Strategic Planning Analogy #575: You’re Fighting the Wrong War

THE STORY
There’s an old military saying that goes something like this: In peace time, military leaders prepare for the next war as if it is going to be played by the same rules as the last war. Unfortunately, each new war comes with a new set of rules, making all that planning obsolete.

In other words, instead of looking backwards to figure out how you could have done better in the last war, anticipate the rules of the next war and prepare a way to win under the new rules.

THE ANALOGY

This recommendation does not only apply to military strategy. It also applies to business strategy. The rules of the game in business strategy keep changing, just as in warfare. The leaders in many businesses are older and got to the top by following the old rules. As a result, these leaders have a tendency to prepare for the future by falling back on those old rules which made them a success in the first place.

Unfortunately, as times change, those old rules become obsolete. If CEOs continue to run their businesses by those old rules, their businesses (and themselves) run the risk of becoming obsolete. To prevent that, strategists must continually update their mindset to stay in tune with the rules of the times.

THE PRINCIPLE
In my opinion, we seem to be at a point where the rules of strategy are shifting again. This would be the third major set of rules during my adult lifetime. If the rules are changing as I think they are, then it is time for strategists to update their mindset again.

Ruleset #1: the Three P’s

Back for most of the latter half of the 20^th century, the rules of strategy revolved around what I called “the 3 P’s.”

During this period, the major strategic objective was to maximize cash flow over a sustained period of time. The best way to do this was by focusing on three areas:

1. Positioning: The idea behind positioning was to convince consumers to associate your product/brand with being the superior solution for a meaningful problem. Make the problem and your solution inseparable in the consumer’s mind so that no other brand can unseat you as the best way to resolve the problem. For example, different brands of toothpaste became associated with different solutions: Crest for getting rid of cavities, Sensodyne for sensitive teeth, Plus White for smokers, Colgate for healthy teeth and gums, and so on.

2. Pursuit: To hold a position over the long haul, a business had to act quickly and invest in whatever it took to maintain that position. For example, Walmart wanted to hold the position of being the low price alternative, so it would invest in whatever retail format had the advantage in holding the low price position. That is why Walmart migrated from discount stores to supercenters and added Sam’s Club. It was pursuing the winning path to hold the position.

3. Productivity: To maximize cash flow, the cost of investments in positioning and pursuit had to be less than the profit margins available from the business. Therefore companies also kept a keen eye on keeping costs down, pursuing tactics like re-engineering.

Ruleset #2: The Three F’s

As the 20^th century was winding down, a new strategic ruleset was evolving. One of the key forces behind this change was the movement from selling physical products (atoms) to selling apps. This was the world which spawned companies like Google & Facebook (and all the people that wanted to copy their success). Under the new rules of that era, there was a new major strategic objective. Instead of trying to maximize cash flow over the long term, the objective was to maximize the selling price when you flipped the ownership.

Not only was the idea of maximizing cash flow out, the entire idea of profits lost favor. It was okay to lose money so long as a future buyer would pay a lot for your business. In other words, your return did not come from the ongoing business but from what you could make when the business changed ownership. I spoke about that in more detail here.

And the idea of managing for the long haul was also tossed out. After all, if you are going to flip the business to a new owner in a few years, your time horizon is only as long as it takes to cash out.

In this new environment, the strategic rules were as follows:

1. Fund: Find venture capitalists who are willing to fund your business. This is where the money comes from, not the user of the app. So, in reality, the venture capitalist is the customer of your business and the product you are selling them is access to all the people using your app.

2. Flex: In the wild world of apps, one has to keep flexing the model until a version is found that resonates with a critical mass of users. Venture capitalists of the time knew that the end product app was rarely the same as what was originally pitched to them to get the money. Therefore, the venture capitalists were betting more on the flexing ability of the founders to eventually hit on a winner rather than on the original pitch.

3. Flip: Since all the value is created at the time the ownership changes, the strategic emphasis is on optimizing the flip—who to sell to and for how much. For example, a lot of people of the time thought that Cisco Systems might be a good potential buyer. Cysco said it would only buy businesses located in Silicon Valley CA, Austin TX or Research Triangle NC. Therefore, if you wanted to flip to Cisco, your strategy would be to locate in one of those three areas. If your plan was to sell out via an IPO, the strategic emphasis was placed on maximizing those factors/metrics which would sell well in the IPO pitch.

Ruleset #3: The Three S’s

Just as people were getting used to this set of rules, it appears to be changing again before our eyes. There are many reasons for this. First, future innovations do not appear to lend themselves to start-ups in the garage. They are too complex and costly. Starting small and flipping no longer works as well.

