- 26 Sep 2016
Is Company Failure Inevitable?
- Author Interview
What Kills Companies?
The vast majority of businesses in the United States kick the bucket before they reach middle age. Less than 0.1 percent of firms founded in the US make it to the age of 40. And among firms founded in 1976, only 10 percent were still going strong a decade later.
Large, long-successful companies are clearly not immune to perishing, either. Polaroid, founded in 1937, dominated the market for instant photographs and was also one of the first companies to invest in digital imaging, yet the business closed in 2008. In 1955, RCA was almost twice as big as IBM and was viewed as having better technology, yet by 1986, it was pronounced dead.
And the list of bankrupt or deceased giants goes on: RadioShack, General Foods, Blockbuster, Borders, Circuit City.
Why did these once world-beaters succumb? A new book, Lead and Disrupt: How to Solve the Innovator’s Dilemma, says that while each of these firms has a unique sinking-ship tale to tell, they all flopped for essentially the same reason: They suffered from a failure by leadership to grapple with changing technologies and business markets.
“The leaders of these companies were rigid in one way or another—unable or unwilling to sense new opportunities and to reconfigure the firm’s assets in ways that permitted the company to continue to survive and prosper,” write authors Michael L. Tushman, the Paul R. Lawrence MBA Class of 1942 Professor of Business Administration at Harvard Business School, and Charles A. O’Reilly III, the Frank E. Buck Professor of Management at Stanford University’s Graduate School of Business.
The authors, who have spent more than a decade helping companies innovate, say business leaders can dodge failure by adopting an “ambidextrous” approach—continuing to invest in their existing products or services while at the same time striving to adapt and grow by innovating in new areas.
Some firms have pulled off this tricky balance. IBM was founded in 1913 as a maker of mechanical tabulating machines and today is a $100 billion company that earns 85 percent of its revenue from software and services that didn’t exist 50 years ago. Amazon, which started out selling books online, is now the largest web retailer and a major player in cloud-based utility computing.
Tushman, who has co-written a piece called The Ambidextrous CEO for Harvard Business Review, says companies can achieve long-term success if their leaders take a careful, deliberate approach to nurturing their current successes while also investing in innovative prospects for the future.
Dina Gerdeman: Can you explain how some companies are trapped by their own success in a way that reduces their ability to innovate?
Michael Tushman: The things that help organizations execute their current strategy—the cultures they build, the structures they forge, the processes that work so well to get today’s strategy executed—actually collude to hold the organization hostage to that soon-to-be-obsolete strategy.
The more firms engage in getting today’s work done, it actually reduces the probability of making shifts in innovation and strategy. That is what is so strikingly paradoxical to leaders: The very recipes that work so well for today often get in the way of the future. It’s a challenge to incrementally improve what you’re doing as you’re trying to complement it with something different. The dual strategies are inconsistent.
For example, look at The New York Times right now: If you want to execute a newspaper and simultaneously digitize development and distribution of content, those are orthogonal strategies. It’s that duality that is so hard.
Gerdeman: In recent years, a number of once prominent firms have run into trouble, including Polaroid and Kodak. What was their biggest mistake? Why do you think these companies failed to remain competitive?
Tushman: If we stick with Kodak or Polaroid, one, they got stuck. The senior team had a too-narrow view of the strategy. They got overwhelmed by the inertia, by the processes, people, culture, metrics, and measures. They got overwhelmed by the short term. Point two: When they tried digital imaging, as Kodak and Polaroid did, they tried to push their existing organizations to execute a discontinuous innovation. The second error was not separating the future from the past.
The biggest issue we have found is that it’s hard for a leader and his or her team to deal with this paradox. It’s easy to do either exploit or explore. The biggest mistake I see in senior teams is their inability to deal with contradiction and so they default to one or the other.
The biggest problem they have is answering: Who are we, and what do we do? Senior leaders often do not attend to this identity question. They close their eyes to what’s going on in the world. Highly inertial organizations code an innovation as either not important, it’ll go away, or it’s fundamentally the same as what we’re doing now.
