Friday, May 22, 2009

Strategic Planning Analogy #259: Quant Jocks

The term “Quant Jock” refers to people who earn their living by being excessively good at developing complex analytics via the computer. Quant Jocks have been an integral part of the Wall Street financial community for years. However, in the past year or two, their reputation for financial wizardry has become a bit tarnished.

First, it was the quant jocks who helped develop all of those sophisticated repackaged mortgage bundles, which nobody really understood and which were a major factor behind the recent housing crisis. Second, it was the quant jocks who developed sophisticated computerized stock trading programs. These sophisticated stock trading programs helped to increase the negative impact of stock melt-down in the fall of 2008.

The irony is that the quant jocks had claimed that all of their sophistication would help to reduce downside risk. Instead, it now appears that their models actually increase risk, particularly if events fall outside the programmer’s narrow assumption parameters (which inevitably will happen).

There are many similarities in the goals of Wall Street and of business strategists. Both are trying to find a way to optimize the blend between profitability and risk. The goal is to create as much profitability as possible within a particular risk tolerance.

For years, Wall Street has used a lot of quant jocks in the attempt to achieve that goal. Now, we are seeing more and more of that complex analytical approach being applied to strategic planning’s goals. Planning techniques like Scenario Planning and Real Options seem to be falling under the influence of quant jocks.

At its worst, overly-quantified scenario planning can become similar to those mortgage-backed securities which helped bring down the housing market (if the quant jocks are allowed to go wild). You bundle up all these scenarios into one massive computer program and come out with some sort of bundled scenario risk formula that doesn’t quite match any particular scenario. This makes it hard to know what to do.

The same can happen to a Real Options approach to minimizing risk—lots of math leading to conclusions that tend to mask what is actually going on in a strategy. If the parameters are in the assumptions are off by too much, they whole thing can collapse.

It’s not that math or analytics are bad per se. Scenario planning and real options can be valuable tools. The knowledge and insight coming from rigorous analysis can be useful—on Wall Street and in strategy. But taken too far, analytics can obscure your view. Instead of knowledge and insight, there are incomprehensibles and too much blind faith in the cold, unthinking calculations of formulas inside a black box. And, as we saw in the story, rather than reducing risk, it can lead to increasing risk—and creating melt-downs. Is this what you want for your strategy?

The principle here is that strategies need to be far more than just numbers and formulas. In fact, an excess of “quant jock” thinking can actually increase the risk of failure for your strategy. The logic behind this point of view are as follows:

1. Continuity Vs. Discontinuity
Quant jocks tend to live in a world of continuity. The idea is that the world operates by a set of rules. The role of the quant jock is to model those rules and optimize the nuances for the benefit of the company.

By contrast, good strategists tend to focus on discontinuities. Nearly all great strategic moves are done in a way that totally destroys the rules of the status quo. For example, the great success of the Ipod comes from more than just the creation of a device. It was a reinvention of the rules for the entire industry—of how music was sold (itunes), organized and listened to.

The same was true for the iphone—creating an entirely new apps-based business model. Amazon was not just another outlet for selling books—it was a new way to think about shopping, with lots of new tools and information to create a wholly different shopping experience.

As we saw with the housing crisis and the stock market melt-down, the quant jock systems failed miserably when there was great discontinuity. They weren’t built for such rapid change. I fear the same is true in the strategic world.

Rules-based models don’t help you discover a new set of rules, nor do they tell you how to react when the old rules no longer apply. Rather than overanalyzing the world of today, strategists should be dreaming of how to destroy the world of today for their benefit.

Instead of modeling the world as it is, we should model potential new realities. Yes, there is still some analytics involved, but the analytics are only as good as the dreams being analyzed. Great dreams are more important than great analytics, because the dreams are what create the new business models to be analyzed. Analytics without these dreams is just random noise.

