How To Tell A Flyer From A Failure

How to tell a flyer from a failure How to tell a flyer from a failure How to tell a flyer from a failure
How to tell a flyer from a failure

W. Chan Kim W. Chan Kim W. Chan Kim W. Chan Kim and Ren!e Mauborgne Ren!e Mauborgne Ren!e Mauborgne Ren!e Mauborgne

NEW BUSINESS IDEAS: PART I

In the first of a three In the first of a three In the first of a three In the first of a three- -- -part series on new business ideas, part series on new business ideas, part series on new business ideas, part series on new business ideas, W. Chan Kim and Ren!e
Mauborgne reveal how investors can avoid innovations that are destined to reveal how investors can avoid innovations that are destined to reveal how investors can avoid innovations that are destined to reveal how investors can avoid innovations that are destined to flop. flop. flop. flop.

A good idea will always find a backer. Even today, with stock markets more nervous than for a
decade, money is not a scarce commodity. US companies received nearly $50bn in venture
capital funding last year, 25 times as much as in 1990. The amount of money raised in initial
offerings in 1999, nearly $70bn, was about 15 times the amount raised in 1990.
The rare commodity now, as ever, is the understanding that makes it possible to spot winning
ideas.
Clearly, small companies and their investors have made plenty of mistakes. Since the end of last
year, about 250 dotcoms have sacked more than 40,000 employees. More than 40 dotcoms
have given up altogether, including companies once touted as the stars of tomorrow. Remember
Boo.com, the European fashion site; Boxman, the European compact disc retailer; Eve.com, the
US online beauty products company; and Pets.com, the US online pet company? Today, the
stock of 90 per cent of dotcoms is trading below the offer price. On Nasdaq, 100 new dotcoms
have stock prices below the $1 threshold needed to maintain a listing.
B2C and B2B used to mean "business-to-consumer" and "business- to-business". Closer to the
truth today for those high-flying MBAs who left jobs in the old economy to join dotcoms is "back-
to-consulting" and "back-to-banking".
However, big business also finds it hard to back the right innovative ideas. Motorola, a
formidable company, spent billions of dollars on Iridium, a satellite communications system,
which went bust in 1998. Philips, the Dutch electronics group, devoted its world-class research
staff and billions of dollars on CD-i, a video machine, music system, game player and teaching
tool all wrapped into one. It flopped - even though the company bet on its being the biggest thing
since the VCR. When Monsanto backed genetically modified seeds, it cost billions of dollars,
tarnished its corporate image and saw the departure of Bob Shapiro, its chief executive.
Are such failures an inevitable part of launching an innovative business idea? Or can ideas be
sifted systematically to distinguish those with commercial appeal from those destined to fail?
We have spent 10 years exploring these questions, studying more than 200 successes and
failures to assess what predicts the fate of new business ideas.*
The common view is that innovation and new business creation are a random process in which
high odds of failure are an inevitable adjunct to the huge rewards of success. However, our
research has revealed four underlying sets of economic conditions that successful ideas have in
common. Collectively, they make up what we call the Winning Business Idea Index, a way for
companies to assess whether they are building the next AOL or another Boo.com:

Buyer utility: is there a compelling reason for customers to buy a new product or
service?
Strategic pricing: how can a company price its new product or service to attract the mass
of buyers?
Business model: how can a company profitably deliver the new idea? Are its costs,
capabilities and pricing appropriate to the task?
Adoption hurdles: are there reasons why an idea may not be accepted by employees,
partners, or society - as Monsanto's seeds were not?

In a series of three articles, we will explain these underlying economic conditions and how
companies, venture capitalists and entrepreneurs can use them to pick winners and salvage
ideas that are drifting into trouble. This article looks at buyer utility and describes a simple tool
for assessing it.
Assessing buyer utility may seem self-evident. Yet many companies forget to ask even the most
rudimentary questions because they are obsessed by the novelty of their product or service -
especially if new technology plays a part in it. Unfortunately, buyer utility and technical advance
are not the same. Indeed, most failures score highly on technical wizardry.
Such ideas fail to make buyers' lives simpler, more convenient, more productive, more fun or
less risky. Consider Philips' CD-i, an engineering marvel that failed to offer consumers a
compelling reason to buy it. This was promoted as "the Imagination Machine" because of its
diverse functions. Yet the CD-i player did so many different tasks that customers could not
understand how to use it. In addition, it lacked attractive software titles. So while the CD-i could
theoretically do almost anything, in reality it could do very little. Customers lacked a compelling
reason to use it and sales never took off.
To grasp whether a new idea creates exceptional utility, the starting point is to understand the
"buyer experience cycle" (see chart). This shows the range of activities customers experience
when they use a product or service, from its purchase to its disposal.
There are six "utility levers" that a company can apply to each of the activities in the cycle:

