1b574value Innovation (2)

Strategy

p23

From competitive advantage to value innovation b y B r i a n L e a v y a n d To m C a r e y For the last twenty years since the publication of

ties for growth are limited - game over. We no longer

Michael Porter's Competitive Strategy in 1980, the

think like this today. Too often maturity turns out to be

focus of strategy has been mainly on the creation of

more of a mind-set than a reality. Over time, many

sustainable competitive advantage. This is no longer

industries evolve a typical value chain, usually fash-

the case. The traditional routes to marking out and

ioned by the industry leaders, and most incumbents

defending competitive space within the Porter model

tend to compete within this configuration, forcing com-

are constantly being eroded in today's more dynamic

promises on existing and potential customers.

and global economy, as entry and mobility barriers are relentlessly assailed in market after market, and switch-

Finding new ways to break such compromises can be

ing costs are all but disappearing. Obsession with

promising routes to value innovation. In consumer

competitiveness, particularly in 'mature' industries, is a

banking, for example, innovations in ATM and web-

recipe for strategy convergence, as major players tend

based offerings helped to create new value by break-

to rapidly imitate each other and well-informed con-

ing traditional compromises with respect to service

sumers pick up most of the value . The new route to

range and availability, while recent attempts to force

growth and superior returns is value innovation.

migration onto these platforms run the risk of destroy-

Value innovation at business level - reconfiguring the

ing value by replacing an old compromise with a new

value chain

one.

Few people have difficulty seeing how value innovation generates growth and profitability in the case of new

Value innovation can release a lot of trapped value

enterprises early in the industry lifecycle, like Xerox in

and generate fresh growth in markets long assumed to

plain paper photocopying or Microsoft in personal

be mature. This is how late entrants like Canon, Wal-

computing. When it comes to mature industries, the

Mart, Ikea, Dell and Ryanair, found major new growth

traditional assumption is that the leading incumbents

opportunities in photocopying, mass retailing, furni-

have a lock-hold on the market and further opportuni-

ture, personal computing and air travel. It is also how

banking ireland 4 autumn 2002

strategy

p24

Schwab has consistently outpaced its rivals in the funds management area over the last 30 years. Companies like these upstaged leading incumbents, not by trying to differentiate themselves along the conventional industry value chain, but by re-configuring it. The classic case is Canon. When Xerox introduced its innovative plain paper copying technology in the 1950s, it created a whole new market and protected its position with more than 500 patents. This gave the company a ten-year head start over the competition. During this time, Xerox established a value chain configuration based on centralised copying, and built a virtuous cycle around it . The company used its initial technological lead to build a rapidly growing base of centralised copying installations within leading corporations throughout the US and internationally. This in turn generated a growing stream of leasing and service revenues, which in time gave rise to significant economies of scale in marketing and manufacturing. Increasing revenues and margins helped to fund a level of R&D investment which exceeded the combined revenues of the competition, while allowing Xerox to support the industry's largest and most sophisticated sales and service network, strengthening its brand and market dominance and keeping the cycle going. By the time its original patents ran out, Xerox had a massive 93% share of a $2B industry and a brand synonymous with photocopying. Many large resourceful firms, like IBM, Kodak and Pitney Bowes, entered the industry only to retreat some years later having lost significant amounts of money. The outstanding exception was Canon. Unlike the others, Canon did not try to compete with Xerox head-on using a similar value chain configuration built around high-speed cenbanking ireland 4 autumn 2002

tralised copying. Rather, it saw the opportunity to create new value based on a more decentralised model. The company challenged its engineers to come up with a high quality, highly reliable, easy to maintain, personal copier for less than $1000, which represented a quantum leap in the price/functionality relationship of the time. This copier was designed to appeal to the many small to medium businesses for which the Xerox offerings up to then were not affordable. It also appealed to many people in larger corporations seeking an alternative to queuing up for much of their photocopying needs. By value innovation, Canon created a new surge in market demand and captured the lion's share of the growth. It also re-configured the industry's value chain in ways that played to its strengths, including wider and more diverse distribution that Xerox was used to, and skills in the design and production of high-volume, low-margin, precision-engineered prod-

strategy

p25

ucts. Within two decades, Canon had developed its

has re-invented itself twice and grown faster than its

copying activity into a $5B business.

industry through value innovation. Shortly after the US Securities and Exchange Commission deregulated com-