2. Beating the System Vs. Being the System
In the stock market, the goal of the quant jock is to find little holes in the rules, so as to beat the system on very narrow deviations. Unfortunately, what happened was that a large number of firms adopted these models and started trying to beat the system in pretty much the same way.

When that happens, you are no longer beating the system. Instead, you become the system. The herd mentality caused so much trading to be done in this similar analytical manner, it became harder to make the models work (too many people chasing too few holes). Then, when the market fell apart in the fall of 2008, the models all worked in unison to force prices down further and faster.

A similar situation occurs in strategy. “Me Too” strategies, where you try to copy the leader, rarely lead to great riches. The leader usually stays the leader and you fight over the few crumbs left behind.

If the herd mentality takes over and everyone tries to win in the same way, it tends to commoditize the business. This usually leads to price wars, where the prices drop just like those stocks did (and so will your profits).

Analytics by nature tend to mimic others, because they are trying to model the world that exists. Quant jocks may come up with original ways to push around the math, but they rarely come up with original new strategic options. If you truly want to beat the system, you need to create a new position, working under a new set of rules—a place where you can be the leader and the rules work in your favor. Brainstorming, not whirring computers and complex spreadsheets, are the priority.

3. Creating Vs. Measuring
Quant jocks like to measure things. The problem is that when you are creating a brand new business model in a brand new space operating under a brand new set of rules, there isn’t much to measure beforehand.

If you wait until the market is fully developed, so that you have more to measure, it is usually too late. The market leaders have already established themselves and the rules are already working in their favor. The game is over.

Apple succeeds by blazing new trails, doing new things—be it the Ipod/Itunes model, the Iphone/Apps model or the Apple Store model. It doesn’t wait until the market is fully developed and measurable. It takes calculated risks. Sure, calculated risks are still calculated, but the strategy is not put on hold until perfect information is available.

Sometimes, a little consumer research can help. But even here, if the concept is too radical, the customers may not at first be able to internalize how they would behave in that new world, thereby making the results unreliable. Small beta tests may be better than analytical modeling.

Well, if the new world is not yet available to measure, we can always still measure the current model, right? Unfortunately, overemphasis on measuring the business model you are trying to destroy usually will not tell you the best way to destroy it. That’s a lot of effort for questionable reward.

Strategy is primarily a creative act—building a new business model that did not exist before. A “quant jock” mentality/focus typically is not the path to get there. Instead, it tends to keep one mired in the past. Sure, a little analytics can help fine-tune the creative idea, but it won’t develop it. Therefore, rather than obsessing on analytics, obsess on creative model building and then use analytics as a secondary support mechanism.

Sir Isaac Newton did not discover gravity through analytics. It was a creative burst prompted by watching apples fall from trees. The analytics came later. Strategists should probably spend more time pondering things like falling apples and less time pouring over computer printouts.

Sunday, May 17, 2009

Strategic Planning Analogy #258: Just Add Milk

When my children were small, they were very fussy eaters. One of the few things they liked to eat was macaroni and cheese from a box. We tried pretty much every brand available in order to find the type of macaroni and cheese they would like the most.

To me, all the brands looked about the same. The boxes were the same size. The macaroni inside was about the same size and the same amount. The powdered cheese packets were the same size and looked about the same. From my perspective, the only difference between the brands was the picture on the outside of the box.

However, there was one brand that was a little bit creamier and a little bit tastier. I wanted to know why. As it turns out, on every other brand, the instructions called for adding one-quarter cup milk to the powder. However, on the brand that tasted a little bit creamier, the instructions called for one-third cup of milk.

In other words, the only reason why that one brand was creamier was because I added more milk to it. I was the one making it creamier, not the manufacturer. After that, I bought whichever brand was on sale and just added extra milk. That made my children happy, so I was happy.

Just as I was trying to make my children happy, businesses try to make their customers happy. And sometimes, those customers can be rather fussy, just as my children were.