Ball Corporation was able to move from a wooden bucket company to a glass jar company to a metal can company to a plastic bottle company. What held the organization together for more than 100 years was its overarching identity as the world’s greatest container organization. Without an overarching identity, the reality of today trumps the future. In my work with organizations, probably the most challenging piece of work is to help leaders articulate a strategy with this notion of different kinds of innovation, to help them grapple with who they are and what they do.
Gerdeman: A lot of companies say they’re customer-focused, but are overly focused on specific skills.
Tushman: Organizations get trapped by their existing skills and capabilities. The challenge for the senior team is to get new skills. You get new skills by acquisition and training. The leadership team has to build an organization to host multiple, often inconsistent, skills simultaneously. The challenge for our leaders is not to negate the skills from the past, but to be proud of that, celebrate it, and build these new skills that will help the organization get to the future.
Gerdeman: You say this is a leadership issue first and foremost since many failed firms have the technology to succeed, but their leaders don’t see the landscape that would allow them to capture value from it, right?
Tushman: Yes. At the end of the day, this is a book about leadership. It’s about the leader’s ability to build teams and organizations that can host contradictions and paradox. These ambidextrous organizations celebrate the past and create the future. This is a leadership book about leaders who can walk into paradox and be able to thrive in contexts that are seemingly inconsistent. Every senior team I work with has to do strategy. Rarely do teams take seriously this issue of identity. This identity thing is a bit more important than strategy. Once you get the identity, then you can be strategically flexible.
Gerdeman: Organizationally, how should a company go about both exploiting current assets and exploring new ones?
Tushman: The explore unit has to be physically separated, culturally separated, and staffed and rewarded separately from the exploit side. If integration is done too soon, the exploit unit typically crushes the firm’s exploration activities.
What we have found is that when the explore side gets legitimacy with customers and gets legitimacy in the firm, that’s the time you integrate it. So once the explore side demonstrates that hey, this works, then it’s drawn in by the exploit side.
At USA Today, when the dotcom business got to be successful with customers, had a viable strategy, and was making money, then they integrated the explore with the exploit. As soon as the exploit side codes the explore side as complementary, rather than a substitute, this works very well. So you keep them separate until you can develop a plan for integrating the two.
Gerdeman: What is necessary for successful ambidexterity?
Tushman: You need a senior team that gets the strategic importance of an overarching identity, the notion that: “We want to be the world’s greatest container corporation.” Those most effective ambidextrous organizations get identity on the table fast. Once you do that, it is then possible to host internally inconsistent organizational architectures to explore and exploit and to build linking mechanisms that help the firm leverage common capabilities. Finally, this overarching identity helps the senior team articulate the importance of the firm’s future and its past as well as build an overarching culture that can handle paradox.
If you just do identity without the structure or if you just do the strategy without the identity, it doesn’t work. In terms of the pragmatics of doing this, the senior teams need to talk. The secret sauce is dialogue: Articulate the vision and the strategy and talk about the challenges in doing it. In every single negative example, it’s because the leadership team doesn’t have the ability to talk about and adjudicate and deal with the challenges of contradiction.
The reason explorers get squashed is that the powerful side of the organization crushes the future. They crush it because fundamentally, the senior team doesn’t get the strategic importance or paradox; of being consistently inconsistent.
Gerdeman: I imagine you’re hoping business leaders will read the book and come away with the belief that they can indeed prevail in the face of disruption?
Tushman: Yes, it’s relatively easy to do once you have the cognitive complexity and senior team capabilities to do it. It’s really a leadership challenge.
If 90 percent of organizations fail at these transitions, our hope is that the number goes to 70 percent. If you’re up for the challenge, we know this recipe works.
- Book Excerpt
How Netflix Disrupted Blockbuster—Twice
Consider Netflix and Blockbuster. In 2012, Fortune magazine featured Reed Hastings, Netflix founder and CEO, as its businessperson of the year. Founded in 1999, Netflix is now the world’s largest online DVD rental services and video streaming firm, with more than 100,000 titles in its library, 60 million subscribers, and annual revenues of more than $4 billion. In 2002, the year Netflix went public, prime competitor Blockbuster had revenues of $5.5 billion, 40 million customers, and 6,000 stores. Yet only eight years later, on September 23, 2010, Blockbuster filed for bankruptcy; in a supreme irony, Netflix was added to the S&P 500 shortly after, replacing Eastman Kodak, another failed corporate icon.
