BU600

Strategy & Marketing in Mature Industries

Session Objectives

• Understand the characteristics of mature markets and the implications for strategy

• Examine drivers of industry transformations

• Discuss various strategic options in mature markets

• Extract the management information requirements for effective strategy in mature markets

Characteristics of Mature Markets

• Slower growth, flatter demand• Increased competitive intensity• Broader and higher performance platforms• Pressures on costs & innovation• Separation & clarification of market positions• Tighter profit margins• Mergers & acquisitions

Transformation of Mature Industries - The Drivers

• Deregulation - e.g., telecommunications, utilities, airlines

• Globalization - consolidation & rationalization of players on a global scale e.g., airline mergers, auto manufacturers

• Integration of industries - e.g., telecommunications and computers

• Innovative strategies - e.g., mass customization, virtual commerce

• Information technology - e.g., new business models

• Increased transparency – customer power

Industry Transformations

What to look for?

• Value chain - players, roles, profits, new entrants• Integration, Disintermediation & Reintermediation• Value provision - information, physical processes,

commoditization, distinctive specialization• Sources of power - market access, customer base,

product/services, capital, networks• Push-pull forces• Conventions• Mergers/acquisitions/alliances - within, outside

Strategic Flexibility

The capability of a firm to proact

and react quickly to changing

competitive conditions and

thereby develop and/or maintain

competitive advantage

Strategic Responses

• Prune customers, distributors, & product lines• Emphasize process innovation• Push hard for cost reduction – outsourcing,

consolidation of activities, cutting activities• Increase sales to present customers – share of wallet• Forward/backward integration• Purchase rival firms• Expand Internationally• Others?

Some Strategic Considerations

• Organizational Restructuring• Strategic role alignment• Market gap assessment• New basis for differentiation• Competitive Strategy• Consolidation around value creation• Pricing• Mergers & Acquisitions• Creative Destruction• Others????

Strategy: Viewed in Terms of Participation & Competitive Position

Which product segments?

Which geographic segments?

Which offering strategy?

Business Strategy

Participation Strategy

Competitive Strategy

Which customer segments?

What pricing strategy?

What operating Strategy?

Strategic Drivers of Economic Profit

Market Economics

Competitive Position

The average economic profitability of all competitors in a market segment

The business unit’s economic profitability relative to the average profitability of the market segment

+ = Economic Profit

- 2 0 .0

- 1 0 .0

0 .0

1 0 .0

2 0 .0

3 0 .0

4 0 .0

5 0 .0

6 0 .0

7 0 .0

Ec

on

om

ic P

rofi

t (%

)

Economic profitability among industries in the S&P 5001 is variable

1. Analysis of 3-year average ROE minus the cost of equity of each company in the S&P 500. 18 stocks were omitted b/c their 3-year average ROE’s were not available.Source: Bloomberg Financial

• Over time and across all industries, economic profitability is near breakeven

• Differences in economic profitability across various industries result from differences in structural forces

• Over time, competitive forces drive returns in a given industry to the cost of equity

Cosmetics/Personal Care

Agriculture

Food & Beverages

Pharmaceuticals/Healthcare

Office/Business Equip

Household Products

Building/Furnishings

Commercial Services

Retail/Apparel

Transportation

Misc. Manufacturing

Financial Services

Oil&Gas/Pipelines

Software/Internet

Computers/Electronics

Chemicals

Media/Entertainment/AdvertisingSemiconductors

Automotive

Forest Products&Paper

Toys/Games/Hobbies

Airline/Aerospace/Defense

Hospitality/Leisure

Machinery

Environmental Control

Packaging and Containers

Distribution/Wholesale

ElectricREITS

Biotechnology

TelecommunicationsMetals/Mining

The choice of industry will have economic implications for companies deciding where to compete

Avg

. RO

E1 -

Ke

-2 0 .0

-1 0 .0

0 .0

1 0 .0

2 0 .0

3 0 .0

4 0 .0

5 0 .0

6 0 .0

7 0 .0

Ec

on

om

ic P

rofi

t (%

)

-40.0

-30.0

-20.0

-10.0

0.0

10.0

20.0

30.0

40.0

50.0

Econ

omic

Pro

fit (%

)

-10.0

0.0

10.0

20.0

30.0

Ec

on

om

ic P

rofi

t (%

)

Within a given industry1, economic profitability is variable depending on the segment

