Wednesday, February 18, 2009

Strategic Planning Analogy #241: Aging Athletes

Some athletes just don’t know when to quit. They may be old, fat, out of shape, and well past their prime, but they still try to compete.

It can be painful to watch. You remember them when they were in their prime. You hate to see them end their careers in such humiliation.

Athletes don’t stay young forever. Eventually, time catches up with them, robbing them of their great athletic skills.

The same thing happens in business lifecycles. Growth businesses eventually mature and then go into decline. Unfortunately, some companies act like these pitiful athletes and continue to pretend they are growth companies, even though the days of great growth are well behind them.

It can be painful to watch. Every year they throw tons of money at the business to grow it (just like in the good old days), but the growth doesn’t happen like before. The glory growth days are history.

At a certain point, athletes need to realize when their time is up and they are no longer able to compete. Similarly, companies need to realize when their business has reached maturity and is no longer a rapid growth concept.

Knowing when it is time to move on is a key part of strategic planning.

The principle here is about managing maturity. Don’t let it sneak up on you and surprise you. Plan it out in advance. There are three key elements to understand when managing for the shift from growth to maturity.

1. Avoid the Demon of Denial
One of the worst things you can do is live in denial and act as if your business model will be in rapid growth forever. You may end up being like the washed up athlete who still thinks he or she is in prime athletic form, but is now just a laughing stock.

When in denial, one can be pouring in capital to grow a business which no longer can justify that action. You end up destroying value, because there is no longer enough growth to justify the extra investment.

Starbucks for years kept building new cafes at breakneck speed, as if unlimited growth would go on forever. It doesn’t. First, there is limited capacity for these cafes. Second, if a business is doing well, there will be imitators who will start absorbing some of that capacity, as McDonalds is now doing in coffee.

Eventually, all those new Starbucks stores were merely stealing sales from other Starbucks already in place, which by the way were losing sales to McDonalds. The rapid growth phase was over. Now Starbucks is forced to admit that these latter stores were poor investments which needed to be closed. It would have been better if those stores had not been built. In a similar situation, Wal-Mart eventually got the message and ramped back expansion in the US., because the rapid growth phase was over. Profits and share prices responded positively.

Another problem with denial is that one can start looking for blame in the wrong places. Rather than admitting that problems are due to an obsolete business model designed for rapid growth which no longer exists, one looks elsewhere for blame. This leads to making the wrong decisions, which do not correct the core problem. You cannot fix the real problem (end of rapid growth) unless one first admits that the real problem exists.

2. Avoid the Doom of Diversification
Sometimes, people look to solve the problem of slowing growth through diversification. In other words, if one business is slowing down, add another business to the mix that is just starting its rapid growth. The logic is simple: if you want rapid growth, just buy your way into rapid growth via diversification into places where rapid growth potential still exists.

Although this sometimes works, it often leads to disaster. The problem is that mature companies and young startup companies require a different type of infrastructure and management style. If you try to mesh mature and startup companies under the same infrastructure and culture, you often end up sub-optimizing both of them.

I’ve seen this scenario play out in companies with disastrous results. Either potential outcome ends up bad. First, you can try to optimize synergies between the mature and the young by unsuccessfully meshing them together as much as possible. Neither gets the structure and style they need and both suffer. The other alternative is to keep them entirely separate and build a new “holding company” infrastructure on top. At this point, one wonders if you have added any value through diversification, since there are virtually no synergies and you have added a new layer of infrastructure which didn’t exist before.

Perhaps a better model is that of the “serial start-up” kings of the dotcom space. These entrepreneurs would start up a company. Once the company migrated to the next level, they would sell it off and then go start up another new company. This way they specialized in the start-up infrastructure/culture and did not need to mesh companies at different stages together.

3. Properly Manage the Switch
So perhaps the best way to manage the transition to maturity is through a switch. Either:

a) “Switch the strategy” to one which optimizes mature businesses; or

b) “Switch the Portfolio” by Selling/Spinning off the mature business and replacing it with something which better matches a rapid growth culture.

A good example of the switching the strategy Fuller Brush. When it became apparent that the door-to-door sales model of Fuller Brush was in decline, management totally revamped the strategy to optimize profits in a decline. The revamped strategy worked so well that Fuller Brush was able to throw off cash for a far longer period than originally envisioned.

Maturity can be a profitable time, because you start reaping the rewards of prior investments, without having to put a lot more investments back in. But to get those profits, you have to manage the business as mature, not rapid growth.

Some examples of firms who switched the portfolio are:

a) GE, which continually sells off mature businesses and adds growing businesses to the portfolio. As a result, it has moved from heavy industrial businesses to finance and entertainment businesses and now is moving to environmental/infrastructure businesses.

b) P&G, which moved out of mature food businesses and invested in growing health care and beauty businesses. In 1995, food was about 12% of the P&G portfolio. Now it is down to just Pringles snacks, which is around 2% of its business. During that same time, Health and Beauty has gone from about 29% of its sales to 51%. And even in their more mature product categories of paper and cleaning products, P&G uses innovation to find growth sub-sectors, like with Dryel and Febreeze.

c) Cardinal Foods saw the coming decline of food wholesaling, so it sold off its food distribution business and replaced it with faster growing health care distribution and other health businesses, eventually becoming Cardinal Health.

The secret here is to get the timing right. If you wait too long to make the switch, then it is hard to effectively get out of the old businesses. GM has waited too long to get out the Hummer division and cannot find suitable buyers. P&G got out of many food categories early, when there were still people clamoring to buy the brands at a good price.

Just as we like to see athletes retire when they are still on top, it is good to make the portfolio switch when the old brands still have strength.

Just like the inevitability of death and taxes, all rapid growth businesses eventually mature. It is better to have a strategy which proactively manages this inevitability than to live in denial.

Just because a business model stops growing does not mean that a company has to stop growing. You just need to change the business model. And that’s the value of strategic planning…knowing how to change to the right model at the right time.

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