To win over a fussy customer, one has to devise a strategy which provides a superior overall product versus the competition.

There are lots of ways to add value to your offering. Unfortunately, it usually costs a company more to provide that extra value, thereby lowering profits. However, what was fascinating to me about the macaroni and cheese was that the one brand found a way to provide superior taste without increasing its costs or its prices. Instead, it indirectly increased the costs of me, the customer, who had to add additional milk (at my expense).

It wasn’t a big extra cost to me (one-twelfth of a cup of milk), so I didn’t mind. But it allowed their brand to claim a superior attribute on “creamy” and appear to be the superior brand even though their contribution to the meal was essentially identical to the competition.

When devising a strategy, then, consider the example of this macaroni and cheese brand, which created superiority by getting someone else to add the extra value.


The Importance of Trade-offs
Michael Porter, one of the foremost authorities on business strategy, likes to talk about how important trade-offs are to strategy. In fact, he believes that determining your trade-offs is one of the most critical strategic decisions one has to make.

The idea is that a company typically does not have enough internal resources to be the best at everything. Therefore they have to make a choice as to what narrower area they can be best at. Then, to create superiority in that area, you pile up your resources in that area, putting far less somewhere else. The big decision is the trade-off—where will you trade away strength, so that you can be even stronger somewhere else.

Even if you do have a lot of resources, there are constraints which can make it difficult to attain superiority in all areas. For example, it is pretty much impossible to create a bicycle that is simultaneously the fastest, the sturdiest and the cheapest. Fast bicycles tend to cut back on sturdiness in order to reduce weight. Or, if you want to get both light and sturdy, one has to use very expensive metal alloys which prevent one from being the cheapest.

Therefore, if you try for all three attributes in the same bicycle (fast, sturdy, cheap), you will probably not be the best in the market on any of them. It is better to focus on one of the three and then make trade-offs on the other two. That way, you are at least superior in something and can target your bicycle to the people who value that tradeoff the most.

Trade-offs Do Not Necessarily Have to Be Entirely Internal
The principle of this blog, however, is that these trade-offs do not necessarily have to be entirely internal. Sometimes, one can get others to make the trade-off on your behalf.

As we saw in the story, the macaroni and cheese brand got me, the customer, to make the trade-off for them. I sacrificed more milk in order to make their product creamier. This was great for the manufacturer, because they got a superior product without adding costs to their product. I was the one who added the value at my expense.

There are lots of ways to get your customer to make the trade-offs and add the value for you. For example, Home Depot knows that not everyone drives a vehicle that has the capacity to haul all those big and bulky products home. Therefore, Home Depot offers the use of a Home Depot pickup truck in order to get your products home. This is an added value that the little hardware store cannot offer. The trick is that they get you, the customer, to pay for that value. You have to rent the truck.

What a deal for Home Depot! They get to add value by adding a beneficial service (the pickup truck). But at the same time, they get you to pay for the value (another profit center for Home Depot). Better yet, now that you can haul more stuff home, you are more likely to buy more stuff, thereby increasing sales. Added value and added profits for Home Depot without Home Depot having to trade away anything.

Or how about those warehouse clubs, like Costco. These firms add value by having the lowest prices. How are they able to achieve the value of the lowest prices? It is by charging the customers annual membership fees. About three-fourths of a club’s profits come from those membership fees. In other words, the clubs get the members to make the sacrifice for the trade-off which creates the lower prices by having them pay the membership fee.

Better yet, Costco gets the profits up front, by charging the membership fee in advance. And the profits are guaranteed, and are not dependent upon how much the customer later purchases. And finally, since the member wants to get the most benefit from that membership fee, they feel obligated to spend more at Costco throughout the year, creating even more profits. That’s a pretty good deal for Costco, considering that the customer made the sacrifice trade-off for them.

