by Adam Hartung | Sep 30, 2004 | In the Rapids
Napster absolutely must start making its profits now—regardless of what it does with its Success Formula. This will require that the company focus less on growth and more on efficiency and effectiveness so that it can make its profits now. But wait, you say. Isn’t market share the eventual pathway to profits and long-term success?
Well, no. That would be another aspect of the Myth of the Flats. There is little evidence to support that merely being big has any advantages at all for generating above average performance. It is well documented) that the company with the largest market share in an industry does not have a better likelihood than pure chance of having the highest performance in the industry. Companies must be distinctive in a way that matters in the market, and it’s becoming increasing difficult for big companies to do so.
Another basic tenet of the Phoenix Principle is Reap in the Rapids. There’s no evidence anyone is making profits in the online music industry during its current growth phase, which is a common mistake driven by The Myth of the Flats. According to the myth, companies should grab market share and not worry much about profits while growing. Then when the market slows, the dominant companies will be able to control margins and earn huge profits. Well, that’s a myth. In today’s copycat economy, there are no above-average profits in the Flats, you have to earn them on the way up—you must “Reap in the Rapids.”
So what should Napster do? One thing it could do is pursue any of the well-documented approaches to operational effectiveness available in the marketplace today. Another, less obvious but equally important action to take is to change its staffing mix.
People can be loosely grouped into two types, Explorers and Stabilizers. Explorers are hard-wired to be more comfortable with change and ambiguity and tend to be dominant in the early lifecycle stages, which is why efficiency takes a back seat. In contrast, Stabilizers are mentally wired to prefer making processes and practices consistent and dependable. Stabilizers are important in the early stages of the business—the Wellspring and the Rapids—to provide operational stability. Many companies in the Internet boom failed because they lacked the discipline and cautiousness that Stabilizers provide.
It is possible that Napster can make the changes needed to ensure enduring success. Whether they do or not depends on how locked in they are to historical methods for competing and seeking long-term success.
What are your thoughts: is Napster’s strategy solid or a setup for failure?
by Adam Hartung | Sep 29, 2004 | In the Rapids
After terrorizing the recording industry and almost single-handedly ushering in the future of the music business, Napster is going mainstream. Gone are the rule-breaking, paradigm-busting pioneers—replaced by traditional thinkers and strict adherence to the law. Napster lost its battle with the music industry and for a while lingered in bankruptcy, and now wants to play by the rules and make a go of it as a legal music service. Unfortunately, it is no more likely to succeed this time around.
Why? Even though Napster is a small startup in a hip new industry, it is already racing ahead to the Flats portion of the business lifecycle, and will soon be entering the Swamp along with all the other players in the online music market. Roxio, Inc. purchased Napster with the intention of leveraging its famous name into a large share of the music download market. That’s a tenuous hope at best.
One of the basic tenets of the Phoenix Principle is “be distinct or be extinct,” and Napster is not yet distinct. This is a crowded market with very little differentiation among the players, and new companies are still getting into the market. The latest heavy-weights to enter the fray include Microsoft, Virgin, and Yahoo (through its purchase of Musicmatch). Napster’s strategy, to provide subscription services, is already being offered by established music services and it puts forward nothing new there. Nor are its marketing ploys such as pre-paid gift cards and targeting college students with giveaways likely to distinguish it from the crowd. These are simply too easy to copy.
The online music services industry is still in high growth mode, projected to grow at a double-digit rate for several more years. That puts it in the Rapids, so all the players should enjoy high growth for a while. But what happens when the music stops (so to speak), that is, when growth slows and the market becomes saturated? Commoditization, that’s what. When that happens everyone who doesn’t have a differentiated service offering will be plunged into the Swamp, and companies will begin to fail or consolidate in a Defend & Extend effort to find and preserve some profits.
Napster isn’t earning any profits now and won’t for a while, so Roxio is depending on $100 million in cash to keep it afloat. That won’t be enough. Napster needs to revisit its Success Formula now and devise a truly distinct value so that when the industry stops growing, it will remain strong. For instance, it could leverage its bad boy image in many ways—constantly “tweaking the nose” of the majors might help it develop a huge and loyal following among the rebellious youth.