Second, the innovations of the digital age have sucked a lot of the value out of entire industries. For example, the news and entertainment industries have seen the overall profits of the whole industry shrink dramatically. When people expect things for virtually free, it is hard to rake in huge profits. A new way to move money in your direction is needed.

Third, the more recent flips in general are nowhere near as dramatic as in the days when Google and Facebook flipped. If flipping is much less of a “sure thing”, investors will hold back and IPOs won’t be as easy to create. The whole idea of flipping is being questioned as a primary way to think about business. You can’t sell to investors if they aren’t investing in the old type of startups like before.

So what is replacing it? I call it the three S’s.

In the world of the 3 S’s, the key objective is to exert maximum control/power over an entire business ecosystem. It is no longer good enough to just have a good product or a leading app. You need to control the entire business system in which you exist. If you do not control how the ecosystem evolves, it will evolve in a way that blocks you from achieving adequate profitability. Power becomes the great goal, because power dictates where the limited amount of money goes.

To do this, you follow the 3 S’s:

1. Size-Up: This strategic approach requires thinking big. You need to not only size up the space you compete in, but the entire ecosystem your space lives within. This includes not only your traditional competitors. It includes anyone who has influence on how your ecosystem will evolve and how ecosystem profits are divvied up. It can include governments, businesses and advocacy groups. You need to size it all up to get your arms around the magnitude of the ecosystem.

2. System: Your strategy must encompass more than just how your business works. It has to encompass how you want the whole ecosystem to work. You have to strategize for the entire system. Your best individual performance will still leave you in trouble if the ecosystem defines the rules against you. Therefore, you have to make sure you have a powerful seat at the table where the rules are made. And you only get such a chair if your planning takes an entire system point of view.

3. Structure: To get the system to work in your favor, you have to help determine how it is structured. You have to put all the ecosystem building blocks together into a structure where you have a disproportionately larger influence than others. Some of these building blocks you will own. Others will be partnerships. Others will be voluntary followers of your plan because your power makes it in their best interest to comply with your wishes.

Here are some recent examples of this type of strategic approach:

1.      CVS: CVS realized that it needed to be more than just a major pharmacy/drug store chain in the US. It needed to have control over the entire healthcare ecosystem. To accomplish this, it started in 2006 by acquiring MinuteClinic, who operated health care facilities inside a retail setting. This gave CVS some control over the practice of medicine. In 2007, CVS acquired the Caremark pharmacy benefit management company in 2007. This helped them have influence over how company pharmacy benefit plans would impact CVS. In 2015, it acquired Omnicare, a leader in pharmacy distribution to institutions. And this year, CVS announced the acquisition of Aetna, one of the leading health insurance providers in the US. CVS is no longer a drug store company. It is a strong player throughout the entire healthcare ecosystem. It even changed its name to CVS Health.

2.      Disney: Disney realizes it cannot just be good at parts of the entertainment system. It needs control over the entire entertainment ecosystem. As the digital aspects of the entertainment ecosystem evolve, Disney could get squeezed if it does not influence how the rules are written. Therefore, Disney just announced the acquisition of a huge chunk of 21^st Century Fox. The logic is that the combined content and distribution controlled by such a combination will be so powerful that nobody will want to make any moves in entertainment without them.

3.      Another recent announcement include the merger of Ascension and Providence to create the largest hospital chain in the US. It is like CVS in that it is trying to exert more power in healthcare. It is like Disney in trying to get such a large chokehold over a major aspect of its ecosystem that it becomes a force that cannot be ignored. In their words, they are trying to create a voice “that can’t be ignored.”

And Target recently announced the purchase of Shipt. Shipt is one of the largest providers of the software and trucks used in the home delivery of items like food.  In this way, Target is expanding its influence in the consumer retail ecosystem by getting a big share of the out-of-store experience.

This is just the beginning….

SUMMARY
The environment is always changing, so the rules of strategy must adapt. We’ve moved from the 3 P’s to the 3 F’s. Now we are moving to the 3 S’s. If you’re still doing your strategy under the older rules, you may lose your grip on the future and be left out in the cold.

FINAL THOUGHTS
Don’t fight future wars with the rules from prior wars. Fight with the rules appropriate to the times.

Strategic Planning Analogy #549: Toughest Investments to Make

THE STORY
It’s interesting to watch the debates between developers and preservationists. The developers say that if you invest a bunch of money to develop a wilderness area, you get a lot of measurable benefits:

·       Jobs

·       Economic Growth

·       New Tax Income

·       An Infrastructure that can lead to additional growth

The preservationists have a tougher sell. They say that if you spend a lot of money to preserve the wilderness, you only get what you already have—a wilderness. It’s hard to put a measurable return on an investment which returns nothing new. “What is to be gained by that?”, respond the developers. The only persuasive reply the preservationists have is that without investment in preservation, things (like trees and animals) will go away and possibly become extinct.

