Analogy #237: Take It Off

The Story
A lot of people have trouble losing weight. Well here are two sure-fire ways to lose weight.

Method #1: Get Very, Very Sick
There’s nothing like a severe case of food poisoning, flu or diarrhea to take off pounds quickly. The weight just goes down the toilet. In addition, you’ll feel so weak and nauseous that you won’t want to eat for awhile after that.

Method #2: Amputation
Now some would complain that with method #1, the weight eventually comes back. So if you really want to make sure your weight loss doesn’t come back, try amputation. Once you cut off a leg or two, that weight is never coming back. It’s quickly gone FOREVER.

THE ANALOGY
The two methods above that were recommended for weight reduction are impractical and stupid. What good does it do to lose weight if you have to spend all your time weak and sickly, either in bed or near a toilet? There’s nothing beautiful about seeing someone in such a sickly condition. In addition, there are the long-term negative health considerations from depleting your vital fluids.

Amputation may cause weight reduction, but it also eliminates key functioning parts of your body. Chopping off vitally important pieces of your body is extremely short-sited. Eventually, you’re going to want those pieces back, and by then it is too late. Not only that, you still haven’t eliminated the ugly fat in the rest of your body. You’re still fat, but without a leg.

As silly as these methods sound for human weight reduction, I have seen similar approaches taken by companies in the name of cost reduction. On the one hand, some companies cut out their “vital fluids” to the point where the company is too weak and sick to effectively function in the marketplace. They may be lean, but they are not mean. They are bedridden and on their way to oblivion.

This is often the result when companies indiscriminately announce 20% cost reductions across the board. Not every area has 20% waste, so some areas will lose vital fluids needed to be effective in the marketplace. Purging yourself of vital energy to compete makes a company sicker, not healthier.

Second, some companies will lop off entire sectors of their business. At first, they may think that they can get away without these major pieces of their business, but eventually they want them back and it is too late. For example, amputating R&D or maintenance from your company may save money today, but without R&D, you won’t have a pipeline to grow future profits, and without maintenance, your current profit machine will break down and go into disrepair, shutting you down.

During these current economic times, many strategies are focusing on cost reductions. Please don’t use either of these methods.

THE PRINCIPLE
In the end, the real goal is not absolute lowest weight, but absolute best health. If you go to a health club, the trainers will tell you that some people are so weak that they need to gain some muscle weight in order to function at their peak. Likewise, strategies should be designed to focus on health, rather than just cost reduction, since, as we have seen, not all loss is healthy.

Experts will tell you that the sensible way to lose weight is also the healthy way. The idea to do a combination of two things: Change to healthier eating habits, and increase your exercise. In other words, it’s all about managing caloric inputs and outputs: fewer, but more nutritious calories in, and burn more calories out. In today’s blog we will apply this principle to business cost reductions.

1. Cut Back on Bad Calories
The goal is not to cut out all calories. That leads to unhealthy bulimia. Instead, eliminate the empty calories that provide no nutrition. In a business sense, that means cost cutting which takes out the things that have no bearing on your positioning, things that will not be missed and do not hurt your image or competitive strengths. In fact, some cuts can actually improve your strengths (just like cutting out an excess of cabs and sweets can eliminate energy crash cycles).

My current favorite example of this is Revol Wireless. In the United States, cell phone usage is fairly mature. Just about everyone who wants a cell phone already has one. Now the typical cell phone model in the US is to sell a phone well below cost and then charge a higher phone rate over a set period of time (in a contract) in order to recover the cost of the phone.

Well, what if a cellular company were to treat the phone as empty calories? If you eliminate the phone, the usage fees no longer have to cover a phone subsidy. In addition, you do not need to lock people into a long-term contract, since you don’t need to stretch usage out until subsidy is paid for. That’s basically what Revol Wireless has done. By treating the cell phone as empty calories, it can eliminate the undesirable contract and charge much lower phone rates than the competitors who have to factor in a subsidy.