The Phoenix Principle predicts that Napster is already set up to fail and the clock is ticking. Perhaps it would have been better for this industry icon to remain a martyr than to end up as just another business model gone belly-up.
by Adam Hartung | Sep 1, 2004 | In the Swamp
Krispy Kreme is dead in the water. Two years ago a friend of mine was looking at the stock price chart for Krispy Kreme Donuts (KKD) and asked me if it was still a good investment. The stock had gone from it’s IPO of around $10 in early 2000 to $45 by end of 2001. Was the 2002 pullback a good buying opportunity? Not likely, I commented.
Krispy Kreme has been a “one-trick pony.” The company had a simple Success Formula: open more stores. A good product, a good concept, and they were using investor dollars to geographically expand as fast as possible. I asked my friend, “what will this company do when we have enough donut shops? What will happen when tastes change; and it won’t take much of a change when you live on one product sold 24 hours a day?” Krispy Kreme was putting no energy into understanding how locked-in they were to a fragile Success Formula built upon great promotion for their one product. They were projecting all the future by merely extrapolating the past.
Surely, the challenges came. Atkins diets became a challenge to a carb-laden product. As good as Krispy Kreme’s were, their expansion was taking them head-on into markets already laden with donut shops (including Dunkin’ Donuts) and grocers capable of “jumping on the bandwagon” in their local markets. Now, KKD execs are saying they have too many U.S. shops. Growth has disappeared as they are trying to find “profits” rather than “growth.”
Their one-product, simple success formula was too fragile for a dynamic marketplace, and too easily targeted by other competitors. What profits were to be made in their shops needed to be made during the rapid growth. Finding more profits now will be very, very difficult. They have gone from a growth company, to a retrenchment company. Krispy Kreme missed their golden opportunity to make the company into a great long-term brand. They should have found new avenues to build and grow. But, instead they locked-in and now they are struggling to compete.
For those who bought on the IPO, the stock is within a hair of the offering price. If you bought it then, and held it, you would have made a little capital gain (provided the price slide stops), but no dividends. If you bought anytime after the IPO – you’ve lost money and received no dividends. The lesson learned is to not invest in small companies with narrowly defined success formulas that are tightly locked-in to their competitive model. The risks are too great for any long-term investor.
by Adam Hartung | Aug 27, 2004 | Defend & Extend, Leadership
As the world watches the Olympics this week, I was struck at how different sporting competition is from business competition. Those business leaders that make positive analogies are doomed for problems – and most likely failure.
The Olympic gymnast is a great athlete. Designed and practiced to be the best at his sport. He might have been a great baseball player, or swimmer, but he is, today, a finely tuned athlete capable of competing – and winning – at gymastics.
Likewise, the Olympic Greco Roman wrestler is a great athlete. He too is practiced to be the best at his sport. And, he too could have been a football player, or other competitor. But today, due to repetitive practice and a determined focus he is ready to compete in his one sport of wrestling.
Both of these are potential gold medal winners. But which is the more “fit”? That is impossible to say, for each is now finely tuned to a narrow field of competition. What would happen if the coach asked them to switch sports? It would be disastrous. They are capable of winning at one game, and have limited competitiveness in any other area.
What will become of these athletes when the game ends? Both will hope for endorsements and great fortune. Perhaps they will have one – at most two – more possible trips to the Olympics. And endorsements may last for a year or two. But they are almost sure to not compete in any other athletic endeavor. For, as good as they are, they are so highly specialized that their skills are not transferable to compete in another game. They will have to find entirely new careers in short order.
For business this is a recipe for disaster. Specialization leads to obsolescence. Any business that optimizes itself to compete so specifically will find itself upset by another competitor that makes a slight alteration in the “rules of the game.” The dynamism of markets, and competition, assures us that no highly specialized competitor can survive long. Glory may reign for a short time, but the specialized competitor will be upset in short order.