In the first half of the 20th century, grocers would have all of the product behind a counter. Customers would go up to the counter and tell the grocer what they wanted and the grocer would collect it for them. Then, a fellow named Cullen got the idea for the supermarket, which offered prices a whole lot cheaper than the grocer. Part of the trade-off to get there was to give the customers shopping carts and to have them do the labor of selecting the products off the shelf themselves. Again, the customer took on some of the trade-off to fund the lower prices.

Don’t Forget the Others
Customers are not the only ones you can use to absorb some of your trade-off. The auto industry has shown us that sometimes you can get your suppliers to pay the price for your trade-offs through all sorts of concessions (although we have lately seen there are limits to how much they can bear). The airlines industry in the past has achieved trade-offs at the expense of their employees, by having pilots take a big pay cut. In the dot-com world, advertisers are often used to bear trade-off expenses so that a greater value can be given to the customer.

If you get creative, you can probably find lots of ways to adjust your strategy so that the burden of trade-offs are shared with others in the supply chain.

Although trade-offs are an essential part of strategy, it is not a foregone conclusion that your firm has to carry the full burden of those trade-offs on its own. Sometimes you can get external partners, like customers, suppliers and employees to pick up some of the burden. By passing off some of the burden, you can afford to provide a superior value with less pressure on profit margins.

Perhaps, instead of calling it a “trade-off,” we should refer to it as a “trade-to.” In other words, instead of always looking at what we can eliminate, we should look to who we can pass the burden off to.

Friday, May 15, 2009

Strategic Planning Analogy #257: Dated Thinking

The dating process has always seemed a bit odd to me. In many cases, people are dating in order to find the person that they want to spend the rest of their life with, someone compatible with their lifestyle. Yet, when these people are on a date, they are acting differently than their normal lifestyle.

For example, they may be a slob, but they dress up and clean up their place for a date, something they would not otherwise do. They may drink the cheap beer when alone, but consume the good stuff on a date. They may love to spend their evenings watching TV, but endure the theater and museums on a date.

How are you supposed to find someone compatible with your lifestyle, if you never live your normal lifestyle in their presence? It makes me wonder how many businesses would go bankrupt if people stopped acting differently on dates. And it does not surprise me that many are disappointed after getting married, because their new spouse stops the unusual activity from the dating and go back to their “normal” ways.

I am reminded of a story I heard from my high school guidance counselor. He said there was a woman who didn’t want the man she was dating to know she was wearing braces, so before her dates she would yank out her braces. After the date, she would push them back in. Ouch!!

Dating is an occasion where people can act differently from “normal.” As it turns out, it is not the only one. It could be time of the day—like drinking coffee in the morning, but never in the evening, for example. It could be time of the month—depending on how close it is to when you last got paid. Behavior can change between when you are with your friends at home versus with your boss at work.

As it turns out, there typically really isn’t a “normal” way of life for a particular individual. The behavior changes based on the occasion. Each occasion creates its own type of normalcy. It is as if we take on a different role depending on the particular occasion. I may have my “Dating” role, my “Being at Work” role, my “Being a Parent” role, my “Being with Friends Role,” and so on.

There is actually more consistency in behavior based on a particular occasion/role than there is in the total life of an individual. For example, behavior on a date may be different than behavior when not on a date, but the behavior when dating is relatively consistent whenever the dating occasion comes up.

Therefore, when creating a strategy, it is better to target the relatively consistent needs for a particular occasion than to target inconsistently-acting individuals.

The idea here is that strategies focused on occasion-based solutions tend to be more effective than strategies which target individuals. Individuals slip in and out of roles depending on the occasion. Their needs and desires change based on the occasion. If you try to target one individual all the time, your appeal will have varying degrees of success, depending on which role the individual is playing at a particular time.

As a result, even though there is much talk these days about being customer-centric, real success comes from being solution-centric.

Restaurant Example
For example, let’s look at how an individual, let’s call him “Bob,” uses restaurants. When Bob is on a date, he may be looking for a restaurant that is romantic, that would impress his date. When Bob wants a meal to eat while working late at the office, he may be looking for convenience, low price, and delivery services.