It can be tough for humans to mathematically compare the relative merit of using private money to create jobs and boost the economy (which both help humans) versus using public money to preserve a wilderness (which mostly benefits the animals under threat of extinction).

However, I suspect that if you asked the animals under threat of extinction, the decision wouldn’t be tough at all.

THE ANALOGY
A large part of business strategy revolves around investment decisions. The idea is to use strategy to determine where the best investment opportunities lie for a particular company.

Many times, these decisions can get framed to look like the wilderness example. The choice is between investments that:

1.     Create great new development opportunities with great new measurable sources of economic return; or

2.     Don’t really create anything new but just “sort-of” preserve the status quo.

When the decision is framed that way, the capitalist mindset will typically lean quickly towards option #1, the investments with a lot of measurable new benefits. After all, isn’t investing for a big new return better than investing just to stay about the same?

Here’s the problem. Without preservation, there is extinction. And that extinction could be your entire business. And if your core business goes bankrupt, all those other investment opportunities tend to disappear as well.

Therefore, we often need to look at these wilderness decisions from the perspective of the animal under threat of extinction, because we may, in fact, be the one that goes extinct if preservation investments are not made.

THE PRINCIPLE
The principle here is that incremental growth investments often rely on having a core foundational business for these incremental investments to leverage. It can be called synergies or scale or brand power or industry insights or distribution capabilities or funding cash flows or a host of other things. The point is that without a strong foundation to provide these benefits, there is no strategic benefit to making the incremental growth investment.

If all you bring to the investment is money, then you’d better be able to out-invest the professional investment funds which do this for a living and are competing against you for that same opportunity. Good luck with that. Your money is no better than their money, so you bring no advantage.

On the other hand, strategy is about leveraging current strengths and assets. It’s about more than just bringing money to the table. It’s also about all the skills, knowledge, power and infrastructure you have to leverage. Strategy is the process of assessing all that you have to determining where that bundle of infrastructure can create the greatest advantage. This increases your likelihood of success, because now you bring far more to the investment than just money (which is all the same). You bring all that has made your core business uniquely prepared to excel over others in the new investment.

Therefore, it is critically important to invest a portion of your money into preserving these core attributes, even if those investments do not create any additional returns. Their value is not in adding something new, but preserving something old—avoiding extinction. That’s valuable, because if your competitive advantages go extinct, you are back to having nothing but money (if you are lucky). In reality, you may be left with nothing but debt. Now, none of those investments look good.  

Example #1: Sears

I will illustrate this principle with two examples from retailing, starting with Sears. When Eddie Lampert took over control of Sears, he saw his investment opportunities as being like the wilderness example. On one side, he saw this wonderful new opportunity in bringing Sears into the forefront of internet commerce. There were lots of positive new returns on his spreadsheets by diversifying into internet commerce.

On the other side were investments in preserving the Sears retail store foundation. When he ran those investments through the spreadsheets, Lampert didn’t see any additional returns. Lampert reasoned that it was foolish to invest in a place where there were no new returns when he had other incremental opportunities where there was the potential for large new returns. Therefore, Lampert essentially stopped investing in the foundation and poured the money into internet ventures.

The problem was that by not investing in preserving the Sears core, the core was starting to go extinct. The stores became ugly and undesirable. The merchandising suffered. And worst of all, the image of the brand suffered. Customers were abandoning Sears and all that it stood for.

As the Sears brand suffered, its connection to the internet ventures created a negative influence rather than a positive influence. The connection made people less likely to embrace the internet venture. In addition, when the core deteriorated to the point that it became a major cash flow user rather than a cash flow provider, there was no longer any money to invest in the new venture.

By letting the core approach extinction, Lampert not only destroyed the core, but lost any benefits the core could bring to the success of the internet ventures. Without the synergies, his internet ventures had no advantage in the marketplace. In fact, now they had the disadvantages of being associated with a “loser” brand and being stuck in a place that no longer had any cash flow to fund it. Now, the situation is so dire that manufacturers are reluctant to ship any product to Sears. The end of the entire company may be near.

By contrast, if Lampert had diverted some of that investment money into preservation, he might not have seen a lot of new returns in the core, but the core would have been preserved to the point where it could be an asset to internet venture and given that strategy more of a competitive edge.

