by Adam Hartung | Feb 2, 2009 | Current Affairs, Defend & Extend, Leadership, Lock-in
The U.S. banks are asking for more bailout money – and Congress is resisting (read article here.) Most people don't understand why banks are failing, and lots of them are ready to say "let them fail." But why they are failing is important – because the solution has to be linked to the diagnosis, don't you think?
Back in the old days of hyper-inflation (think 1970s) corporations developed a perverse problem. They had buildings on their balance sheet for $1million, but inflation had made the land, buildings and other assets worth $10million (or $20million). The corporations weren't allowed to mark up their assets to market value. So the banks couldn't lend them more money. As a result, fellows like T. Boone Pickens created a new business opportunity. They simply went to banks and borrowed money based on the real value of the underlying assets, and bought the corporations. Having no desire to run these companies, they often sold off the assets to pay off debt and kept the profits and the companies (and their employees) went away. They were called corporate raiders. And their existence could be traced to accounting.
When banks lend money they are required to have reserves which back up the loans. Banks can lend multiples of their reserves. They have leverage, because every dollar of reserves can create several dolalrs of new loans. As the reserves go up, they can loan more money. If they raise reserves by $1, they can loan out, say, $6.
But today, the bank loans already on the books (not new loans) - especially real estate loans – are going down in value (it's more complicated than this because of various bond offerings and insurance products on the mortgages, but the idea is pretty close). There is an accounting rule which says if a loan goes down in value, the bank has to estimate the new value of the loan and mark the loan down to market value (mark-to-market accounting). So, as real estate tumbles, the loan value tumbles. Every dollar of loan value comes straight out of reserves. This is called reverse leverage. Because if a loan goes down in value by $1, and $1 comes out of reserves, suddenly the bank has to reduce its total loan portfolio by $6 – get that? Instead of one loan being affected, suddenly a lot of loans are affected. Because one loan has to be marked down, in order to cover its reserve requirements, the bank may have to call up the local retailer and ask her to cut her inventory loan by 30% – because the bank no longer has sufficient reserves to cover all her debt. Ouch!!! One bad apple sort of starts spoiling the barrel – to use an old expression.
Suddenly, the reverse of the T. Boone Pickens opportunity happens. A few write-offs eliminate the reserves, making new lending impossible and actually (because real estate has cratered so badly) causing banks to call in perfectly good loans to cover their reserve requirements. (By the way, miss your reserve requirement and, by law, you go into default and the regulators take over your bank.) "But," you might say, "this means perfectly good debts are being called, and perfectly good loan opportunities are being ignored, just because of an accounting convention." And you would be right.
How far would you like the economy to stagnate because of an accounting convention? Sure, there was good reason for this rule. It was intended to keep banks from making questionable loans. But not many banks – not many economists – and not many accountants – expected real estate to drop 20% in value across the U.S.A.
The Japanese came across this problem in the middle-1990s. Their economy exploded in the 1980s. Real estate in Tokyo became the most expensive in the world. Ginza retail property was worth $1M per square foot! And middle-class Japanese discovered homes they had purchased for $80,000 were worth $1M! Young Japanese families buying new homes spent the $1M, and went deeply into debt. Then, the Japanese economy cooled. And real estate values tumbled.
But Japanese regulators would not let the banks write off these loans. They said "either this loan is repaid, in full, or you must write down your reserves." Banks quit lending. The Japanese economy nosedived into recession. And it has still not recovered. Stock prices, real estate prices, prices of everything have remained stuck. And the economy has not grown. After more than 12 years, the Japanese are still in a recession. You may not care, after all you don't live in Japan. But if you live in Japan you've struggled for a raise, you've struggled to pay bills, and if young you've struggled to find a job for 12 years. There are thousands of stories of highly qualified young Japanese college graduates who have never been able to find a job, thus never married – effectively never started their adult lives. Stuck. Families stuck by an extended recession as old debts are slowly, painfully slowly, repaid.
So what should America now do? Should we stick with the old accounting rules? Should we mark down loans, creating bank reserve problems? We know this means banks will ask for bailout funds – to get reserves back up. But we don't want to cover those reserve requirements – for fear the money will be spent on private jets and big bonuses. Maybe, just maybe, we should change the accounting rule.
By the way, I'm not the first with this idea by a long shot. Steve Forbes, a noted conservative, is one of the leaders for this change. He spoke to it on Meet the Press yesterday. This isn't really a hard question, is it? Why would anyone extend a recession, or create a depression, when an accounting rule is very close to the center of the problem? Something as easy to change as an accounting rule.
The issue is Lock-in. Our old enemy of the stuck corporation. Lock-in to past practices that causes the company to keep doing what it always did – even though everyone agrees there has to be change. Lock-in keeps the company on a path to sure destruction. The old accounting rules were based upon what used to be true. Thirty years ago, it was rampant inflation that gripped the U.S. economy. Double digit inflation screwed up everything business leaders and regulators had ever been taught. At one point, in 1978, President Carter went through 3 heads of the Federal Reserve (that's Bernanke's job) in under 1 year! Old accounting conventions were turning business upside down, and destroying healthy corporations. And mark-to-market (rather than acquisition cost), which allowed companies (and banks) to bring assets to "current value" was critical to a healthy economy and the management of healthy businesses.