If Bob is having an important business dinner, he may want someplace which is quiet, where they don’t mind if you linger, and shows off his financial strength (i.e., expensive and snooty). When eating out with his children, he may want a restaurant that is moderately priced and kid-friendly. If Bob wants a meal when alone at home, he might skip the restaurant altogether and just nuke something in the microwave.

As a restaurant owner, what would be the best restaurant approach if the strategy is to target Bob? The restaurant would need to be romantic, quiet, kid-friendly, snooty, expensive, cheap, moderate, quick, lingering, and sells things to take home and microwave. Good luck on that one.

There is no single ideal restaurant strategy to target at Bob, because Bob’s needs and desires change based on the occasion. He wants a different type of restaurant for each occasion. If you try to create one restaurant appropriate for all of those occasions, it will not be able to be the best at any particular occasion. The irony is that a single restaurant specifically designed to meet all the restaurant needs of Bob would most likely be a restaurant Bob would hate to visit, because it would never be the best option for any of his occasions/roles.

A better restaurant alternative would be to stop targeting particular people and instead start targeting a particular occasion, like being the ideal restaurant for dating. That way, when Bob is going on a date, your restaurant will be the best choice for that occasion. It doesn’t matter that Bob would never choose you for his other roles, because you are no longer targeting Bob. You are targeting anyone who is looking for the ideal dating restaurant at a particular moment. If there are enough people drifting into the role of looking for a dating restaurant solution, then you don’t have to worry about missing the other occasions.

By choosing a particular occasion, you can focus on being the best at delivering the attributes most important to that occasion. You can downplay attributes less important so that you can afford to do a better job on the ones which are important to the occasion. For example, a dating restaurant could afford to do a more effective job of being romantic, because it does not have to worry about also trying to be kid-friendly. Your brand is strengthened, because it stands for something—the best choice for a particular occasion.

Other Businesses
This principle does not just apply to consumer activities, like eating out. This also can work in pretty much any business, including industrial businesses. For example, a steel supplier could focus any one of a number of occasions:

a) When you need a problem solved in a hurry/emergencies;
b) When you need highly customized and unique solutions;
c) When you need basic commodities;
d) When you are having cash flow challenges;
e) When your project is in a particular area, like the Middle East.

By focusing on one of these occasions, the steel supplier may not get all of the total business from Bob’s Construction Company, but they have a better shot at getting all the business from Bob’s Construction Company when it falls into that particular occasion.

Portfolio of Brands
If you want to satisfy more than one occasion, it is usually better to do so under multiple brands, with each brand owning a different occasion segment. That way, each brand can specialize and own that occasion in the mind of the customer. The individual brands stay pure and don’t get diluted by trying to stand for too many things.

For example, the Lettuce Entertain You Group operates 38 separate restaurant brands. Each brand has its own name and specializes in something different. There are brands for formal occasions, casual occasions, convenience occasions, and so on. Each brand is well known in its location for its occasion segment. And none of the customers really know about or care about the parent company name.

By contrast, the Chevrolet brand is slapped on cars meeting all sorts of different needs, from economy (Aveo) to sports car prestige (Corvette). For many of the cars in the Chevrolet lineup, I’m not sure I even know what need they are trying to solve (Cobalt?). Blandness and lack of brand focus is not a path to success.

Successful strategies are usually based on being the best at solving some sort of problem for the customer. Consequently, even though there is a lot of talk these days about being customer-centric, real success comes from being solution-centric (or occasion centric). By focusing on a solution/occasion, one can become the best at the attributes most important to that occasion. The same cannot be said of a consumer focus, since consumers tend to drift in and out of problems, depending on the situation of the moment. There is no single strategy that is right for a consumer under all the different situations they encounter, and to try to meet them all under one brand can be a disaster.