Example #2: Target

The technology and equipment necessary to convert from magnetic stripe credit cards to chip-embedded credit cards has been around for years. It has been up and functioning in Europe for years. But retailers and banks in the US failed to make the investments in the chip technology, even though it provided far superior security.

Why? When they ran the numbers through the spreadsheets it didn’t look good. A lot of investment money was required to make the switch, but there really weren’t a lot incremental returns. They didn’t think that converting to chip credit cards would create any meaningful additional sales. No new benefits were seen that would justify the expense. Therefore the investments weren’t made.

What they failed to take into account was that without the investment in chip credit cards, their credit operations were at high risk of being hacked by criminals. Yes, there may not have been any new benefits from the investment, but without the investment, the core was at risk.

Eventually that day of risk came. The hackers started attacking the old style credit cards. Target was probably the retailer which suffered the most from the hacking. Not only did Target immediately suffer huge financial losses, they suffered losses to the brand image. Customers were more fearful of shopping at Target. They were less likely to want to pay any extra money for the privilege of shopping there.

These losses to the strength of the core reduced Target’s longstanding competitive advantages. So now, Target has been faced with abandoning Canada (at great loss) and laying off thousands of employees and struggling to find a new position of strength in the US marketplace. Of course, Target’s current problems were caused by more than just the credit card hacking. But, by not investing in this core, they certainly made the problem worse than it would have been, both in terms of cash flow, management distraction, and image.

SUMMARY
Without strong competitive advantages, a company brings nothing to an investment except money. And most of the time, just bringing money is not enough, because others can also bring money plus their own set of competitive advantages. Therefore, it is important to continue to make investments which preserve and strengthen those core competitive advantages, even if the investments themselves create no direct additional return. For without the preservation of these advantages, the entire company is put at risk of extinction.

FINAL THOUGHTS
Investments in preservation can be the toughest investments to make. They are extremely difficult to justify on a stand-alone basis via spreadsheet analysis. Yet, without them, the entire foundation of the business may crumble. You have to continually remind yourself that these investments may not create something new, but they can keep you from extinction—and that is worth a lot.

Strategic Planning Analogy #497: Managing Moments

THE STORY

When I started my first semester at the university, I was surprised how friendly all the students were. I had never seen such friendly people. I thought to myself that this was going to be a great experience. 

However, when I started my second semester as a freshmen, I noticed that the other students in my classes were a lot less friendly.  At first, I thought it was an odd coincidence that I just so happened to get friendly students in all my first semester classes, and unfriendly students in all my second semester classes.

Eventually, I figured out the real cause of the change. In my first semester, I was surrounded by other first semester freshmen.  We were all new to the university. Most of us did not have friends on campus because we didn’t know anyone there yet. Because of the strong desire to have friends, these first semester freshmen were acting aggressively friendly in order to fill that desire.

By the end of the first semester, these freshmen had made a sufficient number of friends.  The need was satisfied. Therefore, they relaxed in the second semester and were not as desperate to aggressively make new friends. Hence, they were not as “friendly” to me.

That is why, when I’m speaking to someone who is going off to the university for the first time, I tell them to be careful in choosing the classes and places where they hang out in that first semester. After all, the people you meet in that first semester are the ones most likely to become your lifelong friends long after university life is over.

THE ANALOGY

When students first go to college, there is a brief window of time when they are aggressively seeking out friends. In a matter of weeks, however, that window gets closed.  Enough friends have been made during the short window of opportunity that afterwards the aggressive behavior goes away.  They are now less likely to work abnormally hard to make more friends.

Windows of opportunity also exist in the marketplace. There are brief moments of time when an individual is more open to creating new purchasing behaviors or preferences. Then the window quickly closes and they become “less friendly” towards changing those behaviors/preferences. Habit and routine takes over; and market share hardens like concrete.

There are many triggers which can cause these windows of opportunity to open. Moving to a new location, like a university campus, is one such trigger. Not only may you need to be more open to finding friends after moving, but you now may have to find a new grocery store to prefer, a new doctor, a new hair stylist, the best place to service your car, and so on. You are much more receptive at that time to consider new alternatives. But soon, you make all of those choices and the window of opportunity closes.

Other triggers which can open us up to abnormally high openness to change in behavior include getting married, having one’s first child, getting a big promotion, buying your first home, a change in a company’s CEO, a drastic change in the economy (up or down), revolutionary new technology which makes the status quo behavior obsolete, and so on.

Most strategic plans include a desire to change marketplace behavior to the benefit of the company/brand. Since triggers can have such a strong impact on susceptibility to changes in behavior, it usually makes sense to consider triggers as part of your strategic plan.

