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Profit Pools and Industry Analysis
James OldroydKellogg Graduate School of ManagementNorthwestern University
[email protected] TNRB
SUPPLIER POWERHIGH
•strong labor unions•concentrated aircraft makers
THREAT OF ENTRYHIGH
•entrants have cost advantages•low capital requirements•little product differentiation •deregulation of governmental barriers
INDUSTRY COMPETITIVENESS
HIGH•many companies•little differentiation•excess capacity•high fixed/variable
costs•cyclical demand
THREAT OF SUBSTITUTES
MEDIUM
•Autos/train for short distances
BUYER POWERMEDIUM/HIGHBuyers extremely price sensitiveGood access to informationLow switching costs
Example:
Airlines
Source: J. de la Torre
SUPPLIER POWERLOW
THREAT OF ENTRYLOW
•economies of scale•capital requirements for R&D and clinical trials•product differentiation •control of distribution channels•patent protection
INDUSTRY COMPETITIVENESS
LOW
•high concentration•product differentiation•patent protection•steady demand growth•no cyclical fluctuations of demand
THREAT OF SUBSTITUTESLOW
No substitutes.(Changing as managed care
encourages generics.)
BUYER POWER LOWPhysician as buyer: Not price sensitive No bargaining power.(Changing with managed care.)
Example:
Pharmaceutic
als
Source: J. de la Torre
4
What are the problems with the 5
forces model?
5
What is a value chain?
6
THE PC INDUSTRY’S PROFIT POOL
40%
30
20
10
0
0 100%
Share of Industry Revenue
opera
ting m
arg
in
microprocessors
other components
personal computers software
peripherals
services
The value chain for the PC industry includes six key activities; the profitability of the activities varies widely. Manufacturers compete in the largest but least-profitable segment of the chain.
source: Gadiesh and Gilbert, Harvard Business Review, May-June 1998
7
THE U.S. AUTO INDUSTRY’S PROFIT POOL
25%
15
10
5
0
0100%
Share of Industry Revenue
opera
ting m
arg
in
auto manufacturing
new car dealersused car dealers
auto loans
auto insurance
aftermarket parts
20
leasing
warranty
gasolineservice repair
auto rental
The automotive industry encompasses many value-chain activities. The way that profits and revenues are distributed among these activities varies greatly. The most profitable areas of the car business are not the ones that generate the biggest revenues.
source: Gadiesh and Gilbert, Harvard Business Review, May-June 1998
8
Profit Pools: Company Examples
Companies
Automakers
U-Haul
Elevators (OTIS)
Iomega
Polaroid
Core Business
Auto manufacturing
Truck Rental
Elevator Manufacturing
Zip Drives
Instant Photography Cameras
Sources of Highest ROI
Leasing, insurance, service.
Packing materials, storage
Service
Zip Disks; Storage
Film
The Challenges of Expanding Product or Service Offerings
Why don’t firms simply offer the entire value chain to customers?
What is a pool?
How big is a pool?
10Source: Adapted from Treacy and Wiersema, The Discipline of Market Leaders. Perseus Books. 1995
Customer Intimacy
Customer Intimacy
Product LeadershipProduct
Leadership
Operational Excellence
Operational Excellence
Faster
Better
Closer
Focus
11
The Claimed Focus
Customer Intimacy
Customer Intimacy
Product Leadershi
p
Product Leadershi
p
Operational ExcellenceOperational Excellence
12Source: Adapted from Treacy and Wiersema, The Discipline of Market Leaders. Perseus Books. 1995
The Reality
197 Operating Companies
Customer Intimacy
Customer Intimacy
Product LeadershipProduct
Leadership
Operational Excellence
Operational Excellence
Faster
Better
Closer
?
13
Challenges – Overcoming Firm Legacy
1948 First instant camera1948 First instant camera1981 Formation of electronic group1981 Formation of electronic group1989 Polaroid capable of 1.9 m pixels vs. 1989 Polaroid capable of 1.9 m pixels vs. competitors competitors 480k480k1990 Research investments cut, lab sold to MIT, 1990 Research investments cut, lab sold to MIT, focus on focus on marketingmarketing1992 Prototype of digital camera ready1992 Prototype of digital camera ready1996 Digital camera announced (already 40 1996 Digital camera announced (already 40 competitors)competitors)1998 Photo play category introduced1998 Photo play category introduced
Polaroid
Onxy
monochrome digital images printed from
mobile handheld devices
Opal
Color prints in 1 second vs.
