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Lean Strategy

2016-02-25 11:03:41

[leanstrate]

David Collis

From the March 2016 Issue

Strategy and entrepreneurship are often viewed as polar opposites. Strategy is

seen as the pursuit of a clearly defined path one systematically identified in

advance through a carefully chosen set of activities. Entrepreneurship is seen

as the epitome of opportunism requiring ventures to pivot in new directions

continually, as information comes in and markets shift rapidly. Yet the two

desperately need each other. Strategy without entrepreneurship is central

planning. Entrepreneurship without strategy leads to chaos.

What many entrepreneurs fail to grasp is that rather than suppressing

entrepreneurial behavior, effective strategy encourages it by identifying the

bounds within which innovation and experimentation should take place. But

executives who want their established firms to be more entrepreneurial often

don t fully appreciate how stage-gate processes, multiple-horizon planning, and

other corporate tools for managing strategic growth initiatives can undermine

innovation.

The reality is, integrating the bottom-up approach of lean start-ups with the

top-down orientation of strategic management remains devilishly hard. Is there

a way to get the best of both worlds?

Yes. The solution is something I call a lean strategy process, which guards

against the extremes of both rigid planning and unrestrained experimentation.

It emerged from the more than 20 years I ve spent studying and working with

entrepreneurial ventures and large companies. In this framework, strategy

provides overall direction and alignment. It serves as both a screen that novel

ideas must pass and a yardstick for evaluating the success of experiments with

them. Strategy allows indeed, encourages frontline employees to be creative,

while ensuring that they remain on the same page with the rest of the

organization and pursue only worthwhile opportunities.

The Entrepreneur s Challenge

Howard H. Stevenson of Harvard Business School defines entrepreneurship as the

pursuit of opportunity without regard to resources currently controlled. This

highlights the fundamental challenge confronting entrepreneurs: They all suffer

from a shortage of money, talent, intellectual property, access to

distribution, and so on. While acquiring additional external resources is

partly the answer, the internal challenge is to wisely shepherd, conserve, and

deploy the resources the venture does possess. That is exactly what strategy is

all about. Indeed, the single best piece of advice for any company builder is

this: Know what not to do. Strategy helps you figure that out.

Much more so than leaders of established firms, entrepreneurs need to recognize

these fundamental principles:

The opportunity cost of doing A is that you cannot also do B.

In a resource-constrained venture, choices are mutually exclusive. If you

allocate two software engineers to customize a product for a new customer, you

will delay the release of version 2.0 of the product by three months. No amount

of experimentation will get around this problem.

The single best piece of advice for entrepreneurs is this: Know what not to do.

Every choice creates a unique path with a different outcome and unforeseen

implications.

This is why you cannot simply do A now and B later because circumstances will

almost certainly have changed. Competitors will have launched their own version

2.0. Key suppliers will have signed contracts that commit all their capacity to

others. Potential customers judgments about the service will already be

clouded by their experience with a competitor s version. The employee who would

have been instrumental in pursuing B will have left the company. Every choice

is an irrevocable rejection of something else.

Decisions are interdependent.

If John in marketing does A, it has ramifications for Peter in product

development, and vice versa. Any venture needs to ensure that the scarcest

resource people s time is spent on the tasks that are critical to the

organization as a whole, not just to one department. In an established firm,

operating units are subject to many organizational constraints: the brand s

positioning, a shared sales force, and so on. Those constraints help ensure

consistency among initiatives and innovations. A new venture, however, lacks

organizational parameters; the world is its oyster. This makes it even more

important for entrepreneurs to set boundaries.

Simple market tests aren t always useful.

The lean start-up camp celebrates agility and adaptation through rapid testing.

That may be an effective way to innovate incrementally and fine-tune an

offering s fit with the market, but some ideas simply cannot be evaluated in a

series of quick, cheap experiments. Though few concepts require all-or-nothing

investments, as the launch of Federal Express did, many do entail substantial

up-front expenditures. Innovations that bring to market truly novel products

and services, like steel minimills and electric cars, often involve building

complete ecosystems and require long-term investments.

While adoption rates are accelerating (Facebook achieved 100 million users in

just over four years, WhatsApp in two years), some businesses will mature more

slowly. Customers may need time to appreciate the value of a new product, or

suppliers may need to work down a cost or experience curve to deliver at a

reasonable price. Businesses such as accountable care organizations in health

care and Tesla s lithium ion batteries would never have gotten off the ground

had they been expected to demonstrate immediate success.

