Any number of externalities can alter this one-dimensional business model. A new grocer moves into town. A talented software designer develops a new application. A competitor offers to sell out for an irresistible price. A customer asks for an additional service. For these and myriad other reasons, all but the simplest mom-and-pop operations eventually evolve into more complex companies.
To trump Ford, for example, General Motors’ Alfred Sloan segmented the market socioeconomically, offering inexpensive Chevrolets to lower-income auto buyers, Cadillacs to the highest-end, and Pontiacs, Oldsmobiles, and Buicks in between — “a car for every purse and purpose.” Sloan also created a multidivisional management system that could centrally rationalize the company’s operations, including its inventory, manufacturing, and distribution processes, by identifying and sharing common resources among the organization’s many divisions — an early, pioneering example of smart customization. GM was able to assert control over its marketplaces — external and internal — for three reasons: Its market segmentation was unambiguous (a Cadillac offered a much better driving experience than an Oldsmobile, justifying the price premium); it lacked significant competition after it surpassed Ford; and its customers had little access to the information that would allow them to bargain effectively with the company over products and prices. Sloan’s GM, like other dominant companies through most of the 20th century, controlled its value chain.
U.S. automakers have lost much of that control and become overwhelmed by systemic complexity that derives in part from blunt strategies for responding to their perceptions of customer value. Because they interpreted value as requiring an increasing number of options on automobiles, they multiplied product configurations by the score. Any quality problem, they reasoned, would be dealt with by their extensive dealer networks.
Lacking these networks, Toyota took several steps to limit its exposure to complexity problems. It bundled offerings to reduce the multitude of options configurations and their fixes. It focused on continuous improvement, relentlessly engineering the dealer contribution out of the offering. Furthermore, with a more robust product, Toyota was able to grow its own dealer network more quickly than its competitors. The simpler business model allowed it to penetrate markets far more rapidly than the traditional U.S. automotive model, because it provided customers the options they truly valued without compromising important scale economies.
Even though the Big Three have since adopted similar approaches to bundling, they have yet to match Toyota’s success, which is premised on a holistic business model, not just a backward-looking fix. By aligning its understanding of customer needs with its delivery system, Toyota effectively recaptured value from the dealer network, and engineered itself into a superior position relative to its U.S. competitors. In the second quarter of 2003, its net profit margin was 3.89 percent, more than twice the industry average of 1.67 percent. Its 36-month net income growth of 5.2 percent far outdistanced the –17 percent industry average.
Finding the Fit
Toyota’s success at smart customization aptly illustrates that achieving this…call it a state of grace…can generate value for both customers and providers. To prove this point more rigorously, we sought to measure how fully companies are implementing smart customization and to quantify its value in driving profitable growth.
By synthesizing initial benchmarking findings and Booz Allen’s client experience, we developed 36 best-practice criteria in customization’s two component dimensions: 1) customer value creation; and 2) delivery alignment between cost drivers and account value. We then fine-tuned the weighting of the criteria on the basis of their relative importance in predicting performance. From this, we designed the Booz Allen Smart Customization Index, which provides a composite snapshot of how well a company is doing against the set of best practices we identified. When we add together a company’s scores on both value creation and delivery alignment, a company receives a score between 0 and 100. Those that had total scores above 50 and above-average scores in each of the two dimensions we labeled smart customizers. We then compared all the companies in our cross-industry, 50-company sample to their industry peers, a total universe of 600 companies in 15 sectors. The smart customizers — the companies that focused simultaneously on both value creation strategies and delivery alignment — outperformed industry peers by a two-to-one ratio in revenue growth, and had profit margins 5 to 10 percent above those of their competitors. Simple customizers — companies with index scores of 50 or lower — were five times as likely to grow at rates below their industry average and had lower profit margins. Our statistical analysis found a 99 percent confidence level between a company’s place in the Booz Allen Smart Customization Index and its revenue growth and profit margins compared with industry peers. (See Exhibit 4.)