But who's more Locked-in than economists and accountants? Not exactly known as a "progressive" group of people. Yet, the future for America is totally clear if we keep doing what's been done in the past. The government and industry forecasters have a trend that's very predictable. Without change, liquidity remains hampered, the economy remains on a downward tilt, layoffs continue and problems worsen. Something fundamentally needs to change.
So, using The Phoenix Principle, we know what's needed. Firstly, we can learn from our competitors. The Japanese situation has been studied to death, and the results are well documented. Universally, economists have demonstrated that Lock-in to old practices has hampered the Japanese economy dramatically. As the other developed countries struggle with falling real estate, the first to take action will come out the big winner. The first to find a way to move forward gets an advantage.
We now need to Disrupt! Someone has to help us stop and realize that more of the same has a clear future – and that future is not pleasant. Something has to change. Then we need to create White Space. Instead of changing the rules for all banks, we need to carve out some healthy but jeapardized banks in which to test the practice. We need to allow them to change their accounting, and watch the results. If it works, we can learn and replicate. Don't test on Citibank and Bank of America, which are huge and possibly unable to survive. Test where we can learn what works, and FAST.
Nobody wants another depression. And most people don't want to keep putting tax dollars into banks shoring up reserves. So maybe, just maybe, we should try something new. Like changing the accounting rule. Let's give it a shot, test it with some banks that are strong but struggling, and see if we can't figure out how to apply changes in a way that can get the economy going again!
by Adam Hartung | Jan 28, 2009 | Current Affairs, Defend & Extend, In the Swamp, In the Whirlpool, Leadership, Lock-in
In a recent presentation I told the audience that they had quit printing newspapers in Detroit during the week. The audience said they weren't surprised, and didn't much care. The other day I asked a room full of college students when the last time was they looked at a newspaper (not read, just looked) – and not a single person could remember the last time. In Houston I asked two groups for the headline of the day that morning – not a single person had looked at the newspaper, and none in the group subscribed to a newspaper. Even my wife, who used to demand a Wednesday newspaper so she could receive the grocery ads, asked me why we bother to subscribe any more because she now gets the ads in the mail. This wholly unscientific representation was pretty clear. People simply don't care much about newspapers any more.
So, if you had $100 bucks to invest, and you had the following options, would you invest it in
- A professional baseball team (like the Boston Red Sox or Chicago Cubs)?
- A manhattan skyscraper?
- A newspaper?
That is exactly the question which is facing the New York Times Company (see chart here), and their decision is to invest in a newspaper. In fact, they are selling their interest in the Boston Red Sox and 19 floors in their Manhattan headquarters so they can prop up the newspaper business which saw ad revenue declines of greater than 16% – and classified ad declines of a whopping 29% (read article here). (Classified ads are for cars, lawn mowers, and jobs – you know, the things you now go to find on Craigslist.com, ebay.com, vehix.com and Monster.com and aren't likely to ever spend money on with a newspaper.)
The value of New York Times Company has dropped 90% in the last 5 years – from $50 to $5. The decline in advertising is not a new phenomenon, nor is it related to the financial crisis. People simply quit reading newspapers several years ago, and that trend has continued. Simultaneously, competition for ads grew tremendously – such as the classified ads described above. Corporate advertisers discovered they could reach a lot more readers a lot cheaper if they put ads on the internet using services from Google and Yahoo! There was no surprise in the demise of the newspaper business.
At NYT, the smart thing to do would be to sell, or maybe close, the newspaper and maximize the value of investments in About.com and other web projects (which today are only 12% of revenue) as well as Boston Sports (owner of the Red Sox) and hang on to that Manhattan property until real estate turns around in 5 years (more or less). Why sell the most valuable things you own, and put the money into a product that has seen double-digit demand and revenue declines for several years?
Of course, Tribune Company isn't showing any greater business intelligence. Management borrowed far, far more than the newspaper is worth 2 years ago through an employee stock ownership plan (can you understand "good-bye pension"?). So last week they sold the Chicago Cubs. For $900million. Tribune bought the Cubs, including Wrigley Field, 28 years ago for $20million. That's a 14.5% annualized rate of return for 28 consecutive years. Not even Peter Lynch, the famed mutual fund manager, can claim that kind of record!
Through adroit management and good marketing, they modernized the Wrigley Field assets and the Cubs team – and without ever winning the World Series drove the value straight up. As fast as people quit reading the Chicago Tribune newspaper they went to Cubs games. Who cares if the team doesn't win, there's always next year. And unlike newspapers, there aren't going to be any more professional baseball teams in Chicago (there are already two for those who don't know - Chicago's White Sox won the World Series in 2005). And they aren't building any additional arenas in downtown Chicago to compete with Wrigley Field. Here's a business with monopoly-like characteristics and unlimited value creation potential. But management sold it in order to pay off the debt they took on to take the newspaper private.