Today’s business success requires adaptability in the face of changing market conditions and competitors. New rules are created often, and the abilty to move across markets with wide skills is required for any business to remain powerful for more than a few years. Even great size, as with the wrestler, will not protect the competitor when the rules change slightly favoring speed or agility over size.
Business is not an Olympic sport. We should not confuse the testosterone laden thrill of a gold medal with the success of creating returns for shareholders. Instead, we should remember that Olympic winners are the 1 in 100,000 that made it to success. The odds were stacked far against them before they began. In business, the ability to change the competitive rules means that the odds can be stacked in your favor – as long as you remember to be adaptive in thinking and behavior in order to keep your competitor guessing and yourself in the lead.
by Adam Hartung | Aug 26, 2004 | In the Swamp
Over the last year, United Airlines has been requesting that the U.S. government guarantee its finances so it can continue operating in the face of massive losses. The government has been reluctant to agree. Facing a cash crisis, last week United Airlines informed its employees it planned to discontinue contributions to the employee pension fund. Understandably, the employees were angered and voted “no confidence” in management. Meanwhile, the whole mess is finding its way into court for lawyers to decide the future of the airline.
Who’s winning here? No one… not even customers. Lines are longer, waits are longer, on-time performance is still an issue. Customers regularly complain about harsh service from employees, a dropping of food service, poorly handled (or lost baggage), and a very unsatisfactory traveling experience. Travel agents are out of the equation; disenfranchised as commissions have practically disappeared over the last few years. So investors, employees, distributors, customers and even suppliers (Boeing, the airport authorities, etc.) are all losing.
What’s the problem? Everyone who doesn’t manage an airline has known that United was on a collision course with disaster for over 20 years. Their profits have been nonexistent to abysmal – even in the go-go 1990s. Every union negotiation cycle has been a request for concessions, and more concessions as their employees (from pilots to flight attendants and mechanics) have been asked to give up pay in order to keep the airline afloat. And then, on September 11, 2001 the whole system was grounded for a week. This provided everyone an opportunity to re-evaluate the future plans. Yet, as quickly as possible, United went right back to the same old, unprofitable, dismal business model.
United bought into a strategy over 30 years ago of “hub and spoke,” which was fed by a desire to be the biggest airline. It was their belief, after deregulation, that the hub and spoke system would be profitable if they could only generate enough volume. Of course, this was a myth. Volume only generated more losses. The pricing mechanisms, designed to “tweak” extra profit from the system, only upset customers as it became hopelessly complicated beyond even the understanding of the employees. And, of course, no matter how much they discounted to win volume, someone else discounted even more — keeping margins at unsustainable levels for operating an ongoing business.
United became so committed to its Success Formula that it was willing to do anything to try and make it work. United has been more willing to sacrifice its profits (thus its investors), its employees (to layoffs and pay cuts), its vendors, and its customers than its failed success formula. United keeps holding out trying to make that Success Formula work – long after any average business student could see it had no hope of working.
Not to mention a competitor, Southwest Airlines, which has shown that alternative models can be far, far more successful.
Only a fool would continue to back United in its efforts to make its Success Formula work. Let’s hope that fool doesn’t become the taxpayers.
by Adam Hartung | Aug 25, 2004 | Lock-in
“Better the devil we know than the one we don’t know…” I saw this quote from a business leader the other day and realized that this pretty much sums up the logic that leads to lock-in.
Every CEO is saying today that their strategic agenda is innovation and growth. But what they’re doing instead is incrementalism and cost optimization. Why would business leaders do the opposite of what they say they’re going to do?
One reason is that innovation requires venturing into the unknown, what we call “white space.” In this creative space there is infinite potential for innovation, but there are no guarantees. In fact, most innovations fail… and failure is a career killer in Defend & Extend Management.
