It’s one thing to sail into uncharted waters equipped with radios, radar, and a GPS system, and an entirely different thing to sail virtually blind — like 15th-century explorers equipped with only an astrolabe, quadrant, and compass. But that’s the challenge business leaders have faced for the past decade: sailing into the open ocean of breakthrough strategy with inadequate tools. Sure, Columbus got lucky; en route to the Indies, he bumped into America. But business leaders don’t like to rely on luck any more than mariners do. We’re still a long way from radar, but the tools needed for developing differentiated strategies suitable for the hypercompetitive dynamics of our times are finally emerging.
The need for these tools has been clear since at least 1994, when Gary Hamel and C.K. Prahalad (in their book Competing for the Future, published by Harvard Business School Press) argued that successful companies must move beyond the familiar waters of established practices and develop business models unprecedented in their industries. Unfortunately, although the familiar strategy tools honed by Michael Porter (and still taught in most business schools) worked fine in sight of the land of established ways to do business, they didn’t help on the open ocean of breakthrough strategy.
The authors who followed in the wake of Professors Prahalad and Hamel admonished business leaders to innovate!, get outside the box!, and change the rules of the game! These exhortations haven’t proven useful. Some companies have considered innovation to be too high-risk to try, or impossible in their situation. Others believed that they were already doing everything they could to get outside the box and didn’t know how to do better. Many companies interpreted innovate to mean “develop new products,” a measure that typically yielded only a brief uptick in performance until competitors launched look-alike products. There were no reliable, detailed guides other than managers’ own imaginations and willingness to experiment, which all too often meant dead reckoning toward a hoped-for breakthrough.
That’s all changing. This year’s three best strategy books — Blue Ocean Strategy: How to Create Uncontested Market Space and Make the Competition Irrelevant, by W. Chan Kim and Renée Mauborgne (Harvard Business School Press, 2005); MarketBusters: 40 Strategic Moves That Drive Exceptional Business Growth, by Rita Gunther McGrath and Ian C. MacMillan (Harvard Business School Press, 2005); and C.K. Prahalad’s The Fortune at the Bottom of the Pyramid: Eradicating Poverty Through Profits (Wharton School Publishing, 2005) — offer practical tools and analogies to help practitioners. Although none of these books offer foolproof navigation, they represent dramatic progress beyond the strategy books of the past.
Blue Ocean Strategy takes an analytical approach, grounded in the authors’ conviction that effective strategies must be differentiated from convention. That’s what they mean by the phrase “blue ocean”:
Blue oceans…are untapped market space, demand creation, and the opportunity for highly profitable growth. Although some blue oceans are created well beyond existing industry boundaries, most are created…by expanding existing industry boundaries…. In blue oceans, competition is irrelevant because the rules of the game are waiting to be set.
The key element of a blue ocean strategy is a “value innovation”: a combination of differentiation and low cost that sets a product line or service apart from its competitors. Consider, for example, the story of Yellow Tail, a wine created explicitly for the U.S. market and launched in 2000 by Casella Wines, a small, family-owned Australian winery. Casella challenged the wine industry’s givens: that wine is a unique beverage for the informed consumer who requires a complex, wide range of products and is best reached through marketing and brand building that drips with enological terminology.
Casella created a blue ocean by introducing a fun, nontraditional wine targeted at the U.S. drinker who does not normally drink wine — a market three times the size of the U.S. wine market. Soft, sweet, and fruity, Yellow Tail appealed to beer drinkers and ready-to-drink cocktail drinkers, without the traditional focus on tannins, oak, complexity, and aging. Casella made selection easy by offering only one white and one red wine and by replacing the technical jargon with a striking kangaroo logo.
The result: Yellow Tail became the fastest-growing brand in the history of both the U.S. and the Australian wine markets and the No. 1 big-bottle (750ml) red wine in the U.S. by August 2003 — and Casella Winery grew to be one of the largest wineries in Australia.
The authors’ study of 108 business launches offers empirical evidence of the power of blue ocean strategies: Although only 14 percent of launches they studied were aimed at creating blue oceans, these were responsible for 38 percent of revenue and 61 percent of total profits for the companies they studied.
Blue Ocean Strategy offers both a process and a set of supporting tools that practitioners can use to navigate. It begins with a “strategy canvas” that visually maps the current industry environment in two dimensions. The horizontal dimension includes the range of factors on which an industry currently competes and those factors in which it invests. The vertical dimension shows levels of performance against each factor, measured qualitatively. A strategy canvas is a conceptual tool remarkable in both its simplicity and its usefulness. It can be used to understand the current strategy of a company and its competitors, to communicate the strategy, and to imagine business directions. To do the latter, Professors Kim and Mauborgne recommend that a company create several alternative, radically different strategies, each aimed at delivering superior value to potential — not existing — customers by:
Reducing cost by eliminating some factors that the industry takes for granted and reducing other factors below the industry standard.
Enhancing differentiation by raising some factors well above the industry standard and creating additional factors that the industry has never offered.
We strongly recommend Blue Ocean Strategy — our choice as the year’s best strategy book — to anyone responsible for strategy creation and execution. It is well written, offers a host of new examples, and is full of ideas; every chapter is worth reading.