Defending the original business gets Locked-in at companies. Long after its value has declined, uneconomic decisions are made to try keeping it alive. Smart competitors don't sell good assets to invest in bad businesses. They follow the capitalistic system and direct investments where their value can grow. The New York Times may be a good newspaper – but who cares if people would rather get their news from TV and the internet – and they don't read newspapers "for fun?" When people don't read, and advertisers can get better return from media vehicles that don't have the printing and distribution costs of newspapers, what difference does it make if the outdated product is "good?" If you think the New York Times Company is cheap at $5.00 a share, you'll think it's really cheap in bankruptcy court. Just ask the employee shareholders at Tribune Company.
by Adam Hartung | Jan 26, 2009 | Defend & Extend, General, In the Swamp, Leadership, Lock-in
Do you remember when Home Depot was a Wall Street – and customer – darling? Home Depot was only 20 years old when its incredible growth story vaulted it onto the Dow Jones Industrial Average 9 years ago, replacing Sears. Unfortunately, that youthful ascent turned out to be the company crescendo. Since peaking in value within a year, Home Depot has lost more than 2/3 of its value (see chart here). Things have not been good for the company that "changed the rules" on home do-it-yourself sales.
Along the way, Home Depot changed its CEO a couple of times. And it opened some White Space type of projects. But today, the company announced it was shutting down those projects (Expo Design Centers, YardBIRDs, HD Bath) cutting 5,000 jobs - and an additional 2,000 jobs in a "streamlining" efforts (read article here). In the process, it affirmed revenue will decline 8% this year while earnings per share will drop 24%.
Amidst this background, the stock rose 4.5%.
Home Depot is a company with a very strong Success Formula. That Success Formula met the market needs so well in the 1980s and 1990s that the company excelled beyond all expectations. But like most companies, Home Depot was a "one trick pony." It knew how to do one thing, one way. Then in the early 2000s, competitors started catching up. And Home Depot didn't have anything new to offer. The market started shifting to competitors with lower price – or competitors with even better customer service – leaving Home Depot "stuck in the middle" decent at both price and service not not best at either. And with nothing really knew to attract customers.
So Home Depot launched Expo Design Centers. It was leadership's effort to go further upmarket – to sell even higher priced home items. This was a failed effort from the start:
- Leadership did not tie its projects to any committed scenario of the future where Expo would create a leadership position. There was no scenario planning which showed a critical need for Home Depot to change.
- Expo did not learn from competitors, nor did it set any new standards that exceeded competitors. KDA and others had long been doing what Expo did – and even better! Rather than obsessing about competitors in order to realize where Home Depot was weak, and finding new ways to grow the market, Home Depot decided to launch its own idea without powerful competitive information.
- Thirdly, Home Depot did not Disrupt at all. Although Expo existed, it was never considered important to the company future. Leadership never said it needed to do anything different, nor that it felt these new projects were critical to company success. Instead, leadership let all the employees believe these projects were merely trial balloons with limited commitment.
- And, for sure, Expo and other projects did not meet the real criteria of White Space because they lacked the permission to violate Home Depot Lock-ins and the resources to really be successful.
Now, years later, with the company in even more trouble, Home Depot is closing these stores. It appears management is taking a page from Sears – the company they displaced on the DJIA – which closed its hardware and other store concepts to maintain its focus on traditional Sears. And we all know how that's worked out. Leadership is wiping out growth opportunities to save cost, in order to Defend its now poorly performing Success Formula, rather than using them to try developing a solution for declining revenues and profits. So easy to simply quit. Instead of re-orienting the projects along The Phoenix Principle to try and fix Home Depot, leadership is killing the growth potential to save cost with hopes that some miracle will return the world to the days when Home Depot grew and made above-average returns.
What do Home Depot leaders want employees, investors and vendors to anticipate will turn around this company? Even though Home Depot was a phenomenal success, once it hit a growth stall it fell amazingly fast. Not its historical growth rate, nor its size, nor its reputation was able to stop the ongoing decline that befell Home Depot once it hit a growth stall. (By the way, 93% of those companies that hit a growth stall follow the same spiraling downward path as Home Depot). As Sears has shown, a retailer cannot cost-cut its way to success. Refocusing on its "core business" will not return Home Depot to its halcyon days. And these cuts further assure ongoing company decline.
by Adam Hartung | Jan 22, 2009 | Current Affairs, Defend & Extend, In the Swamp, Leadership, Lock-in, Web/Tech
Microsoft announced today it intends to lay off 5,000 workers (read article here). This action, included in its announcement that Microsoft is going to miss its earnings estimate, spooked the market and is blamed for a one-day market dip (read here). The company's equity value, meanwhile, dropped to an 11-year low – out of its 33 year life (see chart here). Of course, the blame was placed on the weak economy.