Financial Services

1. Casino Services

2. Publishing/Newspapers

3. Advertising Agencies

4. Television5. Multimedia

6. Broadcast Services

1. Diversified Fin. Services

2. Savings & Loan Inst.

3. Other Insurance

4. Credit Card Companies

5. Retail/Commercial Banks

6. Investment Banks/Brokers

7. Life/Health Insurance

8. Multi-Line Insurance

9. Property/Casualty Insurance

1

23 4 5

6 7 8 9

6

The segment that a company participates in will have an effect on its economic profit

Media/Entertainment/Advertising

1

2

3 4 5

60 separate industries were determined by Bloomberg based on SIC codes. Industries were then regrouped into 32 groups in order to better analyze the data Source: Bloomberg Financial

Avg

. RO

E -

Ke

Drivers of Market Economics

Industry Forces Market Economics

•Direct competition

•Customer pressures

•Indirect Competition

•Supplier Pressures

•Threat of Entry

•Regulatory Pressures

Ave. Revenue

>Ave. Economic Cost*

Ave. Revenue

<

Ave. Economic Cost*

Average EP > 0

Pharmaceuticals

Soft Drinks

Average EP < 0

Integrated Steel

Air Transportation

* Economic Cost = Total operating cost + capital charge

Do or Die Struggle For Growth – McKinsey Quarterly 2005, No. 3

Growth of TRS

Low High

Growth of Revenues

Low

High Unrewarded

(n=12)

Growth Giants

(n=20)

Challenged

(n=37)

TRS Performers

(n=31)

100 Largest US Companies – 1984-2003

88% came from 4 industries – high-

tech, health, financialservices,

retail

Moving to or Finding New Market Space

• Forward or Backward Integration

• Diversification

• New Market Segments

• New Uses

• New Market Space

Example: Market Gap Analysis

• Captive sales

• Product gap

• Price gap

• Distribution gap

• Promotion gap

• Opportunities for growth - you & your competitors

Current Examples – What’s going on?

• Auto –

• Food & Beverage -

• Retail –

• Financial services -

• Airlines -

• Others????

Contributors to Competitive Position

Offer Position

(Relative Customer Benefits)

Price Position

(Relative Price)

Operating Position

(Relative Economic Cost)

Market Share

(Relative Units)

Relative Economic

Profit Per Unit

Relative Economic

Profit

Link Between Strategic Position & Economic Profitability

How would you manage this portfolio of businesses?

Competitive Position

Market Economics

Unprofitable

Profitable

Disadvantaged Advantaged

A

E

D

B

High EP & Value Creation

Negative EP & Value Creation

Mixed,usually Profitable

Mixed, usually Vulnerable

Size of circle is in proportion to amount of business represented by a business

Strategic Position

C

F

Extreme Competition – Mckinsey Quarterly 2005, Vol 1

• Everything in oversupply – low-cost labour, capital, infrastructure, industrial capacity

• 3 effects on industry – aggregation of formerly distinct markets; enhanced market clearing & efficiency; greater specialization in supply chains

• Zones of extreme competition

Zones of Competition

Performance Risk (to industry)

Low High

High

Positional Risk (to competitors)

Judo

Potential to win big but face high risk of being toppled – e.g. software

White Knuckle

Shrinking industry pie, high churn among industry leaders – e.g., telecom

Relative Stability

e.g., Pharmaceutical

Trench Warfare

Demand is either shrinking or outpaced by supply – e.g. paper

A number of industries are

moving north and east

Six Ways to Win in Extreme Competition

1. Retool strategy & restore its importance2. Manage transition economics – margin maximizing vs

share maximizing, lower cost position3. Fight aggregation with disaggregation – more

differentiated value propositions to microsegments4. Seek out new demand & new growth – diversification,

new markets5. Use the portfolio of initiatives to increase speed and

flexibility6. Count on strategic risk – value proposition risk, cost

curve risk, bad-conduct risk, bad-bet risk

Market Busting: Strategies For Exceptional Growth – HBR March 2005

• Transform the customer’s experience – Westjet, Dell

• Transform your offerings – P&G’s SpinBrush• Redefine your business’s profit drivers – Cemex

Cement – delivery & planning support• Anticipate & exploit industry changes – Sealed

Air Corporation new packaging solutions for the internet / Paypal

• Create a radically new offering – Subway’s “healthy fastfood”, Rim’s Blackberry

The Vanishing Middle Market• Polarization – premium and no frills/value squeezing out

the middle• 3 patterns of industry groups – balanced, migration to

high-end, migration to no frills/value• Balanced – growth is strong at both ends – e.g.,

appliances, banking, mobile phones, apparel• Migration to value – strong growth in this end – e.g.,

airlines, groceries, PCs, servers• Migration to the high-end – digital cameras, MP3s,

coffee makers, razors, diapers• Driven by consumer behaviour as well as companies

New Basis For Differentiation

• Customer’s complete consumption chain - search to disposal

• What?