What s more, quick A/B tests that capture customer preferences may fail to

account for various alternatives longer-run impact on brand reputation and

purchasing behavior. Such tests also focus too heavily on initial usage.

Sometimes immediate traction with target customers is ephemeral: Users tire of

the novelty or like Groupon s customers find that repeated use is uneconomical.

This is one reason that consumer-packaged-goods firms are careful to

distinguish trial from repeated use.

How Strategy Can Help

In a world governed by the principles discussed here, a strategy that

articulates the firm s overall direction is indispensable. It helps

entrepreneurs do four things:

Choose a viable opportunity.

Rigorous strategic analysis can distinguish markets that promise enduring

success from those that offer only the illusion of substantial, if immediate,

returns. Many a new firm has failed because it pursued the latter. The

archetypal example is a business with low barriers to entry. Consider Groupon

again. Its innovative model of online coupons for local retailers and service

providers quickly generated sales. Unfortunately, anyone and her mother could

also launch such a site and did. Demand for the service proved transitory, and

no one has made any money in the business.

Yes, an entrepreneur can make a quick killing by starting such a business and

then selling it to a strategic (or foolish) buyer. A classic example is

Minnetonka. It brought to market a series of innovations from Softsoap to the

pump dispenser for toothpaste that had no protection from copycats. Yet as the

first mover, the company could grow rapidly before selling out to established

firms: Colgate-Palmolive bought its soft-soap business, and Unilever bought the

other product lines. However, this business model still reflects a strategic

choice: Knowing that the business cannot be sustainable, the entrepreneur does

everything possible to minimize long-term commitments and maximize the gross

margin and sales while looking for the exit.

Another misstep is entering a large and growing market without analyzing

whether the firm will be able to build a sustainable competitive advantage in

it. Best Buy, Mattel s line of Barbie dolls, eBay, and a slew of others entered

China thinking that anyone could make money there only to fail. It may be much

wiser to pursue several smaller, less risky opportunities that together could

create a successful long-term business.

An initial strategic screen can save a venture from going down the wrong path:

one that might be readily validated by a market test of a minimum viable

product but is unlikely to support a long-term business. At Eleet, a start-up

based in Providence, Rhode Island, the founders (one of whom is my son)

initially developed eight possible B2B and B2C use cases for their concept,

providing chauffeurs to drive you in your own car. For a few hundred thousand

dollars, the team could have rapidly tested some of those use cases. But before

trying out even one, the founders analyzed the target markets and recognized

that a B2B version would be the most sustainable. As a result, they set aside

the B2C use cases and instead ran tests that demonstrated the existence of

high-volume B2B users, firms that would provide the service to their employees

in lieu of limousine service. They re now in the early stages of trying to

build that business. (Full disclosure: I ve advised, invested in, or served as

a board director for Eleet and several other companies mentioned in this

article.)

Stay focused on the prize.

Ventures that lack strategic bounds try to do too much and spread themselves

too thin. Because they fail to concentrate their available resources, they can

t win in any key market.

Sophia Amoruso, founder of Nasty Gal, initially succeeded in building a

business that resold vintage clothing on eBay. Then she diversified into a

variety of new activities: selling brand-name designer clothing; a magazine; an

autobiography (#GirlBoss) and promotional book tour; retail stores;

international websites; and branded products such as shoes, swimwear, lingerie,

and home goods. Seduced by an overabundance of opportunities, she threw a lot

of ideas against the wall to see what would stick. But with no clear focus,

employees stumbled over one another, competing for resources including Amoruso

s attention and growth stalled. She stepped down as CEO in January 2015.

In a similar manner, new ventures driven by the need to generate cash to meet

payroll often respond to every sales inquiry, even when the customer is not in

the target set. In its start-up phase, Picis, a health-care information-systems

company, was pursuing two markets, operating rooms and intensive care units,

winning orders in both. But in both markets the firm was struggling to get

traction. After it decided to concentrate on operating rooms (and made a

related acquisition), it was able to gain share and build a viable position.

Align the entire organization.

In tiny start-ups, it may be possible to coordinate activities through daily

personal interaction. In larger ventures, project management or a bureaucracy

can help somewhat with this, but only a strategy allows a leader to empower all

employees while avoiding duplicative efforts and the pursuit of conflicting

agendas. A clearly articulated strategy can ensure that every aspect of an

organization the type of personnel hired, the compensation system and reward

metrics employed, the IT system installed, and so on is designed to support its

distinctive value proposition.