But we all know that Microsoft has been struggling. The Vista launch was a disaster. A joke. Techies resoundingly ignored the product – as did their employers. Because Vista was so weak, Microsoft is looking to launch yet another operating system – just 2 years after Vista was launched. Incredible, given that Vista was more than 2 years late being launched! Additionally, in an effort to increase interest in Windows 7, the new product, Microsoft has dramatically increased the availability of beta versions for review (read here).
Microsoft was once the only game in town. But over the last few years, Linux has made inroads. Maybe not too much on the desktop or laptop, but definitely in the server world. The hard core users of network machines have been finding the cappbilities of Linux superior to Windows, and the cost attractive. Additionally, netbooks, PDAs and mobile phones are gaining share on laptops every day. Customers are finding new solutions that utilize network applications from companies such as Google are increasingly attractive. By laying off 5,000, Microsoft is not addressing its future needs – to remain highly competitive in operating systems and applications against new competitors. It is retrenching. This doesn't make Microsoft stronger. Rather, it makes Microsoft an even weaker target for those who have the company in their sites.
Why should anyone be excited about a company that is willing to cut 7.5% of its workforce while it is losing market share? Sure, the company is still dominant in many segments. But once the same could be said for Digital Equipment (DEC), Wang, Lanier, Compaq, Silicon Graphics, Sun Microsystems, Cray and AT&T. All fell victims to market shifts making them irrelevant. Not overnight – but over time irrelevant, nonetheless.
It's hard to imagine, today, a world without Microsoft domination. After all, this was a company sued by the government for monopolistic practices. Yet, we know that even market domination does not protect a company from market shifts. Microsoft's layoffs demonstrate a company planning from the past – it's former dominance – rather than planning for the future. Many industry leaders are already seeing a technology future far less dependent upon Microsoft. Shifting software solutions as well as changing uses of platforms (largely the declining importance of desktop and laptop Wintel machines) is making Microsoft less important.
Trying to Defend & Extend its past glory is not serving Microsoft well. Once, any changes in its operating system was front page news. Now, a new release struggles to get attention. Microsoft is at great risk – and its layoffs will weaken the company at a time when it cannot afford to be weakened. When Microsoft most needs to be obsessing about competitor's emerging strengths, and using Disruptions to open White Space where it can put employees to work on new solutions, Microsoft is cutting back and making itself more vulnerable to competitors now surrounding on all fronts. This should be a big concern for not only those being laid off, but those remaining as employees and those investors who have already seen a huge decline in company value.
by Adam Hartung | Jan 21, 2009 | Innovation, Leadership, Lock-in, Web/Tech
By now most people know the story of eBay. Originally, the founders were looking at the internet as a place to trade PEZ dispensers. But over the next 2 decades, eBay became the world's biggest garage sale. If you have something to sell, you can list it on eBay to a world of potential buyers. While there was a price to listing, it was small and eBay offered a nation of buyers compared to Craig's list which typically only got local buyers amidst a rash of junk listings created by their willingness to allow free listings of on-line items.
Given the current economy, you would expect eBay to be doing gangbusters. When would be a better time to unload the stuff you don't need than now? But unfortunately, eBay revenue is down 6% versus last year, and gross merchandise volume is down 12% versus year ago. Even though eBay has expanded by adding Shopping.com, Stubhub and other sites, total revenue for the Merchandise unit is down 16% versus last year. (read eBay results here)
eBay demonstrates the risk of being Locked-in to a single business model (and single Success Formula). For about 2 decades internet growth has pulled along growing revenues at eBay. Without doing anything differently, eBay grew because more and more people "discovered" the web. As unhappy customers escalated in alarming rates, and lawsuits against unsrupulous eBay suppliers mounted, eBay blithely kept close to its "core," doing more of the same and only adding businesses that helped the "core" internet business grow – such as the acquisition of Paypal to handle small internet purchase transactions. Many people thought eBay would grow forever – as the internet grew.
But now we can see that hiccups happen in all technology markets. Customers are not only using the web, they are getting more savvy. Fewer are willing to buy from unknown suppliers that may not follow through with promised products – and no back-up from eBay. Fewer folks are willing to pay for listings as skeptical buyers are less trusting of those listings – and thus they turn to the free Craig's list. Just being in the right technology market is not enough to keep a business growing.
Lock-in has served eBay well for 20 years. But "times are changing." Now customers are more sophisticated, and looking for more confidence and assurances. They don't trust the eBay model implicitly, like they once did, knowledgable about increasing fraud and lousy customer service from sales people that don't care. The simple eBay Success Formula isn't producing the results it once did.
These latest results should worry everyone who depends on eBay as a supplier, employee or investor. If things don't turn around in the next quarter, eBay will officially enter a growth stall. Even though eBay has been a huge success, like many internet companies eBay could rapidly see an equally remarkable fall. Customers and suppliers can leave eBay just as fast as they left Pets.com.