Now not everyone wants to stick with their old phone, but if that market is big enough, someone like Revol can make out.

A simpler example is Kellogg. In the past, cereal companies have tried to cut back by putting less cereal in the box. Over the long haul, that can hurt, because you have reduced the value of the box without a comparable reduction in price. This is not just eliminating fat, it is eliminating muscle. People are buying cereal, and you’ve reduced that very thing they are trying to buy.

Recently, however, Kellogg has tried a different approach. Instead of reducing the contents of the box, they have changed the shape of the box so that it takes less cardboard to house the same contents. When you multiply a small savings on cardboard times all the boxes they sell, that adds up to a large cost reduction. This reduction, however, did not reduce in any way the quality or quantity of the contents. As a side benefit, Kellogg contends that the new shape fits better on a customer’s shelf, so the value may have actually increased, even though costs decreased.

Many of the green marketing programs also work in this way. They eliminate wasteful excess packaging (empty calories), which not only reduces costs, but can increase one’s image as caring about the environment.

2. Increase Exercise
One can lose weight not only by cutting out food, but by keeping food intake constant and increasing exercise. So when one feels pressured to improve productivity, don’t blindly rush to cut. Perhaps all you need to do is improve your exercise.

In a business sense, you can see that in ratios. Most productivity measures are ratios, like Labor $ per Unit Made, Costs per Unit Sold, Overhead per Dollars Sold, and so on. The cutting reflex wants to quickly cut the numerator of these ratios—the labor, the costs, the overhead. The exerciser realizes that productivity can also be gained by keeping these inputs flat and increase the denominator outputs, like units or sales.

For example, in this current economic recession, P&G has resisted cutting inputs like advertising. If anything, they are putting added emphasis on advertising. Why? Strong advertising (flexing their advertising muscles) can increase the denominator of sales, thereby increasing productivity.

Recently P&G has announced that they are taking their Mr. Clean Car Washes out of test mode and rolling them out. This will cause an increase in expenditures, but it is a productive exercise of their money, so they will be better off. In addition, it will provide another avenue of sales so that overhead as a % of sales will go down even if overhead costs stay the same.

SUMMARY
In tough economic times, there can be a lot of pressure to cut costs. However, the best strategy is not one that cuts the most costs, but one that creates the healthiest company. So if you have to cut, look for cutting the empty calories out of your business diet—things that won’t be missed or hurt your image if they are cut (both near term and long term). Otherwise you may be cutting out something vital that you will need later (weight loss through amputation). In addition, look for ways to increase your exercise, so that you can grow the denominator (sales, units) faster than the inputs (costs). If an investment is highly productive, you can increase productivity by actually spending more.

FINAL THOUGHTS
The tough times will not last forever. More prosperous times will return. Unfortunately, if you amputate your leg, it is never coming back. Think twice before placing the saw on a piece of your corporate body.

Analogy #225: Fewer Colors, More Contrast

THE STORY
As strange as this might sound, my wife prefers to watch television in black & white instead of color. She says that all of those colors can be distracting and take away from focusing on the plot.

In addition, when the picture is in black & white you can increase the contrast. This makes certain items on the TV pop out more. It is easier to see the individual elements on the screen when the contrast is greater.

THE ANALOGY
Strategic planning has a strong visual component. In the process, we are trying to “see” many things:

1) What does the future look like?
2) Which elements of the business should I be focusing my visual attention on?
3) What does “good” look like? How do I know when I’ve achieved it?

In all of the complexity and speed of today’s business world, the picture we see can look a bit blurry and confusing. There is so much to be done and so little time. It’s hard to pick out the critical issues from the flurry of the daily crises and the constant buzz of the Blackberry. How do we keep from drowning in the mundane and locate where our eyes really need to be focused?

The answer is that I think we need to become more like my wife. To find what is really important, we need to set our sights on fewer colors and more contrast.