I’m sure that business leaders’ reasoning goes something like this: “I can put a lot of time and money into finding a breakthrough strategy which we have no way of knowing will succeed or not, OR, I can drive up short-term profits through more cost-cutting and efficiency efforts like more downsizing or squeezing our vendors. Hmmm, the first option holds the promise that we’ll be here a decade from now, but the second assures me I’ll make a big bonus this year… I think I’ll go with option 2 and study this innovation thing a bit longer…” As they say, nobody ever got fired for making the current quarter’s numbers…
Ok, so maybe that’s an exaggeration, but it is surely accurate in principle. Here’s the flaw in that logic: it assumes that avoiding innovation is the safer option. In today’s economy, if you don’t reinvent your success formula on a recurring basis—that is, take the risk of breakthrough innovation—you may not even have a decade, you may have only a couple of years. In fact, the only way to HAVE a future is to disrupt and reinvent your business.
To stay ahead, leaders and their organizations must learn to trust the devil they don’t know—to trust the future to innovation. This requires that leaders must place their confidence in their ability to figure things out when there is no proven road forward, instead of relying solely on what they already know and can prove. And that will be a big step for leaders, a step that we predict very few will make.
by Adam Hartung | Aug 20, 2004 | Defend & Extend
You’re either “Green and Growing” or “Ripe and Rotting.” Unfortunately most companies and even entire industries are Ripe and Rotting — they’re locked into obsolete Success Formulas and innovative companies are putting them out of business. Do you know how many of the top 500 hundred companies on the 1994 Fortune 1000 list of companies are still there today? What would you guess… 90%? 85%? Wrong. It’s about half — 55%.
That’s really amazing when you think about it. These are our biggest and most successful companies… how could this happen? What explains this? That is the question Adam and I have been trying to answer together since 1999, and that’s what this blog is dedicated to exploring.
Ripe and Rotting companies — which in our language would be companies in the “Swamp” and “Whirlpool” parts of our “River” lifecycle metaphor — cannot transform themselves because they are locked-in. They are unable to reinvent their business even when they want to, although most don’t. What they do want is to make their old Success Formula vibrant and effective again, and they do this through what we call Defend & Extend Management (D&E).
D&E management is a way of responding to marketplace challenges that enables companies to keep doing what they’ve always done; only maybe they make it better faster or cheaper. Well, it doesn’t work in today’s economy—it did 30-50 years ago when these management concepts originally became codified and eventually hardened into dogma—but not today. And that’s why so many companies are failing, and almost every company is struggling. Their basic assumptions about the economy and how to compete have become obsolete and they—and in fact the business world at large—have not made the leap to a new set of principles that does work.
That’s why the investment community tries to squash Google’s IPO instead of finding a way to transform themselves to prosper in a world where the Dutch auction is the standard for IPO’s. It’s why music companies sue their customers instead of adapting to a world where downloading individual digital songs is the norm. It’s why the major airlines cling to their hub-and-spoke business model instead of ditching it and experimenting to find a new approach where they can make some money.
Oh, and about Google’s IPO… well apparently it was successful after all. And now the media is reporting that other companies may go this route with their IPO’s (oh really??!). And the big investment companies? Their D&E response was to stay away from the IPO… and in doing so missed out on this tremendous business opportunity.
by Adam Hartung | Aug 19, 2004 | In the Whirlpool
I’m shocked, shocked! Delta’s planning a layoff to stave off bankruptcy? Who would have predicted it?
Delta and the other major airlines have held a one-way ticket to bankruptcy court for years. The major airlines’ Success Formula became obsolete decades ago when Southwest Airlines was able to prove the effectiveness of their unique approach. The majors didn’t heed the warning signs then and they haven’t heeded them since.
The airlines like to blame the 9-11 tragedy for their troubles, but their problems were in place years earlier. The 9-11 challenge merely revealed how fragile the Success Formulas for the majors truly is. As soon as they hit a big pothole (or should we say “patch of rough air”), every major airline almost went under. If it weren’t for the federal bailout they would have, and some still did. But did that lead them to change? NO. Why? Lock-in to their historical Success Formulas.
