand them and care about what they care about. Hence, the rejection by others creates a greater love within the sub-group for each other and the brand that brings them together. Greater hatred by others creates greater love in the core consumer base.

Robert A. Lutz has spent a lifetime working in the automobile industry, working his way up to top positions at both Chrysler and General Motors. Lutz is firm believer in designing automobiles that evoke strong passion, be it positive or negative. People will pay full price for a car they are passionate about. You have to give away large rebates to sell a car that evokes indifference. To quote Robert Lutz from back in his days as Vice Chairman of Chrysler (in 1998), “Chrysler’s success in the last few years has been predicated on the belief that you deliberately have to be a little wild with products—even at the risk of polarizing consumers—if you want them to stand out in a crowded market.”

When customers are passionate about your product, they become your best sales people. Passion gets people talking. Even if the passion by many is negative, they get the dialog started and get you noticed.

Many people love the New York Yankees. Many people hate the New York Yankees. Many people flock to the ball park to see the Yankees because they want to see the Yankees win. Others flock to the ball park because they want to see the Yankees lose. Either way, people are flocking to the ball park, and baseball is better off.

Some people love to be associated with winners. Other people have a passion for supporting the underdog. You cannot have winners unless you also have underdogs, and vice versa. Passion requires that both exist. Therefore, you can be successful appealing to either side of the passion and not care about offending the other. For without the offense of the other side, your side could not exist.

During the height of the cola wars, both Coke and Pepsi benefited from having the other company around. They were able to polarize the market into competing camps—the traditionalists and the non-conformists. This created greater passion for each brand, both positive and negative. Pity the poor cola that stood for nothing.

So the next time someone tells you that you cannot do something because it might be offensive to some people, just smile and keep on the path. Provided there are enough people to embrace your offering, it doesn’t matter who doesn’t like it. In fact, the more some people hate it, the more others may embrace it even tighter.

In product or strategy development, the goal is not to minimize hatred. The goal is to minimize indifference. Passion and profits are closely linked. Eliminate the passion and you eliminate the profits. If you try to minimize the hatred, you usually end up with a blandness that eliminates all passion.

Just as young lovers can be fickle and fall in and out of love quickly, so customers can lose their passion for your product. Don’t take their loyalties for granted. You need to continue to continually woo them.

Tuesday, March 20, 2007

Don't Confuse Coasting With Driving

The Story
There’s a frequently told story about the founder of Wrigley’s Chewing Gum that goes something like this:

Mr. Wrigley was on a business trip to California on the Super Chief express train, which at the time was the fastest way to move across the United States. Even so, it was a long trip, taking several days. After awhile, you run out of small talk to pass the time.

There was a traveling companion on board—a young accountant—that was bothered by one of Mr. Wrigley’s business practices. He had been afraid to mention it at the office for fear of being booted out. However, he felt relatively safe mentioning it here, since he figured that Mr. Wrigley wouldn’t throw him off the train. Besides, he had run out of other intelligent things to say. Heck, this might even impress the old man.

“Mr. Wrigley, sir,” he said, “Wrigley’s Gum is known and sold all over the world. We have a larger share of market than all of our competitors combined. Why don’t you save the millions of dollars you are spending on advertising and use it to increase our profits?”

Mr. Wrigley thought about this for a moment. Then he asked the accountant this question: “Young man, how fast do you think this train is going?”

“About 60 miles an hour,” replied the young accountant.

“Well then,” said Mr. Wrigley, “Why don’t we ask the railroad to unhitch the engine and let the train travel on its own momentum?”

The Analogy
Companies are like trains, moving down the tracks to their future. It takes investments in engines and fuel to keep that train moving down the track. Similarly, it takes investments in the engines of your company’s growth in order to continue moving down the track to a prosperous future.

Once a train gets up to a high speed, it could probably coast for quite awhile before you would notice that the engine had been unhitched. In the same way, your company could probably coast for a long time on the investments of the past, before you would notice that you are unhitched from any investments in future growth. You might even be enjoying the ride more, because of the money you are saving on fuel.

By the time you become aware that you are coasting, the train has already slowed quite a bit. It will take a long time to find another engine and gain back your momentum. During this time, your competition will have caught up with you and even passed by you on a neighboring track. You might never catch up again.
Strategic Planning serves two goals to help prevent this situation:

1. It watches the current conditions to make sure you have an engine still creating value and are not coasting off old investments that are slowing down.

2. It looks ahead to help make sure you are hitched to the proper engine of future growth and that you are properly providing the right amount of fuel for that engine.