Strategy by Analogy
MarketBusters, by Rita Gunther McGrath and Ian MacMillan, takes a less analytical approach to the development of breakthroughs, using analogies with companies successful in other industries or geographies. Although using a tool based on analysis may seem superior to reliance on analogies, managers may find the analogies more helpful. Indeed, successful companies often develop value innovations through analogy. Think of Starbucks’s Howard Schultz emulating the Italian coffee shop, or Sam Walton borrowing the Sam’s Club concept from Price Club and the Supercenter concept from Carrefour’s hypermarkets. Moreover, recent research in cognitive psychology suggests that analogies are the most efficacious way to create complex innovations (like business models).
The authors of MarketBusters have their own equivalent to Blue Ocean Strategy’s “value innovation.” They call it a “marketbusting move,” defined as “an action taken by your firm to deliver markedly superior performance.” Although the authors don’t tell the reader how to make a market-busting move, they catalog 40 such moves, sorted into five categories. Companies can use these categories to stimulate their thinking:
Transform the customers’ experience by eliminating or improving steps in the “consumption chain” — from the time a potential customer first becomes aware of a need, through purchase and use, to final disposal.
Transform your offerings, either by enhancing the attributes that customers most value or by reducing or eliminating attributes that customers don’t like.
Redefine profit drivers, the metrics your company uses to measure performance at the business unit level.
Exploit industry shifts such as business cycles or restructuring of the value chain.
Enter new markets (new to you) to take advantage of emerging opportunities by monitoring “tectonic triggers,” like new technologies that change what is technically feasible or affordable, changes in social norms or attitudes, institutional and regulatory changes, and demographic shifts.
Our favorite category is No. 3, and it is a good illustration of the authors’ approach. By “profit drivers” or “key metrics,” they mean the way a business keeps track of what it sells and how it makes money. These metrics represent some of the most fundamental yet unexamined elements of any business. Eight of the 40 market-busting moves involve changing key metrics. One move is to radically change what the company sells. Broadcasters, for example, shifted their model from offering free television to consumers by selling advertising, to a new model in which consumers paid through subscriptions. Another market-busting move is to radically improve productivity, as National Credit Systems, a collection agency, did when it reduced its fees from the industry standard of 40 percent of collections to only 8 percent, by improving the effectiveness of letter writing — the lowest-cost and most effective way to collect debt. A third move is to improve cash flow velocity, ideally to achieve negative working capital (payables greater than receivables plus inventory) as Dell Inc. does. The fourth metric-oriented move is to reduce asset intensity, by relying on contract manufacturers or information technology outsourcers.
The other four market-busting moves in this category involve redefining the key metrics of the company’s customers to enhance their profitability or address their pain points. Monsanto developed seeds that improve yield and reduce the use of expensive and environmentally dangerous chemicals. General Electric’s businesses send Six Sigma teams to help customers address their problems. UPS recently branched out from its core business of package delivery into other businesses that improve customers’ cash flow, like repairing Toshiba laptops for Toshiba — eliminating steps in the process, integrating repair and shipping activity, and reducing the time taken to repair a broken PC.
We do not recommend MarketBusters with the same enthusiasm as Blue Ocean Strategy. It is a slow read — more a reservoir of analogies to reference as part of a strategy process than a book to read from cover to cover.
Vast New Markets
C.K. Prahalad, in The Fortune at the Bottom of the Pyramid, studies more fundamental value innovations than those described in Blue Ocean Strategy and less familiar analogies than those offered in MarketBusters. Although Fortune isn’t positioned as a business strategy book (it is also reviewed in the Globalization essay) but rather as a new approach to “eradicating poverty through profit,” we consider it a must-read for strategists.
Professor Prahalad’s starting point is the attractiveness of the potential market of the very poor — what he calls “the bottom of the pyramid.” It is a huge (distressingly so) market:
If we take nine countries—China, India, Brazil, Mexico, Russia, Indonesia, Turkey, South Africa, and Thailand—collectively, they are home to about 3 billion people, representing 70 percent of the developing world population. In [purchasing power parity] terms, this group’s GDP is $12.5 trillion, which represents 90 percent of the developing world. It is larger than the GDP of Japan, Germany, France, the United Kingdom, and Italy combined. This is not a market to be ignored.
But, according to Professor Prahalad, it’s not just size that makes the bottom of the pyramid an attractive market for results-minded executives. Customers in these markets are brand conscious (as well as value conscious), and readily adopt new technologies — far more than do customers in more familiar markets at the top of the pyramid. Three examples illustrate the radical change in business model required to profitably serve the bottom of the pyramid.