Most companies expect their Success Formulas to help them grow indefinitely. But we know that highly dynamic markets means this is extremely unlikely. Markets shift – and right now the internet market is shifting fast along with the traditional retail market. eBay is a company that has not prepared for market shifts at all, remaining exclusively tied to its original Success Formula. As a result, the company has no plan to do anything differently even though the market is changing fast. And that is the risk of companies that don't invest in scenario planning, obsessive competitor analysis and White Space during the good times. They can all too easily wake up one day to a dramatic shift in fortune with no idea what to do about it.
You don't have to be GM or Sears to be Locked-in and at risk of market shifts. Even leading companies run the risk. If you devote yourself to Defending & Extending your historical business, ignore internal Disruptions and don't implement White Space to find new opportunities for growth, you risk the business. Because no one can predict when, or how fast, markets will change putting the old business at risk.
by Adam Hartung | Jan 20, 2009 | Defend & Extend, Innovation, Lock-in
As we enter 2009, more people than ever are talking about behaving ecomically. From TV news to newspapers to web sites there are a rash of articles about how to save money. Many of these talk about how to save pennies on things electic consumption (changing incandescent to flourescent bulbs) or food (buy raw ingredients rather than partially prepared frozen.) It seems almost everyone is keen to find ways to save money.
When we look at American homes, the biggest cost is clearly housing. Mortgate, insurance, property taxes (or rent) and heating/air conditioning are the biggest cost of practically every household. The second, by a wide margin, is transportation. The cost of automobiles, insurance and fuel far outweigh any other cost – including food – except for a minority of urbanites that avoid owning a car altother. As we saw last year during the oil runup, for most people finding ways to save money on transportation is very high on the list of concerns.
Yet, the easiest ways to save money are largely ignored. We all know from advertisements on TV and public service announcements that mass transit is cheaper and more "green" than personal transportation. Yet, Americans still prefer the flexibility of their own transportation. Even though the fully loaded cost of a car averages between $500 and $800 per month (and can go much higher for pricier autos).
So, why don't more people drive motorcycles? It is easy to find a used motorcycle for $2,000 to $4,000 - especially smaller engined machines that are ideal for commuting. Most motorcycle insurance costs $100 per year, compared to more than $100 per month for most cars. Most motorcycles average 40 miles per gallon, with some exceeding 100 mpg. And their 0 to 60 performance greatly exceeds low cost and low powered autos that seek higher mileage. Even large motorcycles with big engines that easily tour along at 70-80 miles per hour achieve more than 35 mpg and can exceed 50 mpg on highways. There is simply no way to ignore the fact that the cost of owning and operating two-wheeled transportation is less per year than a single month of even a cheap 4-wheeled auto.
If you go outside the USA, motorbikes are prevalent. They are much easier to maneuver in heavy traffic – virtually ignoring traffic jams. And parking costs range from $0 (because there are many places to hide one in an alley, on a side street or even on sidewalks with two-wheeled parking spots) to a mere fraction of an auto – which costs from $40/day to $200/month in most cities. Where gasoline has long cost $4.00/gallon (north of $1.00 per liter in most countries) the benefits of motorcycles has led the rapid growth of riders. In India motorbikes are so prevalent some cities have considered banning them in order to make more room for autos and "raise the community standars" – bans unlikely to pass and even less likely to be enforced.
So why don't Americans buy more motorcycles? Ask your friends and neighbors – and maybe yourself. Odds are, you never considered it. Somewhere in your mind, motorcycles are stuck in a strange land between gangs (the Hells Angels) and those who can't afford a car. When someone asks about riding one, the immediate image is "dangerous" – yet statistics show that motorcycle riders are less than 5% as likely to be in an accident as an auto driver. Motorcyclists are dramatically safer than auto drivers, and that is reflected in the remarkably lower insurance rates. And when motorcycles are involved in accidents, the costs of repair are rarely even 10% of the cost to repair a car.
Americans don't ride motorcycles largely because they never have. America was always a "car" society. The home of Ford, GM and Chrysler, people bought and drove cars. Of course this was augmented by ample oil reserves leading to very low gasoline prices for many years – something not available in most countries. Whereas in Europe and Asia motorcycles led the transportation movement. It was much more common for the first vehicle to be two-wheeled rather than four.
People are talking a lot about how to be economical. But the reality is that most people are locked-in to old practices. They will switch light bulbs so they have more money for gasoline. They will turn down the heat in winter so they can pay for car parking when going into the city or to work. People will try to make small adjustments around the edges of life so they can Defend & Extend the lifestyle to which they are accustomed.
There are lots of opportunities for us to change our lives. We can make big changes that lower the cost of living. But to implement these requires we Disrupt our lives. Until we challenge the status quo, and change our Lock-in to things we've always done, we don't really consider doing things that can make a big difference.