Customer productivity - Dyson's leap in suction power made vacuum cleaning quicker
and easier.
Simplicity - Intuit's Quicken software eliminated accounting jargon from personal financial
accounting.
Convenience - Virgin's business class door-to-airport-to-door limousine service helped
ease the hassle of air travel.
Risk - Enron's commodity swaps and futures contracts stripped the volatility out of gas
prices.
Fun and image - Starbucks' chic coffee bars are much more than a place to buy a hot
drink.
Environmental friendliness - Philips' Alto light bulb used less mercury than earlier
designs. This allowed fluorescent office lamps to be easily disposed of, eliminating the
cost of using special dumping sites.

The question is whether the new product or service pulls one or more of the levers. The beauty
is that you can obtain an answer today even though what you want to create are the markets of
tomorrow. Whether your customers are steel mills, investment banks, developing-country
government agencies or cyber-kids, the questions and method behind the business experience
cycle are the same. If exceptional utility is being created, companies should be able to pinpoint
where and how.
In the same way, companies should be able to see when an idea falls short - as Iridium clearly
does, despite being an engineering marvel. The phone was large and weighed about a pound
(inconvenient use); it came with a bag of clunky, confusing attachments (complex and
inconvenient supplements); it could not be used in cars or buildings, where most business
people use cell phones (counterproductive usage). Across the buyer experience cycle, the
"utility levers" of convenience, simplicity and customer productivity would have highlighted how
the product, its use, and its supplements all needed to be improved.
Having assessed your idea's utility, you may have convinced yourself that you have a success
on your hands. But that is not enough: you also have to convince others. So you should ask
managers to sell the new product or service to you - not in an elaborate two-hour presentation
but in 10 minutes with 15 minutes of questions and answers. That is about all the time
companies have to capture a customer's interest. So force this discipline on new business ideas
- and make people use simple words that any customer can understand. If people say the time is
too short, it could be that your engineering marvel is a solution looking for a problem, not the
other way round.
Ask yourself these questions:

Does your idea offer customers a compelling utility proposition?
Across what activities of the Buyer Experience Cycle does it offer a leap in utility?
What "utility levers" are you pulling, not just to create customers but to create
enthusiasts?

Wednesday:
Establishing strategic pricing and a business model Establishing strategic pricing and a business model Establishing strategic pricing and a business model Establishing strategic pricing and a business model

* Knowing A Winning Business Idea When You See One, Harvard Business Review,
September-October, 2000

Rene Mauborgne is The INSEAD Distinguished Fellow
and Affiliate Professor of Strategy and Management at
INSEAD. She is also President of ITM Research.
W. Chan Kim is The Boston Consulting Group Bruce
D. Henderson Chair Professor of International
Management at INSEAD, France.

Copyright (c) The Financial Times Limited Copyright (c) The Financial Times Limited Copyright (c) The Financial Times Limited Copyright (c) The Financial Times Limited.

Now name a price that's hard to refuse Now name a price that's hard to refuse Now name a price that's hard to refuse Now name a price that's hard to refuse


NEW BUSINESS IDEAS: PART II

A desirable product is not enough to bring the customers flocking. But nor do customers
guarantee a healthy profit, say W. Chan Kim and Rene Mauborgne .