The power of value innovation to generate new growth

missions on trading, Schwab pioneering discount

in mature markets is not specific to particular industries

broking and helped to democratise personal investing,

or sectors. In the early 1970s, Wal-Mart re-configured

creating a whole new market segment. Discount broking

the value chain in US mass retailing to make the dis-

propelled its growth until the stock market crash of

count format commercially viable in population centres

1987. In early 1990s, the firm began to look for new

of less than 100000 people. On the back of its revo-

ways to create value. In 1992, it re-configured the tra-

lutionary 'cross-docking' logistics system it rapidly out-

ditional value chain in asset aggregation by introducing

paced such rivals as Sears and K-Mart to become the

Mutual Fund One Source, the first mutual fund super-

largest retailer in the world. Ikea revolutionised the

market that offered clients one-stop access to a wide

business model in quality furniture by co-opting the

array of funds, including those of Templeton, Morgan

customer into the value chain at the final assembly and

Stanley, Goldman Sachs and other market leaders. By

delivery stages, and found a novel way to create an

the end of the nineties, One Source assets were close to

international brand in what was up to then a very frag-

breaking the $100B mark. Later in the decade, it re-

mented industry. As a late entrant into the highly com-

invented itself yet again by leading the sector into

petitive personal computer market, Dell tapped into an

Internet trading. Schwab launched its website in 1996

enormous reservoir of trapped value with its innovative

and by the end of that year had over 0.6M active online

'direct model', leaving more established players like

accounts, representing $42B in assets. Within three

IBM, Compaq and Hewlett Packard struggling in its

years, these figures had grown to 2.2M and $174B

wake. Closer to home, Ryanair's innovative no-frills

respectively. In today's difficult market conditions it is

business model has created a new growth dynamic in

renewing itself again. With pure trading fast becoming a

the European airline industry and the company thrived

commodity, Schwab is aiming to use its information tech-

while more experienced incumbents stalled.

nology savvy to redefine full-service broking and create a new growth dynamic at the higher end of the market.

Value innovation has also proved effective in financial services, where a new dynamic was generated through

Value innovation at corporate level - leveraging intel-

the cross-fertilisation of banking and assurance across

lectual capital

the industry. Fresh growth was also stimulated by the cre-

Value innovation is also the route to renewed growth

ative strategies of individual firms, such as the 'Open

for the multi-business firm. In this case, however, the

Plan' initiative at the Woolwich, which new parent,

target is different. Here we have to look beyond the

Barclays, is now scaling up, and the shareholder value

value chains of individual businesses to the manage-

crusade of Brian Pitman that transformed Lloyds. One of

ment model itself. The central question at corporate

the outstanding examples is Schwab in the funds man-

level is what value can be added over and above that

agement arena. Over the last thirty years, the company

which the businesses themselves can generate as banking ireland 4 autumn 2002

strategy

p26

stand-alone operations with their own access to the

body'

capital markets. Unfortunately, the track record of most

between strategy and organisation at the corporate

.

In doing so he redefined the relationship

corporate strategies has been uninspiring and it is

level, and released a lot of trapped value in the

widely believed that "most multi-business companies

process. Over the last two decades, GE has pursued a

are the sum of their parts and nothing more" .

policy of radical decentralisation, pushing ownership and accountability further down the organisation than

There have been some outstanding exceptions over the

ever before. It now seeks the primary benefits of cor-

years, among them Johnson and Johnson, 3M and

porate management in organisational learning and the

Canon. By far the most impressive has been General

transfer of best practice, rather than economies of

Electric (GE). GE is one of only two companies on the

scale or scope of the more traditional kind. It has also

original Forbes 100 to have out-performed the market

simplified its approach to corporate strategy. Gone are

since these rankings were first published in 1917, and

the famous blue books, with copious data on dozens of

it has always been at the forefront of contemporary

strategic business units. In their place is a five-page

best practice. The now-famous PIMS (Profit Impact of

playbook for each major business that directly address-

Marketing Strategy) research project originated within

es the global dynamics of the market and how they are

GE in the early 1960s, and the GE portfolio matrix

being changed, or could be affected, by the actions of

became the most widely used corporate planning tool

GE and its competitors. The strategic aim is to 'evolve

of its type during the 1970s. When Jack Welch took

into a company that is either number 1 or number 2 in

over as CEO in 1981, he inherited a corporate man-

its arenas' . Every business that can rise to this chal-

agement model that was the envy of his contempo-

lenge is given the chance to flourish, even those in

raries, and he promptly set about dismantling it. As he

mature industries. The elimination of detailed corpo-

was later to explain:

rate planning has allowed it to slim down its corporate function, simplify its systems and flatten its organisa-

'We had constructed over the years a management

tion. The overall effect is a new, more agile and entre-

apparatus that was right for its time, the toast of the

preneurial multi-business corporation that has

business schools. Divisions, strategic business units,

changed the way it relates to its businesses and the way

groups, sectors, all were designed to make meticulous,

the businesses relate to each other.

calculated decisions and move them smoothly forward

Taking out its top management layer alone saved it

and upwards. The system produced highly polished

$40M in overhead. However, as Welch saw it, that was

work. It was right for the 1970s, a growing handicap in

just a bonus that paled in comparison 'to the sudden

the 1980s and would have been a ticket to the bone-

release of talent and energy that poured out after all

yard in the 1990s' .

the dampers, valves and barriers had been removed' . The overall effect of the radical decentralisation at GE

