November 30, 2006

3rd place may not be all that bad

I don’t usually look for management advice in The New Yorker, but the Dec 4 issue has an article by James Surowiecki (p. 44) well worth reading. He charts the evolution of the video-game industry, once ruled by Nintendo, which in the early 1990s was Japan’s most profitable electronics company. One third of US homes had Nintendo devices.

That was then. Now the industry is dominated by Sony’ PlayStation and Microsoft’s Xbox. Nintendo is an also-ran, at least in market share.

Surowiecki’s article makes the case, though, that “bringing up the rear” can be a very lucrative position to be in. He demonstrates how the old logic of GE’s Jack Welch that a company should be number one or two in its market or it should quit doesn’t always make good sense. In this three-way competition, Nintendo is making more money and doing better in the stock market than either of its bigger rivals.


According to Surowiecki:

“Sony and Microsoft are desperate to be the biggest players in a market that, in their vision, will encompass not just video games but ‘interactive entertainment’ generally.”

“Sony and Microsoft’s quest to ‘control the living room’ has locked them in a classic arms race.”

“Nintendo has dropped out of this race….Because Nintendo is not trying to rule the entire industry it’s been able to focus on its core competence, which is making entertaining, innovative games.”

Companies that focus obsessively on competitors and market share, according to recent academic research, tend to have lower profitability and return on investment than those who pay attention to other important performance measures. High market share doesn't automatically drive high profitability.

Surowiecki sums up his argument by noting business isn’t the same as a sporting event (or warfare): victory for one company doesn’t have to mean defeat for everyone else, especially in huge markets like global video-games that are worth $30 billion. This is a wisdom often lost when companies quest for bigness as an end in itself.

“… companies can profit even when they are not on top, as long as they aren’t desperately trying to get there. They key is to play to your strengths while recognizing your limitations…Nintendo knew it could not compete with Microsoft and Sony in the quest to build the ultimate home entertainment device. So it decided, with the Wii, to play a different game entirely."

Not a bad decision.

November 29, 2006

The bloated sales force disease

Only a day after Boeing was lauded for its new restrained approach to growth, the world’s largest drug maker, Pfizer, announced similar steps. In Pfizer’s case, the first step was a 20% cut in the size of its sales force.

Pfizer, like many pharmaceutical companies, sharply increased the size of its sales force and marketing budget to try to compensate for its labs inability to discover sufficient new drugs.

This misguided “put-more-feet-on-the-ground” strategy has been followed by other drug makers (and other industries such as banking) that have become caught in the bigness rat race. It papers over the real problems, providing only temporary relief along with a hefty dose of high costs. Worse of all it shifts the focus of the business leaders to sales and marketing issues, at the expense of paying attention to improving the flow of new and better drugs through the R&D pipeline.


November 28, 2006

Fewer Sales = Greater Sustainable Growth

Airplane maker Boeing just said "no" to one of its best customers when Southwest Airlines asked to buy more planes. Boeing suggested they buy some second-hand aircraft instead.

What gives? The linked New York Times article describes the method to Boeing’s seeming madness – how Boeing has discovered that discipline and self-imposed constraints are the drivers of sustained growth. In sort: too much of a good thing is not a good thing.

“Boeing, which is based in Chicago, is trying to avoid mistakes of the past. In the last aviation boom, in 1997 and 1998, Boeing gorged itself on orders, but its production lines could not keep up and ground to a halt.”

“Nevertheless, the company flooded the market with too many planes and ultimately had to sell them at cut-rate prices. Boeing’s write-offs came to more than $4 billion in 1997 and 1998, executives were sent packing and 20,000 workers lost their jobs. Boeing’s stock plunged, as did profits, and many wondered whether Boeing would ever regain its footing.”

“Today, having learned its lesson, Boeing is adopting a polar opposite strategy as it faces a new wave of orders that, if not managed right, could swamp the company again.”

“ ’In this hot market, it would be easy to be consumed with the desire to sell anything to people walking through the door who want to buy and push our production system to the point where you could break it,’ said Scott E. Carson, the chief executive of Boeing Commercial Aviation. ‘It’s much harder to say, I’m sorry, we’re sold out.’ ”

“He added: ‘We have to communicate that openly with customers and suppliers to be sure they understand why this is good for the industry. The role of the industry leader is to demonstrate discipline and restraint in the marketplace.’ ”

Boeing made a tangible demonstration of this anti-bigness strategy when it cut in half the number of planes it offers and suppliers it uses. The company has also sharply reduced its workforce, outsourcing much of the plane manufacturing so it can focus only on the work of design and final assembly.