In the meantime, take a look at buying a motorcycle (read more about motorcycle use in America here.) You might be surprised just how economical they are – and how fun! Your fear of leaving your car at home might dissipate if you ever took a ride on a motorized bike. And you'll be surprised just how much money it can put back into your wallet every month. And it will drop your carbon footprint more than anything else you can do – except switch to mass transit.
by Adam Hartung | Jan 16, 2009 | Current Affairs, Defend & Extend, Disruptions, General, Leadership, Lock-in, Web/Tech
Sprint's prepaid mobile unit, Boost Mobile, announced today a new pricing plan. Customers can get nationwide unlimited calling, text and web access – with no roaming charges. The company President said "This plan is designed to be disruptive." (read article here)
That's a poor choice of words. All this new plan does is lower price. And the predominant reaction is that this may spur a deepening price war. There's nothing new being offered. Just a lower price. Offering more at a lower price isn't disruptive. It might challenge competitors to match that price, and hurt profits, but it isn't disruptive. It doesn't offer a new technology curve that can provide better service at lower pricing long term, it's just another step along a price discount curve.
This change might be very good for consumers. But it's not as good as a really Disruptive action. For example, cell phones were disruptive because they offered a service never before available – mobile telephoning – and offered an entirely new cost curve. In the beginning they were more expensive, so limited only to those who really needed the service. But as time went along and volume increased it became possible for wireless telephony to eclipse old fashioned land-line service. In many emerging countries wireless is the phone service – just as it is for many younger people who have no land line service in their homes relying entirely on mobile phones.
If the CEO at Sprint Mobile wants to be Disruptive he has to come up with a new solution that creates the opportunity for entirely new users who are under- or even unserved. Perhaps telephony that is free because it's linked to a simple radio. Or perhaps a telephone that can translate languages for international use. Or perhaps a phone that can scan documents and send as emails in popular applications like MSWord. Or maybe phones that offer free netmeeting services with document transport and manipulation operating simultaneously with voice service. Or these might just be new features down the road for existing phones – and not even disruptive themselves.
Disruptive innovations are not just price discounts or changes in pricing structures. They bring in new customers and offer the opportunity for dramatically lower pricing because of a different technology or solution format. And they require White Space to develop new customers that can effectively use the new technology and prove its value.
Therefore, we can expect competitors to quickly match the new pricing offered at Boost Mobile. And profits to be curbed.
by Adam Hartung | Jan 13, 2009 | Defend & Extend, In the Swamp, Leadership, Lock-in
Today one of the world's leading pharmaceutical companies announced it was cutting R&D staff (read article here). This is a very big deal because pharmaceutical companies rely on new drugs (new innovations) to extend their Success Formulas. American drug companies rely on big R&D investments, followed by big FDA approval investments. These big investments are seen as "entry barriers" that smaller companies cannot overcome, and thus provide high profits to the big drug companies. That's the core of their Success Formulas – which have been huge profit producers for more than 4 decades.
So what does it say when Pfizer lays off R&D workers? Clearly, there's less faith in the company developing the new products which will pay off. Thus, the old "entry barrier" is clearly not as valuable as it once was. But do you think we're on the brink of no new medical solutions?
Hardly. Today, genetic drug programs and other solutions are being developed and evaluated at greater numbers than ever. Only, you don't need a multi-billion dollar R&D center to develop these solutions. With the explosive knowledge expansion in bio-engineering and nano-technology breakthroughs are happening in universities, university spin-offs and start-ups of former pharmaceutical engineers. The old approach to disease treatment is reaching diminishing returns, while new approaches (namely genetic drug therapies and mechanical approaches such as nano-tech) are making rapid progress. The old "S" curve is nearing its peak, while the emerging "S" curve – that started in the 1980s with Genentech – is coming of age and entering the fast upward slope of the new "S" curve.
But unfortunately, Pfizer, Merck, Bristol Meyers and most other historical drug companies have missed this shift. They kept investing in the "traditional" (substitite "old") approach even as new approaches showed growing promise. They kept hiring M.D.s, pharmaceutical Ph.Ds, chemists and biologists. Meanwhile, bio-engineers and nano-engineers were making faster progress with new approaches. Of course initially regulators were skeptical of these new approaches, forcing additional testing — and reinforcing sustaining the old Success Formulas in the traditional "drug" companies. But it was clear to those on the leading edge of medicine that these new approaches were offering all new baselines for improvement, and possibly cures.
Now, Pfizer is (and its dominant competitors, to be sure) are in a tough spot. They hung on to the old Success Formula a really, really long time. In fact, almost 3 decades after alternative solutions began showing promise. Each year, the drugs they had protected by patents (thus proprietary) were coming closer to commercial replication and lower profitability. But each year, they redoubled their efforts in the traditional approach. Now, debt is hard to come by – and traditional solutions are even harder. But they are woefully short on the ability to offer solutions using the latest and greatest technology.
Unlike most companies, drug companies make most of their money from patented products. That means they make huge profits while there is no competition – but see dramatic (80%+) price erosion within days of losing patent protection. Thus, more than most companies, they can literally "peer over the edge" into the abyss of decline.