A clarified strategy prevented staff members at Muzzy Lane Software, an

educational gaming company, from continuing to pursue work-for-hire that

produced one-off games. This had been an important source of funding: A single

contract could cover the company s cash burn for several months. But the firm

realized that its real focus should be on educational publishers, and having

built a core software platform on which such firms could develop their own

content, it needed to improve the suite of authoring tools. Diverting

developers to customize a game would slow down that critical activity. The

staff was actively discouraged from seeking such projects.

Make the necessary commitments.

After deciding which opportunities to pursue, firms must make the investments

needed for success. Obviously, testing should be done to minimize risk and

maximize the value of each one. But, as discussed earlier, every so often an

investment, like building a hospital in a new district, has to be made without

a guarantee of return or the ability to be tested in phases. In those cases, it

s critical to conduct a careful analysis before proceeding. And, of course,

the investment must be a strategic fit.

Combining Deliberate and Emergent Strategy

If strategy is to address the entrepreneur s challenge, it must also embrace

entrepreneurial techniques. Entrepreneurship empowered local experimentation

allows a firm to explore the right innovations and continually refine them to

better fit the market. It s necessary no matter what a firm s size or industry

is. Here s how to incorporate it effectively into strategic approaches:

Vision.

The lean strategy process begins with perhaps the only aspect of the strategy

that should in any sense be permanent: the organization s vision or ultimate

purpose the reason for its existence. A vision should be compelling and

motivational. It may also be aspirational and possibly even unachievable.

Microsoft s original vision, for example, was to place a personal computer on

every desk. Under its founders, Ben & Jerry s strove to make the world s best

ice cream, to pursue progressive social change, and to provide fair

compensation to employees and shareholders alike.

Deliberate strategy.

To deliver on the entrepreneurial vision, a deliberate strategy should be

agreed upon by senior executives. It should be crafted with involvement

throughout the organization, from a rigorous evaluation of the firm s current

strengths and weaknesses, internal resources and capabilities, and external

opportunities and threats. The deliberate strategy will identify the broad

market position where the firm can use its unique capabilities to satisfy

customer needs in a way that no competitor can.

In my view, the three underlying elements of a strategy are objective, scope,

and competitive advantage. (Though I won t go into the details here, you can

find them in my April 2008 HBR article with Michael Rukstad, Can You Say What

Your Strategy Is? ) Let s look briefly at how those three concepts apply to new

ventures.

Objective.

This is an articulation of the near-term goal that defines success in the eye

of the venture s leader. If her objective is to go public within three years,

that will have implications very different from those of building a sustainable

business she ll still control five years out, or of selling to a strategic

buyer once the business is established. For each objective, the strategy must

also establish the metrics that will maximize the firm s market value when

achieved. With an IPO, for instance, the metrics might include X million new

customers, a Y% share of online retail, version 3.0 installed at Z key

customers, and so on.

R1603E_COLLIS_LEANSTRATEGY.png

Probably the most critical strategic guide rail, scope identifies what

business we are in and draws boundaries around what the venture will and will

not do. Southwest, for instance, developed its original low-cost-airline

strategy within a clearly defined domain. It decided not to compete

head-to-head with the majors in big airports or on routes with flight times

over a couple of hours. Instead, Southwest concentrated on building a dominant

network of short-haul flights between second-tier airports. And since another

premise of the strategy was that low prices had to be simple and transparent,

the airline devoted no efforts to complex yield-management initiatives that

would have allowed Southwest to wring the maximum fares from passengers.

Competitive advantage.

Any venture needs clarity about how it will win why customers will buy its

products rather than those of competitors. That advantage should help the

company satisfy an underlying customer need and, ideally, address an immediate

customer pain point. It can be captured in a summary of features that are

superior to those of competitors, which may also acknowledge, if not even

celebrate, those aspects of the product or service that will underperform. This

distinctive value proposition should align the firm s activities and shape

future experiments.

One of Southwest s key advantages, for example, was rapid turnaround time,

which helped it maximize its use of assets and keep prices low. The airline

chose not to provide meals, because doing so would have increased costs and

turnaround times. When passengers complained, customer service personnel merely

responded with polite letters explaining that adding meal service would raise

fares.

Emergent strategy.

In implementing the strategy, managers at all levels in the organization make

myriad decisions every day. The sum of all these independent choices gradually

alters the company s position and determines the exact form the strategy takes

over time. This is the emergent dimension of strategy.