When I say “fewer colors” what I mean is that we need to focus on fewer issues. Of the millions of things we could be paying attention to, not all of are equal importance. By getting the critical few linchpin issues right, the rest will tend to fall into place. We need to put blinders on to all of those pretty bright colors that can distract us from the core.

When I say “more contrast” what I mean is that we need to become more extreme in our strategic responses...see things more as Black or White and less as various shades of gray. When everything looks about the same (gray) everything gets treated about the same (mediocre or average).

However, if we accentuate the extremes, we get more dramatic variability in what we do. Everything that is black gets pursued at full speed and high resource. Everything that is white gets cut and ignored. True success is based on finding the few things to do very, very well and knowing what to not waste any effort on at all. Being average across the board leads to failure. It is by spreading your resources and priorities unevenly (with high contrast) that you get the best outcome.

THE PRINCIPLE
So the principle here is to develop your strategic plan in a manner that:

1) Does not get distracted by a bunch of pretty and colorful things that aren’t important; and
2) Helps increase the contrast in the issues which are important, so that it is easier to see how to disproportionately allocate resources.

To see this in action, I will use a teleconference that was put on today by the Corporate Executive Board. About 10,000 listeners were learning about what top companies do to win during an economic crisis. Although they did not use these terms, a lot of what they said seems to reinforce this idea of fewer colors and more contrast.

Over and over, the theme seemed to be that the best companies narrow their focus and then get more extreme in their approaches within that focus. This suggestion was repeated in five areas.

1. Projects
When deciding what projects to work on, fewer colors says that in an economic downturn I should be focusing on fewer total projects. More contrast means that individual projects need to be treated differently. For example, instead of cutting 20% out of the budget of every project, cut 100% out of a large number of projects (kill them off) and perhaps even increase the budgets for the few that remain so they have a better chance of succeeding.

In addition, selectively ensure that the entire development pipeline has at least one project in full black attention. Don’t cut out all of the long term and only do the near-term projects. Selectively spread the resources so that a few projects in near-term, mid-term and long-term remain. And for the few that remain, pursue them with the highest of effort and resource.

2. People
To make sure your business has the best employees during troubling times, the Corporate Executive Board suggested ideas that emphasize fewer colors and more contrast. First, they said to focus your efforts on your very best employees. Second, they recommended that there be greater contrast between how you treat you best and your worst employees. Be more generous in the way you compensate your very best (even at the expense of others). Also, be more willing to get rid of the weaker employees. By doing so, the Corporate Executive Board says that you will do a better job of retaining your best employees and increase the overall quality of your employee mix.

3. Cost Control
When looking for places to cut costs, the Corporate Executive Board says to focus on fewer colors and put the bulk of the attention on making cuts at the point where the products and services are produced. Cuts at this level tend to be larger and last longer. In terms of increasing contrast, they suggest that while cutting at the point of production you may actually want to increase spending on general and administrative (G&A) costs. This seems to be what the best in class do. The rationale is that the people at the G&A level:

a) Have a broader perspective and can better see what to focus on.
b) Can better leverage best practices across more areas.

4. Product Mix
There are lots of attributes one can emphasize when putting together the value bundles offered to the customer. The Corporate Executive Board suggests that you “limit the colors” by only focusing on the attributes most important to people in an economic downturn. Then you increase the contrast by actually investing more in these few attributes which are most relevant (often at the expense of other attributes, which get cut way back or eliminated). That way, your company can afford to stand out as being the very best at doing what is most important to people at this point in time.

5. Risk Management
The Corporate Executive Board does not recommend an approach to try to reduce all risks in the business. After all, risks often lead to rewards. Therefore, more contrast is needed in how risks are handled. Some risks should be reduced by trying to push them onto the rest of the supply chain (primarily by focusing on contracts). However, there may be other risks that your business can uniquely absorb better than the rest of the supply chain. In those cases, you may want to even increase the risk in those areas by using your strengths there as a lever to get increased business (or increased concessions) from others in the supply chain who want to reduce risk in that area by handing the problem over to you.