40 seconds of current
technology
$10 billion invested over 10 years
Two new technologies:
2002200120001999
Stock falls from over $40 to .03 in 4 years
14
Trade Off’s
High
Low
Independent Integrated
Ability to Coordinate Activities
Accountability
15
The Added Cost of Coordination
Newspaper-Broadcast-Interactive
Sales ForceMedia Net Sales Force
Tribune is double counting
commissions
Resulting in Twice the Sales Cost
Makes a Sale Makes a Sale
16
Problem of Aligning PerceptionYour Idea… 2+2+5
The Customer’s Idea … 2+2=3
Willingness to Pay
Supplier opportunity cost
Cost
Price
Value Captured by Customer
Value Captured by Firm
Value Captured by Supplier
Willingness to Pay
Supplier opportunity cost
Cost
Price
Value Captured by Customer
Value Captured by Firm
Value Captured by Supplier
17
Problem of Managerial Skills
A B C
In depth Knowledge about the specific product/ services
D E
Broad understanding of the overarching business solution and the ability to perform consultative sellingMoving From In-
Depth to Breadth
18
Alignment Challenges
11 Newspapers2 Cable Channels
BroadcastPrint
InteractiveEvents
Advertising Agencies
Miss Match
TMN
23 Broadcast Stations
Interactive
Events
19
Channel Challenges
3 million independent
sales representatives
J.C. Penney and other retail outlets
The Market
Barrier
20
Channel Continued…
The Corporation
The Channel The
Market
Barrier
Ford Corporation Purchased
Dealerships to give it direct customer
access
In 2002 “Ford is selling its Company-owned dealerships” Source: 2001 Annual Report
Direct Approach via Ford.com and other online sites
21
Online access to account information– Account activity & balances– Portfolio holdings
Online access to Merrill Lynch research
Ability to e-mail with financial consultant
Online bill payment capabilities
Access to Merrill Lynch analytical tools
Ability to execute trades
Source: ml.com
Channel Continued…
Brokers The Market
ml.com
Merrill Lynch sought to involve brokers in the online process
to minimize dissatisfaction
22
Channel Continued…
The MarketThe Travel Agent
The Airlines
The Solution
Frequent Flier Programs
23
Economic Challenges
It takes a substantial investment to:
identify the market
And Interpret the Market
Adapt to the Market
24
Product Dilemma
We knew products had reached maturity when we
introduced several new products and did not get
the bump in market share we were used to getting
Corporate Executive,
2002
What is the point of another flavor of
toothpaste, another feature crammed into
Microsoft Word, or another gizmo on the
dash of a Ford minivan?
