Strategic Planning Analogy #344: Who to Court

THE STORY
The following are some quotes from billionaire entrepreneur Sam Wyly’s autobiography regarding the timing of his IPO of Sterling Software:

“Not only did we break new ground with our software company roll-up; we also broke new ground with the instant exchange listing. The market loved all this and, within one week, took our share price up from the initial $9 to $15. From there it headed to $30. Along the way, we raised more cash at $17 in what’s called a secondary offering. But in June, only thirty days after we’d gone public, the markets ran out of gas and lost their enthusiasm for technology. Prices dropped dramatically and the IPO market was as dry as a pumped-out oil field.”

“If we hadn’t hit the market when we did, we would have suffered during the following seven-year IPO equity drought along with a lot of other wanna-be technology start-ups that never got off the ground. Our timing was perfect.”

And this is what he said about the timing of when he sold the company:

“My initial investment was less than $2 million. We sold out in March 2000, at the peak of the tech and telecom market boom, for a price per share that was 30% over market. The total sale package was $8 Billion…Amazingly, we hit the very last month of the long bull market. The tech-heavy NASDAQ Index would drop 80% over the next two years.”

THE ANALOGY
The stock market tends to act like the fashion industry. Sometimes a certain sector will be in fashion and have people clamoring to get in. Other times, a sector will fall out of fashion and have people clamoring to get out.

Sam Wyly made his billions in part because he understood the fashion cycles of the market. He quickly did his IPO of Sterling because he had a sense the tech stock IPOs would soon be going out of fashion. He was right and got the IPO done just in time. Later, he had put together an accelerated push to sell out quickly, because he sensed that the latest tech boom was about to end. He was right again.

In between the IPO and the sale, Wyly could see that anything remotely related to the internet was getting unrealistically high evaluations. Therefore, he split Sterling into two companies, with one piece positioned to be as much like those dotcom companies as he could. When he did a separate IPO for that piece (called Sterling Commerce), he took advantage of the high fashionability of the dot com boom and got very rich again.

Wealth from stocks did not always correlate to profitability. To quote Wyly, “In 1995, the first web browser, Netscape went public, its shares priced at $28. It jumped to $75, valued at more than the country’s biggest defense contractor, General Dynamics…Netscape launched an ‘irrational exuberance’ in the market…I saw no rationality to these dot-com companies going public and instantly reaching such astronomical heights when they consisted of little more than a Web site and a few computer kids pecking away at their keyboards. To me, it was nothing more than the old Wall Street broker rationale: ‘When the ducks are quacking, you feed the ducks.’”

So Wyly did well by making Sterling Commerce look like a duck (and then getting out before the ducks stopped quacking).

If a lot of the valuation is based on getting in tune with the Wall Street fashion, then perhaps one’s strategy not only needs to look internally at maximizing performance, but also externally at optimizing the fashionality of the stock market.

THE PRINCIPLE
In the last two blogs, we’ve been looking at the importance of properly defining your category. First we looked at how to define your category for your customers. Then, we looked at how to define your category for your management. Today we will look at defining your category for your shareholders.

How the market categorizes a particular stock often has a large impact upon how investors treat that stock. If you are perceived as being in a hot sector (e.g., category), investors may flock to your stock and bid it up, even if you are not a leader in the sector. Conversely, if you are seen as being in a weak sector, they may abandon you and drive your price down, even if you are a leader in the sector.

Therefore, it is not enough to just manage your individual performance. It is also important to manage how your stock gets categorized, since that may have as much to do with your valuation as your individual performance.

There are two key principles to this process:

1) Look for solid investment category ownership
There are many different goals an investor could have when choosing where to invest. They may be looking for high growth, or maybe low risk, or maybe cash income, or high liquidity, or long-term gains, or support for a particular social cause, or some other factor.

If you want people to prefer to invest in your business (and pay a premium for the privilege), it helps to own leadership in one of these types of investment categories. Being “sort of okay” at many factors is not as good as solidly owning a single factor. For example, being categorized as a strong growth stock will get you preferential treatment by those who want to invest in growth stocks. Or being known as a great dotcom company when dotcom companies are in fashion will get you preferential treatment by those swept up in the irrational exuberance of investing in dotcom companies.