• Where?

• Who?

• When?

• How?

• Why?

Customer Experience Cycle - Opportunity Horizon

• Requirement - Need it?• Specification - That’s the one!• Distribution - Who stocks it?• Availability - Who’s got it?• Payment - Credit OK?• Delivery - Want it Now?• Acceptance - All there?• Installation - All Mine• Performance - How’s it going?• Upgrade - Need some more?• Repair - Time For service?• Return - Finished• Evaluation - Was it worth it?

Customer Utility MapCustomer Experience Cycle

Purchase Delivery Use SupplementsMaintenance

Productivity

Disposal

Simplicity

Convenience

Risk

Fun & Image

Environmental

Utilit y L evers

Total Cost-in-Use

• Acquisition Costs

• Possession & Use Costs

• Disposition Costs

Monetary & Non-Monetary Costs

Customer Value Creation – Your Opportunity to Differentiate

Emotional Elements

Organization Interaction

Technical Performance

Process & Support

Core Product or

Service

REDUCEADD

++

•Confusion

•Frustration

•Disappointment

•Neglect

•Rudeness

•Lack of caring

•Mistreatment

•Delays

•Stockouts

•Waiting

•System Failures

•Inflexibility

•Complexity

•Red tape

•Stupid rules

•Price

•Respect

•Appreciation

•Recognition

•Valued

•Friendliness

•Helpfulness

•Courtesy

•On time

•Accuracy

•Service guarantees

•Warranties

•Payment options

•Features

•Quality

•Options

Differentiation Task

• Using the concepts in the article develop a new basis for differentiation for one of your group member’s business.

• Purpose - uncover unmet needs or underserved needs - business opportunities

• Perspective - customers, entire process - pre-purchase, purchase, post-purchase

• Considerations - steps, players, activities, time, evaluations - criteria, competitors/suppliers

• Look for problems/frustrations, trapped value - easier, quicker, cheaper, new opportunities/benefits - customize, better solutions

• Prepare a value proposition statement that reflects your new basis for differentiation.

• How much do we know/don’t know about our customers?

Patterns of Innovation

• Integrated Solutions

• From product to systems

• Shift your buyer definition

• Rengineer the customer process

• From Profession to do-it-yourself

• Resegment for new purchase occasions

• Lifestyle brand extensions

• Products + supporting or licensed services

• Move downstream

• Reverse the pyramid

• Support & service the installed base

• Channel business partner

Pricing

• Profit impact

• Poor management of transaction pricing

• Pocket vs list prices- price waterfall

• Range of pocket prices by customer

• Implications

• Value versus price focus

Profit Impact - 1% Change Yields…. What % in Profits?

• Volume ? 3.3%

• Fixed Costs? 2.3%

• Variable costs? 7.8%

• Price? 11.1%

• Implications????????

Value-Based Pricing

Cost -a,b Price - a Value -a Value - b

0Profit a Customer

incentive to buy a

Incremental Value b > a

Quantifying the Relative Value of Your Offering

Perceived Performance – More Intangible

Value Drivers

Importance Weight

Your Offering

Competitive Offerings

Ratio

(your/comp)

Weighted Ratio

Attribute A 10 8.1 7.2 1.13 11.3

Attribute B 30 9.0 7.3 1.23 36.9

Attribute C 20 9.2 6.5 1.42 28.4

Attribute D 25 8.0 9.0 0.89 22.3

Attribute E 15 8.0 8.0 1.00 15.0

100 113.9

Value-Based Pricing Examples

• Hybrid Cars – current difference is $2800, feel it is not enough – why?

• Digital cinema – who pays for the $100,000 projectors – studios or movie theatres?

• Canica – scalpels, wound closure system – struggled in Canada – siloed budgeting & benefits assessment, successful in US

• B2B• Performance based pricing

Deutsche Securities – Brand Power Index

• Brand power – Bottom line – Shareholder Value

• Brand Power – pricing scope relative to store brands & inflation

• Lesson - Shift the action away from price if you can

Pocket Price -

How big are the holes in your pocket?

Management of Pricing Decisions

• 3 Levels – Supply/Demand, Product-Market, Transaction

• Transaction poorly managed – dealer discounts, volume discount, cash discount, receivables, co-op advertising, merchandising allowance, freight

• Pocket vs List prices – price waterfall

• E.g. Price Leakages – 16.7 % consumer goods, 17.7% chemical company, 18.6% computers, 21.9 auto mfg, 28.9 % lighting

• Range of Pocket Prices by Customer – Pocket Price Band

• Implications?

