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The End of Competitive Advantage

November 7, 2013 • Editors' Pick, Emerging Ideas, Global Business, Strategic Spotlight, STRATEGY & MANAGEMENT

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By Rita McGrath

Businesses are competing in increasingly volatile and uncertain global situations. Below, Rita McGrath suggests that stability, not change, is the state that is most dangerous in dynamic competitive environments, and argues that the end of competitive advantage means that the assumptions that underpin much of what we used to believe about running organisations are deeply flawed.

 

Minoru Ohnishi, who became CEO of Fuji Photo Film in 1980, sensed that a fundamental change was potentially afoot in the photography business. The introduction of Sony’s first digital camera, the Mavica, in 1984 created the reality of photography that could do without film. He said later, “That’s when I realized film-less technology was possible.”1 He wasted no time moving on this insight. He invested heavily in building up expertise in digital technologies to prepare for the next round of competition in the photography business. His determination for the company to make this transition was described as “single-minded” by a writer for BusinessWeek, who observed that if one were to tally up Fuji’s investments by 1999 in research and technology dedicated to digital products, it would easily top $2 billion. The article went on to note a “mystical” belief among the company employees in the correctness of this strategy. This attitude was reflected by chief scientist and senior advisor Hirozo Ueda, who told the reporter, “We’re not going to quit, and we’re not going to lose this battle.”2 By 2003, Fujifilm had nearly five thousand digital processing labs in chain stores throughout the United States; at the time, Kodak had less than a hundred.3

Ohnishi was determined not only to keep his company relevant in digital technologies for photography, but also to extend its reach to opportunities outside the photography business. He pushed the company to establish a sales channel for new products such as magnetic tape optics and hybrid electronic systems. It became the first non-US company to produce videotape. Later diversification efforts took the firm into biotechnology and office automation. It entered floppy disk manufacturing. Ohnishi was an innovator in business processes at Fuji as well. In a Japanese context famous for its long-tenured “salarymen,” Ohnishi championed a lean head- quarters staff, even going to great lengths to benchmark how well Fuji compared with forty other Japanese companies with respect to how many staff were involved in overhead functions. Although Fuji came in at 9 percent (and the average of the rest was 16.7 percent), Ohnishi was determined to bring this ratio down to 7 percent by asking the organization to cut its workload significantly and to eliminate 50 percent of the time-consuming consensus building and documentation that were standard business practice at the time.4

The reconfiguration of the company continued after Ohnishi was replaced by Shigetaka Komori, with sometimes-painful transitions as jobs were lost and facilities closed. The firm aggressively pulled resources from the photographic film business, reportedly cutting more than $2.5 billion in costs in order to invest those resources in new businesses.5 Today, Fujifilm has significant health care and electronics operations and obtains some 45 percent of its revenue from document solutions and office printers.6 All this was accomplished during several decades in which Japan’s domestic industries were moribund and the country seemed unable to escape stagnation. In 2011, Fujifilm generated $25 billion in revenue, employed more than 78,000 people, and ranked 377th on Fortune’s Global 500 list. Kodak has gone bankrupt.

Fuji’s story suggests that simply managing well, developing quality products, and building up well-recognized brands is insufficient to remain on top in increasingly heated global competition. The stakes for the company were huge—it risked undermining its existing advantages, and had to make a bet on a highly uncertain future. Yet, ultimately, it was Fuji’s approach—investing in new advantages and pulling resources from declining ones—that proved to be more robust in the face of change. It didn’t get it right every time, and sometimes the transitions were painful. But the company didn’t get trapped by its past.

It was Fuji’s approach—investing in new advantages and pulling resources from declining ones—that proved to be more robust in the face of change.

When competitive advantages don’t last, or last for a much shorter time than they used to, the strategy playbook needs to change. Leaders have inherited a lot of ideas that may have made sense at one point but aren’t keeping up with the pace of strategic change today. Although executives realize that rapid change is the norm, the strategies they use to compete still draw on frameworks and practices that were most effective decades ago. Executives need a new set of strategy frameworks and practices for winning over the long haul, even as sustainable competitive advantages have become a thing of the past.