Therefore, a key step in maximizing one’s share price is to:

a) Pro-actively choose an investment category to own; and

b) Have a strategy which re-enforces that position.

We saw this when Sam Wyly proactively tried to position Sterling Commerce as being in the exuberant dotcom category, even if it required a strategy of splitting the company into two parts. This positioning to the investor is very similar to the idea of positioning to the consumer. You

a) Define who you are (the investment problem you are solving),

b) Deliver on the promise of that definition (own the solution in the mind of the investor), and

c) Sell to those who are looking for that type of solution (the investor who wants that type of investment)

2) Consider the fashion cycles of the investment community when timing your equity moves
Timing is an import part of strategy. Strategy for the investor is no exception. Sam Wyly became very wealthy in part because of his timing with investors. Customers come and go. It is better to sell to them when they are coming than when they are going. This also applies to customers of your stock.

Closely observe the fashion cycle for your investors. Design a strategy in advance so that if you start seeing a shift in the fashion, you are ready to move quickly.

3) Manage your audience based on the best category for you
Now I have heard many strategic planners complain that catering to the whims of the investment community is death to strategic planning. Their complaint is that most investors are only looking near-term. They say the investors are only interested in the current quarter and are not interested in the long-term. They say that if you cater to the investors, they will ruin long-term prosperity in the name of short-term gain.

Yes, this is true of many investors. But it is not true of all investors. There are people out there like Warren Buffet, who tend to ignore current fashions in stock and invest for the long-term rather than the short-term. Many of these investors place value on good long-range planning.

To those complainers, I say don’t become a victim of the investment community and don’t let them dictate the rules of your business. Become pro-active in controlling the relationship. Choose a great investment position for your company that puts you in a category which rewards long-range planning. Then pro-actively seek out the types of investors who prefer those types of investments.

If you court the right types of investors, they will support what you are trying to do. If you find enough of them, they will bid up the stock, broadening your appeal even further.

SUMMARY
As part of your strategic planning, don’t just position your company to the consumer. Many of those same consumer positioning principles also apply to your investors. As part of your strategic planning, choose an investment category to own and then seek out and court the investors who are looking for that kind of investment. This will increase the value of your business beyond just how your income statement and balance sheet looks.

FINAL THOUGHTS
Although the long-term approach is typically the way to go, it doesn’t hurt to bend a little sometimes to the current fashion of your investors. After all, they are the customer of your stock. Don’t you bend a little to satisfy the current fashion of the customers of your product?

Strategic Planning Analogy #343: Where to Look

THE STORY
As the old story goes, one evening there was a man named Bob crawling on his hands and knees outdoors under a bright streetlight. Another man came along, named Jim, who was curious as to what was going on.

Jim asked Bob, “What are you doing?”

Bob replied, “I’m looking for my lost car keys.”

“Where did you last see your car keys?” inquired Jim.

Bob replied, “A couple of blocks down the road, next to my car.”

Puzzled, Jim asked, “Well, if you last saw the car keys down there, why are you looking for them here?”

Bob answered, “Because the light is better here.”

THE ANALOGY
Looking for something is not the same as finding something. If you look in the wrong place, you will never find what you are looking for, no matter how intense your effort is. Bob will never find his car keys because he is looking in the wrong place.

Businesses are looking for great opportunities for growth and prosperity. These opportunities will only be found if the business looks in the places where the opportunity exists (not the places where they want to look).

It may feel more comfortable looking where the most light is, but that doesn’t mean that what you are looking for is there. In the business world, the greatest amount of light (the data which illuminates our mind and helps us to see the world around us) is usually focused on the status quo. However, new opportunities usually require us to reinvent the status quo a bit, making current wisdom somewhat obsolete.

The great opportunities of the future tend to be on the darker fringes of today’s status quo. If you want to find them, you may have to leave the bright lights and spend time out in the fringes.