Tom Kelly, GM of IDEO, as quoted in Business
Week, 2001
25
Product Parity Forces Firms into the Bottom Half of the Circle
Profits over time
0%
20%
40%
60%
80%
100%
Growth Consolidation Maturity Decline
Industry trend
Product ServiceValue
Added
Price
Radical InnovationProduct
Features
Focus
26
Maturing Markets
Profitability
High
Low
Strong
Weak
Position in the Supply Chain
Ability to Generate Value Enhancing Ideas
Extensive Limited
Typical Path
Maturity
27
The Drive for Solutions
Product Parity
New Delivery Vehicles
Internet and aggregators
Customer Needs are Changing
28
Dimensions of Value
Value
Price
Differentiation
Product
Service
Bottom Line Value
Top Line Value
Willingness to Pay
Cost
Price
Value Captured by Customer
Value Captured by Firm
Value Captured by Supplier
Supplier Opportunity Costs
29
THREE DISTINCT STRATEGIES TO BEAT THE COMMODITY TRAP
ScopeExtension
Company focus
Significant
Limited
Product Service
1 3 2What you do
Who you are
30
SEVERAL COMPANIES HAVE MADE THIS TRANSITION SUCCESSFULLY
ScopeExtension
Company focus
Significant
Limited
Product Service
1 3 2
Cemex Starbucks
Cisco
GEMS
Tribune
What you do
Who you are
31
Significant
Limited
Product Service
1 3 2
Cemex Starbucks
Cisco
GEMS
Tribune
ScopeExtension
Company focus
What you do
Who you are
ALTHOUGH VALUE CAN BE GENERATED BY MOVING TOWARDS SOLUTIONS OR CUSTOMERS A COMPLETE
TURN ESSENTIAL TO SUSTAIN STRONG POSITION
Taking the Turn
32
GEMS CHANGING SCOPE AND THEN COMPANY FOCUS
ScopeExtension
Company focus
Significant
LimitedProduct Service
IntroductionMarket leader in diagnostic imaging with over 40% market shareGrew in the 90s through acquisitions
Scope extension ideasSlowly moving pure equipment sales to financial and consulting servicesEducation of customers (TIP TV)Quality and Productivity programs
Changing company focusUse of Field Engineers not only as technical experts but onsite customer relationship developersChange organization focus to allow dedicated resource focusing on customer service
"Becoming better than the best through a boundaryless corporation"
"Becoming better than the best through a boundaryless corporation"
33
STARBUCKS CHANGING FOCUS AND THEN SCOPE
IntroductionGourmet coffee reseller focusing on creating "Starbucks culture" • current market cap $1.6bn
Changing company focusBuilt strong brand recognition through distinct culture building exercise
Created "customers as partners" philosophy
Joint branding and licensing agreements exercise creating faster product recognition• Starbucks/Pepsi frappuccino, Starbucks/Dreyers ice cream
Scope extension ideasExtending service offering to include new products• gourmet lunches, Tazo teas, musicEstablished strong partnerships allowing access to alternate mediums of sale• partnership with United Airlines, Barnes & Noble, Craft
"Creating a new customer culture, providing a suite of solutions "
"Creating a new customer culture, providing a suite of solutions "
ScopeExtension
Company focus
Significant
LimitedProduct Service
34
IntroductionLarge networking solutions providerExponential growth through acquisition strategy
• underlying growth philosophy is new product ideas through acquisitions, partnerships, external; R&D• acquisition focused on small companies with customer focus
Changing company focusAcquisition focus on companies controlling customer intimacy rather than companies with technology capabilities Worked with customers to tailor make networksCustomer advocacy cornerstone of culture
• customer satisfaction based compensationMoving from segment focus business model to product focus
Scope extension ideasMoved from router only company to end to end networking solutions
CISCO CHANGING FOCUS AND THEN SCOPE
"Customer Advocacy is the company agenda ""Customer Advocacy is the company agenda "
ScopeExtension
Company focus
Significant
LimitedProduct Service
35
CEMEX A COMPANY THAT PURSUED THE HYBRID APPROACH
IntroductionCemex started as a Mexican cement company and is today the
• 3rd largest cement producer in the world • vertically integrated into distribution of construction materials• largest steel and cement transporter in Mexico
Scope extension ideasBroader product categories
• cement cement + cement derivatives + construction materials
Extensive client support programs including • product education, delivery speed, inventory management,
financing of project, infrastructure cost sharingReconfiguration of sales channel
• introduction of Arkio, online/offline sales channel• introduction of Promexma program, own distribution centers
Changing company focusChanged performance metrics to reward on customer satisfactionLeveraging IT and internet capabilities to get closer to customers
"Generating returns by providing comprehensive construction solutions to targeted customers"
"Generating returns by providing comprehensive construction solutions to targeted customers"
ScopeExtension
Company focus
Significant
LimitedProduct Service
36
What is a Solution?
First StepsProduct Extension
Service Extension
Philosophical ExtensionPurchase Experience
Product Needs
Customer Guest
63% of Fortune 100 Firms claim to offer solutions.
Solution helps customers succeed in the marketplace by enhancing revenues, reducing
current or future costs.