SUMMARY
Great strategic action plans tend to have two characteristics;

1) They narrow the focus of what is worked on to only a small handful of issues, which we referred to as “fewer colors.”

2) They have more variability in how to handle individual elements within the areas of focus—more extremes in the effort required (all or nothing), which we referred to as “more contrast.”

Instead of across the board cuts of a similar percent (which leads to mediocrity), make bigger cuts in some areas so that one can actually increase spending at a few critical points.

By following this “fewer colors, more contrast” approach, one can afford to selectively and aggressively go on the offensive, even in tough times when resources are lean. Since tough economic times tend to cause customers to reassess their buying habits, this is the ideal time to pick up market share. This will not only create rewards during the current times of difficulty, but create a stronger platform for when the times are good again.

FINAL THOUGHTS
To keep the “number of colors” down, sometimes it helps to use a clever catch phase to help people understand what is truly important to focus on. When I was at Best Buy, we called them KRAs (Key Results Areas). You couldn’t get funding or staffing unless it was tied to the small handful of KRAs. At Limited Brands they use the term CFI (Critical Few Initiatives). Pick your own three-letter acronym and focus away.

Strategic Planning Analogy #149: Reaping in Recession

THE STORY
Potter Palmer got into the department store business in Chicago back in the mid 1800s with a store called P. Palmer & Company. When compared to other retailers of his day, Potter Palmer was quite an innovator. He was an early pioneer of having sales, which he called “bargain days.” Palmer instituted free home delivery of all purchases. In addition, he was a one of the first to offer money back guarantees regardless of reason, and having a policy that “the customer is always right.”

He was also one of the first department stores to actively go after the female customer. His store was the one place in Chicago where women could go unescorted.

In addition to all of these customer-oriented innovations, Palmer innovated in the back-room portion of his business. The Chicago economy in the second half of the 19th century had wild and frequent swings from boom to bust. Many of the busts originated with fires, like the great Chicago fire of 1871. Others were due to credit issues. Regardless of the reason, it seemed that about every three years or so the economy in Chicago during the mid 1800s would get very bad.

At each of these cycles, many of Palmer’s competitors and suppliers—who were highly leveraged into debt—would declare bankruptcy. Palmer tried to stay liquid and did not over-borrow during the good times. As a result, he always had cash during the bad times. As others around him were declaring bankruptcy, Potter Palmer was buying up their assets at pennies on the dollar. As a result, when the next boom time came, Palmer was in a stronger position than in the prior cycle.

Each economic cycle gave Palmer the ability buy low during the downturn and sell high in the subsequent boom. If it weren’t for his poor health, he could have kept this up for a long time. However, because of his health he sold the department store business in 1865. In 1881, one of the people Palmer sold to changed the name of the store to his own name—Marshall Field.

THE ANALOGY
Economic Cycles are not a new phenomenon. Booms and busts have been around for generations. If you believe all of the press, there is a high likelihood that the next economic downturn into recession will happen in 2008.

Potter Palmer faced tough economic times as well. Yet, rather than have recessions hurt his business, Palmer found a way to use recessions to become an even stronger company. In this blog, we will look at what we can learn from Potter Palmer to help firms proper in the recessions to come.

THE PRINCIPLE
The idea here is that if one acts strategically, one can often find ways to benefit from economic downturns. Here are three principles to help make recessions a positive impact on your business.

1) Don’t Assume Straight Lines Forever
Poor decisions are often the result of believing that the good times will last forever. The current housing loan crisis is due in large part to a false belief that housing prices would in general continue to rise forever.

Trends, however, do not last forever. Events rarely happen on an unending straight line angled slightly upward to ever bigger and better results. Life tends to be curvilinear, with both ups and downs.

When people think the good times are virtually forever, there is a tendency to borrow heavily to exploit the good times. When the good times end—and they always do—the debt cannot be paid. That happened in Potter Palmer’s time and it is happening today.