Casas Bahia, Brazil’s largest retail chain, with sales of 4.2 billion reals ($1.6 billion) in electronics, appliances, and furniture, targets the very bottom of the pyramid: Seventy percent of its customers have no consistent income. Although Casas Bahia’s operations employ familiar retail best practices such as extensive use of technology and TV advertising, aggressive negotiations with vendors, efficient warehousing and logistics, and daily managers’ meetings to review operations, the company’s credit and local delivery practices differ radically from the norm. Casas Bahia extends credit to customers that others don’t consider creditworthy through a passbook requiring small installment payments made monthly in the store — a system that not only maintains a default rate lower than the industry average but also builds the customer relationship and facilitates sales of additional products. Financed sales account for 90 percent of sales volume. Delivery — and repossession of the product should customers fail to make installment payments — is accomplished by a company-owned fleet of 1,000 trucks with 2,500 drivers and crew, including some trucks small enough to maneuver through shantytowns. Like all of Professor Prahalad’s examples, this business model works because it leverages underlying values within the culture of Brazil’s poor: relationships, responsibility, and self-esteem.
In 1998, Cemex, the world’s third-largest — and Mexico’s largest — cement manufacturer, launched Patrimonio Hoy (“savings/property today”). Patrimonio Hoy enables the very poor to pay for materials to upgrade their homes, growing Cemex’s volume in the do-it-yourself market, where margins are high and demand isn’t cyclical. Patrimonio Hoy is built upon the values of Mexico’s poor: the importance of family; a belief in the responsibility of one generation to leave behind something for the next (like a house); maternal leadership; and respect within the community. Patrimonio Hoy does not do business with individuals, but contracts with pools of three people (typically the maternal heads of households) called socios. Each socio commits to making weekly payments of 120 pesos for at least 70 weeks, and each of the three members takes a monthly turn collecting from the others. At the end of the first five weeks, Patrimonio Hoy delivers 10 weeks’ worth of raw materials through a selected Cemex distribution partner, effectively extending credit for the remaining five weeks. As the socio continues to meet its obligations, the delivery schedule (with credit extensions) accelerates. Patrimonio Hoy also offers construction and architectural assistance. Cemex’s sales have tripled in geographies where Patrimonio Hoy operates.
India’s Aravind Eye Care System performs 190,000 eye surgeries per year at quality levels as good as or better than those available in the developed world’s best hospitals — at a fraction of the cost. Aravind’s doctors benefit from the large eye-patient volumes, quickly gaining more experience than doctors elsewhere in the world. Aravind’s doctors are extraordinarily productive, Professor Prahalad explains, in part because they operate on two adjacent tables:
By the time the first operation is over, the second patient is ready with the microscope focused on the eye to be operated on. The first patient is bandaged by the nurses and moved out. As soon as the first patient moves out, the third patient is put on the first table and prepared for the operation.
Aravind has also vertically integrated into manufacture of the lenses, sutures, and pharmaceuticals it uses (Aravind manufactures about 20 percent of the low-cost lenses in the world).
The Fortune at the Bottom of the Pyramid is essential reading for four reasons. First, the powerful business models targeting the developing markets that Professor Prahalad describes offer important analogies that every strategist should consider, but that few American or European managers in developed markets are likely to experience either directly or through reports in the business press.
Second, the bottom of the pyramid is crucial to the future sustained growth of major American and European corporations, because developing countries represent virtually all of the world’s expected population growth over the next 50 years. Although typical Western business models can be adapted to serve the top of the pyramid in developing countries, the types of business models Professor Prahalad describes are critical to tap into most of the growth.
Third, customers in the United States and Europe are increasingly served by the businesses Professor Prahalad describes. For example, customers from the United States and Europe already travel to India for eye surgery at Aravind, attracted by its excellent quality, high level of service, and low prices (significantly lower even after paying the cost of travel). Cemex is extending its reach into the United States, targeting workers of Mexican heritage who regularly send money to family members in Mexico (almost $10 billion per year, with an estimated 10 percent intended for home construction). To tap this market, Cemex established Construmex, a program enabling workers in the U.S. to send money directly to cement distributors in Mexico, who in turn deliver building materials directly to building sites in Mexico. If successful, the Construmex pilot may transform the money transfer businesses and change U.S. retail banking and construction lending.
Fourth, and perhaps most important, business history shows that low-cost, high-volume business models eventually migrate across geographies and threaten traditional ways of doing business. (See “Format Invasions: Surviving Business's Least Understood Competitive Upheavals,” by Bertrand Shelton, Thomas Hansson, and Nicholas Hodson, s+b, Fall 2005.) Companies serving U.S. and European markets should take note. Twenty years ago, superior Japanese business models in machine tools, photocopiers, and automobiles overwhelmed American manufacturers. How many bottom-of-the-pyramid business models will restructure American and European industries over the next 20 years?
The Fortune at the Bottom of the Pyramid, while sometimes tedious to read, is nevertheless an exciting expose of the power of markets to improve people’s lives. But it is more than that: It is a rare glimpse into the future — for those with eyes to see — of the extraordinary opportunities waiting in uncharted and seemingly impassable waters.
Chuck Lucier ([email protected]) is senior vice president emeritus of Booz Allen Hamilton. He is currently writing a book and consulting on strategy issues with selected clients. For Mr. Lucier’s latest publications, see www.chucklucier.com.
Jan Dyer ([email protected]) spent 11 years at Booz Allen Hamilton working with corporations in a variety of industries. She is currently working independently.