Building airplanes has always been a roller coaster industry. Hopefully flattening the peaks will also level-out the dips, and make for a longer and steadier ride. That's mature growth.


November 17, 2006

Clear Channel goes for focus

Yesterday Clear Channel Communications – a longtime poster child for bigness and consolidation of the US radio industry – agreed to sell itself to a group of private equity firms in a $26.7 billion transaction. The first strategic move planned after the deal was announced: sell off one third of Clear Channel’s radio stations and all its TV ones.

This is just latest – and largest – example of media companies going private. Many, especially newspapers, originally were closely held, and issued stock to fund what often turned out to be uneconomical expansions. So moves like Clear Channel’s reflect an undoing of this strategy and a move back to their roots (although the intention of most private equity investors is to clean-up the clutter and take these businesses public again).

What all this illustrates is one form of the shift from bigness to focus. For folks who have been around the business world for a while, echoes of the LBO buyout boom of the 1980s are loud and clear.

Bigness is fueled by stock option-driven leaders in public companies. Consistent quarterly profit increases (something, as noted in Bigger Isn't Always Better, that defies the laws of economic gravity), ongoing incremental “water-torture” cost-cutting, emphasis on revenue increases, and unending pressures to expand are the hallmarks.

In contrast, the world of private equity is one of focus, spin-offs, sharp cost-cuts, short-term risk tolerance, and comfort from cash flow.

One model isn’t ultimately better than the other, just different. Both have serious flaws that can destroy real innovation and growth.

Ironically Clear Channel made itself more attractive to private investors by adopting a “less is more” approach to selling advertising 18 months ago. It reduced the total number of minutes devoted to commercials each hour on its radio shows and shortened their average length. Result: happier listeners, better ratings which led to more ad revenues for less air time, and constructive pressure on the advertisers to make their shorter commercials more engaging. Which led to more product sales for the advertisers – a win-win all around.

November 16, 2006

Small wonder

Poorly managed auto companies aren’t an American monopoly. Volkswagen – one of the companies I criticized in Bigger Isn't Always Better for strategic sprawl – has made several recent moves to start mending its ways. Its chief executive was replaced by Martin Winterkorn, the head of its Audi division. And Winterkorn’s first decision was to rethink the way VW groups its car units.

His plan is simple – often a good sign. Put the brands aimed at the high volume, mass market in one bucket (VW, Skoda and Seat), and those targeted toward luxury buyers (Audi, Bentley, Bugatti and Lamborghini) in another.

This adds a sense of customer focus to a company that had organized itself into “oil and water” combinations of Audi and Seat in one division, and VW and Bentley together in another. These illogical groups were a result of inward-facing factors: history, company politics, and attempts to share core competencies that really weren’t very shareable. They also reflected the model of General Motors in the 1920s – try to offer customers a broad choice of cars from cheap to luxury, all under one umbrella. It may have worked 75 years ago, but…

The new organization shows more willingness to group businesses according to common customer needs – always a good start down a path to real growth. VW was once the highly successful builder of the Small Wonder, my first car. Let’s hope this logic returns.

Loosing sight of what the business is really about

In yesterday’s Washington Post business columnist Steven Pearlstein used the experience of car rental giant Hertz to illustrate how the US car markers have been their own worst enemies, “careening from one strategic blunder to another for nearly three decades.”

His article is well worth reading. Here’s Steve’s bottom line:

"The important lesson here, however, isn't about the cravenness of Wall Street investment bankers, or the shrewdness of private equity firms. Rather, it is a lesson about what happens to companies when they lose their focus and rely on game-playing and financial manipulation. While the Big Three were dickering around buying and selling car rental companies, or getting into and out of the defense business and consumer finance, companies like Toyota and Hyundai and Honda were eating away at their market share by delivering great cars and value to customers. And it is that, more than any other factor, that has brought the Big Three to their current crisis and the car guys to Washington."


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