THE PRINCIPLE
You will only find the things located within the areas where you look. If an item is located outside the area of your search, you will not find it. How you define your search parameters determines where you will look. Therefore, if you want to find growth opportunities, be sure to define your search zone to include areas where there are the best growth opportunities are located. This usually requires defining a search zone including areas which is not located under the bright lights of the status quo.

In the last blog, we looked at the importance in defining for your customers the category you compete in. Customers, however, are not the only stakeholders in the success of your business. Another key category is your employees.

Just as it is important to get customers to properly categorize your product, it is important to get employees to properly categorize your company. Some of my greatest successes in the business world came from getting executives to re-define how they thought about their company—the business category it was in. By redefining the category, I was able to open their eyes to wonderful new potential opportunities which fell outside the old, narrow category definition.

The way you define your company limits where you look. If you define yourself in terms of the status quo, you will only see ways to incrementally improve the status quo. You will never find the “next big thing” which will make the status quo obsolete, because your narrow definition has kept you from looking where the next big thing is coming from. Sure, there is less data to examine out on the fringes, but that is where the new opportunities are. Include it in your search.

Shopko
Back in the 1980s when I worked at Shopko, Shopko was facing a problem. It was a discount department store competing against Wal-Mart, Target and K Mart. Wal-Mart had a lock on the best position for Discount Department Stores—lowest prices. Target had the second best position in the category—cheap chic. Although K Mart’s position was weak, it was large, so it wouldn’t be going away soon. So what do you do if you are Shopko: the #4 discount department store in a market where you don’t need four alternatives and the best two positions are already taken?

The first thing I did was convince management to redefine their category. Instead of defining themselves as a “Discount Department Store Company,” I convinced them to redefine themselves as a “Value-Based, Category-Owning Merchant.”

Changing the definition of the category sounds like a small thing, but the implications were huge. I had redefined the search area for new ideas, so we found more great new opportunities.

In the past, because they defined themselves as a Discount Department Store, Shopko thought they had to act like all the other Discount Department Stores. They had to carry the same products, in the same way, in the same depth. It meant trying to figure out how to beat Wal-Mart in a head-on competition with a similar offering. This was a path to disaster. Shopko would never stand out from the crowd if it acted like everyone else in the crowd.

“Value-Based, Category-Owning Merchants,” however, have the flexibility to do things that “Discount Department Stores” do not. We could carry different products in different quantities and sell them in different ways. The idea was simple. Rather than carry a medium assortment of every category sold in a discount department store (like everyone else), we would choose the extremes. In departments where we thought we could win, we would carry far more depth than the typical discount store. In areas where we did not think we could win, we would either eliminate the department or only carry a convenience assortment. The idea was no longer to compete head-on against Wal-Mart, but to peacefully co-exist through careful choices regarding where we wanted to play to win.

Over time, this redefinition of the Shopko business helped Shopko experiment in all sorts of “fringe” areas it probably never would have considered under the old definition.

Back in the 1980s, there were close to 100 other regional discount department store chains in existence in the US. Today, virtually all of them have disappeared. Shopko, however, is still in existence today, a testimony to the power of redefining your category.

Best Buy
A similar situation existed at Best Buy when I got there in the late 1990s. Best Buy at the time basically defined itself as a “US-based, Big-Box Consumer Electronics Retailer.” Its key competitive differentiation was the elimination of commissioned sales people. This was a narrow definition which limited future opportunities.

My team helped Best Buy management to see the company in a new light. We redefined Best Buy as a “Key Player in the Entertainment and Technology Business Ecosystems.” This opened up the potential to numerous new business opportunities, including things like technology services (through the Geek Squad), working upstream to help determine the evolution of new technology, working more directly with key players in the entertainment industry, selling products in a different way (Magnolia high-end, higher service entertainment retailing and Best Buy Mobile Kiosks), and going international.