The Principle
Strategic planning assumes that the environment is always changing. As a result, any strategic initiative—no matter how excellent—that remains unaltered will eventually fall out of favor or become less effective. There are many environmental factors that can change, causing a strategic initiative to fall out of favor:

1. Changing Customer Needs or Desires
2. Technological Innovation
3. New Competition
4. Changing Economy
5. New Government Regulations
6. Strategy Copied by Competition, Eliminating its Uniqueness
7. Patent Expires
8. Competition Finds a Better Way to Counter Your Strategy by Adjusting their Position
9. Changing Market Demographics
10. Customers Become More Experienced With Product
11. Product or Service is Commoditized
12. Product or Service Goes out of Fashion

Because of these changes, a company can only coast so long on a particular strategic initiative created in the past. Eventually, the initiative needs to be modified or replaced. As a result, those who think strategically are always looking for how to invest resources in new engines in order to stay in front of the change and take advantage of it, rather than fall victim to it.

Unfortunately, it is easy to get comfortable living off the investments of the past. Coasting feels a lot like driving, and it costs less because you don’t use any fuel. However, coasting is not the same thing as driving, even if you are sitting in the driver’s seat.

Similarly, just because someone is sitting in the leader’s chair does not mean they are truly leading. That person may just be watching the forward momentum left over from the leadership of the predecessor. Instead of leading the company into the future, that person is coasting off the efforts of the prior leader, who is already unhitched from your train. Eventually the coasting will come to a stop.

True leadership requires three elements:

1. The wisdom to discern which new destination to drive the company towards (Where am I leading towards?).

2. The ability to entice people to follow and help accomplish the journey (Who I am leading?).

3. The strength to invest in engines and tracks that will take you towards your destination (How I will get there?).

Strategic planning is a useful tool in turning mangers into true leaders, because it focuses thinking on these very issues.

Without strategic thinking, instead of becoming a leader, one typically becomes a liquidator. That is because without strategic thinking, one tends to assume that what is happening today will continue to happen for a long, long time. The annual cash flows from old investments are considered to be a constant over the planning horizon. If the cash flows are a constant, than why spend additional money? We can coast off the momentum of the old investments. If the train starts slowing down, we can always get rid of excess weight by selling off the engine and excess train cars. Unfortunately, before you know it, to keep moving, you’ve sold off the entire train.

This type of person thinks like Mr. Wrigley’s accountant. He believed that the advertising investments of the past were good enough to keep Wrigley’s gum in a leadership position forever. Hence, it made sense to him to cut out all future advertising expenditures.

A company that stops spending on building the future is like a railroad that sells off all of its engines. In the near term, it will be more profitable and it will continue to coast for awhile. Eventually, though, the train will stop, because you have liquidated its most important asset—the engine. The mistaken assumption that a train will coast forever without an engine will lead to ultimate failure.

Now most people might agree that you cannot coast forever, but what about coasting for a little while? Two times are often brought up as good for coasting—very, very good financial times and very, very bad times. During the good times, the thought is that serious threats are not near, so one can afford to coast on current successes. During the bad times, the thought is that one cannot afford to invest in the future, because all of the money is needed to save today.

While it’s true that the amount invested in the future can vary depending on the situation, it is dangerous to turn it off completely. For example, during bad times, investments in the future tend to be the least expensive. Studies by several consulting firms have found that companies that invest during economic downturns are best positioned to take advantage of the next economic up-cycle.

Similarly, it is easiest to strengthen one’s position when you are already starting from a position of strength. If you wait until your current business model starts to fail before you begin, you have two problems:

• You have to overcome the weaknesses that are already entering your brand position;

• It takes time to determine where to invest in the future and time for those investments to pay off. By the time all of that is done, your brand will have eroded even more. Competitors may have the time to pass you by.

There is a difference between managing a business and leading a business. True leaders understand that all strategic initiatives eventually fail, so they keep spending on building engines for future growth so that the profit train never stops.

Final Thoughts
I used to live in a city that had a severe shortage of doctors. Most doctors were not accepting new patients. It took me years to find a doctor that would take me as on as a patient. I asked this doctor why he was not like the others and was willing to take on new patients. His answer was, “People die. You have to replace them.”

Strategic initiatives die as well. Invest in the process to replace them before the current initiative coasts to a stop.

Monday, March 19, 2007

The Accidental Genius

Over the years, I’ve gone to a lot of conferences and seminars. Quite often, there will be distinguished business professors or guest speakers from the consulting world imparting their pearls of wisdom. With a Powerpoint deck up on the big screen behind them, these experts will explain the simple rules for how to succeed in business.

To make their case more powerful, they will use “real” examples from the world of business. The point they are trying to make is that other companies have put these rules for success into practice and have succeeded. Therefore, if you put these principles into practice, you will succeed as well.

I’ve been to enough of these now, that I have also seen something else happen at these conferences and seminars. Either in public during the speech or in private after the speech, I have heard from people in the audience who actually lived through the “real” example referred to in the speech. They always seem to say about the same thing:

“I was there when that happened and it didn’t happen at all like he said. There was no preconceived notion that we were acting based on the principle the speaker pointed out. In reality, it was just a lot of arguing, a lot of hard work, and some dumb luck.”