 

Your Strategy Is Based on Old Assumptions

Sony. Research In Motion (RIM). Blockbuster. Circuit City. Even the New York Stock Exchange. The list of once-storied organizations that are either gone or are no longer relevant is a long one. Their downfall is a predictable outcome of practices that are designed around the concept of sustainable competitive advantage. The fundamental problem is that deeply ingrained structures and systems designed to extract maximum value from a competitive advantage become a liability when the environment requires instead the capacity to surf through waves of short-lived opportunities. To compete in these more volatile and uncertain environments, you need to do things differently.

When competitive advantages don’t last, or last for a much shorter time than they used to, the strategy playbook needs to change. Leaders have inherited a lot of ideas that may have made sense at one point but aren’t keeping up with the pace of strategic change today.

When I got my start in the strategy field, there were two foundational assumptions we took practically as gospel. The first was that industry matters most. We were taught that industries consist of relatively enduring and stable competitive forces—take the time and effort to deeply understand these forces, and voilà, you can create a road map for your other decisions that is likely to last for some time.

For instance, the traditional network television model in the United States was successful for many decades because the limited and expensive broadcast spectrum meant that a few players (in this case the major networks) dominated the few channels to customers. Over the last thirty years, the constraints that held this model in place have eroded. This relaxation of constraints has fundamentally undermined the networks’ business model. Indeed, the most important dynamic wasn’t network-to-network competition but an invasion from other industries.

The second assumption was that once achieved, advantages are sustainable. Having achieved a solid position within an industry, companies were encouraged to optimize their people, assets, and systems around these advantages. In a world of lasting advantage, it made sense to promote people who were good at running big businesses, operated with greater efficiency, wrung costs out of the system, and otherwise preserved the advantage. Management structures that directed resources and talent to strong core businesses, often called “strategic business units,” were associated with high performance. The core assumption here was that you could optimize your systems and processes around a set of sustainable advantages.

There are indeed examples of advantages that can be sustained, even today. Capitalizing on deep customer relationships, making highly complicated machines such as airplanes, running a mine, and selling daily necessities such as food are all situations in which some companies have been able to exploit an advantage for some time. But in more and more sectors, and for more and more businesses, this is not what the world looks like any more. Music, high technology, travel, communication, consumer electronics, the auto-mobile business, and even education are facing situations in which advantages are copied quickly, technology changes, or customers seek other alternatives and things move on.

 

The New Logic of Strategy

The assumption of sustainable advantage creates a bias toward stability that can be deadly. Stability, not change, is the state that is most dangerous in highly dynamic competitive environments.

Where to Compete: Arenas, Not Industries
One of the biggest changes we need to make in our assumptions is that within-industry competition is the most significant competitive threat. Companies define their most important competitors as other companies within the same industry, meaning those firms offering products that are a close substitute for one another. This is a rather dangerous way to think about competition. In more and more markets, we are seeing industries competing with other industries, business models competing with business models even in the same industry, and entirely new categories emerging out of whole cloth.

It isn’t that industries have stopped being relevant; it’s just that using industry as a level of analysis is often not fine-grained enough to determine what is really going on at the level at which decisions need to be made. A new level of analysis that reflects the connection between market segment, offer, and geographic location at a granular level is needed. I call this an arena. Arenas are characterized by particular connections between customers and solutions, not by the conventional description of offerings that are near substitutes for one another.

To use a military analogy, battles are fought in particular geographic locations, with particular equipment, to beat particular rivals. Increasingly, business strategies need to be formulated with that level of precision. The driver of categorization will in all likelihood be the outcomes that particular customers seek (“jobs to be done”) and the alternative ways those outcomes might be met. This is vital, because the most substantial threats to a given advantage are likely to arise from a peripheral or nonobvious location.

It isn’t that industries have stopped being relevant; it’s just that using industry as a level of analysis is often not fine-grained enough to determine what is really going on at the level at which decisions need to be made.