By changing the definition of the business category, Best Buy started looking in more places for more opportunities. This brought in new streams of cash flow, allowing them to lower the prices on the consumer electronics they sold. Circuit City, which still pretty much operated under the older, narrower definition, tried to match the Best Buy prices, but because they had not expanded into all of those other businesses, they could not afford to match Best Buy prices. Eventually Circuit City had to file for bankruptcy. Best Buy is still going strong.

SUMMARY
If you want to find great new opportunities, you need to look where the great new opportunities lie. Usually they lie outside the status quo. Therefore, if you want to find them, you’d better define your business broadly enough that you are not trapped by only looking within the status quo for your future.

FINAL THOUGHTS
Broadening one’s business definition does not mean saying “I’ll do anything to make a profit.” There still needs to be limits. The idea is to not just find new opportunities, but to find opportunities in areas where you can win. Your core competencies, size and other such factors limit the number of opportunities where you can win. Keep these factors in mind when re-drawing your search parameters. Even in the broadened definitions of Shopko and Best Buy, there were still limits.

Strategic Planning Analogy #342: Categorical Success

THE STORY
Prior to 1995, modern art from India sold for practically nothing. However, beginning in 1995, modern art from India started fetching about $6,000 per piece at auction. About six years later, this art was selling at auction for an average price of $44,000, with a few paintings going as high as one million dollars.

What caused the rapid increase in prices? It was mostly due to inventing a name. Prior to 1995, there was not a suitable name to categorize modern art from India. As a result, it tended to be perceived as falling into the equivalent of the “other” category of art, called “Decorative Art.” Decorative Art was perceived in the marketplace as not having any real intrinsic artistic value of its own, but was rather “derivative” of other more authentic art forms. Therefore, its value was based on suitability as a home décor accessory, rather than as being a work of art to be admired on its own merit. As one would expect, being categorized as “Decorative Art” is a sure path to ruining perceived value.

However, beginning in 1995, there was a strong, coordinated effort to shift these works into a brand new category. The new name given to the new category was “Modern Indian Art.” The claim was made that this new category was a “unique aesthetic tradition” within branch of the “modernist” movement, worthy of being considered “fine art.”

To make the claim believable, multiple parties started writing papers about this new category. These parties included art academics, art action houses, art critics and the artists themselves. The papers explained what the characteristics were of true “Modern Indian Art” and what made it so special.

Now that there was a name for this category, museums started holding “Modern Indian Art” exhibits. The more mainstream art media began talking about it. Suddenly, this “decorative art” was re-envisioned as “fine art” in the minds of the art consumer. As a result, the prices for these works began to skyrocket…all because of a change in name.

Maybe I should change my name.

THE ANALOGY
Businesses spend a lot of time worrying about their product. Can I improve the quality of the product? Can I make the product more efficiently? Can I add more features to the product? Can I make the product more functional?…and so on. The idea is that if I make the product better, I can increase its value, allowing me to charge more when I sell it (and increase profits).

This line of reasoning leads to strategic plans focused on product improvement.

However, as we saw in the story above (based on a Harvard Working Knowledge article), the perceived value (and the selling price) for art from India skyrocketed even though the actual product did not change. The art from India being sold prior to 1995 was no different than the art being sold after 1995. In fact, it was often the same exact pieces of art. Nothing was done to the actual artwork to improve it. Yet the perceived value (and prices charged) increased tremendously.

Why did perception change even though the product was the same? It was because the people in the art industry changed the focus from a product orientation to a category orientation. Rather than improve the value of items, they worked on two issues: a) Creating a new category to classify the items; and b) Improving the perception of the new category. By developing a strong, new category, they were able to instantly improve the perceived value of everything placed within that category (even though the individual items had not been changed).

Perhaps the value of your products could also rise faster if you changed your strategic focus from a product orientation to a category orientation.

THE PRINCIPLE
The principle here is that value is determined within a context. If you do not manage the context, then you will achieve sub-optimal value.

A product’s value is usually determined in a comparative sense. In other words, a product is compared to others to see if its value is “better” or “worse” than those it is being compared to. The goal is to achieve a perception of “better value.” But better than what? What is the relevant context for comparison?