Those distinguished professors and esteemed consultants really don’t like it when people make statements like that in the middle of their speeches. They tend to respond with an evil glare that says, “How dare you ruin a great story with the truth.”

We tend to like simple stories with an obvious “cause” and “effect”: if you do one thing (the “cause”), you will achieve immediate success (the “effect”). Unfortunately, the world is rarely that simple. Reality is a lot messier, with the linkage between cause and effect a lot less clear.

The stories that these guest speakers like to tell tend to place the decision maker in the role of “genius.” The business leader in their stories uses their genius to quickly dissect a problem. Then they apply the appropriate business principle to the problem (which they are wise enough to choose properly in advance) and POOF!, the problem goes away.

Unfortunately, most business leaders are not geniuses. In fact, I’ll bet you’ve met a few leaders in your day that you would place in a distinctively different category. The good news is that you don’t need premeditated geniuses like the ones described in those stories to be successful. And that’s a good thing, because there are not enough of those kinds of geniuses to go around.

Instead, what you need is what I call the “accidental genius.” These are people who may not have it all figured out in advance, but they recognize a glimmer of success when it accidentally rises to the surface, and are smart enough to nurture it into something great. Typically, what these speakers identify as proactive genius is actually accidental genius.

The principle here is that reaction is more important than action. In other words, how you respond and adapt as feedback comes in is more important than the initial decision.

Many things may happen after you initiate an action. Some good; some bad. Some expected; some a complete surprise. The truly smart leaders are the ones who adapt and use what they learn to their advantage, even if the benfits come completely by surprise—accidentally, so to speak.

Allow me to give a couple of examples. Wal-Mart is credited as being a genius for inventing the door greeter program. The greeter is usually a pleasant older person who welcomes people to the store, hands out advertising circulars and helps people get a shopping cart. It is credited with creating a more pleasant shopping experience and improving the image of the company.

In reality, the greeter program was a happy accident. Wal-Mart was concerned about theft. It was suggested by Wal-Mart management that if there was an employee by the door spying on people, he could act as a deterrent to crime. Some of these crime prevention people were getting a little bored standing by the door and started taking on some of these other functions. Wal-Mart noticed the positive impact these activities were having. Therefore, it modified the position to be less about crime prevention and more about greeting the customer.

The genius was not a premeditated decision to create a greeter program. The genius was in discovering the happy little accident and being smart enough to capitalize on it. In most businesses, there are happy little accidents going on all the time. Unfortunately, they are often unnoticed by management. Wal-Mart could have chastised the crime prevention people for being too friendly and not sticking to the original program. Instead, they were smart enough to realize that the accidental program was better than the original, so they adapted.

Another example is Best Buy. In the early days, Best Buy was just like all the other consumer electronics retailers. It put all of its inventory in the back room, had a few items on the sales floor on display, and used high-pressure commissioned sales people to push the products on display. Eventually, Best Buy was considered a genius for moving to more of a supermarket style approach, with all of the boxes out on the sales floor for people to pick up on their own and a lower pressure non-commissioned sales force. Was this premeditated genius? Not exactly.

As it turns out, early on in the company’s history, a freak tornado destroyed Best Buy’s highest volume store. This devastated the company, who at the time was too small to absorb the loss of its most profitable store. Certain items got damaged either by the tornado or the accompanying rain storm. Items in the warehouse destined for this store had nowhere to go. If the problem could not be solved, the company might be doomed. So, in desperation, the company rented the fairgrounds and had a giant blow-out “Tornado Sale.”

The sale was hugely successful. In fact, it was more successful than running the previously most profitable store prior to the tornado. This got management to thinking about what they could learn from the fairground Tornado Sale. Let’s see…everything was out on the fairgrounds floor in piles of boxes. Items were priced lower to move quicker. The lower prices and the self service made high pressure sales people less critical in the equation. Of course, even then, they didn’t do too much with this knowledge.

However, not too long after that, Highland Appliance, who was much larger than Best Buy, came into Best Buy’s home turf of Minneapolis. They were very aggressive in the market, bringing Best Buy to the brink of bankruptcy. Best Buy came to the conclusion that they would indeed go under if they continued with the traditional cost structure in the industry. Therefore, in last ditch desperation, they remembered the Tornado Sale experience and converted some stores to the supermarket-style approach. This was done so that they could eliminate the cost of paying salespeople commissions. This last ditch act of desperation worked and the rest, as they say, was history.

Again, the genius was not entirely premeditated. There was a freak tornado and the threat of bankruptcy which forced Best Buy out of their comfort zone. It was entirely unknown whether any of this would work. However, because they were observant and learned from their accidents, they made more educated choices and improved their chance for success.