Pfizer just admitted it is a boat on the upper Niagra, in Canada, looking over the falls. It stayed way too long on its leisurely approach, and did noy prepare itself for the next step. On the other side are aggressive new competitors with new technology, new solutions and vastly superior results. But Pfizer has not prepared to be part of that new marketplace. So they are cutting specialized scientists in an effort to cut costs and protect profits. A bit like throwing the elderly overboard as you see your boat approaching the falls in an effort to slow your approach to the brink.
To survive long-term busineses have to evolve to new technologies. They have to overcome their dedication to old technologies and solutions in order to invest in new approaches. The have to invest in White Space which brings these new answers to the forefront, and attracts the traditionalists to move into the new market space. But unfortunately Pfizer has delayed these investments far too long. Cost cutting cannot save a Pfizer (or Merck, Bristol-Meyers, or Ely Lilly, etc.). When technology shifts, like it did from typewriters to PCs, the move happens fast and the fortunes of major players can shift dramatically (anyone remember Smith Corolla?). Pfizer is admitting it's unlikely to make the technology shift, and investors better pay close attention to the other industry leaders.
There's a new cowboy in town, he's showing he's one heck of a good shot, and it's time to pay close attention. The old sheriff may be closer to unemployment than he thinks.
by Adam Hartung | Jan 8, 2009 | Defend & Extend, General, In the Swamp, Leadership, Lock-in
"You never get a second chance to make a first impression." I'm not sure who said that first, but it's appropriate for the speech given by Steve Ballmer, Microsoft's head, at the current Consumer Electronics Show.
Almost 2 years ago, after almost 2 years of delay, Windows launched its new operating system named Vista. In the past, such announcements caused great excitement as customers looked forward to upgraded capability. But when Vista came out, it was like the old joke "he threw a party, and nobody came." Customers ignored the release, preferring to keep keep using Microsoft XP. New PC buyers even requested that vendors supply their computers with XP instead of Vista. And competitor Apple had an advertising field day making fun of the complaints PC customers had about Vista as Apple promoted its Macintosh. Microsoft simply didn't offer customers the necessary innovation to make Vista interesting.
Now Microsoft (chart here) has announced it intends to launch Windows 7 (read article here). What struck me most about the announcement was its lack of interest. On Marketwatch.com, the article wasn't even on the first page – you have to scroll down to find it. The equivalent of "not making it above the fold" in old newspaper lingo. Worse, Microsoft's announcement didn't even get top billing regarding the CES show – as its announcement took second fiddle to the article lead about Palm's announcement of a new device and operating system.
Clearly, reporters are savvy to what's important in information techology these days. And efforts to Defend & Extend the PC platform is not where the excitement is. Customers are quickly moving from the PC to handheld devices and remote applications. Interest about what you can do on your handheld is now eclipsing what you can do on a bigger, heavier PC. It's clear to most people, even if not to Microsoft leadership, that Defending & Extending the PC platform is suffering diminishing returns.
Simultaneously, folks woke up today and realized that "not failing" is not the same as succeeding.
As retailers went through the worst holiday season in possibly forever, some folks kept talking about how good Wal-Mart (chart here) was doing. In reality, at best Wal-Mart was possibly holding even or slightly growing. Wal-mart wasn't failing, like Circuit City, Bed Bath & Beyond, Linens & Things and Sharper Image – but it wasn't doing well. Sales at Wal-Mart have been stagnant for years. Now, even Wal-Mart has admitted its sales for December and the fourth quarter were below forecast (read article here). So the stock dropped 7.5%
Really. What did folks expect? Wal-Mart hasn't done anything new to attract customers in well over a decade. The ASSUMPTION analysts kept making was that because Wal-Mart was synonymous with cheap, in a bad recession Wal-mart would do well. But consumers showed that there's more to being a good retailer than being cheap. And gift giving is about more than giving any gift. People still want a good shopping experience, even when unemployed, and the concrete floors and cheap merchandise at Wal-Mart doesn't make them feel any better. Many decided it was better to go on-line looking for values, where overhead is even lower than at Wal-Mart, and where merchandise quality was top rate and wide brand selection was available.
Both Microsoft and Wal-Mart were great companies. They made huge differences as leaders in their industries. But both are now trying to Defend & Extend out of date Success Formulas. And even in a recession – maybe especially in a recession – that does not excite people. Customers want innovation, not just more of the same, but finally working right or at a cheaper price. And when dimes get tight, innovation speaks even louder. Customers want to know how innovation can create greater satisfaction – not just how the same old thing can be — cheap. Until Microsoft and Wal-Mart disrupt their Lock-ins and open White Space there is no reason to be optimistic about their futures.
by Adam Hartung | Jan 6, 2009 | Current Affairs, Defend & Extend, Innovation, Leadership, Lock-in
The Marketing Executives Network Group (site here) has just released its second annual top marketing trends study (read press release and overview here, and study results here). Kudos to MENG for keeping up the effort – and especially so given the surprising results.