When Netflix went public in 2002, a Blockbuster spokesperson said it was “serving a niche market. We don’t believe that there is enough demand for mail order—it’s not a sustainable business model.” In 2005, as Netflix began moving into the streaming of videos over the Internet, the chief financial officer of Blockbuster said, “We don’t think the economics (of streaming) works well right now.”
But before these public dismissals, there was a private one. In 2000, Reed Hastings flew to Dallas to meet with the senior executives at Blockbuster. He proposed that they purchase a 49 percent stake in Netflix, which would then become the online service provider for Blockbuster.com. Blockbuster wasn’t interested. Blockbuster didn’t have to buy Netflix—though it could have—to rent videos by mail. It had all the resources needed to crush a freshman firm that had revenues of only $270,000 and was a fraction of Blockbuster’s size when it went public. But by the time Blockbuster got around to renting videos by mail in 2004, it was too late.
Why did Blockbuster fail and Netflix succeed? The difference boils down to how their leaders thought about change. Blockbuster leaders were focused on growing and running today’s business: video rentals through conveniently located stores. And they were good at this. Their strategy focused on growth in new markets, increasing penetration in existing ones, and maximizing the number of movies rented. In 2003 Blockbuster had a 45 percent market share and was three times the size of its closest competitor. In 2004, as Netflix was becoming an even bigger threat, Blockbuster revenues still increased 6 percent and senior executives talked proudly about “the experience of a Blockbuster store.” In addition to extracting revenues for their existing business, the company saw opportunities for expansion through acquisitions (e.g., Hollywood Video), methods for boosting rentals, and the creation of a DVD trade-in program. Their decision to enter into the mail order and online rental business was reactive and defensive, not proactive and transformational. In hindsight, we can see that they focused on winning a game that was soon to be irrelevant.
In contrast, leaders at Netflix didn’t think of themselves as being in the DVD rental business; rather, they identified their offering as an online movie service. In Hastings’s words, “I was obsessed with not getting trapped by DVDs the way AOL got trapped, the way Kodak did, the way Blockbuster did … Every business we could think of died because they were too cautious.” Even though their mail-in rentals caught on first, they’ve been focused from day one on how to be a broadband delivery company. “It was why we originally named the company Netflix, not DVD-by-mail.” The Netflix strategy emphasizes value, convenience, and selection. To deliver on these, they have been willing to cut prices and invest aggressively in new technologies ($50 million in 2006-2007 in video on demand). More important, they have been willing to cannibalize their old business to succeed in the new.
Video streaming puts Netflix revenue from DVD rentals at risk. Yet its leaders needn’t fear because they have been aggressive in moving into streaming; today more than 66 percent of Netflix subscribers use streaming, and the company has retained customers who might have otherwise moved to Hulu, HBO, or another of their many competitors. In Hastings’s view, DVD rental by mail is just one phase of the business. His goal is to have every Internet-connected device capable of streaming Netflix videos. To accomplish this, Netflix gives away the enabling software and is now on more than two hundred devices. In making this transition, Netflix is beginning to close some of its fifty-eight regional mail order distribution centers. While subscription rates for online service are lower than for DVD rentals, Netflix is beginning to save some of the $700 million that it spends for mailing DVDs. In the process, it is still growing its customer base by close to 50 percent every year.
More recently, in order to attract and maintain customers, Netflix has moved into video production and in 2015 will spend $6 billion in producing hit shows like Arrested Development and Orange Is the New Black. In producing original programming, Netflix is not seeking short-term profits but playing a game for the long haul. In the words of chief content officer Ted Sarandos, Netflix wants “to become HBO faster than HBO can become Netflix.
What was it about Netflix and its leadership that helped the firm transition from DVD rentals to video streaming, while Blockbuster and its management struggled and failed? This is the puzzle that is at the heart of our book.
(c) 2016 by the Board of Trustees of the Leland Stanford Jr. University. All rights reserved. Published by Stanford University Press in hardback and digital formats. By permission of the publisher, sup.org. No reproduction is allowed without the publisher's prior permission.