Originally, Earl Tupper, who invented Tupperware, had planned on selling his wares in the traditional way through wholesale distributors who would then sell to retail channels. However, unknown to Mr. Tupper, a Thomas Damigella in Massachusetts and Brownie Wise in Florida purchased Tupperware from local plastics distributors and began selling Tupperware in their homes, just as they did with competing products by Stanley Home Products. Eventually, these two individuals were moving so much of Mr. Tupper’s wares that they got his attention. He met with them to understand their success and changed his entire distribution strategy to home selling. By recognizing a happy accident, Mr. Tupper changed his fortunes forever.

This is why I said earlier that reaction is more important than action. Wal-Mart, Best Buy and Tupperware originally acted in rather conventional ways. However, deviations which they did not enact caused unexpectedly better results. Both companies reacted to the deviations by incorporating the happy accidents into their new way of operating.

There are problems with trying to rely solely on premeditated genius:

1) At the beginning, it is all theoretical. Until you put it into action and observe the response, you really do not know how it will turn out. It is usually better to get something small quickly out into the field and observe it, rather than spend inordinate amounts of time in a lab trying to perfect your genius prior to implementation.

2) Some of the greatest successes come from unexpected areas. You will never find the unexpected unless you are out there trying out lots of activities. Customers, employees and suppliers can come up with more ideas than the geniuses in the headquarters if you will just give them a chance and then observe what happens. And since there are a lot more of them than there are of you, you have greater odds of tapping into something great by tapping into the greater resource. Boeing is famous for tapping into its customer base for ideas. McDonald’s got some of its best menu ideas from franchisees and suppliers.

In the end, it is usually better to be able to recognize accidental genius and exploit it than to try to create it all on your own proactively.

Because the real world is a lot more complicated than the world of theory, one can often find more success by tossing a few ideas out into the marketplace to see what happens rather than by trying to perfect something in the lab. A lot of the greatest successes in business were happy accidents. You cannot make a happy accident out in the field if you are doing nothing different out in the field.

In a way, this blog is just like those people I criticized in the story—-I give a simple bit of advice, backed up by some easy examples. At least I know it’s more complicated than this, and will admit it, but there is only so much one can cover in a short blog.

Saturday, March 17, 2007

Let's Go Krogering

It’s the weekend, so it’s time to analyze a particular retailer. Today, we will look at Kroger.

By almost any measure, Kroger is riding a wave of success. This past week Kroger announced a 36% jump in fourth-quarter profit. Same store sales are up an impressive 5.6% (5.3% excluding gasoline). Kroger is currently gaining market share against its rivals. Full year earnings per share were projected by Kroger to be up by around 9 to 12% compared to last year.

Kroger’s stock is up over 45% since the start of 2005. Kroger forecasts that the good times should continue (pending labor contracts up in 2007). In fact, Kroger is pumping out so much cash that it runs the risk of being gobbled up by some deep pocketed private equity firm.

Normally when a retail company is doing so well, one can point to a particular area of excellence that they own in the mind of the consumer. The retail consultants at McMillan Doolittle call it the EST strategy. In other words, they claim most successful retailers are either:

- Cheap-Est
- Big-Est
- Hot-Est
- Easy-Est; or
- Quick-Est

However, when you compare Kroger to its competition, it falls short on all of these factors. For most of the properties Kroger owns, someone else owns these attributes. Wal-Mart Supercenters are bigger and cheaper on an everyday basis. Usually there is someone in the market that has the hotter image with the upscale crowd, be it a Whole Foods or some other operator. Aldi’s and Save A Lot are quicker to shop and have lower prices. Convenience stores are also quicker. Kroger tends not to have the reputation for the best produce department or meat department in a market, either. It is very difficult to come up with an attribute where Kroger excels over its competition.

So what gives here? What’s Kroger’s secret?

I call it the “tennis racket” approach. If you want to get the most effortless swing from your tennis racket, you aim to have the tennis ball it the string bed in its “sweet spot.” This is the spot that creates the least vibration and least resistance to your physical efforts.

There’s a lot of complicated physics behind this, but the thing to understand here is that this sweet spot is not located at the extremes of the racket. Instead, it is located near the center of the string bed, usually just a few centimeters closer to your hand (your source of power) than dead center. This spot is called the COP or Center of Percussion.

If you try to hit the tennis ball near the extreme edges, it creates a lot more vibration in the racket as well as creating greater negative force of resistance against your hand and wrist. Between the vibration and resistance, using the extreme edges of the tennis racket makes it virtually impossible to have an efficient swing at the ball. Effort gets wasted.

Kroger seems to understand this principle. It knows that if it moves too far in any extreme, it loses a lot of efficiencies. It takes a lot of effort to have the absolutely lowest prices, or the absolutely best meat department, or the absolutely finest produce department. And the further you move in the direction of that extreme, the faster the costs and complexities rise. The incremental return on the increasingly tougher investment starts working against you if you move too far in the extreme. And ultimately, that extra effort has to be paid for, either in higher prices or lower profits.

Rather than strive to be the absolute best, Kroger seems to strive “not to disappoint.” If you can eliminate all of the negatives, you can do pretty well, even if you have no area in which you excel.

