If you run a midsize business, you may be familiar with that anxious sense of being left behind. At every turn, someone is exhorting—no, admonishing—you to jump onto the latest strategic bandwagon before it's too late. "Create new market space," you are told—if you haven't already missed this "fleeting opportunity." Don't forget to "time-pace your initiatives" and, while you're at it, "map your strategy."
Although these concepts have their place, it isn't in the numerous midsize manufacturing companies we have run or advised. All too often, such novel approaches do nothing more than distract managers from the job at hand: getting the most out of their existing businesses. Even if it's not the latest management fad, per se, that takes people's eyes off the ball, it's the bold moves that such strategic nostrums often imply: the pursuit of the big acquisition or the huge new market opportunity. Recall your last off-site management meeting. The topic was undoubtedly something like, What new business should we be in?—not, What can we make of the business we're in right now?
But midsize companies can create tremendous value—in fact, growth rates of 15 percent to 20 percent per year, over the short term—by focusing on the untapped potential of seemingly mature businesses. Such an approach not only offers tremendous possible payback but also poses few of the risks associated with pursuing chancy acquisitions, untested ventures, or radical new strategies. While most of our experience has been with manufacturing companies, our method for setting strategic priorities can be useful to other midsize businesses, including those in service industries. That's because whatever the industry, most companies with revenue of less than, say, $750 million, don't have the financial or human resources to do everything at once.
| Operational excellence at the business-unit level is fundamental to our prescription for success. |
| — James E. Ashton, Frank X. Cook Jr., and Paul Schmitz |
Take the case of Fiberite, which made advanced composite materials for military and commercial airplanes, among other things. For the two years during the mid-1990s that one of us, Jim Ashton, was the CEO of the Tempe, Arizona-based company, its value increased threefold. And the value of the investment made by the owner, DLJ Merchant Banking Partners, increased eightfold. DLJ had purchased Fiberite in 1995 for $115 million, contributing $35 million in equity and borrowing the rest. In 1997, having tightly managed capital expenditures and making only one small acquisition, DLJ sold Fiberite to rival Cytec for $360 million, a net gain of $240 million after paying back the loan principal and interest. (During this period, Paul Schmitz headed two Fiberite divisions and Frank Cook served as a consultant to the company.) This wasn't a turnaround situation; Fiberite was a healthy business with EBITDA—earnings before interest, taxes, depreciation, and amortization—of 10 percent on sales of $207 million. But the company's incumbent management, with ambitious plans for the introduction of new products and the tapping of new markets, had ignored the tremendous unrealized value in what it already had. This oversight had occurred in part because, like so many companies, Fiberite didn't really understand what had made it successful in the first place.
The strategic pathway
Our experience at Fiberite only reinforced our long-held belief in the importance of establishing a disciplined sequence of strategic priorities. It also highlighted how few managers are conscious of the right sequence. So we have formalized the process in a simple and logical "strategic pathway," one that can drive strategy development at most midsize companies. While it acknowledges the potential of new products and markets, it dictates that going after them should not be the first priority.
The pathway has four stages. First, protect your existing business. After that, penetrate further into existing market segments with existing products or upgrades. Then, extend the business by creating new products for existing segments or by entering new segments with existing products. Finally, diversify into new markets with new products.
This sequence of priorities is not new; it has its roots in turnaround management, where protecting the core business is a matter of survival. It also has been used, for the same reason, in leveraged buyout situations. But formalizing the sequence helps focus people's attention and thereby helps the company resist the siren call of new products and markets. We'll look in greatest detail at the first step because companies invariably try to leapfrog over it.
Let us offer here two general observations about the strategic pathway process. First, you should focus on what's going on in the business units. Corporate strategy can guide acquisitions, divestitures, and market and product development efforts outside the scope of individual business units. But the importance of corporate strategy is often overrated. Even GE, during its successful run over the past two decades, based its success more on initiatives such as Six Sigma and "Be number one or number two in an industry or get out" than on any overriding corporate strategy. In fact, we would argue that the important strategic work to be done at most companies is at the business-unit level. Certainly, it is here that you go about protecting your existing business.