Price/Margin Leakages

Price War Article

• Do your homework first – customers, company, competitors, contributors

• Non-Price : a) signaling b) differentiation – quality c) co-opt contributors

• Price: a) complex price options b)flanker products c) simple price actions d)concede some share

• Your experience???

Summary & Implications

• Price last lever unless its core to your strategy

• Think value & understand it from the customer perspective

• Superior value proposition

• Price to reflect value

• Watch the holes in your pocket

Consolidation & Rationalization of Business Based on Value

• Where is value being created?

• Value = Economic profit - profit above cost of capital

• Value by product

• Value by customer

• Strategic choices - long-term value

Customer Relationship Management

• Customer Selection

• CRP – Conversion, Retention, Penetration

• Risks – right markets, right sales, right service, right costs

• Commitment – integrated

• Easy to promise, hard to deliver

• Customer intelligence & costing data

Issues

• Enhanced profitability through efficient utilization of marketing resources

• Customer profitability• Product rationalization• Cost-effective marketing systems for

different customer segments • Managing hybrid marketing systems• Implications for information systems

Dimensions of Loyalty - McKinsey Quarterly - 2002, #2

Migration vs. Defection

Customer Retention is Not Enough

M & A in the New Economy

• Types/Motivations• Challenges - 1) Strategic Fit, 2) Candidates,

3) Valuation, 4) Deal Orchestrating, 4) Integration

• Impact - Competitive Advantage, Shareholder Value, Industry Structure, People

• Execution

FIVE GENERIC STRATEGIES (and one predatory)

• Overcapacity elimination 37%

• Geographic roll-up 9%

• Product or Market extension 36%

• R&D substitution 1%

• Industry convergence 4%

• Financial acquirers 13%

Examples

• P&G - Gillette• Sunlife – Clarica• Maple Leaf - Schneiders• HP - Compaq• Cisco - Pickstream• AOL-Time Warner• TD-Canada Trust• Digital Christie - Electrohome• Others???

Challenges

• Strategic fit - proactive, opportunistic/reactive

• Candidate Identification - shopping, being shopped, informal network, “dance”

• Valuation - companies, assets, intellectual knowledge or capacity, brands, new versus established

• Negotiating & structuring the deal - egos, fair, workable, art

• Integration - planning, resources, processes, values, varies by type, timing, commitment

Let’s Look at the P&G – Gillette Acquisition

• Price paid - $57 Bil (US), 18% Premium - ~ $48 Bil

• Gillette’s Identifiable Assets ~ $10 bil (US)• What did they buy?• Brands – Gillette ($16.7), Duracell ($3.3),

Braun (~$1), Oral B (~$1), Personal Care (~$1) = $23 Bil

• Where is the value?

Approaches to Brand Valuation

• Cost-based – costs associated with acquiring, building or maintaining the brand discounted to the present value

• Market – based approaches – amount at which a brand can be sold; proxy is to separate intangible & tangible assets and relate to entire value of the firm

• Income-base approaches – future potential of the brand – future net revenues of brand discounted to present value a) incremental profit compared to an unbranded product or b) royalties if the brand were to be licensed or c) supply & demand effects due to brand strength

• Formulary approaches – multiplier applied to a brand’s estimated profitability – e.g., Interbrand, Aaker’s Brand Equity Ten,

Synergies

• Broadened product, distribution, markets?

• Greater operating leverage?• Scale in purchasing/marketing?• Redundant cost reduction?• Asset redeployment, superior capital

management skills, lower cost of capital?

GE’S Acquisition Integration Framework

Lessons Learned

• Continuous

• Integration Manager

• People issues ASAP

• Cultural Issues

Source: HBR Jan-Feb 98

Impact

• Competitive Advantage – synergy is illusive, imbalance of costs over revenue growth, questionable diligence

• Market reaction – acquisition > merger, expansion > transformational, > 50% fail to add value

• Industry consolidation & transformation• People - casualties, survivors, culture

Execution Insights

• Proactive but have process in place for opportunistic options

• Discipline• Diligence - know what you are getting, giving• Address integration upfront• Timing can be critical• People issues > $, deal• Expertise• Plan on it being tougher and longer

Divestiture: Strategy’s Missing Link - HBR May 2002

• Too little, too late.