It’s not about creating maximum consumer satisfaction, but maximum efficiencies (the most benefit for the least effort). If you can become efficient enough, you can provide a reasonable experience and still keep your prices in line. There are two kinds of efficiencies here. There are the efficiencies in lowering costs and the efficiencies in getting extra sales.

Kroger lowers costs by not overinvesting in infrastructure, labor or amenities. Departments are sized “just big enough” with just enough labor not to disappoint. Kroger then efficiently gathers extra income by adding just enough high margin non-grocery products to skim off the best (in most of its stores). It gathers extra income from the pharmacy, its floral departments and a small general merchandise area. The general merchandise area is not so large that it makes the store a challenge to shop, but large enough to gather in some good impulse sales.

To counter the everyday low pricers, Kroger uses a rather efficient high-low strategy. The high and low extremes are kept relatively narrow, so the prices are never too high to gouge a customer, yet never so low as to attract hoards of cherry-pickers who will drain you dry by only buying the low items. And usually, the lows will be lower than the everyday low prices of the big box stores.

It’s a delicate balancing act between pushing for profits and not turning off customers. But just as tennis players practice so that they usually hit the sweet spot, Kroger has practiced long and found its sweet spot—just a little better than average in the direction of their strength.

So instead of trying to beat the supercenters at their own game, Kroger’s approach is to be more efficient than the other conventional operators. There will always be people and occasions when customers do not want to put up with the hassles of a supercenter to save a little money. For these people and occasions, Kroger positions itself the most reasonable alternative, because its cost and sales efficiencies mean that it can typically afford to offer better prices and fewer disappointments than the other conventionals in the market.

As a result, when the sales volume of the supercenters force a few operators out of business, what they have done is eliminated some of Kroger’s closest competition. And that is how Kroger is gaining market share.

Kroger’s efficiencies from playing in its sweet spot have been good enough at lowering costs and raising incremental high-margin sales, that Kroger last year was able to lower its prices. The gross margin % went down a bit, but the gross margin $ went up quite a bit. The strategic approach is working. It appears that people are picking up on the old slogan that says, “Let’s go Krogering.”

Elimination of a negative can sometimes be more powerful in appealing to a customer than adding a differentiating positive…and it can often be less expensive to do so. Rather than having a goal of excellence that results in merely creating higher expectations by the customer, just try to live up to their current expectations better than anyone else.

Thursday, March 15, 2007

Instead of Trying to Become Big, Become Small Many Times Over

The Story
There is a sad pattern I have seen repeated over and over again in business. Allow me to illustrate this pattern with two stories.

There once was a man who was a great chef. Let’s call him Antonio. Antonio decided to open his own restaurant. At his restaurant, he personally prepared every meal with love from scratch using only fresh ingredients. One of Antonio’s specialties was his ability to alter his menu daily to adjust to whatever was the best set of ingredients he could buy that day. Customers flocked to his restaurant. They loved to eat Antonio’s meals, because they tasted so much better than the meals at the big chain restaurant down the street.

The big restaurant chain did not have great chefs preparing the meals. Instead, the meals were made in large batches in a factory, frozen, and shipped to the all of the restaurants in the big chain. Then part-time teenagers in the kitchens of the big chain would thaw out the food and reheat it. This may be the most efficient way to run a restaurant, but perhaps not the most effective way. With the big chain as his competition, it was no surprise that the great chef Antonio was very successful with his small restaurant.

In fact, Antonio’s little restaurant became so popular that he had to turn away customers because he could not serve that many people. Friends convinced the chef that he should open another, larger restaurant. So he did.

It was a little more difficult running two restaurants. Antonio could no longer prepare every meal. Fortunately, he had a friend who was also a great chef. Together, they continued to carry on the tradition of serving great food made with love from scratch with fresh ingredients. The second restaurant was also a huge success.

At this point, the chef’s friends could see that he was a great restaurateur. They offered to loan him large sums of money to build a small chain of restaurants. So he did.

Running a small chain of restaurants was much harder than being a chef in a single restaurant. In fact, Antonio became so busy with the business side of running restaurants that he did not have time to cook at all any more or visit with the customers. He ran out of friends that were great chefs to help him, so Antonio hired people off the street and tried to train them to cook like he did. Antonio had to standardize and simplify his recipes to make training easier. Of course, the trainees did not love to cook as much as Antonio, so the quality of the food dropped a bit. As a result, the new restaurants were not as successful as the old ones.

Antonio’s friends started to get angry. They had loaned him money to build those restaurants and they wanted to start getting a return on their investment. The new restaurants were not busy enough to create the profits to repay the loans. Therefore, the chef decided that if he could not create profits with large sales, he would create profits by cutting costs.

Antonio hired professional ingredient buyers assigned with the task of buying his ingredients at a lower cost. Since these buyers weren’t chefs, they started buying some lower quality ingredients, including some canned and frozen items. The buyers convinced Antonio that most of the ingredients were still fresh, so this would probably not change the taste very much, while making the meals less expensive to prepare.