If there is one lesson to emerge from the plunging prices of technology shares over the past few
months, it is that companies must make money. By that measure many dotcoms look
inadequate: the worst did not even have a serious notion of how to make profits at any point in
the near future. Advertising revenues were supposed to be many companies' main source of
revenue - but they are falling as other start-ups, alarmed at the way they are consuming capital,
are cutting their "burn rates" to stay afloat.
It is not easy to build an innovative business. As discussed yesterday, buyer utility - the
existence of a compelling reason for consumers to buy the product or service - is an essential
ingredient. But utility alone does not guarantee an innovation's success. Companies must also
set a strategic price to induce the mass of buyers to purchase their product and they must build
a business model that can deliver the product at a healthy profit.
Our research over the past 10 years* has revealed that successful innovative businesses set a
strategic price and build their business model in different ways from traditional businesses. This
is true whether they are dotcoms, such as America Online, or bricks-and-mortar companies,
such as Starbucks, Home Depot and Dyson.
First consider strategic pricing. The aim is to set a price that creates demand and wins
customers not just from within an industry as it is currently defined but from across industries as
well. To do this, successful companies disregard the norms established by their competitors in
an industry and instead look to the price of alternatives and substitutes.
From the sellers' point of view, software for managing personal finances and the pencil used to
tot up a balance in a cheque book may not compete. But from the customer's point of view they
are alternatives. Understanding how alternatives are priced and used is vital for winning
customers.
The relevant questions are: what products and services are alternatives to the product or service
a company intends to launch? What is their price and how many customers do they win?
Consider, for example, air travel for corporate executives. There are two main alternatives: one
is business- and first-class tickets, priced at several thousand pounds, which account for the
mass of corporate executive travel; the other is corporate jets, which cost tens of millions of
pounds and capture minuscule market share.
Executive Jet, a subsidiary of Berkshire Hathaway, came up with a breakthrough pricingmodel:
instead of selling jets, it sold shares of time in using a jet. This allowed it to price jets per year at
roughly the amount a company would spend on business- and first-class tickets. It won orders
both from business-class customers and from executives who preferred a relatively cheap time-
share in Executive Jet to full ownership of a Gulfstream or Learjet that would spend much of its
time sitting idle on the Tarmac. Executive Jet created a scenario in which companies got the
convenience of private air travel at the price of the annual business-class budget.
Our research has revealed five ways of pricing so as to hit the strategic price and make a profit.
There are the familiar approaches of direct sales and leasing or renting. A third approach is time-
share, as practised by Executive Jet. Then there is "slice-share", as in mutual funds, where
investors are sold part of a big portfolio rather than their own individual portfolio to cut costs and
deliver higher returns. Finally there is "equity for price", as practised by Hewlett-Packard, the US
computer group, which exchanges high-powered servers for a share of the customer's revenue.
The customer gets immediate access to an important piece of equipment and HP stands to earn
a lot more than the price of a machine.
Once companies have decided upon their pricing, they need to think about the business model
and, in particular, target costing. To arrive at the cost target for the business to generate a
decent profit, they should start at their strategic price and subtract the desired profit margin.
Companies have three ways to hit the cost target without compromising on price or utility.
First, they can replace familiar raw materials with unconventional, less expensive ones. Swatch,
for instance, was able to produce one of the world's lowest-cost fine watches in one of the
world's highest-cost labour markets by rethinking the materials it used. Instead of metal, it used
plastic. And instead of expensive packaging made of velvet and leather-like cardboard, Swatch
supplied a clear envelope.
Another way to hit the cost target is to eliminate, reduce and outsource high-cost, low value-
added activities in their supply chain. Again, Swatch is an example. It eliminated the screws for
closing its watches and used ultrasonic welding to seal them. It reduced the number of parts
from about 150 to 50.
Finally, companies reduce costs by digitising assets or activities. For example, customers and
suppliers of Cisco, the networking technology company, use the internet to place orders, to find
out when shipments will arrive and check payment records - there is no need to speak to a
company representative. Roughly 90 per cent of Cisco's orders are processed without ever
being touched by human hands. This not only lowers Cisco's costs but also allows its employees
to move from low-value-added activities to high-value-added customer satisfaction.
In bringing a new product or service to market, many companies mistakenly set out to do it all
alone. This slows them down and prevents them from taking advantage of other companies' lead
in cost, quality, and speed - precisely what the innovator cannot afford to see happen.
Successful innovators close the gaps in their capabilities by capability partnering - that is, they
avail themselves of others' strengths. They form and disband networks around the competences
they need to deliver their utility proposition quickly, cheaply and reliably. SAP, for instance, had
the idea of real-time business-application software. But the software group did not have the
capabilities to realise its idea. Instead of trying to build them, it sought help. Oracle, another
software company, provided its central database and consultancies such as Cap Gemini sold
and implemented SAP products.
Here are some questions to help you assess whether you are building a profitable business
model:
What price model should you use to hit the strategic price and still earn a profit?
Should you sell, rent, lease, time-share, slice-share or provide equity for payment?
What must the cost target be?
What components should be reduced, eliminated, outsourced or digitised to achieve the
target cost?
Whom should you choose as your partner to close capability gaps fast and leverage the
quality, speed, and cost advantages of other companies?

These are the parameters that distinguish innovative businesses with profitable business models
from innovative businesses that lose money.

Tomorrow:
Hurdles to adoption and the Winning Business Idea Index




Are you sure the world is ready for you? Are you sure the world is ready for you? Are you sure the world is ready for you? Are you sure the world is ready for you?

NEW BUSINESS IDEAS: PART III
Many bright ideas come to nothing because companies fail to predict the public's response, say
W. Chan Kim and Rene Mauborgne .

