Distributors must continually reinvent their businesses if they want to adapt to changing market demand and find profitable new niches.
Approximately 80 percent of all U.S. businesses now compete in mature industries that are growing slowly if not actually declining, and where demand is saturated. These markets also often suffer from price-cutting competitors; eroding margins, profits and return on investment; an emphasis on cost-cutting to stay ahead of margin erosion; and consolidation of competitors. I believe 20 percent of the players in an industry may be doing well in spite of mature conditions. I have identified some other common characteristics in my research.
Twenty percent of the players make 100 percent of the real profits, but only 80 percent of the reported profits. Because the best companies expense investments for the future needs of their customer base and aggressively write off assets that served dying or nonexistent needs, they report less profits than they could.
Another 30 percent of the firms report 20 percent of the profits, but most are unknowingly harvesting their businesses. They are managing the past, cutting costs and postponing write-offs with wishful thinking — all to report profits and pay unnecessary taxes.
The bottom 50 percent of the companies are breaking even or reporting losses while doing the same as the second group. Because of depreciation, these companies may generate some positive cash flow in spite of accounting losses. Although their businesses are in a terminal condition, many hang on hoping for better times. They are in denial and are not doing any significant restructuring or experimentation.
You are probably familiar with the “Product Life-Cycle” concept, where demand ramps up quickly early in a product's life-cycle, slows down as the product matures and tails off when consumers do not need the product anymore. To deal with plummeting demand, companies in some mature industries are relying on disastrous business strategies. Following are some examples.
“Our industry isn't going anywhere. Let's milk the business and diversify into some sexy growth businesses.” U.S. firms harvested portable radios 20 years ago, while the Japanese microsegmented the market with lifestyle models and have stimulated growth ever since. Don't get bored with mature products too quickly — reinvent them and niche. Also, don't believe outside experts' forecasts for an industry, because they are often wrong. Instead, stay close to the living edge of customer needs and trust your own market insight and personal hunches.
“There is too much capacity in the industry. Let's liquidate, sell or consolidate with our competitors.” While there's worldwide auto manufacturing capacity of approximately 45 million cars annually, there's only enough annual demand for approximately 30 million cars. However, a shortage exists for just-in-time, demand-pull capacity that allows us to design our car today and get it in two weeks. If possible, apply the just-in-time concept to your business.
“Let's be the low-cost producer.” Firms obsessed with cutting costs and discounting prices believe whomever can reduce their production costs for goods and/or services the fastest can cut prices faster, win market share, achieve growing economies of scale to lower costs further to support another round of discounting, etc. Wal-Mart has succeeded in part due to this strategy. However, this strategy assumes all products and services are like raw commodities. Most winning firms take a different approach and provide niche or customized solutions for customers in a value-added way.
The firms that do achieve large-scale economics risk becoming targets for deep-pocketed new entrants (often foreign) or die of a thousand cuts from nichers. Leave the volume game to companies with big egos and public or deep-pocketed capital. Instead, focus on targeting customer needs and filling them in a significantly differentiated way other than price. Because price concessions are immediately apparent to and matched or beaten by too many competitors, there is rarely a sustainable competitive advantage in initiating them.
“We must lead, niche or harvest/sell. Some people believe companies in mature industries must use one of these strategies. To “lead” implies cost-volume-price leadership as well as the ability to buy, merge or bluff out competitors to rationalize excess capacity. It's the idea that if you are the last blacksmith in town you will make money.
We might conclude that to get bigger, firms must start thinking smaller by targeting smaller niches within their existing customer base. The whole notion of economy of scale doesn't work in a world with demanding customers who have fragmented needs and that requires corporate agility. The niche strategy is critical, but the term is overused and misunderstood. You must learn how to define, target and pursue niches. Niching is difficult, because you must identify overlooked or emerging needs and address them with leading-edge solutions in a patient, focused way.
One challenge with niching is that it requires managers to have entrepreneurial skills more common in successful start-up companies than with companies in mature industries. Successful entrepreneurs survive and prosper by creating and satisfying demand in new markets, not by relying on their administrative skill, as do most managers in mature markets. Your first task when developing a niche strategy is to determine which customers are in your core niche — the 20 percent of the customers yielding 120 percent to 140 percent of most firms' operating profits — and to serve them better.
As markets mature, customers get more demanding and competition gets more intense. You must sharpen your strategic thinking and customer segmenting. Don't count on strategies that focus on financial optimization or cost-reduction. Relying on volume isn't a safe bet either, because standard products and services have yielded to fragmented and changing demand.
The author is president of Merrifield Consulting Group Inc., Chapel Hill, N.C. You can reach him by phone at (919) 933-7474 or by e-mail at email@example.com.