In order to get the food to have greater consistency and to save even more money, Antonio started a huge central kitchen to make the food in large batches, which he then kept under warmers and quickly shipped to his nearby restaurants. He convinced himself that this did not hurt the taste all that much. At least it was not frozen and thawed like the big chain restaurant.

Even though none of the individual acts to save money and create efficiencies hurt the taste of the food all that much, the combined effect of all of these actions meaningfully hurt the taste of the food. Suddenly young, great chefs were building individual small restaurants next to Antonio’s restaurants, creating food with love from scratch, using only fresh ingredients. Customers started leaving Antonio’s chain of restaurants in droves to eat at the new restaurants. Eventually, Antonio had to declare bankruptcy. Without realizing it, Antonio had become just like the big chain he hated.
Mary was a great young fashion designer. She created a small line of innovative clothing that caught on and became popular with the trend-setters and movie stars. This made Mary famous. Suddenly, it seemed like everyone who wore fashionable clothing wanted to wear clothing made by Mary.

To capitalize on her success, Mary decided to become a publicly traded corporation. Things were going fine, until the shareholders started demanding faster growth. These shareholders were not fashion experts, but just investors who wanted a great return on their investment. To please the demands of the shareholders, Mary expanded her line of clothing beyond high-end trend-setting designs to include some clothing to appeal to a broader audience. Now, instead of only being able to find her clothes at exclusive designer shops, you could find her apparel in the nicer department stores. At first, this move was a success, since more people could get access to the great fashion image associated with clothes made by Mary.

Now, the shareholders wanted even more growth. Mary could no longer personally design enough clothing to meet the demand for growth, so she hired lesser designers to work for her. Mary could no longer personally supervise the manufacturing of all the clothing, so she brought in a professional manager who moved production to a remote portion of China where the quality might not be as good, but the costs were cheaper.

After awhile, Mary’s clothing became so popular that the trend-setters and movie stars no longer wanted to wear them. Her clothing was not “exclusive” enough for them. Instead, they started wearing clothing designed by Margot, a new young fashion designer with a small line of innovative clothing. When the trend-setters and movie stars stopped wearing Mary’s clothes, they became less desirable to the rest of the fashion shoppers who were emulating the trend-setters. Now they all wanted clothes made by Margot.

As a result, Mary had a large inventory of clothing and fewer people to buy them. As a last resort, the professional manager started selling her clothes to discount stores. For the first season, that decision looked great, because discount stores can sell a lot of clothes. Mary’s accountants thought they were fashion geniuses. However, once word got out that “anybody” could wear Mary’s clothes, the fashion image associated with her brand disappeared, as did all of the customer and she eventually went bankrupt.

The Analogy
Virtually all businesses are faced with demands for growth. In many places, the pressures to grow are quite extreme. How to grow successfully becomes one of the major objectives of strategic planning. Antonio and Mary tried to grow their businesses, but were unsuccessful. The reason they were unsuccessful was because the pressures to grow and increase profits forced them to make decisions that compromised the very reason that they were successful in the first place.

Antonio’s early success had to do with the special way he prepared his food. This was his competitive edge. As he grew, Antonio’s food became less special, until he no longer had a competitive edge. The same was true with Mary. Her early success had to do with her exclusive, high-fashion, trendy image. The choices Mary made to grow caused her to lose that image. Once she lost her competitive edge, Mary’s company had no reason for existing.

Over the years, I have seen countless companies fall into the same trap as Antonio and Mary. In an attempt to grow, they forget what made them successful in the first place. In the name of volume and efficiencies, they start to make compromises. These compromises change the formerly successful business model until the business model no longer works. Rather than growing the company, they end up killing the company.

The Principle
The key lesson here is to make sure you truly understand what has caused your success in the past before you start to rapidly grow. Otherwise, you will end up losing the secret of your success in the growth process.

This is difficult to do, because the very process of converting from a small company to a large one tends to destroy the uniqueness that caused success in the first place. If your original success was based on a unique skill or competency, like it was for Antonio, it may be impossible to replicate it over a large company, where rules, regulations and standardizations kill off the creative spark behind the unique skill. If your original success was based on a special image of exclusivity, like it was for Mary, it may be impossible to replicate it over a large company, where the demands for larger sales and broader distribution kill the very exclusivity the brand was founded on.

In the conversion from being a small company to being a large company, many changes naturally tend to occur:

• Risk-taking entrepreneurs, who are deeply emotionally attached to their company, are replaced with professional managers who are more conservative and less emotionally attached to the company (and may come and go every couple of years).

• Ad-hoc and flexible decision-making is replaced with formalized, standardized rules and burdensome bureaucracies.

• Generalists, who have an intuitive sense for the entire business are replaced with specialists, who know their particular discipline well but may not understand how everything in the business model fit together.