And they’ve responded with Defend & Extend actions par excellence: create (or beef up) their low-cost carrier, drive for efficiencies, and today’s favorite—layoff employees. Have these worked? NO. And they won’t, because pruning actions such as these don’t address the real problem—their business model is broken and can’t be improved enough to create a positive future. It has to be disrupted and new, breakthrough strategies put in its place.
Across-the-board layoffs and salary cuts are sure signs that a company has lost the ability to deliver differentiated value to its customers. With no hope to raise prices and grow revenue, they look for cost reductions the only place they can get them — from their own employees. Seriously, what kind of future does that forebode for the company taking this approach? Its corporate anorexia.
These are the clear signs of a company—actually a whole industry—in the Whirlpool. If you have Delta frequent flier miles (or American, or United…) you’d best use them or lose them, the clock is ticking…
by Adam Hartung | Aug 19, 2004 | Disruptions
Google’s IPO is the talk of the town today. The company’s decision to take an unconventional approach (called a “Dutch auction”) and offer shares for sale to small investors has drawn the ire and ridicule of all but a few (Fast Company magazine praises Google’s courage in their current issue, but they’re the exception).
Who knows if it will earn Google the extra hundred’s of millions of dollars that they hope for… that’s not the real story here anyway. The real issue is about Google breaking the rules for how big companies do IPO’s and the hue and cry it has raised among the entrenched investment banking community.
This is a classic example of an emerging trend that is signaling a sea change in how the established system works. The traditional way of doing IPO’s involved the investment banks determining the market price, offering the shares to their best customers, and raking in huge profits as a percent of the capital invested. A Dutch auction involves selling directly on the open market, thus avoiding much of the cost and generating significantly more capital for the company.
Google isn’t the first company to use this approach but it is the biggest. The institutional investment community is hoping and praying that it will fail… because, if it doesn’t, their way of doing business will change profoundly and they will end up big losers. Predictably, they’re doing Defend & Extend (D&E) actions to protect their Success Formula—ridiculing the approach in the press, vowing to boycott the IPO, etc.
Here’s the bad news for the entrenched institutions: the game is already over. It doesn’t matter how Google’s IPO goes, your Success Formula is doomed. Why? Because it is obsolete for today’s technology and today’s society. It has been propped up for years through oligopolistic practices, cronyism, fear-mongering and intimidation. But the evolution of Success Formulas is relentless and undeniable—yours will fail and be replaced, it is only a matter of time. However, due to your lock-in to the current system, it is unlikely you will participate in the new system that emerges.
That’s bad for the entrenched investment community, and good for just about everyone else, and that should have been their first clue that something was amiss…
by Adam Hartung | Aug 18, 2004 | In the Swamp
Most business pundits hold Southwest Airlines (SWA) up as a great model for other businesses. And rightfully so, with SWA’s terrific streak of profitable quarters. However, today’s Dallas Morning News asserts that SWA is in trouble. Apparently, costs are increasing and they’re saying that the company will soon have difficulty sustaining growth and profitability..
SWA is a great example of a company that started with a radically different Success Formula that won big in the marketplace, and they’ve certainly made it better over the years. However, their innovations have been in the nature of Defending & Extending (D&E) their original model, not transforming it. SWA is aging. It has left the “Flats” part of its lifecycle and is in the “Swamp”—this calls for reinventing their Success Formula, not merely fixing or improving it.
Before they finally die from obsolescence, the major airlines like American will take business from SWA as they lower their rates in a last ditch effort to survive. But more disturbing to SWA is the rise of smart new competitors like Jet Blue, whose Success Formula breaks even the rules that SWA plays by. We now hear talk of SWA planning to follow Jet Blue’s lead by testing seatback video systems… what a long fall for SWA.
And things are only likely to get worse for SWA now that they’ve promoted a CFO into the CEO role. Without knowing him personally, we would predict that he will behave like a typical D&E manager, focusing on costs and efficiency, and will drive the company deeper into the “Swamp.” Soon SWA may be just another sad story of a great company that stumbled…
