Rising corporate debt looms threateningly around the world, and highly leveraged firms rightly focus on maintaining liquidity. Often this takes more than cutting costs to stay afloat, however. Companies in this predicament (and face it, there are a lot of them today) must also revisit key strategies — in particular, product marketing. Financial distress scares customers, and if customers go away, revenues dry up, and liquidity concerns can quickly become cash flow crises.
Although Management 101 suggests that corporations should differentiate their products from competitors’ offerings and erect barriers to switching once a customer is on board, we believe the better strategic choice for distressed companies is to undifferentiate their products, so that it is easier for customers who feel nervous about the company’s future to switch or replace their product with those from another maker.
Customers see risk in buying from companies they think have a chance of going under. Indeed, when a company is perceived to be unstable, a product’s uniqueness may be just the reason a company loses customers and market share. The more compatible a product is with competitive offerings, the more likely the distressed company will be able to keep its customers until the storm has passed.
Part of the reason customers defect during unstable times is psychological: People want to pick winners. The DeLorean sports car lost its cachet as the firm began to face bankruptcy. But customers are also smart. They see risk in getting locked in to a product line for which after-sale service might become more difficult to obtain (try bringing in a DeLorean for service today). Switching to another provider’s product might also be expensive.
Mobile phone operator Nextel Communications Inc. understood the dilemma. The carrier has always had a unique long-range walkie-talkie feature to differentiate its service from other operators’ offerings. This capability, which is enabled by Motorola Inc.’s iDEN technology, made Nextel’s handsets incompatible with the cellular networks of other mobile carriers. By 2000, Nextel’s debt load had grown, and its stock price faltered. Amid industry consolidation and takeover rumors, analysts began to doubt that subscribers would continue to embrace the company’s go-it-alone strategy. Bigger telecom vendors with deep pockets and a global reach began to pursue Nextel’s core business customers.
Nextel had to convince the world it would be around for the long haul. So the company introduced a line of phones that would work on more standardized networks as well as on iDEN. Nextel demonstrated that it could continue to compete with its bigger brethren and that it wasn’t simply a takeover target, as some of its smaller competitors had become. Partly because Nextel took a step toward undifferentiating its offering, the anticipated drop in subscriber revenues never happened. In fact, Nextel continues to enjoy among the lowest subscriber churn rates in the industry and is considered one of the stronger mobile phone operators today, despite its debt load.
Had Nextel gone bankrupt, subscribers would have been inconvenienced, but the overall expense of switching mobile phone operators would have been tolerable. Not so with other debt-laden companies. Those that make it difficult to switch from their products to their competitors’ products, because of high purchase costs, proprietary technologies, or long service contracts, make matters worse for themselves, because customers see twice as many risks and costs: If the debtor goes under, its customers not only are stuck with a loser’s product but also must pay dearly to switch to another product. That risk is enough to prevent potential customers from buying a product if they don’t believe the company will survive.
Baan, a developer of enterprise resource planning (ERP) software, began to face financial difficulties in 1997–98. ERP software is a major capital investment, and vendors compete fiercely to sell licenses for their big-ticket systems. Once a customer chooses an ERP system, it is essentially locked in, because dumping one proprietary ERP system to install another is an expensive, multiyear proposition. Baan’s troubles forced it to rethink the way it went to market. The company launched a joint venture with JDA Software Group Inc., a smaller player in the ERP market, and implemented several compatibility arrangements, including interfaces that allowed customers to easily connect with competing ERP applications. Baan, now a division of Invensys PLC, deliberately reduced customer lock-in to assure customers that they would not be left stranded.