• Having daily direct contact between top management and the customer is replaced by putting layers of middle management in between the leaders and the customers.

• Art is replaced with science. Bold actions are replaced with incremental micro-management and cost control.

Any one of these actions could serve to destroy that which made the small company great. This is not to say that the practices of large companies are inherently bad. Some additional levels of structure and order are needed to control the chaos that comes with being large. However, placing too much big business structure too quickly on a small business may kill the growth you were trying to build.

Rather than always trying to convert a small company into a large company, there is the option of converting a single small company into a number of small companies. In terms of sheer weight, a giant weighs as much as an entire family of small people. However, a big, lumbering giant may not be able to accomplish as much as a flexible family with many more hands. Replicating as much smallness as you can may be less efficient, but it is often more effective than trying to make something small into something big.

For example, in the restaurant business, there is Rich Melman and his company Lettuce Entertain You Enterprises. He operates approximately 56 restaurants, mostly in either Chicago, Minneapolis, Las Vegas, DC, and Phoenix. But instead of building one giant chain, his restaurants operate under 31 different names—each name being a distinctively different format, be it Italian, Asian, Seafood, Steak, or a number of other creative restaurant formats. His restaurants run the gamut from very haute cuisine to everyday sandwich shops. By keeping the number of restaurants in any given style or brand few, he keeps them from getting too large and institutionalized. At the same time, this has not stopped his creativity or his ability to grow. Instead of growing one big chain, he has grown small many times over. Perhaps this is what Antonio should have done.

In spite of having sales of over $300 million, his corporate staff is quite small—only 70 people. Rich Melman has not forgotten what made him great when his business was much smaller. To quote Melman,

“We're a very disciplined organization. We run restaurants well. People think of us as creative--and I do believe we possess creativity--but more importantly, we play good solid ball. Our costs are good. We surround ourselves with good people and we train them well...not a lot of fancy stuff, just the basics. And, we work very hard. We've had the ability to give people what they want almost before they know they want it. You can call it trendsetting. I prefer to call it the ability to listen to people."

I’m proud that my son works for that organization.

One of the biggest issues facing companies is growth. Therefore, one of the major concerns of strategic planning is looking for the most effective ways to grow a company. This is a difficult assignment, because many of the factors associated with building a large company or large business unit inherently work to destroy the uniqueness that made the smaller unit a success in the first place.

Rather than always trying to force a promising small business into a traditional large model as fast as possible, an alternative approach is to try to find ways to replicate the one small pocket of success into many small pockets of success. Instead of trying to become big, become small many times over.

Final Thoughts
Groucho Marx once said that he would never join a country club that would have such low standards as to invite him to belong. Regarding restaurants, Yogi Berra once said, “Nobody goes to that restaurant anymore. It’s too crowded.”

Sometimes inviting too many people to the business venture is a bad thing—be that too many customers or too many professional business employees. Building a string of small, nimble and exclusive businesses may be better than a single business where everyone is invited, but nobody wants to show up.

Tuesday, March 13, 2007

Keep an Eye on the Ball

As I said in an earlier blog, I know a lot of Vince Lombardi stories after having lived in Green Bay for 10 years. Vince Lombardi was a firm believer in discipline and in mastering the fundamental basics of football. He used to say that his definition of a great football team is one which executes the fundamentals so flawlessly that even if the opposition knows exactly what play you are going to run, they cannot stop you.

There was a time when one of his teams did not seem to share in Lombardi’s passion for mastering the fundamentals. After a particularly bad game in which the team did a poor job of executing the basics, Vince Lombardi decided that the team needed to relearn the fundamentals of the game. Therefore, he ordered everyone to show up the next day for a lecture and practice session in the fundamentals of football.

The next day, Vince Lombardi gathered the team around him so that he could lecture them. He started off by placing his hand up in the air so that everyone could see what he was holding. Then he started his lecture by saying, “For those of you that don’t know it, this, my friends, is a football.”

Just as great football teams continuously spend time mastering the basic fundamentals of the game, so must businesses. Basic fundamentals like pleasing the customer and following through when others are depending on you never go out of style. Sometimes, however, we can get so caught up in the razzle-dazzle of our strategy that we can forget to execute on the basic fundamentals of business. Just having a great strategy is not enough. You have to deliver what the strategy promises every single day.

Sometimes a football player can get so caught up in doing their little part that they can forget the big picture and lose site of where the football is. At the end of the day, if you don’t know where the football is, you cannot win games. The team needs to keep their eyes on the ball.

The same is true for businesses. You need to keep an eye focused on the basic fundamentals of your business in order to win.

In yesterday’s blog I made reference to the need for balance between personalization and standardization. Then we talked about the importance of personalizing your strategy around your unique capabilities. Today we will talk about the other half of that balance—the need to get the standard fundamentals of business executed properly.

I can best illustrate this principle with another story. I know a retired professor who used to hold the Kresge Chair of Retailing at the University of Michigan School of Business. Because of his position in holding the Kresge Chair of Retailing, he got to spend time over the years with the executives at K Mart.