Palmer, however, did not assume that the good times would last forever. He tried to maintain a financial cushion to protect himself when the bad times came. Palmer was like the smart squirrel, who gathered nuts in the fall when they were plentiful and stored some away for the harsh winter coming ahead.

Strategic planning can be useful to help us protect ourselves from falling into the straight-line trap. First, it can help us take a longer-term perspective to our decision-making. The longer the perspective, the more likely a non-linear perspective will be entertained.

Second, strategic planning provides the opportunity for scenario planning. This gives a company time to contemplate the impact of various economic conditions on the business, so that one can prepare in advance for the down times.

Finally, strategic planning forces us to come to grips with our strategic weaknesses. The more we understand our vulnerabilities, the easier it is to foresee a time when someone could exploit our weaknesses and put us into an economic downturn. This provides incentive to shore up our weaknesses or take other actions to protect ourselves from the bad times.

2) Don’t just Ride the Crest—Build a Differentiation
During the good times, it is tempting to relax and just go along for the ride. Pretty much all companies do better in the good times, so long as you don’t do something stupid. Therefore, just don’t do anything stupid and ride the crest of good fortune.

Unfortunately, if all you are doing is riding that wave, you will end up riding it for the full cycle—crashing when the wave crashes. The good part of the cycle provides the time and cash for investing in a business model which favorably differentiates one’s self in the marketplace. Then, when the times go bad, the weaker players will be the ones losing out and you will survive based on your positive differentiation.

Potter Palmer invested in a number of differentiating strategies to stand out in the marketplace. These included free delivery and unconditional money-back guarantees. He didn’t need to do this. His competitors weren’t doing this. The customers were not demanding it. In addition, these differentiating strategies tended to increase his cost structure.

Yet Potter Palmer knew that if he invested in a strategy that “the customer is always right,” it would pay huge benefits in the long run. It gives people a reason to prefer your firm over the competition. That may not seem as essential when there is more than enough business to go around. But when the pickings are slim, it will ensure that you get a disproportionately higher share of the business available.

One of the primary benefits from strategic planning should be the discovery of the best path to create positive differentiation for your firm. This is one of your best protections in a down cycle.

3) Exploit the Unique Opportunities Only Available in a Recession
Not everything in a down cycle is bad. Potter Palmer found that he could use his cash during down cycles to accumulate inventory and other assets at remarkable savings. When fires destroyed portions of Chicago (including his store), Palmer could take advantage of the situation and build better stores in nicer locations.

One of the biggest advantages of an economic downturn is that it gets people’s attention and causes them to rethink what they do. It is one of the easiest times to increase market share, because economic hardship is a great incentive to change behavior. Customers will seek out greater value. Businesses may be more willing to outsource some peripheral activities. Those who relied on a firm that has now gone out of business need to find a replacement.

Studies have shown that those who out-invest their competition during down times have the greatest up tick in sales/market share when the economy rebounds. To those who are prepared, a recession can be a great long-term ally. With the proper planning, one can prepare in advance on how to exploit some of the unique benefits which a recession brings.

SUMMARY
Business cycles are inevitable. Recessions will come. You can benefit from recessions if you a) accept the inevitability of recessions, b) build positive differentiation into your business, and c) exploit the unique opportunities available during recessions. However, you will miss many these opportunities if you do not plan for them in advance.

If done properly, it can become a virtuous cycle. Differentiating activity in the good times provide the market strength and cash to survive the downturn. Then, using the cash and strength during the down time, one can invest to build a stronger position for the next good time. This then allows you to afford even stronger competitive differentiation in the good times, which better positions you for downturn opportunities, and so on.

FINAL THOUGHTS
One of the greatest threats to this virtuous cycle is the temptation to take too many profits out of the business too quickly. If you suck out all of the cash during the good times, there is nothing to sustain the business during the bad. Prudent investments into the business can often provide greater long-term profits than if all the money is taken out today. (For more on this topic, see the blog “All Executives Should Have a Balloon in Their Office”.)