The Context for Art
The context is largely determined by how the category is defined. In the case of Indian art, when the category was defined as Decorative Art, the context worked as follows:

1) Since Decorative Art, by definition, is an inferior category to Fine Art, the value of all recent art from India is inferior to any Fine Art (and should have décor-level prices rather than fine art prices).

2) The only way to add any value to art from India (beyond average décor prices) would be to convince someone that it had superior home décor uses than other art in the Decorative Art category.

In other words, the definition of the category limited the context of comparison. Indian art could never get a high perception, because the context was that—at best—it could only be seen as slightly better than low value décor.

However, when the category was redefined as “Modern Indian Art,” a sub-category of the Modernist Fine Art Movement, the context changed.

1) The core value began with average values within fine art, particularly the value of modernist art.

2) Comparisons of superiority were now made with other modernist works of art (not home décor objects). Ultimate value now came from variations to the higher base value of the average modernist piece.

By changing the category, the context of comparison was changed, which automatically raised the perceived value and price for modern Indian art.

The Context for Soup
The same thing benefits of category focus can be seen with Campbell’s Soup. Back in the 1980s, Campbell’s produced the vast majority of all canned soup sold in the US. The good news was that this meant that Campbell’s had won the race for superiority within the context of the category of “soup.” The bad news was that soup was a small and low growth category.

Worse yet, when the soup category was compared with other food categories, it did not fare well. Soup was seen as a weak substitute to more substantial meals like steak and potatoes. Soup was viewed as something poor people would eat that could not afford the more substantial (and supposedly better for you) meals which required a knife and fork.

Campbell’s could have focused on improving their soup product. However, within the context of soup, they already had the leadership position, so their market share would not have moved much, if at all. In addition, better soup was still just soup—an inferior category when compared to knife and fork food categories. The best soup was still seen as inferior to mediocre knife and fork foods.

Just like the Indian art, as long as it was classified in an inferior category (decorative art or soup), Campbell’s soup would get an inferior value.

Therefore, Campbell’s changed its strategy to focus on improving the image of the category they were in. In the late 1980’s, they started the advertising campaign with the slogan “Soup is Good Food.” The idea was that if they could improve the image of the soup category, they could grow the sales of the category, since soup would now compare more favorably against other (non-soup) meal alternatives (broader context of favorable comparison). In other words, they tried to move “soup” form being a sub-set of the weaker food choice category to a sub-set of the better choice food category. Since Campbell’s sold most of the soup, an improvement in soup meant gains for Campbell’s. The strategy worked for quite a while.

So what can we learn form these examples?

1) Actively manage which category you are placed in.
Consumers will slot you into a category. If you do not actively manage which category you are placed into, you lose control over one of the key determinants of your value. The customer may put you into a low value category, a context which makes it difficult to create value, no matter what you do to improve your product. Therefore, to make sure that your product gets the highest possible value perception, actively work to get people to slot you into a high-value category.

If necessary, do not be afraid to create a whole new category, one which you strategically manage for maximum category value (like Modern Indian Art).

2) Work on strategies to improve the relative value of your category.
The stronger your category, the more favorably your product will compare to other substitute categories. Therefore, rather than only working to make your product better, work to make your category better (soup is good food).

3) Consider product improvements in light of their impact upon your category context
Winning products tend to produce a point of superiority relative to viable alternatives. Therefore, when choosing where to place your product improvement efforts, choose areas where you gain the maximum advantage in factors important to the category. Find places where you can shine when compared to others in the category (the viable alternatives).

SUMMARY
Rather than focusing all of your strategic efforts internally on product improvement, spend time focusing on managing the category your product competes in. Often the value of the category impacts your profitability more than what you can do to improve your product. Therefore, work to get your product slotted into the most desirable category and then work to improve the value of your category relative to substitute categories.

FINAL THOUGHTS
Trying to be all things to all people usually results in being nothing important to anyone in particular. Therefore, when defining and managing your category, make your scope narrow enough so that you can create a winning position within that category.