Eventually, people like Bob may settle down, get married, and no longer be a part of the dating scene. Life-stage changing events like these can drastically change what someone like Bob is looking for. Therefore, trying to follow Bob through his life changes can be difficult, because it would require you to make drastic changes over time (for which you may not be capable of being the best at) and which might confuse the brand. It is probably better to stick to being known as the best dating restaurant, abandon Bob, and get the next generation of daters. For more on this, see prior blog.

Wednesday, May 13, 2009

Strategic Planning Analogy #256: Thin is In?

Suppose that you had to choose your future spouse from three who are behind a curtain so that you cannot see them. The only thing you know about them is their weight.

Let’s say there are three men behind the curtain—one is of average weight and two have above average weight. At first, you might be hesitant about picking one of the men who has above average weight for fear of choosing an ugly, fat man. However, the man could also be overweight because he is a hunky, muscular guy who could be quite appealing.

Both extra muscles and extra fat can create above average weight. By just hearing what the weight is, there is no way of knowing if it is fat or muscle. The best and the worst choice could have the same weight.

Now, suppose there are three women behind the curtain—one is of average weight and two are below average. At first, you might be inclined to choose one of the women with below average weight, thinking she could have a beautiful fashion model appearance. On the other hand, below average weight can be caused by being sickly and bedridden—near death.

Just knowing the weight will not let you know if the lower weight causes the woman to look like a fashion model or a sickly person. Again, the best and the worst choice could have the same weight.

By only knowing the one attribute (weight), it is very hard to make a proper choice.

In strategic planning, one often has to make choices—how to position the brand, who to target, what the appeal is, and so forth. For example, in creating a sales strategy, it is common to try to target specific types of customers to go after.

A problem arises if you define your target by just one variable. As we saw in the story, if all you know is one variable (weight), you may be placing both your best and your worst choice in the same target group (higher weight for men, lower weight for women).

For example, let’s say you want to target heavy spenders. As we will see in this blog, a single variable like “heavy spending” can cause problems, because both some of your best customers and some of your worst customers can be heavy spenders. This makes the target ineffective.


The principle here is to avoid targeting based on only one variable. To illustrate this point, we will look at the flaws in targeting “heavy users,” based only on the single variable of sales volume with your firm.

At first, this might seem like a logical metric to target for sales. After all, people who spend a lot with you probably like you (or your products), and it shows they have the financial means to buy a lot from you. People who like you and have money to spend sound like a good target for getting additional sales, right?

Maybe yes and maybe no. As in the story, that single attribute can be deceiving. Just as an overweight man can be ugly with fat or handsome with muscle, a customer currently spending a lot with you can either be a desirable target for increased sales or an undesirable target. A best and worst target choice could have the same sales volume with you.

Here are some examples of high volume customers who would make poor targets for additional sales.

1. Those Who Know How to “Game” the System
There are many reasons why someone might buy a lot of product from you. One reason could be because they know how to “game” your system. By this, I mean that they know how to cherry-pick your offerings in a way that makes them extremely unprofitable to serve.

Perhaps they only buy your loss leaders. Perhaps they only buy when you clear items out below cost. Perhaps they are heavy users of your added services, making lots of costly demands that wipe out the profitability of their purchases.

Sure they love you. They love you because they know how to take advantage of you and get a better deal than you can afford.

I used to work with a company that was one of the largest purchasers of consumables in the United States. Just by looking at sales volume, you might think that this was a good target for getting additional sales. However, this company was an expert at gaming the system. They almost never paid anything near full price to the manufacturers of mass consumables. Additional business from them would not necessarily be profitable.

There’s the old joke about the salesman who goes to his boss and says, “I’ve got good news and bad news. The good news is that I just got Wal-Mart to purchase from us. The bad news is that I just got Wal-Mart to purchase from us.” The point is that even though selling to Wal-Mart may create high sales, the demands Wal-Mart makes for pricing and services could make that business undesirable.