• Reverse process - 1) prepare the org’n, 2) Identify candidates, 3) Structure the deal, 4) Communicate the decision, 5) Create new businesses

• Proactive, disciplined

Summary – M&A

• Strategic importance - offensive & defensive

• Build competencies - identifying candidates, diligence, valuation, deal structuring, integration, M&A and Divestiture

• Anticipate activity & impact

Some Thoughts on Networks/Alliances

• Unbundling the Corporation - scope drives customer relationship, speed drives innovation, scale drives infrastructure businesses

• Can the associated processes coexist in a single organization? - pressures of deregulation, globalization, & technology are causing fracturing of industries & companies

• Lower Interaction Costs - enabler for focusing & networking

• Implications - focus, divestiture, rebundling, networking

The Future of The Networked Company - the McKinsey Quarterley 2001 Number 3 - http://www.mckinseyquarterley

.com

• Orchestrated networks - players are invited to contribute their capabilities with a focus on delivering value to customers

• Examples- Cisco (value chain focus), eBay (community), Charles Schwab (knowledge services)

• Characteristics -orchestrators - customer relationship & access, market intelligence, financial clout; network - uniform standards for information exchange, rigorous performance standards linked to customer evaluations and partner incentives, sharing of benefits, on-line presence for all key business processes, experimentation, commitment

• Performance - outperformed industry peers even in a downturn

New Roles & New Players – Syndication

• Creators/Originators - content• Distributors - deliver content to customers• Syndicators - package content & manage

relationships between originators & distributors• Aggregators - demand & supply side• Customers• Implications – strategy, products, relationships,

competencies

Interaction Breakthrough…..

• A Revolution in Interaction - driven by an increased capacity and reduction in costs - “associated with searching, coordinating, and monitoring that people and firms do when they exchange goods, services or ideas”

• Enhanced interactive capacity creates new ways to configure businesses, organize companies, and serve customers - profound effects on structure, strategy, & competitive dynamics

Some Questions to Think About

Business Configuration• Minimum & maximum level of scale in your business? How would this

change if interaction capacity doubled? Impact on strategy, configuration?

• Non-core services & functions performed in-house? Difference if these could be effectively outsourced?

• Location of specific business activities if incremental management costs were small?

• Bottlenecks in your business? Impact if capacity could be significantly increased?

• Which business functions is your company are world class? Potential for standardizing and serving other businesses?

• Disintermediation opportunities? Market mechanisms for same functions?

Questions cont’d ….

Serving Customers

• Ideal customer base? Geographic market expansion?

• Which customers most profitable & why? New opportunities to capture surplus from you? Imperfections in current experience with you? Can these be eliminated?

• Impact of customization on your business?

• Opportunities to expand product and/or service scope with these customers?

Questions cont’d ...

Organizational Design• Time spent on interactions? Biggest bottlenecks? Impact if

these were reduced?• Rationale for current structure? Radical alternatives?

Impediments to experimenting?• Organizational productivity variances? Transfer of

knowledge and expertise across organizational & geographic boundaries?

• Capital tied up in physical assets? If you owned no assets what skills and competencies could you trade with those who owned assets? What stops you from doing this?

Canadian Industry Punching Out – Stronger Dollar and Low-cost Alternatives are sending

Jobs Offshore – G&M Jan23, 2004• Nortel – 1500 jobs• Levis Strauss & Company – 1200 jobs• Bauer Nike Hockey – 321 jobs• Camco (refrigerators & stoves) – 800 jobs• Roots – 200 jobs• Swift Denim – 600 jobs• International - Multi-foods – 135 jobs• Canam Manac (truck trailers) – 245 jobs

Is Your Job Next?

• By 2015 – roughly 3.3 million U.S. business processing jobs will have moved offshore

• U.S. service jobs lost to offshoring will increase at a rate of 30% to 40% over next five years

• Software developers - $60/hr in U.S. vs $6/hr in India

Is offshoring a good thing or not? For Canada?

Offshoring’s Value to India

Benefit per $1 of U.S. off-shore Spending in 2002• Offshoring Sector Labour 0.10

Profits 0.10• Local Suppliers 0.09• Government Taxes Central 0.03

State 0.01• Net Benefit $0.33

Example: Call Centre in India

Challenges for You?

Anticipatory - Industry transformation, Competition

Competency assessment & orchestration – within and outside

Value chain & profit pool analysis

Costing and value assessment of offerings, activities, processes

Pricing negotiations

Competitive assessment and benchmarking

Business rationalization

Customer rationalization

Partner/alliance selection

Valuation of businesses (existing and new), customers, assets, brand, service, etc.

Value & risk assessment