Many people think marketers lead their customers. Often, employees think marketers are the people charged with being ahead of customers, scanning the horizon for market shifts that can affect future sales. The perception is that marketers are looking for ways to Disrupt markets, introducing new technologies, products and services to generate competitive advantage. But the results of this survey show that isn't exactly what's going on – at least today. Statistically, according to responses, it appears that most marketers are firmly Locked-in to Sustaining past company sales. The results indicate that the 650 people responding to this survey are more deeply rooted in the past than in the changes now happening which are affecting results at many businesses to their core.
- The #1 business book was considered Good To Great by Jim Collins, and #2 was The Tipping Point by Malcolm Gladwell. No doubt, both of these books have been big sellers. But, the first was published in 2001, and the second in 2000 – neither are exactly "latest thinking" about business, marketing or innovation. Worse, both have been extensively reviewed in academia – and despite their popularity have been proven to be without merit as guidebooks for success. While their logic is appealing, when backtested and when applied, both led to worse results, rather than better, than average. Rosenzweig even has taken the time to publish The Halo Effect which is dedicated to disproving the validity of Mr. Collins (and other's) tales as benefactors of increased sales or profits. A book not even on the list.
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As gurus, the marketers like Seth Grodin, Warren Buffet and Malcolm Gladwell in the first 3 spots, with Tom Friedman in fifth. Again, interesting array. While Seth has an MBA, he was never a successful marketer – until he started selling short books with catchy titles and simple answers for complex problems. Malcolm Gladwell and Tom Friedman neither have any business training or business experience at all – both having been writers and editors by academic training and career (The New Yorker and The New York Times, respectively). I asked Malcolm what led him to write "The Tipping Point" and he said "you get paid a lot more to write a catchy business book than to do serious writing." And Warren Buffet is famous for his total disdain for marketing. As he said in an interview once "if you have to spend on marketing your product doesn't sell itself – so what good is it? Marketing dollars can be spent better elsewhere."
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By far the #1 target market is considered Baby Boomers. Interesting, given that all studies show that as Boomers are nearing and entering retirement their spending (in dollars, and as percent of income) is declining precipituously. Neither Gen X or Gen Y received more than 2/3 the interest of Boomers – even though both are driving more consumption individually than the long-focused-upon but aging Boomers. Given that by 2015 there will be more non-European ancestry Americans than European, hispanics were only 76% as interesting as Boomers, and Asians were only 1/3 as interesting. With President-elect Obama taking the most recent election while losing a majority of the Boomer vote – yet winning the younger and the non-white vote, it is interesting where these marketers showed a preference to focus.
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Aligned with other responses, these marketers felt that Marketing Basics were the #1 issue for marketers, more than twice as important as innovation or "green"and more than 3 times as important as using technology. Further, the leading disliked buzzwords included Web 2.0, Social Networking, Social Media, Blogs and Viral marketing. Yet, the President-elect pulled off an incredible upset primarily by jumping past the old marketing basics and using the latter techniques to reach a new audience, build an amazing brand and create intense loyalty surpassing much better known and initially better funded competitors. At the same time, in 2008 MTV stopped running music videos entirely because they could not compete with YouTube.com, and blogs have shown the ability to spread messages at a fraction of the speed used by traditional advertising or public relations
There is no doubt business saw a lot of change happen in 2008. And we all expect considerable additional change in 2009. But it would appear that the marketers in this study are customers of their own product – potentially to a fault. Old brands (Collins, Buffett, Boomers) still captivate their attention, while newer, upcoming trends and messages are considered far less interesting. As market shifts are happening, they seem more interested in defending past marketing approaches than moving to the front edge of what's working in a rapidly changing, digitized, globally competitive marketplace.
There's no doubt that a lot of marketing is about sustaining an existing business. In most companies, Defending & Extending old products, old brands and old distribution systems get the lion's share of attention. Unfortunately, this behavior can set up many companies to be "knocked off" by emerging competitors who don't operate by the old rules, or in the same way. Google paid absolutely no attention to the gentlemanly behavior of the media as it systematically pulled advertisers to the internet – leaving newspapers and magazine publishers to decline, merge, declare bankruptcy and completely fail. It's these Disruptive competitors, using new techniques, that today are putting many of our oldest businesses at risk.
At times of great change, great opportunity emerges. Someone has to lead the charge for identifying these opportunities and moving forward. Success cannot happen by trying to Defend old Success Formulas after market change makes their rates of return sub-optimal. For many of us, we want to turn to marketers. And my guess is that marketers ARE the best people to discern these opportunities, and take the lead. It's important that now, more than ever, we encourage them to lead customers, rather than follow old markets. Now, when investing in legacy brands, products and technologies is suffering rapidly declining returns, is when we most need our marketers to take to the forefront of exploration and chart a course toward new markets and opportunities.