This further raises the issue that a firm may not have a single approach that holds for all the arenas in which it participates. Instead, the approach may be adapted to the particular arena and competitors it is facing. For example, consider the strategy of language-teaching firm Berlitz. As Marcos Justus, their former Brazilian president, told me, in Brazil, competition for the mass market was fierce, but competition for customers in the upper income brackets was less so. There, a strategy of focusing on the upper echelons and positioning the brand as an elite product made sense. In the United States, where the majority of customers are somewhere in the middle, a different positioning featuring convenience and flexibility made sense. These are two different strategies, responding to the exigencies of the two different arenas. Both of these strategies, however, drive Berlitz’s evolution toward the cultural consultancy it aspires to become.

The imagery of arena-based strategy is more that of orchestration than of plotting a compelling victory, and implementation on the ground by those actually confronting conditions within a specific arena becomes increasingly important (table 1)

 

Tb1_2web

 

The New Strategy Playbook

The end of competitive advantage means that the assumptions that underpin much of what we used to believe about running organizations are deeply flawed. Some of the new playbook is well understood already, such as the need to pursue innovation (although firms still struggle to get it right in practice). Other elements of the new playbook have received little emphasis in conversations about strategy, such as the practice of continuous reconfiguration and disengagement.

“Continuous Reconfiguration” ex-plores how companies can build the capability to move from arena to arena, rather than trying to defend existing competitive advantages. Companies that can do this show a remarkable degree of both stability and dynamism. Moving from advantage to advantage is seen as quite normal, not exceptional. Clinging to older advantages is seen as potentially dangerous. Exits are seen as intelligent, and failures as potential harbingers of useful insight. Most important, companies develop a rhythm for moving from arena to arena, with each one being managed as its particular life cycle stage suggests. And rather than the wrenching downsizings and restructurings that are so common in business today, disengagements occur in a steady rhythm, rather than in high dramas.

One of the most significant differences between the assumption of sustainable competitive advantage and more dynamic strategy is that disengagement—the process of moving out of an exhausted opportunity—is as core to the business as innovation, growth, and exploitation are. Particular arenas are evaluated for withdrawal regularly, rather than advantages being defended to the bitter end. Early warnings are paid heed to, rather than ignored. Disengagement is seen as a way to free up and repurpose valuable resources rather than a dismaying signal of lost glory.

Continuous Reconfiguration” explores how companies can build the capability to move from arena to arena, rather than trying to defend existing competitive advantages.

Is Your Company Trapped in a Competitive Advantage?
Good companies can be trapped into aging advantages and be surprised when things change. The diagnostic in table 2 can help pinpoint areas in which you might be at risk of being blindsided and suggest changes that you might want to make. Simply position your organization’s current way of working on the scale between the two statements in the assessment. Those areas that fall to the left of the scale are the ones you might want to take a good hard look at.

Tb2_1

 

Reprinted by permission of Harvard Business Review Press. Excerpted from The End of Competitive Advantage: How to Keep Your Strategy Moving as Fast as Your Business by Rita McGrath. Copyright 2013. All rights reserved.

About the Author

Rita Gunther McGrath, a Professor at Columbia Business School, is a globally recognized expert on strategy in uncertain and volatile environments. Her thinking is highly regarded by readers and clients who include Pearson, Coca-Cola Enterprises, General Electric, Alliance Boots, and the World Economic Forum. She is a popular instructor, a sought-after speaker, and a consultant to senior leadership teams. She was recognized as one of the top 20 management thinkers by global management award Thinkers50 in 2011.

References
1. L. M. Fuld,
The Secret Language of Competitive Intelligence: How to See Through and Stay Ahead of Business Disruptions, Distortions, Rumors, and Smoke Screens (New York: Crown Business, 2006).

2. I. M. Kunii, G. Smith, and N. Gross, “Fuji: Beyond Film,” BusinessWeek, November 21, 1999, 132–138.
3. L. Fuld, “How to Anticipate Wrenching Change,” Chief Executive, August 1, 2004.
4. S. Hori, “Fixing Japan’s White Collar Economy: A Personal View,” Harvard Business Review, November–December 1993, 157–172.
5. K. Inagaka and J. Osawa, “Fujifilm Thrived by Changing Focus,” Wall Street Journal, January 20, 2012.
6. Hoover’s Inc., Fujifilm Holdings Full Report Company Profile, 2012. Greenleaf Publishing.

 

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