FinallyCo-created value add
Integrated Offering
Creates some risk
Requires intimate customer knowledge
Is completely customized
Source: Adapted from “From Solutions to Symbiosis” Sharma, Lucier, and Molloy. Strategy and Business, 2002
37
The Proliferation of Solutions
Change in shift from selling products/servicesto selling value - added solutions
Change in shift from selling products/servicesto selling value - added solutions
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Per
cen
tag
e o
f R
espo
nses
Scale: 1 = Decreasing 4 = Not Changing 7 = Increasing
= 5
= 6
= 7
companies
responded 5
= 4
<= 30%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Per
cen
tag
e o
f R
espo
nses
Scale: 1 = Decreasing 4 = Not Changing 7 = Increasing
= 5
= 6
= 7
79% of all
= 4
<= 3
38
Challenges of Providing a Solution
Solution must increase the Willingness to Pay
and the price or decrease the cost to Serve to add value to
the firm
Some Common Pitfalls•Firm provides more product features or services (solution) but customers are unwilling to pay for the features or additional services
•Firm is unable to quantify the value added and thus is not remunerated for the effort
•Customer requirements vary resulting in the need for an infinitely flexible system
•Solution is not scalable
•Firm is unwilling to bear higher initial cost necessary to create a solution
Supplier opportunity cost
Willingness to Pay
Cost
Price
Value Captured by Customer
Value Captured by
Firm
Value Captured by Supplier
39
Challenges of Pricing a Solution
The Key is to generate new revenue or be able to charge a premium for the additional
service
Source: McKinsey Quarterly Putting a Price on Solutions, 2001, Number 3.
Customer Customer Value of Value of Solutions Solutions OfferedOffered
+/-
+/-
-
+
+
+
+
+
Marginal Revenue
Marginal Cost
Marginal Investment
Revenue without new
systems
Revenue with new systems
Revenue from new systems
Revenue from old systems
Revenue from related
products and services
Revenue from old system
Revenue from related
products and services
Number of new systems users and frequency of use
Fees
User fees and access
fees
Add on product fees and service
40
Challenges of Selling Solutions
Product Performance Customer Performance
Intra Organizational Coordination
Inter Organizational Coordination
Product Selling Consultative Selling
Vs.
Vs.
Vs.
Only Product Risk Performance RiskVs.
41
Product vs. Service
Traffic Server
Sales a software solution for around $25,000 plus the required hardware
Problems: Capital expenditures and risks are
fully shouldered by Akamai - Model is difficult to Scale
Benefits: Software is easy to scale. Costs are fixed.
Benefits: Easy to sell. Low upfront costs.
Problems: Huge upfront costs.
Key Customer: AOL
Key Customer: Yahoo!
Content Delivery
42
Mega Aggregators- A serious attempt
Scheduling
Electronic Charting
Insurance Reimbursement
Co-payElectronic
Prescription
Reporting
Compliance
Offers the Physician one software, hardware and support to allow an office to move all records to electronic format.
Three Tools of industry analysis
44
Bargaining Power of Suppliers
Bargaining Power of Suppliers
Threat ofNew Entrants
Threat ofNew Entrants
Rivalry amongExisting
Competitors
Rivalry amongExisting
Competitors
Bargaining Power of Buyers
Bargaining Power of Buyers
Threat of SubstitutesThreat of
Substitutes
Industry Analysis
Porter’s Five Forces Model
45
SWOT Analysis:SWOT Analysis:
Additional Industry Analysis Tools
Numerous Environmental
Opportunities
SubstantialInternal
Strengths
Major Environmental
Threats
CriticalInternal
Weaknesses
OvercomeWeaknesses
Grow
DiversifyRestructure
46
THE U.S. AUTO INDUSTRY’S PROFIT POOL
25%
15
10
5
0
0100%
Share of Industry Revenue
opera
ting m
arg
in
auto manufacturing
new car dealersused car dealers
auto loans
auto insurance
aftermarket parts
20
leasing
warranty
gasolineservice repair
auto rental
The automotive industry encompasses many value-chain activities. The way that profits and revenues are distributed among these activities varies greatly. The most profitable areas of the car business are not the ones that generate the biggest revenues.
source: Gadiesh and Gilbert, Harvard Business Review, May-June 1998