In its place he set about trying to change the corporate

has been to turn more and more functionaries into

management model to create a 'small company soul -

businesspeople and the company has been prepared

and small company speed - inside our big company

banking ireland 4 autumn 2002

strategy

p27

to reward them accordingly, with steeply differentiated

The new corporate management model also has impli-

incentives closely related to performance. It has also

cations for the role of the CEO. Corporate leaders like

provided the company with a leadership development

Jack Welch no longer seek to make their most distinc-

system that many now feel is its major advantage. With

tive contributions through strategy and structure, in the

Work-Out, its revolutionary approach to participative

traditional sense. Rather, they concentrate on shaping

management, GE has pushed decentralisation right

the behavioural context of the organisation and defin-

down to the level of the front line operative in a com-

ing its values . The company took three years to devel-

mitted effort to tap into the hidden value of its people.

op its statement on core values, which are built around

As Welch put it:

the themes of facing up to reality, being open and can-

'We now know where productivity - real and limitless

did, changing before you have to change, striving for

productivity - comes from. It comes from challenged,

simplicity and respecting the individual. At GE, these

empowered, excited, rewarded teams of people. It

are more than inspirational aphorisms. Business lead-

comes from engaging every single mind in the organi-

ers that make their numbers do not survive if they are

sation' .

not committed to these values, which are key to sustaining a learning culture, because, as Welch put it, 'we

The company has also found a new way to leverage

have to know if our people are open and self-confi-

corporate scale by harnessing intellectual capital

dent, if they believe in honest communication and

through the rapid transfer of learning. Knowledge-

quick action' .

based programmes like 'best practices', 'boundary-less' and 'six sigma', encourage GE people to look beyond

The potential to find new value in the corporate man-

their businesses, and even beyond the corporation

agement model is not confined to industrial producers,

itself, for ideas. In Jack Welch's words, it is all about

but has wide application. One of GE's main growth

'moving intellectual capital - taking ideas and moving

engines over the last twenty years has been GE Capital

them around faster and faster' . In fact, as Merrill Lynch

Services. To Gary Wendt, its CEO for much of that

analyst, Jeanne Terrile, recently put it, GE has become

time, the most important contribution that the parent

not so much a collection of businesses as a 'repository

company made to his business was the management

of information and expertise that can be leveraged

model which gave him access to some of the world's

over a huge installed base' . To ease the circulation of

best industrial practices, including six sigma quality.

ideas, GE has striven to break down barriers to com-

Elsewhere, in the financial services sector, Citicorp has

munication both vertically and horizontally, and while

built a world-class consumer banking operation on the

no formal synergy programmes are forced upon the

back of a process called 'success transfer'. In its

businesses, a lot of corporate effort is invested in pro-

approach to building the 'smart organization', Citicorp

viding the opportunity and incentive to share ideas.

treats its diverse consumer outlets as a network of mini-

banking ireland 4 autumn 2002

strategy

p28

laboratories, and rapidly transfers local innovations

at the corporate level is in the management model

throughout the system. As former CEO, John Reed

itself. In today's advanced economies, the traditional

explained, 'it is a known fact in the scientific literature

justifications for multi-business management are wear-

that if you tell one lab that another lab has succeeded

ing thin. Few corporate management groups are able

at an experiment, the first lab is more likely to succeed

to allocate finance or diversify risk more efficiently than

as well. The same dynamic works in the consumer

the market, or to generate

bank' .

create more value than they destroy. All too often the

economies of scope that

savings to be realised from the sharing of operations or Today, there are few multi-business companies as

distribution systems do not compensate for the blurring

entrepreneurial as Virgin. Yet Virgin has been slow to

of accountability and the blunting of enterprise that

transfer learning across the corporation. In contrast,

tend to accompany such synergy-seeking efforts.

few corporations harness their intellectual capital as

However, what the General Electric story under Jack

well as 3M, though many are more dynamic. The new

Welch's leadership shows us is that corporate manage-

corporate model that today's pioneers are striving for is

ment can still be more effective than the market at

one that will combine the entrepreneurial drive of a

leveraging intellectual capital, and the sharing of

Virgin with the learning capability of a 3M . Fewer are

knowledge does not inhibit entrepreneurial drive at

closer to realising this than GE, which is why its twen-

business level but can actually enhance it. Today, it is

ty-year effort to redefine the corporate management

still the case that many diversified organisations are

model for the multi-business firm is so significant for

dumber than the sum of their smarts. Transforming the

theory and practice alike.

management model in the multi-business firm to focus on the generation and transfer of ideas now looks to be

Conclusion

the most fruitful route to value creation at corporate

In sum, the central focus in strategic management is

level for some time to come.

changing from competitive advantage to value innovation. At the level of business strategy, what value innovators like Dell and Schwab have in common is a pri-

Professor Brian Leavy holds the AIB Chair of Strategic

mary obsession with customers rather than competi-

Management at DCU Business School and Dr Tom

tors. They are less concerned with defending market

Carey is Director of DCU Executive Education

position than with creating new value by re-configuring the value chain, and they see relentless value innovation as the surest way to thriving and surviving in today's dynamic and uncertain times. In the multi-business company, the primary target for value innovation

banking ireland 4 autumn 2002