THE PRINCIPLE

The principle here is that windows of opportunity are only open for brief moments. Therefore, finding ways to quickly identify and exploit these windows should be a priority in most strategies. If you wait until the third semester to make friends in college, you will probably end up with fewer friends than if you started in the first semester, when making new friends is easier. Similarly, if you are slow in reacting to triggers in the marketplace, you will miss out on the benefits inherent when windows of opportunity are open.

Here are three suggestions on how to better exploit triggers and windows of opportunity as part of your strategy.

1. Understand the Relationship Between Triggers and Your Business

Not all triggers are equally important to your business or your strategy.  Therefore, if you want to exploit trigger points and their windows of opportunity, you must first understand which ones are most important to your business, and why. It is only through understanding the relationships that you can properly determine which triggers to exploit, and how to exploit them.

For example, I know of a church that wanted to grow. It did research and found that the people most likely to consider seeking out a new church were those who were new to the community. That was their key trigger point.  Additional research showed them that the primary reason why people moved into their community was due to a job transfer. 

Therefore, the church built a strategy around seeking out and appealing to those with job transfers.  They took out ads in the airport (the place where many of these people first experienced the community). They formed close relationships with the companies bringing in the most new employees to the community. As a result of strategic actions such as these, many newcomers ended up choosing their church and it grew very rapidly.

So do your homework to learn which triggers to exploit as well as discover the best way to exploit the window of opportunity while it is open.

2. Prepare in Advance

Because these windows of opportunity may not be open very long, one needs to act quickly—as soon as the window opens.  Otherwise, by the time you figure out what to do, it may be too late. 

In a prior blog, I talked about how Caterpillar did a scenario analysis of what would happen in significant economic downturn. They calmly built what they believed to be the best course of action under such a scenario.  Then, when the great recession began, Caterpillar realized that the significant economic downturn trigger had occurred, so the quickly implemented the plan built for that scenario. 

The plan worked brilliantly because it was not hastily put together during a period of panic. When the trigger came, they pulled out the plan and implemented it immediately with full confidence.

Other companies, like Proctor & Gamble, were criticized for being too slow and indecisive when the great recession came.  And they suffered for it.

In another example, a friend of mine told me a story about beer in Chicago. Budweiser had been a strong competitor in Chicago, but sometime back around the 1970s or so, the Budweiser distributors suffered from a strike.  Old Style beer, a smaller player from out of town, knew a strike at Budweiser in Chicago was a potential trigger point, so they prepared for it. 

When the strike occurred, Old Style immediately flooded the market to fill the void. They positioned themselves as being the one loyal to the citizens of Chicago. They made close ties with the local sports teams.  They advertised aggressively to position themselves as Chicago’s beer. As a result, when the strike came, the former Budweiser drinkers (who now had to find a substitute) chose Old Style and many stayed with Old Style after the strike was over.  Old Style became the strong leader in the Chicago market. It took many decades before Budweiser regained the share lost due to the strike. All because Old Style was prepared in advance for the trigger.

3. Utilize Modern Technology

Thanks to the technological advances in “Big Data” crunching, and the data available due to social media, it has never been easier to find out when individuals have reached a trigger point.  One can now set up massive, yet finely targeted marketing campaigns to reach individuals precisely at the point when the trigger goes off.

I recently attended a big data conference and was amazed by how advanced the tools are becoming (and how the prices to use them are dropping). It would be foolish not to consider them as key tools in your strategic arsenal.

However, given privacy concerns and other such issues, one needs to be careful.  Back in February of 2012, Target stores got into some trouble for being too indiscriminate in the process.  Due to big data analysis, Target determined that if a customer suddenly started buying certain products (out of a list of 29 products), there was an extremely high likelihood that the person was pregnant. So once someone started buying these products, Target immediately went into action with their pregnancy and new baby promotions.

Unfortunately, one of these promotional packages ended up going to a young teenaged girl.  The girl’s father became irate and went to Target to complain.  But then, a few days later, the father apologized to Target because he learned in the interim that his daughter was indeed pregnant. Thanks to big data, Target knew before the girl’s father.

Since then, Target is more subtle in how they exploit the data.

SUMMARY

The best time to convince people to switch allegiance to your brand is when people are most prone to consider making a change. Therefore, effective strategies can be built around finding and then exploiting the triggers which cause people to be more susceptible to changes in behavior. The best way to do this is by:

1.      Understanding the relationship of your brand to various triggers.

2.      Preparing in advance a strategy to exploit that trigger, so you can act upon it immediately.

3.      Carefully using all the modern big data and social media tools which make finding and exploiting trigger points easier.