If most businesses were to plot sales by customer against profits by customer, they would see that high volume customers are often among their most profitable and most unprofitable. Like in the story, the best and the worst choices can look identical on a single variable.

Therefore, when targeting customers, perhaps add some variable which help you to know how profitable they are. Profitability is more important than mere volume.

2. Those Whom You’ve “Tapped Out”
One reason why a customer could be spending a lot of money with you is because they are already buying 100% of their need for that product from you. Once you get 100% share of a customer’s business, there is virtually no potential to increase sales with them. You already have all that they are going to buy.

Therefore, if you offer these types of people all sorts of sales incentives and discounts to purchase from you, the volume of business from that customer will stay about the same. What will change is the profitability of that business. They will be buying the same amount (100% of their need), but now they will be buying it and getting your incentives and discounts. All you have succeeded in doing is lower the profit on business that was already yours in the first place.

So instead of looking at just one variable (sales volume), it probably makes sense to also look at your share of their spending in the category (share of wallet). If you already have near 100% share of their wallet, trying to get more sales out of them would most likely be unproductive. Instead, you should be looking to target customers who like you enough to spend quite a bit with you, but still are spending some of their money on your competitors. Then you can target additional sales from them by getting them to shift a higher percentage of their business with you. You will not be able to separate out this more profitable target if you only look at the single variable of sales volume.

3. Those Who Buy Differently
Not everyone is motivated in the same way. A tactic which increases sales with one type of customer may have no appeal to another. Some may appreciate price discounts. Others may prefer value-added services. By lumping all heavy users together, you are classifying them by similar end behavior (purchase volume). However, this group can have all sorts of dis-similarities when it comes to why they purchase and what motivates additional sales (intermediary behavior).

If you try to use the same sales-boosting strategy on this segment, it will probably be effective on some and not on others, depending upon whether that type of strategy appeals to them.

It would be better if you added motivational factors in your definition of segments. Then you could target the most appropriate motivational tactic separately to each segment. That way, everyone would be spoken to in the most appropriate language.

Setting customer sales targets based on a single variable, like sales volume, can be a mistake, because both good and bad targets can have similar sales volume. Other factors to consider include customer profitability, share of wallet, and motivation variables.

Niche businesses can often provide a better return on investment than businesses targeted at the great masses in the middle. As a result, even the strategic goal of trying to increase sales a lot may be a mistake if it destroys your success with the niche. Narrow sales targets (based on multiple variables) may at first look limiting, but it may help reinforce your success within your niche.

Friday, May 1, 2009


In today's Wall Street Journal, there is an article about P&G and Colgate.  It says that the companies are beset with two problems:


1) Consumers are trading down from the brand name products of P&G and Colgate to cheaper store brands and private label products.


2) Due to the economy, people are cutting back on discretionary spending in general to save money.


So how did the two companies react to these trends?  Both of them raised prices.  This appears to have accelerated the defection and reduced unit volume even more.  Yet, for now, the steps preserved near-term profits.


According to P&G CFO Jon Moeller, "While painful, pricing to protect the structural economics of our business is the right thing to do." 


Protect the structural economics?  What good is a strong economic structure if the customers go away?


Am I missing something here?  Taking steps to accelerate the movement of customers to the competition?  Raising prices at a time when customers are the most price sensitive?  Trying to squeeze a few more pennies today which could ruin long-term prospects in the future?


This reminds me of an earlier blog I wrote.  It talked about how financially oriented people often get in the habit of assuming the cash flow of the current business model will always continue to flow in.  Therefore, job #1 is to squeeze as much profit as possible out of that cash flow.


Unfortunately, if you squeeze too many dollars out, the underlying economic model stops working.  Customers will shift to a better economic model (for them), leaving you with a broken, obsolete model.


It sounds like Jon Moeller needs to read that blog.