That's because—and this is our second general point—operational excellence at the business-unit level is fundamental to our prescription for success. What? Operational excellence? During the past twenty years, haven't U.S. companies achieved this, or at least come pretty darn close?
| The importance of corporate strategy is often overrated. |
| — James E. Ashton, Frank X. Cook Jr., and Paul Schmitz |
Well, that hasn't been our experience. While many companies may have improved their operational performance in certain areas—for example, product quality and reliability—most still have a long way to go. Continuing this improvement in other areas that contribute to customer satisfaction—such as customized design, improved lead time, and comprehensive technical support—can give them a tremendous competitive advantage. If a company's existing business doesn't have a firm foundation of operational excellence, any initiatives to protect that business, to further penetrate existing markets, and to extend and diversify the business are likely to prove mediocre at best and disastrous at worst.
Time and again, we have seen companies that hadn't achieved the operational excellence needed to allow their existing businesses to hum along without undivided management attention. Consequently, when the companies started venturing into new areas, their core generators of revenue began to sputter.
Consider the German maker of aluminum tubing for automobile radiators that sought to develop new markets for its product. One was the embryonic market for structural aluminum tubing as an alternative to steel beams in car structures; another was the potential market for radiator-like tubing in wall-mounted air conditioners. But because the company couldn't do everything at once, the core business grew increasingly vulnerable while the company explored new market opportunities. Competitors cherry-picked customers unhappy with the company's delivery record. Big automakers, unhappy with the company's performance and pricing, began to buy tube mills to bring production in-house. The company began a dangerous slide.
Or take the case of a U.S. construction services company whose core business was the rental, erection, and dismantling of scaffolds at industrial plants—petroleum refineries and petrochemical facilities, for the most part. The company was the clear market leader, with a share five times that of its closest rival. With that share slipping, though, the company began to plot an ambitious growth strategy that would take it into new markets, such as special-events scaffolding, and new businesses, such as providing union carpenters on a temporary basis to industrial customers. The risk of this approach: the decline in the company's core refinery and petrochemical-plant business would accelerate as rivals exploited the operational shortcomings already dragging down its market share.
The Monthly Operational Review
We have found that as a business moves along the strategic pathway, monthly operations reviews are key to keeping things on track. What do we mean by this?
Let's talk about format before we talk about value. The operations review typically will be a half- or full-day meeting, depending on the company's size and how experienced you are at conducting such reviews. The meeting, run by the company or division president or general manager, is in a show-and-tell, peer-review format. All the leader's staff members, and sometimes their reports as well, attend each review. All company employees and customers are welcome.
Each manager of a business unit, function, or large project presents what that group did to meet the commitments it made at the previous month's meeting. The managers present operating, not financial, data; this isn't a budget review. Where corrective action is required, they describe the intended action, name the person responsible, and commit to a completion or milestone date.
These needn't be formal affairs: although presentations should be projected so that everyone can see them, fancy charts are not required; in fact, hand-drawn charts are acceptable. That's because the emphasis is on thinking, not on fixed conclusions. The president or GM poses questions, but in a nonthreatening and generally nondirective manner. Participants are expected to be candid about their failures as well as their successes. The only penalty is for dissembling, in which case the president or GM expresses disapproval in a strong but nondemeaning way.
Now for value: at its most basic, the reviews are forums in which people commit to doing something and later report whether or not they have been able to do it. While business-unit managers are free to discuss issues with the president or GM between review meetings, these monthly updates usually suffice.
The review also ensures direct communication to and from the president or GM on a regular basis. In any organization, people consciously or unconsciously filter communication in both upward and downward directions. In the operations reviews, the president or GM can have regular access to people at all levels in the organization and vice versa. Since all functions, business units, and major projects are represented at the reviews, a greater degree of teamwork is possible than might otherwise be. You'd be surprised how often we hear the following comment from people after they have attended their first review: "I never knew what they did in that group. Now that I know, I have some ideas about how I can help them."