FINAL THOUGHTS

Another thing I remember from my college days was that at the beginning of each school year, one of the beer companies would sponsor a huge free concert on campus. They understood that those first semester freshmen were not only making new friend choices, but new beer brand choices. Are you the one exploiting these types of windows of opportunity, or are you letting the competition get the upper hand?

Strategic Planning Analogy #144: Last One Standing Gets the Bill

THE STORY
Let’s assume for a moment that you are invited to a lavish dinner party. Not only that, the invitation says you are the guest of honor.

You show up for the dinner and find it to be more lavish than your wildest dreams. The crowd is huge. The entertainment is extravagant, with numerous famous performers. There is more food than you have ever seen before, and it is of the highest gourmet quality.

Everyone at the dinner keeps telling you how great you are. In fact, they are so generous in their praise that they say they are willing to surrender to your greatness.

Things are going fantastically; you cannot be happier. Then suddenly—in a flash—everyone disappears. You are quickly left alone, the last person standing…at least for a moment. Then the owner of the establishment appears.

The owner of the establishment says, “Here is the bill for dinner party, payable immediately.”

You look at the bill in shock. It is more money than you could ever afford to pay in your lifetime, let alone pay immediately. You turn to the owner and say, “But I was the guest of honor. I shouldn’t have to pay this.”

But the owner replies, “I heard everyone surrender their obligations to you. Besides, you are the only one left. Who else is there to give the bill to?”

Not long after that, you get another invitation—an invitation to stay in debtor’s prison until you can pay off the bill for the dinner party. And attendance is mandatory.

THE ANALOGY
Sometimes being the last person standing is less of a victory than it at first seems. You may have outlasted everyone else, but it may just mean that you are the only one left to pay all of the bills.

Most industries go through life cycles, starting with incubation, followed by rapid growth, maturity and then decline. Usually during the maturity phase, the industry starts to consolidate. First, the bigger players begin to acquire all of the smaller players. Then the bigger players start acquiring each other. Eventually there are only one or two major players left.

At first, the survivors of consolidation feel like the guest of honor in the story above. If you are one of the survivors, then you must be better and smarter than the rest, right? Every time you acquired someone else, the acquired companies had to surrender their power to you, which felt grand. Everything seemed to be going your way and it felt like a great party.

Unfortunately, the party eventually ends. The maturity phase of the industry lifecycle moves to the decline phase. You paid a high price to acquire all of those firms (probably with a lot of debt), and now the declining market cannot support your infrastructure. Industry profit margins are shrinking and sales are in decline. There is nobody left to sell your business to, since you are the only one left in the business (and outsiders won’t invest in a declining industry unless you are willing to sell out at a great loss). And now the bill arrives to pay back all of that debt used to finance the consolidation…and the bill is more than you can afford.

By contrast, the firms who sold out early received a premium price for their business. They may have lost out in the industry survival game, but they came out ahead in their return on investment. They were able to leave the party flush with cash and escape before the bills came due.

THE PRINCIPLE
The principle here is that retreat can often be a better strategic option than victory. There is a price to be paid for victory, and sometimes the price is too high. Selling out early in the consolidation phase is often a better option than trying to hang on.

Study after study has shown that most acquisitions fail to provide an adequate return on investment. In other words, companies pay more for acquisitions than they end up being worth. There tend to be a handful of reasons for this:

1) Overestimation of External Potential.
Acquirers often assume that the market potential is greater than what eventually develops. In reality, the growth phase ends sooner than expected or the decline phase is larger than expected. As mentioned in a previous blog, if businesses feel threatened by a new growth vehicle, they will retaliate, and blunt the growth rate of the threat (see the blog “Bombs Start Wars”).

Whenever I have seen early projections of the potential of a new industry, the estimates are almost always way too large. Remember the early days of internet retailing, when the “experts” were projecting the doom of the traditional retailer and how the dotcom retail specialists were going to rule the world? Well now, many years later, the volume of retail done on the internet is well short of those projections and it is the sites owned by traditional retailers which tend to be succeeding better than the dotcom specialists. Amazon has never lived up to the potential inherent in its early high stock price.

Overestimating external market potential will create a tendency to pay too much for companies during the consolidation phase.

2) Overestimation of Internal Consolidation Potential
Just as overestimation of external factors can make a company pay too much, so can overestimation of internal factors. Usually somewhere in the calculation of the value of an acquisition is an estimation of the synergies in combining the companies. The synergistic benefits include factors like:

a) Elimination of redundancies in costs between the two firms.
b) Economies of scale in combining sales volume
c) Added leverage in the supply chain, which is assumed to provide greater control over one’s ability to influence levels of profitability.