Back in the late 1980s and early 1990s, K Mart was run by a gentleman by the name of Joseph Antonini. Joseph Antonini was a smart fellow who understood what was going on at K Mart and developed a pretty good strategy for the situation. At the time, K Mart was still very profitable and creating lots of cash flow. But Antonini knew that as more Wal-Marts invaded K Mart turf, that cash flow would eventually start to vaporize. Therefore, he devised a two-step plan.

1) First, put a little money back into the K Mart stores to freshen up the image, so that they would continue to put out cash for a little longer length of time.

2) Take the remaining money and invest in a portfolio of all of the new and exciting growth retailers who were building various kinds of specialty superstores. Antonini was busy on this front. Some of his diversifications included:

- Builders Square Home Improvement Centers (like Home Depot)
- Pace Membership Warehouse (like Costco)
- Borders Books (like Barnes and Noble)
- Sports Authority (Sporting Goods Superstore)
- PayLess Drugs (Drug Store Superstore)
- K Mart Supercenters (like Wal-Mart supercenters)

The rationale behind the strategy was that about the time K Mart would stop being a cash cow, these other formats would be strong and take their place. Antonini saw real estate development as one of K Mart’s core competencies, so he figured he could quickly grow these concepts into large chains and end up with a strong a portfolio of the next great retail concepts.

In theory, the strategy sounded fine. In reality, it was a disaster. The diversifications languished under K Mart management, and the refurbishment of the K Mart stores was executed poorly.

Eventually, Antonini confided to my professor friend that he had no problems coming up with great strategies, but he couldn’t find anyone in the K Mart organization competent enough to bring them to life. In other words, the strategies were fine, but the organization was inept at the basic execution of retail fundamentals. Without attention to the basic details of running a strong business, the strategy died a horrible death.

Was Antonini wrong in his vision of a small refurbishment program for K Mart? Well, he was correct in assessing the fact that Wal-Mart would eventually strangle K Mart’s cash flow. He was correct in not betting it all on a costly remake of the chain, for K Mart would never outlast Wal-Mart. But putting a little money in to provide a little more payback for the diversification sounded sensible.

Was Antonini wrong in his diversification vision? Well, other companies made a fortune building chains in the same formats he diversified into. Home Depot and Lowes are huge successes in home improvement centers. Barnes & Nobel is doing well, and so is Borders, once it was freed from K Mart management. There are successful sports superstores out there as well. So Antonini was not wrong in seeing the potential in these formats.

What killed K Mart was the fact that it was out of balance. It had found the “right” strategy, unique for its position and real estate skill set. However, it had failed miserably on developing the standardized tools for successful execution of retail formats. K Mart had taken its eyes off the ball and could no longer execute the fundamentals.

There were rumors that K Mart had gotten fat and lazy during its glory years of the 1960s and 1970s and had forgotten how to be a lean, mean retail fighting machine. It had fallen into the trap of believing that just because it built stores in the right format, that it would automatically be successful. No, you still have to excel in the fundamentals, every day. Just “showing up” is not good enough. You have to be ready to play at a high level.

This principle is true in football and true for businesses as well. Just because a team won the Superbowl last year does not mean that they “have arrived” and can slack off the following year. The basic execution of blocking and tackling that Lombardi stressed in the 1960s is still important today. You can never get sloppy on these fundamentals and stay on top.

Now some people make the mistake in believing that because getting the fundamentals right is so important, that the only thing they concentrate on is getting the fundamentals right. Doing so gets you just as out of balance as what happened to K Mart, only in a different way. The problem is that situations change. Consumers change, technology changes, economies change, government regulations change, competition changes, and so on. Eventually enough change occurs in the environment that a once successful strategy will no longer be appropriate.

ALL STRATEGIES EVENTUALLY FAIL. If you do not modify your strategy and adapt to the changes, YOU will eventually fail. You may have perfected the execution of your particular strategy, but if the strategy becomes obsolete, it really doesn’t matter. That is why you need a balance between getting the basics right (standardization) and modifying your strategy so that your capabilities are uniquely in tune with an important part of the changing realities (personalization).

So to be successful, it helps to keep one eye on the ball of the game you are currently playing (as referenced in today’s blog) and one eye looking in your refrigerator to see what new dish you can create for the next strategic challenge (yesterday’s blog topic).

A “great” strategy poorly executed is really not a very good strategy at all. The business world is too competitive. Someone else will adopt a similar strategy and out-execute your business, leaving you at a loss. Getting the big picture strategy right is only part of the goal. You still have to do the little details well.

At the same time, just doing the little details well is not good enough either. There needs to be an ever evolving big picture strategy to ensure that you are excelling at things that are still relevant in the marketplace.

When a person loses their balance, they tend to fall down. When a company loses its balance, it can also fall down…and it probably won’t be a gentle landing.