Many frontline decisions, like daily flight departure times at Southwest, are

routinized and require little or no thought. Some, like whether to hold a plane

at the gate to accommodate delayed connecting passengers, require judgment and

should be informed by the company s strategy. And some are conscious variations

that seek to improve an existing product or practice. One incremental

innovation suggested by Southwest employees, Business Select, gave passengers a

free drink and early boarding for a small premium. Because it would not

interfere with fast gate turns, the airline introduced it.

It is here that the notion of strategy as a filter looms large. In considering

what experiments to undertake, people throughout an organization develop and

test hypotheses about how to improve the strategic positioning by identifying

current mismatches, gaps, or opportunities in the offering s fit with the

market. Thus entrepreneurial activity in the lower levels of the organization

is not random. For instance, rather than developing complex yield-management

software algorithms, as other airlines did, Southwest s IT group focused on

innovations in customer self-service that could be delivered on low-cost,

personal-computer-based systems. Similarly, frontline personnel came up with

Southwest s boarding procedures (the unique numbered stands for boarding at a

Southwest gate), which contributed to the carrier s rapid turnaround time.

A firm evolves as the result of incremental choices made every day.

Once an innovation is introduced, the strategic screen again comes into play.

The venture now has to evaluate the outcome of the experiment and decide

whether to end, continue, or amend it (a decision that will have lasting

repercussions). Without a broader orientation, wrong conclusions can be drawn

from results. During the Battle of Britain, for instance, after-action reports

built a picture of where damage had been inflicted by the Nazis on Spitfires

returning to base. This was used to identify the areas on the planes that

needed to be reinforced that is, until a bright spark pointed out that they

were not the areas that were most vulnerable. In all likelihood, the areas

where there was no damage on returning planes were most problematic, since hits

there meant planes never came back.

Strategy provides a framework for interpreting market feedback. It is only with

a clear strategic perspective that organizations effectively learn from

experiments. If the outcome of the innovation is simply a no-go decision, all

the information and skills that were developed through it will be lost. But if

the firm carefully digs down into where things went right or wrong which

hypotheses were validated or disproved it can amend the strategy wisely.

Instagram s original strategy was to develop a private mobile phone app, Burbn,

that enabled friends to check in to locations, make plans (future check-ins),

earn points for hanging out with friends, post pictures, and much more. When

users reacted negatively to an app that could do all those things, the baby was

not thrown out with the bathwater. Instead, the founders decided to focus on

being really good at one thing. Noticing that users posted a lot of pictures,

they spent eight weeks developing a better photo-sharing app and doing a beta

test. The rest, as they say, is history.

In response to environmental changes and the findings of experiments, the

venture builds new internal capabilities and, if necessary, revises the

original deliberate strategy. Then the process begins all over again. It is

therefore true that the firm evolves as a result of the incremental choices

made every day. However, this does not imply that the strategy emerges only

after the fact. Rather, at every point in time there has to be clear agreement

on the constraints imposed by the current strategy, even if that strategy does

shift.

Nuventive, an ed-tech company, had a suite of products for assessing and

improving institutional and student performance. But with limited revenue, it

had to choose to invest in a focused way. As it turned out, the company s focus

would change over the years as market opportunities waxed and waned, and the

relative attractiveness of product lines shifted. Nevertheless, at each point

in time, the strategy made clear to everyone in the firm which products had

priority and which innovative ideas would have first dibs on scarce resources

(the software developers). The other products were just provided enough support

to keep them viable. Nuventive was, therefore, flexible enough to adjust to the

changing marketplace but strategic enough to deliver against the best

opportunity.

Strategy matters even more to entrepreneurs than to established businesses. Yet

lean methods for innovation also have a lot of value. The two are not in

conflict; rather their reconciliation in the lean strategy process holds out

hope for entrepreneurs in organizations of all sizes to become agile, effective

innovators.

Any resource-constrained organization needs a strategy that defines boundaries.

Clarifying what is in and what is out of bounds ensures that experimentation is

not rampant and is encouraged within those parameters. It helps firms identify

the long-term attractiveness of possible business models or market spaces

before testing their feasibility. By combining strategy and experimentation in

such a fashion, all firms can greatly increase the odds of achieving lasting

success.

A version of this article appeared in the March 2016 issue (pp.62 68) of

Harvard Business Review.

David Collis is the Thomas Henry Carroll Ford Foundation Adjunct Professor of

Business Administration at Harvard Business School.