When synergies such as these are overestimated, then one is likely to pay too much for the acquisition. And guess what…studies have shown that synergies are often overestimated. Savings and influence are rarely as great as estimated. Integration is usually messier and costlier than projected.

3) Egos and Bidding Wars
In the fight to win the battle to survive consolidation, emotion can sometimes get the better of us. The passion to win can create a buying frenzy, where competing firms bid up the price of acquisition targets. As stated in a previous blog, even great acquisition targets can become lousy acquisitions if the bidding frenzy pushes the price too high (see the blog “It Depends”).

Given these three factors (over estimation of external factors, over estimation of internal factors, and bidding wars), it should not be surprising to find that the company who sells during the consolidation often creates greater value for its shareholders than the one who purchases the company.

For example, let’s look at the traditional department store industry in the United States and how the Target Corporation (formerly called the Dayton Hudson Company) played the consolidation game.

During the growth phase of the industry, the Dayton’s department store company bought up a number of department store properties across the United States. At the same time, they were experimenting with a new concept, called Target discount stores. Eventually, the company figured out that discount stores had a strong path ahead of them and that department stores were starting to reach maturity. As a result, in 1984, when department stores were still going strong, the company sold its department store divisions in non-core markets---John Brown in Oklahoma and Diamond’s in Arizona. Because the industry was still seen to be strong and growing by others at the time, Dayton Hudson received a premium price when they sold the properties.

By the 1990s, consolidation was in full force and Federated Department Stores (now called Macy’s) and the May Company were in a battle to become a surviving consolidator. Dayton Hudson took advantage of the frenzy to get a fairly good price for selling its remaining department store divisions to May Company in 2004.

Unfortunately, by now, traditional department stores were well into the decline phase. They were being successfully attacked from below by Kohl’s and discount stores. They were being successfully attacked from above by high-end department stores like Neiman Marcus and Nordstrom’s. Sales per store for the May Company were in a long-term decline. They had paid too much for their acquisitions. The “bills were coming due” and they could not afford them.

The May Company became desperate and in 2005 sold out to Federated, who changed all the store names to Macy’s. Because May had stayed in the game too long, Federated was able to purchase the May Company relatively inexpensively (and got all of those Dayton Hudson stores for far less than what the May Company had paid for them a year earlier).

And there are many doubts in the industry as to whether the Macy’s Company will be able to ultimately get a favorable return on its department store investment. Yet, Dayton Hudson took its profits from getting out early and put it into Target stores and is appearing to do quite well.

SUMMARY
Often times, the factors involved in consolidation create a situation where the ultimate survivor overpays for the right to be the “last one standing.” Selling out early can often be a better strategic choice.

FINAL THOUGHTS
If your strategy is to ride out a consolidation to the end, here are some suggestions. First, develop a core competency in integrating businesses. This is not an easy task. It takes special skills. Second, be realistic in your expectations for the industry. Don’t overestimate the benefits. Third, be willing to walk away from a deal if the bidding gets too high. You may have a chance to come back later and get it at a lower price.

Successful Retail is about making PAR (part 2)

THE STORY
Many, many years ago, I did some consumer research to try to understand the difference between a Wal-Mart customer and a Target customer.

The people who loved Wal-Mart thought that Target customers were stupid, because:

1) Target shoppers are were paying too much (and that’s wasteful—which is a bad thing). They could get the stuff cheaper at Wal-Mart.

2) Target shoppers were seduced by all the frills and glamour, which at the end of the day is worthless, because the only thing you get to take home is the product.

At the same time, the people who shopped Target thought that the Wal-Mart shoppers were stupid, because:

1) The Wal-Mart shoppers were putting up with a dirty, undesirable shopping experience when they did not have to.

2) Don’t the People who shop at Wal-Mart realize that by going into those stores they are associating with the undesirable people of society, so by association they would be considered an undesirable person?

So in the end, both sides thought that they were the smart shopper and that the other shopper was stupid.

THE ANALOGY
We tend to patronize those companies that reinforce the way we look at life. The Wal-Mart shopper tended to have a moral code which was against wastefulness. Many of them saw wastefulness as an indicator of being a bad parent, since money wasted at the store was less money they could spend on their family. Since Wal-Mart seemed to waste the least amount of money, that’s where these shoppers went.

Conversely, the Target shopper saw shopping as more than just a task to get a product as cheaply as possible. They also valued the shopping experience and how that experience would influence how others thought about them. Whereas the Wal-Mart shopper was more directed by an internal moral compass, the Target shopper was more influenced by external direction from the culture around them. Since the external culture thought more highly of Target, Target became the store of choice.