Monsanto thought its fortune was made. It had created genetically modified seeds - a completely
new market. The new seeds offered considerable benefits to farmers. There would be less risk
of crops failing because of disease or poor climate, a lower cost, less need to spend time
applying pesticides and a longer shelf-life for some crops. Arguably, the environment would also
benefit: with less pesticide, fewer toxic chemicals would contaminate the countryside. And lastly,
consumers might gain, especially in developing countries. With a cleaner environment, more
safe water to drink and more vitamins from some GM crops, diets and well-being would be
enhanced.
So why did Monsanto get into such trouble with GM foods that to survive it was, in effect, forced
last year to merge with Pharmacia & Upjohn, the drugs group?
The reason is that Monsanto did not understand how society would accept its innovation. The
company assumed that people would accept an idea that created utility. But the more an
innovation challenges the status quo, the greater the chances that it will encounter obstacles.
For Monsanto, the main hurdle to widespread adoption of its product was the green movement's
criticism that the company was defying the laws of nature for the sake of profit. Yet many of the
facts produced to date suggest that GM seeds could indeed improve the environment and
people's health.
Hurdles to adoption come in three kinds. Employees can feel threatened by the launch of a new
business because it promises to transfer the company's power and resources from them to
others. Partners can feel disenfranchised by a new business - as, for example, when traditional
resellers are sidestepped by a company's efforts to sell goods over the internet. And the general
public can reject a new idea, as it did with GM foods, because it is poorly understood.
To avoid Monsanto's plight, innovative new businesses need to deal with employees', partners'
and society's concerns from the outset through fair processes and education. To do this, they
must engage people in a debate on why the innovation is necessary, explain its merits and set
expectations of the innovation's ramifications and how the company will tackle them. For
Monsanto, this would have meant initiating a debate about GM seeds and explaining how they
would help eliminate pollution, disease and famine. The company would also have led people to
expect that, given their continuing reservations about GM foods, it would give consumers a
choice between organic products and GM products by means of explicit labeling.
Had Monsanto taken these steps it might have become the "Intel inside" for the food of the
future.
Companies that take the time to identify potential adoption hurdles will find it well worth the
effort. They can learn, before billions are spent, whether potential resistance to the idea is well
founded. They can find out whether they have overlooked factors that invalidate the new
business idea. And they can learn, as in the case of GM foods, whether the public lacks a clear
understanding of the new idea's utility and work out how to build an educational dialogue.
Over the past two days, we have discussed how to recognise whether you have a winning new
idea and how to assess its commercial worth. Our ideas can be summarised in what we call the
Winning Business Idea (WBI) index. As the table shows, the index scores new business ideas in
terms of the factors we have identified as critical to success:

Buyer utility economics: does the new idea offer buyers a leap in utility?
Strategic price economics: is the product or service priced so as to capture the mass of
buyers from the start?
Cost economics: what is the target cost the company needs if it is to charge its strategic
price and earn a decent profit? Has the target cost been met?
Capability economics: have the company's shortcomings been offset by the strengths of
the right partners?

Together, cost and capability make up the company's business model.

Adoption economics: have the obstacles to adoption been identified and dealt with in
advance by means of a fair process with employees, partners and the general public?

The first two factors determine a new idea's potential to generate sales and win over
enthusiastic customers. They allow companies to earn their brand's status, rather than buy it
with extravagant advertising. Bloomberg, Amazon.com, eBay, Enron and Wal-Mart became
champions in their customers' eyes thanks to exceptional utility and price, not exceptional
advertising. To build a strong profit engine, however, companies must also pass the remaining
two tests in the WBI index.
Our research suggests that many companies fail to subject their ideas to these straightforward
questions and analysis. As the table shows, Motorola's Iridium satellite telephones and Philips'
CD-i both failed one or more of the WBI index tests.
The common response to the dotcom crash is to evoke the need for consolidation. That would
allow loss-making companies to cut their advertising budgets, their staffing and many of their
other overheads. But is that the real issue? We would argue that it is more important to put right
these businesses' underlying faults: the lack of a strong value proposition, of a business model
that will really make money and of an understanding of adoption hurdles.
Webvan, once a rising star of the internet in the US, launched itself as the home deliverer of
groceries. Its target group was career-minded individuals who had little time on their hands. But
to receive deliveries, people needed to be at home and Webvan could not promise exact
delivery times. The delivery costs were relatively high for a commodity such as food, which is
sold with razor-thin margins.
So what does the future hold for Webvan? Not much, according to the WBI index, unless
Webvan rethinks its business model and utility proposition.
Consolidation may buy time for dotcoms that score poorly on the WBI index but it will not be the
cause of any subsequent success. For that, they need to recast themselves. If venture
capitalists identify a company that scores poorly on the index, we believe they should not invest
in it.
And if you are thinking of joining an exciting company that is seemingly committed to building the
industry of tomorrow, you should use the index to help you assess its prospects.
Otherwise, you may soon join the growing list of people let down by dotcoms. Forty thousand
and counting . . .




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