When we run strategy workshops with clients, we usually start with a discussion of the momentum of the business. Borrowing from the concept of momentum in physics, this is our attempt to capture the trajectory of the business – where it is likely headed in the absence of any change in strategy?
This foundation is critical as it is the honest starting point for any refresh of strategy. But it is amazing how often it is ignored or overlooked as clients personalize success, focus on internal goals and inadvertently assume that the future will continue to look like the past.
A story from one of our clients illustrates the point. The company was a highly successful supplier of a technical sub-system that was critical to the performance of an automobile engine, impacting both efficiency (fuel economy) and emissions. They were a European company and had a near-dominant position on diesel drivetrains for Europeans OEMs. The business was successful and had grown rapidly while maintaining high profit margins (not an easy trick selling into the automotive market).
The reasons for this success were four-fold: first, the European car parc was growing; second, the percentage of new cars sold that had diesel engines was growing, driven by regulations and tax incentives in many European countries; third, the penetration of their subsystem within diesel drivetrains was growing as it dramatically improved drivability and fourth, they had a patented innovation that made their technology particularly well-suited for diesel engines.
While many at the company were aware of these market forces, they were not reflected in their long-term plans. Like many companies, their financial projections were based on improving prior year performance – “we will continue to grow at a similar rate and continue to expand margins,” as any attempt to suggest that this might not be possible was dismissed as ‘sandbagging.’ Worse yet, the company let these financial goals guide strategic decisions, most impactfully underinvesting in technologies for gasoline drivetrains where their proprietary technology was less applicable and hence their margins were lower (meaning that winning more gasoline programs ‘diluted’ margins, even if they represented incremental revenue).
The outcome was almost inevitable – no trend stays a straight line forever and market forces are no different. In this case, new car sales declined during an economic downturn; the shift toward diesel actually reversed as regulations emphasized emissions not efficiency which favored gasoline; the penetration of their technology slowed as it approached one hundred percent of diesel vehicles and their technical advantage was all but eliminated when a key patent expired.
All of this was predictable, but none of it was anticipated until it was too late. When revenue and margins started to fall, the company turned to gasoline engines (where the penetration of their technology was still increasing) as a source of growth, but found themselves at a significant disadvantage, as their systematic underinvestment in gasoline products had left them with a performance gap versus competition. Despite lots of effort, the company was unable to reverse what had become almost a free-fall and finally turned to bankruptcy reorganization as the only way out.
What this long cautionary tale highlights is the importance of objectively assessing the momentum of your business and incorporating that perspective into your strategic planning. Getting this right requires a commitment to:
- Keep asking “why?” to get to the root causes of performance, especially when things are going well – be very cautious of superficial explanations like “the people who run that division are geniuses” or “customers just love our service.” These perspectives may be at least partially true, but they are rarely the root causes.
- Incorporate external factors into your assessment of performance – not just are we making our numbers, but are we growing faster than the market? If we are on a different growth path than the market, is it because of the segments we play in or are we gaining share within those segments?
- Accept that market trends will not last forever; make sure you understand the underlying drivers (regulation, commodity prices, technology penetration) not just some ‘expert’s’ projection (that ‘plastics are the future’ or ‘everyone knows oil prices can only go up’).
- Start the strategy process outside of the budget negotiation and target-setting process, if possible, using an internal group that does not have a stake in negotiating lower performance targets to give make them more achievable.
A humble look at any accomplishment forces one to acknowledge the role of luck. We may have had brilliant engineers and great insight into customer needs, but we also had to be in the right place at the right time. We have said elsewhere that asking why we are doing well while we are still doing well is one of the hardest things to do in business. But forcing yourself to develop an objective understanding of the momentum of the business and its root causes is a foundational element in building a strategy that can ultimately change that momentum.
Image © The Estorick Collection