Therefore, when creating strategic direction for your brand, one must take into account how the customer integrates this purchase into their larger view of life and self worth. Otherwise, they will miss out on some of the key motivators of purchase and perhaps end up looking like the “stupid” choice for a large sector of people.

THE PRINCIPLE
This is the second of two blogs looking at how to be successful as a retailer. Once you get past mastering the basics of retailing (right product, right price), there are three more areas one must master. We called it mastering PAR, because this acronym spells out the three areas:

1) Personality
2) Advocacy
3) Respect

In the last blog, we looked at personality. In this blog, we will look at Advocacy and Respect.

2) Advocacy
If one assumes that most stores in a particular sector sell about the same stuff at roughly the same prices, then what becomes the tie-breaker to get you to choose one over the other? Often, it has to do with which store is doing a better job of being an advocate for your way of life.

One way a store can be an advocate is by helping its core customers get more of what they want and less of what they don’t want. Most people do not want to wade through acres of stuff they are not interested in so they can find the stuff they are interested in. An advocate store will know its customer type well enough to pre-select only those products important to their customer. This can be a great time-saving service.

Walgreen’s recently found out from its customers that they would enjoy the experience more if the selection was reduced, so that is what they are doing. In the area of food, Trader Joe’s and Aldi have been successful by narrowing the choice to just what their customer is looking for. In fashion, specialty stores tend to do well if they focus on a particular type of fashion statement rather than trying to be too many things in the same store (such as the successful focus of American Eagle Outfitters versus the muddle of the Gap).

For additional selection options to become meaningful choice, it needs to be relevant to the customer’s way of life. Otherwise, it no longer represents choice, but only clutter. Advocates get rid of the clutter on behalf of their customers.

Another way to become an advocate is by reinforcing the fact that you endorse the lifestyle of your customers. These retailers seem themselves as more than just sellers of goods, but also as outfitters of a lifestyle. Whole Foods is about more than just product. It is trying to advance an entire way of healthy living. Hot Topic makes the Goth teen feel like their lifestyle is welcomed, understood and appreciated. Christian bookstores are not just selling books, but endorsing and supporting a particular spiritual lifestyle.

A third way to be an advocate is to be a fighter for your customers. It is sort of like being a concierge for your customer, looking for special ways to help out your customer. This could include anything from special ordering product to lobbying for the rights of the customer. It’s going that extra step to make the customer’s experience special.

Finally a store can be an advocate by supporting the same causes which are important to their customer. More than ever, customers want to patronize stores which direct some of their profits to help make the world a better place. If the causes which are important to the customer are also important to the store (and the store puts their money where their mouth is) the store will tend to be patronized more. This could include environmental causes, neighborhood causes, or helping those less fortunate.

3) Respect
Closely associated with advocacy is respect. Customers do not want to be taken for granted. They want to be appreciated for their patronage. About a week ago, MSNBC ran a web page asking people to write in about how to improve Wal-Mart. One of the biggest complaints was the long lines at the store. People felt that those long lines showed no respect for the customer’s time. If you do not respect a customer’s time, then they will shop at a place where they get the respect. One of the reasons for the success of Carmax is the fact that they do a better job than the competition in respecting the time of their customers.

Customers want stores that respect the choices their customers make. Don’t be patronizing or judgmental. Believe in what you are selling and be proud of it.

Finally, show respect for the customer beyond the store experience. The relationship shouldn’t end at the cash register. If you sell poor quality junk that breaks down shortly after purchase, you have not shown respect for your customer. Stand behind what you sell and make sure the post purchase satisfaction is just as important as the in-store satisfaction. Repeat business creates profits. If you let down the customer after the transaction, you might not get another transaction from them.

SUMMARY
Customers have too many choices of where to spend their money. To get them to choose you, a retailer must go beyond just having the right goods at the right price. Instead, they must form deeper relationships which reinforce the lifestyles and moral codes of their customers. You must stand alongside your customer and become an advocate for the things most important to their way of life. In addition, you need to respect their time, their choices and their post-purchase experiences. Otherwise, you are seen as just a cold-hearted business. And it is difficult to excel high enough on the retailing basics in order to overcome this bad impression.

FINAL THOUGHTS
Sometimes, I think many retailers spend too much time defining themselves in terms of what they sell rather than who they serve. If a retailer were to focus more on pleasing a particular type of customer, they may find many more opportunities to profitably sell many more things which they would never dream of doing if they defined themselves by some narrow product category.